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https://www.courtlistener.com/api/rest/v3/opinions/4623751/	JACK A. FLEISCHLI, A.K.A. JACK FORBES, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentFleischli v. Comm'rNo. 5766-03 United States Tax Court123 T.C. 59; 2004 U.S. Tax Ct. LEXIS 28; 123 T.C. No. 3; July 14, 2004., Filed 28 Court determined that, for purposes of section 62(b)(1)(C), adjusted gross income means same as "adjusted gross income" in section 62(a) and thus must be computed based on taxpayer's gross income from all sources. In 2000, P had a net profit of more than $ 16,000 from the practice of law. P also earned $ 13,435 from acting activities and had acting-related expenses of $ 17,878 for 2000. A "qualified performing artist" may deduct from gross income employee business expenses related to his or her work as a performing artist if, inter alia, the individual has adjusted gross income (before deducting those business expenses) of not more than $ 16,000. Sec. 62(a)(2)(B), (b)(1), I.R.C. P contends that "adjusted gross income" in sec. 62(b)(1)(C), I.R.C., includes only adjusted gross income from the performance of services as a performing artist. Held: The term "adjusted gross income" in sec. 62(b)(1)(C), I.R.C., means the same as "adjusted gross income" in sec. 62(a), I.R.C., and thus is computed based on a taxpayer's gross income from all sources. Jack A. Fleischli, 29 pro se.John D. Faucher, for respondent. Colvin, John O.Colvin59 COLVIN, Judge: Respondent determined a deficiency in petitioner's 2000 Federal income tax of $5,580 and an accuracy-related penalty under section 6662(a)1 of $1,116. Respondent concedes that petitioner is not liable for the section 6662(a) penalty.After concessions, the issue for decision is whether, for purposes of section 62(b)(1)(C), adjusted gross income includes only a taxpayer's income from the performance of services as a performing artist, or whether it means the same as "adjusted gross income" in section 62(a) and thus is computed based on a taxpayer's gross income from all sources. 2 We hold that it means the same as "adjusted gross income" in section 62(a).30 FINDINGS OF FACTSome of the facts have been stipulated and are so found. Petitioner resided in California when the petition was filed.60 Petitioner was a self-employed practicing attorney in 2000. He earned a net profit of more than $16,000 from the practice of law in 2000.Petitioner also worked as an actor in 2000. He used the professional name "Jack Forbes". In that year, he earned $13,435 from acting and had acting-related expenses of $17,878. He reported a net loss from acting on a Schedule C, Profit or Loss From Business, attached to his 2000 return.During an examination of petitioner's 1999 return, respondent allowed petitioner to treat his acting expenses as adjustments to gross income for 1999.Respondent determined that petitioner had adjusted gross income of more than $16,000 in 2000 and that, as a result, petitioner may not deduct his acting expenses of $17,878 as adjustments to gross income under section 62(a)(1) and (2)(B).331 OPINIONA. Whether Adjusted Gross Income in Section 62(b)(1)(C) Includes Only Income From the Performance of Services as a Performing Artist1. BackgroundIn computing adjusted gross income, a qualified performing artist may deduct from gross income employee business expenses incurred in connection with his or her performance of services in the performing arts as an employee. Sec. 62(a)(2)(B). A qualified performing artist is an individual: (1) Who performs services in the performing arts for at least two employers during the tax year and who receives at least $ 200 from each of two of these employers; (2) whose related performing arts expenses are more than 10 percent of such individual's gross income from the performance of those services; and (3) whose adjusted gross income is not more than $ 16,000 before deducting those business expenses. Sec. 62(b)(1) and (2). Respondent concedes that petitioner meets requirements (1) and (2). The parties dispute whether petitioner had "adjusted gross income" for purposes of section 62(b)(1)(C) of more than $ 16,000 in 2000.61 2. Petitioner's Contentions Regarding the Statutory32 LanguagePetitioner contends that the term "adjusted gross income" in section 62(b)(1)(C) includes only petitioner's gross income from acting activities, not his gross income from all sources. We disagree. "Adjusted gross income" is, in the case of an individual, gross income minus certain deductions. Sec. 62(a)(1).4Gross income includes all income from whatever source derived unless excluded by law. Sec. 61(a). Thus, in deciding whether petitioner qualifies under section 62(a)(2)(B) as a performing artist, we consider whether petitioner's adjusted gross income (computed based on his gross income from all sources) exceeds $ 16,000.33 Section 62(b)(1)(B) provides that a qualified performing artist is an individual whose business expenses exceed 10 percent of his or her "gross income attributable to the performance of such services". Petitioner contends that section 62(b)(1)(C), which imposes a ceiling on the amount of "adjusted gross income" an individual may earn during the tax year and qualify as a qualified performing artist, should be interpreted to mean the same as section 62(b)(1)(B), that is, to include only income from activities as a performing artist. We disagree. Section 62(b)(1)(C) refers to "adjusted gross income", not to "gross income from activities as a performing artist". We assume that Congress intends a different meaning when it uses different language. United States v. Gonzales, 520 U.S. 1">520 U.S. 1, 5, 137 L. Ed. 2d 132">137 L. Ed. 2d 132, 117 S. Ct. 1032">117 S. Ct. 1032 (1997); Iraola & Cia, S.A. v. Kimberly-Clark Corp.,232 F.3d 854">232 F.3d 854, 859 (11th Cir. 2000); Francisco v. Commissioner, 119 T.C. 317">119 T.C. 317, 323 (2002), affd. 361 U.S. App. D.C. 504">361 U.S. App. D.C. 504, 370 F.3d 1228">370 F.3d 1228 (D.C. Cir. 2004).Petitioner contends that respondent is estopped from contending that petitioner is not a qualified performing34 artist 62 for 2000 because respondent determined that petitioner was a qualified performing artist in 1999. We disagree. The Commissioner is not bound in any year to allow a deduction permitted for another year. See Lerch v. Commissioner, 877 F.2d 624">877 F.2d 624, 627 n.6 (7th Cir. 1989), affg. T.C. Memo 1987-295">T.C. Memo 1987-295; Hawkins v. Commissioner,713 F.2d 347">713 F.2d 347, 351-352 (8th Cir. 1983), affg. T.C. Memo 1982-451">T.C. Memo 1982-451.For purposes of section 62(b)(1)(C), adjusted gross income means a taxpayer's adjusted gross income from all sources. Petitioner's adjusted gross income exceeded $16,000 in 2000. Thus, petitioner was not a qualified performing artist under section 62(b)(1) and may not deduct from gross income his employee business expenses incurred as a performance artist.B. Whether Application of Section 62(b)(1) ViolatesPetitioner's Constitutional Rights of Due ProcessPetitioner argues that the $ 16,000 ceiling in section 62(b)(1) unconstitutionally discriminates against performing artists who earn more than $ 16,000 annually. Petitioner cites 35 Salt River Pima-Maricopa Indian Community v. Yavapai County,50 F.3d 739">50 F.3d 739 (9th Cir. 1995), for the proposition that a tax is discriminatory if it is not imposed equally upon similarly situated groups, and contends that respondent's reading of "adjusted gross income" improperly discriminates between performing artists whose performing artist income does not exceed $ 16,000 and performing artists whose performing artist income does not exceed $ 16,000 but whose total income from all sources exceeds $ 16,000. Petitioner also argues that the Internal Revenue Code unconstitutionally favors elementary and secondary school teachers, who may deduct employee business expenses up to $ 250 from their gross income regardless of the amount of income they earn, over artists. See sec. 62(a)(2)(D), (d). We disagree with these arguments.A tax statute which provides different treatment for different classes of persons generally does not violate the Fifth Amendment if it has a rational basis. Regan v. Taxation with Representation,461 U.S. 540">461 U.S. 540, 547, 76 L. Ed. 2d 129">76 L. Ed. 2d 129, 103 S. Ct. 1997">103 S. Ct. 1997 (1983); 36 United States v. Maryland Savings-Share Ins. Corp., 400 U.S. 4">400 U.S. 4, 6, 27 L. Ed. 2d 4">27 L. Ed. 2d 4, 91 S. Ct. 16">91 S. Ct. 16 (1970);Barclay & Co. v. Edwards, 267 U.S. 442">267 U.S. 442, 450, 69 L. Ed. 703">69 L. Ed. 703, 45 S. Ct. 135">45 S. Ct. 135, 45 S. Ct. 348">45 S. Ct. 348 (1925); Durham v. Commissioner, T.C. Memo 2004-125. Legislatures have63 particularly broad latitude in creating classifications and distinctions in tax statutes. Regan v. Taxation with Representation, supra;Carmichael v. S. Coal & Coke Co., 301 U.S. 495">301 U.S. 495, 509-510, 81 L. Ed. 1245">81 L. Ed. 1245, 57 S. Ct. 868">57 S. Ct. 868 (1937); Cash v. Commissioner, 580 F.2d 152">580 F.2d 152, 155 (5th Cir. 1978) (different tax rates for single and married taxpayers are constitutional), affg. T.C. Memo. 1977-405; Barter v. United States,550 F.2d 1239">550 F.2d 1239, 1240 (7th Cir. 1977) (same). By limiting the tax deduction at issue here to artists with incomes under $ 16,000, Congress clearly intended to benefit low-income performing artists. We believe there is a rational basis for targeting the provision at issue here to performing artists with adjusted gross incomes not in excess of $ 16,000 because they have a greater need37 for assistance than higher income performing artists.Finally, petitioner contends that we must carefully consider whether taxes imposed on performing artists, which petitioner views as a "politically impotent class", are discriminatory. See United States v. Onslow County Bd. of Educ.,728 F.2d 628">728 F.2d 628, 642 (4th Cir. 1984). Petitioner misconstrues "politically impotent class" to include performing artists. The term "politically impotent class" refers to a class of people subject to tax but who are not allowed to vote. Id.We conclude that application of section 62(b)(1) to petitioner is constitutional and does not violate petitioner's constitutional rights to due process of law.To reflect concessions and the foregoing, Decision will be entered under Rule 155. Footnotes1. Section references are to the Internal Revenue Code in effect for the applicable year. Rule references are to the Tax Court Rules of Practice and Procedure.↩2. We need not decide whether the burden of proof shifts to respondent under sec. 7491(a), because the issue is one of law. See sec. 7491(a)↩.3. Respondent concedes that these expenses are unreimbursed employee expenses for 2000. ↩4. Sec. 62 provides, in pertinent part:SEC. 62. ADJUSTED GROSS INCOME DEFINED.(a) General Rule.--For purposes of this subtitle, the term "adjusted gross income" means, in the case of an individual, gross income minus the following deductions: * * * * * * (2) Certain trade and business deductions of employees.-- * * * * * * * (B) Certain expenses of performing artists.--The deductions allowed by section 162↩ which consist of expenses paid or incurred by a qualified performing artist in connection with the performances by him of services in the performing arts as an employee.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623752/	Springer W. Truman v. Commissioner.Springer v. CommissionerDocket No. 15825.United States Tax Court1949 Tax Ct. Memo LEXIS 265; 8 T.C.M. (CCH) 108; T.C.M. (RIA) 49027; February 11, 1949265 Commissioner's disallowance of unsupported deductions sustained. Charles D. Harmon, Esq., and Clayborne W. Smoot, C.P.A., Uhler-Phillips Bldg., Marion, O., for the petitioner. William R. Bagby, Esq., for the respondent. ARUNDELLMemorandum Findings of Fact and Opinion Deficiencies in income tax have been determined for the calendar years 1940 and 1941, in the respective amounts of $1,313.58 and $3,193.21. These deficiencies arose from the disallowance in each year of $10,000, which sums were a portion of the amounts claimed to have been paid by petitioner as winnings to various of his customers in connection with the operation of his "numbers business." Findings of Fact During the years 1940 and 1941 petitioner resided at Marion, Ohio, and filed his income tax returns for those years with the collector of internal revenue for the 11th district of Ohio. Since 1933 petitioner has been engaged in the bar and grill room business in Marion, and since 1932 he has been engaged in a number writing business in Marion. A number writing business is conducted upon a cash basis with receipts and disbursements made in U.S. currency and silver coins. The number266 writing business involves wagering transactions where "customers" place bets with the operator of the business that a certain combination of numbers, based upon recorded stock or bond transactions on the New York Stock Exchange, will appear on the following day. If the correct number is picked, the person placing the wager receives winnings of 550 to 1. An employee of the number writing business known as a "writer" receives 30 per cent of each wager for securing the wager and a "pick-up man" receives 4 per cent of each wager for gathering up the wagers and bringing them to headquarters. Only 66 per cent of the wagers placed by "customers" are actually received by the number writing business from which all pay-outs or winnings must be paid and expenses of conducting the business must also be paid. Due to the fact that petitioner was engaged in an illegal business and had been arrested in 1937 for writing numbers, he destroyed all records pertaining to the number writing business for the years 1940 and 1941 and prior years. During the year 1940 petitioner received from the operation of his number writing business the sum of $55,163.84, which sum represented the gross amount of the267 wagers placed with petitioner, less the commissions paid to writers in the amount of 30 per cent and commissions paid to pick-up men in the amount of 4 per cent. Petitioner claims that during 1940 his "pay-outs" to those picking the lucky number amounted to $49,036.23, of which latter sum the Commissioner disallowed $10,000 as being excessive and not substantiated by any records. Petitioner further deducted miscellaneous expenses incident to this particular business in the amount of $4,331.53. During the year 1941 petitioner received from the operation of his number writing business $111,266.72 after first paying to his writers commissions in the amount of 30 per cent and commissions to his pick-up men of 4 per cent. Petitioner claims that his pay-outs during the year 1941 were in the sum of $98,349.01. The Commissioner, in the determination of the deficiency, disallowed $10,000 of this latter sum as being excessive and not substantiated by any records. On his return for 1941 petitioner claimed miscellaneous expenses from the operation of the numbers business in the amount of $5,346.28 and the sum of $320 for "hedging operations." The "pay-outs" claimed as deductions for the years268 1940 and 1941 were excessive in the amount of $10,000 in each year. Opinion ARUNDELL, Judge: The deficiencies for each of the years in question arose from the Commissioner's determination that excessive amounts were sought to be deducted or excluded from income in the way of "pay-uts" or "winnings" by petitioner's customers in his number writing operations. Such records as petitioner may have currently kept were destroyed to prevent them from falling in the hands of local authorities and in fear of criminal prosecution in connection with his gambling operations. The right of the Commissioner to bear heavily against a taxpayer who seeks deductions without any supporting data or records is now well established. . In the instant case it would appear that the Commissioner not only has not borne too heavily on the taxpayer but has been rather generous in allowing so much as he did allow in the complete absence of any supporting records. For instance, in the year 1941, out of the sum of $98,349.01 claimed to have been paid out to the winners of the lucky numbers, the Commissioner has allowed all but $10,000. The only evidence in support269 of petitioner's claim for the full deduction is his unsupported word that he did in fact pay out the amount claimed. On the contrary, a former bookkeeper and employee of his testified that during the years 1940 and 1941 the amounts sought to be deducted were in fact padded. As bearing on the credibility of petitioner's testimony, we cannot overlook the fact that in 1941, from the operation of his Palm Supper Club, which was in part also a gambling operation which he carried on in partnership with another, petitioner had his income from this source reported by his bookkeeper as her income in order to lessen his own income tax. The bookkeeper, in fact, was not a partner, had no interest in the partnership, and received none of its income. The money to pay the tax reported by her was furnished by petitioner. Petitioner had no explanation for this transaction other than during that period he did not want it known that he had an interest in the partnership. Counsel for the petitioner, in his brief, suggests that the $10,000 disallowed in each of the years was not a business expense but rather an exclusion from income and argues that the deficiency determined was for the disallowance of270 expenses which in fact were claimed in the return in an amount very much less than $10,000 in each of the years in question. We think this argument is completely beside the point and is without merit. It is entirely clear from the deficiency notice and it was entirely clear at the trial, both to the parties and to the Court, that the question involved was the disallowance of $10,000 in each year as excessive amounts claimed to have been paid to the winners of the lucky numbers. The burden of proof rested on the petitioner to show that the disallowance was improper. This burden he has completely failed to meet. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623773/	Anderson, Clayton & Co., Transferee v. Commissioner.Anderson, Clayton & Co. v. CommissionerDocket No. 15255.United States Tax Court1948 Tax Ct. Memo LEXIS 115; 7 T.C.M. (CCH) 573; T.C.M. (RIA) 48162; August 18, 1948115 John C. White, Esq., Transportation Building, Washington, D.C., for the petitioner. Allen T. Akin, Esq., for the respondent. MURDOCK Memorandum Findings of Fact and Opinion The Commissioner notified the petitioner that it was liable as a transferee of Memphis Cotton Oil Co., Inc. for deficiencies determined against that taxpayer and interest thereon. The deficiencies determined against Memphis Cotton Oil Co., Inc. were as follows: Fiscal YearExcessEndedIncome TaxProfits TaxMay 31, 1943$2,653.77$3,435.25May 31, 19443,368.22 The petitioner admits its liability as a transferee if any tax is due from the taxpayer. The only issue for decision is whether Memphis Cotton Oil Co., Inc. sustained a deductible loss for the period June 1, 1944 to July 31, 1944, from the sale of assets to West Texas Cottonoil Co. The parties seem to recognize that if such a loss is deductible, then it will affect the tax liability for the taxable years through the carry-back provisions. Findings of Fact The petitioner is a corporation which owned all of the stock of Memphis Cotton Oil Co., Inc. (hereinafter called Memphis) from September 8, 1943 until116 the dissolution of Memphis on July 31, 1944. The petitioner owned 89.5 per cent of the common stock of West Texas Cottonoil Co. (hereafter called West Texas) at all times material hereto. Memphis owned the site of a cotton oil mill, the mill having recently burned, certain buildings used in connection with the mill, and 23 cotton gins located in or near Memphis, Texas. The petitioner acquired the stock of Memphis for the purpose of operating its properties which covered an area in which West Texas did not operate. It discovered that it could not rebuild the burned mill and it would need additional personnel and new management to operate the gins acquired. The alternative was to sell them to a company that could operate them. West Texas had been buying all of the seed produced from those gins and desired to acquire them, believing that it could operate them more efficiently and obtain the seed at lower cost to it. It had the personnel and management necessary to operate those properties efficiently. The book value of the Memphis Properties described above was $298,169.83. Memphis sold those assets to West Texas on July 31, 1944 for $298,169.83. It was discovered later that the117 basis to Memphis for gain or loss on the assets sold to West Texas was $336,204.34 instead of the book value as shown on the books of Memphis. The Commissioner, in determining the deficiencies for the fiscal year ended May 31, 1943, allowed only $20,218.53 as a net loss carry-back from the taxable year June 1, 1944 to July 31, 1944, and explained one of his adjustments for that short period as follows: "It is held that the amount of $29,066.67 claimed as a loss by the Memphis Cotton Oil Co. Incorporated for the period June 1, 1944 to July 31, 1944, from the sale of assets to the West Texas Cottonoil Company as of July 31, 1944, does not represent an allowable deduction to the Memphis Cotton Oil Co. Incorporated." A number of the officers and directors of the petitioner, Memphis, and West Texas were the same persons. The president of West Texas was authorized on July 13, 1944 to borrow money from the petitioner, including an amount sufficient to purchase the assets of Memphis. Memphis was dissolved on July 31, 1944, at which time the petitioner, its sole stockholder, received cash and other assets from Memphis in the amount of $680,746.61. That amount exceeded the cost of the118 Memphis stock to the petitioner by $10,746.61 and that difference was reported by the petitioner as a capital gain. The fair market value on July 31, 1944 of the assets sold by Memphis to West Texas was not in excess of $298,169.83. The sale of assets made by Memphis to West Texas, described above, was a bona fide transaction. The stipulation of facts is incorporated herein by this reference. Opinion MURDOCK, Judge: The respondent relies upon the fact that the petitioner owned all of the stock of Memphis and 89.5 per cent of the stock of West Texas and argues that the loss to Memphis on the sale to West Texas is not an allowable deduction because the transaction had no business purpose, merely transferred assets from one operating unit of the petitioner to another, and was a sham. He cites ; ; and , affirmed . The respondent does not argue that the price paid by West Texas to Memphis was less than the fair market value of the assets transferred, and the evidence shows that the price paid119 by West Texas was at least equal to the fair market value of the property acquired. There is no evidence to indicate that the sale was made for the purpose of saving taxes but, on the contrary, there is evidence to show that the parties were not aware that any deduction for tax purposes would result from the sale. There was a real business purpose for the transfer. The petitioner, after purchasing the stock of Memphis, discovered that the mill, which had burned, could not be rebuilt. Most of the 23 cotton gins were old and the petitioner realized that it would have to find additional personnel and new management to operate them. West Texas was an operating company and had the personnel and management necessary to take over and operate the gins of Memphis. West Texas had not operated in the Memphis area but had purchased seeds from the Memphis gins at the prevailing market prices. It believed that if it could acquire the gins and operate them, it could benefit financially from the change. The affairs of the three companies were kept separate despite the fact that they were closely related through stock ownership and in some instances their officers and directors were the same men. The120 proposal for the transfer of the Memphis assets to West Texas came from the manager of West Texas. The record shows that there is no sound reason for disallowing the loss which Memphis actually sustained in selling the assets to West Texas. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623774/	T. B. FLOYD, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Floyd v. CommissionerDocket No. 12221.United States Board of Tax Appeals11 B.T.A. 903; 1928 BTA LEXIS 3683; May 1, 1928, Promulgated 3683 1. Held that the collection of the deficiency for 1917 is barred, but the deficiency for 1919 is not barred by the statute of limitations. 2. Held that no deduction is allowable on account of a bad debt in the taxable year claimed. 3. The inventory value of cotton as determined by the petitioner approved on the evidence. Gordon C. Carson, Esq., for the petitioner. Irwin R. Blasidell, Esq., for the respondent. TRAMMELL 903 This proceeding involves deficiencies in income taxes for the years 1917, 1918 and 1919, in the amounts of $861.34, $1,970.77 and $6,316.18, respectively. The issues are whether the periods of limitation for the assessment and collection of the deficiencies for 1917 and 1919 have expired; whether the petitioner is entitled to deduct the debt claimed to have been ascertained to be worthless and charged off in 1918, and whether the closing inventory for 1919 was correct. FINDINGS OF FACT. The petitioner is an individual residing in Savannah, Ga. For more than fifty years he has operated a cotton pickery as his principal business. During the fiscal years involved he was engaged as a cotton merchant3684 in Savannah, carrying on his business under the name of Floyd & Co., although it was his individual business. He was also president and sole stockholder of the Putnam Mills & Power Co., a corporation, operating a hydro-electric plant. The petitioner did not keep a regular set of books of account during the taxable years in question but kept merely one or two books showing the cotton received and delivered as it was bought and sold. The entire capital stock issue of the Putnam Mills & Power Co., hereinafter designated as the corporation, was $75,000, par value. This corporation had been in existence for ten years or more prior to the taxable years. The property of this corporation consisted of a hydro-electric plant and a small cotton mill. The cotton mill was sold long prior to 1918 904 but the power plant was retained and was in operation. Several years prior to 1918 there were issued bonds of the corporation in the amount of $42,000. These bonds were not sold but were deposited with the Citizens & Southern Bank as collateral security for loans due from Floyd & Co. and the corporation. A mortgage was given to the bank to secure the bonds and this enabled the3685 corporation and Floyd & Co. to secure money from the bank. In or about April, 1918, the power plant of the corporation was sold to one Simmons for $100,000 in notes. The corporation at that time was indebted in the amount of approximately $81,500, made up as follows: Bonds$42,000Accrued interest (approximately)18,000F. B. Floyd advances (approximately)20,000Current bills for help (approximately)500Simmons, the purchaser of the power plant, did not pay the notes given by him and the petitioner as soon as he could legally do so took the property back. Thereafter the property was turned over to the Citizens & Southern Bank in satisfaction of the indebtedness represented by the bonds. The corporation kept a full set of books which, however, were destroyed by fire or became water-soaked and the exact amount of the indebtedness due the petitioner by that corporation could not be determined. It was, however, between $15,000 and $20,000 and arose on account of advances made by the petitioner to meet current expenses over a period of years. When the petitioner ascertained that Simmons could not pay his notes he made efforts to sell the property to3686 others as he had done prior to the trade and offered it for $60,000 cash in an effort to obtain sufficient money to liquidate the bank loan which was secured by corporation funds. Failing to find a purchaser, the bank agreed to take the property for the amount due, being the face value of the bonds and accrued interest, $42,000 and $18,000, respectively, making a total of $60,000. The petitioner thereupon turned over the property to the bank upon that basis, receiving nothing upon his indebtedness or his stock. This occurred within a year after the property was taken over from Simmons. At the time of making the Simmons trade, upon the insistence of Simmons's lawyers, the petitioner relinquished and satisfied his claim against the corporation in order to clear the corporation's title to this property and to permit its delivery unincumbered by obligations other than the bonds and interest thereon, and the small amount of sundry indebtedness amounting to approximately $500. On December 31, 1919, the petitioner had 2,261 bales of miscellaneous cotton stored in two or three warehouses belonging to others. 905 The cotton consisted of irregular, damaged and unmerchantable3687 grades and sweepings, none of which, even after having gone through the pickery, could be tendered on contract under the rules of the New York Cotton Exchange. The bales varied from 301 to 1,000 pounds. There was no quoted market for this kind of cotton and its values, according to grade, ran from 3 cents to 31 cents per pound. The demand for low grades of cotton was light on December 31, 1919, having fallen off considerably during the latter part of the year. On December 31, 1919, the petitioner determined the market value of all the cotton on hand to be $134,000. The respondent increased this value to $164,726.90, but later valued it at $155,458, upon which value the deficiency was computed. The petitioner used the figure of $134,000 as the inventory value. This was less than cost. The only inventory kept by the petitioner consisted of a book showing the number of bales received and the number sold and taken out of the warehouses. The number of bales on hand was arrived at by the process of elimination. The petitioner's return for 1917 was filed March 31, 1918. An additional tax of $2,215.77 was assessed for that year before March 6, 1923. A claim for abatement in3688 the amount of $1,354.43 was subsequently allowed, leaving a deficiency of $861,34 for that year. The return for 1919 was filed on March 15, 1920. On February 28, 1925, the petitioner and the Commissioner entered into a written consent as provided by section 278(c) of the Revenue Act of 1924, by the terms of which the assessment period was extended to December 31, 1925, with the further provision that if an appeal was filed with the Board following the mailing of the deficiency notice, the time for assessment would then be further extended by the number of days between the date of mailing the deficiency notice and the date of final decision by the Board. The deficiency notice was mailed to the petitioner December 31, 1925. OPINION. TRAMMELL: We will first consider the question as to whether the deficiencies for 1917 and 1919 are barred by the periods of limitation. For 1917 a return was filed on March 31, 1918. The tax was assessed before March 6, 1923. A portion of the assessment was abated but no proceeding for the collection of the tax has been instituted and under the decision in 3689 , the collection of the deficiency is now barred. For 1919, however, the return was filed on March 15, 1920. Five years from that date were allowed by statute within which to assess 906 and collect the tax for 1919. This gave the respondent until March 15, 1925, to assess and collect the tax unless a consent in writing was entered into in accordance with the statute. Under date of February 28, 1925, within the lawful assessment period, the petitioner and the Commissioner entered into a written consent as provided by section 278(c) of the Revenue Act of 1924, extending the assessment period until December 31, 1925, and in the event of the mailing of a deficiency notice and an appeal was filed with the Board therefrom, the time for assessment would be further extended until the final decision by the Board. The deficiency notice was mailed December 31, 1925. Since, by virtue of the written consent, the respondent still has the right to assess a deficiency, neither the assessment nor the collection thereof is barred by the period of limitation. The respondent has, under the Revenue Acts of 19243690 and 1926, six years from the time of the assessment in which to collect. ; . With respect to the deduction claimed on account of the alleged bad debt, it appears that this debt was owing to petitioner from the corporation of which he was the sole stockholder, and that the petitioner voluntarily canceled this obligation and forgave the indebtedness. This is not such a situation as would authorize a deduction on account of a bad debt provided by statute. In order that a debt may be allowed as a deduction as a worthless debt, it must appear that during the taxable year the taxpayer ascertained that the debt could not be collected. Unless the debt was in fact wortheless and was ascertained and charged off for that reason during the taxable year, the deduction is not permitted. It does not appear that this was the case with respect to the debt here involved but that the debt was forgiven and canceled. While there is evidence to the effect that the petitioner turned over to the bank, in satisfaction of the bonds and accrued interest, the assets of the corporation, there is no evidence3691 as to the year in which this was done. While the corporation's property was sold to Simmons in 1918 and was taken back some time during that year, the testimony is indefinite as to when the assets were turned over to the bank in settlement of the bonds and interest. A witness testified that this was done within a year after the property was reacquired from Simmons, but the record does not disclose when the property was reacquired from Simmons. It may well have been in 1919 when the assets were turned over to the bank and it became definitely known that any indebtedness which the corporation owed the petitioner could not be paid even if we should disregard the fact that the petitioner had forgiven the indebtedness. In view of all the evidence relating to this matter, we are of the opinion that the petitioner is not entitled to a deduction claimed on account of the bad debt in 1918. 907 With respect to the inventory question, it appears from the evidence that the petitioner had been engaged in the cotton business, handling the kind of cotton dealt in during the taxable year, for approximately fifty years and was familiar with the market prices of that character of cotton. *3692 He determined the market price of the cotton on hand to be $134,000. On account of the petitioner's long experience and familiarity with the market prices of the property dealt in by him, and the fact that no conflicting or impeaching testimony was introduced, we accept the petitioner's valuation of $134,000 as the market price of his cotton on hand at the close of the calendar year 1919. In our opinion, the market value of this cotton was $134,000 at the close of 1919. 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/4623776/	Estate of Lee D. Jalkut, Deceased, Nathan M. Grossman, Executor, Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Jalkut v. CommissionerDocket No. 1770-89United States Tax Court96 T.C. 675; 1991 U.S. Tax Ct. LEXIS 34; 96 T.C. No. 27; April 29, 1991, Filed 34 Decision will be entered under Rule 155. In 1971, D created a revocable trust. In the absence of his incapacity, D was the sole permissible beneficiary of the income and principal of the trust during his lifetime. D named himself trustee of the trust. In 1984, D was informed that he had inoperable cancer. In 1984, D made various gift transfers from the revocable trust. In January 1985, D's physician declared that D would no longer be able to serve as trustee. At that time, substitute trustees were appointed for the revocable trust and additional gift transfers were made from the trust. D died testate in 1985. Held, gift transfers from the revocable trust effected in 1984, although within 3 years of D's death, are not included in D's gross estate pursuant to I.R.C. secs. 2035(d)(2) and 2038(a)(1). Held, further, gift transfers from the revocable trust effected in 1985 and within 3 years of D's death are included in D's gross estate pursuant to I.R.C. secs. 2035(d)(2) and 2038(a)(1). John A. Simonetti, for the petitioner.Vijay S. Rajan, for the respondent. Nims, Chief Judge. NIMS675 OPINIONRespondent determined a deficiency in petitioner's Federal35 estate tax in the amount of $ 55,184.The issue for decision is whether gift transfers made from the decedent's revocable trust within 3 years of his death are included in his gross estate pursuant to sections 2035(d)(2) and 2038(a)(1). (Unless otherwise indicated, section references are to sections of the Internal Revenue Code in effect as of the date of the decedent's death. Rule references are to the Tax Court Rules of Practice and Procedure.)BackgroundThis case was submitted fully stipulated. The stipulation of facts and attached exhibits are incorporated herein by this reference.On September 28, 1971, Lee D. Jalkut (decedent) created the Lee D. Jalkut Revocable Trust (revocable trust). The 676 revocable trust was funded by an inter vivos transfer to the trust of decedent's entire estate, including his personal residence, bank and brokerage accounts, and publicly traded stocks.The decedent appointed himself trustee of the revocable trust and maintained the power to "amend or revoke [the trust] in whole at any time or in part from time to time in any respect."On June 27, 1983, the decedent executed an Eleventh Amendment to the trust agreement amending the revocable36 trust in its entirety. Article III of the trust agreement, relating to payments during the life of the decedent, provided in pertinent part:During the lifetime of the Grantor, the Trustees shall pay to the Grantor from the trust estate, the income and such sums from the principal as he may request.If at any time or times the Grantor is unable to manage his affairs, the Trustees may use such sums from the income and principal of the trust estate as the Trustees deem necessary or advisable for the care, support and comfort of the Grantor or his descendants or for any other purpose the Trustees consider to be in the best interests of the Grantor, adding to principal any income not so used. The Trustees are also authorized to make such payments for the benefit of the descendants of the Grantor and such other person or persons as the Grantor had theretofore been accustomed to make (except that no payment in any calendar year to any such descendants or other person shall exceed the maximum amount allowable as an exclusion under Internal Revenue Code Section 2503(b) as amended from time to time), and in addition, may continue to make such payments for philanthropic purposes or otherwise37 as the Grantor had been accustomed to make prior to such illness or disability; provided, however, that the primary consideration of the Trustees shall at all times be the support and welfare of the Grantor.The trust agreement contained no further dispositive provisions applicable during the decedent's lifetime.In 1984, the decedent was diagnosed as having inoperable cancer.On October 23, 1984, the decedent executed a Thirteenth Amendment to the trust agreement. Article V of the amendment, entitled "Disposition of Trust Estate Upon Death of the Grantor," provided for the payment of specific gifts and the distribution of personal property from the revocable trust to named individuals and organizations. The 677 remaining assets of the revocable trust were to be held in trust for the benefit of decedent's children.Article VIII of the Thirteenth Amendment of the trust agreement provided that if the decedent should be unwilling or unable to act as trustee for any reason, then Rosehelen Klein-Fields and Nathan M. Grossman would act as cotrustees of the revocable trust.On November 14, 1984, the decedent established the Lee Jalkut Family Trust (family trust), an irrevocable38 trust designed to benefit four of his grandchildren. The family trust was funded by transferring 4,810 shares of a mutual fund with a value of $ 40,355.90 from the revocable trust.On December 12, 1984, the decedent established an irrevocable trust for the benefit of Anna S. Jalkut and Jane Jalkut (Jalkut trust). The Jalkut trust was funded by transferring $ 20,000 from the revocable trust.On January 25, 1985, the decedent's personal physician wrote to Rosehelen Klein-Fields and Nathan M. Grossman and advised that due to the decedent's failing physical and mental condition, the decedent would no longer be able to act as trustee of the revocable trust. At that time, Rosehelen Klein-Fields and Nathan M. Grossman assumed the duties of cotrustees of the revocable trust.On January 25, 1985, the cotrustees made the following transfers from the revocable trust:DoneeAmountFamily trust$ 40,000Jalkut trust20,000Michael Jalkut10,000Theresa Jalkut10,000The parties apparently agree that the family trust and the Jalkut trust were funded with present interest gifts within the annual exclusion limit in both 1984 and 1985. See sec. 2503(b) and (c). Consequently, we need39 not inquire further as to the status of these gifts.The decedent died testate on February 6, 1985.On November 4, 1985, Nathan M. Grossman filed a Federal estate tax return on behalf of the decedent's estate. The estate tax return reported a total gross estate of $ 1,152,139. Schedule G of the estate tax return reported no 678 transfers included in the gross estate under sections 2035 or 2038.Respondent determined a deficiency in petitioner's estate tax of $ 55,184 based on a finding that the 1984 and 1985 transfers totaling $ 140,356 from the revocable trust to the family trust, to the Jalkut trust, and to Michael and Theresa Jalkut should have been included in the decedent's gross estate pursuant to sections 2035 and 2038.The petition in this case was filed by Nathan M. Grossman in his capacity as the executor of the Estate of Lee D. Jalkut. At the time of the filing of the petition herein, Nathan M. Grossman resided in Deerfield, Illinois.DiscussionThe Federal estate tax imposes a tax on the transfer of the taxable estate of every decedent who is a citizen or resident of the United States. Sec. 2001; U.S. Trust Co. v. Helvering, 307 U.S. 57">307 U.S. 57, 60 (1939).40 The taxable estate is defined in section 2051 as the gross estate less deductions. Pursuant to sections 2031 and 2033, the value of the gross estate includes the value of all property to the extent of the interest therein of the decedent at the time of his death. Further, under a network of statutory rules, the gross estate includes transfers effected during the lifetime of the decedent. See generally secs. 2035 through 2038 and 2042 (transfer provisions). The transfer provisions pertinent to the case at hand are section 2035, relating to gifts made within 3 years of the death of the decedent, and section 2038, relating to revocable transfers.Section 2035(a) generally provides for the inclusion in the gross estate of any gifts made by the decedent within 3 years of the decedent's death. Section 2035(b)(2), however, excepts from the general rule gifts for which the decedent was not required to file a gift tax return pursuant to section 6019. See sec. 2503(b) defining annual exclusion gifts. For transfers made after December 31, 1981, and thus applicable to the transfers here under consideration, section 2503(b) permits a donor to exclude the first $ 10,000 in annual gifts 41 to each donee.The application of section 2035(a) is further limited by section 2035(d) which was added to the law by section 424 679 of the Economic Recovery Tax Act of 1981, Pub. L. 97-34, 95 Stat. 317, and section 104(d)(2) of the Technical Corrections Act of 1982, Pub. L. 97-448, 96 Stat. 2383. Section 2035(d) provides in pertinent part:SEC. 2035(d). Decedents Dying After 1981. -- (1) In general. -- Except as otherwise provided in this subsection, subsection (a) shall not apply to the estate of a decedent dying after December 31, 1981.(2) Exceptions for certain transfers. -- Paragraph (1) of this subsection and paragraph (2) of subsection (b) shall not apply to a transfer of an interest in property which is included in the value of the gross estate under section 2036, 2037, 2038, or 2042 or would have been included under any of such sections if such interest had been retained by the decedent.In sum, section 2035(d)(1) provides that the general rule of section 2035(a) shall not apply to the estates of decedents dying after December 31, 1981. Thus, gifts generally are not included in the gross estates of such decedents. However, section 2035(d)(2) mandates that42 subsection (d)(1) will be disregarded and that the gross estate will take into account the value of transferred property interests (including annual exclusion gifts which would otherwise be excluded from the gross estate under subsection (b)(2)), which are included in the value of the gross estate under the transfer provisions enumerated in section 2035(d)(2).Because the decedent died in 1985, section 2035(d) applies to his estate.Section 2038, one of the enumerated transfer provisions referred to in section 2035(d)(2), provides in pertinent part as follows:SEC. 2038(a). In General. -- The value of the gross estate shall include the value of all property -- (1) Transfers after June 22, 1936. -- To the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money's worth), by trust or otherwise, where the enjoyment thereof was subject at the date of his death to any change through the exercise of a power (in whatever capacity exercisable) by the decedent alone or by the decedent in conjunction with any other person (without regard to when or from what source the43 decedent acquired such power), to alter, amend, revoke, or terminate, or where any such power is relinquished during the 3-year period ending on the date of the decedent's death.680 Thus, the value of the gross estate includes the value of any interest transferred by the decedent, the enjoyment of which is subject to change by virtue of the decedent's retention of the power to alter, amend, revoke, or terminate, or where such power is relinquished during the 3-year period ending with the decedent's death.Before relating the arguments of the parties, a brief discussion of the development of the transfer provisions is necessary.Historically, the primary purpose of the transfer provisions was to prevent the evasion of Federal estate taxes by taxing inter vivos transfers intended as substitutes for testamentary dispositions. United States v. Wells, 283 U.S. 102">283 U.S. 102, 115-117 (1931). In this regard, the law prior to 1976 provided for a rebuttable presumption that all transfers made within 3 years of death were made in contemplation of death for the purpose of avoiding Federal estate taxes. See Estate of Sachs v. Commissioner, 88 T.C. 769">88 T.C. 769, 776 (1987),44 affd. in part, revd. in part 856 F.2d 1158">856 F.2d 1158 (8th Cir. 1988).Because the presumption that gifts made within 3 years of death were made in contemplation of death caused considerable litigation concerning the decedent's motives in making gifts, Congress amended the transfer provisions, including sections 2035(a) and 2038, to eliminate the rebuttable presumption altogether. See secs. 2001(a)(5) and 2001(c)(1)(K) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1848, 1852. Consequently, if a transfer otherwise falls within the scope of one of the transfer provisions, the decedent's motive for the transfer is now immaterial.Respondent argues that when the decedent transferred his assets to the revocable trust, the ultimate enjoyment of the transferred assets was subject to change pursuant to section 2038(a)(1) because the decedent possessed the power to amend or revoke the trust. Respondent further contends that the transfers in question from the revocable trust, effected within 3 years of the decedent's death, served as a relinquishment of the decedent's powers over the transferred property as contemplated in the final clause of section 2038(a)(1). 45 In accordance with section 2035(d)(2), respondent concludes that the total amount of the transfers 681 effected in 1984 and 1985 are included in the value of the gross estate.Petitioner contends that the value of the decedent's revocable trust on the date of death (minus the annual exclusion gifts) is included in the gross estate under section 2033. As petitioner sees it, sections 2035(d)(2) and 2038(a)(1) are not applicable under the circumstances because the decedent did not divest himself of beneficial ownership of the assets transferred to the revocable trust.In conjunction with the foregoing, petitioner argues that the transfers in question were annual exclusion gifts and that section 2035(d)(1) excludes all such gifts transferred by a decedent dying subsequent to December 31, 1981, from the gross estate.In the alternative, petitioner insists that the Court must look past the technical form of the transactions and treat the direct transfers from the revocable trust as if the decedent had made withdrawals from the trust prior to the transfer of the gifts. Petitioner contends that respondent's position must be rejected because it elevates form over substance and imposes46 a "superficial formality" on estate planning in that a formal withdrawal of assets from a revocable trust must be accomplished in order to avoid having annual exclusion gifts included in the gross estate.Finally, petitioner asserts that it would be unjust to include in the gross estate the value of gift transfers from a revocable trust effected within 3 years of the date of the decedent's death when the value of deathbed annual exclusion gifts made by a decedent dying subsequent to December 31, 1981, is not included in the gross estate under section 2035(d)(1).We begin with petitioner's contention that the value of the decedent's revocable trust on the date of death is included in the gross estate pursuant to section 2033, as opposed to section 2038. In support of this contention, petitioner cites income and gift tax provisions, maintaining that the decedent never divested himself of beneficial ownership of the assets transferred to the revocable trust. Petitioner misconstrues the provisions in question.While it is well established for purposes of income tax that the grantor of a revocable trust generally is treated as 682 the owner of the income of the trust under the 47 grantor trust provisions, see section 676, that particular treatment is not controlling or dispositive with respect to the proper application of the estate tax provisions. See Post v. Commissioner, 26 T.C. 1055">26 T.C. 1055, 1060 (1956). On the other hand, estate and gift taxes are in pari materia and must be construed together. Estate of Sanford v. Commissioner, 308 U.S. 39">308 U.S. 39, 44 (1939). With these precepts in mind, we turn again to sections 2033 and 2038.Section 2033 provides in broad terms that the value of the gross estate includes the value of all property to the extent of the interest therein of the decedent at the time of his death. In Estate of Watson v. Commissioner, 94 T.C. 262">94 T.C. 262, 275 (1990), we concluded that the value of certain farmland was included in the gross estate under section 2033. Specifically, the taxpayer had transferred the farmland in question to a trust, but the trust had terminated before the taxpayer's death. Because the taxpayer never provided for the disposition of the farmland after the termination of the trust, we looked to Mississippi law for guidance and, based thereon, 48 concluded that the taxpayer was the beneficial owner of the entire interest in the farmland at the time of his death.In contrast, section 2038 specifically pertains to transfers during the life of the decedent and provides that the gross estate includes the value of any interest transferred by the decedent, in trust or otherwise, where enjoyment of the transferred property is limited or subject to change because of the decedent's retention of the power to alter, amend, revoke, or terminate the transfer. There is no need for the decedent to actually exercise such a power for section 2038 to apply. Estate of Graves v. Commissioner, 92 T.C. 1294">92 T.C. 1294, 1300 (1989).Section 2038(a) has been routinely applied to include in the gross estate the value of assets transferred to a revocable trust. See Estate of Carli v. Commissioner, 84 T.C. 649">84 T.C. 649, 652 (1985); Estate of Hill v. Commissioner, 64 T.C. 867">64 T.C. 867, 877 (1975); Estate of Davis v. Commissioner, 51 T.C. 361">51 T.C. 361, 368 (1968); see also Allen v. Trust Co., 326 U.S. 630">326 U.S. 630, 634 n.3 (1946) (citing 49 section 302(d)(1) of the Revenue Act of 1926, a predecessor to section 2038, for the proposition that 683 the corpus of a trust may be included in the gross estate to the extent the decedent released a power to amend the trust in contemplation of death). Section 2038 has also been applied to irrevocable trusts. See Estate of O'Connor v. Commissioner, 54 T.C. 969">54 T.C. 969, 973 (1970), and cases cited therein.Applying generally accepted rules of statutory construction, we decline to apply the general terms of section 2033 to circumstances specifically referred to under section 2038. See 3A Sutherland Statutory Construction, sec. 66.03, p. 303 (4th ed. 1986); see also Estate of Tully v. United States, 208 Ct. Cl. 596">208 Ct. Cl. 596 (1976); Rev. Rul. 75-553, 2 C.B. 477">1975-2 C.B. 477. A plain reading of the provisions reveals that the date of death value of a revocable trust generally is included in the gross estate pursuant to section 2038.We now address the question of whether the gift transfers from decedent's revocable trust, effected within 3 years of his death, are included in the gross estate pursuant50 to sections 2035(d)(2) and 2038(a)(1). The parties do not cite any cases directly on point with respect to this issue.Petitioner first contends that annual exclusion gifts are not included in the gross estate by virtue of section 2035(d)(1). We disagree.As previously noted, section 2035(d)(1) provides that the general rule of section 2035(a) shall not apply to the estates of decedents dying after December 31, 1981. Consequently, gifts made within 3 years of the death of a decedent dying after December 31, 1981, generally are not included in the value of the gross estate. However, subsection (d)(2) provides exceptions to the rule stated in subsection (d)(1). In particular, subsection (d)(2) mandates that subsection (d)(1) will be disregarded and that the gross estate will include the value of transferred property interests (including annual exclusion gifts which would otherwise be excluded from the gross estate under section 2035(b)(2)) if such property interests are included in the value of the gross estate under section 2038.Any lingering doubt as to application of section 2035(d)(2) is laid to rest by the section's legislative history. Specifically, the reference to subsection51 (b)(2) within section 2035(d)(2) was added by section 104(d) of the Technical 684 Corrections Act of 1982, Pub. L. 97-448, 96 Stat. 2383. The Senate Report addressing the technical corrections states:The bill applies the 3-year inclusion rule to interests which would have been includible in the decedent's estate under section 2036, 2037, or 2038, whether or not a gift tax return was required with respect to the transfer. [S. Rept. 97-592 (1982), 1 C.B. 475">1983-1 C.B. 475, 484.]Thus, petitioner's reliance on section 2035(d)(1) as a blanket rule for the exclusion of all gifts from the gross estate is misplaced.In the alternative, petitioner argues that section 2038(a)(1) was not intended to reach transfers of annual exclusion gifts. We note that petitioner cites IRS private letter rulings in his petition with regard to this issue. These rulings have no precedential force. See sec. 6110(j)(3); Rowan Cos. v. United States, 452 U.S. 247">452 U.S. 247, 261 n.17 (1981). Nonetheless, the number of rulings reveals that the issue is one of significant importance to estate planners. See Nelson, "Inter Vivos Gifts From Revocable Trusts," 15 52 Tax Mgmt. Est., Gifts and Tr. J. 168 (1990).In any event, we find no support for petitioner's broad contention that section 2038(a)(1) does not apply to transfers of annual exclusion gifts. To the contrary, section 2035(d)(2) unambiguously provides that such gifts may be included in the gross estate under several transfer provisions, including section 2038. In addition, neither section 2038 nor the regulations which limit its scope suggest that annual exclusion gifts are beyond the reach of that section. See sec. 20.2038-1(a), Estate Tax Regs.Ultimately, the determination of whether transfers effected within 3 years of death are to be included in the gross estate pursuant to section 2038 turns on the particular terms of the trust agreement.As previously quoted, supra p. 676, the revocable trust provided that, absent the decedent's incapacity, the decedent was the sole permissible distributee of trust income or principal during the decedent's lifetime. However, if the decedent, at any time or times, was found to be unable to manage his affairs, the trustees were authorized to distribute income or principal to both the decedent and his descendants for their care and comfort. 53 In addition, the trustees were authorized during the decedent's incapacity to 685 make gifts (within the annual exclusion amount) that the decedent had theretofore been accustomed to make.In 1984, the decedent, acting as trustee, made gift transfers to six donees. At the time the transfers were effected, the decedent was the sole permissible distributee of the income and principal of the revocable trust. Under these circumstances, we agree with petitioner that the gift transfers could only have been effected pursuant to the decedent's power to withdraw income and principal from the trust. Accordingly, we conclude that the decedent exercised his power to withdraw assets from the trust and subsequently made gift transfers in his individual capacity directly to the respective donees.By characterizing the transactions effected in 1984 as withdrawals preceding direct gift transfers from the decedent, it necessarily follows that the transfers do not constitute a relinquishment of the decedent's power to alter, amend, revoke, or terminate the trust with respect to the transferred assets as contemplated under section 2038. Because the withdrawn assets were not subject to inclusion54 in the gross estate pursuant to section 2038, section 2035(d)(2) does not control and the gifts are excluded from the gross estate under section 2035(d)(1).In contrast to the 1984 transfers, the 1985 transfers were effected under a distinctly different set of circumstances. In particular, the decedent was pronounced unfit to manage his affairs and the gift transfers were effected by substitute trustees. By virtue of the decedent's incapacity, the trustees were authorized to distribute both income and principal from the revocable trust directly to both the decedent and his descendants. In this regard, the transfers by the trustees to persons other than the decedent cannot properly be characterized as withdrawals by the decedent. Rather, such transactions must be considered a relinquishment by the decedent, through the trustees, of his power to alter, amend, revoke, or terminate the trust with respect to the transferred assets as contemplated in section 2038(a). Thus, because the amounts in question would have been included in the decedent's gross estate under section 2038 if retained by the decedent, the gifts effected by the trustees are 686 included in the decedent's 55 gross estate under section 2035(d)(2).As a final matter, we reject petitioner's argument that we should disregard the form of the transactions effected in 1985 in favor of their substance. The tax implications associated with the utilization of limited or incomplete inter vivos transfers in estate planning are distinctly articulated in the controlling statutory provisions. To the extent that the decedent elected to enjoy the advantages relating to the utilization of a revocable trust, his estate must endure the tax disadvantages arising from that election as well. In this regard, the means for ensuring that annual exclusion gifts will not be included in the gross estate cannot be viewed as a mere "superficial formality."To reflect the foregoing,Decision will be entered under Rule 155.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623777/	Henry G. Small v. Commissioner.Small v. CommissionerDocket No. 48953.United States Tax CourtT.C. Memo 1954-230; 1954 Tax Ct. Memo LEXIS 19; 13 T.C.M. (CCH) 1155; T.C.M. (RIA) 54335; December 20, 1954, Filed 19 Held: Petitioner was engaged in the real estate business during part of the year 1948 in partnership with his then wife, Mary. Kenneth W. Bergen, Esq., and Donald O. Smith, Esq., for the petitioner. Jack H. Calechman, Esq., for the respondent. VAN FOSSAN Memorandum Findings of Fact and Opinion Respondent determined a deficiency in income tax of petitioner for the year 1948 in the amount of $941.26. This proceeding is a companion case to Mary W. Conrad, Docket No. 41019, the opinion in which is handed down and filed simultaneously herewith. The cases were tried separately. The issues to be resolved here are: (1) Whether petitioner and Mary W. Small were partners for income tax purposes during the period January 1, 1948, through October 16, 1948, in the conduct of a real estate business, and (2) whether the deficiency in question is barred by the statute of limitations. Findings of Fact Petitioner, Henry G. Small, is an individual now residing at Orono, Maine. During the taxable year 1948, he was a citizen and resident of Holderness, Grafton County, New Hampshire, and he filed his individual income tax return for such year on March 15, 1949, with the20 collector of internal revenue for the district of New Hampshire. Therein, petitioner reported, among other things, partnership income in the amount of $4,198.09. Under date of November 4, 1948, petitioner also filed with such collector a partnership return of income for the taxable year 1948, in which was reported the net income of the partnership of "Henry G. Small - Mary W. Small" in the amount of $8,396.19. Prior to 1944, petitioner was engaged in the automobile tire business in Laconia, New Hampshire. His conduct of such business did not result in a wide acquaintance with the people in the Plymouth-Holderness area. Petitioner met Mary W. Small (now known as Mary W. Conrad and hereinafter referred to as Mary) in 1944. Thereafter, they were married in February, 1945. Mary had lived in the Plymouth-Holderness area during most of her life and had a wide acquaintance among the residents of that area. She had engaged in the real estate business since 1932. At or about the time of their marriage, petitioner and Mary decided that it would be to their mutual advantage for the former to join the latter in the real estate business. Petitioner and Mary worked for a short period in early21 1945 with a real estate firm in Laconia, New Hampshire. Mary having acquired a house in Holderness, she and petitioner decided that it would be practicable for them to open a real estate business on their own in the Plymouth-Holderness area, which they did beginning in late spring or early summer of 1945. No partnership application was ever filed with the Secretary of State of New Hampshire as required by the law of that state. Petitioner had previously filed a trade name with the Secretary of State under the same statute as applies to partnerships. At the beginning of their real estate operation, the business of Mary and petitioner consisted primarily of transactions involving summer rentals and sales of summer cottages and resort properties. During the first year of such business, an important source of business contracts for petitioner and Mary was an insurance agency located in Plymouth, which source had been previously acquired by Mary. Another source of business was the New Hampshire State Planning and Development Commission, which put out inquiries on behalf of persons who wished to acquire property in New Hampshire. Mary wrote and typed most of the letters in reply to these22 inquiries. Mary was admittedly actively engaged in real estate from 1932 through 1947 and from the latter part of 1948 up to the time of the hearing in the present proceeding. Prior to his marriage to Mary, petitioner had no experience in the real estate business. He learned virtually all he knew about such business from Mary. Petitioner and Mary filed a partnership return of income for the year 1947. Late in 1947, petitioner's attorney and friend, Hazen Sturtevant, was elected president of the Plymouth, New Hampshire, Chamber of Commerce. Sturtevant asked petitioner to accept the office of secretary of that organization, which petitioner did after a discussion with Mary. It was necessary for petitioner's effective performance of that office that a business office be acquired in the Plymouth business section. Petitioner and Mary discussed this matter and agreed to open such an office. On or about January 1, 1948, petitioner opened a real estate office in Plymouth. Office furnishings, including a desk for Mary, were acquired therefor by petitioner and Mary. At the outset and for approximately a month to a month and a half, Mary came into the Plymouth office quite regularly. Mary23 did not approve of the secretary that was hired and for a time quit coming in regularly. Following the discharge of such secretary, Mary again came to the office occasionally, although not as regularly as she had in the past. She saw customers and had access to the office files. During this period, a substantial amount of Mary's real estate operations was carried on from the Small home in Holderness from where the business had previously been conducted. Also petitioner carried on a substantial portion of his real estate activities from such place. Real estate rentals, very few of which necessitated the actual showing of property, were handled through the mails. Prior to and during 1948, Mary handled virtually all such rentals. With one exception, Mary did not participate in the financing and agreement for sales of real estate during the period in question. Between February and October, 1948, Mary participated to some extent in 17 real estate transactions, the total commissions from which amounted to $7,248. During and prior to 1948, the stationery used in the business conducted by the petitioner and Mary was headed, as follows: "MARY W. SMALL-HENRY G. SMALL REAL ESTATE" No24 other stationery was used in the business. Prior to and during 1948, the printed sales agreement forms which were used contained the names "Mary W. Small & Henry G. Small." Such forms had been purchased in 1945. From time to time during 1948, advertisements appeared in the Boston and New York newspapers which used the business name of "Mary W. Small-Henry G. Small." "Previews", a Summer Property Yearbook for the Year 1948, contained a listing by petitioner and Mary using the address of Plymouth, R.F.D. 3, New Hampshire; phone Plymouth 157 W-4. Such address and phone number is that of the residence owned by the petitioner and Mary in Holderness. The 1948 listings carried the office address and phone number. Both parties used the Holderness telephone to make some business calls in 1948. Mary and petitioner were members of a number of associations of real estate brokers throughout 1948. Dues for Mary's membership were paid in September of 1948. In that year the title to the Holderness residence which had been in Mary's name was transferred and placed in the joint tenancy of Mary and petitioner. Mary and petitioner lived together and did not become estranged until October, 1948. 25 Commissions from real estate operations in 1948 were deposited in the Pemigewasset National Bank, Plymouth, New Hampshire; Plymouth Guaranty Savings Bank, Plymouth, New Hampshire, and Meredith Village Savings Bank, Meredith, New Hampshire. The accounts in the two savings banks were joint accounts, which had total balances on September 1, 1948, immediately prior to the estrangement of Mary and petitioner, in the amount of $11,526.72. Deposits made to the joint checking account maintained by Mary and petitioner during 1948 totaled $14,137.97. Although Mary had access to the accounts, petitioner generally wrote the checks, paid the bills and took care of all the money. Mary drew checks in 1948 aggregating at least $1,706.30, including one check in the amount of $1,206.30 in payment of her 1947 Federal income tax liability. Petitioner withdrew all funds from these joint accounts on October 4, 1948. Throughout 1948, Mary maintained her own separate checking account in which was deposited income received by her from an inheritance. She did not deposit any of such income in any of the accounts in which real estate commissions were deposited. She received no distribution of the income26 earned in the first nine months of 1948. Petitioner, prior to and at the time of his estrangement from Mary, maintained a separate individual savings account, the balance in which was $4,721.83 on October 1, 1948. This account was also closed out on October 4, 1948. Petitioner closed the accounts on advice of counsel. After petitioner and Mary became estranged in late September or early October, 1948, Mary addressed, on October 4, 1948, a petition to the Superior Court of Grafton County, New Hampshire, requesting, inter alia, the establishment of her rights in property and alleging in part, as follows: "5. The said Mary W. and Henry G. Small hold as joint tenants real estate situated in said Holderness which was aquired by her prior to marriage and to which as against said Henry G. Small she is equitably entitled. The said parties own and conduct a real estate brokerage business known as the 'Small Agency', the good will, listings and other property of which were largely acquired by the said Mary W. Small prior to marriage. They also have funds deposited in certain banks and other property acquired during coveture to which the said Mary W. Small has largely contributed through27 her efforts. They also have certain household furniture and furnishings which are located in the home in said Holderness and which with minor exceptions belong to her." Thereafter, on or about October 10, 1948, a conference of the parties and their respective representatives was held for the purpose of effecting a property settlement between petitioner and Mary. Petitioner was advised by counsel that he had grounds for divorce against Mary. As a result of the conference, a property settlement agreement in the form of a stipulation was signed by the parties, which stipulation was later incorporated by reference in the decree of divorce granted the parties on December 7, 1948. Such stipulation reads in material part, as follows: "1. Henry G. Small shall execute to Mary W. Small a quitclaim deed of all his right, title and interest in and to real estate situate in Holderness, New Hampshire heretofore held by the Parties in joint tenancy, and it is decreed that Henry G. Small is divested of any interest in the said real estate. "2. Henry G. Small shall execute and deliver to Mary W. Small a bill of sale of all his right, title and interest in and to the real estate business heretofore28 conducted by the parties in Plymouth, New Hampshire including the office furniture, office space, good will, listings and any and all other personal property used in said real estate business. "3. Henry G. Small shall be entitled to commissions from the Deep River Cabins sale, the Reporter Press sale and the Grover sale. "4. The said Henry G. Small shall not open a real estate office in the towns of Plymouth, Holderness or Ashland so long as Mary W. Small shall be actively engaged in the real estate business in said Plymouth; and the said Henry G. Small shall pay to Mary W. Small an amount equal to one-half of the money received by him as commission on any property sale he may make in the towns of Holderness and Plymouth. "5. With the exception of one antique bureau, one antique mirror and one set of brass andirons all of which were formerly the property of Elizabeth Small and which are acknowledged to be the property of Henry G. Small, all household furniture in the home of the parties in said Holderness is decreed to be the property of Mary W. Small. "6. The said Henry G. Small shall pay to Mary W. Small the sum of five thousand dollars ($5000) in lieu of alimony or support; 29 twenty-five hundred dollars ($2500) of which shall be paid on the granting of the divorce and approval of this stipulation; the additional twenty-five hundred dollars ($2500) shall be paid on January 15, 1949." On October 28, 1948, petitioner executed a bill of sale in pursuance of the foregoing stipulation. In his individual income tax return for 1948, petitioner reported, in addition to partnership income above referred to, commissions earned from October 15, 1948 to December 31, 1948 in the amount of $1,400, dividends of $12.25 and interest of $135.26. The statutory notice of deficiency as to the year 1948 was mailed to petitioner on April 8, 1953. Petitioner and Mary were partners in the conduct of the real estate business in Plymouth and Holderness, New Hampshire, during the period January 1, 1948 to about October 16, 1948. Opinion VAN FOSSAN, Judge: The fundamental question to be resolved here is whether petitioner and Mary were partners for tax purposes in the conduct of the real estate business in Holderness and Plymouth, New Hampshire, during the period January 1, 1948, through October 16, 1948. Respondent has declined to recognize the existence of any partnership30 and would tax to petitioner the total amount of the profits derived from the business during such period. That a partnership relation existed between petitioner and Mary prior to 1948 is not disputed. Nor does respondent deny that Mary was active in the real estate business from 1932 through 1947 and subsequent to October, 1948. Rather, it is his theory that, during the period in controversy, Mary withdrew from active participation in the business, became a housewife and performed no duties outside those expected of a loyal wife. As laid down by the Supreme Court in ; ; and , the test for determining the existence of a partnership and its validity for tax purposes is whether the parties involved, acting in good faith and with a business purpose, really and truly "* * * intended to join together in the present conduct of the enterprise. * * ". The intention of the parties, their good faith and business purposes in so joining together are factual conclusions to be drawn from a close survey of " * * the agreement, the conduct of the31 parties in execution of its provisions, their statements, the testimony of disinterested persons, the relationship of the parties, their respective abilities and capital contributions, the actual control of income and the purposes for which it is used, and any other facts throwing light on their true intent * ." Thus the question is essentially one of fact of which our ultimate finding above is dispositive. No useful purpose would be served by prolonging this opinion with a detailed analysis of the evidence leading us to such conclusion. Suffice it to say, we have taken into account all aspects of the factual situation here present in the light of the foregoing test and have assayed all evidence bearing thereupon. Facts tending to show the existence of a partnership relationship have been placed in juxtaposition with those tending to the opposite conclusion. Based upon our consideration thereof, we have concluded and found as a fact that such relationship did exist during the period in dispute. Consequently, we here so hold. Respondent's determination to the contrary is reversed. In view of such holding, the question posed by petitioner32 with respect to the statute of limitation is moot and no discussion thereof is necessary. Decision will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623778/	Estate of Leonidas C. Papson, Deceased, Costa L. Papson, Executor, Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Papson v. CommissionerDocket No. 10249-76United States Tax Court74 T.C. 1338; 1980 U.S. Tax Ct. LEXIS 58; September 22, 1980, Filed 58 In connection with a Rule 155 proceeding, petitioner moved to have the Court consider a question relating to the eligibility of certain U.S. Treasury bonds (flower bonds) for use in payment of Federal estate taxes, because of the alleged comatose state of decedent at the time said bonds were purchased. Disposition of such question would involve the issue of the valuation of said bonds as of the date of death. Such issue was not raised by the pleadings or at trial. Held, petitioner's motion is denied without prejudice because a Rule 155 proceeding may not be used to raise a new issue. Held, further, the Court will defer entry of decision in order to afford petitioner an opportunity to seek resolution of the question of eligibility of said bonds with the Court of Claims. Costa L. Papson, for the petitioner.Joan Ronder Domike and H. Stephen Kesselman, for the respondent. Tannenwald, Judge. TANNENWALD1338 OPINIONPetitioner seeks by motion to have this Court consider, as part of the Rule 155 proceeding to implement our previously published opinion (73 T.C. 290">73 T.C. 290 (1979)), an issue relating to the eligibility of certain U.S. Treasury59 bonds (flower bonds) for use in payment of Federal estate taxes; the issue arises because of the alleged comatose state of decedent at the 1339 time said bonds were purchased. For the reasons hereinafter stated, we conclude that petitioner's motion should be denied without prejudice and that we should accept a suggestion of respondent which should enable petitioner to avoid the "whipsaw" possibilities arising out of the interrelationship between the issue of eligibility for payment of estate taxes and the appropriate valuation to be placed upon such bonds for estate tax purposes. See Estate of Pfohl v. Commissioner, 69 T.C. 405">69 T.C. 405, 406-407 (1977).The flower bonds were valued at par on the estate tax return, presumably because the aggregate amount of reported bonds was less than the estate tax liability shown on the return. 1 See Bankers Trust Co. v. United States, 284 F.2d 537">284 F.2d 537 (2d Cir. 1960); Rev. Rul. 69-489, 2 C.B. 172">1969-2 C.B. 172; Rev. Proc. 69-18, 2 C.B. 300">1969-2 C.B. 300. The notice of deficiency, issued on September 10, 1976, did not place60 the value of the bonds in issue nor did the petition filed on November 19, 1976, or the answer filed on January 12, 1977. No question relating to the value of the bonds was raised at any time prior to the submission of this case on a full stipulation of facts on April 10, 1978, or in the briefs of the parties filed subsequent to the submission. 2 Indeed, the first time the Court was apprised of the existence of any problem relating to the flower bonds was in a letter to the Court from respondent dated December 31, 1979.This Court's61 opinion in Estate of Pfohl v. Commissioner, supra, in which we announced our jurisdiction under appropriate circumstances to determine the eligibility of flower bonds for use in payment of estate taxes, was filed and made public on December 6, 1977, 3 a point of time well before the date this case was submitted. Moreover, although petitioner's motion papers are not completely clear on this point, it appears that petitioner was on notice as to the issue of eligibility some time prior to March 1978 -- also before this case was submitted. 462 1340 The usual rule is that a Rule 155 proceeding may not be used to raise a new issue. Bankers' Pocahontas Coal Co. v. Burnet, 287 U.S. 308">287 U.S. 308 (1932); Estate of Stein v. Commissioner, 40 T.C. 275">40 T.C. 275, 280 (1963). See also Robin Haft Trust v. Commissioner, 62 T.C. 145">62 T.C. 145, 147 (1974), revd. on other grounds 510 F.2d 43">510 F.2d 43 (1st Cir. 1975). Contrary to petitioner's contention, the entire estate tax return "and each and every item listed therein" is not before us. Only those issues raised by the pleadings or at trial are under submission. For the issue as to eligibility to be considered, it would be necessary to reopen the record, permit petitioner to raise the eligibility question by way of an amendment to petition in the context of the issue of the proper valuation of the flower bonds (see Estate of Pfohl v. Commissioner, 70 T.C. 630 (1978)), and hear testimony and/or receive a stipulation of facts on the issue of the comatose state of decedent and the effect thereof on the purchase of the flower bonds. 5 We think that, given the alternative63 remedy which seems to be available to petitioner, we should not follow this course.Respondent suggests in his memorandum in opposition to petitioner's motion:If the petitioner were to request the Court to delay entering its decision while the petitioner challenges the Bureau of the Public Debt's rejection of the bonds in the U.S. Court of Claims (Watson Estate v. Blumenthal, 586 F.2d 925">586 F.2d 925 (2d Cir. 1978)), then a computation under Rule 155 can be entered which reflects the determination of that court.We see no need to await a request by petitioner before following respondent's suggestion and, accordingly, we will issue an order providing petitioner with an opportunity to follow the Court of Claims path before entering our decision herein. We take this action without in any way conceding the correctness of respondent's contention64 that we do not have jurisdiction to determine the issue relating to the eligibility of the flower bonds. Our acceptance of respondent's suggestion is merely 1341 based upon the combination of circumstances that, under our normal procedures, it is too late to bring the issue of valuation (and therefore eligibility) before us, and our recognition that the Second Circuit Court of Appeals has indicated in Estate of Watson v. Blumenthal, 586 F.2d 925">586 F.2d 925 (2d Cir. 1978), that an action for a declaratory judgment or mandamus against the Secretary of the Treasury as to the eligibility of flower bonds was not within the jurisdiction of the U.S. District Courts and that the proper forum to determine the issue was the Court of Claims by way of an action for damages based upon a claim of breach of contract resulting from the tender of the bonds and a refusal thereof. See 586 F.2d at 934. In this connection, we note that the Court of Appeals has not been called upon to resolve the jurisdictional problem where the valuation of flower bonds for estate tax purposes based on the question of eligibility is the issue before a court. In point65 of fact, despite the decision in Estate of Watson v. Blumenthal, supra, the respondent's appeal to the Second Circuit Court of Appeals in Estate of Pfohl was ordered withdrawn pursuant to stipulation of the parties. 6 Thus, as far as we are concerned, the Estate of Pfohl opinions continue to retain their vitality. We do not believe that the validity of those opinions necessarily rests on the fact that the Bureau of Public Debt agreed in Estate of Pfohl to be bound by our decision. See 69 T.C. at 407-408. See also F.T.C. v. Texaco, Inc., 517 F.2d 137">517 F.2d 137 (D.C. Cir. 1975); George H. Lee Co. v. Federal Trade Commission, 113 F.2d 583">113 F.2d 583 (8th Cir. 1940).Because of the potential "whipsaw" situation, and because we cannot be certain as to whether*66 the Court of Claims will agree with the Second Circuit Court of Appeals on the jurisdictional question or as to what the ultimate disposition of the matter by the Court of Claims will be, we think that petitioner's motion should be denied without prejudice in order that this Court may be in a position to take any further action that may seem appropriate.An appropriate order will be entered. Footnotes1. Flower bonds with a par value of $ 400,000 were included in the estate tax return and were offered in payment of estate taxes as follows: $ 200,000 in March 1974 at the time the return was filed, $ 100,000 in March 1975, $ 50,000 in March 1977, and $ 50,000 in March 1978.↩2. At the time of submission, the Court specifically inquired whether any valuation issue remained, and was informed that "the valuation issue" (primarily relating to the valuation of real estate) had been settled.↩3. The Court releases its opinions to various tax services on the filing date.↩4. The affidavit of petitioner attached to the motion states that the $ 50,000 in bonds, submitted in March 1977, were rejected by the Bureau of Public Debt and that in March 1978 another $ 50,000 were submitted and were also rejected. See also note 1 supra↩. In addition to these bonds, the Bureau of Public Debt has withdrawn its previous acceptance and credit of the $ 200,000 submitted with the return because of the alleged comatose condition of the decedent at the time they were purchased. Thus, of the $ 400,000 face value of bonds tendered for redemption and credit, only those which were submitted and credited in April 1975 are conceded by the Bureau to be eligible because they were purchased personally by the decedent.5. We note that petitioner suggests that a question relating to the validity of a change in the regulations of the Bureau of Public Debt may also be involved.↩6. The respondent filed an appeal on Apr. 25, 1979, and, on May 31, 1979, the Court of Appeals issued an order confirming the withdrawal of the appeal.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623781/	Leila G. Newhall Unitrust, Wells Fargo Bank, Trustee, Petitioner v. Commissioner of Internal Revenue, RespondentLeila G. Newhall Unitrust v. CommissionerDocket No. 10195-93United States Tax Court104 T.C. 236; 1995 U.S. Tax Ct. LEXIS 11; 104 T.C. No. 10; March 6, 1995, Filed 11 Decision will be entered for respondent. P is a charitable remainder unitrust within the meaning of sec. 664(d)(2), I.R.C. P was a shareholder in N, a publicly traded company. In 1983 N underwent a partial liquidation and transferred certain of its assets to two newly formed limited partnerships. In 1983 P received as a distribution from N interests in the two limited partnerships, such interests also being publicly traded. In 1985 N underwent a complete liquidation and transferred its remaining assets to a limited partnership. P, as a shareholder of N, received interests in this third limited partnership in cancellation of its N stock. The third limited partnership was also publicly traded. Sec. 512(c), I.R.C., requires that the partnership income of an organization that is a member in a partnership be included in unrelated business taxable income (UBTI) if the conduct of the partnership business directly by the organization would have resulted in UBTI. And sec. 664(c), I.R.C., provides that a charitable remainder unitrust shall be exempt from tax unless that trust has UBTI. Sec. 1.664-1(c), Income Tax Regs., states that a charitable remainder unitrust that receives UBTI is taxable12 on all of its income. Held, P was a member of the three limited partnerships at issue, and the income of the partnerships caused P to receive UBTI. Held, further: The receipt of UBTI caused P to become taxable to the full extent of its income and not merely to the extent of UBTI. Sec. 1.664-1(c), Income Tax Regs., is a fair and reasonable interpretation of sec. 664(c), I.R.C.Joe C. Luker, J. Scott Cummins, and John W. Ambrecht, for petitioner.Linette Angelastro, for respondent. RaumRAUM237 OPINIONRAUM, Judge: The Commissioner determined deficiencies and additions to tax as follows:Addition to tax sec.TYEDeficiency1 6661 Dec. 31, 1988$ 74,035$ 18,508.75Dec. 31, 198926,209--- In addition to challenging the foregoing determination of deficiencies, petitioner13 claims that it is entitled to a refund for each of the taxable years 1988 and 1989.Wells Fargo Bank, trustee of petitioner, Leila G. Newhall Unitrust, had its legal residence in Santa Barbara, California, at the time the petition in this case was filed. Petitioner is a charitable remainder unitrust within the meaning of section 664(d)(2), and was created pursuant to a testamentary "devise" by Leila G. Newhall, who died in 1975.Petitioner filed its Form 1041, U.S. Fiduciary Income Tax Return, for 1988 on June 29, 1989. It paid the tax shown on that return on April 15, and June 29, 1989. Petitioner filed its Form 1041 for 1989 on April 15, 1990, and paid the tax shown on that return on April 15, 1990.As its claim for refund, petitioner filed amended Forms 1041 for the years 1988 and 1989. The parties stipulated that petitioner also filed a Form 1041 for 1987, and submitted a similar claim for refund with respect to that year. The refund 238 claims for all 3 years were filed on January 3, 1991, and set forth as the grounds for the claimed refunds (1) that petitioner had no unrelated business taxable income (UBTI) for the years at issue, or, in the alternative, (2) that if petitioner14 did have UBTI for the years at issue, it should be liable for tax only with respect to its UBTI.Following an administrative review and conference with the Appeals Office of the Internal Revenue Service, the Commissioner denied petitioner's claims for refunds for the years 1987, 1988, and 1989. In a notice of deficiency issued February 11, 1993, the Commissioner further determined that there was a deficiency in Federal income taxes for 1988 and 1989.Petitioner agrees that its Schedule D net gains for taxable years 1988 and 1989 should be increased as determined in the deficiency notice, thus conceding the only adjustments made by the Commissioner. The amount of refund owed petitioner, if any, remains at issue.Petitioner was initially funded with 181,402 shares of common stock of Newhall Land & Farming Co. (the company). At the creation of petitioner in 1975, and until January 8, 1985, the company was a publicly traded corporation.On March 9, 1983, the company underwent a partial liquidation. The company transferred certain real estate and mineral rights holdings to limited partnerships and distributed depository receipts for units in those partnerships to its stockholders. As 15 of March 9, 1983, petitioner owned 86,000 shares of the company. On March 9, 1983, petitioner received one depository receipt for a unit in Newhall Investment Properties and one depository receipt for a unit in Newhall Resources (both California limited partnerships) for each 2 shares of the company common stock owned. Following the March 9, 1983, partial liquidation, petitioner owned 86,000 shares of the company and 43,000 shares in each of Newhall Investment Properties and Newhall Resources.On January 8, 1985, the company underwent a complete liquidation. It transferred the remainder of its assets to a limited partnership, also named Newhall Land & Farming Co., and distributed depository receipts for units in the limited partnership to its stockholders, including petitioner. On January 8, 1985, petitioner received one depository receipt for a unit in Newhall Land & Farming Co. (a California limited 239 partnership) in redemption of each share of the company common stock it owned.As of the date of the final liquidation of the company, on January 8, 1985, petitioner owned 50,500 shares of a total 9,060,338 publicly held shares of the corporation. This ownership interest represented16 a 0.55737-percent ownership and voting interest in the corporation.Newhall Land & Farming Co., Newhall Investment Properties, and Newhall Resources (collectively, the partnerships) were limited partnerships publicly traded on the New York Stock Exchange during taxable years 1988 and 1989. Petitioner did not purchase or otherwise acquire any interests in the partnerships, or any other partnerships, except for those units received in distributions in liquidation of the company described above.Except for returning its proxy or otherwise voting its shares, petitioner could not and did not have any influence in the decision to liquidate the company and convert its structure from a corporation to a limited partnership. It did not intend in any manner to use its status as a charitable remainder unitrust to gain any competitive advantage for its investment in the company or the partnerships.Petitioner first filed a Form 1041, U.S. Fiduciary Income Tax Return, for taxable year 1987. Prior to 1987, petitioner filed Form 5227, Split Interest Trust Information Return, as required for each year of its existence. Beginning with its 1987 Form 1041, petitioner has filed Federal income tax returns17 for each of its taxable years to date reflecting taxable income as follows:Income (loss) fromTotal taxableYearpartnershipsincomeTax paid1987$ 63,920 $ 1,022,237$ 285,5951988178,929 170,67652,2411989291,689 1,202,889336,8091990156,591 255,69571,595199135,704 1,003,523301,449199224,728 658,921194,1151993(4,260)763,824276,836This case presents three issues for decision. The first is whether petitioner received UBTI under section 512(c). If we decide petitioner did receive UBTI, then we must decide whether petitioner is taxable under section 664(c) only to the 240 extent of its UBTI or on its entire net income. If we decide for the Commissioner on both of those issues, then we must decide whether petitioner is liable for the addition to tax under section 6661 for the taxable year 1988, as determined by the Commissioner. We consider the issues in that order.1. Section 512 defines and provides rules for determining UBTI. Section 512(c) provides special rules for partnerships. It states in part:If a trade or business regularly carried on by a partnership of which an organization is a member is an unrelated18 trade or business with respect to such organization, such organization in computing its unrelated business taxable income shall, subject to the exceptions, additions, and limitations contained in subsection (b), include its share (whether or not distributed) of the gross income of the partnership from such unrelated trade or business and its share of the partnership deductions directly connected with such gross income. * * As a preliminary matter, we note that section 512(c) was amended by section 10213(a) of the Omnibus Budget Reconciliation Act of 1987 (OBRA 1987), Pub. L. 100-203, 101 Stat. 1330-406, which placed the above-quoted language in section 512(c)(1). At the same time it added section 512(c)(2), which stated:(2) SPECIAL RULE FOR PUBLICLY TRADED PARTNERSHIPS. --Notwithstanding any other provision of this section--(A) any organization's share (whether or not distributed) of the gross income of a publicly traded partnership (as defined in section 469(k)(2)) shall be treated as gross income derived from an unrelated trade or business, and (B) such organization's share of the partnership deductions shall be allowed in computing unrelated business taxable income.19 The Commissioner's brief treated the provisions of section 512(c)(2) (as added by OBRA 1987) as determinative of whether petitioner received UBTI from its interests in limited partnerships. However, OBRA 1987 section 10213(b) stated: "Effective Date. --The amendment made by subsection (a) shall apply to partnership interests acquired after December 17, 1987." 101 Stat. 1330-407. Therefore, the amendments to section 512(c) made by OBRA 1987 section 10213(a) do not apply to the limited partnership interests at issue. 1 These 241 limited partnership interests must be judged under section 512(c) as it existed prior to OBRA 1987. The Commissioner's reply brief stated: "Inexplicably, petitioner ignores [section] 512(c)(2)". What is inexplicable is how the Commissioner could ignore the effective date of the amendment made to section 512(c). With that said, we now turn to section 512(c) as quoted above. Stated20 simply, section 512(c) prevents a taxpayer from avoiding the UBTI rules by becoming a member of a partnership that carries on what would otherwise be an unrelated trade or business. If the trade or business of the partnership would be an unrelated trade or business of its member organization, then the organization, in computing UBTI, must include its distributive share of the partnership's income and deductions from that business.Petitioner does not argue that the businesses conducted by the partnerships in which petitioner has interests would not be unrelated trades or businesses if conducted by petitioner. We find that issue to be conceded. See Rule 142(a). We must decide only whether petitioner was a "member" of the partnerships at issue.Petitioner was a partner, albeit a limited partner, in three limited partnerships. For us to decide that petitioner was not a "member" of these partnerships, we would have to decide that by using the word "member" Congress intended to define a class more narrow than the complete class of partners.Petitioner's argument as to the meaning of the word "member" is essentially the same as the contention made and rejected in Service Bolt & Nut Co. Profit-Sharing Trust v. Commissioner, 78 T.C. 812">78 T.C. 812 (1982),21 affd. 724 F.2d 519">724 F.2d 519 (6th Cir. 1983). As we stated then, "Petitioners would limit the meaning of the word 'member' to 'general partner.' There is nothing in the language or structure of these sections [512(c) and 513(b)] to demand or even justify reading into them petitioners' narrower requirement." Id. at 817-818.Petitioner attempts to distinguish Service Bolt & Nut Co. on its facts. We agree that the facts are readily distinguishable. However, the language quoted above is clear and unambiguous. There is no support for a reading of section 512(c) that excludes limited partners from the definition of "members".242 Petitioner argues that the addition of section 7704 and the subsequent repeal of section 512(c)(2)2 (as added by OBRA 1987) support its conclusion that it was not a member of the limited partnerships at issue. The point is not well taken. Section 7704 was added by OBRA 1987 22 section 10211(a), 101 Stat. 1330-403. The general rule of section 7704 is found in section 7704(a), which states that "For purposes of this title, except as provided in subsection (c) [not applicable here], a publicly traded partnership shall be treated as a corporation." Petitioner relies on this section to show its returns from its investments in limited partnerships were more like dividends than business income, and therefore should not be regarded as UBTI. See sec. 512(b)(1).Petitioner's argument fails to persuade us. First, we note that section 7704 was added by the same act that added section 512(c)(2) (special rule for publicly traded partnerships). It is hardly likely that section 7704 was indirectly meant to exclude from UBTI income from publicly traded limited partnerships when the same Congress explicitly stated at the same time that the income from publicly traded partnerships was to be included in UBTI.Second, the provisions of section 7704 will not apply to a partnership that was publicly traded on December 17, 1987, until December 31, 1997 (subject to certain conditions). See OBRA 1987 sec. 10211(c), 101 Stat. 1330-405. Therefore, for the years at issue the limited23 partnerships in which petitioner was a partner continued to be treated as partnerships. 3 We do not pass upon the effect of section 512(c) on an investment in a publicly traded partnership treated as a corporation, for that is not the case here.Petitioner next argues that the repeal of (then) section 512(c)(2) (special rule for publicly traded partnerships) by the Omnibus Budget Reconciliation Act of 1993, Pub. L. 103-66, sec. 13145(a), 107 Stat. 312, 443, evinces the intent of Congress to remove income from publicly traded partnerships from UBTI. Petitioner's argument goes too far. While the repeal of section 512(c)(2) removed the automatic classification of publicly traded partnership income as UBTI, a determination 243 is still to be made as to whether the24 partnership income represents UBTI upon the basis of section 512(c) itself. As the legislative history makes clear, "The provision repeals the rule that automatically treats income from publicly-traded partnerships as UBTI. Thus, under the provision, investments in publicly-traded partnerships are treated the same as investments in other partnerships for purposes of the UBTI rules." H. Rept. 103-111, at 617 (1993) (emphasis supplied); see also H. Rept. 103-213, at 549 (1993).Petitioner's final argument is that it never possessed the necessary intent to form a partnership. It argues that it merely possessed investments in corporate stock that, through no effort of its own, were converted to interests in limited partnerships.Petitioner relies on two Supreme Court cases, Commissioner v. Tower, 327 U.S. 280">327 U.S. 280 (1946), and Commissioner v. Culbertson, 337 U.S. 733 (1949), to show that it did not possess the necessary level of intent to form a partnership for Federal income tax purposes. It quotes the Supreme Court in stating that when determining whether a partnership exists, the question is whether "the parties in good faith25 and acting with a business purpose intended to join together in the present conduct of the enterprise." Commissioner v. Culbertson, supra at 742. Petitioner argues that, as a limited partner, it did not "come together in the present conduct of the enterprise" because of its limited (or nonexistent) role in management. Therefore, according to petitioner, no partnership was formed. Petitioner's argument must fail.Unlike the present case, both Tower and Culbertson involved situations where it was the Commissioner who was arguing against the existence of partnerships supposedly formed by the taxpayers. But it is well established that taxpayers are ordinarily bound by the form of their transaction while the Government can attack that form if it does not represent the substance of the transaction. See Commissioner v. National Alfalfa Dehydrating & Milling Co., 417 U.S. 134">417 U.S. 134, 149 (1974); Selfe v. United States, 778 F.2d 769">778 F.2d 769, 773 (11th Cir. 1985); Spector v. Commissioner, 641 F.2d 376">641 F.2d 376, 381 (5th Cir. 1981), revg. and remanding 71 T.C. 1017">71 T.C. 1017 (1979).26 Moreover, the record provides ample evidence that petitioner knew it was investing in a partnership. The summary of proxy statement for the March 8, 1983, special shareholders 244 meeting of the Newhall Land & Farming Co. clearly states that one of the primary purposes behind the creation of the two original limited partnerships was the elimination of the corporate tax on the entities' earnings through the formation of partnerships not subject to tax. The summary goes on to state that rulings had been received from the Internal Revenue Service regarding the classification of the partnerships as partnerships for Federal income tax purposes. Finally, the summary clearly states:The advisability of the Plan depends in large part upon the continuing treatment of the Partnerships as partnerships, rather than as associations taxable as corporations, for federal income tax purposes, and upon the continuing near equivalence of corporate federal income tax rates and maximum marginal individual tax rates. * Nearly identical statements appear in the summary of proxy statement for the October 17, 1984, special meeting of shareholders regarding the formation of the third limited27 partnership.We are convinced that petitioner not only knew what type of entity it was investing in, but also knew the importance of that choice of entity. Moreover, of particular significance is the fact that the record is devoid of evidence that petitioner, upon whom the burden of proof rests, did not sign and transmit both proxies in favor of the creation of and participation in the partnerships. We must therefore conclude that both were thus signed by petitioner, and by thus signing and transmitting such proxies, petitioner did indeed join together with the other stockholders in the formation of the partnerships. A vote in favor of the formation of the partnerships was the equivalent of simultaneously making application to become a partner, albeit a limited partner, in the partnerships. 428 2. Having determined that petitioner received UBTI from its investment in the partnerships, we now turn to the tax consequences of the receipt of UBTI. The parties agree that petitioner 245 is a charitable remainder unitrust within the meaning of section 664(d)(2). Charitable remainder unitrusts are taxable under section 664(c), which states:SEC. 664(c). EXEMPTION FROM INCOME TAXES. --A charitable remainder annuity trust and a charitable remainder unitrust shall, for any taxable year, not be subject to any tax imposed by this subtitle, unless such trust, for such year, has unrelated business taxable income (within the meaning of section 512, determined as if part III of subchapter F applied to such trust).It is clear that a charitable remainder unitrust is tax exempt as long as it remains free from UBTI. The treatment of a charitable remainder unitrust that does receive UBTI is clarified by section 1.664-1(c), Income Tax Regs., which states: "If the charitable remainder trust has any unrelated business taxable income (within the meaning of section 512 and the regulations thereunder * * ) for any taxable year, the trust is subject to all of the taxes imposed by subtitle A29 of the Code for such taxable year." An example made part of the regulation clearly states: "Because the trust has some unrelated business taxable income in 1975, it is not exempt for such year. Consequently, the trust is taxable on all of its income as a complex trust." (Emphasis supplied.)Having decided that petitioner received UBTI from its interests in the limited partnerships, it follows that the receipt of UBTI causes petitioner to be taxable to the full extent of its income as a complex trust. Petitioner argues that the statute is ambiguous and does not require such a result and the applicable regulation is arbitrary and capricious and, therefore, invalid. We hold otherwise.Whatever ambiguity may exist in section 664(c) is removed by section 1.664-1(c), Income Tax Regs. That regulation makes it clear that when a charitable trust receives UBTI in any year, it is taxable on its entire income for that year.All Treasury regulations are entitled to a high degree of deference from the courts. A Treasury regulation must be upheld if it "[implements] the congressional mandate in some reasonable manner". National Muffler Dealers Association v. United States, 440 U.S. 472">440 U.S. 472, 476-477 (1979)30 (quoting United States v. Correll, 389 U.S. 299">389 U.S. 299, 307 (1967)). Put differently, Treasury regulations "must be sustained unless unreasonable and plainly inconsistent with the revenue statutes". 246 Commissioner v. South Texas Lumber Co., 333 U.S. 496">333 U.S. 496, 501 (1948). 5 For the reasons stated below, we think that section 1.664-1(c), Income Tax Regs., is neither unreasonable nor inconsistent with section 664(c).The plain language of section 664(c) states that a charitable trust will be exempt from tax "unless such trust, for such year, has unrelated business31 taxable income". Petitioner would have us add the phrase "then the trust will be taxable only on that unrelated business taxable income" to the above quoted phrase. We decline to do so. The word "unless" clearly conditions the previously granted exemption. No persuasive evidence has been called to our attention to show that Congress meant to continue to provide a limited exemption if the taxpayer failed to meet the terms of the complete exemption.Petitioner argues that the legislative history accompanying section 664(c) supports its conclusion that Congress intended to tax charitable trusts only to the extent of UBTI. Section 664 was added by section 201(e) of the Tax Reform Act of 1969, Pub. L. 91-172, 83 Stat. 487. The original House version made no reference to UBTI, providing a blanket tax exemption. H.R. 13270, 91st Cong., 1st Sess. sec. 201(i) (1969). The Senate amendments added the current language of section 664(c).Petitioner quotes language from the Senate Finance Committee stating that "The Committee does not believe that it is appropriate to allow the unrelated business income tax to be avoided by the use of a charitable remainder trust rather than a tax exempt organization." 32 S. Rept. 91-552 (1969), 3 C.B. 423">1969-3 C.B. 423, 481-482. Petitioner focuses upon this language in its attempt to show that Congress was concerned only with the unrelated business income tax, which is imposed only on UBTI. Therefore, petitioner contends, Congress meant to tax only UBTI.The sentence preceding the above-quoted material leads us to a different conclusion. There the Senate Finance Committee stated that "The committee amendments modify * * * [the trust's tax exemption] so as to deny the exemption from 247 tax for any year in which the trust has income which would be unrelated business taxable income if the trust were an exempt organization subject to the unrelated business income tax." Id. at 481 (emphasis added). The committee spoke in terms of a complete denial of the exemption, as is the effect of the Commissioner's regulation.The plain language of the statute and our review of the relevant legislative history persuade us that section 1.664-1(c), Income Tax Regs., is a fair and reasonable interpretation of section 664(c). Moreover, "Exemptions as well as deductions are matters of legislative grace, and a33 taxpayer seeking either must show that he comes squarely within the terms of the law conferring the benefit sought." Nelson v. Commissioner, 30 T.C. 1151">30 T.C. 1151, 1154 (1958). Indeed, it has even been stated that a "well founded doubt is fatal to the claim [for exemption]". Estate of Bowers v. Commissioner, 94 T.C. 582">94 T.C. 582, 590 n.2 (1990) (quoting Bank of Commerce v. Tennessee, 161 U.S. 134">161 U.S. 134, 146 (1896)); Butka v. Commissioner, 91 T.C. 110">91 T.C. 110, 117 n.6 (1988) (quoting the same language from Bank of Commerce v. Tennessee, supra), affd. without published opinion 886 F.2d 442">886 F.2d 442 (D.C. Cir. 1989).In arguing against an interpretation of the statute that requires all the income to be subject to tax if there is some UBTI, petitioner says that such interpretation would result in the trust's forfeiture of its exempt status "no matter how deminimis [sic]" such UBTI might be. However, no such situation is involved here. Petitioner's UBTI in this case was substantial, $ 178,929 in 1988 and $ 291,689 in 1989. We therefore need not address the question whether34 the statute and regulation can be interpreted in such manner as to call for a different result in the case of a de minimis level of UBTI. Cf. Manning Association v. Commissioner, 93 T.C. 596">93 T.C. 596, 603 (1989); Copyright Clearance Center, Inc. v. Commissioner, 79 T.C. 793">79 T.C. 793, 805 (1982).We have found that petitioner's interests in the limited partnerships led to the receipt of substantial amounts of UBTI under section 512, and that the receipt of such UBTI causes petitioner to be taxable to the full extent of its income under section 664(c).3. We find further that petitioner is liable for the section 6661 addition to tax for the year 1988. Petitioner's income tax required to be shown on its 1988 return is $ 126,276. The 248 income tax shown on petitioner's 1988 return is $ 52,241. Therefore, the understatement of income tax of $ 74,035 exceeds the greater of $ 12,628 (10 percent of $ 126,276) or $ 5,000 and constitutes a substantial underpayment under section 6661. As petitioner conceded the fact that its Schedule D net gains were understated and offered no argument that it had substantial authority for the position taken*35 or that it disclosed its position, we sustain the Commissioner's addition to tax under section 6661.Decision will be entered for respondent. Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the taxable years at issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩1. The parties stipulated that petitioner received the limited partnership interests at issue in 1983 and 1985.↩2. Sec. 512(c)(2) was repealed in 1993. See infra↩ p. 242.3. While the parties stipulated that the partnerships were "publicly traded on the New York Stock Exchange during taxable years 1988 and 1989", there is sufficient evidence in the record to conclude that public trading began prior to Dec. 17, 1987.↩4. Petitioner's argument that its lack of a voice in management prevented the very formation of a partnership is without merit. Petitioner admits that the word "member" in sec. 512(c) should be read to include a "silent partner". See Service Bolt & Nut Co. Profit-Sharing Trust v. Commissioner, 78 T.C. 812">78 T.C. 812, 818 (1982), affd. 724 F.2d 519">724 F.2d 519 (6th Cir. 1983). Petitioner offers no explanation for how a "silent partner" is properly considered a "member" for purposes of sec. 512(c)↩, but, as petitioner contends, the lack of a voice in management prevents the taxpayer from even forming a partnership. Finally, we note that petitioner joined in the formation of the partnership through the investment of its capital in the partnership.5. The regulations here involved are supported not only by the Secretary's general authority in sec. 7805(a) to promulgate regulations, but also by the specific provisions in sec. 664(a) which state that sec. 664↩ shall apply "in accordance with regulations prescribed by the Secretary." Such specific authority granted to the Secretary calls for an even higher degree of deference to the regulations.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623782/	PATMON, YOUNG & KIRK PROFESSIONAL CORPORATION, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentPatmon, Young & Kirk Professional Corp. v. CommissionerDocket No. 9196-73.United States Tax CourtT.C. Memo 1975-185; 1975 Tax Ct. Memo LEXIS 188; 34 T.C.M. (CCH) 798; T.C.M. (RIA) 750185; June 12, 1975, Filed Stanley R. Kirk (an officer), for the petitioner. James E. Keeton, Jr., for the respondent. TIETJENSMEMORANDUM OPINION TIETJENS, Judge: The Commissioner determined a deficiency of $549.91 in petitioner's Federal income tax for the taxable year ended October 31, 1970. The sole question for decision is whether petitioner's contribution in the form of a demand promissory note to its employees profit-sharing trust meets the "paid" requirement of section 404(a), Internal Revenue Code of 19541, thus entitling petitioner to a deduction for the full amount of the note in the taxable year the note was issued. 189 This case was fully stipulated pursuant to Rule 122, Tax Court Rules of Practice and Procedure. The facts which we deem necessary for decision will be referred to below. Petitioner, a cash basis taxpayer, is a corporation organized under the laws of the State of Michigan with its principal office in Detroit, Michigan. Its return for the taxable year ended October 31, 1970, was filed with the Internal Revenue Service Center in Cincinnati, Ohio. The officers of Patmon, Young & Kirk Professional Corporation are Frederick A. Patmon, Hallison H. Young, and Stanley R. Kirk. Each owns a third of the common stock. On December 2, 1969, the officers sitting as the board of directors adopted the Patmon, Young & KirkProfessional Corporation Employees Profit-Sharing Plan and Trust and appointed Frederick Patmon, W. J. Bronson and Clarence B. Tucker trustees. On October 30, 1970, the board of directors authorized a contribution to the profit-sharing plan in the form of a promissory note in the amount of $2,400, and on the same day, the officers executed a guaranty agreement guaranteeing the payment of the promissory note. When the corporation filed its income tax return for the year ended190 October 31, 1970, it claimed a $2,400 deduction for profit-sharing. As of the date of trial no part of the principal of the promissory note had been paid by the petitioner to the profit-sharing plan although interest on the note was paid by the petitioner to the profit-sharing plan on October 20, 1972. The Commissioner, in his statutory notice of deficiency, disallowed the deduction claimed on the grounds that the note did not meet the "paid" requirement of section 404(a). Petitioner contends that its promissory note falls within the language of section 404(a) which states "If contributions are paid by an employer * * * they shall be deductible under this section" [emphasis supplied]. The Commissioner contends that the note does not represent payment for the purposes of section 404(a) because it was not actually paid within the taxable year at issue. In Don E. Williams Co.,62 T.C. 166">62 T.C. 166, 172 (1974), on appeal (7th Cir., Aug. 12, 1974), we held despite reversals by the Third, Ninth and Tenth Circuits in Slaymaker Lock Co.,18 T.C. 1001">18 T.C. 1001 (1952), reversed sub nom. Sachs v. Commissioner,208 F.2d 313">208 F.2d 313 (3rd Cir. 1953);*191 Time Oil Co.,26 T.C. 1061">26 T.C. 1061 (1956), revd. 258 F.2d 237">258 F.2d 237 (9th Cir. 1958); and Wasatch Chemical Co.,37 T.C. 817">37 T.C. 817 (1962), revd. 313 F.2d 843">313 F.2d 843 (10th Cir. 1963), that the requirement of "payment" of section 404(a) "is not satisfied by delivery of promissory notes of the employer seeking the deduction for the contribution to the pension or profit-sharing plan." We are bound by this decision to hold that petitioner may not deduct the sum represented by the promissory note. This is not a case for the application of the rule in Jack E. Golsen,54 T.C. 742">54 T.C. 742 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971), cert. den. 404 U.S. 940">404 U.S. 940 (1971). It will be appealable to the Sixth Circuit Court of Appeals which has not yet decided the issue. Decision will be entered for the respondent.Footnotes1. All statutory references are to the Internal Revenue Code of 1954 unless otherwise stated.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623786/	L & B PIPE & SUPPLY COMPANY, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentL & B Pipe & Supply Co. v. CommissionerDocket No. 10329-91United States Tax CourtT.C. Memo 1994-187; 1994 Tax Ct. Memo LEXIS 190; 67 T.C.M. (CCH) 2798; April 28, 1994, Filed 190 Decision will be entered for petitioner. For petitioner: Robert A. Levinson, Aaron W. Zimmer, and Bruce Givner. For respondent: Patrick W. Lucas. CLAPPCLAPPMEMORANDUM FINDINGS OF FACT AND OPINION CLAPP, Judge: Respondent determined the following deficiencies in and additions to petitioner's Federal corporate income taxes: FY YearAdditions to TaxEndedDeficiencySec. 6653(a)(1)Sec. 6653(a)(1)(A)Sec. 6653 (a)(1)(B)4/30/87$ 445,862-- $ 22,29314/30/88284,292-- 14,21424/30/89303,242$ 15,162-- -- The issues for decision are: (1) Whether salary and bonus amounts paid to petitioner's two shareholders in its fiscal years ending 1987-89 are deductible by petitioner as reasonable compensation under section 162(a)(1). We hold that they are. (2) Whether petitioner is liable for additions to taxes under sections 6653(a)(1) and 6653(a)(1)(A) and (B) during the years in issue. We hold that it is not. All section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax191 Court Rules of Practice and Procedure, unless otherwise indicated. FINDINGS OF FACT We incorporate by reference the stipulation of facts and attached exhibits. Petitioner is a California corporation whose principal place of business was in Torrance, California, at the time the petition was filed. Petitioner is a durable goods wholesaler of hardware, plumbing, and heating equipment supplies. The "L & B" in petitioner's name are the initials of its owners' names, Galen "Lynn" Craig (Craig) and Robert "Bob" Grosher (Grosher), who began the company in 1977. Grosher was petitioner's president and treasurer during the years in issue. Craig was petitioner's vice president and secretary during the same period. Grosher and Craig were petitioner's only officers and shareholders. Grosher and Craig met and became friends in high school. Upon graduating from high school, they served in the military, and in the 1970s they went to work for Todd Pipe and Supply Co. (Todd Pipe), one of the larger wholesale plumbing businesses in Los Angeles. Grosher and Craig started out as truck drivers and were promoted quickly to middle management. Craig took classes to learn to design irrigation systems192 and how to better run Todd Pipe's turf and irrigation department. Consequently, Craig was responsible for increasing his department's annual sales from $ 200,000 to $ 1.4 million within a few years. At Todd Pipe, Grosher and Craig noticed that the needs of smaller contractors and landscapers were being overlooked by the big wholesale companies. Grosher and Craig determined that those smaller customers provided the largest gross profit margins. Armed with several years' experience in the wholesale plumbing business and encouraged by their successes within their respective departments, Grosher and Craig left Todd Pipe in early 1977 to start their own plumbing supply company. Their goal was to tap the unexplored market segment of small plumbing and landscaping contractors by creating a company designed to cater to those customers' needs. Grosher and Craig sold their homes to raise petitioner's initial capitalization of $ 15,000. They were given a line of credit based on their personal guarantees and their well-prepared loan application package that included a projected sales analysis and inventory. Based on their reputations and relationships developed with plumbing supply vendors193 while at Todd Pipe, they were able to set up open accounts with many vendors and guaranteed loans for supplies from others. Grosher and Craig spent months deciding upon the proper location for their business, considering such factors as proximity of prospective customers, competitors and suppliers, and highway access. They finally decided to lease a former carbon factory in Torrance, California. Grosher and Craig personally rehabilitated the dilapidated building. Together they purchased, assembled, and repaired all of petitioner's original equipment. They slept in the warehouse at night for 2 months to safeguard petitioner's inventory. With an employee base including Grosher, Craig, and two drivers, petitioner opened for business in August 1977. In petitioner's early years, Grosher's and Craig's duties were the "hands on" operation of the business itself; i.e., making sales calls, purchasing inventory, collecting accounts, and loading materials onto trucks. Petitioner was open every day for business at 6:00 a.m., including Saturdays. Grosher and Craig worked long hours, 6 days a week, and half-days on Sundays. Their typical work day started with writing purchase orders at194 4:00 a.m., and they often worked until midnight filling out invoices before they computerized petitioner's operations. Petitioner had approximately 68 competitors in Los Angeles County during the years in issue. Because their emphasis was on supplying and catering to the needs of the small customers, many of whom dropped by to pick up parts, Grosher and Craig installed a 50-foot "will-call" counter to accommodate a large number of customers at a time. Whenever there was a line at the will-call counter, Grosher and Craig made sure "all hands were on deck", including themselves, to help customers at the counter. As evidence of their commitment to their customers, Grosher and Craig made it a policy to deliver any part, even a one-half inch elbow costing 50 cents, to any customer, anywhere, and on time, without a delivery charge. To this end, Grosher and Craig made sure that petitioner had twice as many delivery trucks as its competitors during the years in issue. Grosher and Craig installed radios in their delivery trucks so that they could immediately communicate special instructions and rush orders. Furthermore, unlike any of its competitors, petitioner made deliveries on Saturdays. 195 It was Grosher and Craig's policy not to charge restocking fees and to replace promptly any defective product. For this kind of service, they were able to both build goodwill and charge a premium. Having become buried under paperwork as petitioner's business grew, Grosher and Craig personally researched and purchased a computer system for $ 120,000 in 1978, at a time when only two of petitioner's competitors used computers. Grosher and Craig were thus able to computerize petitioner's invoicing, recordkeeping, and inventory control. They continually upgraded the system at costs exceeding $ 60,000. Due to its profitability, petitioner was able to afford the investment a year after opening without financing. Grosher and Craig used the computer to develop a sophisticated pricing matrix to price petitioner's products for each customer in a manner that achieved maximum gross profit margins. Grosher and Craig personally reviewed each customer's application for credit and determined a pricing code based on that customer's product needs. Grosher and Craig maintained their gross profit margin at 30 percent. Grosher and Craig took innovative measures in managing petitioner's accounts196 receivable. For example, they allowed customers to pay by credit card, which was not a common practice in the wholesaling business. Grosher and Craig guaranteed loans from their bank to certain customers having trouble paying their bills to petitioner. They also permitted delinquent customers to pay 20 percent (rather than 100 percent) of their past due amounts with each new order for which cash was paid. During the years in issue, petitioner's bad debt ratio was less than one-half of 1 percent, when the industry average was 2 percent. Craig designed petitioner's new facility when it outgrew its original space in 1982. Grosher and Craig financed and owned individually the new facility. Petitioner paid Grosher and Craig 37 cents per square foot as rent for the new facility for which Grosher and Craig each received $ 96,000 per year during the years in issue. Grosher and Craig also rented a small part of the space to another business for 26 cents per square foot during the same period. During a recession in 1983, Grosher and Craig increased petitioner's inventory and stayed committed to service. As a result of this action, they were able to increase petitioner's customer base197 40 percent during that period. In 1988, after a period of growth in the construction business, Grosher and Craig decided to limit petitioner's growth by not expanding its customer base. They refocused petitioner's concentration on catering to the needs of its current customers such that, although petitioner's rate of growth decreased, its gross profit was larger than ever. During the years in issue, Grosher and Craig performed all of petitioner's executive and managerial functions, sharing in them equally and each working approximately 65-70 hours per week. Together they handled all of the paperwork of the business, typically reviewing more than 7,000 pages of invoices and sales orders monthly, and signing approximately 300 disbursement checks monthly. They personally negotiated inventory prices and terms with each and every vendor, seeing to it that petitioner never missed a manufacturer's discount on its accounts payable. Grosher and Craig personally hired and trained all of petitioner's employees except drivers and unskilled laborers. They positioned their desks in the same office as everyone else in the company, so that they knew everything going on in the business, including198 observing how their employees handled vendors and customers. Similarly, petitioner's employees could observe how Grosher and Craig handled the business and thereby learn by example. During the years in issue, petitioner employed 28-36 people. It was Grosher and Craig's philosophy to compensate petitioner's employees at the top salary ranges of their industry, and consequently petitioner's employee turnover was very low. The highest level employee under Grosher and Craig was Mike Williams (Williams), who worked as petitioner's general sales manager. Williams primarily dealt with inside sales, price quotations, upkeep of the premises and equipment, and minor employee matters. During the years in issue, petitioner paid its employees salaries and bonuses. Williams received an annual salary during the years in issue that ranged from $ 42,000 to $ 47,000 and bonuses of $ 10,000 to $ 23,000. Petitioner's financial statements reflect the following: GrossGrossNetRetainedFYERevenueProfitIncomeEarnings1978$ 800,644144,8701,751 1,75119792,538,418583,83664,935 66,70419804,059,8721,136,765219,267 285,97119814,471,9061,207,41542,838 328,80919824,769,9141,430,97443,852 373,66119834,437,7591,331,326(186)372,47519846,055,0111,810,60676,129 448,60519857,223,1852,163,13891,717 540,32219867,877,8892,366,39374,950 615,27219879,710,4702,945,82969,022 684,294198811,776,8553,493,44468,194 752,488198911,901,1233,614,75851,379 803,867199 Petitioner has never paid any dividends. Grosher and Craig financed petitioner's growth with its profits. Grosher and Craig used petitioner's certified public accountant (C.P.A.), Dan Fiorito (Fiorito), as a financial adviser and sounding board for determining their levels of compensation and bonuses at each fiscal yearend. Petitioner's C.P.A. since 1983, Fiorito also serviced nine other clients in the wholesale plumbing industry during the years in issue. While maintaining his other clients' confidentiality, Fiorito was able to provide Grosher and Craig with information about some of petitioner's competitors' performance and compensation levels. Based on information from other clients, Fiorito concluded that petitioner's performance during the years in issue exceeded its competitors. Fiorito observed that his other clients' gross profit percentages ranged between 18 to almost 25 percent, while petitioner's gross profit percentage was approximately 30 percent during the years in issue. Grosher and Craig decided their compensation based on a number of considerations, including petitioner's profits each year. With Fiorito's input, they determined that petitioner had out-performed200 its competitors year after year in terms of maintaining its gross profit margins. Grosher and Craig therefore concluded that they deserved their admittedly high compensation during the years in issue. Because they had equal responsibilities and put in the same amount of time, Grosher and Craig received exactly the same salaries and exactly the same bonuses since petitioner's inception. The total salaries and bonuses paid to Grosher and Craig by petitioner were as follows: TotalDisallowed byAllowed byFYESalaryBonusCompensationRespondentRespondent1978$ 65,000065,0001979200,0000200,0001980244,0000244,0001981541,5410541,5411982519,7480519,7481983546,0000546,0001984236,000601,000837,0001985416,000598,0001,014,0001986420,000615,0001,035,0001987416,000844,0001,260,000964,011295,9891988424,000840,0001,264,000763,504500,4961989500,000820,0001,320,000861,871458,129As a percentage of gross profit, total compensation paid by petitioner to its stockholder-officers for each of the years 1978 through 1989 was 44 percent, 34 percent, 21 percent, 45 percent, 36 percent, 41 percent, 201 46 percent, 47 percent, 44 percent, 43 percent, 36 percent, and 36.5 percent. By statutory notice of deficiency, respondent disallowed the payments made to Grosher and Craig as set forth above, determining those amounts deducted as compensation to be unreasonable. During the years in issue, the compensation paid to Grosher and Craig was reasonable for the services performed. OPINION Section 162(a)(1) allows a corporation to deduct "a reasonable allowance for salaries or other compensation for personal services actually rendered" as a business expense. To come within the ambit of section 162(a)(1), the compensation must be both reasonable in amount and in fact paid purely for services. Sec. 1.162-7(a), Income Tax Regs. Although framed as a two-prong test, the inquiry under section 162(a)(1) has generally turned on whether the amounts of the purported compensation payments were reasonable. Elliotts, Inc. v. Commissioner, 716 F.2d 1241">716 F.2d 1241, 1243-1244 (9th Cir. 1983), revg. and remanding T.C. Memo 1980-282">T.C. Memo. 1980-282. What constitutes reasonable compensation to a corporate officer is a question of fact to be determined on the basis 202 of all the facts and circumstances of a case. Pacific Grains, Inc. v. Commissioner, 399 F.2d 603">399 F.2d 603, 605 (9th Cir. 1968), affg. T.C. Memo 1967-7">T.C. Memo. 1967-7. Petitioner has the burden of proving that the payments to Grosher and Craig were reasonable. Rule 142(a). Many factors are relevant in determining the reasonableness of compensation, and no single factor is decisive. Mayson Manufacturing Co. v. Commissioner, 178 F.2d 115">178 F.2d 115, 119 (6th Cir. 1949), revg. a Memorandum Opinion of this Court dated Nov. 16, 1948. Definition of the appropriate factors in this case is reviewable by the Court of Appeals for the Ninth Circuit as a question of law. Elliotts, Inc. v. Commissioner, supra at 1245. The Court of Appeals for the Ninth Circuit has divided the factors relevant to the reasonable compensation determination into the following five broad categories for analytical purposes. Roles in CompanyThe first category of factors identified by the Court of Appeals for the Ninth Circuit concerns the employees' roles in the company. Relevant considerations include Grosher and203 Craig's qualifications, hours worked, duties performed, as well as their general importance to petitioner's success. American Foundry v. Commissioner, 536 F.2d 289">536 F.2d 289, 292-292 (9th Cir. 1976). In this case we consider closely the nature and scope of Grosher and Craig's duties. They were both highly motivated, uniquely skilled, and extremely productive people. Together they handled all of petitioner's executive and managerial duties. Because of their dedication and thoroughness, working 65 to 70-hour work weeks during the years in issue, petitioner needed no other managers or executives, other than Williams. Under Grosher and Craig's direction, petitioner's gross sales, gross profit margins, retained earnings, and customer base grew steadily throughout its years in operation, including during a recession, and through the years in issue. The record amply demonstrates that petitioner's growth and success were due primarily to Grosher and Craig's extraordinary efforts. External ComparisonThe second category of relevant factors is a comparison of the employees' salaries with those paid by similar companies for similar services. Sec. 1.162-7(b)(3), 204 Income Tax Regs. Industry standards are important in determining whether compensation is reasonable. At trial both parties presented expert testimony as to what a like enterprise would pay for like services. Respondent's expert focused on the fact that no company of comparable size paid compensation amounts in the range of petitioner. Petitioner's experts noted that superior performers in petitioner's industry earned more compensation than average performers in larger companies. Respondent argued that petitioner's performance was not so superior as to justify such high compensation. Respondent's expert, Emmet James Brennan, III (Brennan), is the president of a compensation consulting firm. His primary responsibility is to research and establish pay rates for employees and executive compensation levels. According to surveys of financial statements of wholesalers of various categories (general merchandise, building materials, air conditioning, heating and refrigeration equipment and supplies, and industrial supplies) reviewed by Brennan, the average gross profit percentages ranged between 25 and 35 percent, putting petitioner's 30 percent gross profit percentage in the average205 range during the years in issue. Based on his review and analysis of the highest amounts paid for like services at organizations with sales comparable to petitioner's during the years in issue, Brennan determined the following maximum reasonable compensation amounts, including base salary, bonuses and other cash incentives: 198719881989Chief Executive Officer$ 237,470283,770307,710Chief Financial Officer189,520245,120293,170426,990528,890600,880In arriving at these numbers, Brennan considered data from organizations representing industry categories including wholesale trade and nonmanufacturing businesses, and public, as well as closely held companies. The data was not industry-specific, and in fact appeared not to include any wholesale plumbing companies. While pointing out that Brennan's figures represent the maximum reasonable compensation levels for a company of petitioner's size, respondent appears to stand by the reasonableness of her own determinations as set forth in her statutory notice, to wit, $ 295,989, $ 500,496, and $ 458,129, for 1987-89. Respondent has not attempted to explain the rationale behind nor the considerable206 fluctuation in her figures. In particular, we note that the amount of compensation allowed for 1988 is more than that allowed for 1989, while all of petitioner's performance figures clearly increased from 1988 to 1989. Petitioner rebutted respondent's expert's findings with the testimony and conclusions of several witnesses. James W. Kemp (Kemp), shareholder, vice president and chief financial officer of four of Todd Pipe's subsidiaries, and a direct competitor of petitioner's during the year in issue, testified that his compensation was substantially higher than the amounts paid to either Grosher or Craig during the years 1988-90. According to Kemp, the president of the Todd Pipe subsidiaries earned slightly in excess of the amount paid to Kemp. Todd Pipe did a larger volume of business than petitioner in terms of gross sales. Petitioner's expert Edwin A. Scott, Jr. (Scott), is a plumbing industry management consultant. During the years in issue, Scott owned The Wholesaler Magazine, a trade paper for wholesale distribution companies in the plumbing, piping, and heating industry, and lectured frequently on the subject of wholesale plumbing industry executive compensation. 207 The Wholesaler Magazine targeted plumbing supply executives and annually conducted an executive compensation survey. In Scott's opinion, Los Angeles was the second toughest market in which to compete in the country during the years in issue. Scott opined that the compensation paid to Grosher and Craig during the years in issue was reasonable based on the outstanding, unprecedented performance of petitioner in all aspects of its operations. Scott gauged petitioner's ability to generate gross profit dollars, to maximize employee efficiency, and to turn over inventory, and its credit and collection performance. Scott measured petitioner's employee efficiency by examining its annual sales dollars earned per employee. The wholesale plumbing industry average was $ 203,000 to $ 267,000 per employee per year, while petitioner's sales per employee ranged from $ 360,000 to $ 397,000 during the years in issue. In his 40 years of experience in the industry, Scott was unaware of any other companies achieving this level of performance. Sales growth provides a measure of a company's ability to enlarge upon a satisfied customer base, thus reflecting effective market penetration. Petitioner's208 sales growth of 5 and 10 percent for 1987 and 1988 respectively, was 20 percent above the industry average. Petitioner's reduced rate of growth in 1989 showed Grosher and Craig's uncanny prescience in predicting California's 1989 recession, in Scott's opinion. The faster a company can turn over its inventory the more it uses its capital to grow, which is another indicator of management expertise and efficiency. Petitioner turned its inventory between 8 and 10 times per year during the years in issue, while the industry norm was around 4 turns per year. In this area too, Scott was not aware of any other comparably sized company achieving petitioner's levels of inventory turnover. In terms of gross profit per employee, petitioner ranged from 85 to 125 percent above the industry norm. These high profits per employee reflected petitioner's superior performance in generating dollars of gross profit with far fewer man hours of work than the typical company, according to Scott. Here again petitioner's performance was unique in Scott's experience. Furthermore, no other company was able to maintain its gross profit margin at 30 percent during California's 1989 recession. In Scott's209 opinion, in addition to being petitioner's co-presidents, effectively, Grosher and Craig also did the work of five additional positions: chief financial officer (CFO), and sales, credit, purchasing, and warehouse managers. It would be entirely appropriate, therefore, for Grosher and Craig's compensation to reflect the combined salaries of the job positions they performed. For example, if they were each performing the work of three people, the relevant comparison would be the combined salaries of those three people at another company. Elliotts, Inc. v. Commissioner, 716 F.2d 1241">716 F.2d 1241, 1246 (9th Cir. 1983), revg. and remanding T.C. Memo 1980-282">T.C. Memo. 1980-282. According to data reviewed by Scott, the total compensation paid to an average wholesale plumbing company's two co-presidents, CFO, and managers of sales, credit, purchasing and warehouse, ranged between $ 994,000 to $ 1.57 million during the years 1987-89. Because petitioner's performance placed it in the highest performance category, Scott reasons, the compensation paid to Grosher and Craig during the years was reasonable even if it exceeded the high compensation reported210 in the surveys. Survey data does not always reflect the highest compensation paid because the highest paid executives are the least likely to disclose their compensation amounts. It was Scott's personal knowledge, however, that the compensation paid to Grosher and Craig did not exceed other high-performing executives in the wholesale plumbing industry. Petitioner had the most outstanding performance in terms of all the basic criteria of managing a wholesale business that Scott has ever encountered in his 40-year career. Petitioner also presented the testimony of Stephen H. Olson (Olson), president of Consilium, Inc., a consultant and valuation expert. In Olson's opinion, the compensation paid to Grosher and Craig during the years in issue was reasonable. We attach a great deal of weight to the expert testimony of Scott because of his knowledge of and experience with executive compensation in petitioner's specific industry. See Griswold Rubber Co., Inc. v. Commissioner, T.C. Memo. 1965-33 (citing Roth Office Equipment Co. v. Gallagher, 172 F.2d 452">172 F.2d 452 (6th Cir. 1949)). We are persuaded by petitioner's experts' testimony211 and by petitioner's C.P.A., Fiorito, that petitioner's performance was outstanding in comparison to its industry competitors during the years in issue, and that the compensation paid to Grosher and Craig was within an appropriate range for high-performing executives in petitioner's industry. Character and Condition of CompanyThe third category of factors identified by the Court of Appeals for the Ninth Circuit concerns the character and condition of the company. We focus on the company's size as indicated by its sales, net income, or capital value, and the complexities of the business and general economic conditions. Elliotts, Inc. v. Commissioner, supra at 1246. Petitioner has proved to our satisfaction that during the years in issue, it was a highly specialized company that succeeded in a highly competitive industry. As mentioned above, its gross revenues and gross profit margins indicate its prosperity even during a recession. There is no question that the remarkable growth and profitability of petitioner can be traced directly to the efforts of Grosher and Craig. Conflict of InterestThe primary issue in considering factors212 indicating a conflict of interest is whether some relationship exists between the company and the employees which might permit the former to disguise nondeductible corporate distributions of income as salary expenditures deductible under section 162(a)(1). "Such a potentially exploitable relationship may exist where, as in this case, the * [employees are] the taxpaying company's sole or controlling shareholder[s]". Elliotts, Inc. v. Commissioner, supra at 1246. The relationship in this case, where Grosher and Craig were petitioner's sole shareholders, warrants scrutiny. Id. The mere existence of such a relationship, coupled with an absence of dividend payments, however, does not necessarily lead to the conclusion that the amount of compensation is unreasonably high. Id. They are relevant factors but are not to be viewed in isolation. Id. at 1247. Furthermore, we will not presume a disguised dividend from the bare fact that a profitable corporation does not pay dividends. Id. at 1244; Owensby & Kritikos, Inc. v. Commissioner, 819 F.2d 1315">819 F.2d 1315, 1326-1327 (5th Cir. 1987),213 affg. T.C. Memo 1985-267">T.C. Memo. 1985-267. The Court of Appeals for the Ninth Circuit formulated the inquiry in such a situation by evaluating the compensation payments from the perspective of a hypothetical independent investor. The prime indicator is the return on its investors' equity. Owensby & Kritikos, Inc. v. Commissioner, supra at 1326-1327. If the company's earnings on equity after payment of the compensation remain at a level that would satisfy an independent investor, there is a strong indication that management is providing compensable services and that profits are not being siphoned out of the company disguised as salary. Elliotts, Inc. v. Commissioner, supra at 1247. Petitioner's expert witness on this point, Bruce L. Barren (Barren), is a merchant banker who specializes in valuing businesses, including assessing the reasonableness of compensation paid to executives. Barren testified that during the years in issue, an investor would have been happy with any of the following: a 6 percent dividend return plus 10 percent growth in retained earnings; a 20 percent growth in shareholders' 214 equity; or a capital appreciation factor in excess of 30 percent. He concluded that petitioner exceeded these requirements. In terms of outperforming their competition in gross margin management, Barren concluded that Grosher and Craig were compensated in line with their competitors in the same geographical area. Based on petitioner's performance, Barren would have paid Grosher and Craig more. In his view, any excess moneys earned by a company after achieving a satisfying return should go to the core executive team as compensation. Barren notes in particular that petitioner's gross profit increased by over $ 500,000 from 1987 to 1988, yet Grosher and Craig's compensation increased only $ 2,000 each. Olson also concluded that after payment of Grosher and Craig's compensation, petitioner achieved an above-average return on investment. The Court of Appeals for the Ninth Circuit specifically directs this Court to consider the significance of this data. Elliotts, Inc. v. Commissioner, 716 F.2d at 1247. It seems clear that petitioner's performance during the years in issue would have satisfied an independent investor and, therefore, indicates that215 Grosher and Craig were not exploiting their relationship with petitioner. Internal ConsistencyFinally, evidence of internal inconsistency in petitioner's treatment of payments to employees may indicate that the payments to Grosher and Craig were not reasonable compensation. Elliotts, Inc. v. Commissioner, supra at 1247. Bonuses that have not been awarded under a formal and consistently applied program are suspect, as are bonuses that track the percentage of the employee's stockholdings. Nor-Cal Adjusters v. Commissioner, 503 F.2d 359">503 F.2d 359, 362 (9th Cir. 1974), affg. T.C. Memo 1991-200">T.C. Memo. 1991-200. Evidence of a reasonable, long-standing, consistently applied compensation plan is probative that compensation is reasonable. Elliotts, Inc. v. Commissioner, supra at 1247. Petitioner consistently paid bonuses to its employees, including non-owner management, during the years in issue. As a policy matter, petitioner's employees were paid top dollar. Grosher and Craig also were compensated at the high end of petitioner's industry. They considered carefully the 216 input received from their C.P.A. in determining their compensation each year. As set forth in our findings, the compensation paid by petitioner to Grosher and Craig during the 12 years ending with fiscal 1989 (with the exception of one year) as a percentage of gross profits ranged from a low of 34 percent in 1979 to a high of 47 percent in 1985 of net sales. During the years in issue, 1987-89, it was 43, 36, and 36.5 percents respectively. This finding supports a conclusion that Grosher and Craig were compensated pursuant to a plan, albeit informal, that was applied consistently. See Mortex Manufacturing Co., Inc. v. Commissioner, T.C. Memo 1994-110">T.C. Memo. 1994-110. Grosher and Craig received equal salaries and bonuses since petitioner's inception and throughout the years in issue. Therefore, payments to them corresponded to their stockholdings in petitioner. We agree with petitioner that the evidence amply demonstrates that Grosher and Craig were equally responsible for the success of petitioner and thus merited equal compensation. The fact that the amounts track their equal ownership is not determinative in these circumstances. Incentive payment plans should217 be designed to encourage and compensate that extra effort and dedication so valuable to a company. Shareholder employees performing at such a level are no less entitled to benefit from incentive compensation. Elliotts v. Commissioner, 716 F.2d at 1248. The Court of Appeals for the Ninth Circuit has deemed the return on equity an independent investor would have achieved relevant to the consideration of the reasonableness of the compensation formula. Id. at 1248. A formula should reasonably compensate for the work done, the performance achieved, the responsibility assumed, and the experience and dedication of the employee, while at the same time allowing investors a satisfactory return on equity. Elliotts, Inc. v. Commissioner, supra at 1248. Petitioner has established that the amounts paid did not deter from a satisfactory return on equity. We conclude that petitioner has met its burden in proving that the amounts paid to Grosher and Craig reasonably compensated them for the work done, their performance achieved, the responsibility assumed, and their experience and dedication. *218 Id.We therefore conclude that the compensation paid to Grosher and Craig during the years at issue was reasonable. In view of our holding with respect to the reasonable compensation issue, petitioner is not liable for any additions to tax in any of the years in issue. To reflect the foregoing Decision will be entered for petitioner. Footnotes1. 50 percent of the interest due on $ 445,862.↩2. 50 percent of the interest due on $ 284,292.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623787/	WILLIAM SCOTT STUART, JR., TRANSFEREE, ET AL., Petitioners, v. Stuart V.Docket No. 1685-11, 1686-11 United States Tax Court2015 U.S. Tax Ct. LEXIS 17; April 1, 2015, FiledDecision text below is the first available text from the court; it has not been editorially reviewed by LexisNexis. Publisher's editorial review, including Headnotes, Case Summary, Shepard's analysis or any amendments will be added in accordance with LexisNexis editorial guidelines.17 v. ) Docket No. 1685-11, 1686-11, ) 1687-11, 1688-11. COMMISSIONER OF INTERNAL REVENUE, ))Respondent )ORDERFor cause, it isORDERED: That the Court's Opinion filed April 1, 2015, 144 T.C. No. 12(2015) is hereby amended as follows:On page 8, beginning on line 11 and continuing to line 12, change the words "Share Purchase Agreement" to the words "share purchase agreement".On page 11, on line 18, insert a comma between the words "on" and "August", so the last three words on the line read: "on, August 7,".On page 30, on line 14, delete the last word on the line, "transfers", and substitute, instead, the words "a transfer".On page 35, in footnote 7, at the end of the sixth line ofthe quoted material, add the following: [The second comma in the second to last line (which appears in the original) appears to be an error. The final phrase of the sentence likely should read: "not the Tax Court under Section 6901."]On page 41, beginning on line 7, delete the following sentence: Value, however, does not include an executory promise other than a promise made in the ordinary course ofthe promisor's business to furnish support to the debtor or to another. Substitute, instead, the following sentence: Value, however, does18 notSERVED Apr 15 2015- 2 -include an unperformed promise made otherwise than in the ordinary course ofthe promisor's business to furnish support to the debtor or to another.On page 44, on line 12, strike the word "account" and substitute, instead, the word "agreement".On page 46, beginning on line 10, delete the following sentence: Little Salt received no value, much less reasonably equivalent value, on account ofthe transfer. Substitute, instead, the following sentence: Little Salt did not receive reasonably equivalent value on account ofthe transfer.On page 57, on line 13, strike the amount "$467,721" and substitute, instead, the amount "$358,826".On page 63, strike the decision line "Decisions will be entered for respondent." and substitute, instead, "Decisions will be entered under Rule 155."(Signed) James S. HalpernJudgeDated: Washington, D.C.April 15, 2015	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623790/	EDWARD C. SIMMONS II AND ST. LOUIS UNION TRUST COMPANY, AS EXECUTORS OF THE ESTATE OF WALLACE D. SIMMONS, DECEASED, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. EDWARD H. SIMMONS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. RICHARD W. SIMMONS, VIRGINIA W. SIMMONS AND ST. LOUIS UNION TRUST COMPANY, AS EXECUTORS OF THE ESTATE OF GEORGE W. SIMMONS, DECEASED, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Simmons v. CommissionerDocket Nos. 47210-47212.United States Board of Tax Appeals32 B.T.A. 320; 1935 BTA LEXIS 963; April 3, 1935, Promulgated 963 Holders of common participation shares of a trust transferred their shares to a corporation in exchange for shares of its preferred stock, marketable securities of other companies, and cash. Held that there was no reorganization within the meaning of section 202(c)(2) of the Revenue Act of 1921, that the transaction of each shareholder constituted an exchange of property held for investment for property of a like kind or use, except as to the cash involved, within the meaning of section 202(c)(1) of such act, as it was in effect during the calendar year 1922, and that, since the cash received did not exceed the basis of the shares exchanged, no taxable gain was derived. Hal C. Bangs, Esq., for the petitioners. T. M. Mather, Esq., for the respondent. MCMAHON 321 These are proceedings, duly consolidated for hearing and disposition, for the redetermination of deficiencies in income taxes for the year 1922 in the respective amounts of $42,706.21, $30,872.09, and $29,001.72. In each proceeding it is alleged that the respondent erred in including in taxable income profits alleged by respondent to have resulted from the exchange of common964 stock of the Associated Simmons Hardware Cos. for preferred stock of the Winchester-Simmons Co., stocks of other companies, and cash. In Docket No. 47210 it is also alleged that the respondent erred in twice including the sum of $1,997.63 in cash received by Wallace D. Simmons in connection with the transaction. The parties entered into a stipulation of facts, which we adopt as part of our findings of fact and incorporate herein by reference, setting forth, however, only those portions which we deem necessary to an understanding of the proceedings. The other evidence in the proceedings consists of admissions in the pleadings and evidence offered at the hearing. FINDINGS OF FACT. Wallace D. Simmons, Edward H. Simmons, and George W. Simmons were the owners of approximately 60 percent of the common shares and approximately 22 percent of the preferred shares of the nationally known hardware business called "Associated Simmons Hardware Companies", which was formed under a trust agreement dated April 26, 1920. Such trust was created in Massachusetts and in the trust agreement it was provided that the construction and effect thereof should be subject to and according to the laws965 of the State of Massachusetts. Under the declaration of trust a provision was made for the issuance of both preferred and common participation shares, the preferred having a par value of $100 per share and the common having a par value of $10 per share. It had outstanding, in 1922, 51,000 preferred shares and 930,000 common shares. In that year it also had outstanding secured debentures in the amount of $7,000,000 or $7,500,000. Prior to July 6, 1922, Edward H. Simmons owned 1,958 preferred shares and 175,500 common shares of the Associated Simmons Hardware Cos. On July 6, 1922, he delivered to his wife, Mabel F. Simmons, and his daughter, Dorothy L. Simmons, each, a certificate for 50,000 common shares of the Associated Simmons Hardware Cos. 322 or interim receipts representing such shares. Thereafter, Edward H. Simmons had no further interest in those securities and upon the transaction with the Winchester-Simmons Co., hereinafter referred to, his wife and daughter received the consideration in exchange for the shares which he had transferred to them. Prior to such transaction, George W. Simmons had transferred 40,000 of his 155,500 Associated Simmons Hardware Cos. 966 common shares to his wife and 40,000 shares to his wife as trustee for his children. The principal office of the Associated Simmons Hardware Cos. was in the city of St. Louis, Missouri. It was a holding company and did not engage in any business of manufacturing or distributing. Its assets consisted of shares of stock in various wholesale hardware distributing houses, manufacturing corporations, and allied lines throughout the United States. It owned and controlled the capital stock of these operating companies. Under the declaration of trust, the trustees controlled and operated the business of the Associated Simmons Hardware Cos. On or about April 25, 1922, negotiations were opened between George W. Simmons (representing the holders of the majority of the Associated Simmons Hardware Cos. common shares) and certain stockholders of the Winchester Co., a Delaware corporation, which was engaged primarily, through subsidiaries, in the manufacture of hardware, guns, ammunition, and kindred products, and which controlled the Winchester Repeating Arms Co., which had a factory at New Haven, Connecticut. The negotiations were had with a view toward organizing a new corporation967 to acquire the common shares of the Associated Simmons Hardware Cos. and the common stock of the Winchester Co. with a view to coordinating the business interests of those two holding companies and their respective various operating subsidiaries. In these negotiations George W. Simmons represented the Simmons family interests, on the one hand, and C. S. Sargent, Jr., represented the Winchester interests on the other. For the purpose of facilitating the negotiations, Wallace D. Simmons and Edward H. Simmons transferred their Associated Simmons Hardware Cos. common shares to their representative, George W. Simmons, under date of April 25, 1922, to be held by him merely as their agent for such purpose. During the period of the negotiations, from April 25, 1922, to September 27, 1922, none of the shareholders, officers, or trustees of either of the negotiating companies was associated in any way with the other company or with any of their respective subsidiaries. None of the petitioners was at any time a dealer in the shares of the Associated Simmons Hardware Cos. The Associated Simmons 323 Hardware Cos. common shares held by Wallace D. Simmons, Edward H. Simmons, and968 George W. Simmons were held for investment purposes. They did not sell any of such shares. On June 26, 1922, the Associated Simmons Hardware Cos. sent a letter to each of the holders of its common shares. In such letter it was stated that a new corporation was to be immediately organized and known as the Winchester-Simmons Co., the stock of which was to be distributed to the shareholders of the Winchester Co. and the Associated Simmons Hardware Cos.; that the Mercantile Trust Co. of St. Louis was to act for the shareholders of the Associated Simmons Hardware Cos. in the transaction and, upon receipt of the shares of the Associated Simmons Hardware Cos., should issue interim receipts; and that the Mercantile Trust Co. should receive as compensation for its services in negotiating the transaction and for handling the details of it a commission of 5 percent of the net tangible value to be established, this 5 percent to be deducted by the Mercantile Trust Co. in making its return to each shareholder. Under date of August 28, 1922, the Winchester-Simmons Co. was incorporated under the laws of the State of Delaware, with an authorized capital stock of 350,000 shares, of which 100,000969 shares were 7 percent preferred stock of the par value of $100 per share, and 250,000 shares were common stock without par value. On or about June 24, 1922, the Mercantile Trust Co., of St. Louis, was appointed as the depositary to receive any Associated Simmons Hardware Cos. common shares which might be surrendered by their holders for exchange pursuant to the aforesaid negotiations, and to distribute any shares of the new corporation and other property which might be delivered pursuant to the negotiations, and under date of June 24, 1922, it received from George W. Simmons all of the Associated Simmons Hardware Cos. common shares which were held by him personally, as agent, or in a fiduciary capacity. On September 15, 1922, there was sent to the holders of Associated Simmons Hardware Cos. common shares a letter signed by Wallace D. Simmons, Edward H. Simmons, and George W. Simmons, which stated, in part, as follows: * * * The basis of exchange for the common shares of Associated Simmons Hardware Companies has been determined to be $6.25 per share, and exchange will be made as follows: For each share of Common stock of Associated Simmons Hardware Companies, the registered970 holder of which has filed his assent thereto with the Mercantile Trust Company, St. Louis, as depositary, there will be given in exchange - (a) 324 $3.75 in cash, plus interest therein at the rate of 6% per annum from September 15, 1922, to the date of payment to the Mercantile Trust Company by The Winchester-Simmons Company, or at the option of the holder, marketable securities acceptable to the holder, but no interest will be paid after October 1, 1922; and (b) $2.50 in The Winchester-Simmons Company 7% Preferred Stock at par. (c) In reaching the above figures certain assets of doubtful value have not been determined. If any value is later determined for these assets, in accordance with the agreements with reference thereto, there will be a further pro rata distribution of Preferred Stock. * * * * * * No certificates for fractional shares of Preferred Stock of The Winchester-Simmons Company will be issued, but the Mercantile Trust Company will, up to October 15, 1922, out of funds reserved for commissions and expenses, purchase at par fractional interests in said preferred shares to which depositors are entitled, or sell at par to depositing shareholders additional971 fractional interests in such preferred shares sufficient to enable each depositing shareholder to receive a certificate for an integral number of shares. * * * * * The above arrangement has been approved and accepted by the undersigned and other officers of the Simmons Hardware Company in lieu of the arrangement set forth in the letter of June 28, 1922, and they have executed the assent thereto in the same form as herewith enclosed. * * * On September 26, 1922, the Winchester-Simmons Co. made separate written offers to Wallace D. Simmons, Edward H. Simmons, George W. Simmons, Mabel F. Simmons, Dorothy L. Simmons, and Virginia W. Simmons, to deliver to them certain listed "marketable securities" consisting of shares of common and preferred stocks of other companies, and cash, together with 7 percent preferred stock of the Winchester-Simmons Co. in exchange for Associated Simmons Hardware Cos. common shares owned by them. These offers were accepted for the parties by Roy H. Goddard, attorney in fact, on September 27, 1922, and the considerations recited were received and receipted for by them. On the same date the Mercantile Trust Co. received from them cash and shares972 of preferred stock of the Winchester-Simmons Co., as commissions for its services and to cover actual expenses other than those of the Mercantile Trust Co. The following tabulation shows the amount of cash and the number of shares of preferred stock of the Winchester-Simmons Co. received by each of the shareholders of the Associated Simmons Hardware Cos., the number of Associated Simmons Hardward Cos. common shares which each transferred to the Winchester-Simmons Co., and the amount of cash and the number of shares of preferred stock of 325 the Winchester-Simmons Co. which they each paid to the Mercantile Trust Co. to cover commissions and other expenses: Received from Winchester-Simmons Co. 1Commissions and expenses paid to Mercantile Trust Co.CashNumber of shares of preferred stock of Winchester-Simmons Co.Number of Associated Simmons Hardware Cos. common shares transferred to Winchester-Simmons Co.CashNumber of shares of preferred stock of Winchester-Simmons Co.Wallace D. Simmons$42,797.635,440217,600$40,800.00272Edward H. Simmons16,909.671,887 1/275,50014,156.2594 3/8George W. Simmons16,511.251,887 1/275,50014,156.2594 3/8Mabel F. Simmons10,221.251,25050,0009,375.0062 1/2Dorothy L. Simmons10,221.251,25050,0009,375.0062 1/2Virginia W. Simmons157,648.752,00080,00015,000.00100973 By October 14, 1922, the Winchester-Simmons Co. had received from the Mercantile Trust Co., pursuant to the above described transactions with the petitioners on September 27, 1922, and pursuant to transactions with other holders of outstanding common stock of the Associated Simmons Hardware Cos. approximately 98 percent of the total outstanding shares of common stock of the Associated Simmons Hardware Cos.; and or about the same date, the Winchester-Simmons Co. also acquired title to approximately 90 percent of the total outstanding shares of common stock of the Winchester Co. At the time of this transaction none of the preferred shares of the Associated Simmons Hardware Cos. were acquired by the Winchester-Simmons Co. After these transactions took place the Associated Simmons Hardware Cos. still continued in operation and continued to hold the stocks of the same operating and manufacturing companies974 which it had theretofore held. Thereafter, the Winchester Co. continued with its operations for an undisclosed period of time. After acquiring the 90 percent of the common stock of the Winchester Co. and approximately 98 percent of the common shares of the Associated Simmons Hardware Cos. in 1922, the Winchester-Simmons Co. did not carry on any business other than merely holding such shares of the Associated Simmons Hardware Cos. and the Winchester Co. - in short, the Winchester-Simmons Co. was a holding company. The fair market value basis for determining gain or loss for income tax purposes on the Associated Simmons Hardware Cos. 326 common shares at the time the above mentioned transactions were consummated on September 27, 1922, was $2.0747 per share. In the deficiency notices the respondent held that the transactions in question resulted in taxable gain. In the deficiency notice mailed to Wallace D. Simmons, the respondent stated in part as follows: From the information submitted, it would appear that you exchanged your stock in the Associated Simmons Hardware Company for 7% preferred stock in the Winchester-Simmons Company at par ($2.50) and $3.75 in cash, 975 or at your option an equivalent amount of any marketable securities acceptable to you. * * * Under such circumstances it is evident that the fair market value of the securities received in lieu of cash was equivalent to the amount paid for such securities by the depository, that is, $3.75 per each share of the Associated Simmons Hardware Companies common stock. In the opinion of this office, the exchange of stock is governed by Section 202(e) of the Revenue Act of 1921, which provides in part as follows: Where property is exchanged for other property which has no readily realizable market value, together with money or other property which has a readily realizable market value, then the money or the fair market value of the property having such readily realizable market value received in exchange shall be applied against and reduce the basis, provided in this section, of the property exchanged, and if in excess of such basis, shall be taxable to the extent of the excess; * * . The stock of the outside corporations received by you in exchange must be treated as "other property" because it was not "stock or securities in a corporation, a party to or resulting from such reorganization" 976 within the language of Section 202(c)(2). Accordingly, the application of the $3.75 against the basis of $2.0747, leaves a taxable excess of $1.6753 resulting from the exchange of each share of common stock in the Associated Simmons Hardware Companies. Upon the sale or other disposition of the preferred stock received in exchange, the full amount should be reported for income tax purposes. Since you owned 217,600 shares of stock in the Associated Simmons Hardware Companies, the profit taxable in your 1922 return has been computed as follows: 217,600 shares at $1.6753$364,545.28Less: Commission40,800.00Balance$323,745.28Less: Additional Commission45.00Balance$323,700.28Plus: Additional cash received2,297.63Profit realized$325,997.91The deficiency notices sent to Edward H. Simmons and George W. Simmons are substantially the same as that above quoted. The respondent determined that Edward H. Simmons owned 175,500 shares in the Associated Simmons Hardware Cos. and that he 327 derived a profit of $265,170.82. He determined that George W. Simmons owned 155,500 shares in the Associated Simmons Hardware Cos. and that he realized a977 profit upon the transaction of $233,630.40. OPINION. MCMAHON: At the hearing counsel for the respondent conceded error in holding that George W. Simmons transferred 155,500 Associated Simmons Hardware Cos. common shares to the Winchester-Simmons Co., since prior to that time he had transferred 40,000 shares to his wife and 40,000 shares to his wife as trustee for his children. George W. Simmons transferred 75,500 shares to the Winchester-Simmons Co. The respondent held that Edward H. Simmons transferred 175,500 Associated Simmons Hardware Cos. common shares to the Winchester-Simmons Co. However, the evidence shows that this was error on the part of the respondent. Prior to that time Edward H. Simmons had delivered to his wife, Mabel F. Simmons, and his daughter, Dorothy L. Simmons, each, a certificate for 50,000 common shares or interim receipts representing such shares, and he transferred to the Winchester-Simmons Co. 75,500 common shares in the transaction in question. The respondent held that the transfers of Associated Simmons Hardware Cos. common shares by Wallace D. Simmons, Edward H. Simmons, and George W. Simmons to the Winchester-Simmons Co. in exchange for preferred978 stock of such company, "marketable securities" of other companies, and cash are governed by section 202(c)(2) and (e) of the Revenue Act of 1921. He held that the three individuals had the right to exchange each share for preferred stock in the Winchester-Simmons Co. and $3.75 in cash, or, at their option, an equivalent amount of any marketable securities acceptable to them. He held that under these circumstances the fair market value of the securities received for each Associated Simmons Hardware Cos. common share in lieu of cash was equivalent to $3.75, the amount which, respondent held, was paid for such securities by the depositary, and held that gain was derived upon the transfer of each Associated Simmons Hardware Cos. common share in the amount of the excess of $3.75 over the basis. Respondent held that the basis was $2.0747 for each Associated Simmons Hardware Cos. common share, and it has been stipulated that this is the proper basis. Respondent, in his computation of gain derived, included no value for the preferred stock of the Winchester-Simmons Co. received by each of the individuals, but stated in the notice of deficiency that, upon the later sale or other disposition979 of such preferred stock, the full amount should be reported for income tax purposes. The petitioners 328 contend that the exchanges come within the provisions of section 202(c)(1) of the Revenue Act of 1921. They claim that both the preferred stock of the Winchester-Simmons Co. and the common and preferred stock of other companies, which they received on the exchange, are of a like kind or use to the shares exchanged within the meaning of that section, and that the exchange to this extent is nontaxable. They admit that the cash received, less cash commissions paid therefrom, would be taxable if in excess of the basis, under the provisions of the second clause of section 202(e), but point out that cash was not received in excess of the basis. There is set forth in the margin section 202(c)(1), (2) and (e) of the Revenue Act of 1921. 1980 It should be pointed out that certain amendments made to section 202(c)(1) and (e) of the Revenue Act of 1921 by an act of Congress approved March 4, 1923, are not applicable in the instant proceeding, since the act specifically provides that it should take effect January 1, 1923. The respondent held that the depositary paid cash for these securities of other companies and, in effect, treated the transaction as one in which the individuals received cash and then purchased stocks of the other companies, rather than an exchange, in part, of the common participation shares for stock of the other companies. There is some evidence to indicate that it was contemplated that the depositary should buy stock of other companies suitable to the individuals. The letter of September 15, 1922, setting forth the proposal to the shareholders 329 of the Associated Simmons Hardware Cos. stated that in addition to the preferred stock of the Winchester-Simmons Co. there should be received for each Associated Simmons Hardware Cos. common share $3.75 in cash, or, at the option of the holder, marketable securities acceptable to the holder. However, it is apparent that this plan was not carried981 out. On the other hand, on September 26, 1922, the Winchester-Simmons Co. made separate written offer to each of the individuals, setting forth a list of the "marketable securities" of other companies which it offered to each such shareholder of the Associated Simmons Hardware Cos., together with cash and preferred stock of the Winchester-Simmons Co. The offer last made was accepted in each instance. In our opinion, it can not be said, in view of the these circumstances, that the shareholders of the Associated Simmons Hardware Cos. received cash and then, with a portion of such cash, purchased stock of other companies. We, therefore, hold that there was an exchange of common shares of the Associated Simmons Hardware Cos. for preferred stock of the Winchester-Simmons Co. and preferred and common stock of other companies, together with cash. The evidence shows to our satisfaction that the individuals held all their Associated Simmons Hardware Cos. common shares for investment, and that such individuals were not dealers in securities; and the question to be determined is whether the preferred stock of the Winchester-Simmons Co. and common and preferred stocks of the other companies982 received by the individuals from the Winchester-Simmons Co. were property of a like kind or use as compared with the common shares of the Associated Simmons Hardware Cos. which they exchanged therefor, within the meaning of section 202(c)(1), or whether it was "other property" within the meaning of the second clause of section 202(e). In ; affd., , we stated in part: * * We see no justification for saying as a matter of law that for the purpose of this statute stocks and bonds are per se not property of like kind or use. The words can not fairly be regarded as importing distinctions which have no relation to the purpose of the statute. Stocks and bonds are both commonly regarded as investment property, and if in any case they are not so in fact it must be because the evidence so indicates. * * * If the test lies in an identity of legal rights inherent in the property, the provision could be practically nullified. * * * In 983 , reversing , the court stated: * * It seems reasonably clear that Congress intended that paper profits or paper losses resulting from the exchange of securities held for investment purposes, whether stocks or bonds, commonly known as "wash sales," should not be reflected in taxable income. It was evidently not intended that such 330 profits or losses, if resulting from an exchange of common stock for bonds, preferred stock, bonds with conversion privileges, profit-sharing certificates, debentures, beneficial certificates in common-law trusts, or other evidences of the obligations of or rights of participation in the profits or property of corporate or other entities which are known to the modern financial world and generally sold to the public as "investment securities", should stand on any different basis than exchanges of stock for stock or bonds for bonds. * * To the same effect is , petition for review dismissed on stipulation of the parties July 23, 1931, by the United States Circuit Court of984 Appeals for the Third Circuit in Commissioner v. Girard Trust Co. et al., Executors. See also ; ; and ; petition for review dismissed by the United States Circuit Court of Appeals for the Fifth Circuit in . It will thus be seen that the words "like kind or use" employed in section 202(c)(1) with regard to property held for investment have received liberal interpretation. Upon the authorities cited we hold that both the preferred stock of the Winchester-Simmons Co. and the preferred and common stock of the other companies were property of a like kind or use as compared with the common shares of the Associated Simmons Hardware Cos. which were exchanged within the meaning of this section and that such stock was not "other property" within the meaning of the second clause of section 202(e). In so holding we have not overlooked the fact that the Associated Simmons Hardware Cos. is not and was not a true corporation, but a trust. At the hearing and on brief counsel for985 petitioners stated that the Associated Simmons Hardware Cos. is and was a so-called Massachusetts trust, and this statement was not challenged by the counsel for respondent. The petitioners state on brief that it is and was an association taxable as a corporation; and no contention has been raised by the respondent that its shares are not property of a like kind or use as compared with stock of a true corporation, upon the grounds that its shares are in reality participation shares in a trust. On the contrary, the respondent, in his determination, has treated it as a true corporation, inasmuch as he held that these transactions amounted to a reorganization of a corporation under section 202(c)(2). In any event, we consider the words "like kind or use", as interpreted by the above cited authorities, as broad enough to cover the transactions in question in these proceedings. In the deficiency notices the respondent stated that the stock of the outside corporations received by the individuals in exchange must be treated as "other property" because it was not "stock 331 or securities in a corporation a party to or resulting from such reorganization" within the language of986 section 202(c)(2). The respondent thus determined that these transactions consistuted a reorganization within the meaning of such section, but he has not favored us with any brief in support of his determination. The petitioners contend that there was no reorganization, but that even if there were, the securities of the other companies which were received would not be taxable. We find it unnecessary to decide whether such securities of other companies would be taxable if there had been a reorganization, since, in our opinion, it is clear that there was no reorganization within the meaning of the statute. Here the transactions between the Winchester-Simmons Co., on the one hand, and the stockholders of the Winchester Co. and the shareholders of the Associated Simmons Hardware Cos., on the other hand, did not constitute a true merger or consolidation, nor did they result in anything of the nature of a merger or consolidation. There was apparently no intention of accomplishing a merger or consolidation. We find it unnecessary to predicate these conclusions upon the facts that neither of the old companies was to go out of existence and that neither did. The Winchester-Simmons987 Co. did not acquire any of the preferred shares of the Associated Simmons Hardware Cos., nor did it acquire any of its assets. It appears that the Winchester-Simmons Co. was nothing more than a holding company, holding a large percentage of the common stock of the Winchester Co., and the common shares of the Associated Simmons Hardware Cos. Both the Winchester Co. and the Associated Simmons Hardware Cos. retained the assets which they had always held. There was no recapitalization, or mere change in identity, form, or place of organization of the Associated Simmons Hardware Cos. Upon principles enunciated in the following cases, we hold that there was here no reorganization within the meaning of section 202(c)(2) of the Revenue Act of 1921: , affirmed on this point Feb. 18, 1935, in ; . See , and 988 ; and see discussion in . Under section 202(c)(1) and the last part of section 202(e) none of the stock received in exchange is taxable, and, since the cash received (not exceeding 25 cents per share) was not in excess of the basis of the common shares of the Associated Simmons Hardware Cos., there was no taxable gain derived upon the transactions by any of the individuals with whom we are concerned. . 332 It is alleged in Docket No. 47210 that the respondent erred in twice including the cash received by Wallace D. Simmons in connection with the transfer of his Associated Simmons Hardware Cos. common shares to the Winchester-Simmons Co. An examination of the notice of deficiency discloses that the respondent did commit such an error. In view of our holding, however, that the cash received did not exceed the basis of the shares exchanged and that Wallace D. Simmons did not derive any taxable gain upon the transactions, this error of the respondent becomes of no consequence here. Decision will be entered under989 Rule 50.Footnotes1. In addition there were received by each certain "marketable securities" of other companies listed in exhibits included in the stipulation of facts, and other exhibits introduced in evidence at the hearing. They consisted of common and preferred stock of the companies. ↩1. (c) For the purposes of this title, on an exchange of property, real, personal or mixed, for any other such property, no gain or loss shall be recognized unless the property received in exchange has a readily realizable market value; but even if the property received in exchange has a readily realizable market value, no gain or loss shall be recognized - (1) When any such property held for investment, or for productive use in trade or business (not including stock-in-trade or other property held primarily for sale), is exchanged for property of a like kind or use; (2) When in the reorganization of one or more corporations a person receives in place of any stock or securities owned by him, stock or securities in a corporation a party to or resulting from such reorganization. The word "reorganization," as used in this paragraph, includes 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 of substantially all the properties of another corporation), recapitalization, or mere change in identity, form, or place of organization of a corporation, (however effected); or * * * (e) Where property is exchanged for other property which has no readily realizable market value, together with money or other property which has a readily realizable market value, then the money or the fair market value of the property having such readily realizable market value received in exchange shall be applied against and reduce the basis, provided in this section, of the property exchanged, and if in excess of such basis, shall be taxable to the extent of the excess; but when property is exchanged for property specified in paragraphs (1), (2), and (3) of subdivision (c) as received in exchange, together with money or other property of a readily realizable market value other than that specified in such paragraphs, the money or fair market value of such other property received in exchange shall be applied against and reduce the basis, provided in this section, of the property exchanged, and if in excess of such basis, shall be taxable to the extent of the excess. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623792/	Hilton V. and Gertrude D. Carter v. Commissioner. Hilton V. Carter, Sr. v. Commissioner. Hilton V. Carter, Sr., and Gertrude Coxe v. Commissioner. Gordon H. and Carrie Mae Brame v. Commissioner. Brame & Carter, Inc. v. Commissioner.Carter v. CommissionerDocket Nos. 48292, 53519-53521, 67601-67604 * .United States Tax CourtT.C. Memo 1960-205; 1960 Tax Ct. Memo LEXIS 82; 19 T.C.M. (CCH) 1090; T.C.M. (RIA) 60205; September 30, 196082 Held: ( 1) that certain monthly payments made by the corporate petitioner, which operated an automobile dealership, to its stockholders, the individual petitioners, constituted dividends to such individuals rather than loans and that certain weekly payments so made were salaries taxable to the individuals rather than payments for travel and entertainment on behalf of the corporation; (2) that the individuals diverted to themselves income of the corporation arising from corporate accounts receivable and from finance company payments from dealer reserve accounts and upon the discount of notes; (3) that respondent properly computed unreported income from some sources by the bank deposit and cash expenditures method, except in certain respects as corrected herein; (4) that the individual petitioners were not engaged in farming operations for profit and that claimed farm losses are not deductible; (5) that some part of the deficiency of each individual petitioner for each year involved was due to fraud with intent to evade tax and that they are liable for additions to tax under section 293(b) of the Internal Revenue Code of 1939; (6) that the individual petitioners are liable83 for additions to tax for failure to file declarations of estimated tax for each year under section 294(d)(1)(A) of the Internal Revenue Code of 1939 (except that the petitioner Carter is not liable for such additions for the years 1948 and 1949); but that they are not liable for additions to tax under section 294(d)(2); and (7) that the corporate petitioner has failed to show error in respondent's determination of unreported income. Clint L. Pierson, Esq., and William E. Logan, Esq., Gulfport, Mass., for the petitioners. Towner S. Leeper, Esq., for the respondent. ATKINSMemorandum Findings of Fact and Opinion84 ATKINS, Judge: The respondent determined deficiencies in income taxes and additions thereto against Hilton V. Carter and Gertrude Coxe (formerly Gertrude D. Carter, wife of Hilton V. Carter), as follows: DocketAdditions to Tax 1No.YearIncome Tax293(b)294(d)(1)(A)294(d)(2)482921948$ 5,958.864829219494,655.165351919509,226.18$ 4,613.09$ 830.45$ 553.626760219514,779.962,389.98334.57286.7867602195210,400.345,200.17728.03624.02In Docket Nos. 48292 and 67602 by amended answer or amendment to answer the respondent made claim for deficiencies in tax and additions thereto for certain years, in lieu of those originally determined, as follows: DocketAdditions to TaxNo.YearIncome Tax293(b)294(d)(1)(A)294(d)(2)482921948$15,175.02$ 7,587.51$1,108.26$ 949.9348292194915,203.027,601.511,064.20912.1867602195110,061.505,030.75704.31603.6967602195212,564.946,282.47879.54753.90The respondent determined a deficiency in income tax and85 additions thereto against Hilton V. Carter for 1953 as follows: DocketAdditions to TaxNo.YearIncome Tax293(b)294(d)(1)(A)294(d)(2)676011953$ 1,984.70$ 992.35$ 167.33$ 143.42By amended answer in Docket No. 67601, the respondent made claim for increased deficiency in tax and additions thereto, in lieu of those originally determined, as follows: DocketAdditions to TaxNo.YearIncome Tax293(b)294(d)(1)(A)294(d)(2)676011953$ 5,227.98$ 2,613.99$ 394.35$ 338.02The respondent determined deficiencies in income tax and additions thereto against Gordon H. and Carrie Mae Brame as follows: DocketAdditions to TaxNo.YearIncome Tax293(b)294(d)(1)(A)294(d)(2)535201948$18,219.38$ 9,109.69$1,726.70$1,151.1353520194926,082.0613,041.032,400.771,600.5153520195015,040.347,520.171,378.91919.286760319515,868.982,934.49420.89360.766760319524,375.782,187.89319,36273.746760319531,986.90993.45174.27149.38By amended answer in Docket No. 67603, the respondent made claim86 for increased deficiencies in income tax and additions thereto, in lieu of those originally determined, as follows: DocketAdditions to TaxNo.YearIncome Tax293(b)294(d)(1)(A)294(d)(2)676031951$10,757.82$ 5,378.91$ 763.09$ 654.096760319527,850.443,925.22562.58482.226760319536,003.243,001.62455.42390.36The respondent determined deficiencies in income tax and additions thereto against Brame and Carter, Inc., as follows: AdditionsDocketFiscal YearIncometo TaxNo.EndingTax293(b)53521Jan. 31, 1949$20,139.27$10,069.6453521Jan. 31, 195021,770.0810,885.0453521Jan. 31, 195124,364.2512,182.1367604Jan. 31, 19524,317.69With respect to the individual petitioners the principal issues are: (1) whether certain weekly payments received by them from the corporate petitioner and designated as travel and entertainment expense, and monthly payments received from the corporation are taxable as dividends or salary; (2) whether they also received other taxable income, computed by the respondent by the bank deposit and cash expenditure method, by diverting87 to themselves payments of accounts receivable of the corporation and other payments due the corporation from finance companies including payments upon discounting of notes and payments from dealer reserves; (3) whether they are entitled to deduct losses sustained in the operation of farms; and (4) whether they are liable for certain additions to tax, including additions to tax for fraud under section 293(b). Certain other issues have been disposed of by stipulations at the hearing, which will be referred to hereinafter. With respect to the corporate petitioner, the respondent conceded on brief that it is not liable for additions to tax under section 293(b) on account of fraud. The principal issues are whether the corporation had large amounts of unreported income as held by the respondent, and whether the respondent erred in disallowing deductions claimed for travel and entertainment expense. Findings of Fact Some of the facts are stipulated orally at the hearing, and such stipulations are incorporated herein by reference. The petitioners Hilton V. Carter and Gertrude Coxe were husband and wife during the years 1948 through 1952, residing in Baton Rouge, Louisiana. They filed88 joint Federal income tax returns for those years with the collector or district director of internal revenue at New Orleans, upon the cash receipts and disbursements method of accounting. Hilton V. Carter similarly filed a separate return for 1953. The petitioners Gordon H. and Carrie Mae Brame are husband and wife, residing in Baton Rouge. They filed joint Federal income tax returns for the calendar years 1948 through 1953 with the collector or district director of internal revenue at New Orleans, upon the cash receipts and disbursements method of accounting. The wives are parties to this proceeding only by virtue of having filed joint returns. Hereinafter Hilton V. Carter and Gordon H. Brame will be referred to by their surnames or as the petitioners. The petitioners Brame & Carter, Inc., hereinafter referred to as the corporation, kept its books and filed its income tax returns on the basis of a fiscal year ending January 31, and upon an accrual method of accounting. It filed Federal income tax returns for the fiscal years ending January 31, 1949 through January 31, 1954, with the collector or district director of internal revenue at New Orleans. About 1937 Brame and Carter89 became associated as partners and engaged in the business of selling Chrysler and Plymouth automobiles and parts. In 1942 the business was incorporated, the petitioner Brame & Carter, Inc. being created, with principal place of business at Baton Rouge. The corporation continued in the same type of business which also included buying and selling used cars. Each petitioner owned one-half of the stock of the corporation and they actively managed and had complete charge of the corporation. The investment in capital stock of the corporation is shown on its returns as being $10,000. Carter was its president and Brame was its vice-president. They devoted their full business time to the affairs of the corporation. The corporation employed a bookeeper and maintained books and records. However, these books were not accurate. They contained many errors and many items were not included therein. The inaccuracy of the books resulted, at least in part, from the manner in which the petitioners dealt with their corporation. The individual petitioners did not keep books. Carter had practically no records of his financial transactions in the years in question. Brame kept some invoices and cancelled90 checks, but these were incomplete. Neither of the petitioners kept records which were adequate for the computation of taxable income. The corporation occupied and used two properties, one known as the Florida Street property and the other identified as the warehouse on North Leo or Beck Street. These properties were held in the name of Brame and Carter individually. No charge was made by them to the corporation for the use of these properties and the corporation did not pay them any rental. Brame and Carter as indiivduals from time to time borrowed money from the Fidelity National Bank. One account was carried on the books of the bank in their joint names, representing amounts which they had borrowed on notes which they had signed jointly and secured by their jointly owned property which was used by the corporation. Each of them individually also borrowed money on his individual note secured by his individually owned property, and the bank kept an individual account for each of them. The balances shown due by the bank records in each of these accounts was as follows: Brame &G. H.H. V.DateCarterBrameCarterJan. 31, 1947$ 42,000.00$ 1,000.00Jan. 31, 194833,500.001,000.00Jan. 31, 194923,000.003,000.00Jan. 31, 195027,000.005,500.00$ 3,000.00Jan. 31, 195140,000.0017,500.0011,000.00Jan. 31, 195260,800.0010,500.007,000.00Jan. 31, 195368,000.0029,500.003,000.00Jan. 31, 1954105,000.0062,700.0091 The amounts which the two individuals borrowed upon their joint notes were, with some possible exceptions, turned over by the individuals to the corporation for its use. During the corporation's fiscal years ended January 31, 1953, and January 31, 1954, some of the money borrowed by Brame individually from the bank was also turned over to the corporation for its use. The amounts so turned over to the corporation by the individuals jointly and by Brame individually were carried on the books of the corporation as notes payable to the bank. The corporation did not execute any notes to the bank for these amounts and did not furnish any collateral. However, during the years in question the corporation made regular payments in substantial amounts to the bank in repayment of the borrowed money which the corporation had received. The corporation carried on its books a personal account for each of the individual petitioners. At the direction of both Brame and Carter the corporation from time to time made miscellaneous payments on their personal obligations or for their personal benefit and these were charged to their personal accounts. From time to time various credits were also made to92 these accounts. The corporation formally declared the following dividends to the individuals, which were reported by them as dividend income in their tax returns: YearBrameCarter1948$7,500.00$7,500.0019496,000.006,000.001950 2,600.002,600.001951 2,000.002,000.001952 2,500.002,500.0019532,000.002,000.00When the corporation was formed in 1942 salaries were paid to Brame and Carter from which income taxes were withheld. However the payment of salaries was discontinued after a few years. Over the period from January 1, 1948 through January 31, 1953, the corporation paid no salaries, as such, to the individuals, although it did pay them monthly and weekly amounts as hereinafter set forth. In May of 1953 the corporation adopted a policy of once again paying salaries as such, at the rate of $750 per month to each individual, retroactive to February 1, 1953. Thereafter, commencing in June, monthly salary payments were so made and taxes were withheld. The corporation on its records treated the monthly payments which had theretofore been made from93 January through May of 1953 at the rate of $600 per month as salary payments. Taxes were withheld by the corporation in the amounts of $1,383.80 in the case of Brame and $1,505.90 in the case of Carter. For the calendar year 1953, each individual reported salary payments from the corporation in the total amount of $8,250.00. Brame In his income tax returns for each of the years 1948 through 1953 the only income reported by Brame consisted of the above-mentioned formal dividends from the corporation and the above-mentioned salary from the corporation in 1953, plus the following: YearItemAmount1948An item "Miscellaneous Income"$845.001950Sale of livestock420.00Dividend from Fidelity National Bank90.001951Sale of livestock564.001952Recovery on note of A. P.Tally670.00In the notices of deficiency the respondent determined that Brame had additional taxable dividends for the years 1948, 1949, and 1950, in the respective amounts of $13,300.26, $13,151.20, and $13,375.81. The respondent also determined the Brame had additional taxable income for the years 1948, 1949, and 1950, represented by unidentified bank deposits, in the94 respective amounts of $33,147.10, $44,950.51, and $29,843.66. He also determined that Brame failed to return a longterm capital gain in the year 1949 in the amount of $4,820.80, and that he failed to return interest income in 1950 in the amount of $60. For each of the years 1948 and 1949 the respondent allowed Brame the standard deduction of $1,000 in lieu of the miscellaneous deductions claimed on his returns. In his petitions Brame made claim for farm loss deductions for the years 1948 through 1953 in the respective amounts of $9,291.61, $10,305.26, $13,686.49, $15,306.73, $11,909.97, and $14,002.53, which had not been claimed as deductions on his returns. In the notice of deficiency for the years 1951, 1952, and 1953 the respondent determined that Brame had additional unreported income of $20,887.18, $15,608.05, and $6,424.67, respectively. By amended answer the respondent alleged that he erroneously allowed farm losses for the years 1951, 1952, and 1953 in computing Brame's income and that Brame had taxable income for those years as follows: 195119521953Understated receipts from Brame & Carter,$16,421.55$19,996.31$14,012.91Inc.Other income reflected by bank deposits17,505.517,772.144,174.83and disbursements methodUnreported interest income158.14140.88108.5195 At the hearing the parties stipulated that Brame had unreported interest income from third parties and on U.S. Savings Bonds for the years 1948 through 1953 in the respective amounts of $143.50, $103.28, $160.00, $158.14, $140.86, and $108.51; that he realized unreported long-term capital gains in the years 1948, 1949, 1950, and 1952 in the respective amounts of $546.63, $7,274.60, $375.00, and $49.60; that he realized unreported short-term capital gain of $125.00 in 1950; and that he received unreported compensation as an election commissioner in 1950 in the amount of $30.50. At the hearing the parties stipulated that Brame is entitled to miscellaneous deductions as follows: 194819491950195119521953Travel and$ 75.00entertainmentexpensesInterest136.22$ 919.95$ 805.01$1,387.54$1,261.35$2,111.02Bank charges53.3969.778.8585.02115.38169.37Auto expenses1,258.44326.27362.55285.10475.33Taxes269.75162.94208.61481.54La. state income70.5591.33337.14taxMedical expenses886.39207.00Donations75.001,650.00100.00Dues and100.00subscriptionsWorthless stock5.00Total$1,523.05$2,542.68$1,339.35$2,439.603,983.60$2,722.5396 Carter In his income tax returns for each of the years 1948 through 1953, the only income reported by Carter consisted of the above-mentioned dividends from the corporation and the above-mentioned salary from the corporation in 1953. In the notices of deficiency the respondent determined that Carter had additional taxable dividends for the years 1948, 1949, and 1950 in the respective amounts of $12,398.71, $13,064.39, and $13,738.23. The respondent also determined that Carter had additional taxable income for the years 1948 and 1950, represented by unidentified bank deposits, in the respective amounts of $7,327.29 and $11,354.32. He further determined that Carter had unreported additional taxable income in the years 1951, 1952, and 1953 in the respective amounts of $18,289.30, $29,773.11, and $5,596.39. He further determined that Carter had unreported gains from sales of capital assets in the years 1948, 1949, and 1950 in the respective amounts of $750, $5,200, and $5,994.39, and that he had unreported reported nterest income for the year 1950 in the amount of $33.91. The respondent allowed Carter97 the standard deduction of $1,000 for each of the years 1948, 1949, and 1950 in lieu of itemized deductions claimed in his returns, and also allowed an additional deduction for 1949 of $1,000 on account of a mathematical error. In his petitions Carter made claim for deductions of farm losses for the years 1950 through 1953, in the respective amounts of $6,820.98, $14,538.71, $6,353.44, and $11,067.52, which had not been claimed on his returns. By amendment to his answer the respondent affirmatively alleged that the petitioner understated taxable dividends for the years 1948 and 1949 in the respective amounts of $13,486.91 and $17,788.36, that he failed to report other taxable income for 1948, represented by unidentified bank deposits in the amount of $25,462.24 and that he failed to report other taxable income for 1949, represented by unidentified bank deposits and expenditures, in the amount of $19,144.52. Therein he also alleged that Carter failed to report interest income for 1948 and 1949 in the respective amounts of $188.50 and $254.71. He also alleged that Carter failed to report taxable income for 1948 from the sale of real estate and other capital assets in the amount of $1,792.35. 98 By amended answers the respondent alleged that in computing Carter's taxable income for the years 1951, 1952, and 1953 he erroneously allowed farm losses. In his amended answer the respondent conceded that Carter was entitled to a net capital loss for 1953 in the amount of $1,000, which had not been claimed on his return. At the hearing the parties stipulated that Carter had unreported interest income from third parties and bank accounts for the years 1948 through 1953, in the respective amounts of $188.50, $254.71, $33.91, $90.75, $39.03, and $17.27; that he had unreported dividens from Baton Rouge Savings and Loan for the years 1949 and 1950, in the respective amounts of $292.50 and $195.00; and that he had unreported long-term capital gain of $3,584.70 in 1948 from the sale of 100 shares of stock and the sale of three lots. It was also stipulated that Carter did not realize in 1949 and 1950 gains from sales of residences, in the respective amounts of $5,200.00 and $5,994.39 as determined by the respondent in the notice of deficiency, and that Carter did not realize any deductible losses on such transactions. At the hearing the parties stipulated that Carter is entitled to miscellaneous99 deductions as follows: 194819491950195119521953Interest$ 244.71$ 141.49$ 104.17$ 399.97$ 256.41$ 79.63Taxes328.35393.32213.06531.25407.00573.35Medical expenses1,865.301,564.001,375.00390.00750.001,412.73Miscellaneous628.52776.131,269.78862.46720.51894.61Contributions200.00Total$3,066.88$2,874.94$2,962.01$2,183.68$2,133.92$3,160.32The Corporation The net income or loss shown by the corporation in its returns, and the net income determined by the respondent are as follows: Fiscal YearEndingPer Notice ofJanuary 31Per ReturnDeficiency1949$63,140.93$116,138.98195044,382.7399,455.101951$41,367.94$92,259.5719528,507.5623,298.3319535,122.761954(54,668.81)In determining the deficiencies against the corporation, the respondent disallowed traveling and entertaining expenses claimed for the fiscal years ended January 31, 1949, 1950, and 1951, in the respective amounts of $11,075.00, $10,630.00, and $10,600.00. For100 each of the fiscal years ended January 31, 1949 through January 31, 1952, the respondent determined that the corporation had unreported taxable income in the respective amounts of $41,923.05, $44,442.37, $40,291.63, and $14,790.77. At the hearing it was stipulated that the corporation incurred deductible legal expenses in its fiscal year ended January 31, 1952, in the amount of $600.00, which had not been claimed on its return. At the hearing it was also stipulated that the corporation had a net operating loss in its fiscal year ended January 31, 1954, in the amount of $36,229.80, instead of $54,668.81 as claimed in its return, which entitles the corporation to a net operating loss deduction in the fiscal year ended January 31, 1952, in the amount of $3,077.52. In its petition the corporation claims that the respondent failed to allow as a deduction in the fiscal year ended January 31, 1951, a discount charge of $2.50 on a loan to the petitioner by Brame and Carter. In its petition for the fiscal year ended January 31, 1952, the corporation claims that the respondent erred in not allowing a reasonable deduction for salary or compensation to Brame and Carter, and for rent for the101 building occupied by it. The corporation's income tax returns show earned surplus and undivided profits as follows: DateAmountJanuary 31, 1948$ 68,577.95January 31, 194993,032.09January 31, 1950104,562.83January 31, 1951124,037.80January 31, 1952129,955.97January 31, 1953129,637.60January 31, 195474,639.76Monthly Payments to Brame and Carter From 1948 until May 1953, the corporation made regular monthly payments to Brame and Carter. The amounts paid were at the rate of $550 per month to each over the period from January 1948 through February 1949; thereafter each was paid at the rate of $600 per month. The corporation ceased making these payments in May 1953, when it adopted the policy of paying salaries to its two officers as above described. The total face amount of monthly checks received in each year was as follows: 194819491950195119521953Brame$6,600.00$7,250.00$6,600.00$7,200.00$7,200.00$3,000.00Carter6,600.007,100.006,600.007,200.007,200.003,000.00Brame and Carter deposited checks for monthly payments in each year as follows: 194819491950195119521953Brame$6,600.00$5,900.00$6,000.00$4,800.00$5,400.00$2,448.40Carter6,600.007,050.007,200.006,600.006,600.004,270.85102 No designation was made on the corporate records as to the character of these monthly payments. As they were made, corresponding debits were made in the personal accounts of the individuals on the books of the corporation. At January 1, 1948, the debit balances in the accounts of Brame and Carter were $8,255.55 and $8,279.35, respectively. Thereafter there were increases in such debit balances in each calendar year as follows 194819491950195119521953Brame$8,100.26$7,951.20$5,575.81$6,054.08$6,562.80($6,990.38)Carter7,598.717,864.395,638.233,743.437,060.14( 1,294.13)In Brame's account he was given credit in 1952 for a cash payment of $7,193.66 and in 1953 he was credited with a cash payment of $2,536.13 and a payment on corporate notes of $4,033.45. In Carter's account he was given credit in 1952 for a cash payment of $958.50. These accounts showed debit balances at January 31, 1954, for Brame and Carter in the respective amounts of $30,119.38 and $41,610.89. After the respondent began his investigation of the three petitioners they employed a certified public accountant, Hannis T. Bourgeois, to prepare audits103 to establish their tax liabilities. Bourgeois did make complete audits and his audit reports formed the basis for the settlement of Louisiana State income taxes and also formed the basis for the later settlement in 1954 of the financial relations between the two individuals. Bourgeois continued to represent the three petitioners in these proceedings, filing some of the pleadings in each case. In the course of his work Bourgeois found that the corporate records were inadequate in that they contained errors and many omissions, and that the individuals did not keep books and records except for certain invoices and checks, which he found to be totally inadequate for the purpose of computing their taxable income. He reconstructed taxable income of the petitioners in part by specific items, but in the case of the two individuals he concluded that there were large amounts of unreported and unidentified income, requiring him to resort to the bank deposit and cash expenditures method of reconstructing income. In his calculations he also made net worth computations. He discussed his computations and adjustments with the petitioners. His audit reports were turned over to the attorney for the104 petitioners who in turn made them available to the revenue agents pursuant to subpoena. In the course of his audits, Bourgeois examined the personal accounts of the two individuals carried on the books of the corporation and made adjustments therein. He increased the closing debit balances in these accounts as of January 31, 1954, by adding $24,101.86 to Brame's account, resulting in a closing debit balance of $54,221.24, and by adding $10,194.25 to Carter's account, resulting in a closing debit balance of $51,805.14. These adjustments were made because Bourgeois concluded that the individuals had collected and used for their own benefit certain accounts receivable and certain dealer reserve payments belonging to the corporation, as described infra. These revised debit balances formed the basis for the later settlement of the financial relations between the two individuals when Brame acquired Carter's stock. 2105 In its income tax returns the corporation represented that the amounts due from officers and employees were as follows: DateAmountJanuary 31, 1949$ NoneJanuary 31, 1950NoneJanuary 31, 19512,000.00January 31, 19521,900.00January 31, 19533,950.00January 31, 19543,950.00The corporation periodically furnished financial statements to the Chrysler Corporation (apparently on the representation that the business was conducted in partnership until December 31, 1952) showing among other things the balances in accounts for advances to officers and employees and capital accounts as follows: Capital AccountsAdvances toOfficers andDrawingCapitalDateEmployeesInvestmentAccountStockSurplus4/30/50$ 800.00$134,204.30($ 1,765.81)12/31/502,450.00140,803.53( 27,199.62)12/31/511,900.00153,370.15( 26,773.46)12/31/521,900.00135,983.35( 18,768.31)3/31/541,900.00105,416.448/31/5450,935.57$10,000.00$58,850.96Brame furnished personal financial statements to the Fidelity National Bank on October 4, 1951 and January 1, 1953 in which he showed the following: 106 Oct. 4, 1951Jan. 1, 1953Cash on hand and in banks$ 1,000.00$ 2,000.00Government bonds33,000.0033,000.00Various mortgage notes12,500.0010,500.00Life insurance at cash surrender value8,000.008,000.00Stock in Chrysler Corporation1,383.75Real estate: 5000 Hyacinth Ave., 69 acres50,000.00100,000.001/2 interest in warehouse10,000.001/2 interest in brick building100,000.00Cattle: 35 head10,000.0050 head registered Brahma and Herefords10,000.00Farm equipment15,000.0015,000.00Automobiles6,000.001/2 interest in Brame & Carter100,000.0064,972.33Notes payable to banks(29,500.00)Mortgages on real estate(23,150.00)Current bills(500.00)Net worth316,350.00220,856.08In his 1951 financial statement, Brame represented that his total income in 1950 was $20,000.00. Carter furnished financial statements to the Fidelity National Bank on May 27, 1949 and November 9, 1950 in which he showed the following: May 27, 1949Nov. 9, 1950Cash on hand and in banks$ 8,000.00$ 2,610.60Baton Rouge Bldg. & Loan Assn.13,000.00Life insurance at cash surrender value500.00Automobiles and trucks7,500.008,300.00Horses: 6 head21,000.0015 head15,000.00Cattle: 1/2 interest in 75 head7,500.00100 head of grade cattle12,200.00One-half interest in Brame & Carter72,104.0076,201.87Stock in Red Ball Concrete Inc.8,500.00Real estate: Greenville Springs Road, 15 acres35,000.001/4 interest in estate7,000.005,500.00236 acres60,000.00Notes payable to banksNone(11,000.00)Current liabilities(500.00)Net worth179,604.00168,812.47107 The monthly payments to Brame and Carter for the years 1948 through 1952 constituted distributions by the corporation to them. The monthly payments of $600 per month paid to each individual during the months of January through May 1953, do not constitute distributions by the corporation but constitute salaries paid. Weekly Payments to Brame and Carter Throughout the years in question until July 3, 1953, the corporation paid Brame and Carter each $100 weekly, which was charged on the books of the corporation as travel and entertainment expense. Neither Brame nor Carter was required to account to the corporation for the use made of the weekly payments nor did they ever return any portion thereof to the corporation. Brame and Carter each received $5,200 in each of the years 1948 through 1952. In 1953 each received $2,450.00. Of these amounts Brame deposited in his bank account in each of the years 1948 through 1953 the respective amounts of $500, $400, $800, $1,400, $1,200, and $100. Of these amounts Carter deposited in his bank account in each of such years the respective amounts of $1,200, $800, $700, $1,100, $300, and $300. The following tabulation shows the amounts paid108 by the corporation, including the weekly payments to the individuals, which were treated by the corporation as travel and entertainment expense and the amounts claimed as deductions by the corporation in its returns: AmountFiscal YearTotalDeductedEndingExpendedin ReturnJan. 31, 1949$11,075.00$11,467.31Jan. 31, 195010,630.0011,384.68Jan. 31, 195110,600.0011,780.91Jan. 31, 195210,400.0010,918.65Jan. 31, 195310,400.0010,851.37Jan. 31, 19544,100.00 The parties at the hearing orally stipulated that the amounts paid in excess of the weekly payments were travel expenses paid directly by the corporation. The amount stipulated for the year ended January 31, 1954, was $10,350.00, but this is clearly erroneous and we have included $10,400.00 for that year. All the weekly payments at the rate of $100 per week constituted salary payments to the individuals and constituted reasonable compensation. Accounts Receivable Throughout the years in question the books of account of the corporation contained numerous accounts receivable which had been paid by customers but which had not been recorded on the books as having been paid, 109 although a few bore a notation of having been paid. The corporation's bookkeeper, Anderson, in the course of his duties questioned Brame as to these accounts and Brame told him that some accounts had been collected but that the cash had not been routed through the corporate books. He advised Anderson that these accounts would be taken care of in due course of time. The bookkeeper accordingly segregated these accounts from the regular accounts receivable. On occasion some of such accounts were closed out at Brame's direction by charging them through the general journal to a special account in his name and the crediting accounts receivable. In April 1951, 32 accounts receivable amounting to $10,700.00 were so closed and charged to Brame's special account with no explanation on the books. As of January 31, 1954, there remained open on the books of the corporation accounts receivable which included accounts in the amount of $29,601.81 which had in fact been paid by the customers prior to December 31, 1953, (either by the payment of cash or by application in an allowance), but the payment of which, or the value of the car traded in, had not been recorded on the books of the corporation. 110 In May 1954, 12 accounts receivable amounting to $15,647.03 were closed out by a charge to Brame's special account with an explanation in the journal as follows: "Accounts receivable items collected and used by G. H. Brame". Of these 12 accounts, 6 totaling $8,905.09 had arisen and been paid prior to December 31, 1953. Included in these was an account of Eula Lipscomb in the amount of $2,178.50 which was paid by her check of July 22, 1955, and which was endorsed in the name of the corporation by Brame and was cashed by him. The revenue agent in his report took the position that the full amount of accounts receivable of $29,601.81 referred to above as having been open on the books at December 31, 1953, but which had been paid, constituted payments received by Brame and Carter. The accountant Bourgeois in his audit reports determined that Brame and Carter had income from the collection of accounts receivable over the years 1948 through 1953 in the amount of $15,874.04. Brame and Carter admitted to him that they had collected accounts receivable which had not been recorded on the books of the corporation. He attempted to have the individuals identify the disposition of the payments111 of each account, but the, were not able to do so in each instance. In such instances he charged each equally with the payment. Each of the individuals was aware of Bourgeois' allocation and neither expressed any objection thereto. These amounts, at least in part, were later charged to their personal accounts, and the later settlement of the financial relations of the two individuals, as well as the Louisiana state income tax, was based upon Bourgeois' audits, including these allocations. The amounts received by Brame and Carter from collections of accounts receivable as found by the revenue agent and by Bourgeois are as follows: Per Reve-Per Bour-nue AgentgeoisYear 1948Brame$ 688.19$ 1,237.26Carter688.291,237.26Year 1949Brame$ 4,023.192,596.00Carter3,933.442,596.00Year 1950Brame2,275.00502.50Carter950.00502.50Year 1951Brame1,795.381,110.26Carter1,438.261,110.26Year 1952Brame4,523.791,423.39Carter1,335.43274.10Year 1953Brame7,426.481,704.81Carter524.461,679.80Grand Total$29,601.81$15,974.14Brame and Carter received payment of accounts receivable112 of the corporation for their own use and benefit in at least the following amounts: 194819491950195119521953Brame$1,237.26$2,596.00$502.50$1,110.26$1,423.39$1,704.81Carter1,237.262,596.00502.501,110.26274.101,679.80 These amounts constituted distributions by the corporation to Brame and Carter. Dealer Reserves In selling automobiles the corporation received from purchasers of cars notes for installment payments, secured by chattel mortgages, representing the unpaid balance of the purchase price of the cars. It would then discount such notes with finance companies which would issue checks payable to the corporation in the amount of the discounted figure, less, however, some portion retained by the finance company and set aside in a reserve account, generally known as a dealer's reserve, to protect the finance company against losses on the transactions. The amount required by the finance companies to be retained in the dealer's reserve was a specified percentage of the outstanding notes purchased. When the balance in the reserve account exceeded such fixed percentage it was the normal practice of the finance113 companies to pay the excess to the dealer by check. The corporation in the years in question dealt principally with Commercial Credit Corporation and Universal CIT Credit Corporation. On occasions E. A. Harrell, a car salesman employed by the corporation, would be asked by either Brame or Carter to go to the bank and cash checks which had been received and which were payable to the corporation. Either Brame or Carter would endorse the check in the name of the corporation and Harrell would then place his endorsement thereon and cash the check, returning the cash to whichever of the individuals had given him the check. Fred Eubanks was another car salesman who similarly cashed checks given him by Brame. Commercial Credit Corporation made the following payments out of the dealer's reserve account maintained for the corporation: Date ofPaymentAmount1949Feb. 4$ 705.47Sept. 26500.00$1,205.471950Sept. 28290.12Nov. 271,020.611,310.731951Jan. 31$ 272.99Feb. 27674.35Apr. 24705.23July 31919.00Aug. 291,500.00Nov. 14195.00Nov. 292,000.00Dec. 21158.00Dec. 21319.60$6,744.171952Jan. 24167.61Mar. 26214.00Apr. 16559.35Apr. 16238.42May 29225.38Aug. 133,000.00Sept. 29692.24Oct. 31978.92Nov. 12217.146,293.061953Feb. 131,200.00Feb. 281,400.00May 261,235.99July 31568.18Aug. 291,828.71Sept. 30938.487,171.36114 All the above payments are shown on the records of Commercial Credit Corporation. The payments of February 27, August 29, and November 29, 1951, August 13, 1952, and February 28, 1953, aggregating $8,574.35, were evidenced by checks drawn in favor of the corporation and endorsed in the name of the corporation by Brame. The one dated February 28, 1953, in the amount of $1,400.00, also contains the endorsement of E. A. Harrell. All of them except the one dated February 28, 1953, bear a stamp indicating that they were cashed. Brame received the. cash in each instance. All the remaining payments, except those in 1949, are evidenced by checks drawn in favor of the corporation, endorsed in the name of the corporation by Brame, and bear the endorsement of the Commercial Credit Corporation for deposit to its credit in the City National Bank in Baton Rouge. On May 22, 1953, Universal CIT Credit Corporation issued a check payable to the corporation in the amount of $452.09, representing a payment from the dealer's reserve account maintained by it for the corporation. This check was endorsed in the name of the corporation by Brame. This check bears a stamp showing that the bank paid out115 cash for this check. Brame received the cash represented by this check. The corporation did not receive any of the above payments from Commercial Credit Corporation nor were any of these payments recorded on its books. (The only payment recorded on the corporate books during this period as a payment from a dealer reserve account was $1,000, the source of which is not shown, which the corporation reported in its return for the fiscal year ended January 31, 1950.) While Brame initially received the cash represented by the above described checks of Commercial Credit Corporation and Universal CIT Corporation, Carter received one-half of such amounts. He and Carter also received equally the 1949 payments from Commercial Credit Corporation which are not evidenced by checks submitted in evidence. The amounts so received by the individuals constituted distributions to them by the corporation. Bourgeois in preparing the audit reports fixing the amount of income of the two individuals resulting from payments from dealer reserve accounts treated such payments as having been received equally by Brame and Carter and reflected them, at least in part, by later charges to their personal accounts. 116 The individual petitioners accepted his allocation of these amounts and did not advise him of any obligations of the corporation which had been paid with these funds. His audit reports, including these adjustments, formed the basis for the settlement of both the state tax liabilities and the financial relations of the two individuals when Brame acquired Carter's stock and ceased to be connected with the corporation in 1954. The following tabulation shows the amounts of dealer reserve payments received by Brame and Carter as found above, the amounts which Bourgeois included in his audit reports, and the amounts computed by the revenue agent. As included inAs com-Bourgeoisputed byAs foundAudit Re-RevenuehereinportsAgentYear 1949Brame$ 602.74$ 498.04$ 498.04Carter602.73498.03498.03Year 1950Brame655.37740.57740.57Carter655.36740.56740.56Year 1951Brame3,372.083,372.093,372.09Carter3,372.083,372.083,372.08Year 1952Brame$3,146.53$ 3,372.58$ 3,372.58Carter3,146.533,372.573,372.58Year 1953Brame3,811.724,136.434,136.43Carter3,811.724,136.424,136.42Grand Total$23,175.86$24,239.37$24,239.38117 The net increases in the credit balance of the dealers reserve account maintained by Commercial Credit Corporation for the corporation were as follows: During fiscal year endedNet IncreaseJanuary 31, 1949$ 934.58January 31, 19501,121.43January 31, 19512,741.01January 31, 19521,333.70The above net increases take into account payments made by Commercial Credit Corporation to Brame and Carter (as described above) as follows: During fiscal year endedAmountJanuary 31, 1950$1,205.47January 31, 19511,583.72January 31, 19526,638.79 Accordingly, the total amounts retained by Commercial Credit Corporation on notes discounted in the corporation's fiscal years here in question and credited to the corporation were as follows: During fiscal year endedAmountJanuary 31, 1949$ 934.58January 31, 19502,326.90January 31, 19514,324.73January 31, 19527,972.49None of the above amounts had been entered on the books of the corporation and tax was not paid thereon. These amounts constituted accrued income to the corporation in the respective fiscal years. Other Payments by Finance Companies Upon the118 sale of an automobile on the installment basis the note given by the customer for the unpaid purchase price also included amounts representing finance charges and insurance upon the car. The finance company would issue a check payable to the corporation in the amount of the discounted figure, less a portion retained and set aside in the reserve account. On some occasions the insurance would not be purchased by the finance company but would be purchased through some other insurance company. In some such cases the finance company would issue a check to the corporation specifically for the purpose of purchasing such insurance. Also when a purchaser paid up his obligation to the finance company in advance of the time prescribed in the note he would be entitled to a refund of some part of the finance charges and insurance. Sometimes these refunds were made the subject of checks drawn by the finance company in favor of the corporation for the purpose of making the refund to the purchaser. Also, the finance companies would occasionally draw checks in small amounts in favor of the corporation for the purpose of adjusting certain errors in individual accounts. In the years in question many119 checks drawn by Commercial Credit Corporation and Universal CIT Credit Corporation in favor of the corporation were never deposited in the corporation's bank account, but, rather, were received by Brame or Carter and either cashed or negotiated by them. In 1950 Commercial Credit Corporation issued 18 checks totaling $7,936.25 payable to the corporation, which were not deposited in the bank account of the corporation but were endorsed in the name of the corporation by Brame. All bear a notation showing that they were cashed and nine of them totaling $4,009.32 bear the additional endorsement of E. A. Harrell. These checks were all cashed by Brame and are as follows: DateAmountAug. 18, 1950$ 488.00Aug. 24, 195012.80Aug. 28, 1950370.00Sept. 5, 19502,310.00Sept. 5, 195033.17Sept. 5, 195036.37Sept. 6, 1950132.00Oct. 19, 1950814.82Oct. 26, 195026.79Nov. 2, 1950340.00Nov. 22, 1950175.80Dec. 4, 19509.20Dec. 7, 195017.30Dec. 11, 1950260.00Dec. 15, 19501,005.00Dec. 18, 1950385.00Dec. 18, 1950660.00Dec. 29, 1950860.00Total$7,936.25In 1951 Commercial Credit Corporation issued 57 checks totaling $29,382.25120 payable to the corporation which were not deposited in the bank account of the corporation, but were endorsed in the name of the corporation by Brame. Fifty-four of these checks totaling $27,052.25 bear bank stamps showing that they were cashed, 16 of these totaling $5,867.71 also bearing the endorsement of E. A. Harrell or Fred Eubanks. Of the three remaining checks, two, namely, check of August 24, 1950, in the amount of $1,440 and check of September 25, 1950, in the amount of $740.00, were deposited in Brame's personal account in the Fidelity National Bank. The list of checks is as follows: DateAmountDateAmountJan. 8$ 1,477.00June 4$ 205.00Jan. 31,310.00June 11205.00Jan. 16510.00June 18960.00Jan. 19158.42June 18140.00Jan. 23178.13June 25110.00Jan. 23204.23June 25230.00Feb. 3150.00June 28240.00Feb. 7803.00July 2940.00Feb. 9270.00July 2145.00Feb. 28650.00July 9260.00Mar. 8366.00July 10435.00Mar. 9650.00July 10560.80Mar. 12244.56Aug. 3198.27Mar. 1239.37Aug. 20673.00Apr. 2335.00Aug. 241,440.00Apr. 5510.00Sept. 17960.00Apr. 1260.74Sept. 25740.00Apr. 131,967.03Sept. 27207.00Apr. 191,152.00Sept. 281,473.00Apr. 30824.00Oct. 8200.00May 3940.00Oct. 10250.00May 3260.00Oct. 22340.00May 3205.00Oct. 23210.00May 7390.00Oct. 23805.00May 7525.00Oct. 3111.70May 14520.00Nov. 27870.00May 14630.00Dec. 45.00May 29814.00Dec. 1385.00June 4340.00Total$29,382.25121 In 1952 Commercial Credit Corporation issued 40 checks totaling $33,509.20 payable to the corporation which were not deposited in the corporation's bank account but were endorsed in the name of the corporation by Brame. Thirty-seven of these checks totaling $31,178.89 bear bank stamps showing that they were cashed. Six of these totaling $3,522.41 also bear the endorsement of E. A. Harrell or Fred Eubanks. Of the remaining three checks, one of them, namely, check of December 15, 1952, in the amount of $760.00, was deposited in Brame's personal bank account. The list of checks is as follows: DateAmountDateAmountJan. 14$ 260.00June 23$ 1,010.00Feb. 61,760.00June 2625.00Feb. 18840.00July 23140.00Mar. 625.31July 29205.00Mar. 61,140.00July 311,505.00Mar. 12110.00Aug. 711.50Mar. 121,110.00Aug. 192,810.00Apr. 7205.00Aug. 21740.00Apr. 12870.00Sept. 1516.83Apr. 161,545.00Sept. 1517.28Apr. 211,411.79Sept. 155.14Apr. 21670.00Oct. 21,710.00Apr. 22255.00Oct. 2521.43Apr. 2334.58Oct. 27289.00Apr. 25526.00Nov. 14308.30May 5210.00Nov. 1412.37May 79,695.37Nov. 1441.89May 10140.00Dec. 15760.00May 1090.00Dec. 15810.00May 271,700.00Dec. 23472.41Total$33,509.20122 In 1953 Commercial Credit Corporation issued five checks totaling $4,409.36 payable to the corporation and endorsed by Brame which were not deposited in the bank account of the corporation. Each of these checks bears a bank stamp showing that it was cashed. The list of checks is as follows: DateAmountJan. 23$ 14.87Feb. 61,782.49Feb. 61,417.00Apr. 13660.00May 15535.00$4,409.36On January 5, 1951, Commercial Credit Corporation also issued two checks in favor of the corporation, one in the amount of $105 and one in the amount of $870. Both were endorsed by Carter and each bears a bank stamp showing that it was cashed. On August 4, 1953, Universal CIT Credit Corporation issued a check in the amount of $2,335.93 in favor of the corporation, representing payment on a discounted note. This check was endorsed by Brame and bears a bank stamp showing that it was cashed. Computation of Unreported Income by Bank Deposit and Cash Expenditures Method Since the individual petitioners did not keep records from which taxable receipts could be determined and since for the years 1948 and 1949 records of Commercial Credit Corporation were not available123 the agents resorted to the bank deposit and cash expenditures method to determine whether the individual petitioners had received unidentified income not reported by them, particularly from the diversion to themselves of proceeds of finance company checks payable to the corporation. The revenue agents made a through examination of the deposits made to the bank accounts of each of the individual petitioners in each of the years in question. Some of the deposits were by check and some were in cash. The respondent properly computed Brame's unidentified deposits, both cash and check, with minor exceptions. The proper calculation of Brame's unidentified deposits, embodying corrections shown to be necessary by the record, is as follows: 194819491950Total bank deposits$50,572.17$105,140.51$38,465.99Less: Identified deposits: Dividends7,507.506,000.00Weekly payments500.00400.00800.00Monthly payments6,600.005,900.006,000.00Sale of used cars2,318.00850.00Misc. deposits (sales of assets, etc.)1,419.7912,170.001,305.00 Notes discounted 923.506,643.12Interest income20.003.2860.00A. P. Tally note recovery included inreturnMisc. nontaxable receipts **5,101.7921,378.452,844.52Total identified deposit$24,390.58$ 52,494.85$11,859.52Unidentified deposits: Cash23,950.0041,336.3620,215.00Checks2,231.5911,259.306,391.47Total$26,181.59$ 52,595.66$26,606.47124 195119521953Total bank deposits$36,568.32$53,970.91$41,883.88Less: Identified deposits: DividendsWeekly payments1,400.001,200.00100.00Monthly payments4,800.005,400.002,448.40 Sale of used carsMisc. deposits (sales of assets, etc.)Notes discounted 1,291.42925.00Interest income58.1440.88A. P. Tally note recovery included in670.00returnMisc. nontaxable receipts *300.0011,046.3319,945.65Total identified deposit$ 7,849.56$19,282.21$22,494.05Unidentified deposits: Cash18,392.0024,745.0019,389.83Checks10,326.769,943.70Total$28,718.76$34,688.70$19,389.83125 The respondent's agent also made an analysis of all expenditures made by Brame during the years in question and segregated those which were made by cash, as distinguished from checks. The respondent's computation of Brame's unidentified taxable income is summarized as follows: 194819491950Expenditures of Cash: Cash bank deposits$23,950.00$41,336.36$20,215.00Unidentified2,231.5911,259.306,391.47Estimated cash personal expenditures1,200.001,200.001,200.00Misc. cash expenditures5,136.9411,844.143,774.78Total unidentified deposits and cash$32,518.53$65,639.80$31,581.25expenditures to be accounted forLess: Available nonincome cash 2,042.2837,877.6018,663.74Less: Identified cash income: Income through drawings$ 7.75Weekly checks cashed4,700.00$ 4,800.00$ 5,000.00Monthly checks cashed1,350.00SalaryAccounts Receivable688.194,023.192,275.00Dealer Reserve payments cashed498.04740.57Sale of assets2,175.007,500.00375.00Interest100.00100.00100.00Total$ 9,713.22$56,148.83$27,154.31Unidentified deposits and cash expended$22,805.31$ 9,490.97$ 4,426.94(Unidentified income)126 195119521953Expenditures of Cash: Cash bank deposits$18,392.00$24,745.00$19,389.83Unidentified10,326.7611,633.70Estimated cash personal expenditures1,200.001,200.001,200.00Misc. cash expenditures12,016.6523,105.7432,643.01Total unidentified deposits and cash$41,935.4160,684.44$53,232.84expenditures to be accounted forLess: Available nonincome cash 12,398.4338,355.9329,248.39Less: Identified cash income: Income through drawingsWeekly checks cashed$ 6,200.00$ 4,000.00$ 2,450.00Monthly checks cashedSalary4,363.20Accounts Receivable1,795.384,523.797,426.48Dealer Reserve payments cashed3,372.093,372.584,136.43Sale of assets564.002,560.001,325.00Interest100.00100.00108.51Total$24,429.90$52,912.30$49,058.01Unidentified deposits and cash expended$17,505.51$ 7,772.14$ 4,174.83(Unidentified income)127 The proper computation of Brame's unidentified deposits and cash expedicures (unidentified income), giving effect to all adjustments required by the record and our findings and holdings herein, is as follows: 194819491950Expenditures of cash: Cash bank deposits$23,950.00$41,336.36$20,215.00Unidentified deposits (checks)2,231.5911,259.306,391.47Estimated cash personal expenditures1,200.001,200.001,200.00Miscellaneous cash expenditures5,136.9411,844.143,774.78Total unidentified deposits and cash$32,518.53$65,639.80$31,581.25expenditures to be accounted forLess: Available nonincome cash2,042.2837,877.6018,663.74Less: Cash on hand2,500.00 1Less: Identified income and cashreceipts: Dividends2,690.00 3Income through drawing account7.75Weekly checks4,700.004,800.004,400.00Monthly checks1,350.00600.00SalaryItem on return "Miscellaneous Income"845.00Accounts receivable collected1,237.262,596.00502.50Dealer reserve payments cashed602.74655.37Sale of assets2,175.007,500.00795.00 4Interest123.50100.00100.00Total$13,630.79$54,826.34$28,406.61Unidentified deposits and cash expended18,887.7410,813.463,174.64(unidentified income)128 195119521953Expenditures of cash: Cash bank deposits$18,392.00$24,745.00$19,389.83Unidentified deposits (checks)10,326.769,943.70Estimated cash personal expenditures1,200.001,200.001,200.00Miscellaneous cash expenditures12,016.6523,105.7432,643.01Total unidentified deposits and cash$41,935.41$58,994.44$53,232.84expenditures to be accounted forLess: Available nonincome cash12,398.4338,355.9329,249.39Less: Cash on hand2,988.05 2Less: Identified income and cashreceipts: Dividends2,000.002,500.002,000.00Income through drawing accountWeekly checks3,800.004,000.002,350.00Monthly checks2,400.001,800.00Salary4,417.80Item on return "Miscellaneous Income"Accounts receivable collected1,110.261,423.391,704.81Dealer reserve payments cashed3,372.083,146.533,811.72Sale of assets564.002,560.001,325.00Interest100.0099.98108.51Total$25,744.77$53,885.83$47,954.28Unidentified deposits and cash expended16,190.645,108.615,278.56(unidentified income)129 The respondent properly computed Carter's unidentified deposits with a minor exception. The corrected calculation is as follows: 194819491950Total bank deposits$29,181.84$37,534.99$54,158.75Less: Identified deposits: Dividends7,500.003,500.00Weekly payments1,200.00800.00700.00Monthly payments6,600.007,050.007,200.00Interest income49.7465.0033.91Sales of assets8,623.746,903.543,187.87Miscellaneous nontaxable receipts 23,058.366,980.8735,642.32Dividend from Baton Rouge Bldg. & Loan150.00Assn.Adjustment 31,744.65Total identified deposits$27,031.84$25,299.41$48,658.75Unidentified deposits: Cash$ 1,400.00$10,927.32$ 5,500.00Checks750.001,308.26Total$ 2,150.00$12,235.58$ 5,500.00195119521953Total bank deposits$19,206.55$18,402.09$22,391.86Less: Identified deposits: DividendsWeekly payments1,100.00300.00300.00Monthly payments6,600.006,600.004,270.85 1Interest income23.4639.0317.27Sales of assets1,041.541,056.73Miscellaneous nontaxable receipts 2650.835,193.3115,340.04Dividend from Baton Rouge Bldg. & LoanAssn.Adjustment 3Total identified deposits$ 9,415.83$13,189.07$19,928.16Unidentified deposits: Cash$ 8,253.96$ 1,150.00$ 2,463.70Checks1,536.764,063.02Total$ 9,790.72$ 5,213.02$ 2,463.70130 The respondent's agent also made an analysis of all expenditures made by Carter during the years in question and segregated those which were made by cash as distinguished from checks. The respondent's computation of Carter's unidentified taxable income is summarized as follows: 194819491950Expenditures of cash: 1Cash bank deposits$ 2,675.00$10,927.32$ 5,500.00Unidentified deposits750.001,008.24Estimated cash personal expenditures1,800.001,800.001,800.00Miscellaneous cash expenditures27,976.5448,130.7046,675.55Total unidentified deposits and cash$36,201.44$61,866.26$53,975.55expenditures to be accounted forLess: Available nonincome cash 34,366.001,224.00Less: Identified cash income: Dividends 42,792.5045.00Income through drawing account50.00435.92Weekly checks cashed4,000.004,400.004,500.00Accounts receivable688.203,933.44950.00Dealers reserve payments cashed498.03740.56Sale of assets1,685.0025,600.0035,700.00InterestCollection on note5,447.77Prize money receivedTotal$10,739.20$42,721.74$43,595.48Unidentified deposits and cash expended$25,462.24$19,144.52$10,380.07(unidentified income)131 195119521953Expenditures of cash: 1Cash bank deposits$ 8,252.90 2$ 1,150.00$ 2,463.70Unidentified deposits1,536.764,063.02Estimated cash personal expenditures1,800.001,800.001,800.00Miscellaneous cash expenditures19,407.6643,022.2132,810.30Total unidentified deposits and cash$30,997.32$50,035.23$37,074.00expenditures to be accounted forLess: Available nonincome cash 33,280.138,919.0119,953.50Less: Identified cash income: Dividends 4Income through drawing accountWeekly checks cashed4,100.004,900.002,150.00Accounts receivable1,438.261,335.43524.46Dealers reserve payments cashed3,372.083,372.574,136.42Sale of assets2,696.6715,612.992,082.11Interest66.23Collection on notePrize money received352.50Total$14,953.37$34,492.50$28,846.49Unidentified deposits and cash expended$16,043.95$15,542.73$ 8,227.51(unidentified income)132 The proper computation of Carter's unidentified deposits and cash expenditures (unidentified income), giving effect to all adjustments required by the record and our findings and holdings herein, is as follows: 194819491950Expenditures of cash: Cash bank deposits$ 1,400.00$10,927.32$ 5,500.00Unidentified deposits (checks)750.001,308.26Estimated cash personal expenditures1,800.001,800.001,800.00Miscellaneous cash expenditures30,976.4447,830.6846,675.55Total unidentified deposits and cash$34,926.44$61,866.26$53,975.55expenditures to be accounted forLess: Available nonincome cash4,366.001,224.00Less: Cash on hand 3,000.00Less: Identified income and cashreceipts: Dividends2,792.502,645.00Income through drawing account50.00435.92Weekly checks4,000.004,400.004,500.00Monthly checks50.00SalaryAccounts receivable collected1,237.262,596.00502.50Dealer reserve payments cashed602.73655.36Sale of assets1,685.0025,600.0035,700.00Interest138.76187.11Collection on note5,447.77Prize money receivedTotal$14,427.02$41,726.11$45,662.78Unidentified deposits and cash expended$20,499.42$20,140.15$ 8,312.77(unidentified income)133 195119521953Expenditures of cash: Cash bank deposits$ 8,252.90$ 1,150.00$ 2,463.70Unidentified deposits (checks)1,536.764,063.02Estimated cash personal expenditures1,800.001,800.001,800.00Miscellaneous cash expenditures19,407.6643,022.2132,810.30Total unidentified deposits and cash$30,997.32$50,035.23$37,074.00expenditures to be accounted forLess: Available nonincome cash3,280.138,919.0119,953.50Less: Cash on hand Less: Identified income and cashreceipts: Dividends2,000.002,500.002,000.00Income through drawing accountWeekly checks4,100.004,900.002,150.00Monthly checks600.00Salary2,473.25Accounts receivable collected1,110.26274.101,679.80Dealer reserve payments cashed3,372.083,146.533,811.72Sale of assets32,696.6715,612.992,082.11Interest67.29Collection on notePrize money received332.50Total$16,626.4336,305.13$34,150.38Unidentified deposits and cash expended$14,370.89$13,730.10$ 2,923.62(unidentified income)[Farms] Brame: Prior to 1945 Brame had owned a farm consisting134 of 153 acres, which he sold at a date not disclosed. In 1945 he purchased 68 1/2 acres of swamp and woodland located on the outskirts of Baton Rouge. In 1946 he had the land cleared, built a road, and constructed a dam for the purpose of creating a lake. He also fenced the property and built a barn. Improvements of this nature continued to be made through the year 1953. In 1949 he built his residence on this property. Prior thereto he had lived about two miles away. Brame improved the pasture land on this property and raised ten acres of corn for feed. He owned Tennessee walking horses. These are show horses the value of which is primarily dependent upon the success gained at horse shows. A riding ring is necessary to the training of horses of this type. By the end of 1953 Brame had some horses which he had been training, but in none of the years in question did he have any fully developed or trained horses. He sold no trained horses in the years 1948 to 1953. He purchased one horse in 1949 for $2,750 and sold a colt in 1952 for $2,250 and a horse in 1953 for $1,325. In 1948 and 1949 he received $135 and $270, respectively, for boarding a horse or horses. Brame also kept registered135 Brahma and Hereford cattle and some grade cows. He sold cattle in 1948 and 1951 receiving $609.79 and $564.00, respectively. In 1949 he also sold two Jersey cows for $400.00. He also maintained on this place wild ducks, pheasant, peacocks, geese, turkeys, chickens, and dogs. Brame did not maintain any books or records with respect to his farming operations. The only income reported by Brame on his returns for any of the years in question which pertained to any farming operations was $420 and $564 in the years 1950 and 1951, respectively. In none of the years in question did he claim in his income tax returns any deductions on account of farm operations. It was stipulated that Brame's farm expenditures were as follows: 194819491950$8,680.76$10,265.77$13,146.48195119521953$15,439.28$14,305.14$14,827.51It was also stipulated that Brame's gross profit from farm operations before deduction of the above stipulated expenditures was as follows: 194819491950195119521953$26.79$245.00$225.00($36.00)$2,250.00$975.00The respondent in arriving at Brame's taxable income as shown in the notice of deficiency136 allowed farm losses in the years 1951, 1952, and 1953 in the respective amounts of $11,015.46, $8,478.85, and $10,145.63, although these amounts were not specifically set forth in such notice of deficiency. Brame did not conduct farming operations with the intention of making a profit and such operations did not constitute the conduct of a trade or business. Carter: Prior to 1948 Carter owned Tennessee walking horses which he boarded in Tennessee. During 1948 he lived in Baton Rouge, where he had a lot and small stable. In the latter part of 1948 he bought and moved to a farm near Baton Rouge consisting of 15 acres, known as Lone Oak, on Greenville Springs Road. At that time the property was not in condition to maintain farming operations. He made additions to the house, built a riding ring, a barn, and fences and had a pond dug. He planted about 5 acres of corn. He brought his Tennessee walking horses from Tennessee to this farm. Carter kept this property until 1950 when he sold it for $35,700 cash and purchased approximately 236 acres of land known as the Manchac Plantation for $34,000 in cash, which he shortly thereafter made his personal home. At that time he acquired 200 to137 300 head of beef cattle consisting of registered bulls and grade cows. He continued to maintain horses. He at that time also acquired additional farm implements, built several new barns, and made considerable other improvements on the plantation. In connection with his horses Carter employed trainers, grooms, a stable man and a horse shoer. His horses were sometimes entered in horse shows. In 1949 Carter purchased 5 horses at costs ranging from $2,000 to $10,000, totaling $23,500. In the same year he sold two of the same horses for a total of $15,020. In 1950 he purchased a horse for $2,000 and cattle for $6,800. In that year he sold hay for $195 and cattle for $2,172.87. In 1951 he purchased a horse for $250, 3 bulls for $1,315, and cattle for $1,600. In that year he had sales of cattle totaling $2,073.21 and horses for $1,665. In 1952 he sold cattle for $1,219.72 and some show horses for $15,450. In 1953 he sold cattle for $2,082.11. Carter did not maintain books and records of his farm operations and made no annual computation of his farm income and losses, although he knew he was losing money. In none of his returns for the years 1948 through 1953 did Carter report any income138 from farm operations, nor did he claim any deductions on account of farm expenditures. It was stipulated that Carter's farm expenditures were as follows: 19491950195119521953$12,202.14$8,038.85$14,661.92$16,408.62$13,149.63No analysis was ever made of the farm operation separating the transactions related to horses and those related to cattle and the petitioner could not determine what portion of the stipulated expenditures are attributable to cattle and what portion to horses. It was also stipulated that Carter's gross profit from farm operations before deduction of the above stipulated expenditures was as follows: 19491950195119521953$3,020.00$1,217.87$123.21$10,127.22$2,082.11The respondent in arriving at Carter's taxable income as shown in the notice of deficiency allowed farm losses in the years 1951, 1952, 1953 in the respective amounts of $12,643.49, $2,789.87, and $7,064.13, although these amounts were not specifically set forth in such notice of deficiency. Carter did not conduct farming operations with the intention of making a profit and such operations did not constitute the139 conduct of a trade or business. [Fraud] Some part of the deficiency in income tax in each of the years 1948 through 1953 in the case of Brame was due to fraud with intent to evade tax. Some part of the deficiency in income tax in each of the years 1948 through 1953 in the case of Carter was due to fraud with intent to evade tax. Failure to File Declarations of Estimated Tax In the notices of deficiency the respondent determined additions to tax against Brame for each of the years 1948 through 1953 under both sections 294(d)(1)(A) and 294(d)(2) of the Internal Revenue Code of 1939. This was based on the ground that Brame had failed to file any declarations of estimated tax. In none of Brame's income tax returns for the years 1948 through 1953 did he claim credit for any tax paid pursuant to any declarations of estimated tax. The respondent in the notices of deficiency determined additions to tax against Carter for each of the years 1950 through 1953 under both sections 294(d)(1)(A) and 294(d)(2) on the ground that Carter had failed to file declarations of estimated tax for those years. He did not determine such additions to tax in the deficiency notice for the years140 1948 and 1949. However, by amendment to his answer he alleged that Carter is liable for additions to tax under each of those provisions for those years. In none of Carter's income tax returns for the years 1948 through 1953 did he claim credit for any tax paid pursuant to any declarations of estimated tax. Opinion When these cases were called for trial the respondent moved that they all be consolidated for trial and disposition. Each of the petitioners was represented by the same counsel, who opposed such motion. The question of whether cases should be so consolidated is one to be decided in the sound discretion of the trial court. Cohen v. Commissioner (C.A. 10), 176 F.2d 394">176 F.2d 394, affirming 9 T.C. 1156">9 T.C. 1156 and 10 T.C. 201">10 T.C. 201. The Court denied the respondent's motion for consolidation for trial upon the strong representation of counsel that consolidation would be prejudicial to one or more of the parties, and proceeded to hear Carter's case first. As the trial progressed it became increasingly clear that the principal issues involved in each of the three141 cases revolved about the business transactions of the corporation and the manner in which the individual petitioner, its two equal stockholders, conducted its financial affairs, particularly the manner in which they withdrew amounts from the corporation and handled its accounts receivable and the checks drawn in favor of the corporation by finance companies. Accordingly, the Court permitted the introduction in the Carter case of testimony and exhibits which related also to the other petitioners. Counsel for the parties stipulated that most of the evidence in the Carter case might be considered as evidence in such other cases, subject, however, to the objection of counsel for the petitioners as to relevancy and materiality. Similar action was taken in the trial of the other two cases. 3 At the trial the Court specifically stated that the cases might be consolidated for disposition if it should develop that this was the most convenient and desirable way of handling the cases. We have so consolidated them for purposes of opinion not only for convenience, but because as a practical matter it is necessary to a proper understanding of the cases. 142 The record shows that the revenue agents made a careful and thorough investigation and that they worked closely with the certified public accountant, Bourgeois, who had been employed by the petitioners to compute their tax liabilities, and who represented them in filing pleadings in these cases. Bourgeois made complete audits and his audit reports formed the basis for the settlement of the Louisiana State income taxes of the individuals and also the basis for the later settlement in 1954 of the financial relations between the two individuals. In general the results of the revenue agents' audits were substantially in accord with those of Bourgeois. The accountant's audit reports were turned over to the attorney for the petitioners who in turn made them available to the revenue agents pursuant to subpoena. They were submitted in evidence. Bourgeois testified as a witness for both the respondent and the petitioners. A somewhat similar situation was presented in Emilie Furnish Funk, 29 T.C. 279">29 T.C. 279, affd. in Furnish v. Commissioner (C.A. 9), 262 F.2d 727">262 F.2d 727, and we concluded that the auditor's report was highly reliable evidence of the taxpayer's income. In affirming143 this Court, the Court of Appeals took the view that an audit prepared by an accountant of the taxpayer's own choice is sufficient to support a finding of income in the amount shown in such report. In the instant case we consider the accountant's audit reports of particular significance inasmuch as they formed the basis for the later settlement of the financial matters between the petitioners arising out of their association in the corporation. His reports will be referred to hereinafter with respect to particular items. We have carefully examined this voluminous record with the results set forth in our Findings of Fact. The various items in controversy will be discussed separately. Monthly Payments to Brame and Carter The respondent contends that the monthly payments which were made to each of the individual petitioners over the period 1948 through May 1953, were informal dividends paid by the corporation to them. The petitioners contend that these payments did not constitute taxable income. Their argument is to the effect that these payments, which were debited to the personal accounts of the individuals, were loans to them giving rise to debts owing to the corporation. They144 insist that the evidence shows that Carter paid the amount of the debit balance shown in his account in 1954 at the time he sold his stock to Brame and that Brame in 1957 paid the debit balance in his account through the payment at that time of corporate indebtedness with money which he obtained from the sale of his individually owned property. At the outset it should be stated that in May 1953, the corporation adopted a policy retroactive to February 1953, of paying salaries and treated the monthly payments which had been made to each of the individuals during the months of January through May 1953, as salary payments, upon which taxes were withheld and which the individual petitioners included in their returns as salaries received. We agree that the petitioners properly included such payments as salary. Consequently such payments for those months will not again be treated as income of the individuals, and the discussion hereinafter will relate only to monthly payments during the calendar years 1948 through 1952. The evidence shows that these monthly payments, as well as certain weekly payments referred to hereinafter, were made to the individuals during the interim that the corporation145 was not paying salaries as such. They were not characterized in any way on the books of the corporation, except that they were debited to the personal accounts of the individuals. Neither Brame nor Carter testified specifically as to the purpose of the corporation in making the payments. It appears that the payments were made without restriction as to use thereof by the individuals, and the corporation's bookkeeper testified that he was unaware of any agreement that these amounts would be repaid, that no such agreement had ever been discussed with him, and that there were no notes or other evidences of indebtedness. We note that the corporation in its income tax returns showed no amounts or relatively small amounts due and owing to it at all pertinent times from its officers and employees. Also, the corporation's financial statements to the Chrysler Corporation, apparently prepared in some years on the erroneous representation that the business was operated as a partnership, show only small amounts owing from officers and employees and show "drawings" of "partners" in much smaller amounts than the debit balances shown in the personal accounts. And the individuals themselves, in personal146 financial statements submitted to banks during the period here involved, showed no amounts owing from them to the corporation or from the corporation to them. Whether withdrawals constitute loans or distributions is a question of fact to be decided upon all the evidence and depends upon the intent existing at the time the withdrawals are made. Clark v. Commissioner (C.A. 9), 266 F. 2d 698, affirming on this issue a Memorandum Opinion of this Court. From a consideration of all the evidence, it is our conclusion that at the time the monthly payments were made there was no intention of repayment, that there was no restriction as to the use of the funds, and that they constituted distributions by the corporation to the individuals. See William C. Baird, 25 T.C. 387">25 T.C. 387, which involved a similar situation and in which we concluded that distributions were made. It is true that as these payments were made they were debited to the personal accounts of the individuals, and that from an accounting standpoint such debits, in the absence of other evidence, might indicate amounts147 owing to the corporation. However, bookkeeping entries, although evidentiary of the facts which they purport to record, are not conclusive. Doyle v. Mitchell Bros. Co., 247 F.2d 179">247 F. 2d 179; Helvering v. Midland Mutual Life Ins. Co., 300 U.S. 216">300 U.S. 216; Commissioner v. North Jersey Title Ins. Co. (C.A. 3), 79 F.2d 492">79 F. 2d 492; Eli D. Goodstein, 30 T.C. 1178">30 T.C. 1178, affd. (C.A. 1), 267 F. 2d 127; Bennett E. Meyers, 21 T.C. 331">21 T.C. 331; and Chatham & Phenix Nat'l Bank, 1 B.T.A. 460">1 B.T.A. 460. A careful study of the personal accounts discloses that, although there were a number of credits reflected thereon, there is no pattern of credits indicating repayments of these monthly payments. Actually the accounts showed substantial increases in the debit balances in each of the years in question, except the year 1953. Brame's account showed a debit balance of $8,100.26 at January 1, 1948, and a debit balance at January 31, 1954 of $30,119.38. Carter's account showed a debit balance at January 1, 1948 of $8,279.35 and at January 31, 1954 of $41,610.89. In Brame's case the debit balance would have been considerably higher at January 31, 1954, but148 for credits made for some large cash payments in 1952 and 1953 and a payment of a sizeable corporate note in 1953. Carter was also credited with a cash payment in 1952. We do not consider that these payments indicate that these personal accounts represented loan accounts, particularly since the payments were made after the investigation had commenced. Rather, these accounts would appear to be accounts intended to provide an accounting between the two stockholders. Indeed, it appears that in some respects the two individuals continued to regard themselves as partners and it seems that they regarded these personal accounts as drawing accounts of partners. We note also that Bourgeois, in an attempt to establish the financial obligations as between the two individuals, later increased the debit balances of each at December 31, 1954, by large amounts because of receipts by each of accounts receivable and dealer reserve payments which in reality were due the corporation. We cannot agree with petitioners' contention that at the time Carter sold his stock to Brame he paid the debit balance in his personal account. Checks in identical amounts were passed between the corporation and Carter, 149 resulting in no net payment by Carter to the corporation. The amount of the debit balance in Carter's account was transferred over to Brame's account. Nor does the record indicate that Brame actually paid the debit balance in his account in 1957. All that appears is that he was required to pay large debts of the corporation and that, therefore, his personal account was closed out. But even if it were considered that the debit balances, which included the monthly payments, were paid by these means, this would not prove that there was any intention on the part of the individuals back in the years 1948 through 1953 to repay the amounts then being paid to them regularly each month, particularly since the closing of the accounts occurred after the tax controversies arose. Clark v. Commissioner, supra. The petitioners make much of the fact that the individuals had borrowed large sums of money jointly and had turned this money over to the corporation for its use. They claim that this resulted in an indebtedness to them from the corporation which was at all times in excess of the debit balances shown in their personal accounts. It is true that the corporation was not directly150 indebted to the bank, yet it treated the loan on its books as owing by it to the bank and made payments to it in curtailment thereof. Even if it were assumed that the corporation was indebted to the individuals (contrary to representations made by them in financial statements), the repayment to them would consist of the payments which the corporation regularly made to the bank on the indebtedness. There is no intimation anywhere in the record, and indeed the petitioners do not specifically argue, that the monthly payments made by the corporation to them were payments on any indebtedness which the corporation owed to them. As stated, these monthly payments constituted distributions by the corporation to the individuals. It is well established that distributions may constitute dividends notwithstanding that the formality of a dividend declaration is not observed and that they are not recorded on the corporate books as dividends. Lengsfield v. Commissioner (C.A. 5), 241 F.2d 508">241 F. 2d 508, affirming a Memorandum Opinion of this Court; Paramount-Richards Theatres, Inc. v. Commissioner (C.A. 5), 153 F.2d 602">153 F. 2d 602,151 affirming a Memorandum Opinion of this Court; and Irving Sachs, 32 T.C. 815">32 T.C. 815, affd. Sachs v. Commissioner (C.A. 8), 277 F. 2d 879, and cases cited therein. Such distributions are taxable to the individuals to the extent paid out of earnings and profits of the corporation. Section 115 of the Internal Revenue Code of 1939. 4 The returns of the corporation for the years in question show earned surplus and undivided profits in large amounts. Also, its returns for each year, except the fiscal year ended January 31, 1954, show the receipt of substantial amounts of income. Furthermore, as a result of this Opinion the profits of the corporation will be increased for some years. While neither party has attempted to show precisely the accumulated earnings or profits at any particular time or the earnings or profits of any particular year, it seems apparent that there were sufficient accumulated earnings or profits or earnings or profits of each particular year to cover any distributions made, whether formal or informal. However, if necessary, a computation of available earnings and profits will be made in connection with the recomputation under Rule 50, in the light152 of all the holdings herein. 153 Inasmuch as these regular payments were being made during the interim that the corporation was not paying salaries as such, we have given careful consideration to the possibility of treating them as salary payments, which would result in the allowance of deductions on account thereof by the corporation. However, there is no basis upon which we can reach a conclusion that these were salary payments, except for those made in the year 1953. The corporation did not characterize them as such, apparently there was no corporate action authorizing the payment of salaries in these amounts, there was no withholding of tax thereon, and the corporation claimed no deduction on account thereof. Indeed, the corporation specifically changed its policy and commenced paying salaries in 1953 at the instance of Bourgeois, who recommended that salaries be thereafter paid in order that the corporation might be entitled to deductions on account thereof. We conclude that the corporation is not entitled to deduct these monthly payments. Weekly Payments to Brame and Carter During each of the years in question the corporation paid Brame and Carter each $100 per week, except that in the calendar year 1953154 it paid each of them $2,050. These payments were reflected on the books of the corporation as travel and entertainment expense and were deducted by the corporation. The individuals did not return these amounts as income. The respondent contends that they are taxable on the full amounts received as informal distributions by the corporation to them. Apparently he alternatively contends that they are taxable as salary payments. The petitioners contend that these amounts were paid to them to be expended on behalf of the corporation for travel and entertainment expenses and that therefore they cannot be charged with income on account thereof. We cannot agree with this contention. It seems significant to us that each received exactly the same amount, neither had to account to the corporation for expenditures made, and neither of them ever paid back to the corporation any portion of the payments. It seems most unlikely that it would have been contemplated that each would incur precisely the same amount of expenditures of this nature. We are satisfied from the evidence that these payments were theirs to dispose of as they saw fit. While Brame and Carter each testified that he spent more155 than these amounts for travel and entertainment, neither of them presented any evidence as to any specific expenditure made in any particular year. Each stated that he had traveled to other cities on business, but there was no estimate made by either of amounts expended in any year, and there was no mention made of any type of business entertainment. We think it significant that the payments were made during an interim when the corporation was not making any payments denominated as salaries, and that in 1953, after the corporation resumed payments of salaries as such, it did not claim any deduction on account of travel and entertainment. Under these circumstances it is our conclusion that these weekly payments were intended to be, and were in fact, payments of salaries. It is true that these payments, like the monthly payments hereinabove discussed, were not denominated salaries. However, in the case of these weekly payments, we think it fairly appears that the payments were made for services rendered. Accordingly, these weekly payments are includible in taxable income of the individuals. Of course, the individuals would be entitled to deduct such amounts as might be shown to have156 been expended for travel and entertainment expenses, but they have not adduced any evidence upon which we can find that in any of the years any amount was so expended, except for the stipulation of the parties that Brame had deductible travel and entertainment expense in the year 1948 in the amount of $75. Under these circumstances there is no basis whatever for making any estimate of amounts which might have been expended. Chesbro v. Commissioner (C.A. 2), 225 F.2d 674">225 F. 2d 674, affirming 21 T.C. 123">21 T.C. 123. The corporation is entitled to deduct these salary payments which, upon the record, do not appear to be unreasonable in amount. In addition, as noted in our Findings of Fact, for the fiscal years ended January 31, 1949, 1950, and 1951 the corporation is entitled to deduct relatively small amounts for travel and entertainment expense, over and above these weekly payments, but less than the amounts which it had claimed in its returns. Additional Income of Brame and Carter In the notices of deficiency and in the amended pleadings the respondent alleged that the individuals had large amounts of income in addition to the monthly and weekly payments received by157 them from the corporation and in addition to certain specific items of income, as referred to in our Findings of Fact. Since the individuals did not keep records from which their taxable income could be computed, the respondent employed the bank deposit and cash expenditures method to determine the amount of unreported income. His contention is that the amounts so determined consist of amounts diverted by the individuals from the corporation, which included collections of accounts receivable of the corporation which remained open on the corporation's books, payments made by finance companies from dealer reserve accounts maintained for the corporation, and amounts due the corporation from finance companies on the discount of notes. The petitioners' accountant Bourgeois also concluded that the individuals had received in the years in question large additional amounts of unreported income by diversions from the corporation and he likewise found it necessary to resort to the bank deposit and cash expenditures method, employing in conjunction therewith a net worth computation. Both the revenue agents and Bourgeois, in identifying the sources of funds deposited and expended by the individuals, 158 made calculations of the amounts received by each of them from the collection of accounts receivable and from payments from the dealer reserves. There were available records of Commercial Credit Corporation and Universal CIT Credit Corporation from which the payments from the dealer reserves could be ascertained. Since it is possible from the record to determine the amounts of income derived by each of the individuals from dealer reserve accounts, we have made specific findings and holdings with respect thereto, thus treating that as a specific item adjustment. The same is true also as to the collection of some of the accounts receivable. These will be discussed separately. There were also introduced into evidence many other checks of finance companies drawn in favor of the corporation in the years 1950 through 1953, which were cashed or negotiated by the individuals. Both the respondent and Bourgeois concluded that the individuals had received large amounts of unreported income from this source, but could not precisely fix the amount received by each. In addition to this, for the years 1948 and 1949 they did not have the benefit of the records of Commercial Credit Corporation, 159 which had been destroyed. Under these circumstances, we think there can be no question that the use of the bank deposit and cash expenditures method is proper. Under similar circumstances the use of this method has been approved in many cases, both civil and criminal. United States v. Johnson, 319 U.S. 503">319 U.S. 503; Goldberg v. Commissioner (C.A. 5), 239 F.2d 316">239 F. 2d 316, affirming in part a Memorandum Opinion of this Court; Olinger v. Commissioner (C.A. 5), 234 F.2d 823">234 F. 2d 823, affirming in part a Memorandum Opinion of this Court; Viles v. Commissioner (C.A. 6), 233 F. 2d 376, affirming a Memorandum Opinion of this Court; United States v. Caserta (C.A. 3), 199 F.2d 905">199 F. 2d 905; and Cohen v. Commissioner, supra.Accounts Receivable The evidence clearly establishes that in each year the individual petitioners failed to report substantial amounts represented by payments of corporate accounts receivable, which payments were not recorded on the corporate books but were diverted to the use and benefit of the individuals. Brame directed that large amounts be charged against him in a special personal account on the books of the160 corporation. Furthermore, both Brame and Carter admitted to the accountant Bourgeois that they had collected accounts receivable and they acquiesced in his action in increasing debit balances in their personal accounts as a result of these collections. Bourgeois' audit reports, including adjustments on account of such collections, were accepted by the individuals for settling both their state tax liabilities and the financial relations between them. The total amount of accounts receivable which the revenue agent found was paid over the years in question to the individuals and not recorded as received by the corporation was $29,601.82. We have concluded and have found as a fact that Brame and Carter collected for their own use at least the amounts found by Bourgeois in his audit reports which, as stated, were in effect admitted by the individuals, in the total amount of $15,974.14 as set forth in detail in our Findings of Fact. We have accordingly found that such amounts constituted distributions by the corporation to them. To the extent of available corporate earnings and profits they represent taxable dividends to such individuals. Our conclusion is in accord with numerous cases161 involving the diversion of payments of accounts receivable and other items of corporate income. Currier v. United States (C.A. 1), 166 F. 2d 346; Jack M. Chesbro, 21 T.C. 123">21 T.C. 123, affd. (C.A. 2) 225 F. 2d 674, certiorari denied 350 U.S. 995">350 U.S. 995; Bernstein v. United States (C.A. 5), 234 F.2d 475">234 F. 2d 475, certiorari denied 352 U.S. 915">352 U.S. 915; Dawkins v. Commissioner (C.A. 8), 238 F.2d 174">238 F. 2d 174, affirming a Memorandum Opinion of this Court; Drybrough v. Commissioner (C.A. 6), 238 F. 2d 735, affirming on this issue 23 T.C. 1105">23 T.C. 1105; Simon v. Commissioner (C.A. 8), 248 F.2d 869">248 F. 2d 869, remanding a Memorandum Opinion of this Court; Clark v. Commissioner, supra, and Irving S. Federbush, 34 T.C. - (July 29, 1960). Cf. Davis v. United States (C.A. 6), 226 F. 2d 331, and Hartman v. United States (C.A. 8), 245 F.2d 349">245 F. 2d 349, two criminal tax evasion cases, in which convictions were upheld on the basis of the diversion of corporate funds irrespective of whether the corporation had sufficient earnings and profits. Dealer Reserves Throughout the years162 1949 through 1953 Commercial Credit Corporation made payments aggregating $22,724.79 representing amounts due from the dealer reserve account maintained by it for the corporation. However, the evidence shows that the corporation did not receive such payments and they do not appear on its books. Checks representing all such payments are in evidence, except the two payments made in 1949 aggregating $1,205.47. Five of such checks aggregating $8,574.35 were endorsed in the name of the corporation by Brame, four of them bearing a notation indicating that they were paid by the bank in cash, and the fifth one bearing also the endorsement of Harrell who testified that he was accustomed to cashing checks for the two individuals. Twenty-one of the checks aggregating $12,944.97 were endorsed in the name of the corporation by Brame and also bear the endorsement of Commercial Credit Corporation, showing that these same checks were deposited in the bank account of Commercial Credit Corporation. David D. McDonough, an employee of Commercial Credit Corporation, testified that from merely examining these 21 checks he could not conclude definitely what the transactions represented. He stated that163 the fact that these checks were redeposited in Commercial Credit Corporation's account after endorsement by Brame might indicate that these same checks served the purpose of paying an obligation from the corporation to Commercial Credit Corporation, possibly as a result of a repossession for which the dealer was liable. On the other hand, he testified that he could not state definitely that Commercial Credit Corporation did not pay out cash in the amount of these checks. It is our conclusion and we have found as a fact that all the payments from the Commercial Credit Corporation reserve account were paid in cash and that they were not received by the corporation. We are also satisfied that none of the amounts was paid on behalf of the corporation by the individual petitioners. If any of these checks had been used to discharge any obligations of the corporation to Commercial Credit Corporation, we think the books and records of the corporation would have reflected these payments. Yet the evidence shows that none of these payments from Commercial Credit Corporation appears on the books of the corporation. The evidence also shows that in 1953 Universal CIT Credit Corporation issued164 a check for $452.09 for payment of the amount due from the dealer's reserve account it maintained for the corporation. This check was cashed by Brame and it was not received by the corporation and is not reflected on its books. For the reasons stated above, we are satisfied that this payment was received by Brame and not by the corporation. The only payment from a dealer's reserve account of any finance company which appears on the books of the corporation in the years in question is an amount of $1,000 in the fiscal year ended January 31, 1950. We are not advised what finance company made that payment to the corporation, but the records of Commercial Credit Corporation clearly disclose that it did not come from Commercial Credit Corporation, and therefore is not a duplication of any of the amounts referred to above. 5Brame testified that he could not explain the165 transactions involving the checks which were endorsed by him and which were redeposited in the bank account of Commercial Credit Corporation. As we understand his testimony it was to the effect that all these transactions could have represented payments of obligations of the corporation to Commercial Credit Corporation in instances of repossessed cars or "a floor planned car." He stated that there was nothing on the check to indicate to him the nature of the transaction and that the explaining vouchers were in the possession of Commercial Credit Corporation. He said that he had not attempted to identify these transactions. We are not persuaded by Brame's testimony that the proceeds were used in payment of any corporate obligation. Nor could he explain the other checks representing withdrawals of dealer reserve funds. We are satisfied from this record and have found as a fact that Brame initially received the cash represented by all the dealer reserve checks. Furthermore, we believe and have found that although Brame initially received the cash from the checks, the proceeds were shared equally by him and Carter. These are the only conclusions that can be reached upon this record. 166 We cannot believe that Carter, who was active with Brame in the management of the corporation, would have been unaware of the fact that Brame had received cash belonging to the corporation and would have permitted this without receiving his share of such withdrawals either directly or indirectly. Furthermore, as pointed out in our Findings of Fact, the accountant Bourgeois treated the payments from the dealer reserve accounts as having been received equally by Brame and Carter. The substance of his testimony was that, although not specifically admitting they had received these amounts, the individual petitioners accepted his allocations and did not advise him of any obligations of the corporation which had been paid with these funds. The individuals accepted this allocation in the later settlement of their financial relations, by acquiescing in the action of Bourgeois in charging their personal accounts because of such receipts. The amounts we have found are less in the aggregate for all years than the amounts included by Bourgeois in his audit reports. It is our conclusion that these payments constituted informal or constructive dividends to each of the individuals to the extent167 paid out of earnings or profits of the corporation. Unidentified Income Computed by Bank Deposit and Cash Expenditures Method The respondent introduced into evidence over 150 checks issued by Commercial Credit Corporation and Universal CIT Credit Corporation in favor of the corporation during the years 1950, 1951, 1952, and 1953. We have carefully examined all these checks and have listed in our Findings of Fact those which were cashed or negotiated by the two individuals, and were therefore never deposited in the corporation's bank account. At the hearing the individuals were shown all the checks and were asked to explain the disposition of the proceeds. They testified in very general terms that sometimes they or the corporation would act for customers in obtaining loans from finance companies, in which event a check would sometimes be issued by the finance company in favor of the corporation which would then be passed on to the customer; that in some instances a check from a finance company might represent a payment to the corporation for the specific purpose of purchasing insurance; and that checks in small amounts did not represent payments on discounted notes, but were168 either adjustments of errors or refunds to purchasers of portions of finance charges or insurance upon the prepayment by such purchasers of their obligations to the finance company. Presumably, their testimony was intended to convey the thought that in all such instances the proceeds merely passed through their hands and were not appropriated to their own use. They also testified that on occasion a check might represent payment for a personal car which either of them had sold. However, they were able to identify only a few of the checks as coming within any of the above categories, and these we have not included in our Findings of Fact. Nor have we included certain checks which it reasonably appears may have been used for the payment of some indebtedness of the corporation. We have also excluded certain of the checks in small amounts which Brame testified represented refunds, upon the assumption that he meant that he had passed the proceeds on to customers. Both Brame and Carter testified that any money which they may have obtained from cashing checks drawn in favor of the corporation was used to discharge some corporate indebtedness, but they were unable to identify any such instances. 169 The pattern disclosed by the cashing of these checks by the individuals indicates to us that at least some substantial portion of the proceeds of the checks was diverted to the use of the individuals. Although Brame cashed or negotiated the great bulk of these checks, it is our conclusion that Carter shared in the proceeds, and that the unidentified income of each individual disclosed by the bank deposit and cash expenditures method is composed in large part of the diversion to themselves of finance company payments. Such unidentified income may also include other receipts such as accounts receivable by the individuals in excess of the specific amounts which we have found. We have set forth in the Findings of Fact the respondent's computations of unidentified income of each individual and the revisions which we have concluded are necessary and proper in view of the record and our findings and holding. The principal elements in the computation are not in dispute. At the hearing the parties agreed that the testimony and computations of both the agent and Bourgeois with respect to bank records would be acceptable in evidence without production of such records. In addition, counsel for170 the petitioners admitted that all the cash expenditures shown by the respondent in the computations were made, although he stated that he did not necessarily agree with the agent's classifications of all expenditures as between business and personal. In his computation the respondent made allowance for withdrawals from the bank accounts, thus insuring that there would be no duplication of computed income by use of both cash expenditures and unidentified bank deposits. He also eliminated large amounts which he determined represented nontaxable receipts. We have made several revisions in the respondent's computations as required by the evidence and to take into account and give credit for all identified income and receipts including both the items reported by the petitioners and the items of income which we have specifically found. The petitioners do not seriously dispute the respondent's computations of unidentified income, which are substantially in accord with those made by their accountant, Bourgeois, except in one respect. They impliedly admit that their unidentified deposits and cash expenditures exceeded their receipts in the years in question, but contend that any excess is171 explained by the use of cash which they had on hand at January 1, 1948, in safe deposit boxes. It is, of course, of the utmost importance to determine, if possible, whether, and to what extent, each had cash at that date. The respondent in his computations did not credit either petitioner with any cash as of that time. Brame testified that he had cash in a safe deposit box at the end of 1947 in the amount of between $58,000 and $59,000. He and Carter testified that they went to the bank at some time in the fall of 1947 and counted it. We are not persuaded by their testimony that they did this. There were placed in evidence the bank's records of entries made to Brame's safe deposit box, which show that on the three occasions he visited his box in the Fall of 1947 he remained only one minute. Clearly it would have been impossible to count in one minute this much money particularly if, as Carter testified, it consisted in part of small denominations. There was some testimony to the effect that entries into the safe deposit vault were sometimes made without signing the bank's records, but there was no corroboration of this testimony by bank employees or others. Indeed, Brame at one point172 testified that he always signed the records when he went into his safe deposit box. Furthermore, while Brame may have had some cash on hand in his safe deposit box, we think the evidence clearly indicates that he did not have any such amount as he claims. The evidence shows that from 1940 through 1947 Brame and his wife paid total income taxes as follows: 1940, $243.50; 1941, $787.58; 1942, $911.48; 1943, $423.42; 1944 none; 1945 none; 1946, $84.79; and 1947, $619.94. To us this is indicative that Brame did not have sufficient income in prior years to have accumulated any such amount of cash as he claims. Furthermore, at January 31, 1948, Brame was indebted to the bank for $1,000 of borrowed money and he and Carter were jointly indebted to the bank for $33,500 of borrowed money which was used by the corporation. It has been stipulated that Brame paid interest in the amount of $136.22 in 1948 and larger amounts in subsequent years. It is highly improbable that Brame would have borrowed money and paid interest thereon had he had such a hoard of cash as he claims, and he did not give any plausible reason for so doing. See Anderson v. Commissioner (C.A. 5), 250 F. 2d 242,173 and Goe v. Commissioner (C.A. 3), 198 F.2d 851">198 F. 2d 851, certiorari denied 344 U.S. 897">344 U.S. 897, affirming Memorandum Opinion of this Court. Brame's testimony was contradictory and unreliable. We also note that although he testified that he had $25,000 in his safe deposit box on December 31, 1951, and $17,000 on December 31, 1952, in financial statements which he furnished to his bank on October 4, 1951, and January 1, 1953, Brame represented that he had cash on hand and in banks of only $1,000 and $2,000, respectively. It is also of some significance that Bourgeois, in his computation of Brame's unreported unidentified income, allowed no cash at January 1, 1948, because Brame could not or would not commit himself to a specific amount. And in his petition to this Court filed in 1954, Brame stated that he had undeposited cash at December 31, 1947, "but the amount thereof has not yet been definitely determined." Since the whole record shows that Brame was accustomed to expending sizeable amounts of cash at various times, we think it reasonable to conclude that he did have some cash on hand at January 1, 1948, which may have been used for making expenditures and deposits174 thereafter. 6 Brame kept no records of cash on hand and the record does not permit of a precise finding as to the amount of cash. However, since we believe that he should be allowed some amount we have exercised our best judgment in the light of the whole record and have concluded that he had on hand an amount of $2,500 in cash at January 1, 1948. We have included this amount in the computation of his unidentified income. Carter testified that at the end of 1947 he had cash in the amount of $68,000 to $70,000 in his safe deposit box. He and Brame testified that they together went to the safe deposit box at sometime in the Fall of 1947, took out the money that was contained therein, put it in a paper175 bag, returned to their office and counted the money. Carter testified that he returned the cash to the safe deposit box that same day. We consider Carter's testimony also unreliable, and we reject this story. The bank records show that Carter did not make more than one entry in any one day during the year 1947. Carter testified that he at times entered his safe deposit box without signing the bank records. However, we are unwilling to accept this as the truth in the absence of any corroboration by bank employees that this was permitted. We do not doubt that Carter had some cash, but the record as a whole indicates to us that he could not have had any such amount as he claims. As indicated above he and Brame jointly borrowed a substantial amount of cash from the bank for the use of the corporation, and it has been stipulated that Carter paid interest in the amount of $244.71 in 1948 and other amounts in later years. It is our conclusion, as in the case of Brame, that it is highly improbable that Carter would have borrowed money and paid interest thereon had he had such a hoard of cash as he claims. We also note that Carter testified to having withdrawn in June or July of 1951 an amount176 of $40,000 from his safe deposit box in Baton Rouge and placing it in a safe deposit box in Natchez. But the records of the Baton Rouge bank show the only time Carter entered his box in 1951 was in February. Furthermore, on May 27, 1949, and on November 9, 1950, he furnished financial statements to his bank representing that he had cash on hand and in banks in the amounts of only $8,000 and $2,610.60, respectively. Carter likewise was unwilling or unable to definitely go on record, at Bourgeois' request, as to the amount of cash he had on hand at January 1, 1948, and Bourgeois accordingly allowed no opening cash in his computation of Carter's unidentified income. Nevertheless, we think that since the record indicates that Carter was accustomed to expending sizeable amounts of cash, it is reasonable to conclude that he did have some cash at January 1, 1948, which may have been used for making deposits and expenditures thereafter. Here also, as in the case of Brame, we have had to make the best estimate possible from the whole record. We have concluded and found that Carter had cash on hand at January 1, 1948, in the amount of $3,000, and have included that amount in the computation177 of his unidentified income. It is noted that the respondent gave Carter credit for cash of $15,300 actually on hand at January 1, 1943, which he had included as a "cash expenditure" in 1952. A similar situation is disclosed by the record as to Brame at the close of 1952 and the beginning of 1953. The revenue agent's schedule shows that Brame was charged with a "cash expenditure" of $2,988.05, representing cash actually on hand at December 31, 1952. The respondent did not, however, give Brame credit for this cash in the computation of unidentified income of 1953. We have done so in our revision of the respondent's computation. In the respondent's computation of unidentified income in the case of each individual petitioner he has given credit for identified cash receipts in the amount of the accounts receivable which he claims the record proves that they received and which he proposes to tax to them. The amounts of such accounts receivable which we have found that the evidence definitely shows they received are less than those claimed by the respondent, and accordingly we have, in our revised computation of unidentified income, given petitioners credit for identified cash from this178 source in the lesser amounts. It may be added that a careful examination of the exhibits fails to disclose that the larger amounts used by the respondent were actually identified. Rather, it appears that he gave credit for these large amounts because he proposed to tax them upon such amounts. As set forth in our Findings of Fact, the unidentified and unreported income of Brame and Carter, computed by the bank deposit and cash expenditures method was as follows: 194819491950195119521953Brame$18,887.74$10,813.46$3,174.64$16,190.64$ 5,108.61$5,278.56Carter20,499.4220,140.158,312.7714,370.8913,730.102,923.62 These computations reflect unreported income from any and all sources. It does not appear that the individual petitioners had any business activities other than those described in our Findings of Fact, and the respondent does not contend that they had. We think it reasonable to conclude that the bulk of this unidentified and unreported income consisted of diversions of amounts due the corporation from finance companies, principally from the discounting of notes, although, as previously stated, it may also include179 some income from collection of the corporation's accounts receivable. These amounts constitute taxable dividends to them to the extent of available earnings and profits of the corporation. Farms Under the pleadings there is at issue the question whether Brame is entitled to deductions on account of farm expenditures in each of the years 1948 through 1953. This issue is raised in Carter's case as to the years 1950 through 1953. 7Whether an enterprise is conducted as a business for profit is a matter of intention and good faith, and all the facts in a particular case are to be considered. Commissioner v. Field (C.A. 2), 67 F.2d 876">67 F. 2d 876, affirming 26 B.T.A. 116">26 B.T.A. 116; Doggett v. Burnet (C.A.D.C.), 65 F. 2d 191;180 Thacher v. Lowe, 288 Fed. 994; Edwin S. George, 22 B.T.A. 189">22 B.T.A. 189; and American Properties, Inc., 28 T.C. 1100">28 T.C. 1100, affd. (C.A. 9), 262 F.2d 150">262 F. 2d 150. Intention is a question of fact to be determined not only from the direct testimony as to intent, but from a consideration of all the evidence, including the conduct of the parties. The statement of an interested party of his intention and purpose is not necessarily conclusive. Helvering v. National Grocery Co., 304 U.S. 282">304 U.S. 282, affirming 35 B.T.A. 163">35 B.T.A. 163. Brame testified that it was his intention when he acquired the farm to try to make some money out of it, and that in the past he had had a profitable farm operation. Carter testified that his intention at the time he acquired both the Greenville Springs Road property and the Manchac Plantation was to breed and sell horses and conduct a profitable business and that when he bought Manchac Plantation he bought cattle for the purpose of making a profit. Taking into consideration all the evidence presented, we cannot accept this testimony of the individuals as determinative here. These petitioners were in the automobile181 business and devoted their full business time to that business. The farms were used as their residences. Neither petitioner in any of his returns claimed any deductions on account of expenditures in connection with the farming operations. No records were kept of the farming operations as would be true in the case of a bona fide business operation. Some income was derived from these operations by each individual. However in the case of Brame it was insignificant in most years. In the case of Carter the income was relatively higher, but still quite disproportionate in the aggregate to the expenditures made. Each of them had continuing substantial losses throughout the years that they operated the farms. It is true, of course, that a record of losses over a series of years does not in itself preclude the allowance of such losses as business expenses, but the continuing lack of profits is an important factor bearing on the taxpayer's true intention. Morton v. Commissioner (C.A. 2), 174 F.2d 302">174 F. 2d 302, certiorari denied 338 U.S. 328">338 U.S. 328, and Thacher v. Lowe, supra.The evidence as a whole negates the view that either petitioner had a program of development182 of farm operations calculated or intended to ultimately lead to a profitable enterprise. Upon a careful consideration of the record as a whole, we have concluded and have found as a fact that neither petitioner conducted the farming operations with the intention of making a profit, and that in neither case did such operations constitute the conduct of a trade or business. Rather, it appears to us that the farm activities were incidental to the use and enjoyment of these properties as the petitioners' personal residences. See Coffey v. Commissioner (C.A. 5), 141 F.2d 204">141 F. 2d 204, affirming 1 T.C. 579">1 T.C. 579; Louise Cheney, 22 B.T.A. 672">22 B.T.A. 672; and John Randolph Hopkins, 15 T.C. 160">15 T.C. 160. As such, they constitute personal nondeductible expenditures within the meaning of section 24(a)(1) of the Internal Revenue Code of 1939. In the recomputation under Rule 50, the petitioners will not be entitled to any deductions on account of farming operations. Fraud Issues For each of the years 1948 through 1953 the respondent has made 50 per cent additions to the deficiencies computed by him, asserting that some part of the deficiency of each individual is due183 to fraud with intent to evade tax. Section 293(b) of the Internal Revenue Code of 1939. 8 Upon this issue the burden of proof rests upon the respondent. Section 1112 of the Internal Revenue Code of 1939. And it has been held that fraud may never be presumed but must be shown by clear and convincing proof. Archer v. Commissioner (C.A. 5), 227 F. 2d 270; Drieborg v. Commissioner (C.A. 6), 225 F. 2d 216; Kashat v. Commissioner (C.A. 6), 229 F. 2d 282; Arlette Coat Co., 14 T.C. 751">14 T.C. 751; Frank Imburgia, 22 T.C. 1002">22 T.C. 1002; and Shaw v. Commissioner (C.A. 6), 252 F. 2d 681, affirming 27 T.C. 561">27 T.C. 561. 184 In the instant case the evidence affirmatively establishes that in each of the years in question each petitioner diverted from the corporation substantial sums of money through collection of accounts receivable of the corporation and collection of payments from finance companies owing to the corporation, and that these amounts were not included in any records kept by them or in their returns. Indeed, they kept no records from which their taxable income could be computed. Both of them dealt largely in cash and there was no way to precisely determine their income. Both the respondent and the certified public accountant employed by the petitioners found it necessary to resort to the bank deposit and cash expenditures method of determining a portion of the income received by the petitioners from the finance companies, principally the amounts of payments on discounted notes of the corporation. In addition, there were numerous smaller items which the petitioners failed to report on their returns, such as interest and capital gains upon the sales of property. The only income, with minor exceptions, reported by the two individuals consisted of certain formal dividends from the corporation185 and salary payments in the year 1953. It appears that the recomputation will disclose that the total amount of income which each petitioner should have reported, computed in accordance with our conclusions herein, ranges from about twice the amount reported to many times the amount reported over the various years. The amounts diverted by them from the corporation through the collection of accounts receivable, dealer reserve payments, and "unidentified income," range from 1 to 8 times the total income reported by them. While the mere omission of reportable income is not of itself sufficient to establish fraud, there can be no question that repeated understatements of taxable income over a period of years, coupled with circumstances showing an intent to conceal or misstate taxable income, does indicate an intent to evade tax. Holland v. United States, 348 U.S. 121">348 U.S. 121; Bryan v. Commissioner, (C.A. 5), 209 F. 2d 822; Anderson v. Commissioner (C.A. 5), 250 F.2d 242">250 F. 2d 242, affirming a Memorandum Opinion of this Court; Rogers v. Commissioner (C.A. 6), 111 F.2d 987">111 F. 2d 987; and Schwarzkopf v. Commissioner (C.A. 3), 246 F. 2d 731. 186 Both Brame and Carter are intelligent and experienced businessmen and we think they must have known that the money appropriated by them constituted taxable income. We can reach no other conclusion than that their purpose in failing to report it was to evade tax thereon. Furthermore, we also believe that even the smaller amounts of income which they failed to report, such as interest and capital gains, were omitted from their returns with intent to evade tax thereon. It is our conclusion that the evidence presented affirmatively and convincingly establishes that some part of the deficiency for each of the individual petitioners for each year in question is due to fraud with intent to evade tax, and we have so found as a fact. In reaching this conclusion we have not relied to any extent upon the presumption in favor of any determination of the respondent made in the notices of deficiency. The proper additions to tax under section 293(b) will be computed in the recomputation under Rule 50. Additions to Tax Under Sections 294(d)(1)(A) and 294(d)(2) of the Internal Revenue Code of 1939 In the notices of deficiency the respondent determined additions to tax in each of the years 1948187 through 1953 against Brame for failure to file a declaration of estimated tax. 9 Such addition must be imposed unless the petitioner shows that the failure to file was due to reasonable cause and was not due to willful neglect, the burden of proof resting upon the petitioner. Joe W. Stout, 31 T.C. 1199">31 T.C. 1199, affd. sub nom. Rogers v. Commissioner (C.A. 4) - F. 2d -, and R. A. Bryan, 32 T.C. 104">32 T.C. 104, affd. (C.A. 4) - F. 2d -. Brame has adduced no evidence whatsoever with respect to this subject. His returns corroborate the respondent's determination that no declarations of estimated tax were filed. Under these circumstances we must hold that he is liable for proper additions to tax for each of the years under section 294(d)(1)(A). 188 The respondent also determined additions to tax against Brame for each year under section 294(d)(2) for substantial underestimation of tax. 10 However in this the respondent was in error. In Acker v. United States, 361 U.S. 87">361 U.S. 87, the Supreme Court held that section 294(d)(2) does not authorize the treatment of a taxpayer's failure to file a declaration of estimated tax as equivalent to estimating his tax to be zero, and that in the case of a failure to file there are no additions to tax under that section. In the notices of deficiency the respondent determined additions to tax in each of the years 1950 through 1953 against Carter under section 294(d)(1)(A) for failure to file declarations of estimated tax. Here, as189 in the case of Brame, the burden is upon Carter to show that his failure to file was due to reasonable cause and not due to wilful neglect. Carter has introduced no evidence whatsoever upon this subject. His returns corroborate the respondent's determination that no declarations of estimated tax were filed for those years. Accordingly, we approve the imposition of additions to tax under section 294(d)(1)(A) for those years. A different situation prevails as to the years 1948 and 1949. The respondent did make a determination in the notice of deficiency as to those years, but, rather, affirmatively alleged in an amendment to his answer that Carter is liable for additions to tax under sections 294(d)(1)(A) and 294(d)(2) for those years. Accordingly, the burden of proof is upon the respondent to show that Carter's failure to file declarations of estimated tax for 1948 and 1949 was not due to reasonable cause but was due to willful neglect. Rule 32, Rules of Practice of this Court. Since there is no evidence upon this subject, we must hold that the respondent has failed to show that Carter is190 liable for additions to tax under section 294(d)(1)(A) for 1948 and 1949. Also, as in the case of Brame, we hold that Carter is not liable for additions to tax for any of the years under section 294(d)(2). The Corporation The respondent in the notices of deficiency determined that the corporation had unreported income in the respective amounts of $41,923.05, $44,442.37, $40,291.63, and $14,790.77 for the fiscal years ended January 31, 1949 through January 31, 1952. Although the respondent did not set forth any details as to sources of this income, his determination is presumed to be correct and the burden of proof was upon the petitioner to show that such determination was erroneous. This the petitioner has not done, having adduced very little proof with respect thereto. On the contrary, the evidence is to the effect that the books of the corporation were incomplete and unreliable and such evidence as we have indicates that the corporation did in fact understate its income in its returns. During the years in question, Commercial Credit Corporation credited to the corporation in the191 dealer reserve account it maintained for the corporation the respective amounts of $934.58, $2,326.90, $4,324.73, and $7,972.49. These amounts constituted accrued income to the corporation in the years the accounts were credited. Commissioner v. Hansen, 360 U.S. 446">360 U.S. 446, and Arthur V. Morgan, 29 T.C. 63">29 T.C. 63, affd. (C. A. 9), 277 F.2d 152">277 F. 2d 152. The corporation did not report the amounts credited and Bourgeois, in his audit, adjusted the corporation's income in this respect for each year, the aggregate of such amounts for the four-year period being substantially the same as the amount we have found. As pointed out hereinabove, the individuals received large amounts of unreported income computed by the bank deposits and cash expenditures method. In the calendar years 1948 through 1951 these totaled approximately $39,500, $31,000, $11,500, and $30,500. These amounts consisted principally of diversions of corporate income including amounts due the corporation from finance companies upon the discount of notes received upon sales of cars. The sales should have been entered on the books of the corporation and been reflected in its taxable income, since there192 is no evidence to show that the cost of such sales was not taken into account. Testimony of the corporation's bookkeeper, Anderson, and of Bourgeois, was to the effect that the normal accounting practice of the corporation in the case of a credit sale in connection with which the customer's note was discounted was to debit accounts receivable in the amount of the selling price and credit sales; upon the receipt by the corporation of cash from the finance company, the cash account would be debited (increased) and the accounts receivable would be credited (reduced). In any instance where a note was discounted but the corporation did not receive the cash, there would be no debit to cash and any account receivable which has been set up would remain open. There were no open accounts other than those referred to hereinbefore. The accountant Bourgeois found the accounts of the corporation in balance (except possibly for the open accounts receivable hereinbefore referred to). Accordingly, with respect to those sales where payments on discounted notes were not received by the corporation and deposited in its bank account, it would appear logical to conclude that no accounts receivable, and193 therefore no profit, were reflected on the books or in the returns of the corporation. This was the conclusion reached by Bourgeois in his testimony. In any event, the petitioner did not show that all such transactions were properly reflected. Upon this record we must approve the respondent's determination of income unreported by the corporation. The amounts to be used in the recomputation under Rule 50 as unreported income are those determined by the respondent in the notices of deficiency, without separately including amounts credited to dealer reserve accounts or any other specific items. In such recomputation the corporation will be entitled to deduct, as salaries, the weekly payments to the individuals for each year and the monthly payments in the last fiscal year, as well as the agreed additional amounts as travel and entertainment expenses. It is also entitled to deduct in the fiscal year ended January 31, 1952, the amount of $2,600 as legal expenses and $3,077.52 as a carry-back of a net operating loss from the year ended January 31, 1954, both as stipulated. It is not entitled to any deduction for rent for use of property, since none was owing or paid. Nor has it shown194 that a claimed item of $2.50 as a "discount charge" in the year ended January 31, 1951, is deductible. Decisions will be entered under Rule 50. Footnotes. All these cases are consolidated herein for disposition; they were not consolidated for trial.↩1. All statutory references are to the Internal Revenue Code of 1939.↩. These amounts were credited to the personal accounts of the individuals.↩. Allowable to the extent provided by statute depending upon gross income.↩. Allowable to the extent provided by statute depending upon gross income.↩2. In August 1954 Carter sold his stock to Brame and severed his connections with the corporation. In connection with the sale Carter transferred to Brame all his interest in the jointly held Florida Street property and Brame transferred to Carter all his interest in the jointly owned warehouse property on North Leo or Beck Street. At the same time Carter's personal account on the corporate books was closed out and Brame's personal account was charged to that extent. In connection with the closing of Carter's personal account a check was drawn on the corporation's checking account for $52,553.76, payable to Carter; Carter deposited this in his personal checking account and then drew his personal check dated August 10, 1954, for $52,553.76, payable to the corporation; and the corporation deposited this check in its bank account. It also appears that in the over-all transactions Carter received certain used cars and certain improvements on a used car lot. Neither individual reported any dividend from any of these transactions. Later, in 1957, after Carter had become disassociated from the corporation and its name had been changed to Brame and Johnson, the corporation became indebted for certain cars which had been purchased and suit was brought against the corporation. At that time Brame sold his personal home and farm for approximately $225,000 and also sold his property on Florida Street. He paid large corporate indebtedness, including an amount of approximately $69,000 to Universal CIT Credit Corporation, exhausting the proceeds of the sales which he had made. Thereafter his personal account on the books of the corporation was closed out.↩. Includes compensation as election commissioner. ↩. This consists of notes of various individuals. There is no detailed explanation in the record of this item, but since the respondent gives the individuals credit for these items as identified deposits we have not disturbed his determination in this respect. ↩*. This item eliminates various nontaxable receipts such as borrowed money, repayments of loans, reimbursements, and refunds.↩. This is salary, but treated by respondent as both monthly payments and salary. ↩. In this computation the respondent treated cash deposits and unidentified deposits as expenditures of cash. ↩. This category includes a number of items and therein the respondent gives petitioner credit for cash withdrawals from his bank account.↩1. Cash on hand at January 1, 1948. ↩3. Includes dividend of $90 from Fidelity National Bank reported in return. ↩4. Includes $420 which petitioner included in return from sale of livestock.↩2. Amount shown by respondent's computation as on hand at Dec. 31, 1952, and treated as "expenditure of cash" to be accounted for. It would be available to explain expenditures in 1953. ↩2. This item eliminates various nontaxable receipts, such as borrowed money, repayments of loans, reimbursements, refunds of insurance, and transfers of funds from savings accounts. ↩3. Eliminated from unidentified deposits in respondent's final computation.↩1. This is salary and treated by respondent as such (although included under "Monthly payments".) ↩1. Respondent treats cash deposits and unidentified deposits as expenditures of cash. ↩3. In this item respondent gives petitioner credit for cash withdrawals from his bank account. Also for the year 1953, he credits petitioner with cash of $15,300 which was included as cash on hand at Dec. 31, 1952, and as an "expenditure of cash" in 1952 Respondent thus treats the $15,300 as available to explain expenditures in 1953. ↩4. Includes dividends from Baton Rouge Building & Loan Assn. in 1949 and 1950, in addition to formal dividends from the corporation for 1949.↩2. Slight unexplained variance from original computation of cash deposits. ↩. Cash on hand at January 1, 1948.↩3. Even so, the transcripts of the three cases total over 1,000 pages and the number of exhibits is in excess of 100.↩4. (a) Definition of Dividend. - The term "dividend" * * * means any distribution made by a corporation to its shareholders, whether in money or in other property, (1) out of its earnings or profits accumulated after February 28, 1913, or (2) out of the earnings or profits of the taxable year (computed as of the close of the taxable year without diminution by reason of any distributions made during the taxable year), without regard to the amount of the earnings and profits at the time the distribution was made. * * * (b) Source of Distributions. - For purposes of this chapter every distribution is made out of earnings or profits to the extent thereof, and from the most recently accumulated earnings or profits. * * (d) Other Distributions from Capital. - If any distribution made by a corporation to its shareholders is not out of increase in value of property accrued before March 1, 1913, and is not a dividend, then the amount of such distribution shall be applied against and reduce the adjusted basis of the stock provided in section 113, and if in excess of such basis, such excess shall be taxable in the same manner as a gain from the sale or exchange of property.↩5. The petitioners' bookkeeper, Anderson, testified that he thought the $1,000 was paid by a check from a dealer's reserve account of some finance company. Bourgeois, the accountant, testified he had made a search of records of several finance companies but had been unable to identify the source of the payment.↩6. It may be noted in passing that the amount Brame and Carter had in the safe deposit boxes at January 1, 1948, is important only if such cash was withdrawn and deposited or spent in the years in question. The evidence shows that they entered their safe deposit boxes infrequently, but made cash deposits and expenditures frequently. We can detect no correlation between the dates of their visits to their safe deposit boxes and the dates of their cash bank deposits and expenditures.↩7. The respondent concedes that for the years 1951, 1952, and 1953 he allowed farm losses in arriving at his computation of net income of each individual, but now contends that this was in error, conceding that the burden of proof is upon him as to those years. However, as we view the evidence, the decision of the issue in none of the years turns upon the burden of proof.↩8. SEC. 293. ADDITIONS TO THE TAX IN CASE OF DEFICIENCY. * (b) Fraud. - If any part of any deficiency is due to fraud with intent to evade tax, then 50 per centum of the total amount of the deficiency (in addition to such deficiency) shall be so assessed, collected, and paid, in lieu of the 50 per centum addition to the tax provided in section 3612(d)(2)↩.9. SEC. 294. ADDITIONS TO THE TAX IN CASE OF NONPAYMENT. (d) Estimated Tax. - (1) Failure to file declaration or pay installment of estimated tax. - (A) Failure to file a declaration. - In the case of a failure to make and file a declaration of estimated tax within the time prescribed, unless such failure is shown to the satisfaction of the Commissioner to be due to reasonable cause and not to willful neglect, there shall be added to the tax 5 per centum of each installment due but unpaid, and in addition, with respect to each such installment dut but unpaid, 1 per centum of the unpaid amount thereof for each month (except the first) or fraction thereof during which such amount remains unpaid. * ↩10. Section 294(d)(2) provides in part: (2) Substantial underestimate of estimated tax. - If 80 per centum of the tax * * exceeds the estimated tax * * * there shall be added to the tax an amount equal to such excess, or equal to 6 per centum of the amount by which such tax so determined exceeds the estimated tax * * , whichever is the lesser. * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623794/	PITTSBURGH STEEL FOUNDRY CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Pittsburgh Steel Foundry Corp. v. CommissionerDocket No. 105752.United States Board of Tax Appeals47 B.T.A. 180; 1942 BTA LEXIS 721; June 25, 1942, Promulgated 721 A state statute, applicable to provisions in petitioner's stock certificates, prohibited payment of dividends. Held, no credit allowable under section 26(c)(1), Revenue Act of 1936; held, further, under the same section, that a general provision in a mortgage did not expressly deal with payment of dividends. W. W. Stoner, Esq., for the petitioner. Orris Bennett, Esq., for the respondent. DISNEY180 OPINION. DISNEY: The subject of this proceeding is income tax for the calendar years 1936 and 1937. Deficiencies were determined in the respective amounts of $39,188.61 and $42,393.51. The question for solution is whether the petitioner is entitled to credit because of contracts restricting payment of dividends within the intendment of section 26(c)(1) of the Revenue Act of 1936. All facts have been stipulated and we find them as so stipulated. We shall hereinafter state only such facts as are necessary to consideration of the issue at hand. The income tax returns for the taxable years were filed by the petitioner in the twenty-third collection district of Pennsylvania. 722 The Commissioner determined in the deficiency notice that no credit could be allowed in computing surtax on undistributed profits by reason of alleged contracts dealing with the payment of dividends. It is the burden of the petitioner to show error in such determination. The petitioner seeks to do so by citing the decision in , to the effect that a stock certificate may constitute a contract restricting payment of dividends within the intent of section 26(c)(1) of the Revenue Act 181 of 1936, 1 and by attempting to show wherein the stock certificates issued by the petitioner constituted such contracts; also by reliance upon the provisions of a mortgage given to the Union Trust Co. We assume herein, without so deciding, that under the decision in the Lehigh Structural Steel Co. case, supra, a stock certificate may constitute a contract under section 26(c)(1); for we have concluded, upon examination of the stock certificates here involved, that they do not contain such restrictive provisions as are within the purview of the section; and that the mortgage provision likewise does not come723 within the ambit of the act. First, as to the provision of the mortgage: It reads as follows: Section 11. The Corporation shall not pass any vote nor do any act tending, directly or indirectly, to lessen or impair the value of the property hereby mortgaged or intended724 so to be, or the security of these presents; and it will prevent its officers, employees, and agents from passing any such vote, and from doing any such act, in so far as it may have power so to do. We consider it so clear that such provision does not satisfy section 26(c)(1) that we do not give it lengthy discussion; for that section requires a provision which "expressly deals with the payment of dividends." There is nothing whatever express as to dividends in the language quoted above from the mortgage. Patently Congress by the phrase "expressly deals" particularly intended to eliminate contractual provisions so completely general as the above; therefore we eliminate it at once, as not satisfying the statute, and pass to consideration of the provisions of the stock certificates, relied upon as complying with section 26(c)(1). The provisions in question were contained in certificates evidencing both preferred and common stock, and in pertinent part provide that holders of preferred stock shall receive "from the surplus or net profits of the Corporation" dividends at the rate of 5 percent, to accrue from April 1, 1925, such dividends to be cumulative, and to be paid (or money725 set apart for payment thereof) before any dividend on any of the stock shall be paid (or money set apart for payment thereof); also that The holders of the Preferred Stock shall not be entitled to receive any dividend or share of profits beyond five per centum (5%) per annum, payable only 182 in cash whether or not dividends on other stock be payable in cash, stock, or property, nor shall said holders have any preemptive right to subscribe for or purchase any new issue of stock of any class now or hereafter authorized or issued. Briefly stated, petitioner's position is, first, as to preferred stock, this: that under the pertinent language in the preferred stock certificates dividends upon preferred stock could not be paid except in cash, that under the law of Pennsylvania dividends could be paid only from surplus, that there was no surplus, for certain reasons set forth, and that therefore no dividends on preferred stock could be paid, the statute was satisfied, and the credit was due the petitioner. The error in petitioner's argument, in our opinion, is that it does not rely on the stock certificate provisions alone to restrict the payment of dividends, but, perforce, 726 relies on them together with the state statute. That this is clearly the position of the petitioner is emphasized by its brief, where stating its view on this point, it says: * * Our principal contention is as follows: (a) That under the provisions of the preferred and common stock certificates, the Act of Assembly of the Commonwealth of Pennsylvania approved May 5, 1933, * * * and Section 26(c)(1) of the Revenue Act of 1936 * * * the petitioner was entitled to credit * * . Again, it is stated what the position is, and the first item discussed thereunder is the state statute, which is quoted at length, to the effect that dividends may be paid only out of surplus, and including in liabilities the amount of stated capital after deducting from the aggregate of assets the amount by which such aggregate was increased by unrealized appreciation in value or revaluation of fixed assets; and the petitioner contends, in that connection, that in fact there was such upward revision of the value of assets, at the time petitioner took them over from its predecessor, and that such amount, $592,923.55, is shown in petitioner's capital surplus in both taxable years, so that if the state727 statute had been followed and such unrealized appreciation deducted there would have been impairment of capital and no surplus. But if we assume all such facts, it still remains obvious that under the petitioner's argument the only effect of the preferred stock certificate provisions was to prohibit dividends other than in cash, for, had it not been for the state statute requiring dividends to be from surplus, taking into consideration the particular statutory provision as to deduction of unrealized appreciation, they might have been paid in cash from surplus existing if such statute had not existed. Plainly, then, the preferred stock certificates did not contravene section 26(c)(1), for dividends on preferred stock could have been paid "without violating a provision" thereof. The state statute is not the contract contemplated. ; ; . We hold that in the above respect 183 the petitioner's view is in error, and that credit under section 26(c)(1) was properly denied728 to the extent necessary to pay dividends upon preferred stock. As an alternate contention, however, the petitioner urges that even if payment of dividends on preferred stock was possible under the statute, yet after deduction from undistributed net income of an amount sufficient to pay the preferred stock dividends, the remainder comes within the ambit of section 26(c)(1). Petitioner relies upon the following language appearing on certificates for both preferred and common stock: Whenever all cumulative dividends on the Preferred Stock previously payable shall have been paid and moneys for the dividend on the Preferred Stock next becoming payable shall have been set apart for the payment thereof and all the aforesaid quarter-yearly sums of $12,500 have been set apart at the appointed times, the Board of Directors may declare dividends on the Corporation's Common Stock without nominal or par value (hereinafter referred to as the "Common Stock"), payable then or thereafter, out of the remaining surplus or net profits; provided, however, that no dividends shall be declared or paid upon the Common Stock (1) except out of current earnings of the Corporation or its predecessor accumulated729 subsequent to January 1, 1925, or, (2) unless the current assets of the Corporation amount to at least four times its current liabilities, or, (3) when such dividend would have the effect of reducing the current assets of the Corporation to an amount less than four times its current liabilities; the term "current assets" to be understood to mean cash, good accounts receivable, and inventory at cost or market price, whichever is lower, and the term "current liabilities" to be understood to mean taxes, accounts, notes, and bills payable (but not the Corporation's First Mortgage Six Per Cent. Sinking Fund Gold Bonds, dated April 1, 1925). The petitioner construes the above language to mean that under the contract contained in the stock certificates dividends upon common stock are expressly prohibited for "any one and all" of the following reasons: (a) Unless and until all cumulative dividends on the preferred stock previously payable shall have been paid and moneys for the dividends on the preferred stock next becoming payable shall have been set apart for the payment thereof. (b) Except out of the remaining surplus or net profits of the corporation after payment of dividends730 on the preferred stock and the setting apart of money for the then next payment as set forth in (a) above. (c) Except out of current earnings of the corporation or its predecessor accumulated subsequent to January 1, 1925. (d) Unless the current assets of the corporation amount to at least four times its current liabilities. (e) When the payment of such dividend would have the effect of reducing the current assets of the corporation to an amount less than four times its current liabilities. The petitioner points out that such conditions did not all exist. The respondent, on the contrary, argues that each of the above provisions as set forth on the stock certificate is in the disjunctive,184 separated from the others by "or" and that the petitioner seeks to change "or" into "and", making this provision conjunctive, contrary to the express language of the certificates. In other words, respondent in effect says that the statute in substance provides merely that no dividends on common stock shall be declared or paid unless (1) there are sufficient earnings accumulated since January 1, 1925, or (2) current assets and liabilities were at all times maintained731 at a ratio of four to one, and that if either condition obtained dividends could have been paid. Petitioner upon reply brief says: "Our contention is that subdivisions (1), (2), and (3) above [referring to the statute last above quoted] all modify the phrase that 'no dividend shall be declared or paid upon the common stock' and make the whole mean that none can be paid unless they can be paid without the violation of any one of the three conditions." (Italics supplied.) After study of the statutory expression, we come to the conclusion that "or" is used in the usual, disjunctive, sense, and that the intent expressed on the stock certificates was that dividends might be paid either if there were current earnings of the petitioner or its predecessor, accumulated subsequent to January 1, 1925, or in case the ratio of four to one existed between current assets and liabilities. Had the intent been otherwise it could have been simply and plainly expressed as requiring all conditions to be met before dividends could issue. Rules of statutory interpretation as to common understanding of the term "or" require the above conclusion, in our opinion. It has not been shown that neither732 condition obtained here. We conclude that the petitioner was not entitled to credit under section 26(c)(1) of the Revenue Act of 1936. 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/4623795/	CHM Company (Dissolved) by Richard A. McDougal, Erma E. McDougal, O.A. Church, Marie M. Hull and David W. Dresnick, Directors, Petitioner v. Commissioner of Internal Revenue, RespondentCHM Co. v. CommissionerDocket No. 1691-74United States Tax Court68 T.C. 31; 1977 U.S. Tax Ct. LEXIS 125; April 11, 1977, Filed 125 Decision will be entered under Rule 155. Subchapter S. -- In 1961 CHM Co. filed an election under sec. 1372 of subch. S of the Internal Revenue Code of 1954. One of its five shareholders filed a voluntary petition in bankruptcy under ch. XI of the Bankruptcy Act in 1963, and another shareholder filed a voluntary petition in proceedings under ch. XII of the Bankruptcy Act in 1969. Held, a corporation's status as an electing corporation under subch. S is not terminated by the filing of petitions under ch. XI or XII by some of its shareholders. Malcolm S. Weintraub and Anthony127 R. Giannoni, for the petitioner.Edward B. Simpson, for the respondent. Wilbur, Judge. WILBUR31 Respondent has determined the following deficiencies in petitioner's Federal income tax:TYE Mar. 31 --Deficiency1969$ 68,743197030,328197138,757The issue for decision is whether petitioner's status as an electing corporation under subchapter S of the Code was terminated by the filing of petitions under chapter XI or XII of the Bankruptcy Act by some of its shareholders.FINDINGS OF FACTAll of the facts have been stipulated and are found accordingly.Petitioner CHM Co. (CHM) was incorporated under the laws of California on July 31, 1961, and was dissolved under the laws of California in 1972. Prior to dissolution, the principal office of CHM was in Walnut Creek, Contra Costa County, Calif. The petition herein was filed by CHM directors authorized to act on behalf of CHM.During all relevant periods, CHM reported for Federal income tax purposes on a fiscal year basis ending March 31. 32 On or about August 23, 1961, CHM filed an election under section 1372 of subchapter S of the Internal Revenue Code of 1954 for its fiscal year ending March128 31, 1962, and the shareholders filed their consents thereto. CHM filed its Federal income tax returns for the periods involved with the Internal Revenue Service Center in Ogden, Utah.CHM was authorized to issue only one class of stock. Its authorized capital was an aggregate par value of $ 1 million comprised of 100,000 shares at $ 10 per share. The company made an initial issuance of stock on August 15, 1961, as follows:NumberCertificateofNo.Name of shareholdershares1M. W. Hull302J. E. Harbinson303Harvey A. McDougal104O. A. Church105Richard A. McDougal10On July 22, 1963, Manuel Wilson Hull, also known as M. W. Hull, a CHM shareholder, and his wife, Marie M. Hull, filed with the United States District Court for the Northern District of California a voluntary petition in proceedings under chapter XI of the Bankruptcy Act. The 30 shares of CHM stock owned by M. W. Hull were listed as an asset of M. W. Hull in schedules attached to and made a part of the petition, which schedules set forth petitioner's assets and liabilities. Upon filing the petition, M. W. Hull became a debtor in possession. The chapter XI proceeding was still129 in progress as of the date of filing of the stipulation of facts in this matter.Raymond S. Torkelson, an attorney at law in Sacramento, Calif., was appointed the receiver in the Hull proceeding on December 30, 1963. The order of the Court states in pertinent part:The motions of L.E. Weisenberg, Jr. and Oliver Kullberg for an order to modify stay order and to require the posting of bond and the appointment of a receiver having come on for hearing before the Honorable Evan J. Hughes, Referee in Bankruptcy, and the Referee being fully advised it is ordered:(1) That Raymond Torkelson, Esquire, be and hereby is, appointed Receiver of the property of the debtors herein, including but not limited to 33 the premises known as the Bret Harte Inn, Grass Valley, California, the furniture, fixtures and inventory therein; the stock of CHM Corporation, a California corporation, belonging to the debtors * On December 9, 1969, James Eugene Harbinson, also known as J. E. Harbinson, filed with the United States District Court for the Northern District of California a voluntary petition in proceedings under chapter XII of the Bankruptcy Act. The 30 shares of CHM stock owned by J. E. Harbinson130 were listed as an asset of J. E. Harbinson in schedules attached to and made a part of the petition, which schedules set forth petitioner's assets and liabilities. Upon filing the petition, J. E. Harbinson became a debtor in possession. No trustee or receiver was ever appointed. The chapter XII proceeding was closed in 1972.CHM held stockholder meetings and directors meetings. Corporate records for the period 1961 through 1971 reflect that M. W. Hull attended stockholder meetings and voted the CHM stock until his death on February 15, 1966, and his wife, Marie M. Hull, as administratrix of M. W. Hull's estate, attended such meetings thereafter and voted the CHM stock. After his appointment as receiver, Torkelson had knowledge of such meetings and permitted the Hulls to attend such meetings and vote the stock. CHM stock certificates with respect to the 30 shares of stock owned by M. W. Hull were endorsed to Torkelson in 1972 but were not endorsed to him at any prior time.OPINIONSection 1371(a) 1 provides in part that the term "small business corporation" means a corporation which does not have as a shareholder a person other than an individual or an estate. 2 An election131 under subchapter S terminates when the 34 corporation ceases to be a small business corporation as defined in section 1371(a). Sec. 1372(e).Respondent contends that the filings by M. W. Hull and J. E. Harbinson under chapters XI and XII of the Bankruptcy Act created entities separate and apart from the debtor, i.e., estates in bankruptcy. 3 Respondent further contends that an estate in bankruptcy is not an individual or estate within132 the meaning of section 1371(a) and that the existence of the nonqualified shareholders resulted in the termination of CHM's subchapter S status.We shall first turn our attention to the question whether, for purposes of subchapter S, an entity separate and apart from the shareholder is created when a shareholder files a chapter XI or chapter XII petition.We begin with section 1.641(b)-2(b), Income Tax Regs., which provides:The estate of an infant, incompetent, or other person under a disability, or in general, of an individual or corporation in receivership or a corporation in bankruptcy is not a taxable entity separate from the person for whom the fiduciary is acting, in that133 respect different from the estate of a deceased person or of a trust. * * * [Emphasis added.]In view of the plain language of this regulation and its historical genesis 4 we are at a loss to explain respondent's position. Respondent cannot, of course, prevail in this Court on the basis of a position clearly incompatible with his published regulations.But even aside from the regulations, respondent's position in the instant case and as outlined in Rev. Rul. 74-9, 1 C.B. 241">1974-1 C.B. 241, 5 is in error. In ordinary bankruptcy proceedings, 6 the debtor is adjudicated a bankrupt upon the filing of a 35 voluntary petition. Bankruptcy Act, sec. 18(f), 11 U.S.C. sec. 41134 (f). Section 70 of the Act, 11 U.S.C. sec. 110, provides that the trustee of the estate of the bankrupt is vested by operation of law with the title to the bankrupt's assets. The bankrupt estate is then administered for purposes of liquidation and distribution of the assets to the creditors.By contrast, both the chapter XI 7 and chapter XII 8 proceedings seek an arrangement with creditors which will result in the ultimate financial rehabilitation of the debtor. See Nicholas v. United States, 384 U.S. 678">384 U.S. 678 (1966).135 Each chapter's proceedings provide a formal mechanism through which the debtor can formulate a satisfactory arrangement to repay his creditors and avoid being adjudicated a bankrupt. While an adjudication of bankruptcy may be entered during the proceedings under chapters XI and XII, the bankrupt estate will thenceforth be administered under ordinary bankruptcy proceedings. Bankruptcy Rule 122, Bankruptcy Act, secs. 378, 381, 483, and 486, 11 U.S.C. secs. 778, 781, 883, and 886.136 Under both chapters XI and XII the debtor remains in possession unless the court decides to appoint a trustee or receiver upon the application of a party in interest. 9 Unless there is some reason for the appointment of a receiver or trustee the statute and rules contemplate continued possession by the debtor. See Bankruptcy rules 11-18(b) and 12-17(b).In our view, the statutory scheme137 under chapters XI and XII is meant to aid the individual debtor in reaching a 36 satisfactory agreement to repay his creditors, and the mere filing under those provisions does not create an entity separate and apart from the debtor. Nor can we concur in respondent's alternative contention that a change in shareholders took place upon the appointment of a receiver for M. W. Hull under chapter XI.The appointment of a receiver does not create an entity apart from the debtor. The receiver is in effect a custodian, and he does not take title to the debtor's assets. 10 The appointment of a receiver under chapter XI is not designed to transfer assets to a new entity for disposal, but rather to assist the debtor in managing these assets so as to return the debtor to a financially sound condition. 11138 It has been previously held that no separate taxable entity was created by the filing of a petition under chapter XI and the subsequent appointment of a receiver. 12 In Stoller v. United States, 162 Ct. Cl. 839">162 Ct.Cl. 839, 320 F.2d 340">320 F.2d 340 (1963), the taxpayer filed a petition seeking an arrangement under chapter XI, and shortly thereafter a receiver was appointed to manage the taxpayer's business. The Government contended that the taxpayer's taxable year ended with the appointment of the receiver. The court held that while such events as the death of an individual taxpayer or the dissolution of a corporation may create a taxable period of less than 1 year, the appointment of a receiver does not. The court emphasized that the taxable year of the individual continues and that no separate taxable entity is created by the arrangement.In Re Lister, 177 F. Supp. 372">177 F.Supp. 372 (E.D. Va. 1959),139 also stands for the proposition that no separate taxable entity is created by the chapter XI proceedings and the appointment of a receiver. In that case, the receiver was managing a partnership and accordingly filed a U.S. Partnership Return of Income, Form 1065. The Government claimed that the income was that of a 37 bankrupt partnership estate and should be reported on a Government fiduciary return. The court rejected the Government's argument noting:Clearly the return is properly filed on form 1065 as, for this purpose, the partnership continues to exist. Certainly it is true that two taxable entities are not created under a Chapter XI proceeding, where before only one had existed. * See also Kanna v. United States, an unreported case ( D. Ore. 1975, 35 AFTR 2d 75-1482, 75-1 USTC par. 9450); In re Kepp Electric & Manufacturing Co., 98 F. Supp. 51">98 F.Supp. 51 (D. Minn. 1951).This Court has likewise taken the view that the appointment of a receiver does not create a separate taxable entity. In Heasley v. Commissioner, 45 T.C. 448">45 T.C. 448, 461 (1966), we held that a taxpayer140 was able to file a joint income tax return despite the fact his property was in receivership. We noted there:Respondent points to nothing to justify the conclusion that because a receiver has been appointed for all the property of an individual, that individual is placed under a legal disability to make a return. The receiver, if he makes a return, makes it not as a fiduciary but makes it for the individual in whose "place" he stands. 13 * * *141 The language of the Bankruptcy Act itself further supports the view that neither the filing of chapter petitions nor the appointment of a receiver creates a separate and distinct entity. Both chapters XI and XII contain the following identical provision:Any provision in this chapter to the contrary notwithstanding, all taxes which may be found to be owing to the United States or any State from a debtor within one year from the date of the filing of a petition under this chapter, and have not been assessed prior to the date of the confirmation of an arrangement under this chapter, and all taxes which may become owing to the United States or any State from a receiver or trustee of a debtor or from a debtor in possession, shall be assessed against, may be collected from, 38 and shall be paid by the debtor or the corporation organized or made use of for effectuating an arrangement under this chapter: Provided, however, That the United States or any State may in writing accept the provisions of any arrangement dealing with the assumption, settlement, or payment of any such tax. [Bankruptcy Act, secs. 397 and 523, 11 U.S.C. secs. 797 and 142 923. Emphasis added.]In providing that the taxes shall be assessed against and paid by the debtor, the statute views the debtor himself as the actual taxpayer even though a receiver or trustee may have the responsibility for filing returns and temporarily managing the property. See Stoller v. United States, supra; In re Lister, supra; Plumb, "The Tax Recommendations of the Commission on the Bankruptcy Laws -- Income Tax Liabilities of the Estate and the Debtor," 72 Mich. L. Rev. 935">72 Mich. L. Rev. 935, 959, 960 (1974).Respondent nevertheless argues that even where the debtor remains in possession, the powers and responsibilities given to the debtor under the chapter proceedings create a new entity apart from the debtor himself. We find this argument unpersuasive. Merely because the debtor's actions are circumscribed or he accedes to new powers does not create separate entities. Furthermore, respondent's overly technical view of the nature of chapter proceedings is in direct conflict with the rehabilitation objectives of chapters XI and XII and with the underlying purposes of subchapter S.Subchapter143 S was enacted by Congress in order to allow small businesses to choose the form of organization desired without having to take into account major differences in tax consequences. Under respondent's view, the financial difficulties of a single shareholder, even if unrelated to the business, could automatically cause termination of the subchapter S election, creating new financial and business hardships for the remaining shareholders. In addition, this course would subject all subchapter S elections to greater uncertainty. The provisions of subchapter S should be liberally construed in order to implement the congressional intent of assistance to small businesses. See S. Rept. No. 1983, 85th Cong., 2d Sess. (1958), 3 C.B. 922">1958-3 C.B. 922, 1008. We do not believe that the filing *39 of a chapter XI or XII petition is the occasion for creating a new pitfall in the subchapter S area.Decision will be entered under Rule 155. Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as amended, unless otherwise noted.↩2. SEC. 1371. DEFINITIONS.(a) Small Business Corporation. -- For purposes of this subchapter, the term "small business corporation" means a domestic corporation which is not a member of an affiliated group (as defined in section 1504) and which does not -- (1) have more than 10 shareholders;(2) have as a shareholder a person (other than an estate) who is not an individual;(3) have a nonresident alien as a shareholder; and(4) have more than one class of stock.↩3. At least with respect to chapter XII proceedings, the position of the Service is set forth in Rev. Rul. 74-9, 1 C.B. 241">1974-1 C.B. 241. See also Rev. Rul. 68-48, 1 C.B. 301">1968-1 C.B. 301; Rev. Rul. 66-266, 2 C.B. 356">1966-2 C.B. 356↩.4. See Plumb, "The Tax Recommendations of the Commission on Bankruptcy -- Income Tax Liabilities of the Estate and the Debtor," 72 Mich. L. Rev. 935">72 Mich. L. Rev. 935, 955, 956↩ (1974), a carefully researched and well-reasoned article providing a helpful road map to some of the material we confront herein.5. Respondent made no attempt, either in the present case or in Rev. Rul. 74-9, supra, to reconcile his contentions with sec. 1.641(b)-2(b) of the regulations. See also sec. 1.6012-3(c), Income Tax Regs.↩, which is consistent with sec. 1.641(b)-2(b) of the regulations, but again appears inconsistent with respondent's position herein.6. Bankruptcy Act, chs. I-VII, secs. 1-72, 11 U.S.C. secs. 1-112↩.7. Ch. XI is designed to arrive at a plan pursuant to which the debtor can provide for the settlement, satisfaction, or extension of the time of payment of his unsecured debts. A ch. XI arrangement may not deal with the rights of secured creditors or stockholders.↩8. Ch. XII arrangements have as their primary purpose the modification or alteration of the rights of creditors holding debts secured by real property or chattel real owned by the debtor. A ch. XII arrangement may also deal with unsecured debts. Unlike ch. XI, a corporation cannot be a debtor under ch. XII. Persons filing under ch. XI or XII are referred to as "debtors" rather than "bankrupts."↩9. Ch. XI provides that "The court may, upon the application of any party in interest, appoint, if necessary, a receiver of the property of the debtor, or, if a trustee in bankruptcy has previously been appointed, shall continue such trustee in possession." (Emphasis added.) Bankruptcy Act, sec. 332, 11 U.S.C. sec. 732.Ch. XII provides similarly: "the court may, upon the application of any party in interest, appoint a trustee of the property of the debtor." Bankruptcy Act, sec. 432, 11 U.S.C. sec. 832↩. See 9 Collier, Bankruptcy, par. 5.02 (14th ed. 1976 rev.).10. Even in ordinary bankruptcy proceedings, a receiver is generally no more than a custodian. Bankruptcy rule 201(g)↩ provides in part: "A receiver is a mere custodian unless, upon proper cause shown, his duties are enlarged or otherwise specified by order of court."11. Although a receiver was appointed in the ch. XI proceeding, the Hulls continued to attend shareholder meetings and voted the CHM stock. Legal title to the CHM stock was not transferred to the receiver until after the years in issue.↩12. The similarity of arrangements proposed under chs. XI and XII would seem to require the same conclusion in both instances.↩13. Furthermore, in deciding who is a shareholder for subch. S purposes, we look to the beneficial ownership of the stock. Kean v. Commissioner, 469 F.2d 1183">469 F.2d 1183 (9th Cir. 1972), affg. in part 51 T.C 337 (1968); Pacific Coast Music Jobbers, Inc. v. Commissioner, 55 T.C. 866 (1971), affd. 457 F.2d 1165">457 F.2d 1165 (5th Cir. 1972); Hoffman v. Commissioner, 47 T.C. 218">47 T.C. 218↩ (1966). Even when a receiver is appointed in a ch. XI proceeding, the shares are transferred to the receiver only for the purpose of proceeding with the proposed arrangement and assisting the debtor. The transfer does not change the beneficial ownership of the stock. Beneficial ownership remains with the debtor subject to the payments of his debts.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623797/	ESTATE OF EVELYN WENDT PATTISON, DECEASED, MARIE D. PATTISON, EXECUTRIX, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Pattison v. CommissionerDocket No. 26805-87United States Tax CourtT.C. Memo 1990-428; 1990 Tax Ct. Memo LEXIS 445; 60 T.C.M. (CCH) 471; T.C.M. (RIA) 90428; August 8, 1990, Filed 445 Decision will be entered under Rule 155. George W. Connelly, Jr. and Victoria J. Sherlock, for the petitioner. Phillip A. Pillar, for the respondent. JACOBS, Judge. JACOBSMEMORANDUM FINDINGS OF FACT AND OPINION Respondent determined a deficiency of $ 730,098446 in the decedent's Federal estate tax. After concessions, 1 the sole issue for decision is the fair market value of two parcels of unimproved land in Waller County, Texas, on the date of decedent's death. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and attached exhibits are incorporated447 herein by this reference. Evelyn Wendt Pattison (decedent) died a resident of Waller County, Texas, on May 7, 1983. Marie D. Pattison is the executrix of decedent's estate. At the time the petition in this case was filed, the executrix resided in Pattison, Texas. On June 15, 1984, the executrix filed decedent's Federal estate tax return. Decedent's reported gross estate included five parcels of real estate, valued in Schedule A of the estate tax return at $ 802,869. Of these five parcels, the two at issue, items 2 and 3 on the estate tax return, were valued in Schedule A at $ 34,402 and $ 672,600, respectively. 2 Item 2 represents decedent's interest in the surface estate of 197 acres in Waller County, Texas (the 197-acre tract), and item 3 represents decedent's interest in the surface estate of 480 acres in Waller County, Texas (the 480-acre tract). Located approximately 30 miles west of the Houston Central Business District, the subject area of these two tracts is often referred to as the "Katy, Brookshire and Waller area." The nature of the area is primarily agricultural and rural residential, known for its rice farming and cattle ranches. 448 The area is accessible from U.S. Highway 290 and Interstate Highway (Interstate) 10 which connect to the overall freeway system of Houston. The cities of Katy and Brookshire are located along Interstate 10, while the City of Pattison is situated to the north of Brookshire. For the most part, residents of these towns are employed by Houston-related business or industry. The balance of the neighborhood is rural in character. As Houston has expanded westward, scattered pockets of residential development have arisen. The 197-acre tract is rectangular in shape and is located along the east line of Clemons Switch Road. It consists of two adjoining tracts of land, but was appraised as one tract. 3 One portion contains approximately 144 acres of land; the other contains approximately 53 acres of land. The 53 acres are located along the south line of the 144-acre tract. The 480-acre tract is square shaped and is located along the south line of F. 449 M. 529 (also known as Freeman Road). As of the date of decedent's death, there was speculation that a proposed airport would be located in the vicinity of the 480-acre tract (between Katy and Brookshire); however, six other sites were being considered. Neither petitioner's nor respondent's expert considered the airport location to be a significant factor in valuing the 480-acre tract. Respondent determined that on the date of decedent's death the fair market value of the 197-acre tract was $ 443,250 and the fair market value of the 480-acre tract was $ 1,680,000. ULTIMATE FINDINGS OF FACT 1. On the date of decedent's death, the fair market value of the 197-acre tract was $ 2,250 per acre, or $ 443,250. 2. On the date of decedent's death, the fair market value of the 480-acre tract was $ 3,500 per acre, or $ 1,680,000. OPINION The parties disagree as to the appropriate highest and best use, and the fair market values of the 197-acre tract and the 480-acre tract. Respondent's expert opined that the fair market values on the date of decedent's death was $ 2,250 per acre for the 197-acre tract and $ 3,500 per acre for the 480-acre tract. By contrast, petitioner's expert450 opined that the fair market values on the date of death was $ 1,900 per acre for the 197-acre tract and $ 2,500 per acre for the 480-acre tract. Petitioner has the burden of proving that the fair market values of the real estate at issue are less than those determined by respondent. Rule 142(a). Property includable in a decedent's gross estate is generally included at its fair market value on the date of the decedent's death. Sec. 2031(a); sec. 20.2031-1(b), Estate Tax Regs. Fair 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 to sell and both having reasonable knowledge of relevant facts." Sec. 20.2031-1(b), Estate Tax Regs.; United States v. Cartwright, 411 U.S. 546">411 U.S. 546, 551 (1973); Estate of Hall v. Commissioner , 92 T.C. 312">92 T.C. 312 (1989); Estate of Heckscher v. Commissioner, 63 T.C. 485">63 T.C. 485, 490 (1975). The willing seller and buyer are hypothetical rather than specific individuals or entities. Estate of Bright v. United States, 658 F.2d 999">658 F.2d 999, 1005-1006 (5th Cir. 1981).451 The determination of value is to be made as of the valuation date (here, the date of death). Sec. 20.2031-1(b), Estate Tax Regs. Subsequent events are not considered in fixing fair market value, except to the extent that they were reasonably foreseeable at the date of valuation -- in estate tax cases, the date of death. See, e.g., Ithaca Trust Co. v. United States, 279 U.S. 151 (1929). The highest and best use to which property can be put is a factor in determining fair market value. H. Rept. No. 94-1380, 1976-3 C.B. (Vol. 3) 735, 755. The "highest and best use" is defined as the most economic use which is reasonably probable. American Institute of Real Estate Appraisers, The Appraisal of Real Estate 124 (3d ed. 1988). Petitioner and respondent each rely upon valuations prepared by their respective experts. Expert opinion is admissible if it will assist the trier of fact to understand evidence that will determine the fact in issue. See Fed. R. Evid. 702. The trier of fact must weigh such evidence in light of the demonstrated qualifications of the452 expert and all other credible evidence. Estate of Christ v. Commissioner, 480 F.2d 171">480 F.2d 171, 174 (9th Cir. 1973), affg. 54 T.C. 493">54 T.C. 493 (1970). We are not bound by the opinion of any expert witness when that opinion is contrary to our judgment. Estate of Kreis v. Commissioner, 227 F.2d 753">227 F.2d 753, 755 (6th Cir. 1955), affg. a Memorandum Opinion of this Court. We may embrace or reject expert testimony, whichever in our best judgment is appropriate. Helvering v. National Grocery Co., 304U.S. 282 (1938). We may embrace or reject expert testimony, whichever, in our best judgment, is appropriate. Helvering v. National Grocery Co., 304 U.S. 282">304 U.S. 282 (1938). We may also choose to accept the opinion of one expert in its entirety. Buffalo Tool & Die Mfg. Co. v. Commissioner, 74 T.C. 441">74 T.C. 441, 452 (1980). We have compared the qualifications and experience of the parties' experts, Mr. McPherson for respondent and Mr. Stanley for petitioner, as well as the substance and reasoning of their reports and testimony. We agree with the opinions of respondent's expert. Valuations of Respondent's ExpertRespondent's expert453 report was prepared by 0. F. "Frankie" McPherson, President of Dominy, Ford, McPherson & Teel, a Houston firm specializing in appraising real estate. Mr. McPherson has been involved in the real estate profession for approximately 21 years. He is eminently qualified as an appraiser, 4 having achieved the MAI designation of the American Institute of Real Estate Appraisers (the MAI designation is the most highly recognized appraisal designation within the appraisal community) 6 years ago, and holding the Senior Real Property Analyst designation of the Society of Real Estate Appraisers for 11 years. Approximately 20 to 25 percent of Mr. McPherson's work has been the appraisal of unimproved rural acreage, including many appraisals of property in the Waller County area. He has taught appraisal courses at San Jacinto Junior College and the Gulf Coast School of Real Estate, and is a member of the Texas Society of Farm and Ranch Managers and Appraisers. 454 We found respondent expert's report (the "McPherson Report") and his supplemental report (in letter form) generally useful and persuasive. 5 The McPherson Report concluded that the "highest and best use" of the 197-acre and 480-acre tracts was rural residential, and valued the properties using the "comparable sales" method, which involves gathering information on sales of property similar to the subject property, then making adjustments for various differences between the "comparables" and the property being appraised. Estate of Spruill v. Commissioner, 88 T.C. 1197">88 T.C. 1197, 1229 n.24 (1987); Estate of Frieders v. Commissioner, T.C. Memo 1980-184">T.C. Memo. 1980-184, affd. 687 F.2d 224">687 F.2d 224 (7th Cir. 1982). The "comparable sales" method is a commonly accepted method of appraising real estate. Expert opinions based on the comparable sales method have been found probative by this Court on numerous occasions. See Estate of Stanton v. Commissioner, T.C. Memo. 1989-341; Estate of Harms v. Commissioner, T.C. Memo. 1981-320; Black v. Commissioner, T.C. Memo. 1968-247. 455 a. The 197-Acre TractIn ascertaining the highest and best use of the 197-acre tract, the McPherson Report took various factors into consideration, such as the physical characteristics of the property including location, access, size, shape, topography, as well as the legal factors. Based upon these factors, the McPherson Report concludes that the highest and best use is rural residential (a "single family residential subdivision within a rural area that consists of larger type lots"). Mr. McPherson examined the Waller County Deed Records for recent sales within the competitive market area of the subject property and conducted interviews with area brokers. Adjustments were made, when necessary, for variances in characteristics that were found to influence value. These characteristics included adjustments for size, location, access, highest and best use, utilities, improvements, time, and date of sale. The adjusted sales prices of the sales comparables offered a value range for the subject property from which the final value estimate was taken. Taking the comparable sales into consideration in addition to other factors provided in the McPherson Report and the supplemental456 report, McPherson arrived at a value for the subject property as $ 2,250 per acre, for a total of $ 443,250. We accept this amount as reasonable. b. The 480-Acre TractThe major market influence at the valuation date of this tract was the western expansion of Houston. Successful residential development reached the vicinity immediately to the east of the 480-acre tract. Furthermore, as evidenced by the presence of the Peregrine Estates subdivision, directly across F.M. 529 from the subject property, residential development had already begun in the immediate neighborhood. The McPherson Report concludes that taking the physical characteristics of the property (including location, access, size, shape, topography) as well as the legal factors into consideration, the highest and best use of the 480-acre tract would be for rural residential. The residential subdivision potential was known at the date of decedent's death. Post-death sales were properly used to show the trend of appreciation in the market at the valuation date. (The use of post-death data is permissible as to relevant facts which the hypothetical buyer and seller would be expected to know at the date of death.457 First National Bank of Kenosha v. United States, 763 F.2d 891 (7th Cir. 1985).) Mr. McPherson accounted for differences in location in adjusting comparable sales. Based on the highest and best use of the 480-acre tract as "rural residential," the proximity to major local highways is significant. The 480-acre tract was located along a major east-west thoroughfare (F.M. 529) and a short distance from a major north-south thoroughfare (F.M. 362). Based upon the comparable sales provided in the McPherson Report and the supplemental report, the continued likelihood of western expansion of Houston, and the direct access of F.M. 529 into Houston, the McPherson Report concluded that the value of the 480-acre tract on the valuation date was $ 3,500 per acre, or a total of $ 1,680,000. We agree with (and thus adopt) this valuation. Petitioner's ContentionsWe will address several contentions made by petitioner with respect to the opinions of respondent's expert witness. First, petitioner argues that the McPherson Report was prepared in a rush or in an unsupervised manner. Such argument is unfounded since the firm had approximately two months to value five similar458 properties located within the same area and Mr. McPherson made the final determination as to value. Second, petitioner argues that Mr. McPherson's approach was inferior to that of its expert, Mr. Stanley. With the exception of a few inconsequential errors, 6 the McPherson Report disclosed all pertinent information about the transactions on which it based its conclusions. Third, petitioner contends that Mr. McPherson did not adequately disclose adjustments made in the valuations. We reject this argument as contrary to the evidence before us. The McPherson Report properly accounted for differences in location in adjusting comparable sales. Petitioner's expert admitted errors in adjustments he made to comparable sales. And Mr. Stanley admitted at trial that, based459 on the highest and best use of the property as "rural residential," the proximity to major local highways is significant. Fourth, petitioner suggests that there were factors which the McPherson Report ignored; yet, the significance of those factors is not quantified by petitioner's own expert. For example, the conveyance of mineral interests in comparable sales is an often-mentioned fact in petitioner's brief; however, its expert made no adjustments to any comparable sales for the presence or absence of mineral rights. Further, while Mr. Stanley testified as to the significance of school districts, no direct evidence of the actual impact of the districts on comparable sales was introduced. Finally, petitioner criticizes Mr. McPherson for using post-death comparable sales to establish a "trend." However, this rationale has been expressly sanctioned by this Court in certain circumstances. Estate of Nutter v. Commissioner, 44 T.C.M. (CCH) 1127">44 T.C.M. 1127, 1129 n. 3, 51 P-H Memo T.C. par. 82,530 at 2399 n. 3. Clearly, sales after the valuation date may be used to corroborate the ultimate460 determination of the value. Estate of Smith v. Commissioner, 57 T.C. 650">57 T.C. 650, 659, n. 8 (1972), affd. 510 F.2d 479">510 F.2d 479 (2d Cir. 1975). We have approved the use of sales as much as 15 months after the date of death in the analysis of comparable sales. Estate of Shlensky v. Commissioner, T.C. Memo 1977-148">T.C. Memo. 1977-148. Valuations by Petitioner's ExpertPetitioner's expert reports were prepared by Robert Stanley of Stanley, Chapman & Company, a real estate appraisal firm in Houston. He has 17 to 18 years of experience in the real estate appraisal field. Mr. Stanley holds the designation of Senior Residential Appraiser for the Society of Real Estate Appraisers, and he is also a Senior Member of the American Society of Appraisers. At present, he is applying for a Senior Real Property Analyst designation. Mr. Stanley prepared one appraisal report covering 144 acres of the 197-acre tract at issue. At trial, he admitted that the additional 53 acres might have affected his opinion of value. The second report proposed a value for the 480-acre tract. Mr. Stanley used the "comparable sales" method in ascertaining his final valuations. Estate of Spruill v. Commissioner, supra.461 He concluded that the highest and best use of both tracts was agricultural, on an interim basis, since both tracts were too far removed from the current growth pattern to be part of any near-term residential development. However, he was evasive at trial in describing this highest and best use of the two tracts at issue. Mr. Stanley was forced to admit on the stand that the 480-acre tract could not possibly be purchased at even $ 2,500 per acre and be economically utilized as a rice farm (its 1983 agricultural use). Trying to compensate for that error, he retreated to an agricultural use as an "interim" use. We note, however, that "highest and best use" is not equivalent to "interim use." We found Mr. Stanley's expert opinion both in his report and at trial to be less convincing then the McPherson Report. For instance, he failed to make adjustments for location and found the highest and best use of the property to be agricultural despite its then current low return of 1 percent. He overlooked the fact that a residential subdivision was across the street from the 480-acre tract. Further, no explanation was given as to how he arrived at the final valuation amounts ($ 1,900 per462 acre for the 197-acre tract and $ 2,500 per acre for the 480-acre tract). ConclusionsThe major influence in the market in which the two properties were located was the westward expansion of Houston. The likely development of the property at the valuation date was residential use in the relatively near future. The prices at which the comparable sales were trading could not support agricultural uses. Although the eventually approved location of the proposed Westside Airport may have dampened any future residential development, that factor did not exist in May 1983, nor could it have been forecast. Thus, it was properly disregarded by both experts. First National Bank of Kenosha v. United States, supra.Petitioner has not carried its burden of proof. Its attacks on respondent's appraisal report do not serve to establish the correctness of the amounts reported in the estate tax return. Based upon our consideration of all the valuation evidence introduced through testimony and documentation, as reflected in our ultimate findings of fact, we find Mr. McPherson's appraisals to be reasonable and correct, and his amounts of $ 2,250 per acre ($ 443,250) *463 for the 197-acre tract and $ 3,500 per acre ($ 1,680,000) for the 480-acre tract to be the fair market values of the two parcels of land on the date of decedent's death. To reflect the foregoing and the concessions of the parties, Decision will be entered under Rule 155. Footnotes1. Petitioner concedes that the property does not qualify for special use valuation pursuant to section 2032A. Respondent admits that petitioner is entitled to additional administration expenses, and agrees to allow such other sums as deductible upon adequate proof of the amount, purpose and deductibility. Finally, both parties agree that this Court does not have jurisdiction to determine whether petitioner qualifies for installment tax payment treatment under section 6166. All section references are to the Internal Revenue Code of 1954, as amended and in effect on the date of decedent's death. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Petitioner accepted the fair market values established by respondent's expert for items 1, 4, and 5.↩3. Petitioner's expert appraised only 144 of the 197 acres.↩4. Petitioner does not appear to challenge McPherson's qualifications as an expert, except for referring to his firm as being on the "list of approved IRS appraisers" in 1985 and his having worked for respondent "at least ten times."↩5. In fact, the McPherson Report appraised all 5 parcels which appeared on the Federal estate tax return, while petitioner's expert report only valued a portion of the 197-acre tract and the entire 480-acre tract.↩6. For example, petitioner makes an issue of the fact that Mr. McPherson described a trade as a "cash"sale. However, Mr. Stanley used the same sale and made no adjustments to the consideration, but used it as a comparable sale in his analysis.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623799/	A. B. Carter, Incorporated v. Commissioner.A. B. Carter, Inc. v. CommissionerDocket No. 23727.United States Tax Court1950 Tax Ct. Memo LEXIS 126; 9 T.C.M. (CCH) 682; T.C.M. (RIA) 50195; August 14, 1950126 John C. Reid, Esq., 306 Southern Bldg., Washington 5, D.C., for the petitioner. George J. LeBlanc, Esq., for the respondent. LEMIRE Memorandum Findings of Fact and Opinion This proceeding is based on respondent's rejection of claims for refund of excess profits taxes for the years 1941 to 1945, inclusive, in the respective amounts of: YearAmount1941$4,758.5219425,916.8919436,407.7319445,579.7119455,637.30 The claims in question were based on section 711(b)(1)(J), Internal Revenue Code. Whether or not these claims were properly rejected is the sole issue involved. Some of the facts have been stipulated and are found as set forth in the written stipulation. Findings of Fact Petitioner during the taxable years involved was a corporation with its principal office located at Gastonia, North Carolina. Its returns were filed with the collector of internal revenue for the district of North Carolina. In 1939 petitioner owned and operated three manufacturing plants in North Carolina, one at Gastonia, one at Lincolnton, and one at Taylorsville. At the Gastonia plant petitioner manufactured certain small metal127 devices known as "travelers" and "knotters" which were used by cotton mills in the spinning of yarns. The plants at Lincolnton and Taylorsville both manufactured carded yarns. The Lincolnton plant had a capacity of about twice that of the Taylorsville plant. It produced yarns of a 24 to 30 count while the yarns produced by the Taylorsville plant were 18 to 24 count. These yarns were sold to hosiery and other knitting mills. Both the Lincolnton and Taylorsville plants sustained operating losses in 1938 and the early months of 1939, due largely to economic conditions affecting the textile industry generally. On May 19, 1939, petitioner sold its Taylorsville plant for approximately $18,000 and sustained a loss thereon of $25,492.75. Of that amount $3,277.48 was allocated to the land and was treated as a capital loss. The remainder, $22,251.27, was allocated to depreciable assets and was deducted in full in computing petitioner's taxable net income for 1939. The sale of the Taylorsville plant, or the contract for its sale, was made by A. B. Carter, now deceased, who was then petitioner's president, on April 21, 1939. He was ill at the time, having previously suffered several heart128 attacks. He died September 15, 1939, at the age of 63 years. He contracted to sell the Taylorsville plant without consulting his associates. Immediately after the sale they undertook to repurchase the property but the purchaser refused to sell it back. Thereafter petitioner did not produce any of the 18 to 24 count yarns. Plans for expanding the metal fabricating division of its business located at Gastonia were considered by the petitioner in 1939. A new plant for that purpose was completed in May 1940. The proceeds from the sale of the Taylorsville plant went into petitioner's general fund. Petitioner's condensed balance sheet of December 31, 1939, shows current assets of approximately $200,000, including $110,650.62 cash, total assets of over $340,000, and total liabilities of approximately $49,000. Petitioner's excess profits net income for the base period 1936 to 1939 and for the succeeding years 1940 to 1945, inclusive,and its excess profits tax credits, based on income, for the years 1942 to 1945, inclusive, as determined by the respondent, were as follows: Excess profitsExcess profitsYearnet incometax credits1936$122,090.60193744,177.721938(2,685.11)193931,227.28194031,006.431941136,487.03194285,557.68$58,650.51194377,698.3058,105.141944183,212.6058,698.871945162,952.2258,631.50129 In determining the petitioner's average base period income and its excess profits credits for the years involved, based on income, respondent disallowed the capital loss deduction of $2,000 claimed in 1939 on the sale of the plant but did not disallow the deduction of the ordinary loss of $22,215.27. Petitioner now contends that it is entitled to have the $22,215.27 amount disallowed, with the resulting increase in its excess profits credits. The claims for refund which the respondent has rejected were based on such disallowance. Opinion LEMIRE, Judge: Section 711(b)(1)(J), Internal Revenue Code, provides that in computing the excess profits net income for the base period years, for the purpose of determining the excess profits tax credit, "Deductions of any class shall not be allowed if deductions of such class were abnormal for the taxpayer." Section 711(b)(1)(K)(ii), Internal Revenue Code, provides, however, that the deductions referred to in section 711(b)(1)(J) shall not be disallowed "unless the taxpayer establishes that the abnormality * * * is not a consequence of a change at any time in the type, manner of operation, size, 130 or condition of the business engaged in by the taxpayer." The disallowance of the deduction in the base period year 1939 would, of course, result in an increase in petitioner's base period net income, and consequently an increase in excess profits credit for each of the taxable years involved. Respondent concedes that the loss on the sale of the Taylorsville plant was "abnormal" within the meaning of the statute but he contends that petitioner has not established, and cannot establish, that the loss was not a consequence of a change such as described in section 711(b)(1)(K)(ii). The statutory provisions here involved have been under consideration by this Court in a number of cases. 1 We have said that the test laid down by the statute is whether the abnormality, that is, the loss, resulted from, and was therefore a consequence of, a change such as described in the statute and not whether some change may have resulted from the abnormality. See R. C. Harvey Co., 5 T.C. 431">5 T.C. 431; Wentworth Manufacturing Co., 6 T.C. 1201">6 T.C. 1201; Laredo Bridge Co., 7 T.C. 17">7 T.C. 17. 131 The loss in question here resulted from the sale of one of petitioner's plants. There is a disagreement between the parties as to why the plant was sold, respondent contending that it was because it was losing money and petitioner contending that it was because A. B. Carter, petitioner's president and principal stockholder, was in bad health and did not want to be bothered with it. However, that may be, it is plain, we think, that the sale of the plant was not a consequence of a change "in the type, manner of operation, size, or condition of the business engaged in by the taxpayer." Up to the time of the sale there had been no such change in petitioner's business. Even granting that the discontinuance of the manufacture of 18 to 24 count yarns which the Taylorsville plant produced and the disposal of a considerable portion of its yarn making facilities constituted a change such as described in the statute, the respondent would not prevail unless the loss was a consequence of such change. The respondent undertakes to tie in the sale of the plant with petitioner's decision to curtail its yarn manufacturing and the expansion of its metal fabricating business. The evidence, we think, *132 is to the contrary. In the first place, the sale of the Taylorsville plant was an isolated transaction which A. B. Carter initiated without the advice or knowledge of petitioner's other executives and apparently against their wishes, for they tried immediately to repurchase the plant at a profit to the buyer. Furthermore, petitioner did not need the proceeds from the sale to expand its metal fabricating business. It had already made plans for such expansion and had ample funds available for that purpose. It did not contemplate going out of the yarn manufacturing business and, in fact, did not do so. The larger yarn plant at Lincolnton was continued in operation and later yielded large profits. The evidence before us is that the sale of the Taylorsville plant had no connection with any change of policy in petitioner's operations. We must conclude that while the sale which resulted in the loss in question may have been the cause of some of the changes specified in section 711(b)(1)(K)(ii) it was not the consequence of them, and that petitioner has met its burden of proof in this respect. Decision will be entered for the petitioner. Footnotes1. William Leveen Corp., 3 T.C. 593">3 T.C. 593; R. C. Harvey Co., 5 T.C. 431">5 T.C. 431; Wentworth Manufacturing Co., 6 T.C. 1201">6 T.C. 1201; Laredo Bridge Co., 7 T.C. 17">7 T.C. 17; Harris Hardwood Co., Inc., 8 T.C. 874">8 T.C. 874; Carborundum Co., 12 T.C. 287">12 T.C. 287↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623800/	EVE C. WATSON WALLIN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentWallin v. Comm'rDocket No. 25693-81.United States Tax CourtT.C. Memo 1983-52; 1983 Tax Ct. Memo LEXIS 730; 45 T.C.M. (CCH) 594; T.C.M. (RIA) 83052; January 31, 1983. Jean S. Schanen, for the petitioner. Henry T. Schafer, for the respondent. KORNERMEMORANDUM FINDINGS OF FACT AND OPINION KORNER, Judge: This matter is before the Court on cross motions by the parties to dismiss for lack of jurisdiction. Petitioner's motion is based upon the alleged failure of respondent to send his730 statutory notice of deficiency with respect to the year 1977 to petitioner at her last known address, as required by section 6212(b)(1). 1 Respondent's cross motion to dismiss is based upon the alleged failure of petitioner to file her petition with this Court within 90 days of the issuance of respondent's statutory notice of deficiency, as required by section 6213 or section 7502. Argument on both motions was held at a trial session of the Court at Seattle, Washington. The record consists of a stipulation of facts, with numerous joint exhibits submitted by the parties, together with a testimony received at the hearing. The stipulation and attached exhibits are incorporated herein by this reference. 731 FINDINGS OF FACT At the time of filing her petition herein, petitioner was a resident of Oak Harbor, Washington. Petitioner's individual income tax return for the calendar year 1977 (the year here in issue) was duly filed with respondent's732 Service Center at Ogden, Utah, showing her address to be 4850 Bryn Mawr Court, Apartment 1, Anchorage, Alaska, 99504, (hereinafter the "Anchorage address") and showing an execution date of March 23, 1978. Petitioner's name was given as "Eve C. Watson," and her social security number as 411-82-XXXX. Sometime in the month of April, 1978, petitioner moved from the above address to an unknown address. She married Robert F. Wallin on December 28, 1978, and thereupon moved to another unstated address. She moved with her husband to the State of Washington on April 25, 1979, and took up residence at 6414 Alder Glen Drive, Southeast, Olympia, Washington, 98503. On or about June 1, 1981, petitioner and her husband moved again, to 1222 East Polnell Shore Drive, Oak Harbor, Washington, 98277. Petitioner and her husband filed joint Federal income tax returns with the Ogden Service Center for the years 1978 and 1979, both showing the Olympia, Washington, address. The names shown on the 1978 joint return were "Robert F. & Eve W. Wallin," and the names shown on the 1979 joint return were "Robert F. & Eve C. W. Wallin." On both returns, Mr. Wallin's social security number was disclosed on733 the first box on the face of Form 1040 entitled "your social security number," and petitioner's social security number was disclosed in the lower box on the face of Form 1040 labeled "spouse's social security no." Petitioner gave no other notification to respondent of her marriage to Mr. Wallin, nor of her various changes of address from 4850 Bryn Mawr Court, Anchorage, Alaska. In September, 1980, respondent's District Director's Office in Anchorage, Alaska, commenced an examination of petitioner's 1977 return. On September 17, 1980, respondent addressed a letter to petitioner at the Anchorage address, for the purpose of setting up an appointment to discuss her 1977 return, and requesting that petitioner supply certain information. This letter was returned by the Anchorage Post Office as undeliverable. Respondent then requested the Anchorage Post Office to supply any forwarding address information with respect to petitioner, but the Anchorage Post Office advised respondent on October 22, 1980, that petitioner had left no forwarding address. On November 14, 1980, respondent's agent checked with the Alaska State Motor Vehicle Division for an address, but found no listing for734 petitioner. Early in December, 1980, respondent's agent in Alaska began the final writeup of petitioner's case as "unagreed," and finished her work on December 29, 1980. In the meantime, she had checked microfilm records, routinely supplied to the District Director's Office in Alaska by the Ogden Service Center. Such microfilm records supplied from the Service Center gave the listing, by last name and social security number, of all taxpayers filing Federal income tax returns from Alaska (District 92, in respondent's parlance). 2 The agent learned from this source that there was no record of petitioner's having filed an income tax return from Alaska for the years 1978 and 1979. The agent also learned that petitioner's return for the year 1976 had been audited by respondent, and that a statutory notice of deficiency for that year had been sent to the Anchorage address. Respondent's statutory notice of deficiency was issued with respect to the year 1977 on March 4, 1981, and was sent to petitioner's Anchorage address, by certified mail. 735 Delivery was attempted, unsuccessfully, on March 5, March 11 and March 21, 1981, and the statutory notice was finally returned to respondent as "unclaimed" on March 30, 1981. Petitioner having failed to file a petition with this Court, or make any contact with respondent, the deficiency in tax and additions to tax, as set forth in the statutory notice, were assessed by respondent on August 3, 1981. 3In January, 1981, the collection division of respondent's Anchorage office was assigned the account of petitioner, for the purpose of securing collection of an unpaid assessment of deficiency in tax for the year 1976. 4 Between January, 1981, and August 20, 1981, the collection officer made the following efforts to ascertain petitioner's current whereabouts and address: 736 (a) He sent another tracer to the Anchorage Post Office; (b) a Notice of Levy was sent to a former employer of petitioner (TransAmerica Title Insurance Company, Payroll Dept.) with respect to the 1976 assessment; (c) a request for petitioner's address was sent to another former employer (Alaska Explosives, Ltd.). The responses to the above efforts provided no information as to petitioner's address. (d) Respondent wrote again to petitioner at the Anchorage address, with regard to the unsatisfied 1976 assessment. The letter was returned by the Post Office as "attempted - not known." On August 18, 1981, respondent's collection officer initiated three more steps: (e) He requested respondent's Ogden Service Center to make a search of its files for returns filed under the name of Eve C. Watson, social security number 411-82-XXXX, for the calendar years 1977, 1978, 1979 and 1980; (f) he also queried the Social Security Administration in Baltimore, Maryland, to obtain the name and address of petitioner's most recent employers; (g) he also sent a further request to TransAmerica Title Insurance Company, at its office in Bellevue, Washington, requesting information as to737 petitioner's whereabouts and address.The Ogden Service Center responded to the request from Anchorage on August 20, 1981, showing that petitioner had filed a return for 1977, but that there was no record of returns from petitioner for 1978, 1979 or 1980. This response was based on the standard search procedure employed by the Ogden Service Center, which was to search by name and social security number (primarily the latter). In searching under the social security number, only the "primary" number was used (i.e., the first social security number appearing on a return). No search for the "secondary" number (i.e., the second number on a joint return shown as "spouse's social security no.") was undertaken unless a special request was made, based on an indication of a joint return having been filed. No such special request was made in this case. The Social Security Administration responded to the request from respondent by listing two employers for petitioner, one of whom was TransAmerica Title Insurance Company, in Bellevue, Washington, whom respondent's collection officer had previously queried. On August 26, 1981, respondent's collection officer received a response to his738 inquiry of August 18 from TransAmerica Title Insurance Company, informing respondent for the first time that petitioner had married Robert F. Wallin, and that her address was 6414 Alder Glen Drive, Southeast, Olympia, Washington, 98503. This was the first date when respondent knew that (a) petitioner was using the name Wallin, instead of Watson, and (b) that petitioner had moved from Alaska to the State of Washington. Respondent's collection officer immediately sent a postal tracer to the Post Office at Olympia, Washington, with regard to this address, and was informed by the Post Office that petitioner had listed a forwarding address of 1222 East Polnell Shore Drive, Oak Harbor, Washington, 98277, with the Olympia Post Office on August 10, 1981. Said notification from the Olympia Post Office was received by respondent in Anchorage on September 9, 1981. On September 11, 1981, respondent's collection officer was also assigned petitioner's account for the year 1977 for collection, and sent a certified letter to petitioner, notifying her of the outstanding assessments and accumulated interest for the years 1976 and 1977. Contact with petitioner was thus established for the first739 time since respondent's first attempt on September 17, 1980. Petitioner's petition herein for the year 1977 was mailed to the Court, with a private postage meter mark of October 7, 1981, and was received and filed by the Court on October 13, 1981. OPINION The parties each have moved the Court to dismiss this case for lack of jurisdiction, but on different grounds. Respondent moves to dismiss for petitioner's failure to file a petition with this Court within the 90-day period mandated by section 6213(a). Petitioner, on the other hand, moves to dismiss for the alleged failure of respondent to send his statutory notice of deficiency to her for the year 1977 at her "last known address," as required by section 6212(b)(1). Both requirements are jurisdictional in this Court, and we can and must resolve them. Shelton v. Commissioner,63 T.C. 193">63 T.C. 193 (1974). We will consider petitioner's motion first. Section 6212(b)(1) provides that a notice of deficiency will be sufficient if it is mailed to the taxpayer's "last known address." Although that term is not otherwise defined in the Code, we stated, in Looper v. Commissioner,73 T.C. 690">73 T.C. 690, 696-697 (1980):740 A taxpayer's "last known address" is that address to which, in light of all the facts and circumstances, the respondent reasonably believed the taxpayer wished the notice to be sent. Delman v. Commissioner,384 F.2d 929">384 F.2d 929, 932 (3d Cir. 1967); Lifter v. Commissioner,59 T.C. 818">59 T.C. 818, 821 (1973). Taxpayers are required to send a clear and concise notification directing respondent to use a different address to be assured of effecting a change in the "last known address." Alta Sierra Vista, Inc. v. Commissioner,62 T.C. 367">62 T.C. 367, 374-375 (1974), and cases collected therein. If the notice is properly mailed to the "last known address," respondent has done all the law requires; it is then irrelevant that petitioner did not receive the notice in time to file a petition in this Court within the 90-day (or 150-day) period prescribed by section 6213. Section 6212(b)(1); Delman v. Commissioner,supra at 933; Lifter v. Commissioner,supra at 823. We further said, in Alta Sierra Vista, Inc. v. Commissioner,62 T.C. 367">62 T.C. 367, 374 (1974), affd. 538 F.2d 334">538 F.2d 334 (9th Cir. 1976), that the741 "last known address" was * * * 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 * * . The relevant inquiry pertains to the Commissioner's knowledge rather than to what may in fact be the taxpayer's most current address in use. Administrative realities demand that the burden fall upon the taxpayer to keep the Commissioner informed as to his proper address * . And while the Commissioner is bound to exercise reasonable diligence in ascertaining the taxpayer's correct address * , he is entitled to treat the address appearing on a taxpayer's return as the last known in the absence of clear and concise notification from the taxpayer directing the Commissioner to use a different address * . "The last known address thus becomes a matter of proof in each case in which the question arises." Maxfield v. Commissioner,153 F.2d 325">153 F.2d 325, 326 (C.A. 9). See also Weinroth v. Commissioner,74 T.C. 430">74 T.C. 430, 435 (1980). We and other courts have also stated that the mere filing of a return742 for a subsequent year, and prior to the issuance of a statutory notice, showing a different address, is not by itself sufficient to constitute notice to respondent of a change of address for purposes of section 6212(b)(1), and that respondent is therefore entitled to rely on the address shown by the return for the year under audit. Luhring v. Glotzbach,304 F.2d 556">304 F.2d 556, 559 (4th Cir. 1962); Budlong v. Commissioner,58 T.C. 850">58 T.C. 850, 852-3 (1972). In the Ninth Circuit, however, petitioner urges that a more liberal rule has evolved, to the effect that a return subsequently filed with the same service center which received the return under audit, which later return shows a new address, will constitute adequate notice to the respondent of a new address for purposes of section 6212(b)(1). In this connection, petitioner points to the cases of Welch v. Schweitzer,106 F.2d 885">106 F.2d 885 (9th Cir. 1939); Cohen v. United States,297 F.2d 760">297 F.2d 760, 773 (9th Cir. 1962); and Georgia Pacific Corporation v. Lazy Two T Ranch, F. Supp. , 76-2 USTC par. 9666, 38 AFTR 2d 76-5081 (N.D. Cal. 1976) and 77-1 USTC par. 9430, 38 AFTR 2d 76-5260 (N.D. Cal. 1976).743 5 Petitioner also relies on McPartlin v. Commissioner,653 F.2d 1185">653 F.2d 1185 (7th Cir. 1981); Spencer v. Bergheim, F. Supp. , 82-1 USTC par. 9102 (N.D. Ill. 1981), Crum v. Commissioner,635 F.2d 895">635 F.2d 895 (D.C. Cir. 1980), and Estate of Ruff v. Commissioner,T.C. Memo 1982-152">T.C. Memo. 1982-152, in support of her position. The various cases in this area are not easy to reconcile. It does appear, however, that a rule of decision somewhat along the lines urged by petitioner has evolved in cases in the Ninth Circuit, to the effect that a subsequent year's return, filed with the same service center as the prior year's return, and showing a different address, can be sufficient to put the local district director (who is conducting the audit of the earlier year) on notice of a new address, at least where respondent's auditor knows that communications to the address shown on the return are being returned as undeliverable. See Cool Fuel, Inc. v. Connett,685 F.2d 309">685 F.2d 309,744 (9th Cir. 1982). However, even assuming, arguendo, that such a rule does exist in the Ninth Circuit, which (although at variance with our prior holdings, both with respect to the efficacy of a new address on a later year's return, without more, constituting adequate notice to respondent, see Lifter v. Commissioner,59 T.C. 818">59 T.C. 818, 822 (1973), as well as with respect to the knowledge which is to be attributed from a service center to a local district director, see Budlong v. Commissioner,supra) we would be bound to follow as being the law with respect to cases arising in that circuit, Golsen v. Commissioner,445 F.2d 985">445 F.2d 985 (10th Cir. 1971), cert. denied 404 U.S. 940">404 U.S. 940 (1971), we nevertheless are satisfied that the facts of the instant case place it outside the boundaries of that allegedly more liberal rule. The facts of the instant case show that petitioner, who was then single, filed her 1977 individual income tax return with respondent's Service Center in Ogden, Utah, under the name of Watson, and showing an Anchorage, Alaska, address. Shortly after filing this return, she departed that address. She admits that745 she gave respondent no direct notification of this move. 6 At the close of the year 1978, she married Robert F. Wallin and then moved with him from Alaska to the State of Washington. She and her new husband then filed joint income tax returns for the years 1978 and 1979, showing on Olympia, Washington, address. The surname shown on said returns, however, was not "Watson" but "Wallin." Petitioner did not notify respondent of her marriage or change of name. The only means of correlating the 1978 and 1979 joint returns with the prior individual return for 1977 was petitioner's social security number, which appeared on the 1978 and 1979 returns in the box on the face of Form 1040 labeled "spouse's social security no." In 1981 petitioner and her husband moved to still another address, in Oak Harbor, Washington. When respondent undertook the audit of petitioner's 1977 return, he attempted to contact petitioner at the Anchorage, Alaska, address. Communications to that address having been returned as undeliverable, respondent's746 agent first checked with the Anchorage Post Office and then with the Alaska State Motor Vehicles Bureau, in an attempt to learn of a new address, without success. More significantly, the agent also checked microfilm records available in the District Director's office in Alaska, showing returns filed by Alaska taxpayers with the Ogden Service Center for the years 1978 and 1979. This effort also produced no result, since at that point petitioner was filing returns under another name and from another state. Lacking information as to any other address for petitioner, the statutory notice of deficiency herein was issued to the Anchorage, Alaska, address, but, after three attempts, was returned as undelivered. After the necessary waiting period of 90 days, within which petitioner could have filed a petition with this Court, the 1977 deficiency and additions to tax were assessed, and the matter was ultimately turned over to the collection arm of the District Director's office in Alaska. The collection officer (who also had the year 1976 previously assigned to him for collection) had already taken a number of steps to try to ascertain petitioner's whereabouts. The most significant747 step was his request to respondent's service center to make a search of its files for any returns filed by petitioner under her social security number and name of Watson for the years 1978, 1979 and 1980. Since respondent had no indication that petitioner was married or was filing joint returns, the search at the service center was conducted under the name of Watson and petitioner's social security number of 411-82-XXXX as the "primary" (i.e., first social security number) on any return. Respondent's agent did not request a special search under the "secondary" (i.e. spouse's social security number), having no indication that petitioner was married or that joint returns had perhaps been filed. In fact, respondent was able to learn petitioner's new name and whereabouts only by first ascertaining from the Social Security Administration in Baltimore, Maryland, who petitioner's recent employers were, and then learning from one such employer petitioner's new name and address (which by that time had changed again). We have recapitulated the facts in some detail here, including the efforts made by respondent to locate petitioner after the issuance of the statutory notice of deficiency,748 not to imply that respondent was under any obligation to conduct such a wide-ranging search as part of his audit process, but simply to demonstrate the extraordinary lengths to which respondent had to go in order to locate petitioner at all. Under the present facts, we hold that petitioner gave no fair and reasonable notice to respondent of her marriage, her change of name or her change of address, and her filing of returns for later years under another name and from another state was not sufficient to put respondent on notice, even though such returns were filed with the same service center. 7 To require respondent to make an additional search of his records for returns of later years under a "secondary" social security number, absent any indication of petitioner's marriage or joint filing under another name, would impose an administrative burden on respondent which goes beyond reasonable diligence and would be excessive. Cf. Alta Sierra Vista, Inc. v. Commissioner,supra.749 We therefore think that the facts of the instant case make it clearly distinguishable from the cases cited and relied on by petitioner, so that even under the more liberal rule allegedly espoused by the Ninth Circuit, respondent was entitled to rely on the Anchorage, Alaska, address shown by petitioner in the last return which she filed under the name of Watson as constituting her last known address for purposes of section 6212(b)(1). Alta Sierra Vista, Inc. v. Commissioner,supra;Gray v. Commissioner,73 T.C. 639">73 T.C. 639 (1980); Budlong v. Commissioner,supra. The notice of deficiency for the year 1977 sent to petitioner at her Anchorage address, was, therefore sent to the address last known to respondent, and was valid, even though it was not received. Cataldo v. Commissioner,60 T.C. 522">60 T.C. 522 (1973), affd. 499 F.2d 550">499 F.2d 550 (2d Cir. 1974); Looper v. Commissioner,supra;Bailey v. Commissioner,T.C. Memo 1982-274">T.C. Memo. 1982-274. 8 We therefore conclude that respondent's statutory notice was proper, and petitioner's motion to dismiss must be denied. 750 We turn now to respondent's motion to dismiss. Section 6213(a) requires, with one exception not relevant here, that a taxpayer file a petition for redetermination with this Court within 90 days after the mailing of the notice of deficiency. This requirement is jurisdictional. Price v. Commissioner,76 T.C. 389">76 T.C. 389 (1981); Shipley v. Commissioner,572 F.2d 212">572 F.2d 212 (9th Cir. 1977), affirming a Memorandum Opinion of this Court; Estate of Moffat v. Commissioner,46 T.C. 499">46 T.C. 499 (1966). An untimely petition precludes this Court from exercising jurisdiction over the matter. Denman v. Commissioner,35 T.C. 1140">35 T.C. 1140 (1961). The statutory notice was issued to petitioner on March 4, 1981, but the petition herein was not received and filed by the Court until October 13, 1981, over seven months later. It was therefore clearly untimely under the specific provisions of section 6213(a). Respondent's motion to dismiss for lack of jurisdiction will therefore be granted. An appropriate order of dismissal for lack of jurisdiction will be entered.Footnotes1. All references to Code sections herein are to the Internal Revenue Code of 1954, as in effect in the year in issue, and all references to rules are to the Rules of Practice and Procedure of the Tax Court, except as otherwise noted.↩2. Microfilm records of returns filed with a service center from other "districts" were also obtainable, but only by special request.↩3. The parties' stipulation of facts gives this date as August 3, 1980.↩ Since the statutory notice for 1977 was not issued until March 4, 1981, this is an obvious typographical error.4. Respondent had attempted to contact petitioner at the same Anchorage address for the purpose of conducting an audit of the year 1976, but was unable to make contact with petitioner, and the statutory notice for 1976, subsequently issued to the same Anchorage address, was also returned to respondent by the Post Office as undeliverable.↩5. These opinions of the Court, however, were vacated in F. Supp. , 78-1 USTC par. 9172, 40 AFTR 2d 77↩-6013 (N.D. Cal. 1977).6. Petitioner claims that she notified the Anchorage Post Office of her change of address, but the records of the Anchorage Post Office do not bear this out.↩7. Petitioner testified that she and her husband secured extensions of time for filing their 1978 and 1979 returns, received refunds for those years, and received their "tax forms" for 1980 and 1981 from respondent, all at the Olympia, Washington, address. She did not↩ testify that this correspondence was carried on in other than their joint name of Wallin, nor were the relevant documents offered in evidence.8. Petitioner makes much of the fact that respondent continued to send communications, including the statutory notice, to petitioner at the Anchorage, Alaska, address, even though respondent was aware that such communications were being returned as undeliverable. The short answer is that this was the only address respondent had.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623801/	J. S. CARROLL MERCANTILE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.J. S. Carroll Mercantile Co. v. CommissionerDocket Nos. 4222, 11744.United States Board of Tax Appeals7 B.T.A. 1157; 1927 BTA LEXIS 2998; August 25, 1927, Promulgated 2998 1. Upon organization petitioner issued to stockholders notes for excess of value of assets paid in over par value of stock. In 1913 the notes were canceled and the excess value of assets over par value of stock allowed to remain in the business. Held, that such excess may be included in invested capital. 2. On the evidence, held, petitioner may not include it invested capital the earnings credited to stockholders' accounts. W. H. Albritton, Esq., and M. F. Cronin, Esq., for the petitioner. J. W. Fisher, Esq., for the respondent. ARUNDELL1157 Deficiencies in income and profits taxes have been determined by the Commissioner as follows: Fiscal year ended July 31, 1918$13,762.60Fiscal year ended July 31, 191911,069.66Fiscal year ended July 31, 192011,797.6836,629.941158 Petitioner alleges that the Commissioner erred in excluding from invested capital amounts originally paid in by the stockholders in excess of the capital stock, together with subsequent earnings, and in the determination of petitioner's tax liability under sections 327 and 328 of the Revenue Act of 1918. FINDINGS OF2999 FACT. In August, 1912, J. S. Carroll died, leaving a will in which he named as his beneficiaries his wife, Almira Carroll, his half-brother, Dock Jones, and his half-sister, Tinie Bowers. Among the assets was the mercantile business of J. S. Carroll & Co., which prior to Carroll's death had been conducted as a sole proprietorship. This business passed to the three beneficiaries in the following proportions: One-half to his wife, one-fourth each to his brother and sister. Under date of August 27, 1912, the beneficiaries organized a corporation under the laws of the State of Alabama, known as the J. S. Carroll Mercantile Co., for the purpose of continuing the business and conveyed thereto all the assets and property coming into their hands as heirs and legatees of the late J. S. Carroll with the exception of certain stocks in other corporations belonging to them under the terms of the will. The property so conveyed was to pay first for the $50,000 authorized capital stock of the corporation and the stockholders were to have credit for the balance of the value of the assets transferred. Two hundred fifty shares of the capital stock were issued to Mrs. Carroll and 125 shares3000 each to Mrs. Bowers and Dock Jones. The total value of the assets transferred to the corporation was $246,692.90, of which amount $50,000 was applied in payment of the capital stock, leaving a balance of $196,692.90, one-half of which amount was credited to Mrs. Carroll and one-fourth each to Mrs. Bowers and Dock Jones. Notes were given by the corporation, due one year hence, covering the value of the property transferred in excess of the capital stock, each stockholder receiving a note of the corporation covering his proportionate amount. At the time the corporation was organized the stockholders were not experienced in the mercantile business and it was agreed that the business should be conducted rather as an experiment for twelve months in order to determine whether it could be successfully operated on the same scale as had marked the operations of J. S. Carroll, or whether the parties should operate on a more restricted basis. It was for this reason that the capitalization was limited and the amounts paid in in excess of that limited capitalization were treated as loans. It was agreed between the parties that should the result of the experiment prove successful, the notes3001 should be canceled and the 1159 property therefore paid in should be permanently invested in the corporation. The notes bore no interest and none was ever paid to the stockholders for the money so advanced. The first year's operations were successful. It was then determined that the notes theretofore issued by the corporation should be surrendered and canceled and that all of the assets and property theretofore transferred to the corporation should be taken over by it as a part of its assets. This was done on or about August 1, 1913. At the time of the organization of the corporation there were set up on its books three accounts, one for each of the stockholders, and each account was designated as a "loan account." To each of these accounts was credited the proportionate amount which represented the excess of the value of the property transferred to the corporation over the amount applied in payment of the respective shares of stock purchased. These accounts continued on the books and each year there would be credited thereon the profits of the business, and any withdrawals made by the stockholders were likewise charged. The amounts of the profits so credited were3002 treated by the individual stockholders as income to them and were reported in their income-tax returns. There was an understanding between the stockholders that they might each withdraw without restriction amounts necessary for their ordinary living expenses, but no greater amounts were to be withdrawn without express authority theretofore granted. It was understood, however, that the withdrawals were not to be in an amount great enough to reduce the original amount paid in to the corporation and this amount so paid in on August 1, 1913, was never reduced, the withdrawals never exceeding the amount of the profits or subsequent deposits made by the stockholders to the corporation and credited to their respective accounts. No interest was ever paid or agreed to be paid on any of the amounts credited to the respective stockholders. In order to conduct the business, it was necessary for the corporation to borrow large sums of money and during the respective years set out below they did borrow from outside sources the following amounts: Year:Amount1913$250,0001914140,0001915142,0001916225,0001917$110,0001918100,0001919110,0001920145,0003003 OPINION. ARUNDELL: No proof was proffered in support of the allegation that the Commissioner used improper comparatives in determining 1160 petitioner's tax liability under sections 327 and 328. On this issue the Commissioner must therefore be affirmed. Section 326 of the Revenue Act of 1918, specifically provides that invested capital does not include borrowed capital. Our problem then is to determine whether the $196,692.90 represented a loan to the corporation or a capital contribution at the time the notes theretofore given were canceled, on or about August 1, 1913. The only witness called states that on that date the obligation to pay the stockholders this sum for the property theretofore transferred to the corporation ceased and it was then agreed that this amount should be risked in the business as a part of the corporation's capital. The fact that the so-called "loan accounts" were not closed out on the books we do not regard as conclusive for tax liability is not to be determined solely as a matter of bookkeeping. *3004 . Profits for each year were credited to these accounts and deposits were likewise entered, but it is interesting to note that the withdrawals never exceeded these amounts and never encroached on the original sums paid in in 1913, a fact that corroborates the testimony of the witness Bowers that this amount was not subject to withdrawal but was an amount invested in the business permanently. We are satisfied from the evidence that this is a fact, and consequently it should be included in petitioner's invested capital. The evidence is lacking, however, which would warrant the inclusion in invested capital of the earnings and subsequent deposits credited to the individual accounts. These amounts were freely withdrawn from time to time, more or less at the will of the stockholders, and have all the earmarks of sums left with the petitioner solely as a matter of convenience and in no sense invested in the business. Judgment will be entered on 15 days' notice, under Rule 50.Considered by MILLIKEN and MURDOCK.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623803/	JOSEPH STAMLER and RUTH STAMLER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentStamler v. CommissionerDocket No. 6720-82.United States Tax CourtT.C. Memo 1985-119; 1985 Tax Ct. Memo LEXIS 511; 49 T.C.M. (CCH) 972; T.C.M. (RIA) 85119; March 20, 1985. 511 Ps were the sole shareholders of KPLS, Inc., a corporation formed to operate a radio station. In 1974, following the liquidation of the corporation, Ps sold the radio station assets for a cash down payment of $85,000 and an interest-bearing installment note in the amount of $215,000. Held, R's determination of interest income and capital gain received by Ps pursuant to the installment note during the years in issue sustained; Held further, Ps are not entitled to a 1976 business expense deduction in excess of the amount allowed by R; Held further, R's useful life determination for certain rental property held by Ps sustained; Held further, Ps entitlement to income-averaging for the years in issue determined; Held further, additions to tax for negligence under section 6653(a), I.R.C. 1954, sustained. Joseph Stamler and Ruth Stamler, pro se. Patricia Anne Golembiewski, for the respondent. NIMSMEMORANDUM FINDINGS OF FACT AND OPINION NIMS, Judge: Respondent determined deficiencies in and additions to petitioners' Federal income tax as follows: Addition to TaxYearDeficiencySec. 6653(a) 1512 1975$5,422$27119766,12230619778,59443019786,41532119796,788339After concessions, the issues for decision are: 1) the amount, if any, of interest income and capital gain petitioners should have reported during the years in issue from the installment sale of certain radio station assets; 2) whether petitioners are entitled to a 1976 business expense deduction in excess of the amount allowed by respondent; 3) the useful life of two condominium units held by petitioners as rental property; 4) whether petitioners are netitled to income-average for 1971 through 1979; and 5) whether petitioners are liable for the addition to tax for negligence under section 6653(a). FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and attached exhibits are incorporated herein by the reference. Petitioners Joseph Stamler (petitioner) and Ruth Stamler, husband and wife, resided in Rohnert Park, California, at the time their petition was filed. Sale Of Radio Station AssetsPetitioners were the sole shareholders of KPLS, Inc. (hereinafter referred to as KPLS or 513 the corporation), a California corporation incorporated on March 28, 1966, to operate radio station KPLS (the radio station). Subsequent to its incorporation, the Federal Communications Commission (FCC) assigned a radio station broadcast license to KPLS for the operation of the radio station. KPLS and petitioners operated the radio station from 1966 until the corporation's liquidation and dissolution in 1974. During the period of the radio station's operation, petitioners loaned $83,000 to KPLS.In return, the corporation executed interest-bearing promissory notes to evidence the outstanding loan amounts. On May 20, 1974, petitioners executed a sales agreement transferring the radio station assets, including the corporation's right, title and interest in the broadcast license but excluding cash on hand and petitioner's pre-paid rent deposit, to Hugh Turner, James Lange, Margaret Lange and Radio 1150, Inc. (the purchasers). The sales agreement provided that petitioners would sell the radio station assets subsequent to the corporation's liquidation as follows: On or before closing date, Seller corporation will, pursuant to Section 333 of the Internal Revenue Code, distribute all assets 514 of said corporation to its sole shareholders by way of liquidating dividend, and said shareholders shall be bound by all covenants, promises and warranties expressed herein, and shall faithfully perform all the duties and obligations of said corporation toward Buyer. The sale agreement referred to petitioners and the corporation as "Seller". Petitioners signed the sales agreement individually and as officers of the corporation. The purchasers agreed to pay petitioners $300,000 for the radio station assets, the consideration consisting of a cash downpayment in the amount of $85,000 and an installment note in the amount of $215,000. The note provided for an 8.5 percent interest rate. On October 11, 1974, FCC approved the assignment of the radio station broadcast license from KPLS, Inc. to Radio 1150, Inc. 2On October 15, 1974, petitioners adopted a resolution to liquidate the corporation under section 333. On November 7, 1974, petitioners executed a Form 966 (Corporate Dissolution or Liquidation). Subsequent to October 15, 1974, petitioners received the radio station assets in conformity 515 with section 333. Petitioners did not assume any liabilities of the corporation in the liquidation. On October 22, 1974, petitioners executed a bill of sale which provided in pertinent part as follows: NOW THEREFORE, KPLS, Inc., and JOSEPH STAMLER and RUTH STAMLER, his wife, individually, hereby and by these presents sell, transfer and convey and assign all their right, title and interest in and to the license to operate Radio Station KPLS, Santa Rosa, California, on 1150 Kc, together with the right to use the call letters "KPLS"; Real Property of approximately 11.78+ acres located on Medica Road, Santa Rosa, California, together with all appurtenances thereon, the same being the transmitter site commonly known as that certain property lying in Rancho Cabeza de Santa Rosa, Township 7 North Range 7 West, M.D. & M., and being a portion of Lot 33 as shown on Map entitled "McDonald Ranch Subdivision" and recorded in Book 29 of Maps, page 5, Sonoma County Records; together with personal property, including leases and contracts as set forth in Exhibits "A" through "D" of the said Sale and Purchase Agreement dated May 20, 1974, said sale, transfer, assignment and conveyance being upon all 516 the terms and conditions as set forth in said Sale and Purchase Agreement, which Agreement, together with Exhibits "A" through "D" is attached hereto and incorporated herein as though fully rewritten and set forth at length. Petitioners signed the bill of sale as "Joseph Stamler and Ruth Stamler." Petitioners did not sign the bill of sale in a representative capacity for the corporation. On December 31, 1974, petitioners filed a Certificate of Winding Up and Dissolution with the Secretary of State of California. At the time of dissolution, the corporation's notes in the amount of $83,000 payable to petitioners remained outstanding. The corporation also possessed net operating losses totalling $72,352.93 from 1972, 1973 and 1974. On their 1974 Federal income tax return, petitioners elected to report the gain from the sale of the radio station assets pursuant to the installment method. On an installment sale computation schedule attached to that return, petitioners reported total taxable gain of $159,361.65 from the sale of the radio station assets. Dividing the total taxable gain of $159,361.65 by the $300,000 contract price, petitioners computed that approximately 53 percent (the 517 gross profit percentage) of each principal payment received pursuant to the note would constitute capital gain. On Schedule D (Capital Gains and Losses) of their 1974 return, petitioners reported $45,727.82 as the recognized gain to be reported in 1974. From January, 1975, through December, 1979, petitioners received $1,866.40 per month pursuant to the terms of the installment note. These payments consisted of principal and interest as follows: YearPrincipalInterest1975$4,347.32$18,04919764,731.5817,66519775,149.8117,25019785,605.0216,79219796,100.4616,296Petitioners failed to report any of the interest income or capital gain they received from the sale of the radio station assets during the years in issue (1975-1979). In the notice of deficiency, respondent determined that petitioners should have reported 53 percent of each principal payment and 100 percent of each interest payment as capital gain and interest income, respectively. Useful Life - Rental UnitOn November 9, 1976, petitioners purchased a used condominium unit. On June 4, 1979, petitioners purchased a 50 percent interest in a new condominium unit. Both units were held as rental property. On Form 4831 of their 1977 and 518 1978 Federal income tax returns, petitioners claimed depreciation of $6,890 and $2,890, respectively, for the used condominium unit. On Schedule E of their 1979 return, petitioners claimed depreciation of $2,727 for the used condominium unit and $6,740 for their interest in the new condominium unit. Petitioners claimed a 20 year useful life for each unit. In the notice of deficiency, respondent partially disallowed the depreciation claimed by petitioners after determining that the useful life of each condominium unit was 30 rather than 20 years. Business ExpensesOn their 1976 Federal income tax return, petitioners deducted business expenses totalling $4,440.Respondent subsequently determined that petitioners were entitled to a business expense deduction in the amount of $3,826. Prior to the issuance of the notice of deficiency, petitioners executed a Form 1902-E consenting to respondent's adjustment. OPINION Issue 1. Interest Income and Capital Gain From the Sale of Radio Station AssetsIn 1974, petitioners received a cash downpayment of $85,000 and an installment note in the amount of $215,000 for the sale of certain radio station assets. The note provided for monthly payments 519 of principal and interest in the amount of $1,866.40. Petitioners realized gain of $159,361.65 on the sale of the radio station assets. On their 1974 Federal income tax return, petitioners elected to report this gain on the installment method. On that return, petitioners reported $45,727.82 as the recognized gain from the installment sale to be reported in 1974. From 1975 through 1979, however, petitioners failed to report the remaining taxable gain or the interest income they received pursuant to the note. The first issue for decision is the amount, if any, of capital gain and interest income petitioners' should have reported during the years in issue from the installment sale of the radio station assets. Petitioners argue that because the substance of the transaction was a sale of the radio station assets by KPLS, Inc., the corporation, rather than petitioners, should have reported the capital gain and interest income they received pursuant to the installment note during the years in issue. Petitioners alternatively contend that if we find them taxable on the interest income and capital gain received pursuant to the note, they are entitled to: 1) offset the capital gain and interest 520 income by the 1972, 1973 and 1974 net operating losses of KPLS, Inc. and 2) either include the amount of the loans they made to KPLS, Inc. which remained outstanding at the time of the corporation's liquidation in the basis of the radio station assets when computing the sale's gross profit percentage or claim a non-business bad debt deduction equal to the outstanding loan amounts. Conversely, respondent contends that because the form as well as the substance of the transaction was a sale of the radio station assets by petitioners, petitioners are taxable on the interest income and capital gain they received pursuant to the note. Respondent further argues that because KPLS, Inc. is a taxable entity separate and distinct from petitioners, petitioners are not entitled to claim the corporation's net operating losses. Finally, respondent maintains that petitioners correctly computed the sale's gross profit percentage on the installment sale computation schedule attached to their 1974 Federal income tax return. Under section 453, if a taxpayer elects to report the gain from an installment sale of property on the installment method, he must report as income in any taxable year that proportion 521 of the principal payments actually received during the year which the anticipated gross profit bears to the total contract price (the gross profit percentage). Section 453(a)(1); Section 1.453-1(b), Income Tax Regs. A cash method taxpayer must also include the interest portion of each installment payment in gross income when actually or constructively received. Section 1.451-1(a), Income Tax Regs.Petitioners do not dispute respondent's determination of the amount of principal and interest they received pursuant to the note during the years in issue. Rather, petitioners argue that because the substance of the transaction was a sale of the radio station assets by KPLS, Inc., the corporation is taxable on the interest income and capital gain realized as a result of the sale. 3 We, however, are not persuaded by this argument. In Commissioner v. Court Holding Co.,324 U.S. 331">324 U.S. 331, 334 (1945), the Supreme Court held: The incidence of taxation depends upon the substance of a transaction. The tax consequences which arise from gains from a sale of property 522 are not finally to be determined solely by the means employed to transfer legal title. Rather, the transaction must be viewed as a whole, and each step, from the commencement of negotiations to the consummation of the sale, is relevant. A sale by one person cannot be transformed for tax purposes into a sale by another by using the latter as a conduit through which to pass title. In United States v. Cumberland Public Service Company,338 U.S. 451">338 U.S. 451, 454-455 (1950), the Court noted, however, that: This language does not mean that a corporation can be taxed even when the sale has been made by its stockholders following a genuine liquidation and dissolution. While the distinction between sales by a corporation as compared with distribution in kind followed by shareholder sales may be particularly shadowy and artificial when the corporation is closely held, Congress has chosen to recognize such a distinction for tax purposes. In the instant case, the form of the transaction identifies petitioners as the sellers of the assets. The terms of the sales agreement provided that petitioners would sell the assets following the liquidation of the corporation. The bill of sale referred to the sellers 523 as "Joseph Stamler and Ruth Stamler, his wife, individually . . .". Petitioners signed the bill of sale in their individual capacity and not as officers or agents of the corporation. Finally, petitioners, rather than the corporation: 1) received the cash downpayment made pursuant to the note; 2) computed the gain from the sale of the radio station assets on an installment sale computation schedule attached to their 1974 Federal income tax return; and 3) reported the gain to be recognized from the asset sale in 1974 on their 1974 return. The record contains no evidence to support petitioners' contention that the substance of the transaction differed from its form. We therefore find that petitioners are taxable on the interest income and capital gain they received pursuant to the note during the years in issue. We are unpersuaded by petitioners' alternative argument that they are entitled to offset the interest income and capital gain they received pursuant to the note during the years in issue by the corporation's net operating losses for 1972, 1973 and 1974. In Erskine v. Commissioner,16 B.T.A. 1080">16 B.T.A. 1080, 1083 (1929), we noted that: A corporation which is subject to tax under the revenue 524 laws is a taxable entity separate and distinct from its stockholders, and a stockholder of such corporation is not entitled to deduct from his personal income any portion of a net loss sustained by the corporation. This principle is too well settled to require discussion * * . Petitioners do not argue and the record contains no evidence that the corporation was a sham. See Moline Properties, Inc. v. Commissioner,319 U.S. 436">319 U.S. 436 (1943). We therefore conclude that petitioners are not entitled to claim the corporation's net operating losses on their individual income tax returns. Petitioners also argue that they assumed the corporation's obligation to repay them $89,761. 4525 Petitioners thus conclude that because they did not include the amount of the assumed liabilities in the basis of the radio station assets they received in the liquidation, they erroneously computed the sale's gross profit percentage on the installment sale computation schedule attached to their 1974 Federal income tax return. 5 We disagree. Although the basis of assets received in a liquidation under section 333 includes the amount of any unsecured liabilities assumed by the shareholders in the liquidation, section 1.334-2, Income Tax Regs., petitioners have not cited, nor has our own research disclosed, any support for their contention that shareholders can assume a debt owed to themselves. Indeed, this transaction more closely resembles a cancellation of indebtedness than an assumption of liability. We therefore conclude that petitioners properly computed the sale's gross profit percentage on the installment sale computation schedule attached to their 1974 Federal income tax return. Consequently, we find that respondent properly determined that 53 percent of each principal payment received by petitioners pursuant to the 526 installment note constituted capital gain. Finally, petitioners argue that if they are not entitled to include the unpaid loan amount in the basis of the radio station assets, they are nonetheless entitled to deduct this amount as a non-business bad debt. Section 166(d)(1) allows a taxpayer to deduct a non-business bad debt in the year in which the debt becomes wholly worthless. Petitioners contend that the corporation's notes became wholly worthless in 1974. Petitioners, therefore, if entitled to the deduction, would have to claim the bad debt deduction in 1974. Crown v. Commissioner,77 T.C. 582">77 T.C. 582, 598 (1981). Because the 1974 taxable year is not before us, we need not and do not decide whether petitioners are entitled to claim a non-business bad debt deduction in that year. In conclusion, we find that respondent properly determined the amount of interest income and capital gain petitioners should have reported during the years in issue. Accordingly, we sustain respondent's determination on this issue. Issue 2. Business Expense DeductionThe next issue for decision is whether petitioners are entitled to a business expense deduction for 1976 in excess of the amount allowed by respondent. 527 Section 162(a) allows a deduction for "all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business * * ." Petitioners, however, offered no evidence of the business expenses they paid or incurred during 1976. We therefore find that petitioners have failed to satisfy their burden of proving that they incurred deductible business expenses for 1976 in excess of the amount allowed by respondent. Rule 142(a). Accordingly, respondent's determination is sustained. Issue 3. Useful Life - Rental UnitsThe next issue for decision is the useful life of two condominium units held by petitioners as rental property. Petitioners claimed a 20-year useful life for each unit on Schedule E of their 1977, 1978 and 1979 Federal income tax returns. In the notice of deficiency, respondent determined a 30-year useful life for each unit. Section 1.167(a)-1(b), Income Tax Regs., defines the useful life of an asset as "the period over which the asset may reasonably be expected to be useful to the taxpayer in his trade or business * ." The regulation further provides that the useful life of an asset shall be determined by reference to the taxpayer's 528 "experience with similar property taking into account present conditions and probable future developments." Some of the factors to be considered are: 1) wear and tear and decay or decline from natural causes, 2) the normal progress of the art, economic changes, inventions and current developments within the industry and the taxpayer's trade or business, 3) the climatic and other local conditions peculiar to the taxpayer's trade or business, and 4) the taxpayer's policy as to repairs, renewals, and replacements. If the taxpayer's own experience is inadequate, the regulations permit the taxpayer to use the general experience in the industry. Section 1.167(a)-1(b), supra.Petitioners offered no evidence to support a useful life of 20 years for the two condominiums.In the absence of evidence probative of their experience or the industry's experience with similar property, we must uphold respondent's useful life determinations. Rule 142(a). Issue 4. Income AveragingThe next issue for decision is whether petitioners are entitled to income-average for 1971 through 1979. Sections 1301 through 1305 provide income-averaging for an eligible individual whose taxable income for the year in 529 which averaging is elected exceeds 120 percent of his average taxable income in the four preceding years (base period years). Respondent did not determine a deficiency in petitionerss' income tax for 1971 through 1974. We therefore have no jurisdiction to redetermine petitioners' tax liability for 1971 through 1974. See Dial v. Commissioner,24 T.C. 117">24 T.C. 117, 125 (1955); Section 6214(b). With respect to the years in issue, petitioners presented copies of their Federal income tax returns for 1971 through 1974 to establish their average taxable income for the base period years. Respondent does not challenge the accuracy of these returns and concedes that petitioners may be entitled to income-average for the years in issue depending on our disposition of the other issues in this case. Since all issues remaining the dispute are decided in favor of respondent, we conclude that respondent's concession on this issue means that petitioners are netitled to some benefit from income averaging for 1975 through 1979. Consequently, the amount to which petitioners are entitled under income averaging for 1975 through 1979 will be made in the Rule 155 computation. Issue 5. Addition to TaxThe final 530 issue for decision is whether petitioners are liable for the addition to tax for negligence under section 6653(a). Section 6653(a) provides that if any part of the tax underpayment is due to negligence or intentional disregard of the rules and regulations, an amount equal to five percent of the underpayment shall be added to the tax. Petitioners bear the burden of proving that their underpayment was not due to negligence or intentional disregard of rules and regulations. Rule 142(a); Farwell v. Commissioner,35 T.C. 454">35 T.C. 454 (1960). Although petitioners reported the capital gain from the installment sale of the radio station assets to be recognized pursuant to the installment method in 1974, they failed to report the interest income and capital gain they subsequently received during the years in issue. Petitioners' returns filed subsequent to the year of sale contain not the slightest hint that petitioners had changed their position on the characterization of the sale -- they simply failed to report the interest and capital gain income received in each of the years in question. To put it as charitably as possible under the circumstances, petitioners simply neglected to report items *531 of taxable income throughout a five-year period subsequent to the sale. Because we do not consider the explanation petitioners offered for these omissions to be reasonable, we find that petitioners have failed to satisfy their burden of proving that no part of the tax underpayment was due to negligence or intentional disregard of the rules and regulations. Accordingly, the addition to tax under section 6653(a) is sustained. To reflect the foregoing and prior concessions, Decision will be entered Under Rule 155.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 in effect for the years in question. All rule references are to the Tax Court Rules of Practice and Procedure.2. The FCC must approve the assignment of any radio broadcast license. 47 U.S.C. section 310(d)↩.3. At trial, petitioner testified that the corporation's net operating losses would substantially reduce the capital gain realized on the sale.↩4. Although petitioners contend in their briefs that the outstanding loans totalled $89,761 at the time of the liquidation, the stipulation of facts provides that the outstanding loans totalled $83,000. Moreover, the notes offered by petitioners as evidence of the unpaid debt totalled $83,000. 5. Although we have no jurisdiction to determine whether petitioners overpaid or underpaid their tax in 1974, we must determine whether petitioners' 1974 basis computation is correct for purposes of determining the amount of gain to be recognized for the years in issue. Section 6214(b).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623804/	American Security Company v. Commissioner.American Sec. Co. v. CommissionerDocket No. 110386.United States Tax Court1943 Tax Ct. Memo LEXIS 233; 2 T.C.M. (CCH) 356; T.C.M. (RIA) 43308; June 25, 1943233 Verne McMillen, Esq., 1004 Pyramid Bldg., Little Rock, Ark., for the petitioner. Stanley B. Anderson, Esq., for the respondent. HARRON Memorandum Findings of Fact and Opinion HARRON, Judge: The respondent determined deficiencies in income tax and excess profits tax for the years 1935, 1936, 1937, and 1938, as follows: ExcessYearIncome TaxProfits Tax1935$ 7,791.80$ 2,833.39193625,829.5010,411.26193711,917.214,184.1919384,691.701,383.54$50,230.21$18,812.38The main question relates to determining the correct basis of properties which petitioner disposed of in the taxable years for the purpose of computing gain or loss in each taxable year. Findings of Fact Petitioner, an Arkansas corporation, was organized on June 5, 1935. It filed its income tax returns for the taxable years with the collector for the district of Arkansas. Immediately following the organization of petitioner, various properties were conveyed to it by the receiver of the American Building and Loan Association of Little Rock, Arkansas, under circumstances set forth hereinafter. Petitioner was organized for the purpose of acquiring such properties and for the purpose 234 of selling them over a period of years upon the installment basis. During the taxable years, petitioner disposed of some of the properties. Petitioner's outstanding stock consists of 1,000 shares of a par value of $100 each. In 1934, the American Building & Loan Association of Little Rock, Arkansas, became insolvent and Parker C. Ewan was appointed receiver by the Chancery Court of Pulaski County, Arkansas. The assets of the Association consisted of real estate and mortgages. In May 1935, Hogan Oliver, a member of the partnership of Oliver & Freeling, which was engaged in the brokerage business in Little Rock, approached H. L. Thomas, president of the Pyramid Life Insurance Company of Little Rock, and asked him whether Pyramid would be interested in joining in the purchase of the assets of the Association if satisfactory terms could be arranged. Thomas told Oliver that his company might be interested. Thomas then appraised the various assets of the Association and estimated that the sum of $450,000 could be realized upon liquidation of the assets if they were sold on the installment plan. Thereafter, it was agreed between Pyramid and Oliver & Freeling that an offer of $250,000 would235 be made to the receiver for the assets. Pyramid agreed to advance $200,000 of the purchase price, and Oliver & Freeling agreed to advance $50,000. Verne McMillen, who was the general counsel of Pyramid was orally authorized by Pyramid and Oliver & Freeling to make an offer in his name, the trustee. McMillen sent the following letter to the receiver of the Association: May 18, 1935. I hereby offer you the sum of $250,000.00 for all of the assets of every kind and character, except cash and Home Owners' Loan Bonds and authorizations for bonds, of the American Building & Loan Association, of which you are receiver. I attach my check for $10,000.00 as a part of the purchase price for said assets and agree to pay the balance on or before June 30, 1935. This offer is made for the assets which are now in your hands as Receiver as of this date and is made with the understanding that you will continue to handle the property as Receiver until the payment of the balance of the purchase price. All moneys collected by you after this date are to be set aside and paid to me or credited on the balance due on the purchase price when it is paid. I agree to pay all salaries, traveling expenses, 236 and other necessary expenses of operation from this date up to the date of the final payment of the balance due on the purchase price. Upon acceptance of this offer and approval by the Court and final payment of the purchase price, it is agreed and understood that you are to make all necessary deeds, conveyances, assignments, and other proper instruments of conveyance necessary to transfer all assets to me or my order. Subsequently, and prior to June 11, 1935, the offer was accepted by the receiver and was approved by the Chancery Court of Pulaski County, Arkansas. Thereafter, and prior to June 11, 1935, it was agreed between Pyramid, Oliver & Freeling and McMillen that a corporation should be formed to take over the assets which McMillen was in the process of acquiring as the agent of Pyramid and Oliver and Freeling. It was agreed, prior to the organization of the proposed corporation, that the stock of the corporation, which was regarded as having no value, would be issued to eight individuals, as follows: H. L. Thomas236 sharesR. C. Stark236 sharesVerne McMillen236 sharesGreely Watson100 sharesHogan Oliver90 sharesGuy Freeling90 sharesGeorge F. Jackson10 sharesS. M. Dent2 sharesTotal1,000 shares237 The stock was issued to these individuals in consideration of services to be rendered by them to the corporation in the liquidation of the properties. It was also agreed that the corporation would issue 4 percent first mortgage bonds in the amount of $460,000, payable over a period of five years, and secured by the properties and assets to be received from the Association; that the bonds would be issued as follows: $360,000to Pyramid90,000to Oliver & Freeling10,000to Greely Watson$460,000 Greely Watson had assisted the receiver of the Association, and he was acquainted with the properties. It was contemplated that Watson would be engaged by petitioner to assist in the liquidation of the assets. Pursuant to the above understanding, petitioner was incorporated on June 5, 1935 by Greely Watson, Verne McMillen, and S. M. Dent, who received qualifying shares of stock in the amount of one share each. Immediately thereafter, McMillen arranged from the transfer of the properties to petitioner directly from the receiver of the Association, and the following steps were taken: (1) On June 8, 1935, McMillen, on behalf of Pyramid and Oliver & Freeling, made a written offer238 to petitioner under which he offered to transfer their respective interests in the assets of the Association in exchange for 997 shares of petitioner's capital stock and $460,000 of petitioner's first mortgage bonds, the bonds to be secured by a deed of trust covering all of the property. At the first meeting of the stockholders of petitioner, which was held on June 10, 1935, the following resolution was adopted: Be It Resolved, That this Company does hereby accept the offer of Verne McMillen, as Trustee, as set out in his written offer (a copy of which is attached hereto and made a part of these minutes) for the sale, transfer and assignment to this company by the said Verne McMillen, as Trustee, of that certain contract of purchase heretofore entered into between the said Verne McMillen, as Trustee, as Purchaser, and Parker C. Ewan, as Receiver of American Building & Loan Association, of Little Rock, Arkansas, as Seller, for the purchase of certain assets and property of said Association (more particularly described in a detailed schedule of said assets and property attached to said written offer which is now made a part of these minutes) in exchange for 997 shares of the capital239 stock of this Company and $460,000.00 of this Company's first mortgage bonds, payable to bearer, payment of which bonds is to be secured by this Company, conveying, assigning and pledging to Union National Bank of Little Rock, Little Rock, Arkansas, as Trustee for the holder or holders of said bonds, all of the property so acquired by this Company through the assignment to it of said contract of purchase. Be It Further Resolved, That the President and Secretary be and they are hereby authorized, empowered and directed to issue bonds in the name and behalf, and under the corporate seal of this Company, in the aggregate principal amount of $460,000.00, payable to bearer, and to issue certificates for stock for 997 shares of the capital stock of this Company to Verne McMillen, as Trustee, or order, said stock to be delivered to Verne McMillen, as Trustee or his order, and said bonds to be delivered to said Union National Bank of Little Rock, as Trustee; and the President and Secretary are further authorized, empowered and directed to execute in the name and behalf and under the corporate seal of this Company such deeds of trust, assignments of notes and mortgages and other instruments240 of conveyance as may be required, conveying, assigning and pledging to said Union National Bank of Little Rock, as Trustee, all of the property acquired by this Company through said contract of purchase as security for the payment of said bonds. A similar resolution was adopted by petitioner's board of directors at a meeting held on the same day. (2) On June 11, 1935, $240,000, the balance of the purchase price, was paid by Pyramid and Oliver & Freeling to the Union National Bank of Little Rock, which in turn paid that amount over to the receiver of the Association. The receiver thereupon conveyed the assets of the Association directly to petitioner. On the same day, petitioner executed and delivered $460,000 of its bonds to the Union National Bank, which in turn, delivered $360,000 of the bonds to Pyramid, $90,000 of the bonds to Oliver and Freeling, and $10,000 of the bonds to Greely Watson. Also, certificates of stock were issued by petitioner to the following individuals: H. L. Thomas236 sharesR. C. Stark236 sharesVerne McMillen235 sharesGreely Watson99 sharesHogan Oliver90 sharesGuy Freeling90 sharesGeorge F. Jackson10 sharesS. M. Dent1 sharesTotal997 shares241 In June 1935, H. L. Thomas was president of Pyramid; R. C. Stark was secretary; Verne McMillen was vice-president and general counsel; and Dr. George F. Jackson was the medical director. The total number of shares of outstanding stock of Pyramid was 12,500 shares: Thomas owned 562.78 shares; McMillen, 198.75 shares; Stark, 155 shares; and Jackson, 90 shares, making a total of 1,006.53 shares. The balance of the outstanding shares was owned by other individuals. Neither Hogan Oliver, Guy Freeling, Greely Watson, or S. M. Dent were employees or stockholders of Pyramid. No cash consideration was paid by any of petitioner's stockholders for the stock issued to them by petitioner, but Hogan Oliver, Greely Watson, H. L. Thomas, R. C. Stark, and Verne McMillen performed services in the liquidation of the assets which were transferred to petitioner by the receiver for the Association. Only Greely Watson received a salary from petitioner, in addition to the stock which was issued to him. A large portion of the assets acquired by petitioner under the above transaction was disposed of, and all of the $460,000 bonds were paid or taken up through the issuance of other bonds by petitioner prior242 to December 31, 1938. The stock of petitioner at the date of issuance had no value. The unadjusted basis of the assets acquired by petitioner under the above transaction is $460,000 for the purpose of determining gain or loss. Pyramid did not own any of petitioner's stock at any time. Opinion In this proceeding, in effect, respondent takes the view that Pyramid was the equitable owner of some of petitioner's stock immediately after the transfer of the assets of the Association to petitioner on June 11, 1935. This is premised upon the belief that all of the individuals to whom petitioner's stock was issued except Watson, Oliver, Freeling, and Dent, held petitioner's stock as donees of Pyramid. This being so, it is argued that Pyramid must have been at least momentarily in control of petitioner. Under this theory, respondent contends that petitioner received the properties in question in a non-taxable exchange under the provisions of section 112 (b) (5) of the Revenue Act of 1934; 1 and that, accordingly, the basis of the property for the purposes of computing gain or loss is to be determined under the provisions of section 113 (a) (8). 2 Under section 113 (a) (8), in general, 243 the basis of the property is the same in the hands of the transferee as it was in the hands of the transferor. It is respondent's contention that Pyramid and Oliver & Freeling transferred property to petitioner solely in exchange for stock or securities of petitioner, and that immediately after the exchange, Pyramid and Oliver & Freeling were in control of petitioner so that the basis of the property to petitioner is $250,000, under the provisions of section 113 (a) (8), which was the amount paid for the property by Pyramid and Oliver and Freeling. 244 In its return for the period beginning with its organization on June 5, and ending December 31, 1935, petitioner used the face amount of the bonds issued, plus the par value of its stock issued at the time of its organization, as its cost in determining gain or loss on the sale of that portion of the assets sold during that period. In a preliminary examination of that return, respondent held that the unadjusted basis of the assets to petitioner was $250,000, but permitted petitioner to amortize $210,000, (which was the difference between $250,000, which respondent held was the cost of the assets to petitioner, and $460,000, the total amount of bonds issued), over the life of the bonds, and to deduct such amortized amounts as the properties were sold and the bonds retired. Accordingly, petitioner claimed deductions for bond discount in its amended return for 1935, and in its returns for 1936, 1937, and 1938. In the notice of deficiency, respondent disallowed the bond discount, and held that pursuant to sections 112 (b) (5), and 113 (a) (8), the unadjusted basis of petitioner's assets was $250,000. Respondent added the amounts which had been deducted as bond discount to net income. 245 Petitioner denies that it acquired its assets under an exchange such as is covered by section 112 (b) (5) for the reason that Pyramid, under the transaction, did not receive any of petitioner's stock. Petitioner contends that Thomas, Stark, McMillen, and Jackson received its stock as individuals, separate and apart from the corporation, Pyramid. Under petitioner's construction of the facts, the basis of its assets is their cost to petitioner under the provisions of section 113 (a). Petitioner contends that the cost to it of the properties acquired in June 1935, was $460,000. Petitioner takes the view that the properties were acquired in exchange for its bonds and that none of its stock was issued in consideration for the properties. The question turns on the facts and it is necessary to discuss them briefly. Prior to entering into the contract with the receiver for the Association, Pyramid had appraised the assets of the Association and had determined that $450,000 could be realized ultimately from them, if they were sold on the installment plan. Based upon this appraisal, Pyramid and Oliver & Freeling, through their agent, McMillen, made an offer of $250,000 for the assets of 246 the Association. This offer was accepted by the receiver for the Association and approved by the court. A plan was then worked out by Pyramid, Oliver & Freeling and McMillen whereby a corporation would be formed to hold, manage and liquidate the assets which McMillen was in the process of acquiring, as the agent of Pyramid and Oliver & Freeling. Under the plan which was formed prior to petitioner's incorporation it was agreed that Pyramid and Oliver & Freeling would arrange for the transfer of the assets of the Association directly from the receiver for the Association to petitioner as a matter of convenience, that petitioner would receive the properties in exchange for $460,000 of its bonds, and that petitioner's stock, which was considered without value, would be issued directly to various individuals in return for their services to petitioner in the liquidation of the assets. Respondent admits on brief that petitioner's stock was of no value at the time of issuance. Pyramid's sole interest was to recover its advance of $200,000 out of the bonds. It would take a number of years to liquidate the properties, and it was thought expedient to organize petitioner for that purpose. Pyramid247 believed that the individuals who received the stock would manage petitioner efficiently in the liquidation of the properties. The transaction was not a device to evade taxation, but was a bona fide business arrangement. . We are not unmindful of the fact that petitioner's resolution of June 10, 1935, authorized the issuance of 997 shares of its stock to "Verne McMillen, as Trustee, or order." However, the record establishes clearly that it was agreed by Pyramid, Oliver & Freeling, and McMillen, prior to petitioner's incorporation, that petitioner's stock would be issued to the eight individuals in return for their services to petitioner. The issuance of the bonds and their delivery to Pyramid, Oliver & Freeling, and Watson, the issuance of the stock to the eight individuals, the payment to the receiver of the Association, and the transfer of the assets to petitioner by the receiver were component steps of a single transaction carried out under a prearranged plan and must be viewed as a whole. As stated in : A single transaction carried248 out in accordance with a preconceived plan cannot be split up into its component parts for tax purposes. The same rule is enunciated in ; ; ; and . Under the plan, it was agreed that petitioner's stock would be issued to certain individuals rather than to Pyramid. These individuals were not mere nominees of Pyramid but actual owners of the stock with all the attributes of ownership. The consideration for the issuance of the stock to them was their services to be rendered to the new corporation. However, even assuming that no services were to be rendered to petitioner by the stockholders, it has been held that the fact that distributees of stock under a prearranged plan were donees rather than purchasers of the stock is not controlling. The only way in which it can be considered that Pyramid249 was in control of petitioner after the transfer of assets is to ascribe to it ownership of the shares of stock issued to certain individuals who were officers and stockholders of Pyramid. To do that, however, is to distort the wording of section 112(b) (5). It has been frequently held that where the language of a statute is plain and susceptible of but one meaning, there is no justification for resort to judicial construction. ; . It has also been held in , that the word "transferor" should not be construed to mean "transferor or its stockholders". In this connection, it is to be noted that the stockholders of Pyramid who were stockholders of petitioner owned only 8 percent of Pyramid's outstanding stock. Under circumstances, it cannot be held that Pyramid owned the stock of petitioner which was issued to Pyramid's stockholders and officers. To hold otherwise would be to disregard the rule established by the Supreme Court in ,250 where it was said: A corporation and its stockholders are generally to be treated as separate entitles. Only under exceptional circumstances - not present here - can the difference be disregarded. It cannot be said here that the circumstances are so exceptional that we should ascribe to Pyramid the stock of petitioner owned by Pyramid's stockholders. Respondent relies on ; affd., ; certiorari denied, ; and . These cases are not in point, however, since immediately after the exchange, stock in the new corporation was actually issued to the transferors and they were in control of the new corporation. In those cases, they subsequently transferred part of the stock to other parties. Here none of the stock was ever issued to Pyramid, and Pyramid was never in control of petitioner. Respondent's contention that the cost to petitioner of the properties acquired by it from the Association is the cost to Pyramid and Oliver & Freeling must be denied for an251 additional reason. To come within the purview of section 112(b)(5) the amount of the stock and securities received by Pyramid and Oliver & Freeling from petitioner must be substantially in proportion to their interest in the property prior to the exchange. Even assuming, arguendo, that the ownership of petitioner's stock, even though it was held by certain individuals who were officers and stockholders of Pyramid, must be imputed to Pyramid, the "amount of the stock and securities received" by Pyramid and Oliver & Freeling was not substantially in proportion to their interest in the property prior to the exchange. Originally Pyramid owned 80 percent, and Oliver & Freeling 20 percent of the property transferred. Petitioner issued $460,000 of its bonds, of which Pyramid received $360,000, or 78 percent, and Oliver & Freeling, $90,000, or 19 percent. The balance of the bonds went to Watson as part consideration for his future services in liquidating the properties. If the ownership of the stock which was issued directly to Thomas, Stark, McMillen, and Jackson, who were stockholders of Pyramid, is imputed to Pyramid, Pyramid received 718 shares, or 71.8 percent of petitioner's stock, 252 and Oliver & Freeling received 180 shares, or 18 percent of the stock. The balance of the stock went to other individuals not connected with either Pyramid or Oliver & Freeling. Thus Pyramid and Oliver & Freeling did not receive stock and securities from petitioner substantially in proportion to their interest in the property prior to the exchange. See ; . It is therefore concluded that the transfer of the properties by Pyramid and Oliver & Freeling to petitioner did not come within the purview of section 112 (b) (5) of the Revenue Act of 1934, since the transferors were not in control of the transferee corporation immediately after the exchange within the definition of "control" under section 112 (h). 3 Also, the amount of petitioner's stock and securities received by the transferors was not substantially in proportion to their interest in the property prior to the exchange. 253 Since section 112(b) (5) is inapplicable, the basis of the property in the hands of petitioner is the cost of such property to petitioner. Section 113 (a) Revenue Act of 1934. In return for the property acquired, petitioner issued its promises to pay certain amounts in the form of bonds. The face amount of the bonds issued by petitioner for the property in question must be considered as the cost of the property, since it represented the sum which petitioner was obligated to pay therefor. . It is therefore held that the basis to petitioner of the assets acquired by it from the American Building and Loan Association for the purpose of determining gain or loss on subsequent sales is the sum of $460,000. In view of the holding made above, it is unnecessary to consider petitioner's alternative contentions. Petitioner concedes the correctness of other adjustments made by respondent in some of the taxable years. Accordingly, Decision will be entered under Rule 50. Footnotes1. SEC. 112. RECOGNITION OF GAIN OR LOSS. * * * (b) Exchanges Solely in Kind. - * * * (5) Transfer to corporation controlled by transferor. - No gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock or securities in such corporation, and immediately after the exchange such person or persons are in control of the corporation; but in the case of an exchange by two or more persons this paragraph shall apply only if the amount of the stock and securities received by each is substantially in proportion to his interest in the property prior to the exchange. ↩2. SEC. 113. ADJUSTED BASIS FOR DETERMINING GAIN OR LOSS. (a) Basis (Unadjusted) of Property. - The basis of property shall be the cost of such property; except that - * * * (8) Property acquired by issuance of stock or as paid-in surplus. - If the property was acquired after December 31, 1920, by a corporation - (A) by the issuance of its stock or securities in connection with a transaction described in section 112(b)(5) (including also, cases where part of the consideration for the transfer of such property to the corporation was property or money, in addition to such stock or securities), or (B) as paid-in surplus or as a contribution to capital, then the basis shall be the same as it would be in the hands of the transferor, increased in the amount of gain or decreased in the amount of loss recognized to the transferor upon such transfer under the law applicable to the year in which the transfer was made.↩3. SEC. 112. RECOGNITION OF GAIN OR LOSS. * * * *(h) Definition of Control. - As used in this section the term "control" means the ownership of at least 80 per centum of the voting stock and at least 80 per centum of the total number of shares of all other classes of stock of the corporation.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623805/	The Texas Company (South America) Ltd., Petitioner, v. Commissioner of Internal Revenue, RespondentTexas Co. v. CommissionerDocket No. 9584United States Tax Court9 T.C. 78; 1947 U.S. Tax Ct. LEXIS 148; July 18, 1947, Promulgated 148 Decision will be entered under Rule 50. Petitioner, a domestic corporation engaged in the business of marketing petroleum products in Brazil, keeps its books on the accrual basis. During the taxable years 1938, 1940, 1941, and 1942 it did not accrue on its books any amount for taxes imposed by Brazil on income belonging to residents abroad, did not make any annual returns or payments on these taxes to Brazil, and did not in its Federal income tax returns for such years claim any foreign tax credit with respect to such taxes, except it did accrue on its books for 1942 liability for these taxes for that year and claimed credit for foreign owner's income tax in its 1942 return. Held, in each of the taxable years petitioner incurred liability for tax on nonresident income imposed by laws of Brazil and is entitled to foreign tax credits provided for in section 131 (a) of Revenue Act of 1938 and the Internal Revenue Code. Benjamin H. Bartholow, Esq., and Clayton E. Turney, Esq., for the petitioner.Walt Mandry, Esq., for the respondent. Harlan, Judge. HARLAN 78 OPINION.This case involves a deficiency in income tax. The petitioner requests a redetermination of deficiencies asserted as 149 follows:1938$ 2,452.1819404,389.9619413,883.72194275,322.88Petitioner claims an overpayment in income tax for 1941 in the amount of $ 85,635.25. The question presented is, When does the tax imposed by the Brazilian Government under article 174, Decree No. 17390, as amended in 1932, on income belonging to residents abroad, accrue for the purpose of foreign tax credits under sections 131 (a) of the Revenue Act of 1938 and of the Internal Revenue Code?The facts in this case are all stipulated or agreed to in the pleadings, and we adopt them as our findings. We set forth herein only that portion thereof which we deem necessary for this opinion.Petitioner is a corporation organized under the laws of West Virginia, with its principal office in New York City, and it is engaged in the business of marketing petroleum products in the Republic of Brazil. For the calendar years 1938, 1940, 1941, and 1942 it filed its Federal income tax returns, prepared upon the accrual method of accounting, with the collector of internal revenue for the third district of New York. On its return for each of the years involved in this proceeding the petitioner signified its desire to have the benefit 79 of section 131150 of the applicable statute granting a credit for foreign income taxes. Forms 1118, "Statement in Support of Credit Claimed by Domestic Corporation for Taxes Paid or Accrued to a Foreign Country or a Possession of the United States," were filed.The law of the Republic of Brazil imposed a general corporate income tax at the rate of 6 per cent during the years 1937 to 1942, inclusive. Petitioner made annual returns of its income and paid the 6 per cent tax thereon. Respondent has allowed foreign tax credit for the 6 per cent general corporate income tax, which is therefore not involved in this proceeding.During the years 1937 to 1942, inclusive, article 174 of Decree No. 17390 of July 26, 1926, of the Republic of Brazil, as amended by Decree No. 21554 of June 20, 1932, imposed, in addition to the corporate income tax generally applicable, a supplemental tax on income belonging to residents abroad. This tax is referred to hereinafter in this stipulation as the foreign owner's income tax. This tax was required to be deducted at the source upon the payment, remittance, utilization, or crediting of the income. Article 174 further provided that the amount of the tax must be paid to the government 151 before the income was remitted or paid over, and that, for the making of a remittance abroad, the bank must require presentation of a receipt for the tax. A correct English translation of this article is as follows:Article 174. A tax of eight per cent is payable on income belonging to residents abroad, except in the case of profits or dividends which, having already paid proportional tax in the possession of the firm or company, will only pay another four per cent when they belong to a resident abroad.Paragraph 1. The tax referred to in this article will be deducted at the actual source, when handing over, remitting, utilizing or crediting the income.Paragraph 2. The amount of the tax must be paid to the government before the income is remitted or paid over; and the bank, for the making of the remittance abroad, must require presentation of the receipt.The rate of tax imposed by article 174 was made 8 per cent, without exception, by Decree Law No. 1168 of March 22, 1939, of the Republic of Brazil.The taxes in controversy are income taxes for the calendar years 1938, 1940, 1941, and 1942. The following statement shows, as to each year, the amount of deficiency as admitted by the 152 petitioner, the amount of overpayment claimed by the petitioner, and the amount of taxes in controversy:DeficiencyDeficiencyOverpaymentAmount ofCalendar yeardeterminedadmitted byclaimed bytax inby Commissionerpetitionerpetitionercontroversy1938$ 2,452.18$ 6.12$ 2,446.0619404,389.964,389.9619413,883.72$ 85,635.2589,518.97194275,322.8838,160.8837,162.0080 Article 188 of Decree Law No. 4178 of March 13, 1942, of the Republic of Brazil, provides a period of limitation upon the assessment of income taxes. A correct English translation of this article is as follows:Article 188. -- The right to assess the income tax is extinguished upon the lapse of five years after expiration of the corresponding fiscal year.(1) The power to effect a new, or an additional, assessment is voided by prescription after five years from the date of termination of the year wherein the previous assessment was made.(2) The said five-year period is interrupted by any departmental operation or demand which becomes necessary for purposes of revision or for assessment and which is communicated to the taxpayer, and recommences upon expiration of the year wherein such procedure is effected.In the years prior to 1942 petitioner, 153 a resident abroad under the law of Brazil for all the years here involved, made no remittance of its profits to its office in the United States, and made no returns or payments of foreign owner's income tax with respect to its profits for any year.In December 1942 petitioner received from the income tax authorities of the Republic of Brazil an order instructing petitioner to pay prior to the end of the year the 4 per cent foreign owner's income tax applicable to the year 1937 and the 8 per cent tax applicable to the unremitted portion of the 1941 profits. Petitioner on December 29, 1942, paid foreign owner's income tax on income of the year 1937 and on the portion of income of the year 1941 as to which the tax had not been previously paid.The following table shows the dates and amounts of Brazilian currency of the payments by petitioner in 1942 and 1943 of foreign owner's income tax on income of the years 1937 to 1942, inclusive, the rate thereof, the amounts of income on which it was computed, and the United States dollar equivalent of the tax paid:Amount of taxDate ofYear ofRate ofpaymentincomeAmount of incometaxBrazilianU. S.currencycurrency2-5-4219381 Rs. 1:253:926$ 6074%Rs. 50:157$ 100$ 2,446.062-5-4219404:091:291$ 6998%327:303$ 30015,961.937-16-4219419:914:315$ 0008%793:145$ 20038,764.978-20-4219413:685:568$ 0008%294:845$ 40014,403.4912-29-4219412 Cr. 9.287.302,408%Cr. 742.984,3036,350.5112-29-4219378.318.531,004%332.741,2116,143.0810-8-4319429.480.158,708%758.412,7037,162.00During 154 the year 1942 petitioner remitted to its office in the United States its profits for the years 1938 and 1940 and part of its profits for 1941. The first remittance was on March 5, 1942, and the last 81 on August 24, 1942. Petitioner made no further remittance of profits to its office in the United States during 1942 or 1943.Petitioner did not reflect in its accounts for the years 1937 to 1941, inclusive, any liability for the foreign owner's income tax for those years and did not claim any credit for that tax on its Federal income tax returns for the years 1937 to 1941, inclusive. Petitioner did reflect liability for the foreign owner's income tax for the year 1942 in its accounts for that year, and claimed credit for the foreign owner's income tax for the year 1942 on its Federal income tax return for that year.Respondent has allowed no credit under section 131 of the Internal Revenue Code and prior revenue acts in determining petitioner's Federal income tax liability, for any taxable year on account of the foreign owner's income taxes paid by petitioner to Brazil in 1942 and 1943 for income received from 1937 to 1942, inclusive. Petitioner has filed with respondent the evidence 155 required by respondent's regulations in support of a claim for credit under said section 131 for such foreign owner's income taxes.During the years 1937 to 1942, inclusive, petitioner did not have any dispute or controversy with the Brazilian Government as to petitioner's liability for foreign owner's income tax or the time when such tax was payable.Petitioner paid to the collector of internal revenue for the third New York district income tax for the taxable year 1941 in the following amounts and on the following dates:Mar. 12, 1942$ 75,000.00June 13, 194261,459.52Sept. 15, 194268,229.76Dec. 11, 194268,229.75An agreement between petitioner and respondent, pursuant to section 276 (b) of the Internal Revenue Code, to extend the time for assessing petitioner's income tax for the taxable year 1941 to June 30, 1946, was duly executed on December 6, 1944.On January 28, 1943, petitioner duly filed with the collector of internal revenue for the third New York district a claim for refund of income tax for the calendar year 1941 in the amount of $ 88,830.53, based on allowability of credit, under section 131 of the Internal Revenue Code, for foreign owner's income tax on income of that year.Petitioner 156 paid to respondent income tax for the calendar year 1942 in the following amounts and on the following dates:Mar. 13, 1943$ 2,250.00May 13, 19438,353.87Sept. 15, 19435,286.75Dec. 9, 19435,256.3782 In addition to the above facts, the petitioner offered in evidence, by a witness who did not profess to be learned in Brazilian law but acted solely as an interpreter of Portuguese, certain translated excerpts from pamphlets printed in Portuguese, together with the original pamphlets. These excerpts purported to include a ruling of the First Taxpayer Council of the Ministry of Finance of July 4, 1938; a ruling of the Income Tax Division, Ministry of Finance October 22, 1943; a ruling of the Ministry of Finance, October 5, 1944; and a third ruling of the Ministry of Finance of July 6, 1945. The pamphlets in which these documents appeared were designated "Diario Oficial" and were purported to issue from "Imprensa Nacional -- Industria Do Journal."Since foreign law is to be proved as facts are proved and since we do not have the testimony of any expert in Brazilian law, either as to the official character of the documents offered or as to the law on the points discussed therein as affected by 157 statutory amendments and judicial interpretation, this Court adheres to its tentative ruling when the documents were first offered in evidence and holds that these documents are inadmissible. The issue herein must therefore be resolved on our understanding of the law as set forth in the stipulation.The contentions of the respondent are well set forth in his brief as follows:The petitioner, a domestic corporation engaged in the business of marketing petroleum products in Brazil, is on the accrual basis. It did not accrue on its books any amount for these taxes in the taxable years in question, did not make any annual returns or payments on these taxes to Brazil, and did not in its Federal income returns for such years claim any foreign tax credit with respect to such taxes, except it did accrue on its books for the year 1942 an amount with respect to such taxes and claimed a foreign tax credit therefor in its Federal income tax for that year. During the year 1942 petitioner remitted to its home office in the United States a portion of its profits earned in prior years, and immediately prior to the date of such remittances paid to Brazil the tax with respect to such remitted amounts. 158 The respondent concedes that the petitioner is entitled to a foreign tax credit for the year 1942 with respect to the taxes which it paid on the profits remitted in that year, but did not allow any credit for that year in order to protect the interest of the Government in view of petitioner's contention that the credits for such taxes were allowable for prior years.* * * The respondent concedes that the tax in question is an "income tax" within the meaning of section 131 (a). (It. 3313, C. B. 1939-2, 171). The parties have stipulated that the petitioner is upon the accrual basis and, consequently, the sole question presented for decision is whether the tax accrued annually, as contended by the petitioner, or accrued, as contended by the respondent, in the year when the income was handed over, remitted, utilized or credited, which was not until the year 1942.Thus the respondent objects to the allowance of a tax credit for foreign taxes paid for 1938, 1940, and 1941 for two reasons: (1) The taxpayer did not actually accrue said payments on its books; and (2) 83 the income of the taxpayer was not subject to the Brazilian tax for nonresidents until said income was sent out of Brazil, 159 which was in 1942.We are unable to agree with respondent's contention that the failure of the taxpayer to accrue these taxes during the years in which they were incurred deprived the taxpayer of a tax credit during those years. It is, of course, true that the books of account of any individual present evidence of high value when the conditions of those books reflect against the interest of the individual for whom they are kept. However, such evidence is not of such overweening power as to disprove the existence of outside facts when those facts are clearly evident from other sources. In this case the outside fact to be proved was whether or not the taxpayer had incurred liability for the additional tax on nonresident income. It is our opinion that that liability is to be established by the law of Brazil, and the fact that the account books of the taxpayer did not reflect the accrual of that tax liability nor set up a reserve therefor would not affect the ultimate fact of the liability for the tax.The Brazilian Government imposed a 6 per cent income tax on all corporations upon an annual basis and provided that from 1937 an additional tax of 4 per cent should be imposed on the income 160 of nonresidents. In 1940, 1941, and 1942 this additional tax was increased to 8 per cent. Once the law thus fixed a rate, and when the amount of income was evident at the end of the year, it is our opinion that the tax was incurred, regardless of reserves or lack of reserves appearing on the taxpayer's books. When all events have occurred which control any tax deduction, the same is allowable even though the books may be silent on the deduction. See Wolf Mfg. Co., 10 B. T. A. 1161; Armstrong Cork Co., 24 B. T. A. 1; Aluminum Casting Co. v. Routzahn, 282 U.S. 92">282 U.S. 92.All of the taxpayer's returns requested the benefit of the provisions of section 131 of the Internal Revenue Code. Subdivision (d) of that section provides:(d) Year in Which Credit Taken. -- The credits provided for in this section may, at the option of the taxpayer and irrespective of the method of accounting employed in keeping his books, be taken in the year in which the taxes of the foreign country or the possession of the United States accrued * * .Respondent, however, in urging that the additional tax was merely a tax on the removal of the income from Brazil, argues that therefore the tax was contingent, was not 161 an annual levy, and was therefore deductible only in 1942, when the remittances were sent out of Brazil to the United States.We are also unable to agree with this argument. It is admitted that this tax is an income tax. The Brazilian statutes imposed a five-year limitation on the collection of all delinquent income taxes. No exception is made of the additional tax involved in this proceeding. It would therefore seem to be evident that the legislative intent was that 84 the tax became due as any other income tax, which is to say, as earned annually. Certainly the representatives of the Brazilian Government who demanded payment of this additional tax in December of 1942, just before the statute of limitations had run on the 1937 tax and before any remittance of income had been made by the taxpayer to its main office in the United States for that year, considered the tax due regardless of remittances, and due on an annual basis. The representatives demanded payment of the tax specifically for the years 1937 and 1941. We certainly can not assume that the Brazilian Government, in making this demand, was acting contrary to the laws of Brazil or that the taxpayer, in subsequently making 162 the large payments to Brazil, was not complying with Brazilian law. Surely, if anything is to be presumed from the conduct of the taxpayer, as the respondent suggests must be done in considering the taxpayer's books, the fact that the taxpayer actually paid this tax before it had even attempted to remit to the United States would raise a stronger presumption in favor of the existence of the tax liability.It will be noted that the statute levying the nonresident tax provides that it "will be deducted at the actual source, when handing over, remitting, utilizing or crediting the income." We are unable to think of anything that the taxpayer could have done with its income earned in Brazil which would exclude it from immediate liability for this tax. If it deposited the income in its bank account the money would be utilized to bolster the taxpayer's bank credit. If it converted it into precious metals or jewels for the purpose of smuggling the same out of Brazil, it would be utilizing this money for such purpose. Whatever it would do with the money, the money would be "utilized" for doing whatever was done.Following the paragraph of the statute which provides for the imposition of 163 the tax, there is a second paragraph providing that before any Brazilian income is "remitted or paid over to the non-resident, the bank for the making of the remittance abroad, must require presentation of the receipt." The mere reading of this statute indicates that the purpose of this provision is to supply an additional protection to prevent nonresidents of Brazil, and particularly those who operated in Brazil for a time too short for the revenue agents to inspect their accounts, from withdrawing their funds beyond the jurisdiction of Brazil without having paid the tax. This provision is not a condition limiting the operation of the previous paragraph in the act. It merely supplies a part of the machinery for putting the prior provisions of the act into execution.In addition to the above reasoning growing out of the provisions of the Brazilian statute, the petitioner's position is fortified by the line of decisions following United States v. Anderson, 269 U.S. 422">269 U.S. 422, which 85 hold that ordinarily income taxes accrue in the year in which the income is earned on which the tax is imposed. None of the facts in the case at bar remove the rights of this taxpayer from the law as laid down *164 in the Anderson case.Our conclusion is that the respondent erred in not allowing petitioner foreign tax credits in each of the taxable years for the foreign owner's income taxes imposed by the laws of Brazil upon its Brazilian income for those years, even though these taxes were not accrued on its books and were not paid until 1942 and 1943.Decision will be entered under Rule 50. Footnotes1. Rs.=Milreis.↩2. Cr.=Cruzeiros.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623806/	HUTCHINS STANDARD SERVICE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent; ARLEIGH H. HUTCHINS and ISABEL L. HUTCHINS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentHutchins Standard Service v. CommissionerDocket Nos. 5074-78, 5098-78.United States Tax CourtT.C. Memo 1981-33; 1981 Tax Ct. Memo LEXIS 717; 41 T.C.M. (CCH) 777; T.C.M. (RIA) 81033; January 27, 1981. Edward F. Neubecker, for the petitioners. Rogelio A. Villageliu, for the respondent. FEATHERSTONMEMORANDUM FINDINGS OF FACT AND OPINION FEATHERSTON, Judge: In these consolidated cases, respondent determined deficiencies in petitioners' Federal income taxes as follows: PetitionerYearDeficiencyHutchins Standard Service1974$ 312.411975284.00Arleigh H. Hutchins and1973$ 768.16Isabel L. Hutchins19742,427.9219752,268.96718 Due to concessions by petitioners, 1 the only issue remaining for decision is whether amounts received by the individual petitioners during 1973, 1974, and 1975 are taxable dividends, under sections 301 2 and 316, or nontaxable repayments of a loan. FINDINGS OF FACT Petitioner Hutchins Standard Service (hereinafter the corporation) is a Wisconsin corporation with its principal office at 3950 North Lilly Road, Brookfield, Wisconsin.It filed Federal corporation income tax returns for 1974 and 1975 with the Internal Revenue719 Service Center, Kansas City, Missouri. Petitioners Arleigh H. Hutchins (hereinafter petitioner) and Isabel L. Hutchins, husband and wife, filed joint Federal income tax returns for 1973, 1974, and 1975 with the Internal Revenue Service Center, Kansas City, Missouri. At the time their petition was filed, they were legal residents of Hartland, Wisconsin. Petitioner has been engaged in the business of operating a service station at the location of the corporation's principal office since 1960. Prior to April 12, 1972, the business was operated as a sole proprietorship. On that date, the business was incorporated and petitioner transferred all of the proprietor-ship's assets, including inventory, equipment, cash, and accounts receivable, to the corporation. In exchange for the assets transferred to the corporation, petitioner and his wife each received 50 percent (50 shares each) of the stock of the corporation. This transaction fell within the provisions of section 351, and petitioners recognized no gain or loss on the exchange. The book value of the assests at the time they were transferred to the corporation was $ 31,979.23. 3 Of this amount, only $ 500 was assigned720 to the 100 shares of stock issued by the corporation and was treated as paid-in capital on the corporate books. The balance, $ 31,479.23, was treated as being a "loan" from petitioner to the corporation.No written instrument was executed to evidence petitioner's "loan" to the corporation, and he did not retain a security interest in any of the property transferred to it. There was no agreement for the payment of interest on the "loan," and none has been paid. No due date or fixed payment schedule was established with respect to repayment of the principal amount of the "loan." Instead, to the extend that profits allowed, petitioner periodically withdrew money from the corporation and applied it in reduction of the "indebtedness" to him. At all times relevant herein, petitioner has controlled and made all management decisions for the corporation. Petitioner and his721 wife have at all times owned 100 percent of the corporation's stock. During 1973, 1974, and 1975, petitioner received, directly or constructively, distributions from the corporation in the respective amounts of $ 14,845.44, $ 9,000, and $ 9,649.80. 4 At least a portion of each of these distributions to petitioner was treated by the corporation as being made in repayment of the "loan" described above. 5 No portion of any of the distributions was reported as a dividend on petitioners' Federal income tax returns for the years in issue. Respondent determined that the transfer of the assets of the sole proprietorship to the corporation was in reality a contribution to capital by petitioner, rather than a loan. Accordingly, he further determined that the distributions722 to petitioner during 1973, 1974, and 1975, were taxable as dividends to the extent of the current and accumulated earnings and profits of the corporation available for distribution during those years. OPINION The issue for decision is whether certain distributions from the corporation to petitioner should be characterized as repayments on a loan or dividends. Resolution of this issue depends on the further question whether the transfer of assets to the corporation at the time of its formation gave rise to an indebtedness or, instead, constituted a contribution to capital by petitioner. This is essentially a question of fact upon which petitioner bears the burden of proof. Sherwood Memorial Gardens v. Commissioner,350 F.2d 225">350 F.2d 225 (7th Cir. 1965), affg. 42 T.C. 211">42 T.C. 211 (1964); Gilbert v. Commissioner,262 F.2d 512">262 F.2d 512 (2d Cir. 1959), affg. a Memorandum Opinion of this Court, cert. denied 359 U.S. 1002">359 U.S. 1002 (1959). 6723 As both petitioner and respondent have recognized, no signle factor standing alone is determinative of whether a shareholder's advance is an equity investment in or a loan to a corporation. John Kelley Co. v. Commissioner,326 U.S. 521">326 U.S. 521 (1946). In the final analysis, the answer depends on the particular facts and circumstances of each case. There are, however, a number of criteria that have generally been focused on by the courts in determining the true nature or substance of a shareholder advance that is in form a loan. 7 These include the intent of the parties to the transaction, the risk involved, the formal indicia of the arrangement, the timing of the advance with reference to the organization of the corporation, and comparability of the advance with loans by independent creditors. E.g., In re Indian Lake Estates, Inc.,448 F.2d 574">448 F.2d 574 (5th Cir. 1971); Fin Hay Realty Co. v. United States,398 F.2d 694">398 F.2d 694 (3d Cir. 1968); Burr Oaks Corp. v. Commissioner,43 T.C. 635">43 T.C. 635 (1965), affd. 365 F.2d 24">365 F.2d 24 (7th Cir. 1966). 724 After considering the record in its entirety, we think it clear that the assets transferred to the corporation in this case were placed at the risk of the business and constituted an equity investment, rather than a "loan." See and compare Northeastern Consolidated Co. v. United States,406 F.2d 76">406 F.2d 76 (7th Cir. 1969), cert. denied 396 U.S. 819">396 U.S. 819 (1969); Arlington Park Jockey Club v. Sauber,262 F.2d 902">262 F.2d 902 (7th Cir. 1959); Gooding Amusement Co. v. Commissioner,236 F.2d 159">236 F.2d 159 (6th Cir. 1956), affg. 23 T.C. 408">23 T.C. 408 (1954), cert. denied 352 U.S. 1031">352 U.S. 1031 (1957). It is significant that the corpus of the "loan" consisted of the operating assets of the sole proprietorship--the very essence of the service station business that was to be continued by the corporation.In addition, notwithstanding petitioner's espoused intention to make "a loan of a sort" and the treatment of the transaction as a loan on the corporate books, none of the characteristics typically associated with a loan are present in this case. Compare Burr Oaks Corp. v. Commissioner,supra, with Litton Business Systems, Inc. v. Commissioner,61 T.C. 367">61 T.C. 367 (1973).725 The "loan" was not evidenced by a debt instrument of any kind. This lack of formality, as petitioner points out, may not be solely determinative of the status of a shareholder's advance to a closely-held or solely-owned corporation. See Litton Business Systems, Inc. v. Commissioner,supra. However, petitioner made no arrangement whatsoever for the payment of interest, and the "loan" had no maturity date. It is clear from the record that he did not expect any payments to be made to him except to the extent that the corporation's business was profitable. It cannot seriously be argued that an independent creditor, interested primarily in the repayment of principal and not the long-term financial success of the business, would have extended credit to the corporation on such terms. Although petitioner may genuinely have conceived of the transfer as a "loan," in the sense that he hoped to recover his initial investment over a 3-to-4-year period, it does not follow that the transfer resulted in a debtor-creditor relationship for tax purposes. On the basis of the record before us, we cannot characterize the transaction as a loan within the generally accepted*726 meaning of that term. Accordingly, we hold for the respondent. 8To reflect the foregoing, Decision will be entered for the respondent.Footnotes1. Petitioner Hutchins Standard Service has conceded that it is not entitled to certain depreciation deductions for 1974 and 1975. In addition, although the petitioners of both Hutchins Standard Service and the individual petitioners herein allege error with respect to respondent's determination that personal use of a corporate automobile amounted to a dividend, no evidence or argument was presented by petitioners to rebut respondent's determination. Accordingly, we have treated this issue as abandoned by petitioners. ↩2. All section references are to the Internal Revenue Code of 1954, as in effect during the tax years in issue, unless otherwise noted.↩3. The stipulation indicates that the book value of the assets was $ 31,829.33. However, an examination of the balance sheets attached to the corporation's income tax returns and the explanation attached to respondent's notice of deficiency in docket No. 5098-78, indicates that the stipulation is in error.↩4. These figures do not include distributions to petitioner in the form of salaries, wages, bounses, or the value of the personal use of a corporate automobile. ↩5. It was stipulated that the corporation did not apply $ 7,000 of the 1973 distribution and $ 8,000 of the 1974 distribution in reduction of the "loan" until an adjusting entry was made to the corporate books at the end of 1975 in the amount of $ 15,000.↩6. Sec. 385 authorizes the Secretary of the Treasury to establish, by regulations, standards for distinguishing equity interests from indebtedness for all purposes of the Internal Revenue Code. We note that regulations under this section were adopted Dec. 29, 1980 (T.D. 7747, 1981- I.R.B. ↩) but are not effective until Apr. 30, 1981.7. Throughout the proceedings in this case, petitioner has referred to the transfer of assets as a "loan." Although his position might more accurately be characterized as being that there was a sale of the assets in return for a short-term obligation of the corporation, for ease of reference we adopt petitioner's terminology.↩8. As previously noted, the corporate petitioner has conceded that respondent's disallowance of certain depreciation deductions for 1974 and 1975 was correct, and we have treated both the corporate and individual petitioners as having abandoned an issue relating to the personal use of a corporate automobile during those years. Therefore, no adjustment need be made to the computation of earnings and profits made by respondent in the notice of deficiency for purposes of determining the amount of the dividends received by petitioner.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623810/	EUGENE J. COLANGELO and HELEN L. COLANGELO, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentColangelo v. CommissionerDocket No. 9991-76.United States Tax CourtT.C. Memo 1980-543; 1980 Tax Ct. Memo LEXIS 40; 41 T.C.M. (CCH) 495; T.C.M. (RIA) 80543; December 8, 198040 Held: The expenses incurred in 1973 by petitioner, a flight surgeon/aviation pathologist/aviation medical examiner employed by the U.S. Navy, in maintaining his proficiency as a private pilot are deductible under sec. 162(a), I.R.C. 1954, and the amplifying regulations, sec. 1.162-5, Income Tax Regs.Joseph A. Gawrys, for the petitioners. Ronald P. Campbell, for the respondent. FORRESTERMEMORANDUM FINDINGS OF FACT AND OPINION FORRESTER, Judge: Respondent has determined a deficiency41 in petitioners' Federal income tax for the taxable year 1973 in the amount of $ 1,755.06. The sole issue for decision is whether petitioners are entitled to deduct a portion of the expense of operating their privately-owned airplane as a business-related education expense pursuant to section 162(a)1 and section 1.162-5, Income Tax Regs.FINDINGS OF FACT Some of the facts have been stipulated and are so found. Petitioners are husband and wife who resided in Virginia Beach, Virginia, at the time the petition herein was filed. They timely filed their joint Federal income tax return for 1973 with the Internal Revenue Service Center at Memphis, Tennessee. Helen L. Colangelo is a party to this proceeding solely by virtue of having filed a joint income tax return with her husband; consequently, Eugene J. Colangelo will hereinafter be referred to as petitioner. Petitioner is, and has been since the 1950's, a licensed physician. He joined the U.S. Navy in 1954 and has served in its flight42 surgeon program since 1959. His qualifications and specialties include the designations flight surgeon, aviation pathologist, and aviation medical examiner. During 1973 petitioner held the rank of commander and was stationed at the Naval Safety Center at the Naval Air Station in Norfolk, Virginia. He was the head of the Pathology/Medical Accident Investigation Division, Life Science Department and the acting head of the Human Factors Division, Aviation Directorate. The focus of petitioner's duties was the analysis and prevention of aviation accidents throughout the Navy. For the period from April 1, 1972 to March 31, 1973, petitioner's superior Rear Admiral W. S. Nelson, Commander of the Naval Safety Center, made the following comments in a report on petitioner's fitness: CDR COLANGELO has continued his high level of innovative and meaningful contributions to the safety program but especially the aviation program wherein he is eminently qualified. During this reporting period he has directed his activities to three major areas of endeavor: 1. Reviewing and examining medical data at NAVSAFECEN. 2. Improving the quality and reliability of medical information being reported43 to the Naval Safety Center. 3. Expanding liaison with commands that have common interests. As a result of DR COLANGELO's analyses of data at NAVSAFECEN and his participation in the autopsy studies resulting from accidents investigated by the NAVSAFECEN, the pathogenesis of a certain variety of fractures/dislocations of cervical vertebrae was established. This discovery provides a beginning basis for evaluating aviator's protective helmets by using medical laboratory methods and is currently being pursued. In an effort to improve the aviation medical information reported to the Center, DR COLANGELO has conducted training lectures for nearly all student flight surgeons in training at Pensacola during the past year. He has prepared and delivered lectures and informal seminars for flight surgeons and pathologists, treating the problem of identifying and reporting medical evidence in accident cases. Notable among these was his lecture at the Armed Forces Institute of Pathology's Aerospace Pathology Course. He has conducted numerous telephone consultations to medical officers who are conducting the medical aspects of aviation accident investigation using the opportunity to44 serve as mentor as well as consultant. DR COLANGELO has developed a proposal for a Navy-wide program to improve the quality of medical investigations of accidents. In expanding liaison DR COLANGELO is currently serving as one of the two Navy members to the Joint Committee on Aviation Pathology (DOD), consultant to the Navy Surgeon General for Aviation Pathology, and is currently serving voluntarily as a flight surgeon for Fleet Tactical Support Squadron FORTY, providing the squadron with lectures and consultations in aeromedical problems. He participates in their training programs including inflight programs. DR COLANGELO submitted a research proposal through the Naval Aeromedical Research Laboratory, Pensacola, Florida to develop techniques in pathology to support accident investigation and to provide a reference laboratory to support the Safety Center's investigations. DR COLANGELO has pursued private training as a commercial pilot - single and multi-engine land planes. He is qualified in instruments and is certified as a flight instructor. He has more than 2,000 hours of pilot time. DR COLANGELO is of great value to my staff and is highly recommended for promotion. 45 The Manual of the Medical Department, U.S. Navy (hereinafter the "Manual"), discusses the primary purpose of flight surgeons as follows: 2-130.Flight Surgeons and Aerospace Medical Examiners (1) Flight surgeons and aerospace medical examiners assigned to aviation activities, in addition to their responsibilities as naval medical officers, have cognizance over the aeromedical considerations encountered within their units. They shall be specifically concerned with the physical fitness and welfare of all flying personnel, their aeromedical indoctrination in high altitude flight, the use of special personal airborne equipment, the ejection seat, night vision, and other physiological and psychological aspects of aviation. The Manual goes on to list several functions of flight surgeons. Among these, a flight surgeon shall-- associate himself with the immediate environment of the pilot as closely as possible. * * * be conversant with the flight characteristics of the aircraft assigned to his unit and should gain an understanding of individual pilot reactions to these aircraft. * * * Particular note must be made of the sum total of stresses to which flying personnel are subjected46 during the course of a mission; such as, fatigue, noise and vibration, repeated changes of altitude, unfavorable weather, navigational difficulties, combat, and night carrier operations. * * The flight surgeon shall maintain an active interest and participation in the flight saety program. The analysis of aircraft accidents from the standpoint of the humand factors involved shall be formulated by the flight surgeon and integrated with existing engineering data. The major emphasis, however, shall be on the prevention of accidents and the recognition of incipient unsafe conditions. Additionally, the Navy requires flight surgeons to be proficient in flying. Upon entry into the flight surgeon program each participant is required to engage in four to eight weeks of flight training. Subsequent to this initial training the Navy does supply flight surgeons with naval aircraft for use in maintaining their proficiency. Evidence at trialindicated that due to budgetary constraints the flight time provided to flight surgeons is wholly inadequate to allow them to remain proficient flyers. This is primarily due to the fact that flight surgeons have the lowest priority with respect to airplane47 use. Furthermore, flight surgeons, not designated as naval aviators, may never be in sole command of any naval aircraft. In 1960 petitioner began taking additional flying lessons privately at his own expense. His motivation was to develop his skills and effectiveness as a flight surgeon. It was petitioner's experience that the more proficient he became as a flyer the more he observed the real environment and stresses placed upon a command pilot. The stress experienced by a command pilot would vary with such things as the nature of the mission, weather conditions, whether the flight is during the day or at night, and whether instrument navigation is required. In 1969 petitioner purchased a used 1965 Mooney Model M-20E "Super 21" Low-Wing, Retractable Gear, 4-Place Monoplane for $ 11,400 (hereinafter "Mooney"). The Mooney was equipped with options for high altitude flight requiring oxygen and a turbocharger, both added subsequent to its purchase by petitioner. Prior to, and during the entire year in issue, petitioner was licenced by the Federal Aviation Administration (hereinafter FAA) as a pilot with instrument rating, a commercial pilot with instrument rating, and a certified48 flight instructor with instrument rating, for single and multi-engine aircraft. At the beginning of that year petitioner had logged a total of over 1,600 lifetime hours of pilot time. During 1973 petitioner logged approximately 490 hours of pilot time. 356 of which were in the Mooney. This included 88 hours of instruction given by petitioner for no charge 2 and 35 hours in military aircraft where petitioner handled the airplane's controls. The vast majority of instruction given by petitioner was in airplanes owned by others and not in the Mooney. Petitioner also was provided with approximately 10 hours' use of a multi-engine flight simulator by the Navy. Although the Navy does require flight surgeons to be able to fly, to the extent that they cannot maintain a safe level of skill by using military aircraft, it does not require them to maintain their pilot skills at their own expense. It does, however, encourage such action by flight surgeons. 3 The reasons for this are varied. First, a flight surgeon who is a qualified pilot, either Navy qualified or private, has an essential49 rapport with the naval aviators. To be an effective naval aviator, and thus to stay alive, it is imperative that one heed the advice of his flight surgeon. According to expert testimony, it is much easier for naval aviators, who often have inflated egos, to relate to flight surgeons who have acquired a greater understanding through active participation in aero flight. Second, flight surgeons who are pilots are better qualified in accident prevention, petitioner's primary activity during 1973. Among other things, it adds much credibility to their recommendations. Another reason why the Navy encourages flight surgeons to be pilots is that they are more motivated to make careers out of flight surgery instead of going elsewhere for more prestigious clinical specialties. For example, petitioner is one of the only (if not the only) aviation pathologists that the Navy has been able to recruit since 1965. Proficiency as a pilot requires constant, regular flying experience50 in control of the aircraft if that pilot is to maintain a reasonable level of safety. Pilot skills deteriorate rather rapidly when they go unused, even for periods of only a few weeks. Evidence at trial indicates a direct relationship between the length of time since the last flight and the risk of an accident. Evidence shows that a pilot with 160 hours of flying time during a 90-day period is 18 times safer than a pilot with less than 10 hours of flying time for that same period. The minimum amount of flight time required to maintain a reasonable level of safety is approximately 25 hours each and every month. This, however, refers to the time which the pilot is in command of the aircraft, not merely when he is a crewman. On his 1973 income tax return petitioner claimed 50 percent of the costs of operating and maintaining the Mooney during 1973--$ 5,267.52 4 --as an educational expense. Sec. 1.162-5, Income Tax Regs. In his notice of deficiency respondent has disallowed this deduction in full. 51 OPINION Section 162(a) allows a deduction for all ordinary and necessary expenses of carrying on a trade or business, while deductions for personal expenses are expressly disallowed by section 262. Section 1.162-5, Income Tax Regs., governs the deductibility of a taxpayer's educational expenses for the year in issue. These regulations, as amended in 1967, set forth an objective test for deductibility. Weiler v. Commissioner, 54 T.C. 398">54 T.C. 398, 402 (1970). They provide in pertinent part: Sec. 1.162-5(a). General rule. Expenditures made by an individual for education (including research undertaken as part of his educational program) which are not expenditures of a type described in paragraph (b)(2) or (3) of this section are deductible as ordinary and necessary business expenses (even though the education may lead to a degree) if the education-- (1) Maintains or improves skills required by the individual in his employment or other trade or business, 52 or (2) Meets the express requirements of the individual's employer, or the requirements of applicable law or regulations, imposed as a condition to the retention by the individual of an established employment relationship, status, or rate of compensation. (b) Nondeductible educational expenditures-- (1) In general. Educational expenditures described in subparagraphs (2) and (3) of this paragraph are personal expenditures or constitute an inseparable aggregate of personal and capital expenditures and, therefore, are not deductible as ordinary and necessary business expenses even though the education may maintain or improve skills required by the individual in his employment or other trade or business or may meet the express requirements of the individual's employer or of applicable law or regulations. (2) Minimum educational requirements. (i) The first category of nondeductible educational expenses within the scope of subparagraph (1) of this paragraph are expenditures made by an individual for education which is required of him in order to meet the minimum educational requirements53 for qualification in his employment or other trade or business. * * (3) Qualification for new trade or business. (i) The second category of nondeductible educational expenses within the scope of subparagraph (1) of this paragraph are expenditures made by an individual for education which is part of a program of study being pursued by him which will lead to qualifying him in a new trade or business. * * * (c) Deductible educational expenditures-- (1) Maintaining or improving skills. The deduction under the category of expenditures for education which maintains or improves skills required by the individual in his employment or other trade or business includes refresher courses or courses dealing with current developments as well as academic or vocational courses provided the expenditures for the courses are not within either category of nondeductible expenditures described in paragraph (b)(2) or (3) of this section. (2) Meeting requirements of employer. An individual is considered to have undertaken education in order to meet the express requirements of his employer, 54 or the requirements of applicable law or regulations, imposed as a condition to the retention by the taxpayer of his established employment relationship, status, or rate of compensation only if such requirements are imposed for a bona fide business purpose of the individual's employer. Only the minimum education necessary to the retention by the individual of his established employment relationship, status, or rate of compensation may be considered as undertaken to meet the express requirements of the taxpayer's employer. However, education in excess of such minimum education may qualify as education undertaken in order to maintain or improve the skills required by the taxpayer in his employment or other trade or business * * Furthermore, the overall requirement of section 162(a), that the expense be "ordinary and necessary" in order to be deductible, must still be met. Ford v. Commissioner, 56 T.C. 1300">56 T.C. 1300, 1305-1307 (1971). Petitioner does not argue that flying in a private aircraft at his own expense is required by his employer, but only that flying maintains and improves skills required in his employment as a naval flight surgeon/aviation pathologist/aviation55 medical examiner. It is his position, as a member of the aviation accident analysis team at the Naval Safety Center, that proficiency as a pilot is "an essential ingredient to the proper performance of his duties." Petitioner's contention is that 300 hours of pilot time per year, 25 hours per month, is essential to "maintain an appropriate level of skill in order to maintain a reasonable level of proficiency, consistent with safety, so that he, himself, will not become an accident statistic." 5 Petitioner does not appear to argue that 300 hours per year is required to know the immediate environment of a pilot and to know "the sum total of the stresses to which flying personnel are subjected." But he does contend that substantial flying as a command pilot is essential to this knowledge. It is his basic contention that he cannot safely fly as a command pilot at all unless he flys sufficient hours to make such flight safe. 56 Respondent, on the other hand, poses objections to the deductibility of these expenses on three grounds. First, respondent contends that petitioner's expenses are neither ordinary, necessary, nor reasonable. Next, respondent argues that petitioner's airplane expenses were not incurred to maintain or improve the skills required in petitioner's employment. Finally, respondent alleges that, notwithstanding our findings on the above arguments, the expenses incurred by petitioner in operating his Mooney aircraft during 1973 qualified him for a new trade or business subsequent to 1973, as a commercial pilot and instructor for hire. The burden to prove that respondent's determination is erroneous rests here with petitioner. Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Rule 142(a), Tax Court Rules of Practice and Procedure.The first issue to which we must address ourselves is whether or not petitioner's activities as a private pilot during 1973 led to qualifying him for a new trade or business. Sec. 1.162-5(b)(3), Income Tax Regs. If private flying in 1973 qualified petitioner for a new trade or business then even if it improved his skills57 and was ordinary and necessary the expenses would be nondeductible. Sec. 1.162-5(c)(2), Income Tax Regs. Respondent alleges that petitioner embarked on an "overall comprehensive flying training program" extending over 13 years and involving 4,200 flying hours and evidneced by his "gradual and systematic acquisition of the necessary requirements and licenses from the FAA" and by his failure to enter the trade or business of commercial flying until he had acquired all of the necessary training and licenses subsequent to 1973. We find respondent's argument contrary to the evidence presented. Respondent and petitioner have stipulated that: "During the taxable year 1973, petitioner Eugene J. Colangelo was licensed by the * * FAA as a pilot with instrument rating, a commercial pilot with instrument rating, and a certified flight instructor with instrument rating, for single and multi-engine aircraft." these are all of the flight certifications (licenses) which petitioner would need to be a pilot instructor for hire, and all that he has used as a flight instructor for remuneration since 1973. Thus, it is clear that petitioner had qualified for the trade or58 business of flight instructor prior to 1973, and his flight training during 1973 did not "lead to qualifying him for a new trade or business." Sec. 1.162-5(b)(3)(i), Income Tax Regs.Respondent makes much of the fact that petitioner did not instruct student pilots for money until after the year in issue. We find this fact largely irrelevant. Respondent's point would be well taken if petitioner had sought to deduct his flight training expenses because they maintain or improve his skills in the business of flight instructor--a business which, as of 1973, he had not yet entered. This, however, is not what petitioner maintains. He seeks the deduction because the expenses improved or maintained his skills as a flight surgeon/aviation pathologist/aviation medical examiner--his trade since 1959. Our primary concern is when petitioner became qualified to enter a new trade or business--before 1973--not when he chose to enter it--after 1973. For an education expense to be deductible under section 162 it must be both "ordinary" and "necessary." Sec. 162(a); Ford v. Commissioner, 56 T.C. 1300">56 T.C. 1300, 1305 (1971),59 affd. 487 F. 2d 1025 (9th Cir. 1973). In this context "ordinary" has been defined as that which is "normal, usual and customary" in the taxpayer's trade or business. Deputy v. du Pont, 308 U.S. 488">308 U.S. 488, 495 (1940); Carlucci v. Commissioner, 37 T.C. 695">37 T.C. 695, 700 (1962); cf. Commissioner v. Tellier, 383 U.S. 687">383 U.S. 687, 689 (1966). Testimony of both petitioner and Dr. Frank H. Austin, Jr., 6 showed that although most flight surgeons are not private pilots and do not own their own airplanes, many do fly as pilots and all are required to be able to fly. Furthermore, private flying by flight surgeons is encouraged by the Navy. On the basis of these factors we are of the opinion that private flying by flight surgeons is "normal, usual and customary." 60 "Necessary," as used in the statute, has been construed to mean "appropriate" or "helpful," not "indispensable" or "required." Blackmer v. Commissioner, 70 F. 2d 255 (2d Cir. 1934); Ford v. Commissioner, 56 T.C. 1300">56 T.C. 1300, 1306 (1971). Dr. Austin testified that, particularly for petitioner, flying is not only helpful, but important if not essential. He noted that it develops a needed rapport between a naval aviator and a flight surgeon. James K. Thompson, 7 a naval aviator for over 20 years, agreed with Dr. Austin. When asked if it was essential for flight surgeons to have a good rapport with the pilots to whom they ministered, Mr. Thomspon replied: 61 I think that's probably the most critical thing that a flight surgeon can be faced with. Pilots have a tremendous ego, particular the fighter and attack pilots in the Navy. And the flight surgeon-pilot relationship, I think, is most critical. If a flight surgeon is fortunate enough to be an aviator, this closes the gap. I would say that it makes him a full member of the club, and the rapport naturally is closer. Mr. Thompson proceeded to note that this would be true regardless whether the flight surgeon was a designated naval aviator or a private pilot. Dr. Austin also testified that as an aviation/pathologist and an aviation/medical examiner petitioner's status and experience as a private pilot was invaluable in his work in accident analysis and prevention at the Naval Safety Center. Petitioner sat on the accident investigation board (the board) with engineers, pilots and other technicians. He was a more effective member of the board since he could look beyond mere biomedical factors to psychologial, mechanical, and environmental factors as well. Again, Mr. Thompson, who has also sat on the board, concurred with Dr. Austin. He stressed that in every aviation accident62 the pilot's perceptions, his physical and medical condition, and the plane's mechanical operation were interrelated factors that could not be separated. The more experience and knowledge one possessed of these different factors the more effective he would be. In light of the testimony of Dr. Austin and Mr. Thompson, two highly qualified and knowledgeable experts in their respective aviation specialties, on the benefits of being a pilot for a flight surgeon who is also an aviation/pathologist and aviation/medical examiner, we find that the expenses incurred by petitioner in the operation and maintenance of his Mooney airplane were helpful in his trade or business. Thus, petitioner has met the "ordinary" and the "necessary" requirements of section 162(a). The next question with which we must deal is whether petitioner's flying as a pilot in command during 1973 maintained or improved his skills as a flight surgeon/aviation pathologist/aviation medical examiner. It has been said that "the skills 'required' by the taxpayer in his employment of other trade or business are those which are appropriate, helpful or needed." Carlucci v. Commissioner,37 T.C. 695">37 T.C. 695, 699 n. 6,63 quoting Rev. Rul. 60-97, 1 C.B. 69">1960-1 C.B. 69. 8 Although we do not believe that such a statement represents a rule of general application, we do consider it applicable in the instant case. We have found that upon the record presented flying is a skill required of petitioner by the Navy. He was required to be proficient and encouraged to fly privately. It is clear that petitioner's activities as a private pilot did maintain and improve this skill. Moreover, petitioner has proved that flying improved the more direct skills used in his occupation. It added essential rapport to his interaction with pilots. More importantly, it gave him great understanding and insights of what a pilot in command experiences in the cockpit of an aircraft. As an aviation pathologist, analyzing all of the factors which lead to and cause aviation mishaps, flying hones petitioner's ability to simultaneously draw from psychologial and mechanical concerns as well as biomedical science to form conclusions. This cannot be understated since the conclusions which petitioner reached from the analysis of aviation accidents formed the basis of his recommendations for future aviation accident prevention64 designed to save both lives and money. To be deductible, however, the expenditure must be reasonable. See Commissioner v. Heininger, 320 U.S. 467">320 U.S. 467, 471 (1943). Petitioner asks us to find that 25 hours of pilot time per month is reasonable. Each of petitioner's expert witnesses expressed opinions on how many hours of pilot time are required to maintain an appropriate level of skill consistent with reasonable safety. Dr. Austin estimated that, consistent with safety, petitioner would require a minimu of 120 house per year (possibly up to 220 hours). Mr. Thompson testified that studies completed at the Naval Safety Center indicate that between 24 and 28 hours of flight time per month is required for purposes of safety. He added that correspondence has indicated that these figures are in conformity with those of U.S. Army, the Coast Guard, and the Air Forces of Israel, West Germany, Canada, Australia, and Russia. Paul Newell Harmon, 9 a commercial airline pilot with approximately 12,000 flight hours, agreed with Mr. Thompson's estimate of 25 hours per month. A chart entered into65 evidence from an accepted authoritative aviation publication showed that the accident rate per 100,000 flight hours is 50 percent greater for pilots who have flown only 25--60 hours in a 90-day period than for pilots who have flown 60--90 hours during a 90-day period. On the basis of all of the evidence presented, we find that it was reasonable for petitioner to fly 25 hours per month (300 hours per year) to maintain a level of proficiency consistent with safety. 10For the year in issue petitioner seeks to deduct only 50 percent of his out-of-pocket expenses of operating and maintaining the Mooney aircraft. This translates into approximately 178 flight hours during 1973. His total pilot hours in military and other aircraft not owned by him during that year amounted to approximately 120 hours. Deducting66 this amount from the 300 hours needed to safely maintain his proficiency leaves approximately 180 hours of flight time petitioner reasonably flew incident to maintaining and improving the skills used in his trade or business. Accordingly, we hold that petitioner is entitled to deduct the full 50 percent of the expenditures incurred in the operation of his Mooney aircraft during 1973. We do not suggest that all flight surgeons who hold private pilot licenses and who command private aircraft may deduct the expenses thereof. Petitioner if truly a unique individual. In the words of Rear Admiral Nelson, Petitioner is "eminently qualified. in the naval aviation program. In addition to merely being a flight surgeon, he is a highly trained expert in the field of aviation pathology who specializes in accident analysis and prevention. During the 15 years prior to trial, petitioner was almost exclusively the only person in the Navy who had performed the duties of aviation pathologist. He was one of very few (if not the only) flight surgeons to serve two terms at the Naval Safety Center. His opinions on the accident review board were highly regarded due to his expertise and knowledge both67 as an aviator and as a medical officer. Based on the foregoing, Decision will be entered for the petitioner. Footnotes1. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the taxable year in issue.↩2. Subsequent to 1973 petitioner has received remuneration for his services as a pilot instructor.↩3. The American Board of Preventative Medicine requires, as a prerequisite for certification as an aerospace medicine specialist, that the candidate engage in regular and frequent participation in aerial flight.↩4. Petitioner does not include in this amount any depreciation on the aircraft. Thus, operating costs refer only to the actual out-of-pocket expenses of the petitioner. Furthermore, it is undisputed that the cost to rent a plane similar to the Mooney would have been in excess of petitioner's operating and maintenance costs actually incurred by owning such an airplane.↩5. Petitioner did not deduct the expenses incurred in 300 hours of pilot time in the Mooney aircraft in 1973. The deduction claimed is 50 percent of his costs in the operation and maintenance of the airplane during 1973, e.g., the equivalent of all of the expenses of 178 hours of pilot time (50% of 356).↩6. At the time of trial Dr. Austin was the Director of Medical Operations at NASA Space Center as flight surgeon for the astronauts and the space shuttle operations in Houston, Texas. He has served in the U.S. Navy for 32 years in various capacities, including, flight surgeon, naval aviator, test pilot, senior medical officer on the U.S.S. Enterprise Nuclear Carrier, and as Director of both Aeromedical Safety and Aviation Mdicine for the chief of naval operations at the Pentagon.↩7. Thompson retired from the Navy as a Commander in 1978. He began in 1955 as a fighter pilot. He has flown 17 types of airplanes as a light attack, heavy attack, and reconnaissance attack pilot. Additionally, Mr. Thompson has served as a maintenance officer in squadrons, an operations' officer, an executive officer of reconnaissance squadrons, a command officer of reconnaissance squadrons, the head of operations and aircraft operation facilities division at the Naval Safety Center, and the head of the fighter attack analysis division at the Naval Safety Center.↩8. See also Aaronson v. Commissioner, T.C. Memo. 1970-178↩.9. At the time of trial Mr. Harmon was the chief pilot for Piedmont Aviation in their general aviation division. He is responsible for the charter and training divisions in Norfulk, Virginia. Mr. Harmon has been a pilot since 1939.↩10. Compare Knudtson v. Commissioner, T.C. Memo. 1980-455; Shaw v. Commissioner, T.C. Memo. 1969-120↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623811/	Holyoke Mutual Fire Insurance Company, Petitioner, v. Commissioner of Internal Revenue, RespondentHolyoke Mut. Fire Ins. Co. v. CommissionerDocket No. 51780United States Tax Court28 T.C. 112; 1957 U.S. Tax Ct. LEXIS 210; April 23, 1957, Filed 210 Decision will be entered for the petitioner. Petitioner was chartered in 1843 as a mutual fire insurance company under the laws of Massachusetts. Since 1873 it has had a guaranty fund of $ 100,000 divided into 1,000 shares. The shareholders are entitled to receive interest at 7 per cent per year, cumulatively, and to elect half the board of directors all of whom must be policyholders. Held, the petitioner is taxable under section 207, I. R. C. 1939, as a mutual insurance company. Roger P. Stokey, Esq., Nicholas S. Kiefer, Esq., and Charles D. Post, Esq., for the petitioner.Paul J. Henry, Esq., for the respondent. Tietjens, Judge. TIETJENS113 The respondent determined a deficiency in income tax for the calendar year 1950 in the amount of $ 4,695.28. The sole issue is whether the petitioner was during that year an insurance company other than mutual, and taxable under section 204, Internal Revenue Code of 1939, or a mutual insurance company other than life or marine, and taxable under section 207 of such Code. Some facts are stipulated.FINDINGS OF FACT.The facts stipulated are so found and the exhibits to the stipulation are incorporated herein by this reference.The petitioner is operating under the laws of Massachusetts and is engaged in the business of writing fire and allied lines of insurance in 15 States of the United States. Its principal office is in Salem, Massachusetts. Its income tax return for the year 1950 was filed on Form 1120M, entitled "Mutual Insurance212 Company Income Tax Return" with the collector of internal revenue at Boston.The petitioner was chartered in 1843 under an act of the Legislature of Massachusetts. In 1872 an extensive fire in Boston caused large losses to many insurance companies doing business in Massachusetts. The petitioner paid losses of $ 203,486 incurred in that fire. These payments exhausted the petitioner's surplus. A special session of the legislature, called because of the fire, enacted chapter 375 of the Massachusetts Acts and Resolves for 1872 which authorized any existing mutual insurance company to acquire a guaranty capital. Pursuant to such statute the petitioner in 1873 acquired $ 100,000 in guaranty capital, divided in 1,000 shares, and at all times since has had this amount. The petitioner paid $ 5,000 to guaranty capital shareholders in 1873, $ 10,000 in each year from 1874 through 1880, and $ 7,000 in each year from 1881 through 1950. In 1950 the 1,000 shares of guaranty capital were owned by 68 persons. The largest number of shares held by one person was 55.During 1950, the petitioner had over 100,000 policies of insurance in force and on December 31, 1950, the amount of its insurance213 in force was $ 365,708,453.The petitioner's management is vested in the board of directors. The petitioner's bylaws provide for a board of from 8 to 12 directors, one-half to be chosen from the members and one-half from the guaranty capital shareholders. In 1950 the directors owned 97 shares.Each policy issued by the petitioner contains the provision:114 The Assured is hereby notified that by virtue of this policy he is a member of the HOLYOKE MUTUAL FIRE INSURANCE COMPANY IN SALEM, and is entitled to vote either in person or by proxy at any and all meetings of said company. The annual meetings are held at its home office on the fourth Tuesday of January in each year, at 10:00 o'clock A. M.In 1950 all the officers of the petitioner were policyholders. The chairman of the board, the president, and the treasurer were shareholders.During 1950 and for many years prior thereto the petitioner's net assets above its reinsurance reserves and all other claims and obligations have been less than 2 per cent of its insurance in force and have been more than 25 per cent of the amount of the guaranty capital.Notice of the annual meeting is sent to all shareholders. Votes were cast214 at the annual meetings in 1950 and 1951 as follows:19501951By policyholders in person4954By shares of guaranty capital in person2031By shares of guaranty capital by proxy684682For a number of years 6 of the 12 directors have been policyholders who were not shareholders, the other 6 have been shareholders, at least 5 of whom were also policyholders.In 1950 the petitioner paid dividends to its policyholders amounting to $ 474,021.49. During the year 1950 and all years prior thereto the petitioner furnished insurance to its policyholders at cost after payment of losses and expenses, establishment of reserves for losses incurred and for unearned premiums on policies outstanding, retention of surplus to meet unusual losses, and payment of $ 7,000 each year to shareholders of guaranty capital.The petitioner has been subject to catastrophe losses in the past, including fires in Portland in 1866, Boston in 1872, Chelsea in 1906, Salem in 1914, and Fall River in 1932, and hurricanes in 1938, 1944, and 1950.In its annual statement on the form approved by the National Convention of Insurance Commissioners the petitioner lists the payment to the shareholders 215 as a reduction to surplus and describes it as dividends to shareholders of guaranty capital, and pursuant to instructions on the form lists its guaranty capital in the capital stock section of its balance sheet and not among its liabilities.The petitioner is a mutual insurance company.OPINION.The petitioner was organized as a mutual insurance company and throughout its existence has classified itself as such. However, since 1873 it has had a guaranty capital of $ 100,000, divided into 1,000 115 shares, the holders of these shares being entitled to receive cumulative dividends of 3 1/2 per cent semiannually, to choose one-half of the directors, and to receive on liquidation the face amount of their shares. The respondent takes the position that the guaranty capital is equivalent to stock and therefore the petitioner cannot be classified as a mutual insurance company taxable under section 207 1 of the Internal Revenue Code of 1939, but is subject to tax under section 2042 as an insurance company other than life or mutual.The General Laws of Massachusetts, chapter 175, as applicable in 1950, contain several pertinent provisions. Section 76 provides that every person insured by a mutual fire insurance company shall be a member while his policy is in force, entitled to one vote for each policy held and shall be notified of meetings by written notice or by printing on the policy, and that members may vote217 by proxy. Section 77 provides for election of a board of directors and states:After the first election members only shall be eligible, but no director shall be disqualified from serving the term for which he was elected by reason of the termination of his policy. Such companies having a guaranty capital shall choose one half of the directors from the shareholders and one half from the policyholders who are not shareholders.Section 79 provides that holders of shares of guaranty capital are entitled to a semiannual dividend of not more than 3 1/2 per cent if the net profits shall be sufficient and that the guaranty capital shall be applied to pay losses only when the company has exhausted its assets other than uncollected premiums and when impaired it may be restored by assessments upon the contingent funds of the company. Upon liquidation the holders of guaranty capital are not entitled to share in the distribution of the assets beyond the par value of the shares and any dividends declared and payable thereon. This section also states the conditions upon which the guaranty capital shall be 116 retired, or may be retired. 3 Section 80 provides that the directors may 218 fix the percentages of dividends to be paid, and authorizes a mutual fire insurance company to accumulate and hold profits, but only until such profits equal 4 per cent of its insurance in force.The respondent says that the company is controlled by its219 stockholders, the holders of shares of guaranty capital, and therefore is not a mutual insurance company. These factors are pointed out as significant: (1) The shareholders are subject to the same provisions of law as stockholders in stock companies; (2) they have one vote for each share owned in the choice of directors; (3) they have the right to choose one-half of the directors; (4) the guaranty capital is applied to pay losses only if other assets are exhausted and any impairment in the guaranty capital can be restored from contingent funds of the company; (5) the shareholders are entitled to cumulative dividends of a fixed amount; and (6) on dissolution the shareholders are entitled to receive the par value of their shares plus any dividends declared and payable.The respondent points out that votes cast at the annual meetings of 1950 and 1951 represented principally shares of guaranty capital rather than policyholders, and says that this shows that the democratic control by policyholders which is the essence of a mutual insurance company is lacking.It is not disputed that the petitioner is classified under the laws of Massachusetts and all the other States in which it does 220 business as being a mutual insurance company, nor that it is a member of various trade associations of mutual insurance companies. The respondent says these evidences are irrelevant to the question whether the petitioner is within the classification under the Federal taxing statutes, citing Postal Mutual Indemnity Co. v. Commissioner, 147 F. 2d 583 (C. A. 5, 1945), affirming 3 T. C. 1212 (1944).A mutual insurance company is not defined in the Internal Revenue Codes but is generally defined as an association of persons having the object of obtaining insurance at cost and having the characteristics of common equitable ownership of the assets by the members, the right of all policyholders to be members to the exclusion of other persons and to choose the management, the conduct of the business to the sole end that the cost of the insurance be reduced, and the right 117 of the members to a return of the premiums paid in excess of the amounts necessary to cover losses and expenses. Mutual Fire, Marine & Inland Insurance Co., 8 T. C. 1212 (1947), acq., 1947-2 C. B. 3.221 As was pointed out in Penn Mutual Life Insurance Co. v. Lederer, 252 U.S. 523 (1920), in a mutual company the premium is necessarily greater than the expected cost, the excess furnishing a guaranty fund out of which extraordinary losses may be met. A mutual insurance company may properly retain from its earnings an amount sufficient to secure its policyholders in the future as well as the present and to cover any contingencies that may be fairly anticipated. Order of Railway Employees, 2 T.C. 607">2 T. C. 607, 615 (1943), appeal dismissed (C. A. 9, 1944) 143 F.2d 597">143 F. 2d 597.The petitioner's directors are all required to be policyholders (section 77, quoted above). The respondent contends otherwise, saying that half the directors must be shareholders who need not be policyholders. But we read the clause "members only shall be eligible" as requiring all directors to be members, that is, policyholders, half of them to be also shareholders and half not shareholders. In this situation the company is managed solely by its policyholders. It is stipulated that 11 of the 12 directors in 1950 were policyholders222 and the records are incomplete as to one director, since deceased. The respondent argues from this that if the petitioner's interpretation of the statute is correct, we do not know whether the petitioner complied with the law. But in the absence of affirmative evidence we would not assume that the statute was disregarded.The respondent says that this company is dominated by the shareholders, since the voters at the annual meeting represent but a few policyholders while more than half the shares of guaranty capital are voted. It is also contended that one shareholder at such a meeting could elect half the board of directors while 100,000 policyholders elected the other half. If this is true it may be pointed out that the converse is also true, one policyholder present could elect half the board while 1,000 shares of guaranty capital chose the other half. There appears to be some question whether the shareholders and policyholders vote separately or as a single group, but we consider it unnecessary to resolve the point. All policyholders have the right to attend and vote and the taxable status of the petitioner does not depend upon the number who exercise this right.The directors223 who are shareholders are no doubt expected to protect the interests of the shareholders by seeing that sound management practices are followed and the solvency of the company is not jeopardized. This responsibility is not inconsistent with the responsibilities of these and the other directors of providing insurance at cost, as 118 nearly as may be, to the members. It is stipulated that insurance was furnished to the members at cost after payment of losses and expenses, establishment of required reserves, and payment to shareholders of $ 7,000 each year. Since the amount of the annual payments to the shareholders and the amount they may receive on liquidation is fixed by law, there is no reason to assume that the shareholder-directors are influencing the management to the detriment or exclusion of the policyholders. Their function is analogous in some respects to creditors' representatives in other situations who participate in management of a business to protect the creditors' interests, but here they are at the same time policyholders interested in protecting their own interests as such. The comparative importance of these interests is shown by the fact that the dividends224 to policyholders amounted in 1950 to $ 474,000 while $ 7,000 was paid to the shareholders.The guaranty capital is not equivalent to common stock, for the shareholders are not entitled to participate in the profits beyond the payments fixed by law. These have been said to be in the nature of interest. Commonwealth v. Berkshire Life Insurance Co., 98 Mass. 25 (1867).The annual statements report losses of $ 888,000 for 1950 and $ 641,000 for 1949. The assets were $ 6,180,000 and the surplus as regards policyholders was over $ 3,000,000 at the end of 1950 in addition to the guaranty capital. The accumulation was less than 1 per cent of the insurance in force and the State law permits an accumulation up to 4 per cent (section 80). The $ 100,000 of guaranty capital, which originally provided a needed cushion to guard against catastrophe losses, is not now a vital part of the financial structure nor a major concern of the directors. Under the State law this guaranty capital could be retired (section 79). We conclude that the petitioner is a mutual insurance company within the meaning of section 207 of the 1939 Code.This conclusion is consonant225 with an interpretation which was long a part of the Treasury regulations. For many years the regulations provided:A mutual fire insurance company which has a guaranty capital is taxed like other mutual fire insurance companies. A stock fire insurance company, operated on the mutual plan to the extent of paying dividends to certain classes of policyholders, may make a return on the same basis as a mutual fire insurance company with respect to its business conducted on the mutual plan. 4The first of these regulations related to the Revenue Act of 1918 and this provision continued in effect until 1943. In Regulations 111, promulgated in 1943, relating to the Internal Revenue Code of 1939 and 119 effective for years beginning after 1941, this provision was not included. No language providing otherwise appears in such regulations. The petitioner argues that the provision should be deemed to have congressional approval through the reenactment of the related statutes and to have the force of law, citing Helvering v. Winmill, 305 U.S. 79">305 U.S. 79, 83 (1938). In the cited case the Court said:Treasury regulations and interpretations long continued226 without substantial change, applying to unamended or substantially reenacted statutes, are deemed to have received Congressional approval and have the effect of law.The respondent admits that the regulations so provided and explains that the change was prompted by a criticism from the Court of Appeals in Keystone Automobile C. Cas. Co. v. Commissioner, 122 F. 2d 886 (C. A. 3, 1941), holding invalid or ineffective part of article 1014 of Regulations 74, quoted above, purporting to authorize a stock company to make a return on the same basis as a mutual with respect to part of its business. The court held that the regulations could not amend the statute by granting an exemption or deduction not provided in the statute. 227 The Treasury thereupon reconsidered the above-quoted provisions and in Regulations 111 omitted them. The change in administrative practice to conform to the foregoing decision is said to be warranted by Estate of Sanford v. Commissioner, 308 U.S. 39">308 U.S. 39 (1939), and Morrissey v. Commissioner, 296 U.S. 344">296 U.S. 344 (1935).The petitioner cites the recent case of United States v. Leslie Salt Co., 350 U.S. 383">350 U.S. 383 (1956), in which the Court said:In Norwegian Nitrogen Products Co. v. United States, 288 U.S. 294">288 U.S. 294, 315, 53 S. Ct. 350">53 S. Ct. 350, 358, 77 L. Ed. 796">77 L. Ed. 796, Mr. Justice Cardozo said: "administrative practice, consistent and generally unchallenged, will not be overturned except for very cogent reasons if the scope of the command is indefinite and doubtful. United States v. Moore, 95 U.S. 760">95 U.S. 760, 763, 24 L. Ed. 588">24 L. Ed. 588; Logan v. Davis, 233 U.S. 613">233 U.S. 613, 627, 34 S. Ct. 685">34 S. Ct. 685, 58 L. Ed. 1121">58 L. Ed. 1121; Brewster v. Gage, 280 U.S. 327">280 U.S. 327, 336, 50 S. Ct. 115">50 S. Ct. 115, 74 L. Ed. 457">74 L. Ed. 457;228 Fawcus Machine Co. v. United States, 282 U.S. 375">282 U.S. 375, 51 S. Ct. 144">51 S. Ct. 144, 75 L. Ed. 397">75 L. Ed. 397; Interstate Commerce Commn. v. New York, N. H. & H. R. Co., 287 U.S. 178">287 U.S. 178, 53 S. Ct. 106">53 S. Ct. 106, 77 L. Ed. 248">77 L. Ed. 248 * * . The practice has peculiar weight when it involves a contemporaneous construction of a statute by the men charged with the responsibility of setting its machinery in motion, of making the parts work efficiently and smoothly while they are yet untried and new."Against the Treasury's prior longstanding and consistent administrative interpretation its more recent ad hoc contention as to how the statute should be construed cannot stand. Moreover, that original interpretation has had both express and implied congressional acquiescence, through the 1918 amendment to the statute (76 S. Ct. 421">76 S. Ct. 421), which has ever since continued in effect, and through Congress having let the administrative interpretation remain undisturbed for so many years. See Corn Products Refining Co. v. Commissioner, 350 U.S. 46">350 U.S. 46, 53, 76 S. Ct. 20">76 S. Ct. 20, 24;229 Norwegian Nitrogen Products Co. v. United States, supra, 288 U.S. at page 313, 53 S. Ct. at page 357. * * *120 The provision in the regulations that a mutual insurance company having a guaranty capital is taxed like other mutual insurance companies was not involved in the Keystone case, supra, and apparently was not the subject of the criticism of the Court of Appeals for the Third Circuit. Having stood from 1918 to 1943 without any substantial change in the law, it should be regarded as having congressional approval.The Internal Revenue Service at one time proposed to change its position on this point in G. C. M. 6782, VIII-2 C. B. 209 (1929). This memorandum held that a mutual insurance company having a guaranty capital was not exempted from taxation by section 231 (11) of the Revenue Act of 1926. This ruling was later modified since it was contrary to existing regulations.The Internal Revenue Service has issued several rulings on the status of this petitioner. In 1926 it held that the petitioner was exempt under section 231 (11) of the Revenue Act of 1926 from income tax. In230 1930, based upon G. C. M. 6782, supra, it held that the petitioner was not entitled to exemption. In 1936 it held that the petitioner was exempt under section 101 (11) of the Revenue Act of 1934 and corresponding sections of prior acts.The Revenue Act of 1942 changed the exemption provided in section 101 (11), Internal Revenue Code of 1939, limiting the mutual insurance companies exempted from income tax to those with gross incomes of not more than $ 75,000. It made no change in the provisions of sections 204 or 207. In the Revenue Act of 1943, section 204 was amended to include as taxable thereunder mutual fire insurance companies exclusively issuing either perpetual policies or policies issued for a single refundable deposit. Section 207 was amended to exclude such companies. It would appear that the Congress considered the taxable status of mutual fire insurance companies and made this one change. Since it did not provide for taxing under section 204 mutual fire insurance companies having a guaranty capital when these sections were under consideration, it is reasonable to conclude that such a change from the earlier administrative practice 231 was not intended. No further amendments were made to section 204 or section 207 after 1943 and prior to the taxable year 1950.Since the administrative interpretation remained undisturbed by the Congress for many years it had implied congressional approval. Any change such as the respondent seeks here should be a matter for the Congress.Decision will be entered for the petitioner. Footnotes1. SEC. 207. MUTUAL INSURANCE COMPANIES OTHER THAN LIFE OR MARINE.(a) Imposition of Tax. -- There shall be levied, collected, and paid for eachtaxable year upon the income of every mutual insurance company (other than a life or a marine insurance company or a fire insurance company subject to the tax imposed by section 204 and other than an interinsurer or reciprocal underwriter) a tax computed under paragraph (1) or paragraph (2) whichever is the greater and upon the income of every mutual insurance company (other than a life or marine insurance company or a fire insurance company subject to the tax imposed by section 204↩) which is an interinsurer or reciprocal underwriter, a tax computed under paragraph (3); * 2. SEC. 204. INSURANCE COMPANIES OTHER THAN LIFE OR MUTUAL.(a) Imposition of Tax. -- (1) In general. -- There shall be levied, collected, and paid for each taxable year upon the normal-tax net income and upon the corporation surtax net income of every insurance company (other than a life or mutual insurance company) and every mutual marine insurance company and every mutual fire insurance company exclusively issuing either perpetual policies, or policies for which the sole premium charged is a single deposit which (except for such deduction of underwriting costs as may be provided) is refundable upon cancellation or expiration of the policy taxes computed as provided in section 13 (b) and in section 15 (b).↩3. Massachusetts General Laws, chapter 175, section 79: Such guaranty capital shall be retired by the directors of the company at par when the profits accumulated under section eighty equal two per cent of its insurance in force; and such guaranty capital may, upon the recording in favor of such action of two thirds of the votes cast at a meeting duly called for the purpose and with the written approval of the commissioner, be reduced or retired, if the net assets of the company above its reinsurance reserve and all other claims and obligations, exclusive of guaranty capital, for two years last preceding and including the date of its last annual statement under section twenty-five has been not less than twenty-five per cent of the amount of the guaranty capital. * *↩4. Regs. 62, art. 572; Regs. 65, art. 571; Regs. 69, art. 571; Regs. 74, art. 1014; Regs. 77, art. 1014; Regs. 86, art. 207-1, as amended by T. D. 4697, XV-2 C. B. 197 (1936)↩; Regs. 94, art. 207-6; Regs. 101, art. 207-6; Regs. 103, sec. 19.207-6.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623812/	JOE ALVIN SEXTON AND NOVENA J. SEXTON, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSexton v. Comm'rDocket No. 4428-78.United States Tax CourtT.C. Memo 1981-494; 1981 Tax Ct. Memo LEXIS 245; 42 T.C.M. (CCH) 1030; T.C.M. (RIA) 81494; September 10, 1981245 Gregory W. Walkauskas, for the petitioners. Charles W. Kite, for the respondent. FEATHERSTON246 MEMORANDUM OPINION FEATHERSTON, Judge: Respondent determined a deficiency of $ 4,423.58 in petitioners' Federal income tax for 1974. 247 The sole issue for decision is whether petitioners must recapture investment credit, taken as shareholders of a subchapter S corporation, upon the liquidation of the subchapter S corporation and the transfer of the business to a partnership. All of the facts have been stipulated. Petitioners Joe Alvin Sexton (petitioner) and Novena J. Sexton, husband and wife, filed joint Federal income tax returns for 1974 with the Internal Revenue Service Center, Memphis, Tennessee. At the time their petition was filed, petitioners resided in Sunbright, Tennessee. In 1961, petitioner commenced operating, as a sole proprietorship, an oil distribution and service station business. On March 1, 1971, the business was incorporated under the laws of the State of Tennessee. Petitioner and his wife each owned 50 percent of the stock in the corporation. From the date of its incorporation to the debt of liquidation, the corporation was treated for tax purposes as a subchapter S corporation. During 1972 through 1974, the corporation purchased depreciable property to be used in its trade or business. On their individual income tax returns for those years, petitioners took investment credits in248 the amounts of $ 3,511.21, $ 1,035.33, and $ 197.09, respectively. None of the property for which the investment credit was claimed in 1972 through 1974 was depreciated to its salvage value prior to liquidation of the corporation. On or about March 31, 1974, the corporation was liquidated under section 331. 1 As of that date, the books and records of the corporation were closed for purposes of computing income and expenses, with the exception of depreciation. The property owned by the corporation was transferred to a general partnership in which petitioner and his wife were the sole partners. For the purpose of computing depreciation, the transferee-partnership used the same books that the transferor-corporation had used. The partnership also used the same adjusted basis in the transferred depreciable property that the corporation had used prior to liquidation. The property was not appraised at the time of transfer. Substantially all the assets necessary to operate the business were transferred to the partnership. In his notice of249 deficiency, respondent determined that investment tax credit in the amount of $ 4,743.63 claimed during the taxable years 1972, 1973, and the period ended March 31, 1974, was subject to recapture. Section 47(a)2 establishes the general rule that any "disposition" of section 38 property 3 prior to the expiration of the useful life of the property triggers a recapture of any investment credit taken to the extent that the credit was based upon the unexpired life of the property. An exception to the recapture provision is provided, however, where there is "a mere change in the form of conducting the trade or business so long as the property is retained in such trade or business as section 38 property and the taxpayer retains a substantial interest in such trade or business." Section 47(b). 4250 This case is controlled by Long v. United States, F.2d (6th Cir. July 6, 1981). See Golsen v. Commissioner, 54 T.C. 742">54 T.C. 742, 756-758 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971). In Long, a subchapter S corporation in its fiscal year 1972 purchased property which qualified for an investment credit. At the end of its fiscal year 1972, the corporation was liquidated under section 331, and its assets were distributed to Mr. and Mrs. Long in exchange for their stock. The business once conducted by the corporation was continued by the Longs as a proprietorship in which the section 38 property was used as it had been used by the corporation. The court of appeals sustained the Commissioner's determination that the 1972 distribution in liquidation constituted an "early disposition" of section 38 property which, under section 47(a), triggered the recapture tax. Petitioners here contend that they are not subject to the recapture provisions of section 47(a) because no disposition of the assets has occurred. Petitioners observe that section 48(e) 5 specifically provides that a shareholder of a subchapter S corporation to whom an investment251 has been apportioned is considered the taxpayer with respect to the investment, and that they, not the corporation, are the taxpayers referred to in section 47(a). Petitioners reason that, as sole partners of the transferee-partnership, they continue to own the section 38 property. Accordingly, they conclude that no disposition has occurred within the meaning of section 47(a), and therefore no recapture is triggered. In Long v. United States, supra, footnote 6, the court of appeals answered that252 argument as follows: The Longs have * * * argued that there can be no investment credit recapture because no section 38 property was "disposed of, or otherwise cease[d] to be section 38 property," i.e. the distribution in liquidation of the Long Construction Company's section 38 property was not an "early disposition" under § 47(a) of the Code. Simply put, they contend that because the investment credit of a Subchapter S corporation is passed through to the shareholders (who, under § 48(e) are "treated as the taxpayer[s] with respect to such investment."), the liquidating distribution of the corporation's section 38 property represent, in effect, a "transfer" to themselves of their own assets. Thus, where the entity generating the investment credit is a Subchapter S corporation, there can be a disposition under § 47(a) only where the shareholders "dispose" of their shares. * * * we believe the argument to be without merit. The legislative history of the investment credit provisions of the Code makes it plain that a shareholder of a Subchapter S Corporation "will be subject to the provisions of section 47" if "the corporation subsequently disposes of such property [section253 38 property], or if the shareholder disposes of his stock in such [Subchapter S] corporation." S. Rep. No. 1881, 87 Cong., 2d Sess., U.S. Code & Adm. News, 87th Cong., 2d Sess., pp. 3464-65 (1962) (emphasis added). This view is reflected in Treas. Reg. § 1.47-4(a), which provides that a shareholder of a Subchapter S corporation is subject to § 47 of the Code if the corporation "disposes of any section 38 property * " The longs have not challenged the validity of this regulation (in fact they have not seen fit to even allude to it in their brief), and, as a legislative regulation, we must give effect to it. * * The Longs' argument is thus reduced to the question of whether the corporation "disposed" of its section 38 property when it distributed such property in liquidation. Here, however, the parties are agreed that a distribution in liquidation constitutes a "disposition" under § 47(a). Ramm v. Commissioner, [Dec. 36,172], 72 T.C. 671">72 T.C. 671 (1979).254 See also Rev. Rul. 73-515, 1973-2 Cum. Bull. 7; S. Rep. No. 1881, 87 Cong., 2d Sess.; U.S. Code & Adm. News, 87th Cong., 2d Session, p. 3450 (1962). As in Long, petitioners here have not referred to section 1.47-4(a), Income Tax Regs., which states that a shareholder of a subchapter S corporation is subject to the recapture tax if the corporation "disposes of any section 38 property * ." While the stipulation is not cast in terms of a disposal of the property, it states that the subchapter S corporation "was liquidated under § 331" and that the property owned by the corporation was "transferred" to the partnership. 6 The court of appeals explained in Long that "the Internal Revenue Code regards a liquidating distribution under Section 331 as a change in substance and treats it in the same manner as a sale or exchange of stock would be treated," citing Bittker & Eustice, Federal Income Taxation of Corporations and Shareholders, par. 11.01 at 11-4 (4th ed. 255 ) and Kind v. Commissioner, 54 T.C. 600">54 T.C. 600 (1970). Thus petitioner's argument lacks merit. Relying upon section 47(b), petitioners alternatively argue that the transfer of the business from the subchapter S corporation to the partnership involved no more than a "mere change in the form of conducting the trade or business" with the result that an "early disposition" of the property for recapture purposes did not occur. Under regulations promulgated by respondent, four conditions must be satisfied to qualify the taxpayer for the change in business form exception. Section 1.47-3(f)(1)(ii) Income Tax Regs. provides in pertinent part: (a) The section 38 property described in subdivision (i) of this subparagraph is retained as section 38 property in the same trade or business, (b) The transferor (or in a case where the256 transferor is a partnership, estate, trust, or electing small business corporation, the partner, beneficiary, or shareholder) of such section 38 property retains a substantial interest in such trade or business, (c) Substantially all the assets (whether or not section 38 property) necessary to operate such trade or business are transferred to the transferee to whom such section 38 property is transferred, and (d) The basis of such section 38 property in the hands of the transferee is determined in whole or in part by reference to the basis of such section 38 property in the hands of the transferor. The parties agree that the first three conditions of the regulation have been met. The requirement, contained in paragraph (d) of that regulation, however, has not been satisfied. As noted above, the corporation was liquidated pursuant to section 331. Under section 334, 7 the basis of the transferred assets in the hands of the transferee partnership is the fair market value of the assets at the time of the transfer. Consequently, the basis of the assets is determined by reference to their fair market value and not to their basis in the hands of the transferor as is required257 by paragraph (d). Petitioners nevertheless argue that they qualify for the exception provided by section 47(b) and that recapture is not triggered. They contend that paragraph (d) of the regulation is invalid because it imposes an element that is unreasonable and plainly inconsistent with the revenue statute. This argument as to the validity of the regulation was the main issue dealt with in Long. The court of appeals points out that the section 1.47-3(f)(1)(ii)(d), Income Tax Regs., is a legislative regulation, and that a court's role in reviewing such a regulation "begins and ends with assuring that the Commissioner's regulations fall within his authority to implement258 the congressional mandate in some reasonable manner." Bates v. United States, 581 F.2d 575">581 F.2d 575, 580 (6th Cir. 1978) quoting United States v. Correll, 389 U.S. 299">389 U.S. 299, 307 (1967). The court also observed that the "mere change in form" language is not unique to section 47(b) but appears in other Code provisions. See, e.g., secs. 50A(c)(2)(B)(ii), 167(m). With respect to such other provisions, the Commissioner has taken the position that they apply only to nontaxable exchanges which result in a carryover basis. On the other hand, as pointed out above, a section 331 liquidation is treated as a sale or exchange which under section 334(a) gives the distributee a new basis equal to the property's fair market value. In the light of this background, the court of appeals held that the disputed regulation is valid. The court added in Long v. United States, supra: We note * * that since the challenged regulation became final on October 9, 1967, Congress has amended*259 Section 47(a) no fewer than six times and Section 47(b) once. Even were the regulation's relationship to Section 47(a) not so readily apparent, we would be reluctant to conclude that the regulation is inconsistent with congressional intentions. Regulations of longstandings under Code sections which Congress has thereafter frequently amended may be viewed as reflecting the approval of Congress. See Lykes v. United States [52-1 USTC P9259], 343 U.S. 118">343 U.S. 118, 127 (1952); United States v. Correll, 389 U.S. at 305-06. [Footnotes omitted]. We conclude that petitioners must recapture the investment credit taken by them as shareholders of the subchapter S corporation. See Golsen v. Commissioner, supra.Decision will be entered for the respondent. Footnotes1. All section references are to the Internal Revenue Code of 1954, as in effect during the tax years in issue, unless otherwise noted.↩2. Section 47(a) provides interalia: (a) General Rule--Under regulations prescribed by the Secretary ro his delegate-- (1) Early Disposition, Etc.--If during any taxable year any property is disposed of, or otherwise ceases to be section 38 property with respect to the taxpayer, before the close of the useful life which was taken into account in computing the credit under section 38, then the tax under this chapter for such taxable year shall be increased by an amount equal to the aggregate decrease in the credits allowed under section 38 for all prior taxable years which would have resulted solely from substituting, in determining qualified investment, for such useful life the period beginning with the time such property was placed in service by the taxpayer and ending with the time such property ceased to be section 38↩ property. 3. The term "section 38 property" refers in general to property qualifying for the investment credit. Sec. 38↩; sec. 48(a). 4. Section 47(b) provides: (b) Section Not to Apply in Certain Cases--Subsection (a) shall not apply to-- (1) a transfer by reason of death, or (2) a transaction to which section 381(a) applies. For purposes of subsections (a), property shall not be treated as ceasing to be section 38 property with respect to the taxpayer by reason of a mere change in the form of conducting the trade or business so long as the property is retained in such trade or business as section 38↩ property and the taxpayer retains a substantial interest in such trade or business.5. Section 48(e) provides: (e) Subchapter S Corporations--In the case of an electing small business corporation (as defined in section 1371)-- (1) the qualified investment for each taxable year shall be apportioned pro rata among the persons who are shareholders of such corporation on the last day of such taxable year, and (2) any person to whom any investment has been apportioned under paragraph (1) shall be treated (for purposes of this subpart) as the taxpayer with respect to such investment, and such investment shall not (by reason of such apportionment) lose its character as an investment in new section 38 property or used section 38↩ property, as the case may be.6. Despite this stipulation, the assets were at least constructively distributed to petitioners as shareholders of the corporation and then transferred by them to the partnership as a contribution of capital. Sec. 721.↩7. Section 334(a) provides: (a) General Rule.--If property is received in a distribution in partial or complete liquidation (other than a distribution to which section 333↩ applies), and if gain or loss is recognized on receipt of such property, then the basis of the property in the hands of the distributee shall be the fair market value of such property at the time of the distribution.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623813/	COTTON STATES FERTILIZER CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Cotton States Fertilizer Co. v. CommissionerDocket No. 105397.United States Board of Tax Appeals47 B.T.A. 748; 1942 BTA LEXIS 651; September 23, 1942, Promulgated 651 1. Petitioner, in 1934, in order to obtain a loan from the Reconstruction Finance Corporation, executed a written contract containing a provision that so long as the note remained unpaid it would pay no dividends "without the prior written consent of the R.F.C." Petitioner during the taxable year did not ask for or obtain such consent and paid no dividends. Held, petitioner is entitled to credit under section 26(c)(1), Revenue Act of 1936. 2. In the same written contract petitioner agreed that it would not increase the compensation of its officers without the prior written consent of R.F.C. During the taxable year petitioner authorized an increase of salary to two of its officers, subject to the approval of R.F.C. and with a proviso that any part of such increase not so approved should be cumulative subordinated to the payment of Reconstruction Finance Corporation loan. In a year subsequent to the taxable year the R.F.C. approved a part of such increases and and they were paid in the amounts approved. Held, petitioner is not entitled to deduct any part of such increase in the taxable year. Charles J. Bloch, Esq., for the petitioner. J. Marvin Kelley,652 Esq., for the respondent. KERN 749 In this proceeding respondent has determined a deficiency in petitioner's income tax liability for the fiscal year ended June 30, 1937, in the amount of $1,861.06. Petitioner alleges that respondent erred in such determination in that (1) he refused petitioner a credit under section 26(c)(1) of the Revenue Act of 1936 in calculating its surtax on undistributed profits, and (2) he disallowed a deduction claimed by petitioner on account of officers' salaries. The parties filed herein a written stipulation of facts and a supplemental stipulation of facts. At the hearing herein the parties orally stipulated certain facts. In addition, the testimony of one witness was adduced from which we find one additional fact. FINDINGS OF FACT. We find the facts to be as stipulated in the stipulation filed herein and reading as follows: On July 21, 1934, Cotton States Fertilizer Company, a corporation organized and existing under the laws of Georgia and having its principal office and place of business in the City of Macon, Georgia, applied to the Reconstruction Finance Corporation for a loan of $125,000.00. To induce the653 Reconstruction Finance Corporation to make such loan, the Cotton States Fertilizer Company represented, warranted, and agreed as follows, the said representations, warranties, and agreements following being set out as Paragraphs 14 and 16 of its application to the Reconstruction Finance Corporation for a loan: (14) So long as applicant shall be indebted to R.F.C., applicant will not, without the prior written consent of R.F.C.: (a) if applicant is a corporation, joint stock company, or Massachusetts trust, declare or pay any dividend or make any distribution upon its capital stock, or purchase or retire any of its capital stock, or authorize or issue any additional shares of stock, or reclassify any outstanding shares, or consolidate or merge with any other company, or make any advance, directly or indirectly, by way of loan, gift, bonus, commission, or otherwise, to any of its officers, directors or employes, or to any company directly or indirectly controlling or affiliated with or controlled by the applicant; (b) if applicant is a partnership or individual, make any distribution of assets of the business other than reasonable compensation for services rendered in accordance with654 the provisions of Exhibit I, or make any advance, directly or indirectly, by way of loan, gift, bonus, commission or otherwise, to any partner or any 750 of its employees, or to any company directly or indirectly controlling or affiliated with or controlled by the applicant * * . * * (16) This applicant as hereafter amended or supplemented, together with all conditions imposed by and [sic] all agreements required by or entered into with or for the benefit of R.F.C. in connection with the making of the loan hereby applied for and the note or notes of applicant evidencing such loan (all of which are incorporated herein and made a part hereof), shall constitute a contract between applicant and R.F.C. Said contract shall inure to the benefit of the successors and assigns of R.F.C. but shall not inure to the benefit of the successors or assigns of applicant without the written consent of R.F.C. Such contract shall become binding upon the parties thereto only when all or any part of the loan applied for is paid to applicant by check or draft or is unconditionally credited to or for the account of applicant, and only with respect to the amount so paid or credited. The655 validity, interpretation, legal effect, and performance of such contract shall be governed by the law of the place of payment of the note. The said application was signed by the Cotton States Fertilizer Company, through its President, C. B. Clay, attested by its Secretary D. D. Kinnett, and the corporate seal thereof was duly attached. The said application for a loan also contained a form known as R.F.C. Form L-109(c), the said form being attached to the application as Exhibit "I" and reading as follows: [For the sake of brevity only the pertinent parts of this exhibit are set out in the Findings] * * The undersigned submits herewith a true and complete schedule, prepared in accordance with the foregoing instructions, showing the annual rate of compensation paid to the officers and directors (if Applicant is a corporation), or partners (if Applicant is a partnership), and employees of said applicant (or its predecessor) in effect at January 1, 1930, and at the date hereof, and in consideration of the making by Reconstruction Finance Corporation of a loan or loans to the undersigned whether directly, or in cooperation with banks or other lending institutions, or by the656 purchase of participations, hereby agrees with Reconstruction Finance Corporation (herein called "R.F.C.") as follows: * * 3. So long as the undersigned is indebted to R.F.C., contingently or otherwise, the undersigned will not: (a) without the prior written consent of R.F.C., increase the compensation (either directly or through appointment to any additional office, or position) of any of its officers or directors (if Applicant is a corporation), or partners (if Applicant is a partnership), or employees above the respective amounts shown on such schedule for named individuals; * * * SCHEDULE.NamePositionCompensation at 1/1/30Present CompensationC. B. ClayPres. ,& Director$7,200.00$3,600.00D. D. KinnettSecretary3,000.002,100.00George F. ThompsonV. Pres. Director3,000.00924.88W. J. O'ShaughnesseyTreas. Director3,000.002,600.00Warner F. ThompsonDirectornonenone* * * On 751 the 14 day of August, 1934, a resolution was duly adopted by the Executive Committee of the Reconstruction Finance Corporation, in which it was recited that the Cotton States Fertilizer Company had filed657 its application, dated July 21, 1934, for a loan under Section 5(d) of the Reconstruction Finance Corporation Act, as amended, and in which it was resolved that the Reconstruction Finance Corporation make a loan to the Cotton States Ferilizer Company upon its aforesaid application in an amount not exceeding $125,000.00, upon the terms of the application, subject to the conditions set out in the resolution. The loan, in the amount of $125,000.00, was disbursed by Reconstruction Finance Corporation to Cotton States Fertilizer Company as follows: September 4, 1934$11,812.62September 4, 19345,467.32September 28, 193425,000.00October 4, 19347,720.06November 9, 193428,467.83December 20, 193425,496.39January 16, 193521,035.78$125,000.00This loan remained unpaid on July 1, 1937. We find the facts to be as stipulated in the supplement to stipulation filed herein, which reads as follows: A special meeting of the Board of Directors of the Cotton States Fertilizer Company of Macon, Georgia, was held at the offices of George F. Thompson, 52 Vanderbilt Avenue, New York, New York, on the 4 day of August, 1936, at 4 o'clock, P.M. The following658 is an excerpt from the minutes of that meeting, which minutes appear on page 129 of the Minute Book of the Company: On motion, duly made by George F. Thompson, seconded by Warner F. Thompson, and carried, it was resolved that the salary of C. B. Clay, as President, for the fiscal year from July 1, 1936, to June 30, 1937, shall be the sum of $6,000.00, payable monthly. The minutes show that there were present at said meeting C. B. Clay, George F. Thompson, Warner F. Thompson and W. J. O'Shaughnessey, being all the Directors of the Company. The following is an excerpt from the minutes of the same meeting, appearing on the same page of the Minute Book: On motion, duly made, seconded and carried, it was resolved that the salary of W. J. O'Shaughnessey, as Treasurer of the Company, for the fiscal year from July 1, 1936, to June 30, 1937, shall be the sum of $4,800.00, payable monthly. At the same meeting, the following occurred: It was further resolved that the payment of the aforesaid salaries of the President, Treasurer, and Secretary shall be made subject to approval by the Reconstruction Finance Corporation during the time their loan to the Company is in effect, and any659 part thereof not approved by said Reconstruction Finance Corporation shall be cumulative and subordinated to the payment of the Reconstruction Finance Corporation loan. 752 This appears at page 131 of the Minute Book of the company. Payment of $2,400.00 of the amount voted to C. B. Clay was authorized by the Reconstruction Finance Corporation on September 3, 1937. $1,200.00 of this amount was actually paid by the Cotton States Fertilizer Company to C. B. Clay on September 7, 1937, and $1,200.00 on September 13, 1937. $600.00 of the additional amount authorized as herein stated for Mr. O'Shaughnessey was approved by the Reconstruction Finance Corporation on October 11, 1937, and paid June 9, 1938. No additional amounts of the salaries authorized by the petitioner were approved by the Reconstruction Finance Corporation. Attached hereto is a copy of the balance sheet of the petitioner as of June 30, 1937, being a copy of the balance sheet which was attached to its income tax return for the fiscal year ended on that date. * * Trial BalanceJune 30, 1937ASSETS1. CashAmountTotal(a) Demand deposits, including checks$45,377.52(c) All other cash25.00$45,402.522. Notes receivable46,740.783. Accounts receivable13,624.74(a) Less reserve for discounts, etc4,367.049,257.704. Inventories:(a) Raw materials4,737.56(b) Work in process22,171.12(c) Finished goods20,498.72(d) Supplies4,492.7451,900.147. Deferred charges:(a) Prepaid insurance232.08(c) All other232.088. Capital assets:(a) Buildings69,283.55(b) Machinery and equipment245,681.75(c) Furniture and fixtures4,261.74(d) Autos1,411.75(e) Appreciation by appraisal168,506.57(f) Total of Lines (a) to (e)489,145.36(g) Less reserves for depreciation280,055.10209,090.26(j) Land20,300.0011. Other assets (describe fully): Mis. Accts815.00Stocks - Corporate491.00Accounts Payable - Dr. Bal410.631,716.6312. Total Assets384,640.11LIABILITIES13. Notes payable (less 1 year)124,300.0014. Accounts payable82.7917. Accrued expenses:(a) Interest9,591.73(b) Taxes2,453.41(c) All other - Officers Salaries11,600.0023,645.1418. Other liabilities (describe fully):Reserve for bad debts650.00Deferred Notes & Accounts Payable29,043.3029,693.3019. Capital stock:(a) Preferred stock (less stock in treas.)55,290.00(b) Common stock (less stock in treas.)120,133.33175,423.3320. Surplus31,495.5521. Undivided profits31,495.5522. Total liabilities384,640.11660 753 We find the facts to be as stipulated orally by the parties as follows: The Reconstruction Finance Corporation did not give its consent in writing to the Cotton States to the item of dividends for the fiscal year ending June 30, 1937. Cotton States made no request to the R.F.C. for the payment of such dividends. * * * It is further stipulated by the parties in connection with the salary issue, that the $2400.00 increase in salary to W. J. O'Shaughnessey for the fiscal year ended June 30, 1937, authorized by resolution of Petitioner August 4, 1936, only $600.00 thereof was approved by the Reconstruction Finance Corporation and paid by the Petitioner. In addition to the facts stipulated we find that any consent which might have been given by the Reconstruction Finance Corporation to the payment of dividends by petitioner would have had to have been given by the Directors of the Reconstruction Finance Corporation. OPINION. KERN: The first question presented in this proceeding is whether petitioner is entitled to the credit provided by section 26(c)(1) of the Revenue Act of 1936. 1 In order to be so entitled, petitioner must show 754 (1) a written661 contract; (2) executed by it before May 1, 1936, (3) expressly dealing with the payment of dividends, (4) which would be violated by its distribution during the taxable year of amounts as dividends. The written contract executed by petitioner in 1934 provided that "applicant will not, without the prior written consent of R.F.C. * * * declare or pay any dividend or make any distribution upon its capital stock." Petitioner did not ask for the consent of R.F.C. to the payment of dividends; none was granted; and petitioner paid no such dividends during the taxable year. The precise issue, therefore, is whether, under the facts shown, the distribution of dividends by petitioner during the taxable year would have been in violation of the quoted provision of the contract. 662 It seems to us obvious that it would have been. A distribution of dividends by petitioner would not have been a violation of such contract only if consented to in writing by the other party to the contract. Such a consent would have been in the nature of a waiver or modification of an obligation by the obligee of a contract, which is always possible even though not expressly provided for, but until the obligation is waived or modified, it is in full force and can not be violated with immunity. That such consent might have been granted by R.F.C. if requested by petitioner seems to us immaterial. It was not granted and no request was made. Moreover, we can not assume that R.F.C. would have given its consent. . In , we held that a similar contractual provision effectively prohibited the payment of dividends. It is true that in that case it was stipulated that a request for permission from the obligee to pay dividends would have been refused, that the payment of dividends by the taxpayer would not have been sanctioned by sound business practice, and that the taxpayer knew663 that any request to pay dividends would have been refused. These facts, however, were not essential to our holding. The essential fact is pointed out in one sentence: "It [taxpayer] did not request * * * permission from either of the banks to pay a dividend nor was such permission granted." The situation here presented is the legal converse of that considered by us in . There the taxpayer corporation could declare a dividend without violating a contract, but if it did, then the creditor could take certain steps. Here the petitioner could not make a dividend distribution without violating a contract, but if the creditor consented, then and only on that condition could such a distribution be made. On this issue we decide in favor of petitioner. 755 The second issue has to do with the right of petitioner in the taxable year to deduct officers' salaries in amounts in excess of those authorized by its contract with the Reconstruction Finance Corporation. The salary items in question consisted of certain increases in the salaries of the president and treasurer of petitioner which were made by petitioner's board of directors664 in the taxable year, "subject to the approval of the Reconstruction Finance Corporation during the time their loan to the company is in effect, and any part thereof not approved by said Reconstruction Finance Corporation shall be cumulative and subordinated to the Reconstruction Finance Corporation loan." The Reconstruction Finance Corporation in the following taxable year approved only a part of such increases and petitioner in the latter year paid to the officers in question only that part of the increases so approved. The stipulations of fact do not disclose whether petitioner is on the accrual basis of accounting and do not disclose how petitioner treated the amounts, paid and unpaid, of such salary increases on its books during the taxable year. Petitioner's tax returns for the taxable year were not introduced in evidence. Even if we assumed in petitioner's favor that it was on the accrual basis during the taxable year, we are still not of the opinion that the salary increases provided for in the quoted resolution are items properly subject to being accrued, because of the contingency of petitioner's obligation to pay them. 665 ; . On this issue we decide in favor of respondent. Reviewed by the Board. Decision will be entered pursuant to Rule 50.SMITH SMITH, dissenting: In its income tax return for the fiscal year ended June 30, 1937, the petitioner deducted from gross income an increase of $4,600 in salaries voted to its president and treasurer. The increased salaries were to be paid monthly. They were to be paid, however, subject to approval by the Reconstruction Finance Corporation. At the close of its fiscal year, June 30, 1937, the petitioner had not received the authority of the Reconstruction Finance Corporation to pay the additional salaries and the amount of the salaries unpaid was $4,600. The respondent disallowed the deduction of these accrued salaries in the determination of the deficiency. It is stipulated that the Reconstruction Finance Corporation on September 3, 1937, approved the increase in the salary of the president in the amount of $2,400 and $1,200 of that amount was paid to 756 the president on September 13, 1937. 666 On October 11, 1937, the Reconstruction Finance Corporation approved the payment of an additional salary of $600 to the treasurer, which had theretofore been authorized by the petitioner for the taxable year, but disapproved the payment of the balance authorized. In the Board's opinion it is stated that: * * The stipulations of fact do not disclose whether petitioner is on the accrual basis of accounting and do not disclose how petitioner treated the amounts, paid and unpaid, of such salary increases on its books during the taxable year. * * * I do not think that this statement is correct in view of the stipulated facts. The trial balance clearly shows that the petitioner was on the accrual basis. It includes among its assets inventories and deferred charges and among its liabilities accrued expenses, including officers' salaries in the amount of $11,600. It is not necessary to stipulate specifically that the return was made on the accrual basis where the stipulated facts show that it was. In , the Supreme Court held that the accrual system was incorporated into the law: * * * to enable the taxpayers to keep667 their books and make their returns according to scientific accounting principles, by charging against income earned during the taxable period, the expenses incurred in and properly attributable to the process of earning income during that period. * * [Italics supplied.] Quite clearly the additional salaries voted the petitioner's president and treasurer were "expenses incurred in and properly attributable to the process of earning income" during the taxable year. They were not expenses of the taxpayer of the years during which the payments were made. It is furthermore to be noted that petitioner's income tax return for the fiscal year ended June 30, 1937, was not due to be filed until September 15, 1937. Prior to that date the Reconstruction Finance Corporation had approved the payment of an additional salary to the petitioner's president of $2,400. I do not see in any event how the Board can say that that was not an expense of the petitioner of the taxable year. In , it was held that additional excise taxes upon the profits of the petitioner for the year 1918 accrued in that year even though668 the Revenue Act of 1918 was not passed until February 24, 1919, and made changes in the rates. The court held that the change made by Congress in the rates of the excise tax was made in ample time to enable the taxpayer to deduct from gross income in its income tax return for 757 1918 the excise taxes which had accrued for the year 1918 at the increased rates authorized by the Revenue Act of 1918. By the same process of reasoning I think that it should be held that petitioner is entitled to deduct the additional salary for its president authorized by the petitioner's board of directors during and for the taxable year to the extent of $2,400. The Reconstruction Finance Corporation did not authorize any additional payment of salary to the petitioner's treasurer for the taxable year until October 11, 1937. The additional salary of $600 was paid to the treasurer on June 9, 1938. I think, however, that under the principle of the cases above cited it must be held that the additional salaries voted to the petitioner's president and treasurer for and during the taxable year should be allowed as deductions from the gross income of the taxable year to the extent approved by the669 Reconstruction Finance Corporation. They were not expenses of the year in which the payments were made. 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. * * * ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623815/	Garfield Leichter v. Commissioner. Rose Leichter v. Commissioner.Leichter v. CommissionerDocket Nos. 20357, 20358.United States Tax Court1950 Tax Ct. Memo LEXIS 121; 9 T.C.M. (CCH) 690; T.C.M. (RIA) 50197; August 15, 1950121 Held, there did not exist for income tax purposes during the years involved a valid partnership between petitioners and their minor son. Jules E. Kohn, Esq., 1107 Commerce Bldg., Kansas City 6, Mo., for the petitioners. George E. Gibson, Esq., for the respondent. HILL Memorandum Findings of Fact and Opinion Respondent determined deficiencies in petitioners' income taxes as follows: Docket No.19431944194520357Garfield Leichter$2,353.38$4,030.35$5,190.5920358Rose Leichter3,549.814,605.055,481.34The proceedings122 were duly consolidated at the hearing. Petitioner, Garfield Leichter, will hereinafter be referred to as petitioner. The only issue is whether petitioners' minor son, Earl, was, for Federal tax purposes, a partner with petitioners in their ladies' ready-to-wear business during the years 1943, 1944 and 1945. Findings of Fact The petitioners are husband and wife and reside in Wichita, Kansas. Their returns for the period involved herein were filed with the collector of internal revenue at Wichita, Kansas. Since 1931 petitioners have been engaged in the ladies' ready-to-wear business in Wichita, owning and operating a highly specialized retail shop known as "Garfield's". The petitioners had two sons. The older son, Erwin, was born in April 1927, and the younger, Earl, was born November 9, 1930. Petitioners had the natural expectation that their sons would come into the business at some time and eventually take over the operation of it. Petitioners began early to identify their sons with the business. In 1937 the foyer of their new store contained the permanent impression of the hands of the father, mother and two sons together with the names of each. This insignia was used in123 advertising material and on business cards. The initials of petitioners and their sons appeared on the gift seals used by the business. Pictures of the boys, together with those of petitioners, were used in newspaper advertising. In a newspaper advertisement on Easter of 1940, petitioner wrote a letter to his sons expressing his intention and expectation of having them come into the business at some future time. In March 1942 Erwin died. Sometime in 1942 or early 1943 petitioners took Earl to Chicago for an aptitude examination and were advised that he was best fitted for art work and cartooning. This did not fit into petitioners' plans for Earl. They hoped that he would eventually come into the business and wanted his education and training directed toward that end rather than in the art field. From 1939 to June 30, 1943, inclusive, the profits from petitioners' business had been increasing steadily and substantially, and consequently so had the petitioners' income tax liabilities. As of July 1, 1943, the petitioners signed an instrument designated "Assignment" as follows: "The undersigned, Garfield Leichter and Rose (Roslynd) Leichter, of Wichita, Sedgwick County, Kansas, 124 being equal co-owners and partners in the business of selling ladies' ready-to-wear, etc., which business is transacted under the trade name and style of Garfield's at Market and William Streets, Wichita, Sedgwick County, Kansas, do hereby assign, transfer, set over, and deliver to their son, Earl Martin Leichter, an undivided one-third interest in said business, its assets, trade name, and goodwill, and they do each retain and keep an undivided one-third interest. "This assignment, transfer, and gift of a one-third interest in said business known as 'Garfield's' is made without reservation, and is irrevocable. "IN WITNESS WHEREOF, we have executed this instrument this 1st day of July, 1943. (Signed) Garfield Leichter "Garfield Leichter (Signed) Rose Leichter "Rose (Roslynd) Leichter" Petitioners' books of account, which had theretofore reflected a two-way partnership between them, were closed as of June 30, 1943, the capital account showing a closing balance of $95,977.53. As of July 1, 1943, the books were reopened and three capital accounts were set up in the names of Garfield Leichter, Rose Leichter, and Earl Leichter. Each account showed a credit balance of $31,992.51, 125 making a total for the three of $95,977.53. Three drawing accounts were also set up in the names of the parties. With the exception of this change on the books, the business was operated from July 1, 1943, through December 31, 1945, by the two petitioners in the same manner as they had operated it theretofore. In December 1943 petitioner consulted Louis Grieb, the accountant who prepared all of petitioners' income tax returns, relative to the filing of a declaration of his estimated income tax liability. In the course of this consultation Grieb advised him that the alleged partnership agreement should be reduced to writing. Thereafter he consulted Harold Zelinkof, an attorney of Wichita, who made the further suggestion that a legal guardian be appointed for the minor son, Earl. Pursuant to Zelinkof's suggestion, steps were taken to have petitioner Rose Leichter appointed guardian for Earl, and on December 21, 1943, letters of guardianship appointing her "Guardian of the estate of Earl Martin Leichter, a minor person" were issued by the Probate Court of Sedgwick County, Kansas. Among the assets listed in the inventory filed with the Probate Court were: One-third interest in Garfield'sWomen's wear, Market and Will-iam Street, Wichita, Kansas, in-cluding trade name, good will,etc.Irrevocable gift dated July 1, 1943by Garfield Leichter and Rose(Roslynd) Leichter, co-partnersand father and mother of saidminor.$31,992.50126 Rose Leichter is still the legal guardian of Earl M. Leichter. Also on December 21, 1943, petitioner and Rose Leichter individually and Rose Leichter as guardian of the estate of Earl M. Leichter, a minor, signed an instrument designated "Partnership Agreement" which had been drafted by Zelinkof. That instrument provided inter alia as follows: "WHEREAS said Garfield Leichter and Rose (Roslynd) Leichter, parents of Earl Martin Leichter, aware of the uncertainties of life, and desiring that their son, Earl Martin Leichter have his own estate, did on the 1st day of July, 1943, give to their son, Earl Martin Leichter, by irrevocable gift and assignment as evidence thereof, a one-third interest in said business known as GARFIELD'S, * * * "WHEREAS said Garfield Leichter and Rose (Rosylnd) Leichter deemed it to the best interests of said son, Earl Martin Leichter, that his estate be administered under the jurisdiction of the Probate Court of Sedgwick County, Kansas, did on the 21st day of December, 1943, petition said Court for the appointment of a Guardian of the estate of Earl Martin Leichter, a minor, and on said day the Court did appoint the said Rose (Roslynd) Leichter as Guardian127 of the estate of said Earl Martin Leichter, a minor, with the consent of Garfield Leichter and said Rose (Roslynd) Leichter did then and there qualify as said Guardian and * "NOW THEREFORE, GARFIELD LEICHTER, ROSE (ROSLYND) LEICHTER, and ROSE (ROSLYND) LEICHTER, GUARDIAN of the Estate of EARL MARTIN LEICHTER, a Minor, mutually agree * * * * "MANAGEMENT AND CONTROL: The management of said partnership shall at all times be vested equally in each of said partners. (a) It is mutually agreed that Garfield Leichter and Rose (Roslynd) Leichter are to receive the sum of $500 respectively, per month, or such other amounts as shall be agreed upon, for their services in said business, during the minority of their minor son, Earl Martin Leichter, and said Earl Martin Leichter shall receive for his services in said business, actually performed, an amount, to be agreed upon, commensurate with his experience and service rendered. It being understood and agreed that as said Earl Martin Leichter grows older his services will be enhanced in value. (b) It is further agreed that the profits, if any, after deducting all operating expenses, including salaries, a depreciation128 reserve, and tax reserve, if any, is to be divided equally among said three partners, Garfield Leichter, Rose (Roslynd) Leichter and Rose (Roslynd) Leichter, Guardian of the Estate of Earl Martin Leichter, a minor, and after his minority, with him as one handling his own affairs." * * On July 1, 1943, Earl was 12 years old. During that year he was in his last year of grade school at Wichita. During the next two years, 1944 and 1945, he was in his first two years of high school at Pembroke Country Day School, Kansas City, Missouri. At the time of the hearing he was in his senior high school year at the latter school. Upon graduation he intended to enter New York University School of Retailing for a 2 to 4-year course. During the period July 1, 1943, to December 31, 1945, no amount was paid to Earl for services by Garfield's. He did not work at the store, but went there during vacation and was introduced to customers. He accompanied his parents on several buying trips to New York. He observed the advertisements of several stores in the Kansas City and Wichita newspapers, and sometimes sent advertisements which interested him to his parents with notations. He read some articles129 on store management and advertising and display. All of this was done with the idea of preparing himself to work at Garfield's in the future when he had completed his education. It was the intention of petitioners and their son, Earl, that the latter would "come into the business" when he had completed his college training. The petitioners did not really and truly intend to join together with their minor son in the present conduct of their ready-to-wear business known as "Garfield's" during the taxable periods involved. Opinion HILL, Judge: Our ultimate finding of fact that the petitioners did not really and truly intend to join together with their minor son in the present conduct of Garfield's during the taxable years involved disposes of the only question before us. That finding was based upon the following considerations. The Supreme Court in , stated that in cases of the type before us the basic question is "* * * whether, considering all the facts - the agreement, the conduct of the parties in execution of its provisions, their statements, the testimony of disinterested persons, the relationship of the parties, their130 respective abilities and capital contributions, the actual control of income and the purposes for which it is used, and any other facts throwing light on their true intent - the parties in good faith and acting with a business purpose intended to join together in the present conduct of the enterprise." The Supreme Court also said: " * * The intent to provide money, goods, labor, or skill sometime in the future cannot meet the demands of §§ 11 and 22 (a) of the Code that he who presently earns the income through his own labor and skill and the utilization of his own capital be taxed therefor. The vagaries of human experience preclude reliance upon even good faith intent as to future conduct as a basis for the present taxation of income." An examination of all the facts here point irresistibly to the conclusion that Earl was to become associated with the firm as a partner at some date in the future and that he was not to enter into the present conduct of the business during the taxable periods involved. There was no change, except by way of book entries, in the way in which the business was conducted after the formation of the alleged partnership between petitioners and Earl on131 July 1, 1943. Earl contributed little or no services to the business during any of the years in question. On July 1, 1943, the date of the signing of the agreement, Earl was only 12 years old and in his last year of grade school. During 1944 and 1945, the other two years in question, Earl was in his first and second years of high school in Kansas City, Missouri, and at the time of the hearing he was in his last year of high school. He testified that upon graduation from high school he intended to enter New York University School of Retailing for a 2 or 4-year course and that at the completion thereof he intended to work at Garfield's. The agreement itself shows that the petitioners anticipated little or no services from Earl. It provided that petitioners were to receive $500, respectively, per month, or such other amounts as agreed upon for their services and that Earl would receive an amount to be agreed upon commensurate with his experience and services rendered. The agreement further stated that it was understood that Earl's services will be enhanced in value as he grows older. So far as the record shows Earl was paid nothing during the years in question. That petitioner did132 not intend that his son was to join in the present conduct of the business is established by the following testimony: "Q. Mr. Leichter, was it your intention - Do I understand you to have testified you intend that at the completion of his schooling Buddy would come into your business? "A. Yes, sir. "Q. What school is he in now? "A. Pembroke Country Day School. "Q. What year is it for him? "A. Senior year. "Q. In high school? "A. High school; that is right. "Q. Where is he going to college next year? "A. He is planning on going to NYU's school of retailing. "Q. Is it your and his intention he will come into the business at the completion of his college training? "A. Yes, sir." Petitioner Rose Leichter's testimony was to the same effect. In addition, petitioner's son had no dominion or control over the share of the partnership capital standing in his name, nor in any of its profits. Petitioner Rose Leichter, as legal guardian, exercised complete control over such property. Neither did Earl participate in any management or control of the business. His role in the firm was one only of passive acquiescence to the will of the petitioners. In ,133 affirmed , we said: "Petitioner in the instant case may have expected that his sons would eventually take over and run the business, as do fathers in many businesses. But the fact remains that the sons did not actually render services during the taxable years in question which would make them partners in a tax sense. Actually, the war did not affect the younger son's capacity to contribute services to the partnership at all during those years, 1942 and 1943, since he was not in the Navy until 1944; and the older son did not enter the Navy until mid-1943. Moreover, in view of petitioner's undoubted motive of tax-saving in setting up the partnership when he did, and in views of the extreme youth even of the older son and of the fact that the father was only thirty-nine at the time of the formation of the partnership, and in view of the experience and dominant role of the father in the business, it is highly doubtful whether the older son would have rendered such services during the latter half of 1943 even if a war had not intervened." See also , , certiorari134 denied . It follows that respondent's determination must be sustained. Decisions will be entered for respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623816/	Marvin Belt and Jacqueline Belt v. Commissioner.Belt v. CommissionerDocket No. 2330-67.United States Tax CourtT.C. Memo 1971-253; 1971 Tax Ct. Memo LEXIS 81; 30 T.C.M. (CCH) 1094; T.C.M. (RIA) 71253; September 29, 1971, Filed George A. Jones, for the petitioners. Ralph F. Keister, for the respondent. FEATHERSTONMemorandum Findings of Fact and Opinion FEATHERSTON, Judge: Respondent determined a deficiency in petitioners' income tax for 1963 in the amount of $928.86. The issues for decision are as follows: (1) Whether Marvin Belt made cash payments in the amount of $31,950 to one of his customers during 1963 and thereby reduced his gross receipts from that customer82 in that amount; and (2) Whether respondent correctly determined the deduction for depreciation allowable for an automobile purchased by Marvin Belt in November 1963. Findings of Fact Marvin Belt (hereinafter referred to as petitioner) and Jacqueline Belt, husband and wife, were legal residents of Allen Park, Michigan, at the time their petition was filed. They filed a joint Federal income tax return for 1963 with the district director of internal revenue, Detroit, Michigan. During 1963, and for a number of years prior and subsequent thereto, petitioner engaged in the truck leasing business as a sole proprietor under the name of Marvin Belt Company. In this business, he leased tractors and semi-trailers to customers in the Detroit, Michigan, area. Among his customers were several beer, wine, and liquor distributors. Beginning in December 1960, petitioner began leasing tractors and semi-trailers to City Beverage Co., Inc. (hereinafter City Beverage), a beer distributor located in Pontiac, Michigan. City Beverage leased petitioner's equipment for the purpose of transporting Pabst and Blatz beer from the brewery in Milwaukee, Wisconsin, to its place of business in Pontiac, and83 returning the empty containers to the brewery in Milwaukee. For several years, City Beverage used the services of common carriers, including Wolverine Trucking Company (hereinafter Wolverine), for transporting its beer. During the 2-year period in which City Beverage used Wolverine's services - from May 1959 until May 1961 - City Beverage paid a rate of 25 cents per case for the transportation of beer and return of empty cases between Pontiac and Milwaukee. Rates charged by common carriers were regulated by the Interstate Commerce Commission (hereinafter ICC) and the cost of their services was ordinarily greater than the rental on leased equipment. When City Beverage used Wolverine's services, however, it did not incur any responsibilities for paying the drivers or carrying cargo or liability insurance. During the period in which City Beverage used Wolverine's trucks, friction developed between the former and ICC and Michigan Public Service Commission inspectors. This friction, along with the fact that leasing petitioner's trucks was cheaper, were the main reasons for City Beverage's decisions in 1960 and 1961 to lease petitioner's 1095 equipment rather than continue its arrangement84 with Wolverine. On December 19, 1960, petitioner and City Beverage signed a lease agreement covering one tractor and semi-trailer for a a 1-year period ending December 18, 1961. This lease provided for a rental charge of 21 cents per mile for the use of the tractor and semi-trailer unit. On May 13, 1961, however, petitioner and City Beverage entered into a new lease agreement covering the same tractor and semi-trailer and providing for a lease charge of 25 cents per mile. The rate of 25 cents per mile was approximately equal to a charge of 25 cents per case, based upon a customary load of 1,134 cases, when all additional costs absorbed by a lessee are taken into account. The two parties also entered into 5 additional lease agreements covering other tractors and semi-trailers on May 13, 1961, and providing for a rate of 25 cents per mile. The new leases covered a 1-year period running from the date of execution until May 12, 1962. Thereafter, from June 1961 until the latter part of 1964, when City Beverage ceased leasing trucks from petitioner, the two parties executed numerous leases for petitioner's equipment specifying a rate of 25 cents per mile for each tractor and semi-trailer85 unit. All these lease agreements contained substantially similar terms, differing mainly in the descriptions of equipment, periods covered, and the dates of execution. When City Beverage leased trucks from petitioner, it incurred responsibility for paying the drivers (including employment taxes, workmen's compensation insurance, etc.), and for providing the necessary liability and cargo insurance. During 1963, drivers of the equipment leased by City Beverage from petitioner were paid gross wages of $72.50 per round trip between Milwaukee and Pontiac, Michigan. Although the lease agreements executed on May 13, 1961, and subsequent thereto, provided for a rate of 25 cents per mile, petitioner and Harold A. Cousins (hereinafter Cousins), one of the partners of City Beverage, agreed that the actual rate for leasing the equipment would be the equivalent of 21 cents per mile. The difference between the lease rate of 25 cents and the agreed upon rate of 21 cents would be paid in cash by petitioner to City Beverage at the time the former submitted invoices for payment. City Beverage sent petitioner a monthly schedule of orders to be picked up at the brewery in Milwaukee. Approximately86 once a week, petitioner would determine the number of loads picked up and delivered, figure the lease charge for the use of his trucks on the equivalent of 25 cents per mile, and prepare an invoice for this lease charge. He would then compute the difference between the lease charge and the agreed upon charge of the equivalent of 21 cents per mile and would send this difference in cash to City Beverage along with the invoice based upon the lease charge. City Beverage, upon receipt of the invoice, would pay it in full. As a result of the cash payment by petitioner he actually received less net rentals for his trucks than were evidenced by his invoices and the checks received from City Beverage. During 1963, he had gross receipts from leasing trucks to City Beverage of $194,948 rather than $226,898 evidenced by the invoices. The difference represented the cash payments made by petitioner to City Beverage. The ICC approved tariffs prescribing a uniform rate for common carriers hauling between Milwaukee and Pontiac, Michigan. While the ICC had no direct control over the rates charged by lessors such as petitioner, it had responsibility for enforcing safety regulations. City Beverage signed87 the leasing contracts with petitioner in May 1961 specifying a rate of 25 cents per mile, because Cousins believed this would avoid further friction with the ICC and Michigan Public Service Commission inspectors. During the years 1960 through 1964, petitioner also leased tractors and semi-trailers to other beer, wine, and liquor distributors for the purpose of transporting products from the manufacturers to these dealers. The following table sets forth various leases entered into by petitioner, showing the date of each lease, the name of the lessee distributor, and the lease charge for petitioner's equipment: DateLesseeLease ChargeMay 2, 1960Century Importers, Inc.21 cents/mileDec. 19, 1960West Side Beverage, Inc.21 cents/mileMay 1, 1961Century Importers, Inc.21 cents/mileMar. 13, 1963L & L Wine & Liquor Corp21 cents/mileMar. 27, 1963Foran Beverage21 cents/mile 1096 In his 1963 joint income tax return, petitione 1096 In his 1963 joint income tax return, petitioner reported gross receipts of $276,206.88 of which $226,898 represented gross receipts from City Beverage. He also deducted depreciation of $2,133.33 for the88 newly purchased 1964 Lincoln Continental (acquired on November 15, 1963, at a cost of $6,400). In his notice of deficiency issued February 17, 1967, respondent determined that petitioner had deducted excessive depreciation, and allowed depreciation of $520.89 based upon a useful life of 4 years (double declining balance method) from November 1, 1963. On May 15, 1967, the petition herein was filed. On April 18, 1967, petitioner filed an "amended" joint Federal income tax return for 1963 with the district director of internal revenue, Detroit, Michigan. The amended return reflected gross receipts of $244,256.88, of which $194,948 represented gross receipts from City Beverage. An amended petition herein was filed on July 8, 1968. Ultimate Findings of Fact (1) Petitioner made cash payments in the amount of $31,950 to City Beverage during 1963 with the result that his gross receipts for 1963 from leasing equipment to City Beverage were $194,948 as reported in his "amended" joint Federal income tax return for that year. (2) Deduction for depreciation on a 1964 Lincoln Continental was properly determined by respondent in his notice of deficiency. Opinion The principal issue89 is whether petitioner made cash payments to City Beverage during 1963 in the amount of $31,950. Petitioner contends that he did, with the result that his receipts from his truck leasing business have been overstated by that amount. He asserts that, although all his written contracts with City Beverage executed after May 13, 1961, called for him to be paid at the rate of 25 cents per mile, he was in fact paid at a net rate of only approximately 21 cents per mile, and the difference of 4 cents was refunded, rebated, or repaid to City Beverage. Respondent denies that any refunds, rebates, or repayments of any kind were made and urgently insists that petitioner realized gross truck rental income to the full extent of 25 cents per mile. Petitioner has shown that, on December 19, 1960, he and City Beverage executed an agreement calling for a leasing charge of 21 cents per mile for a 1-year period. Less than 6 months later, petitioner testified, Cousins told him that he had been experiencing difficulties with an ICC inspector and with a representative of the Michigan Public Service Commission, and that he was concerned that his troubles would persist if he leased trucks at rates which90 were lower than common carrier rates. Petitioner testified that he and Cousins worked out an arrangement whereby City Beverage would sign contracts calling for payments of 25 cents per mile (roughly the equivalent of the common carrier rate) and would pay that amount but petitioner would refund or rebate the difference of 4 cents per mile. Cousins vehemently denies that any such refunds or rebates were made and insists that City Beverage paid the full 25 cents per mile rental charge. Petitioner argues that an examination of the precise wording of Cousins' testimony shows that Cousins did not deny that City Beverage (as distinguished from Cousins personally) received cash payments from him. However, we think the testimony of petitioner and that of Cousins are contradictory. We are required to resolve the conflict on the basis of the record before us. While the record is not wholly satisfactory, we have concluded that the preponderance of the evidence presented to us supports petitioner's contention. To support his position, respondent cites Cousins' testimony, petitioner's invoices of charges computed by using the 25-cent rate, the payments of those invoices by City Beverage, and91 the absence of business documents substantiating petitioner's alleged cash payments or refunds. Respondent also points out that petitioner's 1963 income tax return did not reflect the payments, and an amended return containing computations indicating that the payments were made was not filed until after this proceeding was instituted. Petitioner testified that, along with the invoices computed on the basis of a charge of 25 cents per mile, he sent cash to City Beverage in amounts equivalent to 4 cents per mile. He introduced worksheets which he testified were prepared for each invoice reflecting the computations of the cash payments; these computations reflected "refunds" computed on a per case rather than a per mile basis, and the "refunds" approximate 4 cents per mile. While we recognize that the evidentiary weight of these papers 1097 can be no greater than petitioner's own credibility, they provide some confirmation of his testimony. He also introduced the testimony of a bank teller who confirmed that during the period in controversy and until the latter part of 1964, when the repayments to City Beverage ceased, petitioner frequently withdrew substantial amounts of cash in92 bills of large denominations. Petitioner Jacqueline Belt testified that she frequently visited the bank, obtained the necessary cash, and mailed it to City Beverage along with the invoices. Further support for petitioner's position lies in the fact that the 25-cent per mile rental rate called for in May 1961 does not appear to be much, if any, less expensive than the common carrier rates, whereas Cousins testified that City Beverage terminated its relationship with Wolverine in order to reduce costs. Prior to entering into these leases, City Beverage had been served by Wolverine, which charged a common carrier rate of 25 cents per case. Under the May 1961 lease agreements, City Beverage agreed to pay petitioner 25 cents per mile, which the testimony indicates was equivalent to 24 cents per case (after adjustments for tolls and the driver's salary), 1 and City Beverage became responsible for paying other expenses not incurred when served by common carriers. These additional expenses include such items as cargo insurance, possible fines and penalties, costs incidental to the drivers' salary such as employment taxes, workmen's compensation, health insurance, and the like. Although93 the amounts of these expenses were not shown precisely, it appears that they offset most, if not all, of the difference between the common carrier and the 25 cents per mile rates. In light of this evidence, we are not convinced that the 25-cent per mile rate was, in fact, less expensive for City Beverage than the common carrier rate. Also, petitioner and City Beverage entered into a 1-year lease at the 21-cent per mile rate covering one tractor and semi-trailer unit in December 1960; yet this lease was replaced by one calling for 25 cents per mile less than 6 months later, in May 1961. When94 asked about this substantial increase, Cousins was unable to give any satisfactory explanation except to say petitioner's costs had increased. Why City Beverage would forego its contract right to service at the lower rate for the full year is unexplained. Cousins admitted that he had trouble with at least one ICC inspector and that he, Cousins, had refused to allow the inspector on the premises of City Beverage withou a court order. He further admitted that his trouble with this inspector was one reason for City Beverage's shift from using common carriers to leasing petitioner's trucks, and he was evasive when pressed for reasons other than the alleged disparity in costs, discussed above. This proven friction between the ICC and City Beverage provides some corroboration for petitioner's testimony. Petitioner also introduced several other contracts entered into by him and other beer distributors covering the period from 1960 to 1963 and later periods, and all of them specified a rate of 21 cents per mile. These contracts are in substantially the same form as the City Beverage contracts, except for the rate provision. The 21-cent per mile rate appears clearly to have been petitioner's95 customary rate. Other witnesses, who were engaged in the trucking business or were otherwise familiar with leasing rates, testified generally that other truck lessors' charges were within the range of 21 cents per mile or even less. Respondent's only answer to this evidence is that each such contract is separately negotiated. This is true, but it is not a satisfactory answer. It does not explain why City Beverage, which used most of petitioner's equipment, was charged a higher rate than other lessees. Respondent has noted that petitioner's original joint income tax return for 1963 did not reflect the cash payments to City Beverage; that petitioner did not amend his return to correct this omission until 1967; and that this issue was not raised in the present proceeding until July 1968, when petitioner filed an amended petition. Petitioner answers this argument by pointing to evidence that his business records were disorganized and unsystematic, and that he did not discover the error until shortly before the corrections were made. He maintained no journals or ledgers; his records consisted mainly of his check stubs, 1098 invoice copies, and similar papers. One of petitioner's former96 secretaries testified that, when she started working for him, his records were in very poor condition; for example, she found cash in old envelopes and uncashed checks over one year old in amounts as much as $450 among piles of papers in his offices. Two of these stale checks which failed to clear the bank when presented for payment were introduced in evidence to corroborate this testimony. Furthermore, petitioner's original 1963 tax return was prepared by his secretary who had no professional experience preparing tax returns, and she did not go into this matter. We think petitioner's delays in examining the data underlying the figures in his return and amending his petition are consistent with the manner in which he did the other paperwork connected with his business. Furthermore, the testimony indicates that the records which he kept were in such condition that the errors in his returns would not likely be discovered until he was stimulated to a re-examination of them by the Internal Revenue Service audit. As to the depreciation issue, in his tax return for 1963, petitioner claimed a deduction for depreciation of an automobile acquired on November 15 of that year in the amount97 of $2,133.33, which was one-third of the cost. Respondent allowed a deduction for depreciation in the amount of $520.89, computed under the double declining balance method on the basis of a useful life of 4 years. Petitioner here claims that depreciation should be computed on the basis of a 6-year useful life with an additional allowance for first year depreciation under section 179, Internal Revenue Code of 1954, depreciation for the two months (November 1 to December 31) in 1963, an investment credit, and a separate deduction for the cost of tires, license, and title. There is no ground on which petitioner's position on this issue can be sustained. Section 179(a) provides that in the case of "section 179 property," the term "reasonable allowance" for depreciation includes an allowance, for the first taxable year for which a deduction is allowable, of 20 percent of the cost of such property. Section 179(d) defines "section 179 property," and one of the requirements is that it be tangible personal property "with a useful life (determined at the time of such acquisition) of 6 years or more." The only evidence of any kind on this issue is a single paragraph in*98 the supplemental stipulation reciting that petitioner "purchased a 1964 Licoln automobile on November 15, 1963, at a price of $6,400.00." Thus, petitioner has failed to prove that his new automobile had a useful life of 6 years. Nor is there any evidence as to the cost of the tires, license, and title. On this issue, respondent's position is sustained. Decision will be entered under Rule 50. Footnotes1. The testimony is that 1,134 cases comprised a load; at 24 cents per case, the cost of a round trip load was $272.16. The round trip from Pontiac to Milwaukee was 774 highway miles; at the rate of 25 cents per mile, the cost of the round trip was $193.50 plus $72.50 for the driver plus $6 for tolls, a total of $272. These latter figures, computed on a mileage basis, do not take into account other costs borne by common carriers which a lessee was required to absorb, such as the cost of cargo and liability insurance, social security taxes on the drivers' pay, workmen's compensation, etc.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623817/	RICHARD E. BRATTIN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentBrattinDocket No. 5034-91United States Tax CourtT.C. Memo 1992-625; 1992 Tax Ct. Memo LEXIS 659; 64 T.C.M. (CCH) 1144; October 26, 1992, Filed 659 Decision will be entered under Rule 155. Richard E. Brattin, pro se. For Respondent: John J. Boyle. WRIGHTWRIGHTMEMORANDUM FINDINGS OF FACT AND OPINION WRIGHT, Judge: Respondent determined deficiencies in and additions to petitioner's Federal income tax as follows: Additions to TaxSec.Sec.Sec.Sec.YearDeficiency6651(a)6653(a)(1)6653(a)(2)66541982$ 7,170$ 1,559$ 3591$ 584.1319838,3701,8364191432.84198410,8712,3215441558.59Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 in effect for the years at issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. After concessions by both parties which will be given effect in the Rule 155 computation, the issues for decision are: (1) Whether petitioner's income tax liability for taxable years 1982, 1983, and 1984 should be660 computed using the rates for married persons filing separately or computed using the rates for married persons filing a joint return. We hold that respondent correctly used the rates for married persons filing separately to calculate petitioner's tax liability for taxable years 1982, 1983, and 1984. (2) Whether petitioner is liable for additions to tax under sections 6651(a)(1), 6653(a), and 6654 for taxable years 1982, 1983, and 1984. We hold that he is. FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. The stipulation of facts and attached exhibits are incorporated herein by this reference. Petitioner resided in Columbus, Ohio, at the time he filed the petition in this case. During the years in issue, petitioner was married and had four children. In 1981, petitioner met a person who told him that taxes were illegal and that filing tax returns was not required. It was petitioner's misguided reliance on that statement that led him down the same beaten path of many tax protesters before him. Neither petitioner nor his wife has at any time filed Federal income tax returns for taxable years 1982, 1983, or 1984, and on December 20, 1990, respondent661 sent petitioner a statutory notice of deficiency wherein respondent determined petitioner's filing status to be married filing separately for each of those taxable years. For taxable year 1982, petitioner received $ 45,409.42 as wages from the Ohio Bell Telephone Co., and $ 105 from interest and dividends. Petitioner had itemized deductions totaling $ 12,249.46, and a nonbusiness bad debt deduction in the amount of $ 1,050 for 1982. For taxable year 1983, petitioner received $ 38,678.65 as wages, and $ 96 from interest and dividends. Also in taxable year 1983, petitioner incurred a loss from his sole proprietorship known as Slick 50 in the amount of $ 3,528. In this same taxable year, petitioner realized a long-term capital loss of $ 1,500, had itemized deductions totaling $ 10,687.57, and had a nonbusiness bad debt deduction in the amount of $ 500. For taxable year 1984, petitioner received $ 44,253.60 as wages, and received $ 1,066 from interest, dividends, and annuities. Petitioner also realized a short-term capital gain of $ 3,552 derived from the sales proceeds of stocks and bonds. In addition, for taxable year 1984, petitioner incurred a business loss with respect to662 Slick 50 in the amount of $ 1,750, had itemized deductions totaling $ 11,049.92, and had a nonbusiness bad debt deduction in the amount of $ 900. In addition, for taxable year 1982, petitioner is entitled to one personal exemption for himself and five additional exemptions for his wife and four children. For taxable years 1983 and 1984, petitioner is entitled to one personal exemption for himself and four additional exemptions for his wife and three children. OPINION The first issue for our consideration is whether petitioner's income tax liability should be computed for taxable years 1982, 1983, and 1984 using the rates for married persons filing separately or computed using the rates for married persons filing a joint return. Respondent determined that petitioner had unreported income for each of these years. Respondent's determinations are presumed correct, and petitioner bears the burden of proving that such determinations are erroneous. Rule 142(a); . Petitioner failed to file Federal income tax returns for the taxable years 1982, 1983, and 1984. This Court has determined that if a taxpayer has663 not filed a return by the time his case is submitted for decision, it is too late for the taxpayer to file a joint return and elect joint filing status. ; 1 see , affd. as to this issue . Petitioner did not properly elect joint filing status for the years in issue because he failed to elect by the only permissible method, i.e., filing joint income tax returns for those years. In the instant case, petitioner has not filed returns, joint or otherwise, for the taxable years in issue. Accordingly, we hold that respondent correctly used the rates for married persons filing separately to calculate petitioner's tax liability for taxable years 1982, 1983, and 1984. The second issue for our consideration is whether664 respondent correctly determined the additions to tax under sections 6651(a)(1), 6653(a), and 6654 for taxable years 1982, 1983, and 1984. The burden of proof is on petitioner to establish that he is not liable for these additions to tax. ; . Section 6651(a)(1) imposes an addition to tax of 5 percent of the amount required to be shown as tax on a return for each month or fraction thereof for which a return is not filed, not to exceed 25 percent in the aggregate. The addition to tax under this section does not apply if the taxpayer establishes that the failure to timely file was due to reasonable cause and not due to willful neglect. The burden of proof is on petitioner to show that the failure is due to reasonable cause and not willful neglect. . Whether the late filing of an income tax return is due to reasonable cause or willful neglect is a question of fact. ,665 affg. on this issue . In the instant case, petitioner failed to file returns for 1982, 1983, and 1984 and has presented no evidence to meet his burden of proving that his failure to timely file was due to reasonable cause and not willful neglect. The additions to tax under section 6651(a)(1) are sustained. Section 6653(a)(1) provides for an addition to tax equal to 5 percent of the underpayment if any part of the underpayment is due to negligence or an intentional disregard of rules or regulations. Section 6653(a)(2) provides for an additional amount to be added to the addition to tax under section 6653(a)(1) equal to 50 percent of the interest payable on the portion of the underpayment attributable to negligence or intentional disregard of rules or regulations. For purposes of section 6653(a), negligence is defined as a lack of due care or failure to do what a reasonable and ordinarily prudent person would do under the circumstances. . Respondent's determination that petitioner's underpayment was due to negligence is presumptively correct and must stand666 unless the taxpayer can establish that he was not negligent. , affg. . Petitioner failed to file Federal income tax returns for taxable years 1982, 1983, and 1984 and has put forth no evidence sufficient to satisfy his burden of proof. Accordingly, we find that petitioner negligently disregarded the rules and regulations. The additions to tax under section 6653(a) are sustained. Respondent also determined an addition to tax under section 6654 for underpayment of estimated tax. Where payments of tax, either through withholding or by the payment of estimated tax during the course of the year, do not equal the percentage of total tax liability required under the statute, imposition of the addition to tax under section 6654 as to the years at issue is mandatory unless petitioner can bring himself within certain exceptions. . Petitioner did not raise the issue of qualification for one of the statutory exceptions provided in section 6654 and has presented no evidence indicating*667 that any of these exceptions are applicable. Accordingly, the additions to tax under section 6654 are sustained. Decision will be entered under Rule 155.Footnotes1. 50 percent of the interest due on $ 6,234 for 1982, on $ 7,345 for 1983, and on $ 9,282 for 1984.↩1. See .↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623818/	ABRAHAM LEVINE AND PHYLLIS LEVINE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentLevine v. CommissionerDocket No. 17978-80.United States Tax CourtT.C. Memo 1983-342; 1983 Tax Ct. Memo LEXIS 443; 46 T.C.M. (CCH) 426; T.C.M. (RIA) 83342; June 13, 1983. Abraham Levine and Phyllis Levine, pro se. Brian Kawamoto, for the respondent. 444 SHIELDSMEMORANDUM FINDINGS OF FACT AND OPINION SHIELDS, Judge: Respondent determined a deficiency of $954 in petitioners' income tax for 1978. Respondent has now conceded that petitioners are entitled to deduct expenses totaling $364.69 which he previously disallowed. These were paid for fares, telephone calls, travel, parking, and teaching aids. The issues remaining for our decision are whether petitioners are entitled to deductions in excess of amounts determined by respondent for (1) travel and other business expenses, (2) sales taxes, and (3) professional dues and fees. 1FINDINGS OF FACT Most of the facts have been stipulated and are found accordingly. The stipulation of facts and exhibits attached thereto are incorporated herein. Petitioners Abraham Levine and445 Phyllis Levine resided in California at the time they filed their petition in this case. During 1978 he was a professor of sociology at El Camino Community College and she was a social worker for the County of Los Angeles. They used the cash basis of accounting in the preparation of their 1978 return. From April 12 through April 15, 1978, Mr. Levine attended a conference in Spokane, Washington, sponsored by the Pacific Sociological Association. From November 15 through November 19, 1978, he attended a conference in Portland, Oregon, sponsored by the American Sociological Association Teaching Project. From September 4 through September 8, 1978, the American Sociological Association held a conference in San Francisco. Mr. and Mrs. Levine and their minor daughter, Georgiana, left Los Angeles by car on August 28, 1978, in order to attend this conference. They drove to San Francisco along an indirect, coastal route rather than taking either of two more direct inland routes, one of 377 miles and the other of 418 miles. The family stopped at San Simeon for one night. While there Mr. Levine and Georgiana toured the Hearst Castle. They then drove to Monterey, arriving there on446 August 29, 1978. They stayed for three nights in Monterey, a coastal town, which has such attractions as California's first theater, Junipero Serra's landing place, the Stevenson House, the Casa Del Oro, the Old Custom House, and Monterey Beach. They also visited Carmel, an adjacent village located between Pebble Beach and Point Lobos, and next to the scenic route known as 17 Mile Drive. The Levines drove to Fremont on September 1, 1978. They stayed at Fremont until September 3. During their stay in Fremont, which is located approximately 50 miles from San Francisco, Mrs. Levine and the daughter visited Great America, a theme amusement park. On September 3, 1978, the family left Fremont and traveled to San Francisco, where Mr. and Mrs. Levine attended the American Sociological Association convention from September 4 through September 8, 1978. On the day the conference ended, the petitioners drove toward Los Angeles on the shortest inland route, stopped overnight in Bakersfield, and arrived in Los Angeles on September 9, 1978. Petitioners kept a telephone in their home during 1978, at a monthly cost, excluding long distance calls, of $10.40. Mrs. Levine was sometimes447 called at home as part of her employment as a social worker. However, she could also be contacted with a "beeper" which she carried at all times. During 1978, petitioners purchased a new car and some video equipment on which they paid state sales tax. They did not keep sales receipts for these or most other items which they purchased during 1978.Petitioners were members of various professional organizations during 1978. Mrs. Levine was also a member of a union in that year. Any fees that she paid to the union were deducted from her paycheck. She kept no record of the dues or fees which she paid. Respondent allowed deductions for travel and business expenses attributable to the three conferences as follows: Portland $329; Spokane $466; San Francisco $332.28. He also allowed a sales tax deduction of $828, and a deduction for professional fees and contributions of $235.He disallowed the deduction for the basic cost of the telephone service, but allowed a deduction for telephone expense in the amount of $6.64. OPINION Travel and Business Expenses(a) Spokane and Portland ConferencesIn general, taxpayers are entitled to deduct all ordinary and necessary business448 expenses paid or incurred during the taxable year, including traveling expenses while away from home in the pursuit of business. Section 162(a). 2 However, a taxpayer who seeks to deduct any traveling expenses under section 162, including meals and lodging while away from home, must be able to substantiate those deductions. Section 274(d).Typically, he must have documentary evidence of his expenses, such as receipts and a contemporaneous record, or some evidence corroborating his own statement. See section 1.274-5, Income Tax Regs.Respondent does not dispute that petitioners are entitled to deduct such expenses as they can substantiate for the conferences in Portland and Spokane. Petitioners have the burden of proving that they are entitled to deductions in excess of the amounts determined by respondent. Rule 142(a). 3 They have failed to satisfy their burden. Petitioners deducted $411 and $598 on their return for Mr. Levine's expenses while attending449 the conferences in Portland and Spokane. Their receipts totalled $286 for the Portland conference and $362.67 for the Spokane conference. Respondent allowed them deductions of $329 and $466. Petitioners have not introduced any records which suggest they are entitled to deductions exceeding $286 and $362.67 for these two conferences.Their testimony was devoid of specific details as to any additional expenses. They produced no evidence to corroborate their claims that they incurred expenses greater than those which they substantiated. Respondent, however, has generously allowed petitioners to take deductions in greater amounts. Accordingly, we sustain respondent's determination.In their brief, petitioners have attempted to substantiate additional expenses by recreating the details of the trip from memory. Under the rules of the Court, ex parte statements made in briefs do not constitute evidence and cannot be considered. Rule 143(b). See also Wisconsin Butter & Cheese Co. v. Commissioner,10 B.T.A. 852">10 B.T.A. 852, 854 (1928). Moreover, being the uncorroborated statements of the petitioners they would not satisfy the substantiation requirements of section 274(d) even450 if they were considered. (b) Business Nature of Trip to San FranciscoPetitioners deducted $1,244 in expenses for attending a five-day conference in San Francisco. Included in this amount was the cost of a six-day trip, taken principally along the California coast, which the petitioners embarked upon one week before the conference was scheduled to commence. Respondent allowed $332.28 of the deduction for 800 miles of travel at 17" per mile and for their expenses in San Francisco, including the cost of the meals and lodging for their daughter. However, respondent disallowed the cost of the trip up to San Francisco, including the visits to San Simeon, Monterey, Fremont and Bakersfield. As mentioned above, section 162 allows a taxpayer to take deductions for the expenses he incurs while "carrying on any trade or business." In contrast, a taxpayer may not take deductions for his personal, living, or family expenses. Section 262. Any "[e]xpenses incurred in traveling away from home (which include transportation expenses, meals, and lodging) * * are not deductible unless they qualify as expenses deductible under section 162 * * ." Section 1.262-1(b)(5), Income Tax Regs.451 In particular, the regulations under section 162 specify: (e) Travel away from home. (1) If an individual travels away from home primarily to obtain education the expenses of which are deductible under this section, his expenditures for travel, meals, and lodging while away from home are deductible. However, if as an incident of such trip the individual engages in some personal activity such as sightseeing, social visiting, or expenses attributable to such personal activity constitutes nondeductible personal or living expenses and is not allowable as a deduction. If the individual's travel away from hoem is primarily personal, the individual's expenditures for travel, meals, and lodging (other than meals and lodging during the time spent in participating in deductible education pursuits) are not deductible. [Emphasis added.] Section 1.162-5(e)(1), Income Tax Regs.Respondent contends that the expenses which petitioners incurred while traveling up the California coastline during the week before the conference, and while stopping at Bakersfield on their return to Los Angeles, were personal expenses. Petitioners contend that these expenses were related to the conference. 452 Petitioners have the burden of proving that these expenses were not personal. Rule 142(a). See Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933). Petitioners have failed to sustain their burden. There are two direct routes to San Francisco from Los Angeles (Interstate 5 and United States 101). On either of these routes the distance between the cities is about 400 miles. If petitioners had traveled either of these routes at an average rate of fifty-five miles per hour, and had used two hours for delays, eating and rest stops, the journey between the cities would have taken about nine hours. Instead, petitioners spent six days, or one hundred forty-four hours travelling from Los Angeles to San Francisco. The petitioners themselves were able to complete the return trip in the evening of one day and the morning of the next. These facts strongly suggest that about 135 of the 144 hours which petitioners spent travelling from Los Angeles to San Francisco, or 94 percent, were for personal, rather than business, reasons. The places at which petitioners stopped and activities in which they participated on their trip up the coast convince us that the expenses which they incurred453 on this journey were personal in nature.They stayed at seaside towns in four of their overnight stops. They visited areas noted for scenic beauty. They toured Hearst Castle. They visited Great America, a theme amusement park. While Mr. Levine testified that the family stopped for three days in Monterey because he was ill, this does not make the visit to Monterey one for business. In sum, we are convinced that petitioners' six-day trip to San Francisco was undertaken for personal purposes. Accordingly, respondent's disallowance of these expenses is sustained. Sections 162, 262. On the return trip petitioners left San Francisco at about 6:00 p.m., shortly after the conference ended. They reached Bakersfield at 11:30 p.m., at which time Mr. Levine was tired and felt unable to drive any longer.They stayed overnight in Bakersfield and continued on to Los Angeles the next morning. Respondent contends that the expense of this overnight stay was also personal in nature.We disagree. It is unreasonable to expect petitioners to have driven until three o'clock in the morning, after leaving the conference at 6:00 p.m., in order to reach Los Angeles in one stretch. Their alternatives454 for the return trip were (1) to spend the night that the conference ended in San Francisco, and drive to Los Angeles the next day; or (2) leave San Francisco as they did after the conference ended and make an overnight stop before finishing the journey in the morning. Either alternative reasonably included an overnight stay. Under these circumstances the cost of the meals and overnight lodging in Bakersfield are deductible under section 162. Respondent's disallowance of these expenses is not sustained. nc) Telephone ExpensePetitioners deducted $176 as telephone expense on their 1978 return. Of this amount $124.80 was attributable to the monthly base rate of $10.40 for the telephone service in their home. The balance was apparently the cost of certain long distance calls. Respondent has conceded that petitioners are entitled to a deduction of $6.64. He contends that the remaining $169.36 was neither substantiated nor related to employment. Petitioners assert that the presence of the telephone was required by Mrs. Levine's employer. They testified that they would not have had the telephone in their home if Mrs. Levine's employer had not required it. They claimed455 that they made almost no use of the phone except for employment-related purposes. Thus, they argue that they are entitled to deduct one hundred percent of the yearly service charge as well as any additional charges for employment-related calls. We find that their claims are refuted by their own evidence. Petitioners introduced into evidence their telephone bills for three months during 1978. These bills show that during the period they made seventy-five long distance or message unit calls on their home telephone. Of these recorded calls, only eight were employment related. Petitioners introduced no evidence to suggest that they made fewer personal calls during the nine months for which they had no records. In addition, Mrs. Levine testified that her employer required that she carry a beeper on the nights she was not at her employer's premises. The use of the beeper permitted her to be contacted without the use of any particular telephone. As a result petitioners have not only failed to show that their telephone was totally business related, they have clearly established that to a substantial extent it was not business related. Moreover, there is no evidence on which we can456 rely to apportion the base rate between business use and non-business use. See, e.g., Laurano v. Commissioner,69 T.C. 723">69 T.C. 723, 725 (1978); Lockabey v. Commissioner,T.C. Memo 1974-100">T.C. Memo. 1974-100. Consequently, petitioners have failed to substantiate any employment-related telephone expense in excess of the $6.64 conceded by respondent. Respondent's determination with respect to the telephone expense is sustained. Sales TaxPetitioners claimed $930 as a deduction for sales taxes paid during 1978. Respondent allowed a deduction of $828, the $474 shown on the sales tax table plus $354 on the purchase of a new car. Section 164(a) allows a deduction for, among other taxes, state and local taxes paid during the taxable year. As a matter of administrative convenience, the Commissioner permits a taxpayer to deduct as state sales tax an amount keyed to his income as set forth in optional sales tax tables. A taxpayer is at liberty to disregard the tables and to take a deduction larger than the amount provided in the tables, but he has the burden of proving entitlement to such deduction. Petitioners have failed to produce any evidence that they paid sales457 taxes in excess of the amount allowed by respondent. Mr. Levine testified that he purchased some "video equipment" during 1978, but gave no evidence as to the nature of or price for this equipment. Moreover, both petitioners stated plainly that they did not have any receipts for the video equipment or for most of their other purchases. On brief, they attempted to reconstruct from recollection the nature of and cost for the video equipment. We find it curious that they were later able to remember with particularity details which, at trial, escaped their recollection. In any event, as we have previously discussed, ex parte statements made on brief do not constitute evidence. Rule 143.Accordingly, we find that petitioners have failed to substantiate the payment of any sales tax in excess of the amounts allowed by respondent. Respondent's disallowance of the deduction in excess of the $828 is sustained. Professional Dues and FeesPetitioners were members of, and contributed to, a variety of professional organizations during 1978. They claimed deductions in the amount of $862 for payments made to these organizations. Respondent determined that petitioners were entitled*458 to deduct $235, even though petitioners had receipts or checks sufficient to document only $202.20 of the claimed dues and fees. Here, as in the other issues of this case, petitioners have the burden of proof. Respondent does not contest that they are entitled to deduct such payments as they can substantiate. He simply argues that they have not substantiated deductions exceeding $235. We agree. The documentary evidence shows that petitioners paid $202.20 in professional fees and dues during 1978. Mrs. Levine testified that she also paid union dues, which were deducted from her paycheck. She did not know the amount of the dues or the frequency with which she paid them. The ex parte statements which petitioners made in their brief as to the dues are, as we have previously discussed, not evidence. Thus, the record is devoid of any evidence tending to show that petitioners paid dues or professional fees exceeding the $235 deduction allowed by respondent. Accordingly, respondent's determination was respect to this issue will be sustained. To reflect the foregoing as well as the concessions made by the parties, Decision will be entered under Rule 155.Footnotes1. Petitioners correctly concede, on brief, that they are not entitled to deduct, as educational expenses, the repayment of student loans, the proceeds of which were used to pay such expenses in prior years. See Segall v. Commissioner,30 T.C. 734">30 T.C. 734 (1958); McAdams v. Commissioner,15 T.C. 231">15 T.C. 231 (1950), affd. 198 F.2d 54">198 F.2d 54↩ (5th Cir. 1952).2. All section references are to the Internal Revenue Code of 1954, as amended during the year in issue.↩3. All rule references are to the Tax Court Rules of Practice and procedure, unless otherwise indicated.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623821/	THERMAL ENERGY CONCEPTS, INC., DAVID KAGEL, TAX MATTERS PERSON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentThermal Energy Concepts v. CommissionerDocket No. 11028-90United States Tax CourtT.C. Memo 1993-541; 1993 Tax Ct. Memo LEXIS 565; 66 T.C.M. (CCH) 1368; November 22, 1993, Filed 565 For petitioner: Avram Salkin.For respondent: Sherri Munnerlyn. FAYFAYMEMORANDUM OPINION FAY, Judge: This case is before the Court on petitioner's Motion for Summary Judgment and Supplement to Petitioner's Motion for Summary Judgment pursuant to Rule 121. 1566 Petitioner contends that the period of limitations expired before respondent mailed the notice of final S corporation administrative adjustment (FSAA) and further that the FSAA was invalid because the provisions of the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), Pub. L. 97-248, sec. 402(a), 96 Stat. 648, respecting unified proceedings (secs. 6221 through 6245) do not apply here. Respondent opposes the motion and asks the Court to conclude that the limitations period did not expire because a Form 872-R, Special Consent to Extend the Time to Assess Tax Attributable to Items of an S corporation, was executed on behalf of the parties, 2 and the TEFRA rules regarding unified proceedings do apply. Because we agree with respondent, we deny petitioner's motion and grant summary judgment in respondent's favor as to the validity of the FSAA. BackgroundWe assume the facts described below based on the pleadings and other pertinent materials in the record. Rule 121(b). They are stated solely for purposes of deciding the Motion for Summary Judgment. Fed. R. Civ. P. 52(a). When the petition was filed, Thermal Energy Concepts, Inc. (Energy), 3 was an S corporation, which no longer had a principal place of business 4 but kept its books and records in New York, New York. 567 Energy was formed in 1983, and its stock was owned one-third each by David L. Kagel, Peter Katz, and Norman Twain. Energy filed its 1983 Form 1120-S, U.S. Income Tax Return for an S Corporation, on July 16, 1984. The Internal Revenue Service began an examination of Energy for 1983 some time thereafter. In June 1987, a Form 872-R, Special Consent to Extend the Time to Assess Tax Attributable to Items of an S Corporation, relating to 1983 was signed on the line designated for the TMP by Mr. Twain, who was the chief financial officer and vice president of Energy, and by an Internal Revenue Service group manager. Respondent has conceded that Mr. Twain was not the TMP. The Form 872-R states that the limitations period for assessment of subchapter S items is extended through the 90th day after the Internal Revenue Service receives a Form 872-Q, Notice of Termination of Special Consent to Extend the Time to Assess Tax Attributable to Items of an S Corporation or mails a Form 872-Q to the corporation. There is nothing in the record to suggest that a Form 872-Q was ever sent. The bylaws of Energy provide in relevant part: ARTICLE III OFFICERS * * Section 8. VICE PRESIDENT. 568 In the absence or disability of the President, the Vice Presidents, in order of their rank as fixed by the Board of Directors, or if not ranked, the Vice President designated by the Board of Directors, shall perform all the duties of the President, and when so acting shall have all the powers of, and be subject to, all the restrictions upon, the President. The Vice Presidents shall have such other powers and perform such other duties as from time to time may be prescribed for them respectively by the Board of Directors or the By-Laws. * * Section 10. CHIEF FINANCIAL OFFICER. This officer shall keep and maintain, or cause to be kept and maintained in accordance with generally accepted accounting principles, adequate and correct accounts of the properties and business transactions of the corporation, including accounts of its assets, liabilities, receipts, disbursements, gains, losses, capital, earnings (or surplus) and shares. The books of account shall at all reasonable times be open to inspection by any director. This officer shall deposit all monies and other valuables in the name and to the credit of the corporation with such depositories as may be designated569 by the Board of Directors. He shall disburse the funds of the corporation as may be ordered by the Board of Directors, shall render to the President and directors, whenever they request it, an account of all his transactions and of the financial condition of the corporation, and shall have such other powers and perform such other duties as may be prescribed by the Board of Directors or the By-Laws. * * ARTICLE VI CORPORATE CONTRACTS AND INSTRUMENTS-HOW EXECUTED The Board of Directors, except as in the By-Laws otherwise provided, may authorize any officer or officers, agent or agents, to enter into any contract or execute any instrument in the name of and on behalf of the corporation. Such authority may be general or confined to specific instances. Unless so authorized by the Board of Directors, no officer, agent or employee shall have any power or authority to bind the corporation by any contract or agreement, or to pledge its credit, or to render it liable for any purpose or any amount, except as provided in Section 313 of the Corporations Code.The articles of incorporation of Energy state that it will engage in business activity under the General Corporation570 Law of California and the California Corporations Code. Cal. Corp. Code section 313 (West 1977) states in relevant part that any contract or instrument in writing executed or entered into between any corporation and any other person, when signed by * * any vice president and * * * the chief financial officer * * * is not invalidated as to the corporation by any lack of authority of the signing officers in the absence of actual knowledge on the part of the other person that the signing officers had no authority to execute the same.Duplicate originals of the FSAA relating to 1983 were mailed by the Internal Revenue Service on December 29, 1989, to Mr. Twain as TMP of Energy at Santa Monica, California, and New York, New York, addresses and to the TMP of Energy at the same addresses. During May 1990, the petition was filed with the Court. 5571 DiscussionPetitioner contends that the Form 872-R was "null and void" because Mr. Twain was not authorized to sign it on behalf of Energy, citing section 301.6229(b)-1T, Temporary Proced. & Admin. Regs., 52 Fed. Reg. 6789 (Mar. 5, 1987), and signed on the line designated for the TMP. Additionally, petitioner maintains that the Form 872-R is not binding as to Mr. Twain because it does not relate to him individually but to Energy. Petitioner also argues that the FSAA is "invalid" inasmuch as Energy had fewer than 10 shareholders, citing Arenjay Corp. v. Commissioner, 920 F.2d 269">920 F.2d 269 (5th Cir. 1991). Respondent contends that State law and the corporate bylaws authorized Mr. Twain as vice president and chief financial officer to sign the Form 872-R pursuant to section 6229(b)(1)(B). Alternatively, respondent argues that the Form 872-R is binding at least on Mr. Twain, even if not on the other shareholders. Additionally, respondent maintains that the TEFRA unified partnership provisions apply to Energy, although it had only three shareholders, citing Eastern States Casualty Agency, Inc. v. Commissioner, 96 T.C. 773">96 T.C. 773 (1991).572 Section 6229(a) provides that the period for assessing tax relating to a partnership item shall not expire before the date which is 3 years after the later of the date the partnership return was filed or the date it was due (determined without considering extensions). The period may be extended (1) as to any partner, by agreement entered into between the Secretary and such partner, and (2) as to all partners, by agreement entered into between the Secretary and the tax matters partner or any person authorized by the partnership in writing to enter into such an agreement. Sec. 6229(b). Section 6244 makes the TEFRA partnership provisions applicable to "subchapter S items" for tax years beginning after December 31, 1982, except to the extent modified or made inapplicable by regulations. The term "subchapter S items" includes items of income, gain, loss, deduction, and credit of the S corporation. Sec. 6245; sec. 301.6245-1T, Temporary Proced. & Admin. Regs., 52 Fed. Reg. 3003 (Jan. 30, 1987). The validity of the Form 872-R depends on whether Mr. Twain was a person authorized in writing by Energy to execute the Form 872-R as provided in section 6229(b)(1)(B). 573 A motion for summary judgment should be granted under Rule 121(c) only if the record establishes that no genuine issue of material fact exists and the moving party is entitled to judgment as a matter of law. Rule 121(b). The burden of proof is on the moving party. We view the evidence in the light most favorable to the nonmoving party. Blanton v. Commissioner, 94 T.C. 491">94 T.C. 491, 494 (1990); Jacklin v. Commissioner, 79 T.C. 340">79 T.C. 340, 344 (1982). A motion for summary judgment will be denied if there is any reasonable doubt as to the facts in issue. Hoeme v. Commissioner, 63 T.C. 18">63 T.C. 18, 20 (1974). With respect to partnerships, the written authorization under section 6229(b) does not have to be specific; a general grant of authority in the partnership agreement will authorize a person who is a general partner and may act as agent under State law for the partnership. Cambridge Research v. Commissioner, 97 T.C. 287">97 T.C. 287, 296-302 (1991); Iowa Investors Baker v. Commissioner, T.C. Memo. 1992-490. Additionally, the consent is not invalid because 574 a general partner so authorized in writing, who is not the tax matters partner, signs it on the line designated for the tax matters partner. Cambridge Research v. Commissioner, supra at 302. We have recently applied these conclusions to S corporations in Bugaboo Timber Co. v. Commissioner, 101 T.C. (1993). The effect of Cal. Corp. Code section 313 (West 1977) is to bind a corporation by contracts or instruments in writing executed on its behalf by the individuals it designates to certain positions 6 (including any vice president and its chief financial officer) unless it shows that the other party to the contract or instrument had actual knowledge that the corporate representatives did not have such authority. The bylaws of Energy specifically acknowledge and incorporate the broad authority conferred under this provision. The purpose of the provision "is to allow third parties to rely upon the assertive authority of various senior executive officers of the corporation concerning the execution of any instrument on behalf of the corporation." Cal. Corp. Code sec. 313, Legis. Committee comment (West 1977). "Such extra protection for575 third parties who deal with corporations is warranted since corporations necessarily act through agents." Taormina Theosophical Community, Inc. v. Silver, 140 Cal. App. 3d 964">140 Cal. App. 3d 964, 971, 190 Cal. Rptr. 38">190 Cal. Rptr. 38, 42 (1983). 576 We consider the broad authority in the California code provision as specifically incorporated into the bylaws of Energy to authorize Mr. Twain as vice president and chief financial officer to enter into the Form 872-R pursuant to section 6229(b)(1)(B). Thus, we conclude that the Form 872-R was valid and effective to extend the limitations period on behalf of Energy. The validity is not affected by the fact that Mr. Twain signed it on the line designated for the TMP. See Bugaboo Timber Co. v. Commissioner, supra; Cambridge Research v. Commissioner, supra at 302. Petitioner argues that, pursuant to section 301.6229(b)-1T, Temporary Proced. & Admin. Regs., 52 Fed. Reg. 6789 (Mar. 5, 1987), which was issued before the Form 872-R was signed, there was no adequate written statement authorizing Mr. Twain to sign it. Section 301.6229(b)-1T, Temporary Proced. & Admin. Regs., supra, states that any partnership may authorize any person to sign a consent to extend the assessment period by filing a statement with the appropriate Internal Revenue Service service center. The statement filed is to provide that it authorizes577 such person to extend the period, identify the partnership and such person by name, address, and taxpayer identification number, specify the partnership year for which the authorization is effective, and be signed by all general partners. Sec. 301.6229(b)-lT, Temporary Proced. & Admin. Regs., supra. We have concluded with respect to partnerships that specificity of the written authorization is not required. See Cambridge Research v. Commissioner, 97 T.C. at 300-301; Amesbury Apartments, Ltd. v. Commissioner, 95 T.C. 227">95 T.C. 227, 242-243 (1990). Petitioner argues that the conclusions in these cases are dicta because the temporary regulations were issued after the consents in issue were signed, not before as occurred here. Regardless, we similarly concluded that specificity in the written authorization by an S corporation is not required. Bugaboo Timber Co. v. Commissioner, supra. In doing so, we noted that section 301.6229(b)-1T, Temporary Proced. & Admin. Regs., supra, does not specifically apply to S corporations. We are convinced that under California law as incorporated in the bylaws of Energy, the designation578 of Mr. Twain as vice president and chief financial officer constituted written authorization for him to sign the Form 872-R. We reject petitioner's contention that the TEFRA partnership provisions do not apply to Energy because it has only three shareholders. In Eastern States Casualty Agency, Inc. v. Commissioner, 96 T.C. 773">96 T.C. 773 (1991), we concluded that these provisions apply to S corporations for tax years before the effective date of section 301.6241-1T(c)(2), Temporary Proced. & Admin. Regs., 52 Fed. Reg. 3003 (Jan. 27, 1987), which provides that, where an S corporation has five or fewer shareholders, the tax treatment shall not be determined at the corporate level. The temporary regulations are applicable only to a tax year of an S corporation, the due date of the return of which is on or after January 30, 1987. In Beard v. United States, 992 F.2d 1516">992 F.2d 1516 (11th Cir. 1993), the Court of Appeals for the Eleventh Circuit recently agreed with our conclusion in Eastern States Casualty Agency, Inc. v. Commissioner, supra.Venue for an appeal here would not be *579 the U.S. Court of Appeals for the Fifth Circuit. Thus, Arenjay Corp. v. Commissioner, 920 F.2d 269">920 F.2d 269 (5th Cir. 1991), is not controlling, and we respectfully decline to follow it. See Golsen v. Commissioner, 54 T.C. 742">54 T.C. 742 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971). In light of our conclusions, we need not reach respondent's alternative arguments. To reflect the foregoing, An appropriate order will be issued. Footnotes1. All section references are to the Internal Revenue Code as amended and in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure, unless otherwise indicated.↩2. Alternatively, respondent argues that the Form 872-R is effective to extend the limitations period individually for the person who signed it.↩3. The FSAA for Thermal Energy Concepts, Inc. (Energy), disallows deductions totaling $ 756,254.↩4. During the year in issue, Energy had a principal place of business in Santa Monica, California. Venue for appeal in petitions filed under the TEFRA unified partnership provisions, which are generally applicable to subch. S items under sec. 6244, is the U.S. Court of Appeals for the circuit in which the principal place of business of the partnership, or presumably of the S corporation, is located at the time the petition is filed. Sec. 7482(b)(1)(E); see Peat Oil & Gas Associates v. Commissioner, T.C. Memo. 1993-130↩.5. Pursuant to sec. 6226(b)(1), we consider the petition to be timely as filed by Mr. Kagel as a notice person, not TMP. See Barbados #6 Ltd. v. Commissioner, 85 T.C. 900">85 T.C. 900↩ (1985).6. Cal. Corp. Code sec. 312 (West 1977) allows the same person to hold any number of officer positions within the corporation. Cal. Corp. Code sec. 313 (West 1977) was modeled after Pa. Stat. Ann. tit. 15, sec. 1305 (1967). Cal. Corp. Code sec. 313, Legis. Committee comment (West 1977). In interpreting the relevant language, the Pennsylvania courts consider the contract or instrument binding if one person serving in two officer positions signs the contract or instrument in issue. Collins v. Tracy Grill & Bar Corp., 19 A.2d 617">19 A.2d 617 (Pa. Super. Ct. 1941); see also Wolff v. Barton & Barton, Inc., 409 Pa. 555">409 Pa. 555, 187 A.2d 580">187 A.2d 580 (1963). We conclude that the California courts would apply Cal. Corp. Code sec. 313↩ (West 1977) similarly. We note that petitioner does not argue that the California provision does not apply here because the Form 872-R was signed only by Mr. Twain, who was both vice president and chief financial officer of Energy.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623822/	APPEAL OF ROSCOE H. ALDRICH.Aldrich v. CommissionerDocket No. 3301.United States Board of Tax Appeals3 B.T.A. 911; 1926 BTA LEXIS 2527; February 19, 1926, Decided Submitted July 10, 1925. 2527 1. By the terms of an agreement between the taxpayer and a corporation, the corporation agreed to compensate the taxpayer for entering into a contract with another corporation and becoming its general manager for a period of five years, by depositing in escrow certain shares of stock to be delivered to the taxpayer at the expiration of said five years upon the performance of certain conditions, the dividends payable on the stock during the escrow period to be paid to the taxpayer. Held, that the taxpayer was not a stockholder during the escrow period and the dividends on the escrow stock constituted compensation for services and not dividends as to him. 2. The evidence fails to establish that certain stock did not have a fair market value at the time of its receipt in 1919, and the Commissioner's determination of such value is approved. Lester H. Woolsey Esq., for the taxpayer. Lee I. Park, Esq., for the Commissioner. MARQUETTE 911 Before MARQUETTE and MORRIS. This appeal is from the determination of deficiencies in income taxes for the years 1918 and 1919 in the respective amounts of $478.94 and $17,751.06. The questions presented2528 are whether certain amounts received by the taxpayer from the Aldrich Pump Co. during 1918 constituted income subject to the normal tax, and whether certain stock received in 1919 had a fair market value and was taxable as income in that year. FINDINGS OF FACT. The taxpayer is an individual residing at Allentown, Pa. For 12 years prior to 1914 he was employed by the Allentown Rolling Mills, a corporation organized under the laws of Pennsylvania, and was in charge of the department concerned with the development and manufacture of electric pumps. The taxpayer was the inventor of an electric pump manufactured by the rolling mills, the patents for which had been taken out in his name, but which, before 1914, had been transferred to that company, with the exception of one patent, which was transferred to the Aldrich Pump Co. in 1914. On April 7, 1914, the taxpayer entered into an agreement with the Allentown Rolling Mills, which provided as follows: This agreement made the 7th day of April, A.D. 1914, by and between The Allentown Rolling Mills, a corporation of the State of Pennsylvania, party of the first part, and Roscoe H. Aldrich, of Allentown, Lehigh County, Pennsylvania, 2529 party of the second part. 912 Whereas the party of the first part owns a plant at Allentown, Lehigh County, Pennsylvania, where it has conducted the business of manufacturing pumps and other hydraulic machinery under an agreement dated April 26, 1909, between itself, The Birdsboro Steel Foundry and Machine Company and said Aldrich; And whereas the parties to said agreement dated April 26, 1909 have agreed to terminate it on April 30, 1914; And whereas the party of the first part desires to provide for the continuation at its plant at Allentown of its business of manufacturing pumps and other hydraulic machinery heretofore manufactured by it under the aforesaid agreement, as well as the business of manufacturing pumps heretofore conducted by the Birdsboro Steel Foundry and Machine Company under said agreement; and for such purpose to incorporate a company which shall take over and purchase from the party of the first part that portion of its plant, buildings and tracks used in the manufacture of said pumps, and to provide that said Aldrich be the General Manager of said new Company; Now, therefore, this agreement witnesseth, that for and in consideration of the mutual2530 covenants hereinafter set forth, as well as of other good and valuable considerations, the parties hereto do bind themselves, their successors, executors, and administrators as follows: 1. Party of the first part hereby agrees that it will cause to be incorporated prior to May 1st, 1914, under the laws of Pennsylvania, a Company under the name of The Aldrich Pump Company, with a capital of Three hundred and fifty thousand dollars ($350,000), consisting of three thousand five hundred (3,500) shares of stock of the par value of One hundred dollars ( $100.) each; and that in exchange for three thousand four hundred and ninety-five shares (3,495) of said stock it will grant, sell, assign and set over to The Aldrich Pump Company the plant and about ten (10) acres of land now occupied by the buildings, tracks, etc., of the pump department of The Allentown Rolling Mills; all the buildings, apparatus, machinery and equipment of said department; the raw materials, unfinished and finished work; the then existing accounts receivable and cash, in excess of bills and accounts payable, and the good will of the entire business of its pump department. II. The party of the first part agrees2531 that it will cause The Aldrich Pump Company to enter into an agreement with Aldrich, and Aldrich agrees to enter into such agreement, as follows: (1) The Aldrich Pump Company will engage Aldrich as General Manager of its plant and business at Allentown for a period of five (5) years from May 1st, 1914, with the option to it of renewal for another period of five (5) years, such option to be exercised in writing served upon Aldrich at least ninety (90) days prior to May 1st, 1919. The General Manager shall have charge of the engineering, manufacturing and sales departments of the Company, subject only to the direction and supervision of the President and Board of Directors or Executive Committee of The Aldrich Pump Company, with the right on the part of said Aldrich to hire and discharge any and all employees in said engineering, manufacturing and sales departments. The keeping of accounts shall be the duty of the Secretary and Treasurer, to whom the office force shall be directly responsible and who shall have exclusive power to hire and discharge those in the office force. The Secretary and Treasurer must have the accounts so kept as to furnish at all times to the General Manager2532 such information as the General Manager deems necessary, and must at all times on reasonable notice give to the General Manager such details, information and figures regarding any part of the business of 913 The Aldrich Pump Company as he may ask for. The purchasing of materials and supplies shall be the duty of the Purchasing Agent, who shall be appointed by the Board of Directors and who may be the same person as the Secretary and Treasurer. The character and quality of materials and supplies purchased for the Company must be satisfactory to the General Manager. (2) The Aldrich Pump Company will pay Aldrich a salary of Two hundred and fifty dollars ( $250) per month payable on the first of each month for the immediately preceding month. (3) The Aldrich Pump Company will promptly, after its organization, apply from its working capital ten thousand dollars ($10,000) in the purchase of patterns, templates, jigs, etc., under an agreement between The Allentown Rolling Mills, its successors and assigns and The Birdsboro Steel Foundry and Machine Company, dated the 7th day of April, 1914, and will apply from its working capital Twenty-five thousand dollars ($25,000) additional2533 in the extension of the foundry and machine shop and the purchase of new tools. (4) Aldrich agrees that he will accept the position of General Manager of The Aldrich Pump Company for five (5) years under the covenants and conditions herein named, including the option to the Company to renew his engagement for a further period of five (5) years for the consideration recited in this contract, and he agrees that he will give his exclusive and best engineering services and his best services as manager of sales and as General Manager of The Aldrich Pump Company, to the end that the business of said Company may be as large and profitable as possible. III. The party of the first part further agrees to compensate Aldrich as follows: Upon the signing of this agreement it will deliver into the hands of the Guarantee Trust Company of Philadelphia in escrow five hundred shares (500) of the capital stock of The Aldrich Pump Company, upon the following condition: (a) All dividends declared upon these shares from time to time shall be paid to Aldrich. (b) If at the end of the five years, the period of his engagement, Aldrich is still General Manager of the Aldrich Pump Company and the2534 earnings of the Company during the last year of said five year period, over and above interest charges on borrowed capital, if any, maintenance and running expenses (not to include replacements, purchases of new machinery, extensions and improvements to plant), and a reasonable depreciation charge, but without deduction for interest on capital invested, shall have amounted to not less than 6% on its capital stock of $350,000, then the 500 shares of stock shall be transferred and delivered to Aldrich as his absolute property. But if during said five year period Aldrich shall for any cause have left the Aldrich Pump Company, or if during the last year of said period said earnings have not amounted to 6% on the capital stock of $350,000, the 500 shares of stock are to be transferred and delivered to the Allentown Rolling Mills as its absolute property. Provided, however, that if during the last year of said five year period the company shall have met with substantial loss through fire, strike or similar causes beyond its control, or through a general business depression in the trade, the earnings for the year next preceding such fire, strike or depression shall be taken as the2535 test under this article. (c) It is expressly agreed, however, that should Aldrich die at any time whithin said five year period and is at the time of his death General Manager of The Aldrich Pump Company, the Allentown Rolling Mills will either pay forthwith Fifty thousand dollars ($50,000) cash to the Estate of said Aldrich, 914 or, at the option of the Allentown Rolling Mills, will deliver said five hundred shares (500) of stock of The Aldrich Pump Company to his Estate as its absolute property; and this provision shall be effective irrespective of the earnings of The Aldrich Pump Company. (d) The Allentown Rolling Mills shall quarterly, on request of Aldrich, pay to him an amount not exceeding fifty per cent (50%) of the net earnings applicable to dividends on 5/35 of the stock of The Aldrich Pump Company as shown on its books at the close of each quarter, such payment or payments to be deducted without interest from the amount payable to Aldrich on the next dividend thereafter declared. For the purposes of this subdivision (d), it is understood and agreed that in ascertaining the net earnings applicable for dividends, there shall be deducted from the gross revenue2536 all expenses of the business including interest on borrowed capital, if any, and all replacements and purchases of new machinery, and extensions of and other improvements to the plant during the current quarter or year as the case may be, but nothing shall be deducted for interest on capital invested. IV. The party of the first part hereby grants and gives to Aldrich the option to buy from it at par at any time within five years from the date of the incorporation of The Aldrich Pump Company any number not exceeding one hundred (100) shares of the capital stock of that Company. V. The party of the first part agrees with Aldrich that if at any time during the period in which he is General Manager of The Aldrich Pump Company it should sell its stock of that Company, it will make as a condition of such sale that the purchaser shall pay to Aldrich or to his Estate for the five hundred (500) shares of stock of said Company set aside for his account as above set forth, the same price per share as shall be received by the party of the first part for its stock, and if, at the time, the shares set aside for Aldrich are still in escrow, they are to be at once transferred to Aldrich so2537 that he may be able to make delivery of them to such purchaser. VI. The party of the first part agrees that it will cause The Aldrich Pump Company to enter into an agreement with Aldrich, and Aldrich agrees to enter into such agreement, as follows: If at any time during the period in which Aldrich is General Manager of the Aldrich Pump Company he shall desire to make application for a patent or patents relating to pumps or other machinery of the kind manufactured by the Aldrich Pump Company, he shall first submit the drawings and specifications for such patent or patents to the President of the Company, and if the Company desires to become the owner of such patent or patents it shall pay all the reasonable costs and expenses for obtaining the same, and Aldrich shall thereupon assign to the Company the application or letters patent. VII. The party of the second part agrees that the party of the first part may, if it so desire, take out forthwith a life insurance policy or policies on him for fifty thousand dollars ($50,000) and keep the same in force during the five or ten years covered by his engagement with The Aldrich Pump Company, and party of the first part is to pay2538 all premiums and expenses and to receive all dividends and payments under the policy or policies in case of death. Pursuant to the contract of April 7, 1914, the Aldrich Pump Co. was incorporated under the laws of Pennsylvania, and the Allentown Rolling Mills received 3,495 shares of the stock in exchange for assets transferred to the Pump Co. Certificates for 500 shares of that stock were placed in escrow with the Guaranty Trust Co. of 915 Philadelphia, to be held in accordance with the provisions of the said contract. From 1914 to May, 1919, the stock of the Aldrich Pump Co. continued to be owened by the Allentown Rolling Mills and held by the escrow agent. The stock of the Pump Co. was closely held, none of it beind sold or quoted on any stock exchange or bought or sold by brokers or individuals. On May 1, 1914, the taxpayer entered into a contract with the Aldrich Pump Co., which provided as follows: Memorandum of agreement made this first day of May, 1914, by and between The Aldrich Pump Company, a Corporation of the State of Pennsylvania, hereinafter called the Company, party of the first part, and Roscoe H. Aldrich, of Allentown, Pennsylvania, hereinafter2539 called Aldrich, party of the second part. Whereas, the Company desires to employ Aldrich as General Manager of its plant and business, and Aldrich desires to give his best services to the Company in such capacity; And Whereas, it is the purpose and intention of the parties hereto in so doing to carry into effect the agreement made between The Allentown Rolling Mills, a corporation of the State of Pennsylvania, and said Roscoe H. Aldrich, dated the 7th day of April, 1941; Now this agreement witnesseth, that for and in consideration of the mutual covenants hereinafter set forth, as well as for other good and valuable considerations, the parties hereto do bind themselves as follows: (1) The Company agrees to engage and hereby does engage Aldrich as General Manager of its plant and business at Allentown for a period of five (5) years from May 1st, 1914, with the option to it of renewal for another period of five (5) years, such option to be exercised in writing served upon Aldrich at least ninety (90) days prior to may 1st, 1919. The General Manager shall have charge of the Engineering, manufacturing and sales departments of the Company, subject only to the direction and supervision2540 of the President and Board of Directors or Executive Committee of the Company, with the right on the part of Aldrich to hire and discharge any and all employees in said Engineering, manufacturing and sales departments. The keeping of accounts shall be the duty of the Secretary and Treasurer to whom the office force shall be directly responsible and who shall have the exclusive power to hire and discharge those in the office force. The Secretary and Treasurer must have the accounts so kept as to furnish at all times to the General Manager such information as the General Manager deems necessary, and must at all times on reasonable notice give to the General Manager such details, information and figures regarding any part of the business of the Company as he may ask for. The purchasing of materials and supplies shall be the duty of the Purchasing Agent, who shall be appointed by the Board of Directors and who may be the same person as the Secretary and Treasurer. The character and quality of materials and supplies purchased for the Company must be satisfactory to the General Manager. (2) The Company will pay Aldrich a salary of Two hundred and fifty dollars ( $250) per month payable2541 on the first of each month for the immediately preceding month. (3) The Company will promptly, after its organization, apply from its working capital ten thousand dollars ($10,000) in the purchase of Patterns, 916 templates, jigs, etc. under an agreement between The Allentown Rolling Mills, its successors and assigns and The Birdsboro Steel Foundry & Machine Company, dated the 7th day of April, 1914, and will apply from its working capital twenty-five thousand dollars ($25,000) additional in the extension of the foundry and machine stop and the purchase of new tools. (4) Aldrich agrees that he will accept the position of General Manager of the Company for five (5) years under the covenants and conditions herein-named, including the option of the Company to renew his engagement for a further period of five (5) years for the consideration recited in this contract, and he agrees that he will give his exclusive and best engineering services and his best services as manager of sales and as General Manager of the Company, to the end that the business of the Company may be as large and profitable as possible. (5) The Company shall quarterly, on request of Aldrich, pay to2542 him an amount not exceeding fifty per cent (50%) of the net earnings applicable to dividends on 5/35 of the stock of the Company as shown on its books at the close of each quarter, such payment or payments to be deducted without interest from the amount payable to Aldrich on the next dividend thereafter declared. For the purpose of this subdivision (5), it is understood and agreed that in ascertaining the net earnings applicable for dividends, there shall be deducted from the gross revenue all expenses of the business including interest on borrowed capital, if any, and all replacements and purchases of new machinery, extensions of and other improvements to the plant during the current quarter or year as the case may be, but nothing shall be deducted for interest on capital invested. (6) If at any time during the period in which Aldrich is General Manager of the Company he shall desire to make application for a patent or patents relating to pumps or other machinery of the kind manufactured by the Company, he shall first submit the drawings and specifications for such patent or patents to the President of the Company, and if the Company desires to become the owner of such patent2543 or patents it shall pay all the reasonable costs and expenses for obtaining the same, and Aldrich shall thereupon assign to the Company the application or letters patent. In accordance with this agreement, Aldrich became general manager of the Company for five years from May 1, 1914, and drew a salary of $250 a month throughout the period of that contract. After May 1, 1914, the taxpayer held no position and had no connection with the Allentown Rolling Mills, except under the contract of April 7, 1914. The taxpayer held the position of general manager in the Aldrich Pump Co. until December 31, 1924. In the period between 1914 and 1919, while the 500 shares of stock of the Pump Co. were in escrow, the taxpayer exercised all the rights of beneficial ownership in the stock, by voting as a stockholder at various stockholders' meetings, either in person or by proxy, without objection on the part of anyone, by acting as one of the directors of the corporation, and by receiving all dividends on said stock directly from the Aldrich Pump Co. 917 The taxpayer did not own any other shares of the stock of the Pump Co. besides the 500 shares, and he did not hold as director2544 any qualifying shares of stock. The taxpayer received dividends from the Aldrich Pump Co. on the stock in escrow in the years 1915 to 1920, inclusive. He returned for taxation as dividends the dividends received from the Aldrich Pump Co. on the stock in escrow in the years in which said dividends were received. The Commissioner took no exception to the return of these dividends as dividends, except for the year 1918, when he held that the dividends should have been returned as compensation to the taxpayer for services. Said dividends, during the escrow period, were paid to taxpayer directly by the Aldrich Pump Co. and not through the medium of the Allentown Rolling Mills. The dividends were charged on the books of the Pump Co. as dividends and not as expenses. The taxpayer requested, and received from time to time, certain advances on dividend payments from the Aldrich Pump Co., beginning in 1915 up to and including 1919, the year in which he actually received the stock certificate, which advances were charged by the Aldrich Pump Co. against the taxpayer, and said charges were canceled by deductions from dividends subsequently declared. Upon the termination of the escrow2545 period, May 1, 1919, the certificates for shares of stock were delivered to the taxpayer as provided in the agreement of April 7, 1914. In his return for 1919, the taxpayer included a statement to the effect that he had received said shares of stock but that the stock had no market value and that it was impossible to obtain even approximately its market value at that time. Dividends at the rate of 10 per cent per annum were paid by the Aldrich Pump Co. for the years 1915 to 1918, both inclusive, and a dividend of 12 per cent was paid in 1919. No dividends were paid after the year 1920. The Commissioner included in taxable income for the year 1919 the sum of $500,000, as representing the value of 500 shares of stock of the Aldrich Pump Co. The taxpayer made no effort to sell the said shares of stock during the year 1919, for the reason that at the time he was general manager of the Aldrich Pump Co., and closely associated with the Allentown Rolling Mills interests, and on account of his relations with the officers of that corporation, and because any effort on his part to sell the stock would in his opinion have resulted in a break with his associates, charges of abandoning2546 the business and the probable loss of his position. 918 The taxpayer endeavored to dispose of his stock in 1923 and 1924. He offered to sell it to a director of the Allentown Pump Co. who owned the controlling interest in that company, but who refused to make any offer on the stock. In 1924 he attempted to borrow money on the stock as collateral from two banks, which refused to make a loan on the stock because he could not show to the directors that it had a market value. Both banks were familiar with the stock and the condition of the company, as it had theretofore applied to them for financial assistance. The banks informed the taxpayer that they could not make any loan on the taxpayer's stock and could not have loaned any money on it at any time. The taxpayer is not now an employee of the Aldrich Pump Co. or the Allentown Rolling Mills, having been forced out of his position as general manager in the former company on December 31, 1924, because of certain disagreements. During the year 1918 the taxpayer received $6,000, representing dividends declared on the escrow stock, which amount was reported by him in his return for that year as dividends subject only2547 to the surtax. The Commissioner subjected this amount to taxation at the normal tax rates as having been compensation for services rendered. DECISION. The determination of the Commissioner is approved. OPINION. MARQUETTE: We have two questions for decision herein: (1) Whether the amount of $6,000 in dividends on the stock held in escrow, received by the taxpayer in 1918, constituted a dividend to him under the circumstances above set forth, and (2) whether the 500 shares of stock of the Aldrich Pump Co., received by him in 1919, had a fair market value at that time and were taxable as income in that year. We will consider these questions in their order. By the terms of the agreement the Allentown Rolling Mills agreed to compensate Aldrich for entering into a contract with the Aldrich Pump Co. to act as general manager for a period of five years by delivering in escrow 500 shares of the capital stock of the Pump Co., upon the conditions that all dividends declared upon those shares from time to time should be paid to him, and at the end of five years, if the conditions therein named had been performed, the 500 shares should be transferred and delivered to him as his2548 absolute property. It appears that Aldrich entered into an agreement with the Aldrich Pump Co. in conformity with the abovenamed agreement, acting as its general manager during the five-year period and otherwise performing the conditions of the agreement. 919 He acted as a director of the company and voted the escrow stock at stockholders' meetings without objection and held not other shares of stock to qualify him as a director. It is a general rule of law that where stock is deposited in escrow, to be delivered upon the performance of certain conditions, dividends declared before such performance belong to the vendor. 6 Fletcher Enc. Corps., section 2701. There can be no doubt but that parties can by agreement provide to whom dividends shall be paid, and the effect of this contract was to assign the future dividends to the taxpayer. The right to receive dividends, however, is an incident of stock ownership, and the transfer of such a right does not operate to constitute the person to whom the right is assigned a stockholder. The contract with the Rolling Mills did not provide that Aldrich should have the right to vote the stock held in escrow. It appears that2549 the stock was voted by him at stockholders' meetings without objection, but this fact would not constitute him a stockholder, for here again the right to vote stock is an incident of ownership which may by contract be given to another; nor do we think the fact that he acted as director of the Pump Co. could make him a stockholder therein if he was not such in fact. Looking to the agreement, or what was done under it by the parties thereto, we are unable to conclude that the taxpayer was a stockholder of the Pump Co. prior to the transfer and delivery to him of the escrow stock in 1919. . The Revenue Act of 1918 defines a dividend as follows: Sec. 201. (a) That the term "dividend" when used in this title (except in paragraph (10) of subdivision (a) of section 234) means (1) any distribution made by a corporation, other than a personal service corporation, to its shareholders or members, whether in cash or in other property * * * out of its earnings or profits accumulated since February 28, 1913, * * . The taxpayer not being a stockholder of the Pump Co., he does not come within the terms of this section, and we conclude2550 that the amounts received in 1918 did not constitute dividends as to him. We are of opinion that, by the very terms of the contract, the payment of the dividends to him was intended to be and was compensation for his services to be rendered to the Pump Co. and that the Commissioner properly so held. On the second question, the taxpayer does not contend that the transfer and delivery of the stock in 1919 would not constitute income to him in that year to the extent of its fair market value. His claim is that the stock had no fair market value at that time and that, therefore, the determination of any gain must be postponed until the stock had been disposed of by sale. The evidence does not show the value of the assets of the Pump Co. It does disclose, however, that the company paid dividends of 920 10 per cent in the years from 1915 to 1918, and that in the year 1919 a dividend of 12 per cent was paid. No effort was made by the taxpayer during the year 1919 to sell the stock and there were no other sales. The stock of the Pump Co. was held in its entirety by the Rolling Mills and Aldrich, and it was not until 1923 that Aldrich offered to sell his stock to the managing2551 director of the Rolling Mills. Again, in 1924, he sought to sell the stock to the same party, who declined to make any offer therefor. The evidence further discloses that during 1924 the taxpayer made efforts at two local banks to borrow money on this stock but that they declined to make any loans on the security thereof, for the reason that they would not be able to satisfy their boards of directors that the stock had a market value. We do not think this evidence of efforts to sell the stock to the same person in 1923 and 1924 and the failure to secure loans in 1924 has any material bearing on the question of whether the stock had a fair market value in 1919. In the first place, it is too remote, and, further, the facts disclose that no dividends were paid by the company after 1920, which would necessarily have a material influence on the question of fair market value in 1923 and 1924. Assuming that the evidence establishes that the stock had no fair market value in 1923 and 1924, it does not establish that the stock had no fair market value at the time of its receipt in 1919. The Commissioner determined that the stock had a fair market value in 1919 of $100 per share, and, *2552 in view of the fact that dividends of 10 per cent per annum were paid on this stock over a period of four years immediately preceding the year of receipt, and a dividend of 12 per cent was paid in that year, there is certainly some evidence to support his determination. We must therefore approve the action of the Commissioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623823/	JONAS A. BILENAS and DANA BILENAS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentBilenas v. CommissionerDocket No. 21150-82United States Tax CourtT.C. Memo 1983-661; 1983 Tax Ct. Memo LEXIS 123; 47 T.C.M. (CCH) 217; T.C.M. (RIA) 83661; 4 Employee Benefits Cas. (BNA) 2469; November 1, 1983. Jonas A. Bilenas, pro se. Rona Klein, for the respondent. DRENNEN125 MEMORANDUM FINDINGS OF FACT AND OPINION DRENNEN, Judge: This case was assigned to and heard by Special Trial Judge Fred R. Tansill, pursuant to the provisions of section 7456(c) of the Internal Revenue Code and Rules 180 and 181, Tax Court Rules of Practice and Procedure.1 The Court agrees with and adopts the Special Trial Judge's opinion which is set forth below. 2OPINION OF THE SPECIAL TRIAL JUDGE TANSILL, Special Trial Judge: Respondent determined a deficiency of $168 in petitioners' income taxes for 1980 and that petitioners are liable for an excise tax of $45 under section 49723 for excess contributions to a Keogh plan in that year. The issues for decision are: (1) whether petitioners are entitled to a deduction for office-in-home126 expenses under section 280A; (2) whether petitioners are entitled to a deduction under section 404(a)(8) for a contribution to a self-employed individual retirement plan (a so-called Keogh plan); and (3) if the answer to issue (2) is no, whether petitioners are liable for the 6 percent excise tax under section 4972(a) for "excess contributions." FINDINGS OF FACT Some of the facts in this case have been stipulated. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference. Jonas A. Bilenas (petitioner) and Dana Bilenas are husband and wife who filed a joint return for 1980 as well as a joint petition in this case. They resided in Huntington, New York during all relevant times. Petitioners initially requested that their case be conducted in accordance with the Small Tax Case procedures set forth in section 7463 of the Code. Since one of the issues involves the excise tax imposed by subtitle D of the Internal Revenue Code of 1954, the case is not in the category127 of those covered by section 7463 as applicable to the year in suit which relates basically to income, estate and gift taxes. 4 Accordingly, this case was ordered removed from Small Tax Case procedures. See Historic House Museum Corp. v. Commissioner,70 T.C. 12">70 T.C. 12 (1978). During 1980, petitioner was employed as an engineer by Grumman Aerospace Corporation (hereinafter, "Grumman") and earned in that capacity $41,514.34. Also during that year petitioner was employed as an adjunct professor in the Department of Mechanical Engineering of the School of Engineering at City College of New York (hereinafter, "the College") and earned in that capacity128 $5,018.36. During 1980, petitioner taught the following courses: spring semester - Energy Conservation; fall semester - Fluid Dynamics, Compressible Fluid Flow, and Mass Transport. Petitioner was not provided with an office at the College during 1980. Petitioner devoted one room in the family residence to regular and exclusive use as a home office in connection with his teaching activities at the College. Petitioner claimed a miscellaneous deduction of $767 for the costs associated with the home office. The deduction was disallowed by respondent.As an employee of Grumman, petitioner was covered by a qualified pension plan. However, as an adjunct professor, he was not covered by a retirement plan. Petitioner was hired by the College on a semester-by-semester basis; and he was not tenured. Petitioner and all other adjunct faculty of the College were expected to teach, use the same taxtbooks and syllabi, and were observed for performance, as were the College's regular faculty members. They were covered by the College's collective bargaining agreement with the union representing the employees. Adjuncts were not required to participate in committee assignments or research129 activities. If the source of funds used to pay the adjuncts was a tax levy, FICA taxes were not withheld. If the funds were from any other source, FICA taxes were withheld. Adjuncts were regarded by the College as non-regular employees and not as independent contractors in the sense that they did not render bills for their services which are paid on submission. Contractual agreements for the services of adjuncts for a semester are normally worked out over the telephone. Such agreements involve the courses to be taught, teaching hours, location (uptown campus or downtown campus), and method of payment. For the year 1980, petitioner claimed a deduction of $753 attributable to payments made to his own Keogh (H.R. 10) plan as a self-employed individual. The amount of $753 was arrived at as follows: 15% X $5,018.36 (earned from teaching) = $750 (rounded to the nearest dollar). Respondent disallowed the claimed deduction. 1. Office-in-home expenses. -- Section 280A(a) generally disallows a deduction with respect to the use of a dwelling unit which is used by the taxpayer during the130 taxable year as a residence. However, section 280A(c)(1)(A) creates an exception to the general rule of disallowance where a portion of a dwelling unit is used exclusively in a regular basis as the principal place of business for any trade or business of the taxpayer. If the taxpayer is an employee, the exclusive use must be for the convenience of the employer. The primary predicate for respondent's disallowance was that the home office was not petitioner's principal place of business. In determining a taxpayer's principal place of business within the meaning of section 280A(c)(1)(A), the Court must ascertain the focal point of the taxpayer's business activities. Jackson v. Commissioner,76 T.C. 696">76 T.C. 696 (1981); Baie v. Commissioner,74 T.C. 105">74 T.C. 105, 109 (1980). The focal point for the business activities of those who teach (both at the college level and at the secondary school level) has been uniformly held by this Court to be at the educational institution rather than in the home office.5 This is true even though the teaching person may spend more time at131 the home office than at the school, 6 as petitioner contends to be true in his case. There is nothing in the record in this case that persuades us to depart from this long line of authority. Accordingly, we must132 hold that petitioner's principal place of business for his secondary trade or business of adjunct professor at the College was at the College. We have considered the case of Drucker v. Commissioner,715 F.2d 67">715 F.2d 67 (2d Cir. 1983), reversing 79 T.C. 605">79 T.C. 605 (1982), in which the principal place of business of musicians employed by the Metropolitan Opera Association was held to be their home practice areas rather than the Met's headquarters at Lincoln Center. The Court of Appeals characterized the musicians' situation as a "rare situation." We think that Drucker presents a different situation from that of a college professor, such as petitioner. Respondent must, therefore, be sustained in his disallowance of the claimed deduction for office-in-home expense. 2. Deduction for contribution to Keogh Plan. -- Keogh plans may be established and maintained only by self-employed individuals, not by employees. Sections 401(c), 1402(c)(2). The parties are agreed that resolution of this issue, the deductibility of contributions under section 404(a)(8), rasts solely upon the answer to the question: was petitioner a self-employed independent contractor vis-a-vis133 the College, or was he a common law employee of the College? The determination of whether an individual is an employee rests on an application of common law concepts. Cf. Simpson v. Commissioner,64 T.C. 974">64 T.C. 974, 984 (1975); Packard v. Commissioner,63 T.C. 621">63 T.C. 621, 629 (1975). Whether or not two parties stand in an employee-employer relationship is a question of fact. 7The test generally considered basic for resolving the question of whether an individual is an employee is the degree of control exercised by the person for whom work is performed over the individual who renders the services, Packard v. Commissioner,supra.It is to be noted, however, that the degree of control necessary for a finding of employee status varies with the nature of the services provided by the worker. Thus, where the inherent nature of the job mandates an independent approach, a lesser degree134 of control exercised by the one benefiting from the service rendered may result in a finding of an employer-employee status. 8Here, the inherent nature of the job to be done by petitioner, as an adjunct professor at the College, clearly calls for an independent approach in teaching his classes. Nevertheless, we believe that the College exercised the control appropriate to the situation and that it was sufficient to render petitioner an employee of the College. Petitioner was required to use the same textbooks and syllabi as the regular full-time faculty, and his performance was observed just as the regulars' performances were. There is no question that the regular faculty members were employees. The school furnished the place for petitioner to work, and determined which courses he would teach and when and where he would teach them. Very significantly, the College regarded petitioner as a non-regular employee and not as an independent contractor. Petitioner's contributions do not come within section 404(a)(8); he was an employee, not an independent contractor. Respondent must be sustained on his disallowance of*135 the deduction of $753 claimed by petitioner for the contribution to the Keogh plan. 3. Excess Contributions under Keogh Plan. -- If excess contributions are made to a Keogh plan, such excess is subject to an excise tax of six percent pursuant to section 4972. Since petitioner's contributions were not in any part qualified, they were all "excess" and the full $753 is subject to the excise tax. Respondent's imposition of the excise tax is accordingly sustained. Decision will be entered for the respondent.Footnotes1. All section references are to the Internal Revenue Code of 1954, in effect during taxable year in issue, unless otherwise indicated. All references to a Rule are to the Tax Court's Rules of Practice and Procedure. ↩2. Pursuant to the order of assignment, on the authority of the "otherwise provided" language of Rule 182, the post-trial procedures set forth in that Rule are not applicable in this case.↩3. Section 4972↩ was repealed by the Tax Equity and Fiscal Responsibility Act of 1982, Pub. Law 97-248, 96 Stat. 511, effective for years beginning after December 31, 1983.4. The procedures set forth in section 7463 applied to cases involving taxes imposed by subtitle A and chapters 11 and 12 of the Code, subject to monetary limits. As to petitions filed after October 25, 1982, section 7463 has been amended to cover certain subtitle D taxes, subject to a monetary limit. Pub.L. 97-362, section 106(a), 96 Stat. 1730. For the year here involved, 1980, the interdict against subtitle D was still in effect and, therefore, forecloses the consideration of this proceeding under section 7463.↩5. Harris v. Commissioner,T.C. Memo. 1983-494; Moskovit v. Commissioner,T.C. Memo. 1982-472, on appeal (10th Cir.); Storzer v. Commissioner,T.C. Memo. 1982-328; Taylor v. Commissioner,T.C. Memo. 1982-114; Strasser v. Commissioner,T.C. Memo. 1981-523; Weightman v. Commissioner,T.C. Memo. 1981-301; Cousino v. Commissioner,T.C. Memo. 1981-9, affd. by order, 679 F.2d 604">679 F.2d 604 (6th Cir. 1982) cert.den 459 U.S. (1982); Chauls v. Commissioner,T.C. Memo. 1980-471 and Kastin v. Commissioner,T.C. Memo. 1980-341↩. 6. Moskovit v. Commissioner,supra;Storzer v. Commissioner,supra;Strasser v. Commissioner,supra;Weightman v. Commissioner,supra; and Chauls v. Commissioner,supra.↩7. See Pulver v. Commissioner,T.C. Memo. 1982-437↩.8. Pulver v. Commissioner,supra.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623824/	Ashton L. Welsh and Evelyn C. Welsh v. Commissioner.Welsh v. CommissionerDocket No. 71829.United States Tax CourtT.C. Memo 1960-161; 1960 Tax Ct. Memo LEXIS 128; 19 T.C.M. (CCH) 849; T.C.M. (RIA) 60161; August 4, 1960128 Held: That payments made to Kathryn R. Welsh by petitioner, Ashton L. Welsh, in the amounts of $25,000 and $35,000 are not periodic payments and are not deductible under the provisions of section 215(a) and sections 71(a) and 71(c) of the Code of 1954. Roy L. Struble, Esq., Ingraham Building, Miami, Fla., for the petitioners. Donald P. Krainess, Esq., for the respondent. FISHERMemorandum Opinion FISHER, Judge: Respondent 129 determined a deficiency in income tax of the above-named petitioners for the taxable year 1955 in the amount of $8,367.98. Petitioners have conceded the correctness of respondent's determination that they received additional income from collections on accounts receivable in the amount of $10,026.49. Respondent concedes that two payments of $1,000 each, dated February 3 and February 26, 1955, to Kathryn R. Welsh are deductible under the provisions of section 215(a) of the Code of 1954. The only issue presented130 for our consideration is whether payments made by petitioner, Ashton L. Welsh, to Kathryn R. Welsh, in the respective amounts of $25,000 and $35,000, are periodic payments under the provisions of section 215(a) and sections 71(a) and 71(c) of the Code of 1954. All of the facts are stipulated and are incorporated herein by reference. Petitioners, Ashton L. Welsh and Evelyn C. Welsh, are husband and wife residing in Cincinnati, Ohio. They filed a timely joint income tax return for the taxable year 1955 with the district director of internal revenue, Cincinnati, Ohio. On January 20, 1955, petitioner, Ashton L. Welsh, and his then wife, Kathryn R. Welsh, executed a preliminary written separation agreement providing, among other things, for a property settlement and the payment of alimony. This was followed by a formal separation agreement which, to the extent here pertinent, reads as follows: "AGREEMENT "THIS AGREEMENT, made and entered into this 23rd day of March, 1955, by and between KATHRYN R. WELSH, party of the first part, and ASHTON L. WELSH, party of the second part, "WITNESSETH: "1. WHEREAS the parties hereto were married at Cincinnati, Ohio, on the 16th day of June, 131 1930; and "2. WHEREAS, differences have arisen between the parties since their marriage, which have resulted in their separation and they are no longer living together as man and wife; and "3. WHEREAS, said parties are desirous of settling and adjusting all marital rights and interests and all claims of one in and to the property of the other and including but not limited to, the right to maintenance and alimony; and * * "NOW THEREFORE, in consideration of the premises and the mutual promises of the parties, each to the other made, as herein contained, it is agreed as follows: "1. The parties mutaully agree to the separation which has already taken place and agree with each other to live henceforth during the remainder of their respective lives separate and apart one from the other without molestation of either by the other and without any interference of one with the affairs and interests of the other. They hereby respectively renounce all claim or right of either to the society and companionship of the other. "2. Within ten (10) days from the date hereof, Ashton L. Welsh will pay to Kathryn R. Welsh the sum of Sixty Thousand Dollars ($60,000) in cash. "3. Ashton132 L. Welsh shall pay to Kathryn R. Welsh the sum of One Thousand Dollars ($1,000) per month for Ninety-six (96) months and Seven Hundred Fifty Dollars ( $750) per month thereafter, payable the first day of each and every month, the first payment to be due and made on April 1, 1955, for so long as Kathryn R. Welsh shall live and remain single; provided, however, that in the event Ashton L. Welsh's income should be materially reduced, the maximum payable to Kathryn R. Welsh in any year shall not exceed one-third (1/3) of Ashton L. Welsh's net income before federal, state and city income taxes, it being understood and agreed that unusual business losses shall not be taken into account in computing Ashton L. Welsh's net income. In the event of the remarriage or death of Kathryn R. Welsh, said monthly payments shall cease and, in the event of either contingency, from that time on Ashton L. Welsh shall be under no obligation to make any monthly payments. Kathryn R. Welsh shall not have the right to assign or anticipate said monthly payments." * * Ashton L. Welsh and Kathryn R. Welsh were divorced by decree of the Court of Common Pleas, Hamilton County, Ohio, entered March 24, 1955, which133 approved the separation agreement dated March 23, 1955. During the taxable year 1955, Ashton L. Welsh made the following payments to Kathryn R. Welsh pursuant to the separation agreements dated January 20, 1955, and March 23, 1955: DateAmountFebruary 1, 1955$ 1,000March 1, 19551,000April 1, 195525,000April 1, 19551,000April 29, 195535,000April 29, 19551,000June 1, 19551,000July 2, 19551,000August 1, 19551,000September 12, 19551,000October 3, 19551,000November 1, 19551,000December 20, 19551,000In their income tax return for the calendar year 1955, petitioners claimed deductions for alimony as follows: Alimony of $1,000.00 per month pay-able to Mrs. Kathryn R. Welsh,2552 Madison Road, Cincinnati 8,Ohio under divorce of January 10,1955$11,000.00Lump Sum Alimony payment madein addition to the monthly payments60,000.00Petitioners contend that the respective amounts of $25,000 and $35,000 paid to Kathryn were periodic payments under the provisions of section 215(a) 1 of the Code, read together with the material parts of section 71. 2134 It is clear without discussion that the provisions of section 71(c)(2), relating to installment payments of principal sums, cannot help petitioner in this case. In order for the payments in question to be deductible by petitioners under section 215(a), they must be includible in Kathryn's gross income under section 71(a). To be so includible, they must be periodic payments. Upon the facts before us, we think the following authorities are controlling to the effect that the payments of $25,000 and $35,000 here in issue are not periodic. In , (1951), affd. (C.A. 8), we said in part (p. 1218): "The word "periodic" is to be taken in its ordinary meaning and so considered excludes a payment not to be made at fixed intervals but in a lump sum, and the fact that the statute made particular reference to periodic payments is some reason to believe that another kind of payment, that is, an initial payment in some larger and undivided amount, was considered in a different category. We may, we think, take judicial notice that divorce settlements or decrees not uncommonly provide some considerable amount payable immediately135 to the wife, in addition to regular or recurring payments for current support thereafter. We consider it reasonable to believe that Congress had such a practice in mind and did not intend to make the wife taxable upon the lump sum, original, or principal payment to be made here, but that it was something in the nature of division of capital, rather than from the husband's income so as to be deductible by him. At any rate, we think Congress failed to provide that such a payment was "periodic" and that, therefore, it is not within the statute. * * " See also , affd. on this point, (C.A. 8, 1952); . While the cases cited above construed the appropriate provisions of the Code of 1939, the principles are equally applicable to those of the Code of 1954 so far as here material. We need not extend the discussion beyond a brief reference to the authorities upon which petitioners rely. is distinguishable upon the facts. We need go no further than to point out that the payments involved in that case were136 to cease on the death or remarriage of the wife. In the instant case, while the monthly payments of $1,000 (concededly deductible) were to continue only so long as Kathryn lived and remained single, there is no such provision with respect to the payment of $60,000 which was to be made within ten days of the execution of the agreement of March 23, 1955, and was actually made in two payments, one of $25,000 on April 1, 1955, and the other of $35,000 on April 29, 1955. These payments are in addition to, and unrelated to the monthly payments of $1,000. The same distinctions apply with respect to (and the payments were not principal or lump sums, but were paid out of income of a trust) and (C.A. 5, 1956). In (C.A. 3, 1957), we can find no issue of law or fact related to the problems of the instant case. In , affirming , the lump sum was in payment of arrears of periodic payments for support of wife and children made to a cash basis taxpayer. We find137 no statement of principles in the cases cited by petitioners which would in any way persuade us that the contentions of petitioners are here applicable. In the light of the foregoing, we sustain respondent on the contested issues. Decision will be entered under Rule 50. Footnotes1. SEC. 215. ALIMONY, ETC., PAYMENTS. (a) General Rule. - In the case of a husband described in section 71, there shall be allowed as a deduction amounts includible under section 71 in the gross income of his wife, payment of which is made within the husband's taxable year. No deduction shall be allowed under the preceding sentence with respect to any payment if, by reason of section 71(d) or 682, the amount thereof is not includible in the husband's gross income. * ↩2. SEC. 71. ALIMONY AND SEPARATE MAINTENANCE PAYMENTS. (a) General Rule. - (1) Decree of divorce or separate maintenance. - If a wife is divorced or legally separated from her husband under a decree of divorce or of separate maintenance, the wife's gross income includes periodic payments (whether or not made at regular intervals) received after such decree in discharge of (or attributable to property transferred, in trust or otherwise, in discharge of) a legal obligation which, because of the marital or family relationship, is imposed on or incurred by the husband under the decree or under a written instrument incident to such divorce or separation. (2) Written separation agreement. - If a wife is separated from her husband and there is a written separation agreement executed after the date of the enactment of this title, the wife's gross income includes periodic payments (whether or not made at regular intervals) received after such agreement is executed which are made under such agreement and because of the marital or family relationship (or which are attributable to property transferred, in trust or otherwise, under such agreement and because of such relationship). This paragraph shall not apply if the husband and wife make a single return jointly. * (c) Principal Sum Paid in Installments. - (1) General rule. - For purposes of subsection (a), installment payments discharging a part of an obligation the principal sum of which is, either in terms of money or property, specified in the decree, instrument, or agreement shall not be treated as periodic payments. (2) Where period for payment is more than 10 years. - If, by the terms of the decree, instrument, or agreement, the principal sum referred to in paragraph (1) is to be paid or may be paid over a period ending more than 10 years from the date of such decree, instrument, or agreement, then (notwithstanding paragraph (1)) the installment payments shall be treated as periodic payments for purposes of subsection (a), but (in the case of any one taxable year of the wife) only to the extent of 10 percent of the principal sum. For purposes of the preceding sentence, the part of any principal sum which is allocable to a period after the taxable year of the wife in which it is received shall be treated as an installment payment for the taxable year in which it is received. * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623825/	GEORGE S. VAN SCHAICK, AS SUPERINTENDENT OF INSURANCE OF THE STATE OF NEW YORK, AS LIQUIDATOR OF THE LIBERTY MARINE INSURANCE COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Van Schaick v. CommissionerDocket No. 67263.United States Board of Tax Appeals32 B.T.A. 736; 1935 BTA LEXIS 897; June 11, 1935, Promulgated 897 1. In February 1921 the taxpayer, an insurance company other than life or mutual, was decreed to be insolvent and liquidation ordered pursuant to the provisions of section 63 of the Insurance Law of New York, whereupon, the Superintendent of Insurance of New York took possession of the property and business of the taxpayer and proceeded to liquidate the affairs of the company. Awards were received in 1928 and 1929, the taxable years before us, from the Mixed Claims Commission. The taxpayer had paid during the years 1914 to 1918, inclusive, substantial amounts on policies written by it because the property insured had been destroyed or confiscated by the German Government. Held, principal of awards received from the Mixed Claims Commission is "salvage" within the meaning of that term as used in section 204(b)(6); held, further, any excess of the awards over losses is not underwriting income within meaning of statute and not taxable. 2. Failure to file returns on time held not to be due to reasonable cause. Delinquency penalties approved. Morris Barasch, Esq., for the petitioner. R. W. Wilson, Esq., for the respondent. MATTHEWS 898 736 The respondent determined deficiencies in income tax against the taxpayer for the years 1928 and 1929 in the respective amounts of $7,161.65 and $1,717.99, plus delinquency penalties for these years of $1,790.41 and $429.50. Two issues are presented for determination: (1) Whether the amounts which the taxpayer received in 1928 and 1929 as the principal of awards made by the Mixed Claims Commission represent taxable income for the years in which received; (2) whether the respondent erred in asserting the delinquency penalties. The facts were stipulated. FINDINGS OF FACT. The petitioner is the Superintendent of Insurance of the State of New York, acting as liquidator of the Liberty Marine Insurance Co., the taxpayer. The Liberty Marine Insurance Co. was organized under the laws of the State of New York and was authorized to do a marine insurance business in the State of New York. The Liberty Marine Insurance Co. was not a life or mutual insurance company. On or about the 14th day of February 1921 Jesse S. Phillips, the then Superintendent of Insurance of the State of New York, commenced a proceeding in the Supreme Court, New York County, 737 against899 the Liberty Marine Insurance Co. for an order to take possession of the property and liquidate the business of the Liberty Marine Insurance Co. On or about the same day an order was entered in the office of the clerk of the County of New York, wherein it was decreed that the Liberty Marine Insurance Co. was insolvent and that it should be liquidated pursuant to the provisions of section 63 of the Insurance Law of the State of New York. By this order and pursuant to the provisions of this law the then Superintendent of Insurance of the State of New York and his successors in office were duly vested with title to all the property, contracts, and rights of action of the Liberty Marine Insurance Co. Jesse S. Phillips, as Superintendent of Insurance, upon the entry of the order, took possession of the property and business of the Liberty Marine Insurance Co. and proceeded to liquidate the affairs of the company. George S. Van Schaick, the petitioner herein, became Superintendent of Insurance of the State of New York on March 4, 1931, and by virtue of his appointment as Superintendent of Insurance became the successor liquidator of the Liberty Marine Insurance Co. The records900 of the Liberty Marine Insurance Co. have been maintained on the basis required by the Superintendent of Insurance of the State of New York and its income tax returns for 1929 and prior years were filed on the accrual basis. During the years 1914 to 1918, inclusive, the Liberty Marine Insurance Co. paid substantial amounts on policies written by it, because the property insured had been destroyed or confiscated by the German Government. A claim in the amount of $346,383.31 was filed with the Department of State against the German Government for reparation for the losses sustained. An award was granted by the Mixed Claims Commission, which also provided for the payment of interest at the rate of 5 percent per annum from November 11, 1918, to the date of payment. The amount of the award, plus interest to August 22, 1928, was received by the Liberty Marine Insurance Co. during the year 1928. The company was required to pay a portion of the amount received from the Mixed Claims Commission to other insurance companies with which it had reinsured some of its risks. The Liberty Marine Insurance Co. also participated in awards during the year 1929 because of the fact that it acted as901 reinsurer on risks of other companies. No portion of the amounts received in the years under consideration was reported as taxable income. The Commissioner of Internal Revenue determined that the entire amount received by the Liberty Marine Insurance Co. as principal and interest on the awards represented taxable income for the year in which received and added to the income reported on the tax 738 returns for 1928 and 1929 the amounts of $74,449.83 and $15,566.95, respectively, arrived at as follows: 1928Principal and interest on direct award$101,146.16Less: Administrative expenses505.73Net amount received on direct award100,640.43Less: Amount paid to Globe & Rutgers Fire Insurance Company26,190.60Amount added to the income reported74,449.831929Amount receivable as principal on awards of other companies$14,860.14Amount receivable as interest on awards of other companies706.81Amount added to the income reported15,566.95The net amount received by the Liberty Marine Insurance Co. in 1928 as payments on awards was $74,449.83, made up of principal, $52,717.93, and accrued interest, $21,731.90. The net amount902 received by the Liberty Marine Insurance Co. in 1929 as payments on awards was $14,473.12, made up of principal, $14,020.17, and accrued interest, $452.95. The income tax returns of the Liberty Marine Insurance Co. for the years 1928 and 1929 were filed by the office of the Superintendent of Insurance of the State of New York on December 31, 1931. The Commissioner of Internal Revenue proposed the assessment of the 25 percent delinquency penalty as provided by section 291 of the Revenue Act of 1928. For a number of years it had been maintained by the head of the Liquidation Bureau of the Insurance Department of the State of New York that insurance companies taken over by the Insurance Department for liquidation under section 63 of the New York Insurance Law were not required to file tax returns. However, in June 1928 the General Counsel of the Bureau of Internal Revenue rendered an opinion, G.C.M. 3876, C.B. VII-1, p. 127, in which he held that the Superintendent of Insurance was required to file tax returns for companies in process of liquidation under section 63. Thereupon certain men in the Liquidation Bureau were delegated to prepare the necessary returns. 903 There were about twenty companies for which returns were required, some of them delinquent since the year 1920. The men assigned to prepare these returns were burdened with other duties and the progress of the work was slow. In July 1931 the then head of the Liquidation Bureau, upon learning that very little progress had been made towards the completion of the required returns, called in outside accountants to prepare all delinquent returns, including the returns of the Liberty Marine Insurance Co. for the 739 years 1920 through 1930. These returns were then worked on continuously until they were completed and filed in December 1931. Attached to the returns when filed were affidavits sworn to by the then head of the Liquidation Bureau of the Insurance Department of the State of New York, setting forth the above facts as the reasons for the failure to file the returns on time. The delay in filing the returns for the years involved herein was no due to reasonable cause. OPINION. MATTHEWS: Other questions than those raised by the pleadings suggest themselves. First, have we jurisdiction? The answer to this depends on whether the liquidation proceeding under section904 63 of the Insurance Law of New York is a receivership proceeding in a state court within the meaning of section 274(a) of the Revenue Act of 1928. This section provides that no petition for the redetermination of a deficiency shall be filed with the Board after the appointment of a receiver for the taxpayer "in a receivership proceeding before any court" of any state. If the Superintendent of Insurance of the State of New York is the receiver of the taxpayer in a "receivership proceeding before a court of the State of New York", we have no jurisdiction, the taxpayer having been decreed insolvent and liquidation ordered in 1921, long before the taxable years here involved and the filing of the petition. In Farrell v. Stoddard, 1 Fed.(2d) 802, the court had before it the question as to the nature of the liquidation proceeding under section 63 of the Insurance Law of New York. With respect to this, the court said: An examination of section 63 of the Insurance Law of the state of New York makes it clear that the superintendent of insurance is a public officer in the executive department of the state government, and that he still retains his character as a public905 officer when he acts as liquidator of insurance companies under the provisions of this statute. His power to act as custodian of the res comes alone from the statute. The judicial power cannot change or modify this statute, or affect his power in any respect whatever. True, the defendant must first apply to the court for an order to act as liquidator. That, however, merely means that the court must give the signal to start the machinery under which the superintendent, the agent of the executive power, acts. Thereafter the defendant, as the representative of the executive power, pays no heed to the court or its mandates. His chart is the statute under which he acts. The Superintendent of Insurance of New York is, therefore a statutory receiver and the liquidation proceeding is not a receivership proceeding in a state court within the meaning of section 274(a). The Board has jurisdiction. 740 The question also arises as to whether an insurance company in process of liquidation, as here, is subject to the special provisions of the revenue act relating to insurance companies. The taxpayer is an insurance company other than life or mutual. The fact that it is being906 liquidated by the Superintendent of Insurance of New York and has been in process of liquidation since February 1921 does not change the character of the corporation. It is, therefore, subject to the tax imposed by section 204 of the Revenue Act of 1928 on insurance companies other than life or mutual, and its net income is required to be computed under the provisions of that section, the pertinent portions of which are quoted in the margin. 1907 The petitioner concedes that the interest received in 1928 and 1929 on the awards is subject to tax, but contends that the principal of the awards is not subject to tax, since it is neither investment income, underwriting income, nor gain on the sale or disposition of property. It is clear that the principal of the awards was neither investment income nor gain derived from the sale of property; hence, it is not to be included in gross income unless it is underwriting income within the meaning of the statute. 741 Counsel for petitioner states that from the terms employed in the statute and the reference in the statute to the annual statement approved by the National Convention of Insurance Commissioners, the question whether the principal of the awards received by the taxpayer was taxable income resolves itself finally into the question whether the proceeds of the award come within the meaning of the term "salvage", and reaches the conclusion that the proceeds of the awards are not salvage. He contends that the technical meaning of the term "salvage" as used in the law of insurance, which has application here, is the proceeds received by the insurer (1) after paying908 total loss or amount of valuation in a valued policy, out of the property, the subject matter of the insurance contract, or (2) after paying total or partial loss, out of the claim that passes to the insurer by virtue of the right of subrogation and not as an incident to the property in the subject matter of the insurance contract, citing Richards on Insurance, 3d ed., sec. 196; Phoenix Insurance Co. v. Erie & Western Transportation Co.,117 U.S. 312">117 U.S. 312, 320; and St. Louis, Iron Mountain & Southern Railway Co. v. Commercial Union Insurance Co.,139 U.S. 223">139 U.S. 223, 235. It is further contended that clearly the awards were not received out of the subject matter of the insurance contracts and that it is equally apparent that the principal of the awards was not received out of the claims that passed to the taxpayer as an insurer by virtue of the right of subrogation, since the assured had no claims against the German Government by whose order the boats were sunk, for the reason that under the rules of international law a belligerent has the right to capture, confiscate, and destroy enemy property on the high seas and no right of indemnification accrues909 to the enemy whose property has been captured or destroyed, citing United States v. White Dental Mfg. Co.,274 U.S. 398">274 U.S. 398, 402; that since the awards received from the Mixed Claims Commission were received neither out of the property which was the subject matter of the insurance contract nor by virtue of the right of subrogation, the principal of the awards does not come under the definition of the term "salvage", and is, therefore, not brought within the classification of underwriting income in section 204. We agree with petitioner that the term "salvage" as used in section 204 has the meaning ascribed to it, but we do not agree that taxpayer did not receive the awards by virtue of its right of subrogation to the claims of the assured whose boats were sunk or captured by Germany. Cf. Marine Transport Co. v. Commissioner, 77 Fed.(2d) 177. In the instant case the taxpayer, as a marine insurer, was called upon to pay and did pay substantial amounts on policies written by it because the property insured had been seized or destroyed by the 742 German Government during the years 1914 to 1918, inclusive. A marine insurer is entitled910 to be subrogated pro tanto to the claims of the insured against a third person primarily liable for the losses and it was by virtue of its right of subrogation that the taxpayer received the awards in question. In Phoenix Insurance Co. v. Erie & Western Transportation Co., supra, one of the cases cited by petitioner, the Supreme Court said: When goods insured are totally lost, actually or constructively, by perils insured against, the insurer, upon payment of the loss, doubtless becomes subrogated to all the assured's rights of action against third persons who have caused or are responsible for the loss. No express stipulation in the policy of insurance, or abandonment by the assured, is necessary to perfect the title of the insurer. From the very nature of the contract of insurance as a contract of indemnity, the insurer, when he has paid to the assured the amount of the idemnity agreed on between them, is entitled, by way of salvage, to the benefit of anything that may be received, either from the remnants of the goods, or from damages paid by third persons for the same loss. But the insurer stands in no relation of contract or of privity with such911 persons. His title arises out of the contract of insurance, and is derived from the assured alone, and can only be enforced in the right of the latter. * * * We deem it unnecessary to discuss the nature of the claims against the German Government which passed to the taxpayer, as insurer, for it is evident that the awards were paid by the German Government on account of the damages caused by the destruction or confiscation of certain vessels, and that these awards were received by the taxpayer because it had made payments to the owners of those vessels under contracts of insurance and had thereby succeeded to their rights. We are of the opinion, therefore, that the principal of the awards is "salvage" within the meaning of that term as used in section 204(b)(6). In view of the fact that "salvage" is not included specifically as an item of underwriting income, but is to be used only in computing "losses incurred", a further question arises. The taxpayer had been in process of liquidation since it was declared insolvent in 1921 and was carrying on no business; therefore, it had no premiums earned on insurance contracts during the taxable years. Section 204(b) provides that912 in the case of an insurance company subject to the tax imposed by that section, gross income means the sum of (A) the combined gross amount "earned during the taxable year from investment income and from underwriting income as provided in this subsection", computed on the basis of the underwriting and investment exhibit of the annual statement approved by the National Convention of Insurance Commissioners, and (B) gain during the taxable year from the sale or other disposition of property. "Underwriting income" as provided in subsection (b) means "the 743 premiums earned on insurance contracts during the taxable year less losses incurred and expenses incurred." This subsection also prescribes in detail the meaning of "premiums earned on insurance contracts during the taxable year" and "losses incurred." Article 992 of Regulations 74 provides: ART. 992. Gross income of insurance companies other than life or mutual. - Gross income as defined in section 204(b) means the gross amount of income earned during the taxable year from interest, dividends, rents, and premium income, computed on the basis of the underwriting and investment exhibit of the annual statement approved913 by the National Convention of Insurance Commissioners, as well as the gain derived from sale or other disposition of property. It does not include increase in liabilities during the year on account of reinsurance treaties, remittances from the home office of a foreign insurance company to the United States branch, borrowed money, gross increase due to adjustments in book value of capital assets, and premium on capital stock sold. The underwriting and investment exhibit is presumed clearly to reflect the true net income of the company, and in so far as it is not inconsistent with the provisions of the Act will be recognized and used as a basis for that purpose. All items of the exhibit, however, do not reflect an insurance company's income as defined in the Act. By reason of the definition of investment income, miscellaneous items which are intended to reflect surplus but do not properly enter into the computation of income, such as dividends declared, home office remittances and receipts, and special deposits, are ignored. Gain or loss from agency balances and bills receivable not admitted as assets on the underwriting and investment exhibit will be ignored, excepting only such914 agency balances and bills receivable as have been charged off the books of the company as bad debts or, having been previously charged off, are recovered during the taxable year. This article recognizes that not all items of investment income and underwriting income which properly appear on the underwriting and investment exhibit of the annual statement are required to be included in gross income under the provisions of section 204. This Board has also recognized that not all items constituting gross income under other sections of the statute are income of an insurance company subject to the special provisions of the statute. Massachusetts Protective Association, Inc.,18 B.T.A. 810">18 B.T.A. 810; Farmers Life Insurance Co.,27 B.T.A. 423">27 B.T.A. 423; National Capital Insurance Co. of the District of Columbia,28 B.T.A. 1079">28 B.T.A. 1079. The only item of underwriting income which is required to be reported in gross income under section 204 is premium income, which is to be offset by losses incurred and expenses incurred. In the instant case the question arises as to whether the excess of the awards received by way of salvage over losses incurred becomes underwriting915 income in view of the fact that there were no premiums earned on insurance contracts during the taxable years. In other words, can there be any underwriting income within the meaning of the statute when there are no premiums earned on insurance contracts during the year? "Losses" as defined in subsection (b)(6) are allowed as deductions from gross 744 income, subsection (c)(4), provided they have not already been allowed in computing underwriting income, subsection (e). While we do not doubt that the excess of the salvage received over losses paid is underwriting income in so far as the insurance company is concerned and that it would appear on the underwriting exhibit of the annual statement as such, it is not "underwriting income" within the meaning of the statute which limits the items of gross income to the items enumerated in subsection (b)(1) and prescribes in detail in other paragraphs of subsection (b) how this income should be computed. The Revenue Act of 1932 has cured the omission in the 1928 Act by adding to section 204(b)(1), item (C): "All other items constituting gross income under section 22." The effect, therefore, of the receipt of the awards in the916 taxable years before us is that losses will be reduced or wholly offset but the excess, if any, of the principal of the awards received over losses should not be treated as underwriting income subject to tax. Respondent determined that the taxpayer was liable for delinquency penalties as provided in section 291. This section provides in part: SEC. 291. FAILURE TO FILE RETURN. In case of any failure to make and file a return required by this title, within the time prescribed by law or prescribed by the Commissioner in pursuance of law, 25 per centum of the tax shall be added to the tax, except that when a return is filed after such time and it is shown that the failure to file it was due to a reasonable cause and not due to willful neglect no such addition shall be made to the tax. * * We are of the opinion that the facts support the petitioner's contention that there was no willful neglect on the part of the Superintendent of Insurance in failing to file timely tax returns for this taxpayer. But, as was held in Charles E. Pearshall & Son,29 B.T.A. 747">29 B.T.A. 747, the proposed penalties are avoided only when, in addition to the absence of willful neglect, the917 tardy filing is the result of "reasonable cause", which has been defined to be such a cause as would prompt an ordinarily intelligent and prudent business man to have so acted under similar circumstances. We have found that the delay in filing the returns in the instant case was not due to reasonable cause. The record discloses that the General Counsel of the Bureau of Internal Revenue rendered an opinion in June 1928, which is prior to the due dates of the returns for the taxable years involved herein, holding that the Superintendent of Insurance of New York was required to file tax returns for companies in process of liquidation under section 63 of the Insurance Law of New York. The Superintendent of Insurance had authority, under section 63, to employ additional help to assist in the preparation of such returns and did call in outside accountants 745 in July 1931, which was too late to file returns within the time prescribed by law for the year 1930 and prior years. The determination of the respondent that the taxpayer is liable for delinquency penalties is, therefore, approved. Reviewed by the Board. Judgment will be entered under Rule 50.Footnotes1. SEC. 204. INSURANCE COMPANIES OTHER THAN LIFE OR MUTUAL. (a) Imposition of tax. - In lieu of the tax imposed by section 13 of this title, there shall be levied, collected, and paid for each taxable year upon the net income of every insurance company (other than a life or mutual insurance company) a tax as follows: * * * (b) Definition of income, etc. - In the case of an insurance company subject to the tax imposed by this section - (1) GROSS INCOME. - "Gross income" means the sum of (A) the combined gross amount earned during the taxable year, from investment income and from underwriting income as provided in this subsection, computed on the basis of the underwriting and investment exhibt of the annual statement approved by the National Convention of Insurance Commissioners, and (B) gain during the taxable year from the sale or other disposition of property; (2) NET INCOME. - "Net income" means the gross income as defined in paragraph (1) of this subsection less the deductions allowed by subsection (c) of this section. (3) INVESTMENT INCOME. - "Investment income" means the gross amount of income earned during the taxable year from interest, dividends, and rents, * * * (4) UNDERWRITING INCOME. - "Underwriting income" means the premiums earned on insurance contracts during the taxable year less losses incurred and expenses incurred; (5) PREMIUMS EARNED. - "Premiums earned on insurance contracts during the taxable year" means an amount computed as follows: From the amount of gross premiums written on insurance contracts during the taxable year, deduct return premiums and premiums paid for reinsurance. To the result so obtained add unearned premiums on outstanding business at the end of the preceding taxable year and deduct unearned premiums on outstanding business at the end of the taxable year; (6) LOSSES INCURRED. - "Losses incurred" means losses incurred during the taxable year on insurance contracts, computed as follows: To losses paid during the taxable year, add salvage and reinsurance recoverable outstanding at the end of the preceding taxable year, and deduct salvage and reinsurance recoverable outstanding at the end of the taxable year. To the result so obtained add all unpaid losses outstanding at the end of the taxable year and deduct unpaid losses outstanding at the end of the preceding taxable year. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4562824/	NOT FOR PUBLICATION FILED UNITED STATES COURT OF APPEALS SEP 3 2020 MOLLY C. DWYER, CLERK U.S. COURT OF APPEALS FOR THE NINTH CIRCUIT BRENT NICHOLSON, an individual, No. 19-35753 Plaintiff-Appellant, D.C. No. 2:12-cv-01121-RSL and MEMORANDUM* NMP CONCORD II LLC, a Washington Limited Liability Company; et al., Plaintiffs, v. THRIFTY PAYLESS, INC., a California corporation; RITE AID CORPORATION, a Delaware corporation, Defendants-Appellees, and NO ONE TO BLAINE, LLC, a Washington limited liability company, Counter-defendant. Appeal from the United States District Court for the Western District of Washington Robert S. Lasnik, District Judge, Presiding * This disposition is not appropriate for publication and is not precedent except as provided by Ninth Circuit Rule 36-3. Submitted September 1, 2020 Seattle, Washington Before: McKEOWN and VANDYKE, Circuit Judges, and KENDALL, * District Judge. Brent Nicholson appeals the district court’s second order on remand, holding that the money deposited in the escrow account in lieu of a supersedeas bond serves as security for the entirety of the judgment and award in this case. The parties are familiar with the facts, so we do not repeat them here. We affirm. Nicholson’s preferred interpretation that the Escrow Deposit Agreement secures only his personal liability is not supported by the objective manifestations of the parties’ intent at the time the contract was formed. See Int’l Marine Underwriters v. ABCD Marine, LLC, 179 Wash. 2d 274, 282 (2013). The Escrow Deposit Agreement’s stated purpose—“to maintain funds awarded to [the defendants] in a judgment and attorney fee award entered” in this case—does not limit the use of the deposited fund to Nicholson’s personal liability. Admissible extrinsic evidence also contradicts Nicholson’s preferred interpretation. See Berg v. Hudesman, 115 Wash. 2d 657, 667 (1990). For example, the Amended Lease— The panel unanimously concludes this case is suitable for decision without oral argument. See Fed. R. App. P. 34(a)(2). * The Honorable Virginia M. Kendall, United States District Judge for the Northern District of Illinois, sitting by designation. 2 which contains a provision describing the purpose of the escrow account—shows that the parties agreed to use the escrow fund “as security for payment of Tenant’s Claim,” which includes “a judgment and an award for attorneys’ fees” in this case not only “against . . . Brent Nicholson,” but also “other Plaintiffs.” Nicholson’s other proffered extrinsic evidence is inadmissible for determining the intent of the contracting parties. See Hollis v. Garwall, Inc., 137 Wash. 2d 683, 695 (1999) (“admissible extrinsic evidence does not include[] [e]vidence of a party’s unilateral or subjective intent as to the meaning of a contract word or term” or “[e]vidence that would vary, contradict, or modify the written word”). Therefore, the district court properly interpreted the Escrow Deposit Agreement based on “the actual language of the agreement,” and also “the contract as a whole, the subject matter and objective of the contract, all the circumstances surrounding the making of the contract, the subsequent acts and conduct of the parties to the contract, and the reasonableness of respective interpretations advocated by the parties.” Tanner Elec. Co-op. v. Puget Sound Power & Light Co., 128 Wash. 2d 656, 674 (1996) (internal quotation marks and citation omitted). AFFIRMED. 3	01-04-2023	09-03-2020
https://www.courtlistener.com/api/rest/v3/opinions/4476310/	OPINION. Black, Judge: The Commissioner in his determination of the deficiencies added to petitioner’s net income for each of the fiscal years before us certain income which he designated “Income with respect to Huth and Reineking contracts.” As a matter of fact the assignment to Louise Mattox of the income and profits from the Reineking contract was not executed by petitioner until February 21, 1940. Only a small amount of the income and profits involved in this proceeding was paid over to Louise Mattox under this latter assignment and it was paid during the fiscal year ending June 30, 1940. Practically all the income involved in this proceeding was paid to Louise Mattox by her husband, the petitioner, under the assignment of the income and profits from the Huth contract, which assignment was executed September 3, 1936. However, the amounts of income involved in each of the taxable years is not in-controversy and petitioner makes no point that there is any fundamental difference between the two contracts or the assignments of income or profits under them. Therefore, in the treatment of the question which we have to decide we' shall not undertake to make any distinction between the income and profits which were paid to Louise Mattox under the two respective assignments which are in evidence. The question which we have to decide is one which has often troubled the Board of Tax Appeals, now the Tax Court of the United States, and likewise has troubled the Federal courts. The Supreme Court of the United States has decided several cases dealing with different phases of the subject. Some of these cases are Blair v. Commissioner, 300 U. S. 5; Helvering v. Eubank, 311 U. S. 122; Helvering v. Horst, 311 U. S. 112; Harrison v. Schaffner, 312 U. S. 579. The above cited Supreme Court cases and other cases dealing with the subject are discussed by the parties in their briefs. It is clear from the facts as found in our findings that the instant case is not on all fours with any of the above cited Supreme Court cases. Petitioner argues that the assignments of income and profits from the Huth and Reineking contracts were similar to the assignments of income from trust property which were present in Blair v. Commissioner, supra, and that that case.is controlling in favor of petitioner. Respondent contends that the commissions or royalties which were payable to Ronald Mattox under the contracts were payable either for personal services which he had rendered, or was yet to render in the performance of the contracts and that the assignments of income and profits from the contracts are controlled by Helvering v. Eubank, supra, and that petitioner is taxable thereon, even though such income and profits were payable to Louise Mattox under the assignments. It seems clear that such income and profits as were payable to Mattox under -the terms of the contracts were not payable to him for any services which he had rendered or was to render under the terms of the contracts. Such fraternity and sorority accounting contracts as were transferred by the Ronald Mattox Co. to Huth and Reineking were the property of the corporation and not of Mattox as an individual. Any future services rendered in the performance of these contracts or other contracts which Huth and Reineking obtained were performed by Huth and Reineking and their organizations and not by Mattox as an individual. Therefore we doubt if Helvering v. Eubank, supra, is applicable under such circumstances. Petitioner strongly argues in his reply brief that the commissions or royalties, or whatever else the payments in question may be called, which were payable to Mattox under the contracts were not payable for any services of petitioner but were payable because of the interest the corporation owned in the contracts which it transferred to Huth and Reineking and for which the commissions or royalties were payable. We are inclined to accept this view of the nature of the payments. But when this view of the payments is accepted is Blair v. Commissioner, supra, controlling as contented by petitioner? We think not. It seems to us that the commissions or royalties which were to be paid by Huth and Reineking under the contracts were payments made for the corporation’s property and business which they took over and that such commissions or royalties, or whatever they may be called, were in reality the income of the corporation, the Ronald Mattox Co. of Indiana. It is true that under the contracts the payments were to be made to Ronald Mattox as an individual and not to the corporation. However, this is doubtless explained by the fact that Ronald Mattox owned substantially all of the stock of the corporation, and he seems to have treated it as his alter ago. Certainly the payments were not made to Mattox because of any patented system of accounting which he owned, because we do not understand that he claims to own any patented system of accounting. So it seems to us that we must regard the payments which were to be made to him under the terms of the contracts of being made because he was substantially the owner of all the stock of the corporation. In view of the matter the payments to be made to Mattox were in the nature of distributions from the corporation, cf. Gold & Stock Telegraph Co., 26 B. T. A. 914; affd., 83 Fed. (2d) 465, and would be taxable to petitioner even though prior to their receipt he had assigned them as a gift to Louise Mattox. This results from the fact that Mattox still remained the owner of his shares in the corporation. See Helvering v. Horst, supra; Florence S. Hyman, 1 T. C. 911, on review by the Second Circuit. During the taxable years Louise Mattox owned in her own right three shares of stock in the corporation. Therefore, under the view we have expressed above as to the amounts which were paid to her in the respective taxable years, 3/100 were properly paid to her as a stockholder of the corporation and are properly taxable to her and not to petitioner. If we are wrong in our theory above expressed that the royalties or commissions, or whatever they may be called, were in reality first the income of the corporation and were only paid to petitioner because he owned substantially all the stock of the corporation, and if the correct theory is that they were in fact royalties or commissions properly payable to petitioner as an individual, nevertheless, we think that under the assignments which are present in the instant case the income in question would be taxable to petitioner. Cf. Estate of J. G. Dodson, 1 T. C. 416, on review by the Fifth Circuit. In reaching our decision we have not overlooked Herbert R. Graf, 45 B. T. A. 386, a case cited and relied upon by petitioner. We think that case is distinguishable on its facts from the instant case. Decision will be entered wnder Rule 50.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623827/	Estate of Allie W. Pittard, Deceased, John E. Pittard, Jr., Executor, Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Pittard v. CommissionerDocket No. 1399-74United States Tax Court69 T.C. 391; 1977 U.S. Tax Ct. LEXIS 12; December 6, 1977, Filed 12 Decision will be entered under Rule 155. The executor administrated his mother's estate managed and operated a corporation in which his mother was sole shareholder, and was a cobeneficiary of her estate. The estate tax return he filed substantially understated the value of the estate. Held, the estate is not entitled to a sec. 2053 deduction for the money the deceased borrowed from the banks and transferred to the corporation, because the estate could have been reimbursed by the corporation. Held, further: The estate's return was false and fraudulent with the intent to evade taxes. Therefore, the additions to tax under sec. 6653(b), I.R.C. 1954, are applicable. Charles L. Steel IV, for the petitioner.Gary F. Walker, for the respondent. Irwin, Judge. IRWIN391 Respondent determined a deficiency of $ 74,725.72 and an addition to tax for fraud under section 6653(b)1 of $ 37,362.86 in petitioner's estate tax return filed in 1970. Other issues having been disposed of by agreement of the parties, the three issues remaining for decision are:(1) Whether the executor improperly omitted his mother's corporation stock and her annuity payments from her original estate tax return;(2) Whether14 the estate's deduction claimed for decedent's debt on three notes was canceled by decedent's right to look to Chapman Corp. for payment of the notes; and, if there exists such a right, whether this right of reimbursement was worthless; and(3) Whether any part of the deficiency was due to fraud with intent to evade taxes.FINDINGS OF FACTSome of the facts have been stipulated and the stipulation of facts, together with the exhibits attached thereto, are found accordingly.Allie W. Pittard (Allie) was a resident of Oxford, N.C., when 392 she died testate on July 19, 1969. John E. Pittard, Jr. (Pittard, Jr. or petitioner), decedent's son, was appointed executor of the estate. At the time of filing the petition herein, petitioner resided in Oxford, N.C.A Federal estate tax return was filed on December 14, 1970, with the District Director15 of Internal Revenue, Greensboro, N.C. No payment of the amount reported due and owing on the return was submitted with the filing of the return. An amended Federal estate tax return was filed on August 29, 1972.Allie's husband, John E. Pittard, Sr. (Pittard, Sr.), predeceased her in March 1953. Pittard, Sr., was survived by his wife, Allie, their daughter, Wilma P. Searles (Wilma or Mrs. Searles), and their son, John E. Pittard, Jr., who is the executor herein. Subsequent to his father's death, petitioner has resided in Oxford, N.C., and his sister, Wilma, has resided in California with her husband, Fred Searles.When Pittard, Sr., died in 1953, he was president and chief executive of Chapman Lumber Co. of Oxford, North Carolina, Inc. (Chapman Corp.).As of May 29, 1942, Chapman Corp. had 200 shares of issued and outstanding common stock. At his death Pittard, Sr., held 198 of these shares, his wife, Allie, held 1 share and Hal Pittard held 1 share.Allie became executrix of Pittard, Sr.'s estate. With regard to the probate of that estate she reported his interest in the 198 shares of Chapman Corp. stock to the Clerk of Superior Court, Granville County. Allie was the sole 16 devisee and legatee of Pittard, Sr.'s will, thus receiving all the rights and interests to those 198 shares held by her predeceased husband. When Allie died on July 19, 1969, her will conveyed her 200 shares 2 of Chapman Corp. stock to her daughter, Wilma, and to her son, Pittard, Jr., as follows:To my daughter, Wilma P. Searles, and my son, J. E. Pittard, Jr., share and share alike, I give, devise and bequeath in fee-simple forever my entire net real and personal estate, provided, however, that my son, J. E. Pittard, Jr., shall have and he is hereby extended the privilege of taking my Chapman Lumber Company stock on account of his share at a value to be placed upon the same as of the date of my death by agreement between my daughter and son, if 393 possible, and if my daughter and son are unable to agree on the value of such stock I direct that such value be fixed and determined by three qualified appraisers, one to be selected by my daughter, the other to be selected by my son, and the third to be selected by the other two, and the value placed upon such stock shall be binding upon both my daughter and my son, and after the value of said stock shall have been determined 17 in one or the other manners herein provided for my said son shall, if he desires, have such stock in full of his share in my estate if such value equals one-half of the net value of my estate, and if it does not equal one-half of the net value of my estate he shall have such stock on account of his share, and if it exceeds one-half in value of my net estate, then my said son shall effect equality with his sister by paying to her one-half of the difference between the value placed on said stock and one-half of the net value of my estate.Pittard, Jr., had not read his mother's will until it was presented for probate. Pursuant to the provisions of this will, a proposed sales agreement was drafted by Wilma's attorney to enable Pittard, Jr., to purchase his sister's share of the Chapman Corp. 18 stock. This proposed agreement followed a meeting held between Wilma and her husband, their attorney, an unnamed accountant, and Pittard, Jr., and his attorney, Stephen S. Royster. The written agreement was never signed and no stock was ever purchased subsequent to this agreement attempt.After his mother's death, Pittard, Jr., was contacted by one of respondent's agents on an unrelated tax collection matter. The agent and petitioner had known each other for approximately 25 years. Pittard, Jr., showed the agent the assets of the estate and was reminded by the agent that one-half of Allie's estate would go to his sister. As executor, Pittard, Jr., filed his mother's estate tax within 17 months after her death. This return was prepared by an attorney based on information supplied by Pittard, Jr. Petitioner succeeded his mother as fiduciary of his father's estate. He filed a final accounting for his father's estate with Superior Court and personally negotiated the value of the Chapman Corp. stock for his father's estate. Petitioner did not include the 200 shares of Chapman Corp. as an asset of his mother's gross estate in the original return filed December 14, 1970.Petitioner19 graduated from high school, attended college for 2 years, and then started working with his father, Pittard, Sr., at Chapman Corp. in 1948. Subsequent to his father's death in 1953, petitioner managed and operated the corporation. Allie was elected secretary of the corporation in 1953. On her death, the corporation's financial statements, books, and records were in 394 petitioner's control. At the time he served as executor of his mother's estate, he was also a member of the boards of directors for both the Union National Bank and the Granville Savings & Loan Association in Oxford, N.C.As executor, Pittard, Jr., retained Stephen S. Royster, an attorney, for his mother's estate. When the will was probated, Royster discussed the estate with the clerk of the court. Royster prepared Allie's estate tax return from information provided him in the main by petitioner. He advised petitioner to account for every asset in the estate. While it is a general practice for Royster to sign the attorney's declaration stating that the return is true, correct, and complete based on all information relating to matters required to be reported on the return, Royster did not sign the declaration20 on Allie's estate tax return. Royster also represented Chapman Corp. and was familiar with its corporate affairs.Allie's estate tax return was selected and assigned for audit 2 years after her death. Preliminary to auditing the return, respondent's agent contacted the clerk of the court for Granville County. The clerk disclosed public records to the agent which indicated that the Chapman Corp. stock was included in Pittard, Sr.'s estate and that Allie inherited that stock as sole beneficiary of that estate.In November 1971, respondent's agent questioned Royster about the stock omission. The attorney replied that Pittard, Jr., had told him that he had purchased his mother's stock 4 to 6 years before her death. When petitioner was contacted by respondent's agent on May 4, 1972, he was advised by petitioner that he had purchased his mother's Chapman Corp. stock in 1953, the year his father died. Petitioner also told the agent that the documents concerning the sale had been burned in a fire that destroyed all Chapman Corp. records and some of his and his mother's personal records after his mother's death in 1969 and that the stock record book was destroyed by fire. Pittard, Jr., 21 could not recall what he paid for the stock and produced no evidence of the purchase from any records. However, it was subsequently discovered that corporate records -- including the corporate minute book, stock certificates, stock record book, some financial books and records, and some of Allie's personal correspondence between Allie and Chapman Corp. -- were located in the corporation's safe at Allie's death in 1969 and were not 395 destroyed by fire. Respondent produced two stubs from the stock record book at trial. They contained the notation that on January 5, 1970, John E. Pittard, Jr., transferred to himself 198 shares of stock in Chapman Corp. from the estate of J. E. Pittard, Sr., and 1 share from Allie. During the administration of the estate, petitioner told his sister he had purchased Chapman stock from their mother. Pittard, Jr., also wrote out checks in his capacity as executor to himself or Chapman Corp. in the amount of $ 46,865.On March 17, 1972, Pittard, Jr., wrote a letter to respondent's agent stating that the return as originally filed was a temporary return and that $ 43,000 in liabilities consisting of accounts and notes due should be deducted from22 the gross estate since they were not known about when the original return was filed. This was the first time that petitioner had mentioned that the return filed in 1970 was a temporary return. The tax effect of including these additional deductions would have meant a negative taxable estate and, thus, no tax would be due. When the agent contacted petitioner shortly thereafter, petitioner advised him that no tax was owed by the estate due to these deductions and that petitioner was employing Mr. Royster to prepare an amended return to that effect.With regard to petitioner's allegations of stock purchase, respondent's agent recommended that the case be referred to a special agent for criminal investigation. Both the agent and the special agent met with Mr. Royster in his office on August 28, 1972, along with petitioner's sister, Wilma, her husband, and their attorney. At the conclusion of the conference, it was agreed by the attorneys that Pittard, Jr., would be requested to file an amended return. Later that day the two agents met briefly with petitioner. The special agent informed him of his constitutional rights.Mr. Royster prepared an amended return based on information23 furnished him by petitioner, disclosing Allie's omitted interest in the Chapman Corp.; however, that interest was valued at zero for July 19, 1970, the alternate valuation date. Petitioner signed it and respondent's agent received it the next day, August 29, 1972. Prior to this amended return, however, petitioner submitted a financial statement to the Central Carolina Bank & Trust Co. in Oxford, N.C., dated December 31, 1969, in which petitioner stated the book value of the Chapman 396 Corp. to be $ 276,820.14. In 1967, Pittard, Jr., represented to Planter's National Bank & Trust Co. in another collateral matter, that his mother owned stock in Chapman Corp. by indicating that she had received dividends of $ 6,000 the previous year. This same submission indicates that Wilma and petitioner received dividends of $ 6,000 each. In 1970 the Chapman corporate income tax return reflects a book value of $ 170,097.78.The Internal Revenue Service's policy guiding special agents in North Carolina called for a timely and prompt investigation. Otherwise a criminal referral file was to be closed. Prior to the commencement of a field investigation respondent's special agent closed his24 criminal investigation file for Pittard, Jr., due to the heavy work load and the lack of manpower available at that time in the Intelligence Division. He did this even though it was his opinion this case justified investigation. The special agent gave no consideration to civil liabilities.During the course of the audit, petitioner produced no financial information or evidence with regard to the value of the corporation or its stock. After the audit examination petitioner submitted to the Internal Revenue Service some information which included a July 1970 balance sheet prepared for petitioner by Mr. Stark, a C.P.A., which was represented to be a statement of Chapman Corp.'s assets and liabilities. This balance sheet showed assets of $ 135,175, liabilities of $ 116,985.98, and stockholder's equity of $ 18,189.02. The balance sheet omitted the corporate land, building, and mill.By using the $ 18,189.02 stockholder's equity figure and by adding figures for the costs of the land, building and mill, the parties agreed on a figure of $ 31,574 for the value of the outstanding stock. 325 397 Another issue is the alleged omission of annuity payments. When Allie died, she was receiving monthly annuity payments from Protective Life Insurance Co. of Birmingham, Ala. The monthly payments were generated by insurance proceeds from a policy regarding John E. Pittard, Sr. Pursuant to Allie's request on May 12, 1953, the insurance proceeds became payable in monthly installments over a 20-year period, but were to be converted into equal lump-sum payments to her daughter, Wilma P. Searles, and to her son, John E. Pittard, Jr., in the event of her death. Notwithstanding her request for a lump-sum payment in the event of death, the monthly checks continued after her date of death, until termination of the installments in 1973. During the period from Allie's death in 1969, until termination in 1973, the monthly checks in the amount of $ 49.91 were issued payable to Allie W. Pittard, and were endorsed by John E. Pittard, Jr., as executor.Schedule I of the original estate tax return states that Allie was not receiving an annuity immediately before her death. The amended return includes Allie's annuity as an asset in her gross estate.A third matter involves a deduction26 for $ 38,500 for three notes. Petitioner instructed his attorney, preparatory to filing the amended return, to claim a deduction of $ 38,500 4 for notes payable to three banks from Allie's gross estate. No deduction was claimed on the original return. A deduction was claimed on Schedule K of the amended return.When respondent's agent asked Pittard, Jr., for substantiation of these notes, he was unable to produce any. He reiterated that all the records were destroyed in a fire at Chapman Corp.The notes in question refer to three transactions. On February 28, 1969, Allie signed a note to Union National Bank for $ 10,000. On July 5, 1969, Allie cosigned27 a note with Pittard, Jr., to Planters National Bank & Trust for $ 8,500. Just prior to her death in July 1969, she signed a third note to Central Carolina Bank & Trust Co. for $ 20,000. 5 The funds generated by the three notes were transferred by Allie to Chapman Corp.'s cash account 398 and were utilized by the corporation for its benefit. The $ 20,000 was secured by stock which she had pledged to the bank. This stock was an asset in her estate and it was used to pay the note.ULTIMATE FINDINGS OF FACT(1) Chapman Corp. was financially able to repay Allie for the money she borrowed from the banks and transferred to the corporation for its benefit.(2) In 1970 executor John E. Pittard, Jr., understated the amount of Federal estate tax required to be shown on his mother's estate tax return, and this was due to fraud.OPINIONPetitioner claimed a deduction of $ 38,500 on the amended return of his mother's28 estate for indebtedness he and his mother had incurred in borrowing certain funds. The parties have stipulated that proceeds of these loans were transferred to the corporation and utilized in its business.Respondent maintains that any deduction claimed by the estate 6 for decedent's indebtedness is canceled or set off by decedent's right to look to Chapman Corp. for payment of the notes, and that petitioner has not demonstrated that this right of reimbursement was worthless.Petitioner, on the other hand, points to the notes that are signed by Allie as evidence that a personal debt was incurred. He maintains he had no notice of facts tending to disprove the claimed indebtedness, and directs us to the fact that 29 assets from Allie's estate were used to satisfy one note. He contends that the right to reimbursement from the corporation was worthless because the corporation was incapable of repaying the amount of transferred proceeds.We do not doubt the validity of the indebtedness which Allie incurred in borrowing the funds. As such, the amount of the indebtedness is properly deductible in arriving at a value for the taxable estate. However, we think it is clear that the transfer of the funds from Allie to the corporation created an asset properly 399 includable in Allie's estate, that asset being the right of reimbursement from the corporation.Having decided that the right to reimbursement was an asset properly includable in the decedent's estate, we must now consider petitioner's major contention -- that the asset had no value.The appropriate date of valuation is the alternate valuation date, July 19, 1970, 1 year after decedent's death. Petitioner asserts the stipulated value of the stock on the alternate valuation date of $ 31,574 precludes a finding that the corporation could have paid the notes. He also points to the testimony of William Stark, C.P.A., to the effect that the30 company was incapable of paying the notes.We have several problems with petitioner's assertions. First of all, the $ 31,574 book value figure does not of itself preclude the corporation's ability to pay the notes since a net worth in the corporation below the amount of the loans from Allie is not the only factor to be considered. Although we are given Stark's conclusion that the corporation did not have the liquidity to pay the loans, we cannot rely solely on his judgment because he formulated that determination on the basis of information he accepted which was prepared by another accountant. Neither Stark nor petitioner could identify the components of certain tabulations. In any event inability to pay is not synonymous with worthlessness.The income tax returns filed by Chapman Corp. and signed by petitioner show a book value for the corporation in the amount of $ 168,751.83 for the year ended December 31, 1969, and in the amount of $ 170,097.78 for the year ended December 31, 1970. While these figures do not provide the best indication of value, we feel they are indicative of an ability to pay an obligation in the amount of $ 38,500 during the year 1970.Due to the state 31 of the record, we feel our only recourse is to hold that petitioner failed to meet his burden of proof and that the value of the obligation was the full amount of the transferred funds, $ 38,500. Cf. sec. 20.2031-4, Estate Tax Regs.The next issue for decision is whether petitioner John E. Pittard, Jr., as executor for his mother's estate, understated the assets of the estate with intent to evade tax, rendering him liable for an addition to tax for fraud pursuant to section 6653(b).400 On this issue, the burden of proof is on respondent and must be met by clear and convincing evidence. Sec. 7454(a); Rule 142(b), Tax Court Rules of Practice and Procedure; Estate of Temple v. Commissioner, 67 T.C. 143">67 T.C. 143 (1976); Fox v. Commissioner, 61 T.C. 704 (1974); Otsuki v. Commissioner, 53 T.C. 96">53 T.C. 96, 105-106 (1969). If this burden is met, the 50-percent addition to tax is properly applied to the deficiency. Sec. 6653(b). 732 The determination of fraud is primarily a question of fact to be resolved from an analysis of the entire record. Stratton v. Commissioner, 54 T.C. 255">54 T.C. 255 (1970). "The fraud meant is actual, intentional wrongdoing, and the intent required is the specific purpose to evade a tax believed to be owing." Mitchell v. Commissioner, 118 F.2d 308">118 F.2d 308, 310 (5th Cir. 1941).Two hundred shares of Chapman Corp. stock were initially omitted from Allie H. Pittard's estate tax return filed by petitioner in 1970. The stock was later included in the gross estate at a zero value in an amended return filed by petitioner in 1972.It is petitioner's contention that he believed he owned Chapman Corp. at the time of his mother's death and that there is no evidence that he had actual notice or knowledge to the contrary. Respondent asserts that (1) petitioner had no grounds to believe he honestly had purchased his mother's interest in the corporation; (2) petitioner intended to persuade respondent's agent to terminate his audit without disclosing the omitted stock; (3) petitioner did not concede the existence of stock in his mother's estate until he 33 was contacted by a special agent who read him his constitutional rights preliminary to a criminal investigation; and (4) petitioner's reporting of the 200 shares 8 at zero value on the amended return was not disclosure, but rather further concealment of the value of the unreported stock.An examination of all the evidence in the record reveals sufficient inconsistencies in petitioner's position to refute his 401 contentions and to present convincing evidence of an intent to evade tax.When Pittard, Sr., died in 1953, his wife Allie was the sole beneficiary of his will and became the owner of his shares of Chapman Corp. stock. Petitioner succeeded his mother as fiduciary of his father's estate. He filed a final accounting for his father's estate on July 21, 1969, acknowledging his mother as the sole devisee and legatee of Pittard, Sr.'s estate. He personally negotiated the value of the Chapman 34 Corp. stock for his father's estate. Petitioner knew his mother had inherited his father's interest in Chapman Corp. at least 17 months before he filed her estate tax return.When Allie died in 1969, her will reflected her ownership in the stock and its bequest of equal shares to her son (petitioner) and to her daughter, with an option for petitioner to buy all of the stock under specified condition. There is no evidence in this case that the stock was transferred or purchased by anyone from Pittard, Sr.'s death in 1953 to Allie's death in 1969.Despite this, however, Pittard, Jr., informed his sister during the administration of the estate that he had purchased the stock in issue from their mother. To avoid inclusion of the stock in Allie's estate, he reiterated this claim of purchase to the attorney who prepared Allie's estate tax return in 1970, and again to respondent's agent in 1972. The agent was told by Pittard, Jr., that his purchase of this stock had occurred in 1953, the year his father died. When he was asked for tangible documentation of the sale, Pittard, Jr., told the agent that all documents concerning the purchase of the stock had been destroyed in a fire occurring35 at the corporation subsequent to his mother's death. In truth, the corporate stock record book, the corporate records, and some of Allie's personal correspondence with the corporation were found in the corporation's safe after Allie's death in 1969, and were introduced at trial. The stock record book reflects that Pittard, Jr., transferred 199 shares of Chapman Corp. stock to himself on January 5, 1970, an incongruity which not only bodes ill with petitioner's prior assertions, but also negates petitioner's assertion that these same records were destroyed by fire after Allie's death in 1969. Nevertheless, the entire record is devoid of any substantiation to deem this transfer a purchase rather than a misappropriation. We also note that Pittard, Jr., referred to the same stock record 402 book, which he falsely claimed had been burned, to review the Carolina Power & Light stock for inclusion in Allie's gross estate. This is added evidence of petitioner's efforts at concealment.Also, when one of respondent's agents, who had known Pittard, Jr., for 25 years and had many business contacts with him prior to this case, contacted Pittard, Jr., on another tax matter after Allie36 died, the agent reminded petitioner that one-half of his mother's estate would go to his sister, Wilma. Pittard, Jr., replied that if he had his way, he would retain all of the estate.Further, the attorney who prepared the original return for the estate had also represented the Chapman Corp. and was familiar with its affairs, yet he did not follow his customary practice of signing the attorney's declaration on the estate tax return.We do not believe that, had petitioner purchased the stock as he alleged, he would have forgotten the details of the purchases and would have had no documentation. As the operating head of one corporation and a board member of two others, he was bound to be knowledgeable of such matters.We also find it noteworthy that only after petitioner found himself on the threshold of a criminal investigation by the special agent reading him his constitutional rights did he agree the stock should be included in the estate in an amended return. Several events preceded and generated the filing of this second return which return still left room for doubt.There was the investigation by the agent of the assertion by Pittard, Jr., that he purchased the stock in 195337 and later that he purchased it 4 to 6 years before his mother's death.There was the meeting shortly after Allie's death in 1969 between petitioner, Stephen S. Royster, his attorney, and his sister, her husband, and their attorney to draft a sales agreement for petitioner to purchase his sister's share of his mother's stock as provided for in his mother's will.There was the letter, in March 1972, which petitioner wrote to respondent's agent declaring that the original return was temporary and that there was $ 43,000 in additional liabilities which had not been set forth on Schedule K. Without inclusion of Allie's stock interest, the effect of the additional deductions would have canceled all tax due and owing on the estate tax return. This position was again urged by petitioner to the 403 revenue officer who attempted to collect the tax owing on the original return in 1972. As it turned out the Schedule K deductions on the original return consist of a hospital bill of $ 21, utilities in the amount of $ 29, and notes payable to Chapman Corp. of $ 32,500. Those on the amended return total $ 40,212.50, consisting of the $ 21 hospital bill, the $ 29 utility bill, three notes38 payable to banks in a total amount of $ 38,500, and a miscellaneous list totaling $ 1,662.56. The difference was $ 7,662.50 and not $ 43,000 as petitioner had indicated.Further, when petitioner included the value of his mother's stock in the amended return, he included it at a zero basis and did not acknowledge that the corporation was worth more than that until the agent pointed out to him that the Chapman Corp. corporate tax return for 1970 showed a net worth of $ 170,097.78. Moreover, the financial statement Pittard, Jr., prepared in 1969 of Chapman Corp. and presented to the Central Carolina Bank & Trust Co. showed a book value of $ 276,820.14.There was a meeting held on August 28, 1972, between the revenue agent, the special agent, Pittard, Jr.'s attorney, and Mr. and Mrs. Searles and their attorney. The agents discussed the omitted stock and advised that Pittard, Jr., should file an amended return. Later the 2 agents met with petitioner and informed him of his constitutional rights. The next day an amended return which included the stock at zero basis was handed to the agents.We find a similar pattern regarding the omission of Allie's annuity payments from the original39 estate tax return. When Pittard, Jr.'s attorney prepared the return, he relied on the information provided by Pittard, Jr. As Pittard, Jr., instructed, the attorney indicated on Schedule I that Allie was not receiving an annuity prior to her death. Petitioner testified that he knew his mother was receiving monthly annuity payments when the original return was filed, he knew the approximate expiration date for the annuity, and he knew the approximate value of the annuity at her death. Petitioner claims he was merely negligent in his exclusion of the annuity from the original return and he voluntarily disclosed the annuity on the amended return. We cannot help but note the circumstances under which he signed the second return and point to 16 monthly annuity checks which were endorsed by Pittard, Jr., as executor in the 17-month interim between his mother's death and the time her original 404 estate tax return was filed. These circumstances refute his claim of mere negligence.Inherent in the resolution of this issue are the actions of Pittard, Jr. He assumes several roles in this case -- general manager of the corporation, executor of the estate, and cobeneficiary of the40 estate -- and his actions in these various positions are not delineated according to the differing responsibilities he bears for each. Pittard, Jr.'s position is impaired by more than just a lack of documentation. The entire record reveals disconcerting inconsistencies on his part, unfounded beliefs contrary to fact, and a serious lack of regard for principled business practices.He commingled the estate's funds with the corporation's and his own holdings in a manner which accrued to his advantage on any particular occasion. In his corporate stance he benefited from his mother's loans without providing her with a promissory note for the proceeds of the loans transferred by her to the corporation. His corporate position also enabled him to execute a transfer of stock to himself after the stock had been devised to both himself and his sister. As an executor desiring that the estate pay as little tax as possible, and protecting his interest as a cobeneficiary, he needed a vehicle to show his mother's personal loans to the corporation were not going to be repaid, so, switching to his corporate role, Pittard, Jr., attempted to indicate a corporation in dire financial straits, unable41 to pay back the loans. Then reverting to his position as an executor, Pittard, Jr., accepted the corporation's claim that it was unable to repay the debt and declared it worthless. An objective executor has a responsibility to pursue such claims.In conclusion, we have given careful scrutiny to the entire record in this case and are convinced that the corporation was financially able to reimburse the estate for money borrowed by Allie and transferred to the corporation for its benefit. In addition, we find that the omissions of the stock and the annuity payments were due to fraud with intent to evade tax.Decision will be entered under Rule 155. Footnotes1. All statutory references are to the provisions of the Internal Revenue Code of 1954, as amended and in effect during the taxable year in issue, unless otherwise indicated.↩2. Although the record does not explain how or when Allie acquired an interest in Hal Pittard's share of stock, the parties agree, for valuation purposes, that she had an interest in all outstanding 200 shares at her date of death.↩3. The stipulation in pertinent part states:"The parties stipulate that there have been at all times only 200 shares, rather than 400 shares, of issued and outstanding stock of Chapman Corporation; and that the total fair market value of the 200 shares of Chapman stock on the alternate valuation date for Federal estate tax purposes was $ 31,574.00. For the purpose of reaching an agreement upon this valuation issue, the parties made the following tabulation:Net worth from exhibit$ 18,189Cost of land7,950Cost of building29,486Cost of mill7,523Total63,148The parties then agreed to value the outstanding Chapman Corporation stock at 50% of that figure, or $ 31,574.00, for reasons unexplained here."↩4. Schedule K of the original return lists a general category of "notes payable to Chapman Lumber Company" at a value of $ 32,500. These notes were not included on the amended return. The parties, in regard to the issue of whether the notes were payable by decedent to Chapman Corp., have stipulated that the deduction for the claimed obligations is not allowable.↩5. The record does not indicate whether she was solely, jointly, or secondarily liable on the third note.↩6. Under sec. 2053, a deduction is permitted for claims against the estate, sec. 2053(a)(3), and for indebtedness in respect of property "where the value of the decedent's interest therein, undiminished by such mortgage or indebtedness, is included in the value of the gross estate * ." Sec. 2053(a)(4).↩7. SEC. 6653. FAILURE TO PAY TAX.(b) Fraud. -- If any part of any underpayment (as defined in subsection (c)) of tax required to be shown on a return is due to fraud, there shall be added to the tax an amount equal to 50 percent of the underpayment. In the case of income taxes and gift taxes, this amount shall be in lieu of any amount determined under subsection (a). * *↩8. Although 400 shares are shown on the returns, the parties have stipulated that only 200 shares were outstanding.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623828/	Frederic A. Seidler, Petitioner, v. Commissioner of Internal Revenue, RespondentSeidler v. CommissionerDocket No. 33558United States Tax Court18 T.C. 256; 1952 U.S. Tax Ct. LEXIS 199; May 12, 1952, Promulgated 199 Decision will be entered for the respondent. Held: Amounts expended in defending and settling suits brought to set aside a trust of which petitioner was trustee and remainderman, were not deductible by petitioner as expenses and losses incurred in trade or business or as nonbusiness expenses or losses incurred in a transaction entered into for profit. David Beck, Esq., for the petitioner.John J. Hopkins, Esq., for the respondent. Van Fossan, Judge. VAN FOSSAN 256 The respondent determined deficiencies in income taxes against the petitioner as follows:YearDeficiency1946$ 474.6819474,949.16The issue in this proceeding is whether amounts expended in litigation and settlement of a controversy are deductible under the provisions of section 23 of the Internal Revenue Code.FINDINGS OF FACT.Frederic A. Seidler, the petitioner, residing in Jersey City, New Jersey, filed his income tax returns on the cash receipts basis for the 257 years 1946 and 1947 with the collector of internal revenue for the fifth district of New Jersey. Petitioner was engaged in the export business and was also interested in the sale and management of real estate. Louise G. Oswald, a first cousin of the petitioner, inherited an estate of approximately $ 200,000 upon the death of her husband, Carl Oswald, in March 1941. She attempted to commit suicide and was confined to a hospital. Petitioner introduced a lawyer, Felix Forlenza, 201 to his cousin while she was in the hospital and the lawyer was instrumental in avoiding publicity. Upon the insistence of Louise Oswald, Felix Forlenza became her attorney in connection with the estate left to her. Upon her discharge from the hospital, Louise Oswald returned to petitioner's home. Forlenza collected rental payments on property included in the estate and advised Louise Oswald to give the petitioner a power of attorney in order that he might handle her affairs. A power of attorney was executed by Louise Oswald in favor of the petitioner on July 15, 1941. The petitioner never took any action under this power of attorney. Louise Oswald was desirous of having the petitioner completely manage her estate and Forlenza drafted a trust agreement with the petitioner as trustee and remainderman which was executed by Louise Oswald on August 15, 1941. There was no provision in the trust for revocation by Louise Oswald. The petitioner had earlier declared that he was not interested in becoming a party to a revocable trust. Forlenza discussed the trust agreement with the petitioner and explained to him that he would be entitled to commissions as a matter of law and would 202 also be remainderman. The petitioner required Forlenza to look after the details of the undertaking, and upon this basis petitioner then accepted the agreement. The petitioner's motive in accepting the trust was to obtain the corpus of the trust as remainderman. If he had not been sole remainderman of this trust of a value of $ 200,000, he would not have accepted the position of trustee.The trust property which was productive of income consisted of 16 pieces of real estate, seven mortgages, bonds, and stocks. The petitioner, as sole trustee, was to invest the property and to pay Louise Oswald $ 75 a week out of the net rents and income of the trust after deducting administration commissions, charges, and expenses. Petitioner, as trustee, could pay Louise Oswald more of the income and also could make payments out of principal as he thought advisable for her comfort and support. Income not paid to the beneficiary was to be added to the trust. The petitioner could resign as trustee and appoint a successor. Upon the death of Louise Oswald the corpus of the trust was to be paid to petitioner, or, if he was not living, as he directed by will. One or two houses and some land were203 sold by the petitioner and some common stocks were replaced with Government bonds.258 Forlenza continued to collect rents, the petitioner undertaking the other aspects of management of the trust. The petitioner, who acted as trustee from August 1941 to December 1942 never received any trustee's commissions. After the commencement of litigation he sought no commissions and executed an affidavit to that effect.On August 24, 1942, a suit was initiated in the Court of Chancery of New Jersey by Charles C. Trelease, next friend of Louise Oswald, seeking to set aside the trust agreement on the grounds of incompetency upon the part of Louise Oswald and fraud and undue influence upon the part of the petitioner. The Court of Chancery held, on October 9, 1944, that Louise Oswald was not incompetent and that petitioner had not been guilty of fraud or undue influence. This decision was appealed to the Court of Errors and Appeals of New Jersey which unanimously reversed the determination of the lower court and held, on April 19, 1945, that Louise Oswald did not understand the effect of the trust, that she did not have adequate independent advice, and that the trust deed was not fair, 204 open, and voluntary. On May 20, 1946, the appellate court held that Louise Oswald was entitled to a reconveyance of all her property and an accounting. The petitioner had resigned his trusteeship in December 1942 and a substitute had been appointed. Louise Oswald objected to the accounting made by petitioner and sought to surcharge Seidler in the amount of $ 35,000 and expenses and damages, and $ 35,000 for legal expenses. The expenses and damages included claims for rents unaccounted for, expenses in revesting title to property in herself, court costs, counsel fees, and damages for entering into contracts for the sale of realty. The issues were stipulated and submitted to the Court of Chancery of New Jersey. On April 18, 1947, an agreement was entered into by Louise Oswald and petitioner settling all the issues in controversy.The petitioner paid $ 15,000 in settlement of the litigation and surcharges. A lump sum payment of $ 10,000 was made on April 18, 1947. The $ 5,000 balance was to be paid in weekly installments of $ 100 each beginning July 1, 1947. Between and including July 1, 1947, to December 30, 1947, the petitioner paid $ 2,700 in weekly checks.During 1946 the205 petitioner spent $ 1,659.51 in payment of court and printing costs and legal expenses incident to the trust litigation. During 1947 the petitioner paid $ 5,000 in counsel fees in connection with the aforementioned litigation. The petitioner was not reimbursed for any of the payments or expenses.The petitioner's business income fluctuated from year to year and declined during the period of litigation. In 1946 the petitioner claimed deductions of $ 1,659.51 as costs of litigation. A deduction of $ 17,700 was taken in 1947.259 OPINION.The sole issue is whether the petitioner may deduct, under the provisions of section 23 of the Internal Revenue Code, 1 the amounts of $ 1,659.51 as litigation expenses in 1946 and $ 17,700 spent in 1947, which latter figure represents settlement payments of $ 12,700 and $ 5,000 in counsel fees paid in connection with the trust litigation.206 It is petitioner's contention that the amounts expended were ordinary and necessary trade or business expenses under section 23 (a) (1) (A). It is sufficient to note upon this point that the petitioner was not in the business of acting as a trustee, there being no evidence that he ever so acted either prior to this occasion or subsequent thereto. He received no fees or commissions while acting in the capacity of a trustee and when the litigation commenced he stated he wanted none. This single instance of acting as a trustee was too isolated and too incidental to be considered a trade or business carried on by petitioner. Willoughby H. Stuart, Jr., 32 B. T. A. 574, affd. 84 F. 2d 368; Estate of Hyman Y. Josephs, 12 T.C. 1069">12 T. C. 1069.Nor were the payments ordinary and necessary expenses incurred in the taxpayer's business of exporting or engaging in real estate transactions. Robert Edward Kleinschmidt, 12 T. C. 921. The litigation expenses were incurred in attempting to protect and retain his personal interest in the corpus of the trust. Petitioner's connections with207 the grantor of the trust had no relation to his exporting and real estate business. The expenses are not deductible under section 23 (a) (1) (A). It follows also that the petitioner is unable to deduct these amounts as losses under section 23 (e) (1) wherein the trade or business requisite is the same.Turning to the other provisions of section 23, I. R. C., and examining petitioner's contention that the sums paid were losses incurred in 260 a transaction entered into for profit, though not connected with his trade or business, as specified in section 23 (e) (2), albeit the petitioner undertook the fiduciary obligations of trustee to obtain for himself the corpus of the trust, and would not have done so unless he was assured of receiving such corpus, we cannot hold that this transaction was entered into for profit, as contemplated by the statute.Petitioner argues, in effect, that when he gave assent to becoming a trustee he entered into a transaction for profit, namely, the acquisition for himself of the trust corpus, this notwithstanding the fact that an hour later he could have, under the terms of the agreement, withdrawn as trustee and appointed his successor without affecting208 his right to such corpus. Although the word "profit" is capable of proper usage in an infinite variety of situations, the word, when used, must not be taken from the context and must be defined in relation to its usage in the particular case. We cannot bring ourselves to hold that in the factual background of this case the situation comes within the concept of the word "profit" as used in section 23 (e) (2). Petitioner invested nothing and gave up nothing. In our opinion, the word is used to denominate a situation where there has been an investment of capital or labor with the hope of an accruing increment of value, a gain attributable to the employment of such capital or labor. We would define the word "profit" here in the ordinary every day meaning of the term, and, so defined, it does not fit the present situation, as construed by petitioner. See Heiner v. Tindle, 276 U.S. 582">276 U.S. 582; Weir v. Commissioner, 109 F. 2d 996; and Jones v. Commissioner, 152 F. 2d 392. As stated in Edgar M. Carnrick, 21 B. T. A. 12, 22, "* * * The reasonable intendment209 of restricting non-business transactions resulting in losses to such as were entered into for profit is that, since the intended profit would be taxable, the losses suffered instead should be deductible. * " The acquisition of the trust corpus by a remainderman upon the death of the life beneficiary is not a taxable gain or profit to him. Section 22 (b) (3), I. R. C. Any loss should be treated in the same manner as the acquisition of profits. The litigation was not entered into by petitioner for profit and the expenditures must be denied deduction as losses. See, also, National Engraving Co., 3 T.C. 178">3 T. C. 178.Petitioner's final contention is that the expenditures were ordinary and necessary nontrade or nonbusiness expenses incurred for the management, conservation or maintenance of property held for the production of income under section 23 (a) (2), I. R. C. The statute, however, contemplates situations where the property is so held for the production of income for the taxpayer himself. Whatever income accrued in this case was payable, not to the petitioner but to the life beneficiary, to the extent of $ 75 per week, with the balance, if any, 261 210 being added to the trust corpus. Since the property interest was not held by petitioner for the production of income for himself, petitioner must be denied deduction of the expenses incurred.Decision will be entered for the respondent. Footnotes1. SEC. 23. DEDUCTIONS FROM GROSS INCOME.In computing net income there shall be allowed as deductions:(a) Expenses. -- (1) Trade or business expenses. -- (A) In General. -- All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, * ** * * (2) Non-trade or non-business expenses. -- In the case of an individual, all the ordinary and necessary expenses paid or incurred during the taxable year for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income. * * (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; * ** * * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623830/	Commercial Iron Works v. Commissioner. John L. Barnes, Transferee, of Commercial Iron Works v. Commissioner. Estate of Cyrus R. Cotton, Deceased, Josephine Gowen Cotton, Executrix, v. Commissioner.Commercial Iron Works v. CommissionerDocket Nos. 8261, 8262, 8265.United States Tax Court1946 Tax Ct. Memo LEXIS 17; 5 T.C.M. (CCH) 1059; T.C.M. (RIA) 46284; December 10, 194617 W. J. Knight, Esq., 915 Petroleum Bldg., Houston 2, Texas, for the petitioners. Stanley B. Anderson, Esq., for the respondent. HARLAN Memorandum Findings of Fact and Opinion HARLAN, Judge: These three cases, in which the one of John L. Barnes and that of the Estate of Cyrus R. Cotton involved transferee liability, are all consolidated. In the two transferee liability cases liability is admitted, providing a deficiency is affirmed against Commercial Iron Works. The taxpayers seek a review of deficiencies heretofore determined by the Commissioner for the fiscal year ending February 28, 1942, in the following nature and amounts: Income tax$ 6,476.40Declared value excess profits tax785.36Excess profits tax12,124.77The question presented is as follows: Is petitioner corporation entitled to deduct as ordinary and necessary expense for the fiscal year ending February 28, 1942, a total of $59,500 as salaries paid to its president and vice president for services claimed to have been rendered during the fiscal year ended February 28, 1942, and for services rendered the corporation during prior years, or is petitioner limited to a deduction of18 $22,500 as compensation to said officers for services rendered during said fiscal year as allowed by the Commissioner? Findings of Fact Taxpayer, Commercial Iron Works, hereinafter referred to as petitioner, had its principal office, prior to dissolution, and now has its mailing address at 6422 Esperson Street, Houston, Texas. It filed its income tax return for the fiscal year ending February 28, 1942, with the collector of internal revenue for the first district of Texas. Petitioner was organized as a corporation under the laws of Texas on February 13, 1936. John L. Barnes and Cyrus R. Cotton each owned 50 percent of its capital stock. Barnes was president and Cotton was vice president. The corporation was engaged in the steel fabricating business which it conducted until April 29, 1942, when it was dissolved and all of its assets transferred to Barnes and Cotton who assumed its liabilities. The payments made as salaries to Barnes and Cotton up to February 28, 1942, and the ratio of total officers' salaries to gross profits of said corporation are as follows: Ratio ofOfficersSalariesFiscalTo GrossJohn L.Cyrus R.YearTotalSalesBarnesCotton2-28-37$3,750.0032%$3,750.002-28-389,200.0036%5,500.00$3,700.002-28-3910,800.0038%5,400.005,400.002-28-406,300.0025%2,700.003,600.002-28-417,200.0021%3,600.003,600.002-28-4259,500.0065%40,000.0019,500.0019 The $40,000 payment credited to Barnes during the fiscal year ending February 28, 1942, contained $3,000 as salary from March 1, 1941 to December 31, 1941, and $5,000 designated as salary from January 1, 1942, to February 28, 1942. The remaining $32,000 was designated as payment for extraordinary services for prior years as authorized by a resolution of the directors consisting of Barnes and Cotton on December 15, 1941. The $19,500 payment to Cotton at the same time consisted of $3,000 back salary from March 1, 1941, $2,500 for January and February, 1942, and $14,000 compensation for extraordinary services during prior years. The resolution of the board of directors of December 15, 1941, reads as follows: 1. BE IT RESOLVED that this corporation pay to John L. Barnes the sum of $32,000.00 as additional compensation for his past services to this company as an officer thereof and in any other capacity, and that for the period from January 1, 1942, his salary be fixed at the rate of $2500.00 per month. 2. BE IT RESOLVED that this corporation pay to Cyrus R. Cotton the sum of $14,000.00 as additional compensation for his past services to this company as an officer thereof and20 in any other capacity, and that for the period from January 1, 1942, his salary be fixed at the rate of $1250.00 per month. 3. BE IT RESOLVED that this corporation pay to Ira Palmer the sum of $2,250.00 as additional compensation for his past services to this company as an employee thereof, the matter of additional compensation for 1942 being deferred for further consideration. 4. BE IT RESOLVED that this corporation pay to other employees such additional compensation for services rendered to December 31, 1941, as in the opinion of its officers rendered to December 31, 1941, as in the opinion of its officers may be deemed necessary and proper. The full amounts credited to Barnes and Cotton were paid to them prior to April 29, 1942, the date of the dissolution of the corporation, by paying Cotton $8,500 cash and a note for $11,000, and paying Barnes $11,000 cash and two notes for $29,000. At the time of the dissolution of the company these notes were surrendered in exchange for the transfer of the assets to Barnes and Cotton personally. The books of the corporation were kept on an accrual basis. A comparative balance sheet of the corporation up to February 28, 1942, reads as21 follows: COMPARATIVE BALANCE SHEETASSETS2/28/372/28/382/28/392/29/402/28/412/28/42Current Assets: Cash in Bank and on Hand$ 910.59$ 25.00$ 7,197.66$ 656.26$ 2,238.22$ 6,284.74Accounts & Notes Receiv-able8,546.416,705.7435,949.0718,107.2523,905.9413,240.47Inventories4,165.178,364.326,446.2512,442.9224,649.1733,696.73Other Current Assets345.51443.561,214.911,276.391,217.501,069.87Total Current Assets$13,967.68$15,538.62$50,807.89$32,482.82$52,010.83$54,291.81Fixed Assets: Land$ 1,107.20$ 1,156.00$ 1,156.00$ 1,245.88$ 3,606.74$ 3,606.74Buildings8,224.779,550.5116,874.8117,019.6117,471.4417,886.24Machinery & Equip.5,340.898,552.0817,535.2518,865.6720,307.3422,954.09Office Furniture &Fixtures387.09673.511,205.861,224.261,488.151,686.27Delivery Equipment1,355.111,363.611,363.611,363.612,920.812,962.38Total Fixed Assets$16,415.06$21,295.71$38,135.35$39,719.03$45,794.48$49,095.74Less: Reserve for Depreciation$ 733.40$ 2,388.27$ 4,457.43$ 7,807.08$11,657.80$15,353.41Net Book Value - FixedAssets$15,681.66$18,907.44$33,678.10$31,911.95$34,136.68$33,742.33Total Assets$29,649.34$34,446.06$84,485.99$64,394.77$86,147.51$88,034.14LIABILITIES AND NET WORTHLiabilities: Overdraft - Bank$ 3,505.10Accounts Payable$10,814.368,671.26$31,593.17$19,374.38$30,754.31$ 4,246.47Notes Payable: C. R. Cotton9,200.0013,200.0018,200.0016,650.0018,552.2929,522.29J. L. Barnes2,500.002,500.008,675.3337,675.33Other3,836.973,236.9717,825.1512,236.9715,176.64440.00Total Notes Payable$13,036.97$16,436.97$38,525.15$31,386.97$42,404.26$67,637.62Total Liabilities$23,851.33$28,613.33$70,118.32$50,761.35$73,158.57$71,884.09ASSETSDeferred Income: Prepaid Office Rent$ 845.58Net Worth: Capital Stock$ 5,000.00$ 5,000.00$ 5,000.00$ 5,000.00$ 5,000.00$ 5,000.00Donated Surplus1,117.161,417.161,417.161,417.161,417.16Appreciation Surplus7,943.727,248.956,598.435,879.28Earned Surplus (Deficit)(47.57)(284.43)(6.79)(32.69)(26.65)3,853.61Total Net Worth$ 4,952.43$ 5,832.73$14,367.67$13,633.42$12,988.94$16,150.05Total Liabilities, DeferredIncome & Net Worth$29,649.34$34,446.06$84,485.99$64,394.77$86,147.51$88,034.1422 A comparative statement of income of petitioner is as follows: 2/28/372/28/382/28/392/29/402/28/41Gross Sales$55,573.07$149,437.03$167,155.32$129,489.31$151,795.68Less: Trade Discounts onSales334.15595.85351.42501.58106.94Net Sales$55,238.92$148,841.18$166,803.90$128,987.73$151,688.74Cost of Goods Sold: Work in Process Inven-tory Beginning$ 457.50$ 788.32$ 64.20$ 1,106.59Materials Used32,238.3985,886.58105,601.9475,171.7894,313.69$Direct Labor4,443.7712,732.1713,530.9211,200.4911,762.79Shop Overhead2,430.268,669.358,136.8211,543.5113,615.46Paint & Linseed Oil262.72887.70961.29810.29950.94Contract Erection Work2,793.9511,683.385,643.882,495.512,051.81Outside Shop Services556.191,025.81812.321,043.671,700.64Engineering & Drafting1,231.412,394.812,607.842,197.153,207.68$43,956.69$123,737.30$138,083.33$104,526.60$128,709.60Less: Work in ProcessInventory - End$ 457.50$ 788.32$ 64.20$ 1,106.59$ 11,133.69Cost of Goods Sold$43,499.19$122,948.98$138,019.13$103,420.01$117,575.91Gross Profit on Sales$11,739.73$ 25,892.80$ 28,784.77$ 25,567.72$ 34,112.83Selling & AdministrativeExpense (Inc. Officers'Salaries)$10,066.71$ 20,654.88$ 24,481.15$ 19,501.48$ 23,536.35Delivery Expense1,255.993,842.431,701.435,434.266,256.12Net Profit before OtherIncome & Charges$ 417.03$ 1,394.89$ 2,602.19$ 631.98$ 4,320.36Net Other Income &(Charges)($ 464.60)($1,631.75)($2,221.74)($866.95)($2,887.89)Net Profit (Loss) per Booksbefore Income Tax($ 47.57)($ 236.86)$ 380.45($ 234.97)$ 1,432.4723 2/28/42Gross Sales$318,637.78Less: Trade Discounts onSales1,047.05Net Sales$317,590.73Cost of Goods Sold;work in Process Inven-tory Beginning$ 11,133.69Materials Used160,845.54Direct Labor19,161.23Shop Overhead20,244.07Paint & Linseed Oil3,309.70Contract Erection Work8,472.90Outside Shop Services3,833.03Engineering & Drafting3,555.54$230,555.70Less: Work in ProcessInventory-End$6,277.58Cost of Goods Sold$224,278.12Gross Profit on Sales$ 93,312.61Selling & AdministrativeExpense (Inc. Officers'Salaries)$ 76,389.73Delivery Expense7,781.25Net Profit before OtherIncome & Charges$9,141.63Net Other Income &(Charges)($ 3,902.50)Net Profit (Loss) per Booksbefore Income Tax$ 5,239.13Prior to the organization of petitioner, Barnes had had about ten years experience with a steel fabricator and was a capable executive. He devoted all of his time to the company in procuring sales and supervising operations. Cotton was a lawyer of ability and was possessed of substantial means. Both of these men devoted their full time to the operations of the business of petitioner. Cotton rendered24 special services in collecting accounts, in advising the petitioner on all tax and legal matters and in fortifying the credit of petitioner, either by direct loans to the company or by endorsing loans or charge accounts made by the company. Prior to December 15, 1941, neither Barnes nor Cotton considered themselves underpaid nor did they have any anticipation of being paid any additional compensation for the years 1937, 1938, 1939 and 1940. On December 15, 1942, the date on which Cotton and Barnes, sitting as directors, transferred to themselves $14,000 and $32,000, respectively, for additional compensation for services prior to 1941, they were assured of an exceptionally prosperous year and had prospects of continuing success. Very largely as a result of the efficient management of Cotton and Barnes, the productive capacity of petitioner from its creation until December 15, 1941, had very materially increased as a result an increased credit rating, increased plant capacity, increased number of employees and an increased stock pile of material. From the creation of the corporation through the fiscal year 1941-1942 the corporation paid no dividends and during the first five years25 of its existence it paid but $48.85 as total income tax. In 1942 petitioner paid a total tax of $1,028.87, after taking a deduction of $59,500 as compensation to Cotton and Barnes. Up to February 28, 1942, petitioner had paid interest charges in the sum of $9,312.55. Opinion Petitioner contends that when the examiner made his original finding against the deductibility of more than $22,500 of the $59,500 salary expenditure authorized for the fiscal year 1941-1942, this petitioner filed a protest before the proper agent in charge, setting forth the facts on which the $59,500 appropriation was based, including the resolution of the directors which showed that $32,000 thereof in the case of Barnes and $14,000 thereof in the case of Cotton was for unusual services performed in years prior to February 1941. Petitioner then says that the Commissioner rejected said protest and explained his approval of the examiner's adjustments in the following terms: It has been determined that the deduction of $59,500.00 claimed on your return for compensation to officers for the taxable year ended February 28, 1942, is excessive to the extent of $37,000.00. It is held that the amount of $22,500.0026 represents reasonable compensation for the services rendered by the said officers and the above amount of $37,000.00 has been disallowed as a deduction from income. Furthermore, amount of the alleged deduction has not been established. Since said explanation merely states that $22,500 represents reasonable compensation and does not discuss any allowance for extraordinary services in years prior to 1941, petitioner argues that the Commissioner made his determination under a mistaken concept of law, inasmuch as the Commissioner must have determined (according to the petitioner) that any payment in 1942 for services rendered prior to 1942 could not be accepted as allowable deductions in 1942. Therefore, the petitioner argues that the deficiency is founded on a faulty concept by the Commissioner and that therefore the presumption in favor of the Commissioner's finding does not pertain to this case; that the Commissioner must establish the correctness of his deficiency affirmatively by a preponderance of the evidence and, since the Commissioner did not introduce any witnesses at all he has wholly failed to establish such correctness by a preponderance of the evidence; and that therefore27 petitioner's claimed deductible allowance must be supported because of the absence of proof to the contrary. Petitioner cites Acorn Refining Co., 2 B.T.A. 253">2 B.T.A. 253, and other supporting cases. We can find no substance in petitioner's contention on this point. In the report of the Commissioner in which the deficiency is determined, the Commissioner specifically makes the following statement: In making this determination of your income, declared value excess profits and excess profits tax liability, careful consideration has been given to the report of examination dated May 31, 1944; to your protest executed August 14, 1944; and to the statements made at the conferences held on September 1, October 5, and 10, November 15 and 16, 1944. While it is true that the Commissioner might have made his determination in this case because of a mistaken interpretation of the law with reference to the deductibility of compensation for past services, nevertheless the Commissioner could also have based his finding on a factual determination that in this particular case no deduction for compensation for past services can be allowed because the facts show such compensation to be unreasonable. 28 This Court will not presume that the Commissioner was laboring under a mistaken concept of law when the record shows that he reviewed all the facts and thereafter determined as a matter of fact that compensation in this particular case on the facts would not be deductible. Therefore we approach a decision of this case with the assumption that the factual determination of the Commissioner is correct and that, based upon those facts, a compensation of $32,000 to Barnes and $14,000 to Cotton for extraordinary services rendered prior to 1941 is unreasonable and not allowable deductions in the fiscal year 1941-1942. There is no question from the record in this case but that both Barnes and Cotton were very efficient hard-working executives and that if the labors they performed from 1937 to 1941, inclusive, had been in a field of greater income possibilities, their efforts might well have deserved a higher reward than that which they actually received. However, the record shows in this case that each of these executives withdrew every penny of salary that the profits of the Commercial Iron Works would justify. They operated this company very largely on borrowed capital rather than on invested29 capital and by this process Cotton received considerable additional interest at rates from six to eight percent on the money he lent to the petitioner. It is also evident that this petitioner, up to January 1, 1942, considered the services of Cotton and Barnes of practically the same value. In fact the resolution of December 15th votes each of them the same compensation for the last ten months of 1941 and, if we add to Cotton's compensation the interest which he received for money lent to petitioner corporation over the first four years of the life of petitioner corporation, the actual compensation of these two men, one of whom put in his experience in the steel fabricating business against the legal experience and the capital of the other, we will find that their compensation was almost identical. There would be no apparent reason therefor for compensating Barnes $32,000 and Cotton $14,000 for extra services for the four years time during which they had been compensated equally as the services were rendered. Of course, it is at once observable that the making of this compensation in unequal amounts avoids an embarrassing inference which would arise if two men owning the same amount30 of stock were to be paid equal compensation under the guise of salaries. It is also worthy of note in this case that during the first four years of petitioner's existence neither Barnes nor Cotton considered themselves underpaid, nor did they have any idea of being compensated later on for extraordinary services. The following is an excerpt from the examination of Barnes by his own attorney at the hearing: Q. I am asking you, with respect to salaries for the years prior to the fiscal year ending February 28, 1942, which would be the year, the last year ending February 28, 1941 - whether during those prior years you set your salaries or the charges on the books for salaries on a basis which you determined to be adequate compensation for the work you had done? * * A. I wouldn't say that we ever felt that they were either adequate or inadequate at the time. It would depend on what the circumstances were. I think we paid according to what we could afford to pay then and what our personal needs were at the time that we took any money out of the company at all. * Q. What agreement, if any, did you have with regard to paying yourselves additional compensation for those31 years prior to the fiscal year ending '42 or before December 15, 1941? A. None. It is also interesting to note that the resolution of December 15, 1941, is worded in exactly the same phrases of the resolution of the board of directors in Lucas v. Ox Fibre Brush Co., 281 U.S. 115">281 U.S. 115, and that by December 15th an exceptionally prosperous income year had been definitely established for the petitioner corporation and the prospects of continued good business were practically certain. Throughout the life of this company, through the use of borrowed, rather than invested capital, and the payment of executive's salaries, this company had avoided paying income tax. By December 15, 1941, however, it became obvious that unless exceptional steps were to be taken a substantial income tax would have to be paid for that year. To make the compensation of these two officers equal would be a rather obvious mistake to a competent lawyer who had the foresight to look up the case of Lucas v. Ox Fibre Brush Co., before he prepared the resolution. In addition to this there is one factor in this case which does not prevail in any of the cases cited to the Court by the petitioner, wherein large32 salaries for services rendered prior to the tax year have been approved by the Tax Court, and that is that this resolution of December 15, 1941, and the steps taken thereafter were all steps in the liquidation of the Commercial Iron Works. In the cases where a generous compensation for past services has been approved as deductible, the taxpayer corporation has been a going concern and not a liquidating one as in the case at bar. It is one thing for a court to allow compensation for formative periods of growth when that growth results in future increased income, while it is entirely another, to permit compensation for the growth period, when the growth results in nothing but liquidation. The fact that this was a step in liquidation is evidenced from the manner of payment. But a relatively small amount of this back payment was actually paid in cash. By far the most of it was in promissory notes of sufficient size to cover the value of the tangible assets at the liquidation of the corporation which occurred on April 29, 1942. Therefore we are unable to find that any amount in excess of a reasonable compensation for the fiscal year ending February 28, 1942, would be allowable as a deduction33 for past services to this particular petitioner when the petitioner was in immediate prospect of dissolution. Furthermore, there is considerable question about the bona fides of the resolution of December 15, 1941, as shown by the fact that there is no evidence in the record that any extra compensation was paid to Ira Palmer, who was supposed to have received $2,250, or to any of the other employees covered by the resolution. None of our conclusions in this discussion are reflections upon either Barnes or Cotton. They were merely taking such steps as they deemed available to keep their taxes as low as possible. They used the corporate form and procured its many advantages as long as they could do so without paying the income and excess profits taxes which that form necessitates. As soon as the corporate income increased beyond their capacity to absorb it, they took a step which they conceived to be perfectly legal to absorb that unexpended income and immediately planned to assume the partnership form of operating unit. We are not reflecting in any way on their motives. We are merely unable to approve their methods from a legal viewpoint. We also find that the allowance of a salary*34 deduction of $15,000 for Barnes and $7,500 for Cotton for the fiscal year ending February 28, 1942, allowed by the Commissioner is very generous under the facts in this case. This amount trebles the salary fixed by the petitioner for the previous year when the gross profits of the corporation were somewhat less than three times as great as the profits of the previous year, and when the gross sales were approximately twice the amount of the previous year. This salary, furthermore, is 24 percent of the gross profits. In 1940 the salary was 25 percent of the gross profits and in 1941 it was 21 percent of the gross profits. It is our conclusion therefore that the deficiencies found by the Commissioner must be sustained. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623831/	NATIONAL PAPER PRODUCTS COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. ZELLERBACH PAPER COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.National Paper Products Co. v. CommissionerDocket Nos. 41758, 41759.United States Board of Tax Appeals26 B.T.A. 92; 1932 BTA LEXIS 1367; May 17, 1932, Promulgated 1367 The statutory period of limitation for assessment had not run on October 10, 1928, where a return for a fiscal year ended April 30, 1925, was filed pursuant to the 1924 Act on July 15, 1925, and a return for the same period showing increased tax was filed on May 14, 1926, pursuant to the 1926 Act and T.D. 3843. John Francis Neylan, Esq., for the petitioners. H. A. Cox, Esq., and F. R. Shearer, Esq., for the respondent. MURDOCK 92 The Commissioner determined the following deficiencies for the fiscal year ended April 30, 1925: Zellerbach Paper Company$7,601.55National Paper Products Company20,657.40The only assignment of error is that the statute of limitations had barred assessment and collection of any additional taxes for this fiscal year prior to the day on which the notice of deficiency was mailed. FINDINGS OF FACT. The two petitioners are California corporations, having their principal place of business in San Francisco. On July 15, 1925, the Zellerbach Paper Company filed a consolidated income-tax return on behalf of itself and its subsidiaries, the National Paper Products Company and Sanitary Products1368 Corporation, under the provisions of the Revenue Act of 1924. It included the income of all three companies. This was not a false or fraudulent return filed with intent to evade tax. The amount of tax shown to be due on this return, to wit, $158,374.05, was duly assessed by the Commissioner. This return, as the affidavit states, was a return made pursuant to the Revenue Act of 1924. 93 The Revenue Act of 1926 was approved February 26, 1926. On February 28, 1926, the Commissioner of Internal Revenue issued Treasury Decision 3843, which was as follows: Any corporation which has filed a return for a fiscal year ending in 1925 and paid or become liable for a tax computed under the Revenue Act of 1924, and is subject to additional tax for the same period under the Revenue Act of 1926, must file a new return covering such additional tax on or before May 15th, 1926. Payment of the additional tax may be made at the time the return is filed or if installment payments are desired, such installments must be paid at the time they would be due if based upon a return for the fiscal year ended February 28th, 1926. A copy of this decision was mailed to the Zellerbach Paper Company1369 by the collector of internal revenue at San Francisco in a letter advising the corporation to give its immediate attention to the matter of filing new returns and paying additional tax under the Revenue Act of 1926 for its fiscal year ending in 1925. On May 14, 1926, after the receipt of this letter, the Zellerbach Paper Company filed a return on behalf of itself and its subsidiaries on Form 1120A, showing additional tax due in the amount of $2,111.65. This amount was thereafter duly assessed. This return, as the affidavit states, was a return made pursuant to the Revenue Act of 1926. No schedules were attached to this last mentioned return, and no data were set forth therein except that in line 25 net income of $1,266,992.39 was set forth. This was the same as the amount of net income shown on the return filed July 15, 1925. The notice of deficiency was mailed to the petitioners on October 10, 1928. OPINION. MURDOCK. The notice of deficiency was sent within four years of the date of filing of the first return, within three years from the date of which the Revenue Act of 1926 was approved, and within three years from the date upon which the last return was filed, but1370 more than three years after the date upon which the first return was filed. The petitioners concede that the Commissioner may proceed to assess and collect the deficiencies unless the three-year period of limitation provided by the Revenue Act of 1926 applies the began to run on July 15, 1925, the date upon which the first return was filed. We agree with the Commissioner that the return filed May 14, 1926, was the original return required under the 1926 Act to start the three-year period of section 277(a)(1). We held in John Wanamaker Philadelphia,8 B.T.A. 864">8 B.T.A. 864, and in Hutchinson Company,14 B.T.A. 367">14 B.T.A. 367, that a return filed under one act would not start the period of limitation provided in a later act if additional 94 tax was due under the new act for the period covered by the return. Other Board decisions to the same effect are Valentine-Clark Co.,14 B.T.A. 562">14 B.T.A. 562 (reversed, 52 Fed.(2d) 346); Gus Holstine Dry Goods Co.,16 B.T.A. 1124">16 B.T.A. 1124; Isaac Goldmann Co.,17 B.T.A. 1103">17 B.T.A. 1103 (reversed, 1371 51 Fed.(2d) 427); Myles Salt Co., Ltd.,18 B.T.A. 742">18 B.T.A. 742 (reversed, 49 Fed.(2d) 232); Adams, Cushing & Foster, Inc.,19 B.T.A. 89">19 B.T.A. 89; G. Corrado Coal & Coke Interests, Inc.,19 B.T.A. 691">19 B.T.A. 691; and E. J. Lorie et al.,21 B.T.A. 612">21 B.T.A. 612. Cf. Hill Goldwater,21 B.T.A. 73">21 B.T.A. 73. We refer to our discussion of the question in the cited cases. The circumstances under which the additional tax arises in this case are different from those under which the additional taxes arose in the cases just mentioned, but perhaps the difference is not material. We have, however, some additional reasons for our position not expressed in those cases. We want to again call particular attention to the discussion of a similar issue in United States v. Updike, 1 Fed.(2d) 550, and in Updike v. United States, 8 Fed.(2d) 913 (certiorari denied, 271 U.S. 661">271 U.S. 661), affirming the above decision. That case differs from the present one only in degree. See also 1372 Davis Feed Co.,2 B.T.A. 616">2 B.T.A. 616, and Covert Gear Co.,4 B.T.A. 1025">4 B.T.A. 1025. Perhaps no revenue act specifically required the taxpayer to compute the tax as a part of his return. (See, however, section 240(a), Revenue Act of 1926.) Yet, a study of the various revenue acts, the rules and regulations of the Commissioner, the forms regularly used for making returns, and the way taxpayers themselves have interpreted the laws and regulations in making their returns, shows that a complete return is required and is understood to include a computation of the tax by the taxpayer himself. The acts gave the Commissioner authority to make and publish necessary rules and regulations. He required taxpayers to make their returns on certain forms which he furnished. These are called income-tax returns. They provided a place for a computation of the tax by the taxpayer. The tax thus shown to be due on the return becomes due and payable within nine months. No further assessment is necessary. If the Commissioner determines that more tax is due than that shown on the return, he must assess the additional tax within a prescribed time. This is the assessment which must be1373 made within the period of limitation. If Congress has not specifically provided that the taxpayer shall make the computation and show on his return the amount of tax he believes is due, it has at least given clear indication that it intended to impose this duty upon each taxpayer. For example, in section 273 of the Revenue Act of 1926, "deficiency" is defined to be: (1) The amount by which the tax imposed by this title exceeds the amount shown as the tax by the taxpayer upon his return; but the amount so shown on the return shall first be increased by the amounts previously assessed (or 95 collected without assessment) as a deficiency, and decreased by the amounts previously abated, credited, refunded, or otherwise repaid in respect of such tax; * * [Italics supplied.] The petitioners did not compute, on the return filed in 1925, the tax which they believed to be due under the 1926 Act. Such a computation was impossible at the filing date. We think Congress intended that each corporation affected by the 1926 Act should file a return after the passage of that act, showing all required information, including the tax it believed to be due, and this return would1374 start the three-year period for assessment. Furthermore, the Commissioner was required to make all needful rules and regulations for the enforcement of the act (section 1101); he required this taxpayer to file a new return; this rule was reasonable; and it must be given the force and effect of law. Maryland Casualty Co. v. United States,251 U.S. 342">251 U.S. 342. The petitioners complied with the law and the ruling by filing the required return on May 14, 1926. Cf. section 1102(a) and (b). This return, filed under the 1926 Act, could not amend the return filed under the 1924 Act so that the latter would become a return under the 1926 Act. The petitioners, in filing their return under the 1926 Act, adopted as a part thereof so much of the return theretofore filed under the 1924 Act as was appropriate and useful. There was perhaps no necessity for them to duplicate the computation of net income and the supporting schedules already on file. But they knew that additional tax was due under the new act and they had not made an income tax return under the new act until they filed a return showing what tax they honestly believed was due. The computation under the 19241375 Act was quite a different thing from the computation under the 1926 Act, as is apparent from an examination of the two returns in evidence in this case. The statutory period for assessment began to run on May 14, 1926, when the original return under the 1926 Act was filed. Reviewed by the Board. Judgment will be entered for the respondent.VAN FOSSAN VAN FOSSAN, dissenting: The principle announced in the decisions of the Board on which the prevailing opinion in these cases is predicated has been considered by the Court of Appeals of the District of Columbia and the Circuit Courts of Appeal in three of the cases cited and in each instance the Board has been reversed. Valentine-Clark Co.,14 B.T.A. 562">14 B.T.A. 562; reversed, 52 Fed.(2d) 346; Isaac Goldmann Co.,17 B.T.A. 1103">17 B.T.A. 1103; reversed, 51 Fed.(2d) 427; Myles Salt Co.,18 B.T.A. 742">18 B.T.A. 742; reversed, 49 Fed.(2d) 232. On further consideration of the merits of the issue involved, I am convinced that the *96 Board has been in error in all of these cases and that the petitioners should prevail. GOODRICH agrees with this dissent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623832/	ANDRE R. LARDY and JOAN P. LARDY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentLardy v. CommissionerDocket Nos. 9692-78, 5268-79.United States Tax CourtT.C. Memo 1980-468; 1980 Tax Ct. Memo LEXIS 117; 41 T.C.M. (CCH) 217; T.C.M. (RIA) 80468; October 21, 1980, Filed W. Keith Woodmansee, for the petitioners. Henry E. O'Neill, for the respondent. SCOTT MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: Respondent determined deficiencies in petitioners' income tax in the amounts of $1,471, $1,780, $1,452, and $742 for the calendar years 1973, 1974, 1975, and 1976, respectively. The issues for decision are (1) whether amounts paid by petitioners during the years 1973 through 1976 in connection with the construction of a sailboat are deductible as business expenses under section 162, I.R.C. 1954, 1 or as expenses for the management, conservation or maintenance of property held for the production of income under section 212, or are capital expenditures; and (2) whether all of the amounts claimed to be deductible by petitioners in the years here in issue have been properly substantiated. FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. Petitioners, husband and wife, who resided in Spain at119 the time of the filing of their petition in this case, filed a joint Federal income tax return for each of the calendar years 1973, 1974, 1975 and 1976. Andre Lardy (petitioner) has been interested in sailing and sailboats all his life. In 1954, petitioner worked in several boat yards performing boat repairs and finishing. From 1960 through 1962 he owned and operated a boat maintenance and repair business in Sausalito, California. From 1963 to 1972 petitioner owned and operated a business in Sausalito called "Cars-In-Europe." This business engaged in the sale of cars to persons traveling abroad for delivery in Europe. Petitioner was a friend of Irving Johnson, owner of the sailboat Yankee. The Yankee is a world-renowned sailboat which was featured in articles in National Geographic Magazine and on television specials. From sometime prior to 1969, the Yankee had been extensively chartered for cruises through inland waterways of Europe. At times there was a 4-year waiting list for charter cruises on the Yankee. For a number of years prior to 1969, petitioner had wanted to have designed and to build a sailing vessel. He had an idea for a vessel which would120 be unsinkable and would be able to turn within its own length. Petitioner planned a vessel which would have masts comparable to those on the Yankee which would fold down for cruising in the European inland waterways under low permanent bridges. Petitioner was of the opinion that if he could construct a boat of the type he had in mind to use as a prototype, he would be able to sell his services for supervision of construction of a boat of the same type, or a "sister" boat, to a number of individuals and that he would obtain fees for his services in supervising the construction of "sister" boats. He was also of the opinion that he could use the boat he constructed for charters as the Yankee was used and make profits from this operation. In 1969 petitioner sold a house which he had built in Lake Tahoe at a profit and decided to use the funds to commence the construction of his prototype boat. In April 1969 he secured a California certificate for transacting business under a fictitious name--Ocean Safe Yachts. In May, petitioner went to Holland and engaged an naval architect to make the sail plan (drawing) of a prototype sailing ketch which petitioner planned to name the 121 Sagesse. While in Holland he contracted for the construction of a steel hull for the boat. The hull was constructed in Holland and launched in 1970. Safety was a primarly considration of petitioner in the construction of the Sagesse, and the unsinkable quality of the hull was the inspiration for the name Ocean Safe Yachts. The design of the Sagesse was somewhat similar to that of the Yankee, including a hinged mast. At the time petitioner began the construction of the Sagesse he anticipated completing the ship in approximately 2 years. In fact, at the end of 1970 petitioner sent a Christmas-New Year message to friends and customers of his Cars-In-Europe business discussing the launching of the hull for the 53-foot ketch. He discussed in some detail the type of sailboat the Sagesse would be. He stated that it was one of the few yachts ever built specifically for the double purpose of exploring inland waterways as well as open sea navigation. He referred to the cruises offered by the Yankee and then stated: Since the completion of the construction is scheduled for the end of 1971, the enjoyment of crusing the fascinating canals and rivers of Europe122 begins in 1972. It is our hope that you will want to charter with us and leisurely share the enjoyment of mile upon mile of wonderful scenic smooth travel off the crowded roads. Ocean Safe Yachts, which I founded in 1969 to build this charter prototype also accepts orders for sister-ships to be built; as well our services can be retained for the supervision and coordination of the construction of any new boat of any other design. Soon I will commercial this new exclusive feature of hull structure making any vessel of any size virtually unsinkable. Each Christmas we shall send you a similar news letter telling you of our cruising adventures with our charter guests. The construction of the Sagesse did not proceed as rapidly as petitioner had anticipated. After the launching of the hull in 1970, petitioner returned to California to operate Cars-In-Europe. He sold the Cars-In-Europe business in 1972 and used the profit from the sale in connection with the construction of the Sagesse. However, from 1970 until the time of the sale of the Cars-In-Europe business in 1972, petitioner would travel to Europe in connection with construction of the Sagesse. In the fall123 of 1972, the unfinished Sagesse was removed from Holland to Great Britain for the installation of marine diesel engines in the boat and for sea trials. By 1974 the Sagesse could be taken to sea, but much work remained to be done on the boat and the boat was not completed until 1977. Petitioner is a skilled craftsman and did much of the finishing work on the Sagesse himself. Mrs. Lardy is a flight attendant for Pan American Airways. She would obtain materials for the boat and bring them to petitioner from time to time and also helped with the work on the boat from time to time. After petitioner sold the Cars-In-Europe business he purchased a caravan in which to live in England while the diesel engines were being placed in the Sagesse. The hull had been towed from Holland to England for the mechanical installations. By 1974 petitioner was able to live on the unfinished boat and he did live on the boat from sometime in 1974 throughout the years here in issue while completing its construction. Mrs. Lardy maintained an apartment during part of this time in Sausalito, California and later, when she was transferred to fly out of London by Pan American, maintained an124 apartment there. In the years following 1970, petitioners continued to send Christmas letters to their friends and customers or former customers of the Cars-In-Europe business. In the 1971 letter, petitioners stated in part: This explains why at $950 per week per couple, Yankee is always booked long in advance and the Johnsons are turning down new inquiries. It also explains why one of the world's largest international wholesale tour and travel operators is begging us to give them the exclusive listing to represent Sagesse for charter in Europe. The only reason for not having completed the construction of Sagesse this year is that I must first sell my tourist car order agency. In the 1972 Christmas letter petitioners stated in part: Since beside accepting orders for sister-ships, we are planning to have this forst [sic] yacht operational for charter on the inland waterways of Europe for the 1974 season, we shall soon be open to accept booking reservations. We will keep you informed. In the 1973 Christmas letter petitioners stated in part: If you have some nature loving, non smoker friends, interested in joining us as charter guests for a portion of our scenic125 cruise on the inland waterways of Europe, we still have some vacancies from June/July onward. The inquiries should be addressed to us at P.O. Box 559, Sausalito, CA.94965. Some people may enjoy it so much that they may want to own a sistership of SAGESSE, either for private use or profitable chartering. As you know the production of sisterships is the main purpose of OCEAN SAFE YACHTS. Petitioners' 1974 Christmas letter stated in part: We hope that all of you who want to join us during a part of the next season [to] enjoy a week or more of the most comfortable and scenic cruising any yachting can offer, will understand the importance of contacting us soon for arrangements. We will be looking forward to seeing you on board, as SAGESSE will cruise inland on the small canals of France, Belgium, Holland, Germany and Denmark, exploring the real country off the tourist routes. For your comfort and good health you will appreciate to know that SAGESSE will only welcome non smokers. At the end of this 1974 letter appeared petitioner's name, Ocean Safe Yachts, and a post office box and telephone number in Sausalito, California. The 197l Christmas letter referred to an illness126 having incapacitated petitioner for work during part of the year. This letter stated in part: Of course, when you will be ordering your sistership of Sagesse, we will gladly accommodate your requirements for the interior and please your taste with the hull colors of your choice. Early in the spring we will inform you of the places and dates Sagesse can welcome you. This letter also at the bottom had petitioner's name, the trade name Ocean Safe Yachts, and the post office box address and telephone number in Sausalito, California. The 1977 letter stated in part: OCEAN SAFE YACHTS is now ready to present and demonstrate this prototype to those of you contemplating the acquisition of a sistership. The non smoking regulation strictly enforced on board Sagesse is an option on sisterships! … For 1978 our sailing plans are to explore many countries of Europe via the scenic inland waterways. Please contact us at your earliest convenience if you or friends you may refer plan to join us between March and November. All of the letters referred to Mrs. Lardy's contribution to the construction of the Sagesse through designing and selection of upholstery and in various other127 ways. The first income generated by Ocean Safe Yachts was in 1978 in connection with three charter parties. The amounts of income and length of charter are as follows: Charter (2 persons - one week)$1,350.00Charter (2 persons - one week)1,012.50Charter (1 person - two weeks -special discount)1,120.50Total$3,483.00In 1973 petitioner registered in England as a boat builder. Because of this registration he was able to acquire some of the material for building the Sagesse at a boat builder's discount. In January 1976 petitioner was hospitalized in Geneva, Switzerland for a period of approximately one month. Following his release from the hospital and during his convalescence he was unable to work on the boat for approximately 3 months. At the date of the trial, no sister ships of the Sagesse had been commissioned. At the time petitioner was constructing the Sagesse, a sister ship to the Sagesse would have cost in the area of $150,000 to $200,000. During all of the years here in issue petitioner had no intention of selling the Sagesse but intended to use it as a demonstrator to persons interested in commissioning him128 to supervise construction of a sister ship and for charter parties. In 1978 petitioner had a serious illness which affected his ability to use his legs. As a consequence petitioner doubted his ability to physically operate the Sagesse on charter trips himself and at the time of the trial of this case was considering for the first time the possibility of selling the ship rather than keeping it for use in his business as he had planned from the start of its construction. In 1977 and 1978, petitioner's activities with respect to the building of the Sagesse and its availability for charter were the subject of several articles in newspapers and other periodicals. During this period of time petitioner gave talks with slides at a number of places to interest people in chartering the Sagesse and had brochures about the Sagesse printed. One of the articles about the Sagesse that appeared in The Travel Agent was entitled "A New Way to Tour Europe--By Yacht." Another article which appeared in a newspaper was entitled "Dream Journey Organizer Seeks Some Shipmates." This article carried a picture of petitioner. Another article was entitled "Yacht to Traverse Europe's129 Waterways." The New York Times in its Sunday, March 19, 1978, edition had an article "A Leisurely Way to Tour Europe" which referred to a cost of $675 per person in double occupancies on petitioner's yacht, the Sagesse. Several of the articles were about travel talks given by petitioner. The brochures printed by petitioner contained sketches of the cabins in the yacht and maps of the areas of the inland waterways traveled. They also referred to the rates charged for a one-week trip. Petitioners on their tax returns for the calendar years 1973 through 1976 claimed the following losses in connection with the activities of Ocean Safe Yachts: Year 2ReceiptsExpensesLoss19730$8,312[8,312)197409,769(9,769)197508,265(8,265)197605,847(5,847)130 Respondent in his notice of deficiency to petitioners for the years 1973 and 1974 disallowed the claimed expense deductions with the following explanation: (a) Business Expenses The deductions totaling $8,312 and $9,769 reported on your 1973 and 1974 returns, respectively, as expenses for the activity Ocean Safe Yachts are not allowed. You have not established that you incurred or paid expenses in the total amounts reported in 1973 and 1974 or, if expended, that such expenditures qualify as ordinary and necessary business expenses of carrying on a trade or business in 1973 and 1974 within the meaning of section 162 of the Internal Revenue Code. You have not established that such expenditures qualify as ordinary and necessary expenses for production of income or for management, conservation, or maintenance of property held for production of income during 1973 and 1974. (b) Interest Expense A deduction for personal interest expenses, authorized under section 163 of the Internal Revenue Code, is allowed in the amount of $1,625 for 1973 and $1,920 for 1974. For the years 1975 and 1976, respondent disallowed deductions claimed131 by petitioner in connection with Ocean Safe Yachts in the amounts of $6,715 and $3,927, respectively, with the following explanation: It is determined that the following schedule of expenses for the development and construction of the yacht, "Sagesse" are not deductible within section 162 or section 212 of the Internal Revenue Code. It is also determined that, with the exception of the entertainment and promotion expenses, the remainder of the expenses are capital expenditures within section 263 of the Internal Revenue Code. In further explanation, respondent referred to the interest expense deduction in each of these years which was not disallowed as "properly Sched. A." OPINION Section 162 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. Section 212 provides that 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 for the production or collection132 of income or for the management, conservation, or maintenance of property held for the production of income. Section 263(a) provides, with respect to capital expenditures, that no deduction shall be allowed for any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate with certain exceptions not here pertinent. Petitioner argues that since he entered into the construction of the Sagesse for the business purpose of having a prototype ship to demonstrate to prospective customers for his services in supervising the construction of sister ships and for the purpose of taking charter passengers on cruises through Europe, the expenditures here involved are ordinary and necessary business expenses. In the alternative, petitioner argues that these amounts were expended for the conservation or maintenance of property held for the production of income. Respondent takes the position that petitioner's activities were engaged in as a hobby and, in the alternative, aruges that they were engaged in for the purpose of constructing a ship to be used in a future trade or business. Without any detailed discussion, 133 we conclude from the facts we have found that petitioner was building the Sagesse in order to use it in a business operation of transporting charter parties and of demonstrating to prospective customers for his services in supervising construction of a comparable yacht. However, in our view the amounts expended by petitioner during the years here in issue in connection with the work on the Sagesse are primarily properly to be considered as a cost of the construction of the ship. The major portion of the expenses claimed to be deductible were expenses in connection with petitioner's travel and living in Europe so that he could work on the boat, or for dock fees for the boat, or automobile expenses or Mrs. Lardy's travel to Europe. Since petitioner's entire activities, other than strictly personal activities in the years here in issue, were in working on the boat, the claimed deductions appear to be primarily for expenses of constructing the Sagesse. The ship was to be the asset used by petitioner in the trade or business which would be engaged in by Ocean Safe Yachts. Therefore, any cost in connection with the Sagesse in the years here in issue, including the depreciation134 claimed by petitioner on the tools, the automobiles and the caravan in which petitioner lived in England, are part of the construction costs of the Sagesse and must be capitalized. Commissioner v. Idaho Power Co., 418 U.S. 1 (1974), affg. a Memorandum Opinion of this Court. Since most of the expenses here involved are directly connected with the construction of the Sagesse, under the holding in Idaho Power Co., supra, they are capital expenditures. In that case the Court stated (at 12): Accepted accounting practice and established tax principles require the capitalization of the cost of acquiring a capital asset. * * * This principle has obvious application to the acquisition of a capital asset by purchase, but it has been applied, as well, to the costs incurred in a taxpayer's construction of capital facilities. * * * [Footnote omitted.] A minor part of the expenses claimed to be deductible in each year were in connection with advertising. 3 Although the record is not clear as to the items included under advertising expenses, it is clear that petitioner's135 sole occupation during the years here in issue was in the building of the Sagesse, which he planned to use in his business when it was completed. Therefore, to the extent that the claimed advertising expenses were not directly related to the construction of the Sagesse, they were pre-operating expenses for a business to be conducted in the future. Such pre-operating expenses are capital expenditures and not deductible expenses. See Polachek v. Commissioner, 22 T.C. 858">22 T.C. 858, 863 (1954); Richmond Television Corp. v. United States, 345 F.2d 901">345 F.2d 901 (4th Cir. 1965), remanded on other grounds 382 U.S. 68">382 U.S. 68 (1965). While in our view petitioner has not shown any part of the claimed expenses to be expenses of carrying on a business in the years here in issue, if the amounts claimed to be deductible for entertainment were to be so considered, they would not be deductible because they have not been substantiated as required by section 274(d). As above136 stated, in our view the travel expenses claimed to be deductible are a part of the construction costs of the Sagesse. The record shows Mrs. Lardy came to where the Sagesse was located to assist in the decorating and construction of the Sagesse. However, to the extent that any amount claimed as travel expenses might be considered to be a business expense, the record is devoid of substantiation of such claimed deductions under section 274(d).In our view, petitioners totally misconstrue the provisions of section 212. That section provides for a deduction for the management, conservation, or maintenance of property held for the production of income, not for the purchase or construction of such property. Section 263(a), in providing that no deduction shall be allowed for amounts paid out for permanent improvements or betterments made to increase the value of any property, makes it clear that section 212 was not intended to allow a deduction for the cost of constructing a property to be used in a trade or business. On the facts of this case, we hold that petititoners have failed*137 to show that any of the claimed deductions in connection with Ocean Safe Yachts which were disallowed by respondent are properly deductible either under section 162 or section 212. Decision will be entered for the respondent. Footnotes1. Unless otherwise stated, all statutory references are to the Internal Revenue Code of 1954 as amended and in effect in the years in issue.↩2. The detail of the deductions claimed for each of these years is stipulated in paragraph 16 of the stipulation of facts. Since we have found these facts as stipulated, we have not detailed these expenses. However, it is noted that certain of the expenses pertain to entertainment and Mrs. Lardy's travel in Europe and, for the years 1973, 1974 and 1975, a portion of the rent paid by petitioners on the Sausalito apartment.↩3. The amounts of $214 in 1974 and $7.18 in 1975 were claimed to be deductible as advertising.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623836/	R. G. TRIPPETT, AS TRANSFEREE OF TEXOTA CORPORATION, DISSOLVED, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. A. H. MEADOWS, AS TRANSFEREE OF TEXOTA CORPORATION, DISSOLVED, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. TEXOTA CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Trippett v. CommissionerDocket Nos. 93100, 93111, 93112.United States Board of Tax Appeals41 B.T.A. 1254; 1940 BTA LEXIS 1076; May 28, 1940, Promulgated 1076 Where a corporation was the owner and operator of a certain oil and gas lease on which there were three producing wells and its two sole stockholders, who were also directors of the corporation and in charge of its affairs, entered into a contract to sell the lease to a proposed purchaser and the contract was signed by the two stockholders in their individual names as sellers instead of in the name of the corporation, and subsequently the corporation conveyed the lease to one of the two stockholders, its president, and on the same day the two stockholders conveyed the lease to the purchaser for the consideration named in the contract; held, the contract of sale signed by the two stockholders in their individual names was for and on behalf of the corporation and the sale of the lease when consummated was the sale of the corporation and it is taxable on the profits derived therefrom. W. H. Sanford, Esq., and Harry L. Viser, C.P.A., for the petitioners. Paul E. Waring, Esq., for the respondent. BLACK 1255 In Docket No. 93112 is involved a deficiency of $20,773.61 in income tax liability for the fiscal year ended July 31, 1935, of the1077 petitioner, Texota Corporation, and a deficiency of $7,223.96 in excess profits liability. These deficiencies are due to one adjustment made by the Commissioner in petitioner's income tax return for the taxable year in question. That adjustment was the addition to the petitioner's income of "profit from sale of oil, gas and mineral leases, $151,080.82." Petitioner, by an appropriate assignment of error, contests this determination by the Commissioner. In Docket Nos. 93100 and 91111, the Commissioner has determined transferee liabilities against R. G. Trippett and A. H. Meadows, respectively, of the full amount of the deficiencies determined against the petitioner, Texota Corporation. Petitioners Trippett and Meadows admit their liability as transferees for any deficiency in income tax or excess profits tax that the Board may determine against the Texota Corporation for the taxable year in question. Each petitioner, however, contests by appropriate assignments of error the correctness of the Commissioner's determination of the deficiencies against the Texota Corporation. FINDINGS OF FACT. The Texota Corporation, sometimes hereafter referred to as Texota, was duly incorporated1078 under the laws of Texas on August 1, 1931. Its charter provided for two classes of stock known as "A" and "B", which were equal except that the class B stockholders had the right to elect two of the three directors, and the property of the corporation could not be sold without the consent of the holders of the class A stock. The class B stock was issued in exchange for an oil and gas lease in the East Texas field and the class A stock was issued for $20,000 in cash. On April 5, 1934, the class A stock was owned by six different shareholders, and the class B stock by nine different shareholders. On that date petitioners R. G. Trippett and A. H. Meadows (sometimes referred to hereinafter as Trippett and Meadows) jointly acquired by purchase 188 2/3 shares (slightly more than a majority) of the class B stock. After Trippett and Meadoes purchased this class B stock, considerable dissension arose between them and the other stockholders, resulting in the bringing of some lawsuits, which need not be described at length in these findings of fact. These lawsuits had no direct bearing on the issue which we have here to decide. Meantime the corporation had drilled three producing oil1079 wells on its oil and gas lease. The stockholders opposed to Trippett and Meadows and strenuously objected to the drilling of any additional wells, one of the grounds alleged in an application for the appointment of a receiver having been that Trippett and Meadows were threatening to drill a fourth well on the lease. 1256 On or about December 10, 1934, D. W. Josey, of the Rancho Oil, Co., Fort Worth, Texas, sometimes hereinafter referred to as Rancho, advised S. A. Cochran, an independent broker of Tyler, Texas, that Rancho would be interested in purchasing said oil and gas lease if it could be bought for $175,000, with four wells completed on it. Cochran's communication with Josey was after he had received a letter from R. G. Trippett, in which Trippett stated that he and Meadows owned a one-fourth interest in the lease, and could possibly acquire all of the interests and might consider selling it along with some other properties. Cochran was advised that the tentative offer above mentioned was not acceptable and so reported to Josey on or about December 15, 1934. No other offer was made at that time. On December 17, 1934, Trippett and Meadows telegraphed the "opposition1080 stockholders" (being the holders of the class A stock and some of the holders of the class B stock) an offer to purchase their stock. The representative of said stockholders replied with a counter proposition, which was received by Trippett and Meadows December 19, 1934, and accepted by them by telegram of the same date. The acceptance instructed said stockholders to send their stock to the People National Bank at Tyler, Texas, with draft attached, settlement to be made in any event not later than December 31, 1934. In purchasing this stock and thus becoming the owners of all the capital stock of Texota, Trippett and Meadows had in mind to later liquidate the corporation. On December 18, 1934, Josey called Cochran, the broker, and indicated to him that the Rancho Oil Co. might be willing to pay $180,000 for the lease, with a fourth completed well on it. This conversation was reported to Trippett and Meadows by Cochran at Shreveport, Louisiana, on December 19, 1934; and at the same time he stated to them that he (Cochran) would drill a fourth well on the lease for $10,000. Thereupon, Trippett and Meadows stated to Cochran that they would be glad to meet with Josey and discuss1081 the matter further and try to arrive at a deal; whereupon, Cochran called Josey by telephone and requested him to meet with Trippett and Meadows at Tyler, Texas, on the following day, December 20. The meeting at Tyler on December 20 was for the purpose of working out a trade, if the parties could agree. Up to that time there had been no offer and acceptance or trade agreed on. At that time (on December 20), Meadows or Trippett stated that they wished to liquidate the corporation and the negotiations which were carried on to put through the sale were between themselves and the Rancho Oil Co. in their individual names. Trippett and Meadows had never told Cochran anything prior to December 20 to indicate that the corporation would sell the property. 1257 Trippett and Meadows, on December 20, 1934, met with Josey and agreed upon the terms of a sale of the oil and gas lease in question to Rancho. This agreement was reduced to writing in the form of a formal contract made by R. G. Trippett and A. H. Meadows as sellers and the Rancho Oil Co. as purchaser, whereby Trippett and Meadows agreed to sell the oil and gas lease to Rancho and Rancho agreed to purchase it from them1082 for $165,000, (being $180,000 less $5,000 commission to Cochran, which the purchaser assumed, and $10,000, the cost of drilling a fourth well). Pursuant to the telegraphic order and acceptance hereinabove mentioned, the certificates representing the outstanding stock (not already owned by Trippett and Meadows) were forwarded to the Peoples National Bank at Tyler, Texas, and paid for through that bank on December 31, 1934, Trippett and Meadows, individually, borrowing the money from said bank to purchase the stock; whereupon, on December 31, 1934, all of the certificates of stock were canceled, and two new certificates, one for all of the class A stock and one for all of the class B stock, were issued in the name of A. H. Meadows (for himself and R. G. Trippett), which certificates were pledged with the Peoples National Bank of Tyler to secure the Trippett and Meadows loan. After Meadows and Trippett had agreed to buy the stock and had it sent to them on draft, they had their lawyers prepare a paper for liquidation of the corporation, which was executed by Meadows on December 27, 1934, but in some manner the instrument got in the files of the Rancho Oil Co. instead of the files1083 of the Secretary of State of Texas in Austin, Texas. This instrument was a consent of stockholders to dissolve the corporation, signed by A. H. Meadows as sole stockholder and certified by the president and secretary of the Texota Corporation. Never having been filed in the office of the Secretary of State of Texas, this paper was never of any legal effect. On January 5, 1935, Texota executed a conveyance of said oil and gas lease to A. H. Meadows. This conveyance recites that it is made "in consideration of $10 and other good and valuable considerations." No actual consideration passed from Meadows to Texota. On the same day Meadows and Trippett executed an assignment of the oil and gas lease to Rancho. The conveyance from Texota to Meadows was delivered on the date of its execution (January 5, 1935). The conveyance from Meadows and Trippett to Rancho was attached to a draft drawn on Rancho for $165,000, which was placed in the Peoples National Bank at Tyler, Texas, for collection, forwarded by it to its correspondent bank at Fort Worth, Texas, and paid at Fort Worth by Rancho on January 7, 1935, on which date the conveyance to Rancho was delivered to it and the 1258 1084 amount paid by Rancho was remitted to the Peoples National Bank of Tyler. The notes made by Trippett and Meadows to the Peoples National Bank, for the money borrowed to purchase the outstanding stock, which were secured, among other security, by the two stock certificates in the name of A. H. Meadows, representing the total capital stock of the Texota Corporation, were dated December 31, 1934, and were paid on January 7, 1935. After said payment the Peoples National Bank of Tyler, Texas, had and made no further claim on the collateral. Said certificates were thereafter subject to the order of Trippett and Meadows at any time and the bank was under the impression that they had been delivered to them. The certificates themselves were mislaid by the bank and could not be located until a new search shortly prior to the hearing disclosed them in an old "dead" file. The Texota Corporation was on August 14, 1936, formally dissolved by filing consent to dissolution with the Secretary of State of Texas, who thereupon issued his certificate of dissolution. Texota wound up all its business affairs sometime in the year 1935 and distributed the remainder of its assets to its two stockholders, 1085 Meadows and Trippett. In addition to the foregoing findings of fact, the stipulation of facts is adopted as a part of these findings. Most of the stipulated facts have been stated above. OPINION. BLACK: In the instant case the facts clearly show that prior to the time that Texota conveyed the lease in question to Meadows and Meadows and Trippett conveyed it to Rancho, Meadows and Trippett had entered into a binding contract with Rancho to sell the lease. This contract was signed by Meadows and Trippett, individually, as sellers and Rancho as purchaser, and nowhere in the contract does the name of Texota appear. Meadows and Trippett both testified at the hearing that they signed the contract with Rancho, individually, because they fully intended to liquidate the corporation at an early date thereafter and thereby become the owners of the lease in their own individual right upon receiving it in liquidation. They further testified that they intended thereafter to convey the lease to Rancho as individuals in fulfillment of their contract. They contend that the transactions were consummated according to the plan and that Texota is not taxable on the profits. 1086 Under the circumstances detailed in our findings of fact, should we hold that the contract of sale made by Meadows and Trippett with Rancho on December 20, 1934, must be treated as the contract of Texota, as seller? If, under the law, we should so hold, then we must hold that the subsequent sale which Meadows and Trippett made on January 1259 5, 1935, to Rancho was made by them as agents and representatives of Texota and that the profits from the sale are taxable to Texota. ; ; ; ; affd., . We think we must hold that the contract entered into by Meadows and Trippett on December 20, 1934, was one entered into for the benefit of Texota and therefore must be treated as its contract. The it is that Texota's name is not mentioned in the contract, but Meadows and Trippett were the directors and sole stockholders of Texota. Meadoes was its president and the two of them were in charge of its affairs. 1087 The lease was concededly owned at that time by Texota. In the contract of tsale which Meadows and Trippett made with Rancho on December 20, 1934, the following language appeared in the second paragraph: "Sellers shall deliver to purchaser, at its office in the Sinclair Building, Fort Worth, Texas, within three (3) days after the date of this contract complete abstracts of title certified to date, covering the above described property * ." If this part of the contract was carried out, and there is no suggestion that it was not, then of course the abstracts of title showed that title to the property was in Texota, and Rancho must have known that it was really purchasing from Texota. Of the several cases above cited, the one which we think comes nearest the facts of the instant case is S. A.MacQueen Co. The facts in that case are briefly as follows: On February 1, 1927, at a meeting and on the same day, a resolution was adopted by the board of of the MacQueen Co. and were also its directors, a resolution was passed authorizing the board of directors to sell real estate owned by the corporation to S. A. MacQueen, its president, director, and majority stockholder, for the1088 sum of $85,000. Following that meeting and on the same day, a resolution was adopted by the board of directors accepting an offer by MacQueen of $8k,000 for the real estate. The following day, while the corporation was yet the owner of the property, MacQueen entered into an agreement with Henry Reed Hatfield to convey the real estate to the latter for a consideration of $150,000. On February 11, 1927, in conformity with a prior understanding among the three stockholders, MacQueen executed a declaration of trust in which he recited the agreement of the corporation to convey the real estate to him for $85,000, his agreement to convey the same to Hatfield for $150,000, and his intention to distribute the profits to the stockholders in proportion to their holdings. On March 1, 1927, the MacQueen Co. conveyed title to MacQueen and 1260 on the same day MacQueen conveyed title to Hatfield. Subsequently MacQueen, in accordance with his declaration of trust, distributed $65,324.30, representing the profits of the sale and interest thereon, to himself and the other two stockholders. On these facts we held that the sale to Hatfield was made by the corporation, S. A. MacQueen Co.1089 , and it was taxable on the profits resulting from the sale. The court in affirming our decision, among other things, said: * * * Although in form there were two sales of the corporate real estate, first, the purported sale by the petitioner to MacQueen, and second, the sale by MacQueen to Hatfield, in substance the transaction was a sale by the petitioner to Hatfield through the agency of MacQueen. So also, although in form MacQueen was a trustee for the distribution of the profits earned by the sale of his own real estate to Hatfield, in substance he was the agent of the petitioner for the distribution of the profits from the sale of the corporation's real estate among its stockholders. In the instant case the purported sale by Texota to Meadows on January 5, 1934, was for $10 and other valuable considerations. In the MacQueen case the purported consideration passing from S. A. MacQueen, president, to the corporation was $85,000. As a matter of fact no consideration at all passed from MacQueen to the corporation, just as here no consideration passed from Meadows to Texota. And, just as we held in the MacQueen case that the corporation made the sale to the purchaser, 1090 notwithstanding the intermediate conveyance by the corporation to MacQueen, its president, so we think we must hold in the instant case that Texota made the sale to Rancho, notwithstanding the intermediate conveyance by Texota to Meadows, its president. Of course, the facts and circumstances of the MacQueen case and the other cases cited above are not identical with those in the instant case, but we think they are sufficiently near the same that those decisions must control our decision here. Petitioner relies largely upon , and , in support of its position. We think these cases are clearly distinguishable on their facts. In both of these cases the Board pointed out that no binding contract of sale had been entered into by the corporation, or by anyone else acting as its agent, and the proposed purchaser prior to the transfer of the assets to the stockholders. In , in distinguishing a group of cases similar to those which we have cited above, we said: * * In each we held that the trustee or assignee merely acted for the1091 corporation in consummating a transaction initiated by it. In Nace Realty Co., supra, we pointed to this fact as controlling and distinguished , on this ground, observing: "So far as appears, the 1261 corporation [Fruit Belt Telephone Co.] had made no contract for the sale of its assets prior to their transfer to the individual. That fact alone is sufficient to distinguish the case from the case now at bar." We should also point out, we think, that the facts in the instant case are distinguishable from those present in . In that case, prior to any contract of sale, the corporation distributed in partial liquidation the eight leases which were subsequently sold. The stockholders turned in their stock and 60 percent thereof was canceled as a part of the plan of partial liquidation. Thereafter the capital stock of the corporation was only 40 percent of what it was before. After the stockholders received the leases in liquidation, they entered into a contract on their own account to sell the leases to the East Texas Oil Refining Co. and in pursuance thereof the leases*1092 were subsequently sold to the named purchaser for the consideration specified in the contract. Under those circumstances we held that the sale of the leases was made by the stockholders to whom the leases were transferred in partial liquidation and was not made by the corporation, and that the corporation was not taxable on the profits resulting from the sale. As we have already endeavored to point out, we do not have a similar situation in the instant case. On the strength of the authorities hereinbefore cited we hold for the respondent. Reviewed by the Board. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623838/	Elizabeth W. Snyder, Petitioner v. Commissioner of Internal Revenue, Respondent; Ritchie A. Snyder, Petitioner v. Commissioner of Internal Revenue, RespondentSnyder v. CommissionerDocket Nos. 28964-87, 28965-87, 3471-88, 3472-88United States Tax Court93 T.C. 529; 1989 U.S. Tax Ct. LEXIS 138; 93 T.C. No. 43; November 2, 1989November 2, 1989, Filed 138 Decisions will be entered under Rule 155. P seeks to strike from R's reply brief references to and quotations from technical books and articles not proffered at trial, relied on, or referred to by any expert witness. Held, this material is hearsay not subject to the exception for learned treaties pursuant to Rule 803(18), Fed. R. Evid.Held, further, this material is not suitable for the Court to take judicial notice of pursuant to Rule 201, Fed. R. Evid.Held, further: Rule 143(b), Tax Court Rules of Practice and Procedure, precludes our consideration of this "Brandeis brief" material. P transferred to L 300 shares of publicly traded G stock valued at $ 2,592,000 in exchange for 1,000 shares of voting common stock and 2,591 shares of Class A preferred stock, par value $ 1,000 per share. Class A preferred was nonvoting, bore a 7-percent noncumulative dividend, and was convertible into 2,591 shares of Class B preferred stock, par value $ 1,000 per share. Class B preferred was nonvoting, bore a 7-percent cumulative dividend, other dividend rights, and could be put to L at par plus accumulated dividends payable by a 10-year note bearing a market rate of interest. 139 P did not convert her Class A preferred. The common stock could call the preferred at par plus accumulated dividends payable 20 percent in cash and a 5-year note for the balance at a market rate of interest. The preferred was not called. P gave her 1,000 shares of common stock to her great-grandchildren in trust. Held, the Black-Scholes method of valuing stock options is not appropriate to the valuation of common stock. Held, further, the value of the common stock P gave to trusts for her great-grandchildren was $ 1,000 as reported by petitioner. Held, further, Dickman v. Commissioner, 465 U.S. 330 (1984), does not apply to the transfer of property in exchange for an equity interest in a corporation. Held, further, by failing to convert her Class A stock to Class B stock, P transferred value to L's common shareholders to the extent that dividends would have accumulated and the G stock value increased sufficiently to pay the redemption price of the preferred stock. Held, further, P did not transfer value to L's common shareholders by failing to put her stock in exchange for a note bearing a market rate of interest. Robert E.140 Schlusser, for the petitioners.Craig A. Etter, for the respondent. Williams, Judge. WILLIAMS530 The Commissioner determined deficiencies in petitioners' respective gift taxes in the following amounts for the following periods:Petitioner Elizabeth W. SnyderDocket Nos. 28964-87, 3471-88PeriodDeficiency4/1/81 -- 6/30/81$ 474,6437/1/81 -- 9/30/8166,73910/1/81 -- 12/31/8159,160198296,902198370,520198477,954198562,047531 Petitioner Ritchie A. SnyderDocket Nos. 28965-87, 3472-88PeriodDeficiency4/1/81 -- 6/30/81$ 463,122198291,762198363,415198474,361198555,568The issues we must decide are: (1) The fair market value of common stock that petitioner Elizabeth W. Snyder placed in an irrevocable trust for the benefit of her great-grandchildren, and (2) whether petitioner Elizabeth W. Snyder made continuing gifts to the common stockholders by failing either to exercise her option to convert her shares of preferred stock to a class of preferred that accumulated dividends or to tender her shares of preferred stock for redemption, and, if so, in what amounts.Preliminary MatterWe must also address141 petitioner's motion to strike portions of respondent's reply brief or in lieu thereof to allow petitioners to file a supplemental brief, filed May 22, 1989, to which respondent objected on June 16, 1989. Petitioner asks that references to and quotes from certain technical books and articles be struck from respondent's brief on the grounds that the references constitute references to matters not in evidence and to inadmissible hearsay. Because the books and articles were not proffered, and are not treatises that respondent's expert witnesses relied on or referred to, petitioner requests us not to consider them.We follow the Federal Rules of Evidence in our proceedings. Sec. 7453. This provides all parties with ground rules for presenting their cases. To depart from these rules not only would contradict our mandated authority but also would prejudice the parties by removing the certainty of what the Court may consider in finding facts. A party could not adequately prepare or defend a case if it were uncertain what standards would be applied to judge the admissibility of evidence. While it is generally accepted that a relaxed application of the rules of evidence during a bench142 trial 532 results in less prejudice to the fact finder because of a judge's legal training and experience, the uncertainty of what will be used to find facts is highly prejudicial to a party whether the fact finder is a judge or a jury. Incompetent evidence should not be admitted to proof. We, therefore, believe that adhering to the Federal Rules of Evidence is a sound way to protect the integrity of our proceedings. Goldsmith v. Commissioner, 86 T.C. 1134">86 T.C. 1134, 1138 (1986).Hearsay is an out-of-court statement offered in evidence to prove the truth of the matter asserted therein and, unless an exception to the hearsay rule explicitly permits its admission, we ordinarily exclude it from evidence. Fed. R. Evid. 801; Goldsmith v. Commissioner, supra. The quotes from books and articles to which petitioner objects are hearsay many times over. Respondent offers them so that we might rely on them and apply them to the substantive valuation issues in the case before us. That the information in the books and articles may be opinion does not diminish the necessity for us to conclude that they are truthful and the product143 of sound analysis of accurate data.An exception to the hearsay rule allows the introduction of learned treatises in evidence when they have been established as reliable authority by an expert witness at trial and have been either relied upon by an expert witness on direct examination or called to his attention on cross-examination. Fed. R. Evid. 803(18). The certain implication of this exception is that statements from treatises that, (1) have not been established as reliable authority, (2) were not relied on by any expert at trial, or (3) were not called to an expert's attention at trial are not admissible. The books and articles in issue were neither relied on nor referred to by an expert witness at trial. They were not established as reliable authority by any expert. The material that respondent would have us use in finding the value of the common stock is not admissible under the exception to the hearsay rule for learned treatises.Respondent argues that since the books and articles were not offered at trial, they cannot be considered evidence and thus could not be hearsay. Respondent's references to the books and articles on brief attempts to insert that information 533 144 into the course of our factfinding; there is no other purpose for the references and quotations. Respondent's attempt to introduce this material after trial does not make it any less evidentiary in nature. In fact, the insertion of information into the record by brief underscores one fundamental problem that the hearsay rule is designed to avoid, i.e., the introduction of evidence that may have the appearance of truthfulness without the testing of cross-examination. Anderson v. United States, 417 U.S. 211 (1974). Petitioner was denied an opportunity to cross-examine any expert who relied on the books and articles; we were denied an opportunity to consider the relative merits of the opinions expressed by experts who had relied on this material; and we have no basis for evaluating the probative value of this material.Respondent next urges the Court to take judicial notice of the information contained in the books and articles pursuant to the authority granted under Rule 201, Fed. R. Evid. Rule 201 allows a court to take judicial notice of adjudicative facts which are "(1) generally known within the territorial jurisdiction of the trial court or (2) 145 capable of accurate and ready determination by resort to sources whose accuracy cannot reasonably be questioned." The information contained in the material at issue represents theories and conclusions of authors on corporate finance and valuation. These opinions form foundations for the ultimate factual conclusion that respondent believes he has proven. These opinions do not relate to or aid in the interpretation of a statute. Consequently, to take judicial notice of the opinions we must find that they are generally known and are determinable by reference to unimpeachable sources. As discussed in the course of our analysis of the learned treatise exception to the hearsay rule, we have no basis on which to judge the accuracy or reliability of the sources of these opinions. We believe certainly that these opinions are not generally known. In short, this material falls far short of the standards necessary to invoke judicial notice.Respondent next argues that the inclusion of extraneous information on brief is acceptable at the appellate level as "Brandeis brief" material and ought to be equally acceptable in briefs submitted to this Court. A Brandeis brief is 534 an "appellate146 brief in which economic and social surveys are included along with legal principles and citations * * * which takes its name from Louis D. Brandeis, former Associate Justice of Supreme Court, who used such brief while practicing law." Black's Law Dictionary (5th ed. 1979). Respondent does not point to any precedent at the trial level for allowing Brandeis briefs, and indeed we have found none. Our rules of procedure specifically preclude our consideration of this material. Rule 143(b), Tax Court Rules of Practice and Procedure; Perkins v. Commissioner, 40 T.C. 330">40 T.C. 330, 340 (1963). Respondent has not offered any justification for abandoning the requisites of the rules of evidence and our rules of practice and procedure in favor of an amorphous "Brandeis brief" rule. Respondent had ample opportunity during trial to introduce these books and articles in a proper manner under the learned treatise exception if his experts believed that they were important. Further, petitioner would have had the opportunity to develop through cross-examination whether the material was useful or persuasive. Without having had this material receive the beneficial scrutiny147 of the adversary process, we have no way of knowing how to weigh the information and opinions contained in the books and articles. By including these materials in his reply brief respondent is, in effect, attempting to introduce the theories and opinions of several expert witnesses while precluding petitioner from being heard. Simply permitting a reply from petitioner is not a satisfactory answer. Expert testimony is supposed to be an aid to the Court. Fed. R. Evid. 702. We, however, have had no opportunity to examine these "experts" or to see their qualifications. This "Brandeis brief" material erodes the integrity of the adversarial proceeding, and we will not consider "Brandeis brief" material in the course of our factfinding.Respondent finally argues that the books and articles in issue merely corroborate evidence introduced at trial and thus cannot be considered really evidence. It escapes us how any document or material could "corroborate" any point without also being evidence. Evidence that corroborates other evidence must be offered at trial in its own right. Corroborative evidence that is admitted, far from 535 being superfluous, is commonly the adhesive of148 a successful case. Petitioner's motion will be granted.FINDINGS OF FACTSome of the facts are stipulated and are so found. Petitioners Elizabeth W. Snyder (petitioner), and Ritchie A. Snyder resided in Wilmington, Delaware, at the times they filed their petitions. Petitioner Ritchie A. Snyder is a party to this proceeding solely because he consented to have his wife's gifts taxed as though he made half of them.On March 27, 1981, petitioner incorporated Libbyfam 2, Inc. (Libbyfam), under the laws of the State of Delaware. Libbyfam was organized as a personal holding company, and its sole asset was 300 shares of common stock in W.L. Gore & Associates, Inc. (Gore), a publicly traded corporation. Petitioner transferred the Gore stock to Libbyfam in a tax-free exchange for 1,000 shares of common stock and 2,591 shares of Class A preferred stock on March 30, 1981. At the time of transfer to Libbyfam, the Gore stock was worth $ 2,592,000 or $ 8,640 per share. Petitioner's basis in the Gore stock at the time of transfer was $ 2 per share. Gore was considered to be a "growth stock" because it had historically reinvested profits and paid low dividends. 1 During the years in issue, 149 Gore was a highly successful corporation, owned primarily by members of petitioner's family, which was engaged in the manufacture of electronic wire and cable products, vascular prosthetics and medical products, breathable laminates, sealants, gaskets, filter bags, microfiltration products, and tubing with several domestic plants and several wholly owned foreign subsidiaries. The 300 shares of Gore stock that petitioner transferred to Libbyfam represented less than 1 percent of Gore's total 536 outstanding shares. Except for the Gore stock and dividends, Libbyfam has never owned any other asset.According to the articles of incorporation, Libbyfam was authorized to issue three classes150 of stock: common stock, Class A preferred stock, and Class B preferred stock. The common stock, bearing a par value of $ 1 per share, possessed exclusive voting rights and was subordinated to both classes of preferred stock in dividend and liquidation rights. The common stockholders had the right to cause any or all of the preferred stock to be redeemed at par value, plus any accrued and unpaid dividends, upon 14 days' notice. The common shareholders were authorized to pay to the preferred shareholders 20 percent of the purchase price in cash and to issue a 5-year promissory note for the remainder, bearing interest at the prime rate of interest charged by the Wilmington Trust Co. on the date of the note.The Class A preferred stock was entitled to a noncumulative annual dividend of 7 percent of par value, and was convertible, at the option of the holder, into equal numbers of shares of Class B preferred. The Class B preferred stock was entitled to a cumulative annual dividend of 7 percent of par value, payable only after dividends had been paid to the Class A preferred stockholders. After payment of dividends on both the Class A preferred and the Class B preferred, the Class 151 B preferred was entitled to share in any additional dividend declared to the extent of a further noncumulative 5 percent of par value. Class B preferred shareholders could, upon 14 days' notice, require the corporation to redeem Class B shares at par value (the put option) plus accumulated, unpaid dividends payable in cash or by delivery of a 10-year promissory note bearing interest at the then prime rate charged by the Wilmington Trust Co. Both the Class A preferred and the Class B preferred had a par value of $ 1,000 per share.On April 2, 1981, petitioner created an irrevocable trust for the benefit of her great-grandchildren that was funded with petitioner's 1,000 shares of common stock in Libbyfam. Petitioner retained 2,951 shares of Libbyfam's Class A preferred stock in a revocable trust. Petitioner intended to arrange ownership of the Gore stock so that 537 any appreciation was realized by the irrevocable trust. She did not expect to exercise her put option without unanticipated and extraordinary financial need.From 1981 through 1985 Libbyfam received dividends from Gore and paid out dividends to petitioner, the only Class A preferred shareholder, as follows:YearDividends receivedDividends paid1981$ 1,80019822,700$ 2,591.0019831,8003,109.2019843,6002,720.5519852,7002,331.90152 According to the articles of incorporation, the Class A preferred stockholder was entitled to noncumulative dividends of $ 181,370 or $ 70 per share annually. The Class B preferred stock was never issued. If petitioner had converted all of her Class A preferred into Class B preferred stock, she would have been entitled to cumulative dividends of $ 181,370 annually.By January 1, 1982, the Gore stock had declined in value to $ 6,700 per share, but by January 1, 1983, it had increased in value to $ 12,500 per share. From January 1, 1983, through June 30, 1985, the value of Gore stock constantly increased to $ 17,800 per share. Consequently, had petitioner converted her Class A preferred into Class B preferred, the value of all unpaid dividends on her Class B preferred would have accumulated for her benefit. There would not, however, have been any value in Libbyfam to support the payment of cumulative dividends until September 30, 1982.Libbyfam paid dividends that were actually less than two percent of the dividends that would have accumulated on Class B preferred. The Libbyfam common shareholders did not receive any dividends.Petitioner filed a Federal gift tax return for the153 quarter ended June 30, 1981, in which she reported making a gift of 1,000 shares of Libbyfam common stock to the trust. She reported the value of the gift as $ 1,000. She did not report any subsequent gifts relating to the Libbyfam common stock in taxable years 1982, 1983, 1984, or 1985. Petitioner Ritchie Snyder filed gift tax returns for the period ending 538 June 1981 and for calendar year 1982, agreeing to be taxed on one-half of his wife's gifts as if he had made them. He did not file any other gift tax returns during the years in issue but did fill in the consent of spouse line on petitioner's gift tax returns for taxable years 1983, 1984, and 1985.OPINIONBy statutory notice of deficiency dated June 17, 1987, the Commissioner determined a deficiency in petitioner's gift tax for the calendar quarter ending June 30, 1981. The deficiency presumed that the Libbyfam common stock that petitioner donated to the irrevocable trust was worth $ 2,412,200, rather than $ 1,000 as petitioner reported on her return. In the alternative, the deficiency notice alleged that petitioner made a gift to the common shareholders when she failed to exercise her put option to redeem her 154 preferred stock. By statutory notice dated November 30, 1987, the Commissioner determined deficiencies in Federal gift tax for quarters ending September 1981 and December 1981 and for taxable years 1982, 1983, 1984, and 1985. Petitioner's husband received statutory notices of deficiency in lesser amounts related to his share of the gifts. All of the deficiencies for taxable years 1982, 1983, 1984, and 1985 were based on the theory that petitioners had made continuing constructive gifts to the common shareholders by declining to exercise the put option. Respondent determined that the values of the constructive gifts were as follows:Taxable periodValue of giftQuarter ending June 1981$ 123,197Quarter ending Sept. 1981148,308Quarter ending Dec. 1981131,4661982239,3271983177,5911984193,8741985165,445The first issue for our decision is the fair market value for gift tax purposes of 1,000 shares of Libbyfam common stock that petitioner transferred to an irrevocable trust for the benefit of her great-grandchildren on April 2, 1981. The 539 parties agree that the value of the 300 shares of Gore stock that was the sole asset of Libbyfam155 was $ 2,592,000 at the time of the transfer. They further agree that the sum of the fair market values of all the outstanding shares of Libbyfam stock equaled $ 2,592,000 on April 2, 1981. They do not agree, however, on the proper allocation of the $ 2,592,000 value between the common stock that was transferred to the trust and the Class A preferred stock that petitioner retained.Section 2512(a) 2 provides that, if a gift is made in property, the value of the property at the date of the gift shall be considered the amount of the gift. For purposes of both estate tax and gift tax, fair market value 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 all the relevant facts. Sec. 25.2512-1, Gift Tax Regs.; sec. 20.2031-1(b), Estate Tax Regs. McShain v. Commissioner, 71 T.C. 998">71 T.C. 998, 1004 (1979); Estate of Heckscher v. Commissioner, 63 T.C. 485">63 T.C. 485, 490 (1975). The valuation of stock presents a question of fact and the trier of fact must weigh all relevant evidence and draw appropriate156 inferences therefrom. Hamm v. Commissioner, 325 F.2d 934">325 F.2d 934, 938 (8th Cir. 1963), affg. a Memorandum Opinion of this Court.It is also well established that the stock of closely held corporations must be discounted for lack of marketability. Estate of Andrews v. Commissioner, 79 T.C. 938">79 T.C. 938, 953 (1982); Estate of Piper v. Commissioner, 72 T.C. 1062">72 T.C. 1062, 1085 (1979). A conceptually distinct discount is allowed for stock which conveys a minority interest in a corporation because the buyer will not be able to control the corporation, compel the payment of dividends, or liquidate it and distribute the assets. Ward v. Commissioner, 87 T.C. 78">87 T.C. 78, 103 (1986); Harwood v. Commissioner, 82 T.C. 239">82 T.C. 239, 267 (1984), affd. without published opinion 786 F.2d 1174">786 F.2d 1174 (9th Cir. 1986).157 In determining the value of stock we must also consider restrictions on the free alienation of the stock. Estate of Reynolds v. Commissioner, 55 T.C. 172">55 T.C. 172 (1970). The value of 540 stock is determined by reference to a hypothetical willing buyer and willing seller. Estate of Andrews v. Commissioner, supra at 954-955.Petitioner argues that the value of the Libbyfam common stock on April 2, 1981, can only be determined in light of the prevailing rights and powers of the Class A preferred stock that petitioner retained. Because petitioner could have converted her stock into Class B preferred at any time and, on 14 days' notice, have put her Class B preferred stock to the corporation for redemption, petitioner contends that the value of the common stock was no more than what the common stockholder could realize after such redemption. In petitioner's view the common stock had no more value than the remnant interest that it represented.Respondent counters with the expert witness testimony and report of M. Mark Lee (Lee). Lee, an associate director of corporate finance with Bear, Stearns & Co., Inc., evaluated the158 Libbyfam stock as if it were a call option on the underlying 300 shares of Gore stock. Lee also based his analysis on the grounds that the common stockholders had the right to call the preferred stock for redemption upon 14 days' notice. Once the preferred stock had been redeemed, Lee reasoned that the Libbyfam common shareholders would have unrestricted access to the underlying corporate assets, the Gore stock.Lee decided that the common stock was conceptually identical to a call option; for that reason Lee utilized the "Black-Scholes" method of valuation -- set forth in "The Pricing of Options and Corporate Liabilities" 3 by Fischer Black and Myron Scholes. The Black-Scholes method is a complex formula which reflects the interrelationship of the fair market value of the stock to be purchased, the exercise price of the option, the amount of dividends to be paid on the stock over the life of the option, the "risk-free" rate of return at the time the option is granted, the volatility of the stock to be purchased, and the term of the option. Based on the Black-Scholes method, Lee determined that the fair market value of an option on the underlying 300 shares of Gore stock would159 be $ 470,000, which should be discounted by 25 percent for lack of marketability to 541 produce a final fair market value of $ 353,000. Respondent argues that this figure represents the fair market value of the Libbyfam common stock at the time of the transfer. In prior cases we have considered the application of the Black-Scholes method to the valuation of stock options, but we have never applied it to the valuation of common stock. 4There are several problems with Lee's analysis. The gravest, by far, is that the Black-Scholes method is designed to value call options, not common stock. In general, the common stock bears the risk of full loss and enjoys the benefit of any future160 appreciation. An option presents a risk of loss only to the extent of the option price and conveys the right to enjoy potential appreciation in value in corporate ownership for a set and limited time. Black and Scholes define an option as "a security giving the right to buy or sell an asset, subject to certain conditions, within a specified period of time." Common stock represents ownership of the corporation, not simply the potential to acquire it, and in this case the right to control distribution of the corporate assets, in this case, the Gore stock. The right to command distribution of remaining Gore stock (after redeeming the preferred) is not limited by time. An option to purchase has an exercise date, and its limited existence is an important factor in the Black-Scholes method of valuation.The importance of the time period is evident from the testimony of Joseph P. Baniewicz (Baniewicz), respondent's other expert witness, who also computed the value of the Libbyfam common stock using the Black-Scholes model. Unlike Lee, Baniewicz selected a wide range of time periods reflecting the option's exercise time. His ultimate values for the Libbyfam common stock ranged from 161 $ 111,532 for a time period of 15 days to $ 2,412,188 for a time period of 20 years. Interestingly, Baniewicz arrived at a value of $ 653,552 using a time period of one year, although Lee's computations under the same model for a one-year period produced a value of $ 470,000. There is no basis for assuming a time period of any particular duration, largely because the objective in this case is to value common stock 542 and not to value an option to purchase. We further note that Mr. Baniewicz also testified that the Black-Scholes method was not a perfect model because the preferred shareholders also had a right to force the redemption of the preferred stock. We believe Mr. Baniewicz' analysis of the unsuitability of the Black-Scholes method for valuing the common stock is sound. Lee's presentation leaves us unpersuaded.Yet another flaw in Lee's analysis is his assumption that because, with hindsight, it can be said that the common shareholders would be required to sell half the Gore stock to satisfy the 10-year note that would have been held by the Class B preferred shareholder on redemption of her stock, the other half of the Gore stock held by Libbyfam should be treated162 as having been transferred to the exclusive benefit of the common shareholders. Lee calculated that the amount of dividends paid to Libbyfam, plus half of the Gore stock, were sufficient to satisfy the claims of the Class B preferred shareholder had the put option been exercised 14 days after the transfer. We may, however, consider only that information which would have been reasonably foreseeable to a prospective buyer at the time of the valuation. Estate of Gilford v. Commissioner, 88 T.C. 38">88 T.C. 38, 52 (1987); Estate of Jephson v. Commissioner, 81 T.C. 999">81 T.C. 999, 1002 (1983). The existence of such value in the future was, on the date of the gift, pure speculation. Indeed, by December 31, 1981 (9 months after the gift), the Gore stock had lost 19 percent of its gift-date value. Furthermore, the value of any asset that is encumbered will be unrealistically inflated if the encumbrance is ignored or discounted by assuming the future existence of extrinsic sources of funds that might be used to satisfy the liability encumbering the asset. Future appreciation in value of the Gore stock cannot be presumed to have existed on the date163 of the gift.Lee also employed another analytical model to check his results under the Black-Scholes method. Still treating the Libbyfam common stock as an option to buy the Gore stock, Lee considered the "warrant to stock" price of several publicly traded corporations that were trading at approximately 60 percent to 120 percent of their exercise price. Only one option had the exercise time limit that Lee543 was using to measure the value of the Libbyfam common stock, so Lee chose that stock warrant price for purposes of comparison. The warrant was trading at 22.1 percent of the stock price and the Libbyfam common stock would have traded at 18.1 percent of the price of the Gore stock, using Lee's fair market value of $ 470,000. Lee concluded that his figure was reasonable in comparison. However, an isolated example taken from a group of companies whose warrant to stock prices range between 0.1 percent and 45.6 percent is not persuasive. There was no other evidence offered to indicate that this particular company could be meaningfully compared to Gore or to Libbyfam. We cannot base a decision upon this information. Lee also used one other method, the discounted cash-flow164 method, which he admits was not an acceptable method for stock valuation at the time of the transfer. Although he claims that the results of this method support his valuation figure, we cannot consider a method that is unacceptable in principle simply because the results of applying it serendipitously coincide with the expert's other analyses.Petitioner introduced two expert witnesses, Roger B. Orloff (Orloff) and Graham Humes (Humes), who both testified that the value of the Libbyfam common stock on the date of the transfer should be calculated by reducing the value of the corporation by the amount of the value of the preferred stock.Orloff, who is employed by the Corporate Finance Group of Mellon Bank, considered four factual patterns that could affect the value of the Libbyfam common stock: (1) The common shareholders call the preferred stock for redemption, (2) the corporation liquidates, (3) dividends are paid, and (4) the preferred shareholder exercises her put option. Orloff decided that it was improbable that the common shareholders would force the redemption of the preferred stock because the after-tax proceeds from the sale of the Gore stock would not satisfy the claims165 of the preferred shareholders. Orloff then determined that if the common stockholders decided instead to liquidate the assets of Libbyfam, they would only have $ 1,000 left after transferring the assets to the preferred shareholders. Looking at the common stock as a source of future dividends, Orloff noted 544 that the preferred shareholders would receive all the dividends likely to be paid by Gore, leaving no significant source of value for the common stock. Finally, Orloff determined that if the Class A preferred converted to Class B preferred and put the stock to the corporation, as in the first scenario, the after-tax proceeds of the sale of the Gore stock would leave nothing for the common shareholders except $ 1,000 after satisfying the claims of the preferred shareholders. Orloff concluded that under existing facts at the date of the gift, the common shareholders could obtain no more than $ 1,000 in exchange for their common stock. Baniewicz, who testified for respondent, agreed at trial that the value of the Libbyfam common stock on April 2, 1981, was $ 1,000.Petitioner's other expert witness, Humes, was employed by Mellon Bank in the Corporate Finance Department166 and later as a managing director of Legg Mason Wood Walker, Inc. Humes arrived at a value of $ 1,000 for the Libbyfam common by subtracting the redemption cost of the Class B preferred from the value of the underlying Gore stock. Regardless of which method the common shareholders would choose to satisfy the claim of the Class B preferred shareholders, Humes determined that they would not retain more than $ 1,000. Humes further noted that the appraisal price of the Gore stock of $ 8,640 per share reflected the likelihood that the Gore stock would appreciate, "just as the value of any publicly traded stock includes the portion of the price being paid for the right to receive any future appreciation." In conclusion, Humes decided that although the fair market value of the Libbyfam common stock was $ 1,000, a prospective buyer might have paid as much as $ 25,000. Humes explained his estimate of $ 25,000 by saying,That is not an economic analysis. That is simply my way of saying, having dealt with buyers of privately held blocks of stock for some thirty years, that I believe there might have been buyers out there who would have paid more than $ 1,000 and maybe they would have paid167 $ 10,000. I simply can't imagine anybody paying more than $ 25,000 but there's no economic analysis of how to get to the $ 25,000.Respondent argues that even if we find that the value of the Libbyfam common stock is completely subordinated to 545 the right of redemption of the Class B preferred stock, we must still consider whether the 10-year note which the common shareholders would issue to redeem the Class B preferred stockholders would be worth its full face value. Although the note would be full-recourse with an interest rate at a prevailing market rate at the time of issuance, respondent suggests that the corporation would not be able to satisfy the note because the sole income generating asset is the Gore stock. This point is not only conjecture but it also proves too much. If Libbyfam could not satisfy the note, there would be no residual value in Libbyfam to inure to the benefit of the common shareholders and no gift.As we have often noted before, valuation issues are inherently imprecise. 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).168 We are not bound by the opinions of experts. Silverman v. Commissioner, 538 F.2d 927">538 F.2d 927, 933 (2d Cir. 1976), affg. a Memorandum Opinion of this Court; Chiu v. Commissioner, 84 T.C. 722">84 T.C. 722, 734 (1985). We have been given three different figures for the value of the Libbyfam common stock: (1) Lee's $ 353,000, (2) Orloff's $ 1,000, and (3) Humes' $ 25,000. We reject Lee's figure because we reject the application of the Black-Scholes model to the valuation of common stock. Humes found that $ 1,000 was the fair market value although he guessed that the stock might conceivably be worth as much as $ 25,000. Finally, Orloff's explanation for limiting the value of the common stock to $ 1,000 was comprehensive and reasonable. As Orloff demonstrated in his report and Baniewicz stated at trial, if the Class B preferred put option had been exercised, the common shareholders would have realized only $ 1,000 on the date of the gift, and they had no protection from the exercise of that option. A willing buyer would pay more than $ 1,000 only with some assurance that the Class B preferred stock would not be redeemed. After consideration169 of the evidence and expert opinions, we conclude that the value of the Libbyfam common stock was $ 1,000 on April 2, 1981.The second issue for our decision is whether petitioner made a continuing gift to the Libbyfam common shareholders by failing to convert her Class A preferred stock to 546 Class B preferred stock or to put the Class B preferred for redemption. Respondent argues that petitioner's failure to exercise her put option constitutes forbearance from exercising a valuable right that resulted in a gift to the corporation and thus indirectly to the common shareholders. Respondent contends that this situation is controlled by Dickman v. Commissioner, 465 U.S. 330">465 U.S. 330 (1984), in which the Supreme Court held that an interest-free demand loan between related parties constituted a gift in the amount of the foregone interest because the use of money is a transferable interest and valuable right in property. Respondent urges us to find that petitioner's failure to exercise her right of redemption constitutes a transfer of the use of property.In asking us to apply Dickman to this case, respondent reads Dickman so broadly as to blur the170 distinction between debt and equity. Although preferred stock manifests some of the characteristics of debt, we cannot say that those characteristics are so close as to warrant the application of Dickman. A creditor lends money to a debtor to use without surrendering ownership of the money. Specifically, the lender retains the right to reclaim the money together with a sum paid for its use. That is why the value of an "interest free" loan does not depend on what use the borrower makes of the loan proceeds but on what it would have cost the borrower to obtain the funds in the marketplace. Cohen v. Commissioner, 92 T.C. 1039">92 T.C. 1039 (1989). A borrower must pay to use the money lent.On the other hand, an equity interest in a corporation ordinarily gives no certain right to be paid for use of the capital contributed in exchange for the interest. While an equity interest in a corporation may have a right to require the repayment of the contributed capital, the corporation that issued the stock does not have to pay for the use of the property contributed. If payment is made (i.e., dividends), it is discretionary with the corporation's board of directors. 171 An equity contribution to the capital of a corporation is a transfer of ownership in the property to the corporation. Moreover, the value of an equity instrument is in large part determined by the corporation's internal rate of return. The value of using loaned money without cost is 547 quantifiable and certain because money is fungible and regularly lent, and the cost of borrowing is ascertainable based on what other owners are charging for use of their funds. The value of using property contributed to equity is whatever the corporation can produce from it, not what it would cost the corporation to borrow it. Without comparing corporate performance to some ascertainable and objective measuring rod, one cannot point to a foregone amount of return from equity as Dickman instructs us to do with respect to foregone interest on debt. Because corporations usually earn different rates of return for a multitude of reasons, some of which are unique to each corporation, we know of no such measuring rod.As a general matter, consequently, the Dickman holding cannot apply to an equity instrument because an equity investor ordinarily does not have rights analogous to the lender172 of interest-free loans. The Class B preferred stock that petitioner could have received would have given her the right to put that stock to the corporation for par value plus accumulated dividends. The existence of her put right does not transform her equity interest into debt. The corporation remained always the owner of the Gore stock; it was never a borrower.By failing to exercise her conversion right, however, petitioner relinquished her right to accumulate unpaid dividends of $ 181,370 each year. To the extent that the Gore stock increased in value each year sufficiently to have paid the cumulative dividend had the stock been redeemed, petitioner transferred value in such subsequent years to the common shareholders.Petitioner made a series of gifts of unclaimed dividend accruals to the corporation by failing to exercise her option to convert from Class A preferred stock to Class B preferred stock. Because the corporation was closely held, those gifts were made in effect to the common shareholders. Class A preferred stock earns a noncumulative 7-percent dividend while the Class B preferred earns a cumulative 7-percent dividend. Because she failed to convert to Class B, 173 petitioner waived her right to be paid accumulated dividends on redemption of her stock. If the underlying Gore stock were sufficiently to appreciate in value, petitioner 548 could permit the foregone dividends that she could have accumulated to enrich the corporation and thus the common shareholders. Unlike an internal rate of return on investment, petitioner's right to cumulative dividends was ascertainable and absolute upon conversion to Class B preferred stock. It was also foreseeable from historical performance and corporate policy that the Gore stock would not generate enough income to pay any significant part of the 7-percent dividend on the Class A preferred. Consequently, an investor seeking protection for the investment in Libbyfam preferred stock would have converted to Class B. We believe petitioner did not convert in order that her great-grandchildren would benefit from avoiding an increasing redemption price prior to the time the preferred stock was retired. Petitioner's failure to convert to stock with a right to cumulative dividends would transfer value to the extent any increased value in the Gore stock would support the payment of the cumulative dividend174 in redemption, less the amount of dividends actually received for each of the years in issue. Upon exercising the put option, petitioner would receive full value, viz, payments on a promise to pay $ 2,591,000 plus accumulated dividends deferred payable by a note bearing a market rate of interest, and no further gift would be effected.Petitioner argues that because there was no sale of Gore stock or liquidation of Libbyfam, no value was realized by the common shareholders from petitioner's failure to convert. In other words, until the value of the Gore stock is actually realized and distributed to the common shareholders, the failure to accumulate dividends transferred no value to the common shareholders. We disagree for two reasons. First, the evidence is that by the end of the third quarter of 1982 and consistently thereafter, there was more than enough increased value to support the dividend that would have been accumulated had petitioner immediately converted her stock to Class B preferred. Second, the absence of having to pay accumulated dividends to the preferred on redemption would directly and positively affect the value of the Libbyfam common stock (which had the right175 to call the preferred). We agree there was no gift to the common shareholders due to petitioner's failure to convert her stock 549 to Class B preferred prior to September 1982. As of September 30, 1982, and thereafter, the value of dividends that would have accumulated was effectively transferred to the common shareholders. Because petitioner could have demanded that value by putting her stock at any time after September 30, 1982, the value was transferred on each date a dividend would have accumulated.Until her death or the exercise of her put option, petitioner had the right to demand from the common shareholders the par value of her Class B preferred holdings plus accumulated unpaid dividends payable over 10 years at the prime rate on the date of the option's exercise. By not exercising this right, respondent argues, petitioner also transferred value to the common shareholders by relinquishing her right to the interest otherwise payable to her in each year.Respondent argues that value of the continuing gift can be determined by assuming that the put option was exercised the day after the trust was formed. Thus, respondent assumes that the appropriate prime rate is 176 17 percent, as it was on April 2, 1981, and computes the values that appear in the statutory notice of deficiency as the amount of interest that would have been paid had petitioner put her stock on April 2, 1981. Respondent's theory is seriously defective. Each year that passes without the exercise of the put option requires reference to a new interest rate because the interest rate is not set until the put option is exercised, and the prime rate at Wilmington Trust Co. changes periodically. Consequently, the amount of the gift in each year changes because the interest payable on exercise of the put cannot be determined until it is exercised. More serious is a conceptual flaw. First, petitioner could not transfer both the value of the dividends that would have accumulated on Class B preferred and the value of foregone interest payments had the preferred been redeemed. Petitioner has no right to interest so long as she holds the stock, and she has no right to dividends after putting the stock. Moreover, the value transferred by foregoing interest is not, as respondent argues, the amount of interest that would have been paid but is only the present value of the foregone interest. 177 The present value of *550 the deferred interest would be more than offset by the dividends that should have accumulated. We believe that this theory is unsound.In light of the foregoing,Decisions will be entered under Rule 155. Footnotes1. From 1977 to the date of the transfer of the Gore stock to Libbyfam, one share of Gore stock was valued at the following amounts:↩% Increase overDateShare valueprior value3/31/77$ 48.503/31/78112.50131.961/17/79175.0055.561/24/804,950.002,728.573/30/818,640.0074.552. All section references are to the Internal Revenue Code of 1954 as amended and in effect for the periods in issue.↩3. Journal of Political Economy, 81 (May-June 1973).↩4. See Laureys v. Commissioner, 92 T.C. 101">92 T.C. 101, 124 (1989); Pagel, Inc. v. Commissioner, 91 T.C. 200">91 T.C. 200, 206 n. 7 (1988); Simmonds Precision Products v. Commissioner, 75 T.C. 103">75 T.C. 103, 123↩ (1980).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623842/	LYNN L. SMITH, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSmith v. CommissionerDocket No. 1449-79.United States Tax CourtT.C. Memo 1983-472; 1983 Tax Ct. Memo LEXIS 319; 46 T.C.M. (CCH) 1039; T.C.M. (RIA) 83472; August 11, 1983. 319 In 1974 and 1975, P was a dealer in used cars, and many of the sales were made on credit. P held the notes and reported the payments thereon as income when he received them. Held, P must report the income from the sale of cars by the accrual method and must report the face amount of the notes as income when received. Held, further, P is entitled to deductions for reasonable additions to a reserve for bad debts. Sec. 166, I.R.C. 1954. J. Frank Thompson, for the petitioner. Gary A. Benford, for the respondent. SIMPSONMEMORANDUM FINDINGS OF FACT AND OPINION SIMPSON, Judge: The Commissioner determined the following deficiencies in the petitioner's Federal income taxes: YearDeficiency1974$23,254.88197511,557.27After concessions by both parties, the issues for decision are: (1) Whether the petitioner must use the accrual method of accounting to reflect the income from the purchase and sale of cars in his used car business; and (2) whether the petitioner is entitled to deductions for reasonable additions to a reserve for bad debts. FINDINGS OF FACT Some of the facts have been stipulated, and those facts are so found. The petitioner, Lynn L. Smith, resided in Colleyville, Tex., at 320 the time he filed his petition in this case. He filed his Federal income tax returns for 1974 and 1975 with the Internal Revenue Service. In 1974 and 1975, the petitioner was a used car dealer. He has operated as a sole proprietorship since 1972 and filed his returns for 1975 and 1973 using the same method of accounting as he used to file his 1974 and 1975 returns. The petitioner sold cars to individuals some of whom were not good credit risks. As a result, he held the notes of customers who wished to purchase cars on credit and was known in the industry as a "note-toter." In 1974, he sold 358 cars and financed 188 of these sales. The total sales prices for cars sold in 1974, exclusive of interest charges, was $332,605.37. In 1975, the petitioner sold 379 cars and financed 278 of these sales. The total sales prices for cars sold in 1975, exclusive of interest charges, was $446,966.60. Prior to extending credit to a customer, the petitioner obtained from him an application for credit. The application form provided space for such information as the customer's name and address, the length of time at such address, employer's name, credit references, and the names of two or more 321 relatives or friends. In deciding whether to extend credit to an applicant, the petitioner was concerned primarily with where the applicant lived, where he worked, and who were his friends. Most of the petitioner's customers furnished him with the names of businesses from whom they had received credit. On occasion, the petitioner verified such information, but he never refused a customer because of his failure to pay other obligations. When the petitioner extended financing to a customer, the customer signed a motor vehicle contract/promissory note. Some of the contracts provided for the payment of interest, and most of the contracts required the customer to make weekly payments on the note. In the event a customer defaulted, the petitioner had a right under the contract to repossess the automobile. When a customer defaulted, it was the petitioner's practice to contact the customer and to attempt to arrange for payment of the note, but if no arrangements could be made, the petitioner hired individuals known in the industry as "repo men," who repossessed the automobile for a fee. The petitioner repossessed 69 cars in 1974 and 107 cars in 1975. After a car was repossessed, the 322 petitioner notified the customer of the repossession and gave him 5 or 10 days to reach an agreement with respect to payment for the car. If no agreement was reached, the petitioner resold the car and made no other attempt to collect the note. In some cases, the petitioner even agreed to sell another car to a customer whose car was repossessed without requiring him to pay the balance outstanding on his note. The petitioner made no accounting entries to reflect a default on a note and the repossession of a car. The petitioner's business records consisted of only a check register, bank statements, cancelled checks, records of his cash expenditures, and an individual "envelope" for each car held by him. Such envelopes contained spaces for such information as the model number of the car, the purchaser, the date of purchase, the date sold, the cost, the expenses, the selling price, and the profit on the sale. In addition, there was space on the envelope for describing the repairs made on the car. Notes given for the purchase of used cars, such as those received by the petitioner, typically sold for between 20 and 30 percent of their face value. The petitioner did not attempt to 323 sell any of his notes. However, on one occasion, he attempted to use such notes as collateral at a bank, but the bank refused to accept them. The petitioner purchased 60 percent of his inventory from wholesale car dealers, 35 percent from retail car dealers, and 5 percent from individuals. He used bank drafts to purchase all of the cars from the dealers and some of the cars from the individuals. When the petitioner purchased a used car with a bank draft, he issued the seller a draft payable by a named payor (either a bank or an individual). The seller of the car took the draft, together with the title to the car which he had just sold, to a designated bank. The draft was paid by the named payor, who then held title to the car. When the petitioner sold the car, he wrote a check to the named payor of the draft and received the title to the car. If the petitioner financed the sale, he held title to the car until the note was paid; otherwise, he passed title to the buyer. The petitioner maintained inventories during 1974 and 1975. Such inventories amounted to zero on January 1, 1974, $16,275 on December 31, 1974, and $14,700 on December 31, 1975. Each year, the petitioner determined 324 his purchases by adding together all of the checks he wrote to the named payors of the drafts and to the individuals from whom he purchased cars. Such purchases amounted to $190,065 for 1974 and $257,925 for 1975. During the years in issue, the petitioner withdrew cash from his business for personal purposes. No records were kept of such withdrawals, but he estimated their amount to be between $700 and $1,000 per month. In 1974, the petitioner had net credit sales 1 of $147,349.40 and net repossession losses 2 of $26,661.41. In 1975, the petitioner had net credit sales of $249,608.40. On his individual Federal income tax returns, the petitioner reported gross receipts from his business of $241,009 for 1974 and $388,328 for 1975. He determined his gross receipts 325 for such years by reference to total bank deposits. In computing gross receipts, he did not consider, and assigned no value to, the promissory notes that he received as a note-toter. In addition, the gross receipts reported by him did not reflect any amounts withdrawn for personal purposes. In his notice of deficiency, the Commissioner determined that the petitioner's method of accounting did not clearly reflect income and that the income from the sale of used cars had to be reported on the accrual method. Accordingly, he recomputed the petitioner's income from sales by using the accrual method, took into consideration the face amount of the notes when received, and made other appropriate adjustments to reflect the change of accounting method. The Commissioner further determined that the petitioner sustained specific bad debt losses on the repossession of automobiles and was entitled to deductions for such losses in the amounts of $20,924.50 for 1974 and $41,993.59 for 1975. At trial, the Commissioner conceded that the petitioner was entitled to additional deductions of $12,069.02 for 1974 and $27,833.00 for 1975. Such concession was based on the fact that the fair market value 326 of each repossessed car was not used subsequently by the Commissioner to increase the petitioner's cost of goods sold. OPINION The first issue for decision is whether the petitioner must use the accrual method of accounting to report his income from the purchase and sale of automobiles in his used car business. He argues that the cash method clearly reflected his income and that he has consistently used such method. Section 446(a) of the Internal Revenue Code of 19543 states the general rule for methods of accounting. Such section provides that "Taxable income shall be computed under the method of accounting on the basis of which the taxpayer regularly computes his income in keeping his books." However, section 446(b) provides that "If no method of accounting has been regularly used by the taxpayer, or if the method used does not clearly reflect income, the computation of taxable income shall be made under such method as, in the opinion of the Secretary, does clearly reflect income." (emphasis added). It is well established that section 446(b) vests the Commissioner with broad authority in matters of inventory accounting and gives him wide latitude to recompute income so as clearly 327 to reflect income. See Thor Power Tool Co. v. Commissioner,439 U.S. 522">439 U.S. 522, 532 (1979); Commissioner v. Hansen,360 U.S. 446">360 U.S. 446, 467 (1959); Superior Coach of Florida v. Commissioner,80 T.C. 895">80 T.C. 895 (1983); H. Dubroff, M. Cahill, and M. Norris, "Tax Accounting: The Relationship of Clear Reflection of Income to Generally Accepted Accounting Principles," 47 Albany L. Rev. 354, 363-366 (Winter 1983). The purchase and sale of automobiles was the principal income-producing factor in the petitioner's business. In all cases where the purchase or sale of merchandise of any kind is a principal income-producing factor, the use of inventories is required. See secs. 1.446-1(a)(4)(i), 1.471-1, Income Tax Regs.; Wilkinson-Beane, Inc. v. Commissioner,420 F. 2d 352, 354 (1st Cir. 1970), affg. a Memorandum Opinion of this Court; Ezo Products v. Commissioner,37 T.C. 385">37 T.C. 385, 392 (1961). The petitioner maintained inventories at the beginning and end of each year for the cars that he purchased and sold in his business and does not dispute his obligation to keep inventories. In cases in which it is necessary 328 to use an inventory, the accrual method of accounting must be used with regard to purchases and sales unless otherwise authorized by the Commissioner. See sec. 1.446-1(c)(2), Income Tax Regs. The use of the accrual method of accounting has been consistently upheld by the courts in similar cases. 4 See Record Wide Distributors, Inc. v. Commissioner,682 F. 2d 204 (8th Cir. 1982), affg. a Memorandum Opinion of this Court; Iverson's Estate v. Commissioner,255 F. 2d 1, 5 (8th Cir. 1958), affg. 27 T.C. 786">27 T.C. 786 (1957); Caldwell v. Commissioner,202 F. 2d 112, 114 (2d Cir. 1953), affg. on this issue a Memorandum Opinion of this Court; Herberger v. Commissioner,195 F. 2d 293 (9th Cir. 1952), affg. a Memorandum Opinion of this Court; Ezo Products v. Commissioner,37 T.C. at 392. 5 One of the purposes of accounting is to properly match income with the expenses of producing such income. See Eastman Kodak Co. v. United States,209 Ct. Cl. 365">209 Ct. Cl. 365, 534 F. 2d 252 (1976); Electric & Neon, Inc. v. Commissioner,56 T.C. 1324">56 T.C. 1324, 1333-1334 (1971), affd. without published opinion 496 F. 2d 876 (5th Cir. 1974). If the petitioner acquired and sold a car in 1974, its cost was reflected in that year, but if the 329 income from the sale was not reported until received, the income may not have been reported until 1975. The same potential for mismatching would result from cars sold in 1975 but not paid for until 1976. Such a result is inconsistent with the objectives of sound accounting. In Caldwell v. Commissioner,supra, the court wrote: The use of inventories in computing income results in stating the expenses of a year's operations in terms of the cost of the goods actually sold during that year. Thus, the profit from these operations will be stated accurately only if the income from all sales made during the year is taken into consideration. 330 This requires use of the accrual method of determining income, since the cash receipts method obviously does not reflect the actual sales made during the year where * * * a substantial part of these sales * * * is made on credit. [202 F. 2d at 114; emphasis added.] The purchase and sale of cars was a principal, if not the sole, income-producing activity of the petitioner, and consequently, his failure to match properly the income and expenses of such activity materially distorted his income. Hence, we conclude that the petitioner's business was of such a nature that a cash receipts and disbursements method of accounting for the purchase and sale of cars did not clearly reflect income and that such income must be determined on an accrual method of accounting. See Record Wide Distributors, Inc. v. Commissioner,supra;Caldwell v. Commissioner,supra.The petitioner argues that the accrual method of accounting does not clearly reflect his income since he received notes from individuals who were poor credit risks. He maintains that such notes had little market value and that a large portion of such notes were never collected. However, under the accrual method, it is the right to 331 receive, and not the actual receipt of, income that determines the inclusion of an amount in gross income. Spring City Foundry Co. v. Commissioner,292 U.S. 182">292 U.S. 182, 184-185 (1934); see also Helvering v. Enright,312 U.S. 636">312 U.S. 636 (1941). When the right to receive an amount becomes fixed, the right accrues. While the courts have recognized an exception under which a taxpayer is not required to accrue income where such income is of doubtful collectibility (see, e.g., Harmont Plaza, Inc. v. Commissioner,549 F. 2d 414 (6th Cir. 1977), affg. 64 T.C. 632">64 T.C. 632, 649 (1975)), and the courts have construed such exception quite narrowly. See Georgia School-Book Depository, Inc. v. Commissioner,1 T.C. 463">1 T.C. 463, 469 (1943); see also Jones Lumber Co. v. Commissioner,404 F. 2d 764 (6th Cir. 1968), affg. a Memorandum Opinion of this Court.The mere possibility of a default on an obligation is insufficient to defer accrual of such note. See Spring City Foundry Co. v. Commissioner,supra;FirstSavings & Loan Association v. Commissioner,40 T.C. 474">40 T.C. 474, 487 (1963). Such reasonable doubt as to the collectibility must be established as of the time the right to the income arises. Spring City Foundry Co. v. Commissioner,supra;332 Jones Lumber Co. v. Commissioner,404 F. 2d at 766. The execution of the notes in this case fixed the petitioner's right to receive the face amount of such notes, and, under the accrual method, he is required to take into income the face amount of such notes. See Spring City Foundry Co. v. Commissioner,supra; see also Jones Lumber Co. v. Commissioner,supra;First Savings & Loan Association v. Commissioner,supra; George L. Castner Co. v. Commissioner,30 T.C. 1061">30 T.C. 1061 (1958). Many of the customers may have been poor risks, but the petitioner has wholly failed to establish that any of the notes were of doubtful collectibility at the time he received them. We conclude that the Commissioner properly accrued into income all of the notes received by the petitioner. Accordingly, we sustain the Commissioner's determination on this issue. In the alternative, the petitioner contends that if he is required to use the accrual method, he is entitled to deduct a reasonable addition to a reserve for bad debts. Section 166(a)(1) allows a deduction for "any debt which becomes worthless within the taxable year." Section 166(c) provides that "in lieu of any deduction under subsection (a), there shall 333 be allowed (in the discretion of the Secretary) a deduction for a reasonable addition to a reserve for bad debts." A reserve for bad debts constitutes an estimate of those losses which can reasonably be expected to result from current business debts. Handelman v. Commissioner,36 T.C. 560">36 T.C. 560, 566 (1961); see also Ehlen v. United States,163 Ct. Cl. 35">163 Ct. Cl. 35, 323 F. 2d 535 (1963). While the reasonableness of an addition to the reserve ordinarily will be judged in light of a taxpayer's experience in collecting its accounts, no hard and fast standard should be adopted. In the final analysis, an estimate as to the reserve required for any given year will be measured in light of the conditions existing at the time the estimate is made. Black Motor Co. v. Commissioner,41 B.T.A. 300">41 B.T.A. 300 (1940), affd. 125 F. 2d 977 (6th Cir. 1942). The petitioner argues that he should be entitled to set up a reserve for bad debts based upon the percentage of the cars he repossessed each year. The Commissioner has taken the position that he allowed the petitioner a deduction for specific bad debts, that the petitioner did not elect to claim a reasonable addition to a reserve for bad debts in lieu of a specific bad 334 debt deduction, and that the petitioner had not adequately established what was a reasonable addition to a reserve for bad debts for each year. The Commissioner points out that in the typical situation, the issue of what constitutes a reasonable addition to a reserve for bad debts arises where the taxpayer claims an addition to a reserve on his income tax return and where the Commissioner challenges such claimed addition. Under such circumstances, the taxpayer bears the burden of showing that his claimed addition was reasonable and that the Commissioner's adjustment constituted an abuse of discretion. See Roanoke Vending Exchange, Inc. v. Commissioner,40 T.C. 735">40 T.C. 735 (1963). However, in Travis v. Commissioner,47 T.C. 502">47 T.C. 502 (1967), affd. on this issue 406 F. 2d 987 (6th Cir. 1969), the Court was faced with a situation similar to the present case. There, the taxpayer had improperly accounted for certain contract income by including in income only the payments actually received on such contracts. We held that the taxpayer had to accrue into income all amounts which were due and payable under the contracts. The taxpayer asserted that if we sustained the Commissioner on the inclusion 335 issue, then it was entitled to a deduction for a reasonable addition to a bad debt reserve. We said: We do not feel, however, that the corporation's failure properly to select the reserve method and to provide the information required by the regulations should now bar it from asserting its right to establish such a reserve in light of the changes in accounting method proposed by the respondent. The regulations cited by the respondent do not provide that the taxpayer must select the reserve method in a particular year or forever forfeit his right to do so. * * Here * * * there was no selection of either method since none was required under the petitioner's assumption as to the proper method of accounting for student enrollment agreements and budget plan contracts. Now that that assumption is proved to have been incorrect petitioner should be able to claim the benefits she would have been able to claim has she proceeded initially on the correct assumption. * * * [47 T.C. at 513-514; emphasis in original.] Thus, where the Commissioner changes the taxpayer from the cash to the accrual method of accounting, a taxpayer may be entitled to adopt the reserve method. Caldwell v. Commissioner,supra;336 Travis v. Commissioner,47 T.C. at 514. Under the cash method, the petitioner was not entitled to any deduction for bad debts, since he did not take any of the notes into income. However, upon changing over to the accrual method of accounting, he may, for the first time, claim either specific bad debt deductions on the notes or elect the reserve method. We agree with the petitioner that he is entitled to deduct reasonable additions to a bad debt reserve; but we do not agree with the formula used by him to determine the amount of such additions. Under the petitioner's method, he subtracted his cash sales from total sales to arrive at credit sales. Thereafter, he multiplied the credit sales by a fraction consisting of the number of repossessions over the number of credit sales. Under his method, the petitioner failed to account for any amounts that he received on the notes prior to the repossession of the automobile. In addition, he ignored the value of the cars repossessed. The record is scanty, but from the available information, we have found the amounts of the petitioner's net credit sales for 1974 and 1975 and the amount of his net repossession losses for 1974. In computing 337 a reasonable addition to a bad debt reserve, the courts have repeatedly sustained a computation based upon a percentage of a taxpayer's annual sales. See, e.g., Shield Co. v. Commissioner,2 T.C. 763">2 T.C. 763 (1943); Medical Diagnostic Association v. Commissioner,42 B.T.A. 610">42 B.T.A. 610 (1940); Proctor Shop, Inc. v. Commissioner,30 B.T.A. 721">30 B.T.A. 721 (1934), affd. 82 F. 2d 792 (9th Cir. 1936); Home Ice Cream & Ice Co. v. Commissioner,19 B.T.A. 762">19 B.T.A. 762 (1930); Transatlantic Clock & Watch Co. v. Commissioner,3 B.T.A. 1064">3 B.T.A. 1064 (1926). 6 For 1974, the petitioner's net repossession losses represented 18 percent of his net credit sales, and such percentage appears to constitute a reasonable basis for computing an addition to a reserve for bad debts. Consequently, we hold that he is entitled to a deduction for an addition to a reserve for bad debts computed by applying such percentage to his net credit sales for 1974 and 1975. The petitioner is also entitled to additional deductions in accordance with the Commissioner's concession with respect to the basis in the repossessed automobiles. Decision will *338 be entered under Rule 155.Footnotes1. The amount of a net credit sale was calculated by taking the gross sales price and subtracting therefrom the cash downpayment and trade-in. Thus, it represented the portion of a credit sale which was "at risk." ↩2. A net repossession loss was calculated by taking the sales price and subtracting therefrom the downpayment and other payments received on the note and the value of the repossessed car at the time of repossession.↩3. All statutory references are to the Internal Revenue Code of 1954 as in effect during the years in issue.↩4. On the other hand, where inventories are so small as to be of no consequence or consist primarily of labor, the courts have recognized that the presence of inventories may not require a change in a taxpayer's method of accounting. See Wilkinson-Beane, Inc. v. Commissioner,420 F. 2d 352, 355 n. 9 (1st Cir. 1970), affg. a Memorandum Opinion of this Court; Ezo Products v. Commissioner,37 T.C. 385">37 T.C. 385, 392 (1961); Drazen v. Commissioner,34 T.C. 1070">34 T.C. 1070, 1079↩ (1960). However, we do not have such a case before us. 5. See also Moore v. Commissioner,T.C. Memo. 1983-39↩.6. See also Carp v. Commissioner,T.C. Memo 1961-340">T.C. Memo. 1961-340; Funkhouser Industries, Inc. v. Commissioner,T.C. Memo. 1957-197↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623853/	Appeal of D. E. BROWN.Brown v. CommissionerDocket No. 537.United States Board of Tax Appeals1 B.T.A. 446; 1925 BTA LEXIS 2920; January 30, 1925, decided Submitted January 7, 1925. 2920 Where a credit is claimed by reason of payment of an income tax in a foreign country, the amount thereof should be computed at the current rate of exchange. D. E. Brown, the taxpayer, in his own behalf. A. H. Fast, Esq. (Nelson T. Hartson, Solicitor of Internal Revenue) for the Commissioner. IVINS447 Before IVINS, KORNER, and MARQUETTE. From the allegations of the petition and the admissions of the Commissioner the Board makes the following FINDINGS OF FACT. The taxpayer paid an income tax to the Canadian Government in 1920 in the sum of $764.40, Canadian money, and he claimed a credit of $764.40 in the computation of his United States income tax for that year. The Commissioner reduced the credit to $670.13, being the value in United States money of $764.40 Canadian money at the time the Canadian tax was paid, this figure being based upon an exchange rate of $0.87667, and determined a deficiency in accordance with the disallowance of credit. DECISION. The determination of the Commissioner is approved. OPINION. IVINS: The taxpayer has been misled by the fact that the units of Canadian and American currency are both designated*2921 as dollars, and that in normal times they both represent the same amount of gold, with a result that exchange is ordinarily at par. But during the war and for some time thereafter, Canadian currency was at a discount, and when the taxpayer paid to the Canadian Government $764.40 in Canadian money, he only reduced his assets to the extent of $670.13 in American money. If the payment to the Canadian Government had been in pounds sterling, in francs, or in yen, it would be perfectly obvious that the credit permissible against American taxes would be the value in United States dollars of the number of pounds, francs, or yen paid at the time of payment, and the same is equally true with respect to any other foreign currency, even though it happened to be designated "dollar" and have a par value identical with that of the United States dollar.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623844/	Kathleen I. Gibbs v. Commissioner. George W. Gibbs v. Commissioner.Gibbs v. CommissionerDocket Nos. 57430, 57431.United States Tax CourtT.C. Memo 1959-38; 1959 Tax Ct. Memo LEXIS 204; 18 T.C.M. (CCH) 178; T.C.M. (RIA) 59038; February 27, 1959Paul R. Scott, Esq., Ingraham Building, Miami, Fla., and Marshall S. Scott, Esq., for the petitioners. Robert O. Rogers, Esq., for the respondent. KERN Memorandum Findings of Fact and Opinion In these two cases (Docket Nos. 57430 and 57431), which are consolidated for hearing and opinion, respondent has determined deficiencies in Federal gift taxes for the year 1951 in the respective amounts of $23,231.25 and $24,131.25. The deficiencies result from respondent's determination that common stock of Gibbs Corporation, the subject matter of the gifts here in question, had a value at the date of gift of $2,500 a share instead of the value of $1,000 a share placed upon them in petitioners' gift tax returns. Findings of Fact Those facts stipulated and the exhibits attached thereto are made a part205 of our findings by this reference. Petitioners George W. and Kathleen I. Gibbs, husband and wife hereinafter sometimes referred to as "George" and "Kathleen," are individuals residing in Jacksonville, Florida. They filed their Federal gift tax returns for the taxable year 1951 with the district director of internal revenue for the State of Florida. On June 5, 1951, George and Kathleen made individual separate gifts to their son George W. Gibbs, Jr., hereinafter sometimes referred to as "George, Jr.," of 75 and 68 shares, respectively, of the common stock of the Gibbs Corporation, hereinafter sometimes referred to as "the corporation." They reported these gifts and paid a gift tax based upon a value of $1,000 per share. The corporation is a closely held one, incorporated in Florida. It has its principal place of business in Jacksonville. It was originally incorporated in 1911 as the Gibbs Gas Engine Company and changed its name in 1945 to the Gibbs Corporation. Originally the corporation made marine motors but later expanded its business to the building and repairing of small vessels. George W. Gibbs and J. D. Weed, hereinafter sometimes referred to as "Weed," originally organized206 the corporation. The stock of the corporation is not listed on any exchange and is not traded over the counter. The outstanding common stock of the corporation consisted, at all times relevant to these proceedings, of 445 shares of $100 par, held by the following shareholders as of the dates indicated: CommonStockHeldKath-GeorgeOth-as of:GeorgeleenJr.Weeders12-26-41228002021512-30-4110083105157012-30-48786814215706-6-51302851570From the beginning of the corporation to 1941 George and Weed (George's brother-in-law) were its principal executives, George being president. George, Jr., had worked for the corporation when he was a boy. In 1941 George, Jr., was made secretary-treasurer of the corporation and a member of its board of directors. He quickly demonstrated his capacity as an executive to George and Weed. At the same time he was offered positions outside of the company paying higher salaries than he was receiving from the company. In order to retain his services to the corporation George and Weed agreed to and did give George, Jr., a substantial stock interest in the corporation, 207 George giving him 48 shares and Weed giving him 45 shares, both gifts being made on December 27, 1941. At or about the same time, George, Jr., purchased 11 shares from one of the minority stockholders listed as "Others" in the above table at $90.91 a share and 1 share from another for $100. On December 29, 1941, George gave Kathleen 83 shares of the corporation's common stock. In 1941 the company authorized and issued 1,490 shares of 6 per cent cumulative $100 par preferred stock, redeemable at $105 per share. From 1941 to June 6, 1951, this preferred stock was held as follows: George200 sharesKathleen466 sharesGeorge, Jr.360 sharesWeed464 sharesOn December 31, 1941, a dividend of $200 per share was paid on the common stock. The stockholders simultaneously purchased preferred stock at par. This was the only dividend paid on the common stock during the period relevant to these proceedings. In 1942 a $9,000 dividend was paid on the preferred stock, being the only dividend paid on the preferred stock during the period relevant to these proceedings. As of May 27, 1951, there were arrearages of the cumulative dividend on the preferred stock amounting to208 $75,245, or $50.50 per share. Officers' salaries, including incentive bonuses, paid by the Gibbs Corporation for 1947 to 1950, inclusive, as shown by the books and records of the corporation, are as set forth in the following schedule: Total ForFamily Hold-Joseph D. WeedYear Sala-George W.George W.ing StockMinorityries PaidGibbsGibbs, Jr.ControlStockholderTotal1947$35,000$25,000$ 60,000$10,000$ 70,000194842,75032,75075,50010,00085,000194920,00015,00035,00010,00045,000195077,50072,500150,00010,000160,000 In 1950 a salary base of $35,000 each to George W. Gibbs and George W. Gibbs, Jr., was restored by the corporation, and said two officers were reimbursed for a total of $35,000 cut from their 1949 salaries, and each received an incentive bonus of $22,500 additional. The 1951 base salary was also $35,000 each for George W. Gibbs and George W. Gibbs, Jr., and $10,/00 for Joseph D. Weed. Provision for an incentive bonus by the corporation was made on January 30, 1948, providing for 9 1/2 per cent of net profit before tax to be distributed as follows: Per centPresident2 1/2Chairman2 1/2Vice President, Marine Division1 1/2Vice President, Equipment Division1 1/2Vice President, Comptroller1 1/2209 An additional 2 1/2 per cent incentive bonus was to be distributed to other key employees selected at the time the annual bonus was declared. 1At some time in 1948 George, Jr., became concerned over the possible effect of the death of his parents and Weed on his position in and control of the corporation. His parents had two children, himself and a sister. Weed had four children and eight grandchildren. George, Jr., did not want to devote his entire life to the corporation if there was a possibility of finding himself in the position of a minority stockholder upon the death of his parents and Weed and the settlement of their estates. George and Kathleen were interested in effecting an approximately equal division of their estates between George, Jr., and his sister, but with their common stock interests in the corporation going to George, Jr. In 1948 George, Jr., proposed that he purchase some additional shares of the stock of the corporation and obtain an option on other shares owned by his parents at a fair value such as would be satisfactory to his parents and sister. At his suggestion an appraisal of the stock210 made by an independent appraiser, Standard Research Consultants, was used for the purpose of determining what its fair market value was as of December 30, 1948. The appraisal made earlier in 1948 by Standard Research Consultants in connection with the possible sale of the corporation's stock to outside interests was tentative in that it was subject to revision upon an examination of the corporation's audit reports for 1948 when they became available in 1949. The tentative appraisal was an "outside figure" of $1,100 a share. The revised appraisal made in 1949 was $800 a share. The fair market value of the common stock of the corporation as of December 30, 1948, was not in excess of $1,100 a share. On December 30, 1948, George sold 19 shares of common stock to George, Jr., at a price of $1,100 per share. In payment George, Jr., gave his father $900 in cash and transferred to him a note in the amount of $20,000. On that date George, Jr., signed the following letter to his father: "I hereby offer to purchase from you 19 shares of Gibbs Corporation common stock at the price of $1,100 per share (being the price fixed by independent appraisers) provided you will grant me an option for211 ten years on your remaining 78 shares at the same price per share and provided that Mother will grant me an option on her 68 shares for the same period and at the same price per share." And on the same day George executed the following option: "I, GEORGE W. GIBBS, of Jacksonville, Duval County, Florida, for myself and my personal representatives, being the record holder and owner of 78 shares of the capital stock of Gibbs Corporation, a Florida corporation, for and in consideration of the sum of Ten Dollars ($10.00) to me paid by George W. Gibbs, Jr., receipt of which is hereby acknowledged, hereby grant to the said George W. Gibbs, Jr., an option for the period of ten years from the date hereof to purchase any number of the shares of the capital stock owned by me in the Gibbs Corporation not exceeding 78 shares, at the price of Eleven Hundred Dollars ($1100.00) a share, exercisable by signifying his intention to purchase the same by notice in writing to me or my personal representatives, and a failure to serve such notice in writing within the period of ten years shall terminate this option without further action, time being the essence of this agreement. "IN TESTIMONY WHEREOF, 212 I have hereunto set my hand and seal this 30th day of December, A.D. 1948." And Kathleen executed this option: "I, KATHLEEN GIBBS, of Jacksonville, Duval County, Florida, for myself and my personal representatives, being the record holder and owner of 68 shares of the capital stock of Gibbs Corporation, a Florida corporation, for and in consideration of the sum of Ten Dollars ($10.00) to me paid by George W. Gibbs, Jr., receipt of which is hereby acknowledged, hereby grant to the said George W. Gibbs, Jr., an option for the period of ten years from the date hereof to purchase any number of the shares of the capital stock owned by me in the Gibbs Corporation not exceeding 68 shares, at the price of Eleven Hundred Dollars ($1100.00) a share, exercisable by signifying his intention to purchase the same by notice in writing to me or my personal representatives, and a failure to serve such notice in writing within the period of ten years shall terminate this option without further action, time being of the essence of this agreement. "IN TESTIMONY WHEREOF, I have hereunto set my hand and seal this 30th day of December, A.D. 1948." These options were not obtained or executed in contemplation213 of any future gifts of the corporation's stock to George, Jr., nor was it intended by anyone that an object of the execution of these options would be to depreciate the value of this stock for Federal gift or estate tax purposes. Also on December 30, 1948, George gave his son 3 shares of Gibbs common stock and Kathleen gave him 15 shares. Both donors filed Federal gift tax returns on March 15, 1948, reporting the gifts of stock at a value of $1,100 per share. Respondent did not and does not question such value as of December 30, 1948. The ownership of the common shares of Gibbs Corporation, immediately prior to the gifts in issue, was as follows: Kath-George,GeorgeleenJr.Weed7868142157In the first part of 1951 counsel for George and Kathleen reviewed their wills and consulted with the person keeping their books and records as to their assets. It was learned that between December 30, 1948, and May 1, 1951, there was an appreciation in the market value of the common stock (other than that of the corporation) owned by Kathleen of about $50,000, and an appreciation in the value of real estate owned by George of approximately $200,000. Counsel214 advised George and Kathleen that increased estate taxes might be anticipated. Being satisfied in 1951 that the value of their other assets intended for ultimate bequest to their daughter was equal to the value of their stock interest in the corporation, George and Kathleen decided in June of 1951 to give to George, Jr., all but 3 shares of their common stock in the corporation for the primary purpose of saving on estate taxes. Again an appraisal of the stock was made by Standard Research Consultants who determined in 1951 that the fair market value of the stock as of June 5, 1951, was not in excess of $1,000 a share. Thereupon the value of $1,000 a share was used in the gift tax returns covering the gifts here in issue. In April of 1954, after negotiations starting in 1953, Weed and the corporation agreed in principle to the sale of Weed's entire equity interest in the Gibbs Corporation to the corporation - both preferred and common stock - for $250,000. On November 11, 1954, a contract was executed between Weed and the corporation whereby he sold his 157 shares of common stock for approximately $1,296 per share and his 464 shares of preferred stock at par or $100 per share. The215 corporation paid $25,000 at closing and gave Weed 4 promissory notes on which it was personally liable in the amount of $5,625 each, or a total of $22,500, payable on November 11, 1955, and 36 promissory notes in the amount of $5,625 each, maturing at the rate of 4 notes a year beginning on November 11, 1956, and ending November 11, 1964. The corporation was not personally liable on these notes, the only security being the stock and life insurance policies on the life of George, Jr., in the amount of $200,000, the premiums on which were to be paid by the corporation. The sale of Weed's stock in 1954 was an arm's length transaction. In 1954 the condition of the corporation with regard to its cash position, working capital, and earned surplus was better than it was in 1951. The corporation's operations were relatively small and unprofitable during the pre-World War II years 1936 to and including 1940. Sales ranged from $119,000 to $303,000 and averaged $195,000 a year. During each of these years the corporation operated at a loss. During this prewar period the total assets of the corporation amounted to an average of $278,065. In 1941 there was an upsurge in the shipbuilding business216 because of the need for ship and repair facilities in connection with the war effort. Sales increased from less than $200,000 in 1940 to more than $3,000,000 in 1941. This boom continued throughout the war until 1945 when there were sales in excess of $14,000,000, but ended in 1946 when the sales from the shipyard division fell to $2,588,894. During the war, in addition to its original facilities the corporation operated an outfitting yard adjacent to its original plant under a lease from the United States Navy. Total sales in this war period ranged from $11,357,011 in 1942 to $14,186,688 in 1945. Commencing in 1944, in anticipation of the end of the war and in an attempt to counter the "feast or famine" character of the ship repair business, the management of the corporation attempted to diversify its business by going into the manufacture of clothing, furniture, and store fixtures, and the sale of electronic equipment - fields in which the management had no prior experience. The corporation abandoned all of these ventures, and also liquidated its division producing small boats called "Sea Skiffs," in 1947 and 1948, losing in excess of $800,000 in their operation, abandonment, and217 liquidation. A summary of losses and expenses incurred as a result of these ventures follows: YearYearTotal AmountBusinessStartedEndedof LossLocarno of Florida Clothing Division(manufactur-ing children's clothing)19441947$366,574Electronic Division (sales agency) (sale ofradar anddepth recording gear)1946194775,277Sea Skiffs Division (manufacturing 18foot194799,260runabouts)Furniture and Store Fixtures Division(manufactur-ing wood furniture and fixtures)19461948307,360TOTAL$848,471In 1946 the corporation acquired a franchise from the Caterpillar Tractor Company to distribute its products in 34 counties in northern Florida. In 1952 the corporation gave up the major portion of this franchise. Although the Caterpillar franchise increased gross sales the inventory requirements were so high that it did not prove to be a successful business venture. After the war, profits of the corporation dropped sharply. In the period 1946 to 1950, net sales of the corporation, inclusive of the operation of the Caterpillar franchise, called the "Equipment Division," but exclusive of the other activities discussed218 above as attempts to diversify, averaged approximately $5,458,000. The net sales of the "Shipyard Division" averaged approximately $2,572,000 and the net sales of the "Equipment Division" averaged approximately $2,886,000. A comparative income account of the corporation for the years ended December 31, 1944 through 1950 and 5 months ended May 27, 1951, reflecting this diversification and postwar operation, reads as follows: 1944194519461947Net Sales: Shipyard Division$13,056,725$14,186,688$2,588,894$1,835,451Equipment Division1,072,7672,582,789Total$13,056,725$14,186,688$3,661,661$4,418,240Cost of Sales: Shipyard Division$ 9,764,359$ 9,212,006$2,107,831$1,674,720Equipment Division828,8802,014,985Total$ 9,764,359$ 9,212,006$2,936,711$3,689,705Depreciation: Shipyard Division$ 133,855$ 171,455$ 89,506$ 59,813Equipment Division7,04818,261Total$ 133,855$ 171,455$ 96,554$ 78,074Gross Profit: Shipyard Division$ 3,158,511$ 4,803,227$ 391,557$ 100,918Equipment Division236,839549,543Total$ 3,158,511$ 4,803,227$ 628,396$ 650,461Administrative, selling and2,492,8532,983,593579,051476,380other expensesNet operating profit$ 665,658$ 1,819,634$ 49,345$ 174,081Other income41,44636,88777,90328,409Total income$ 707,104$ 1,856,521$ 127,248$ 202,490Other Deductions and Losses: Loss on cafeteria$ 11,035$ 14,915$ 11,445Loss on clothing manufacture45,650(12,520)15,612$ 317,832Loss on electronics division75,277Liquidation of sea skiffs99,260divisionLoss on furniture and store53,819126,671fixture divisionPostwar adjustments90,135Total Other Deductions and$ 56,685$ 2,395$ 80,876$ 709,175LossesNet profit before Federal$ 650,419$ 1,854,126$ 46,372$ (506,685)income taxFederal income tax478,7901,398,91414,899Net Profit$ 171,629$ 455,212$ 31,473$ (506,685)219 194819491950To 5-27-51Net Sales: Shipyard Division$2,067,163$2,498,722$3,868,248$2,814,585Equipment Division3,013,1562,729,7605,033,5441,956,349Total$5,080,319$5,228,482$8,901,792$4,770,934Cost of Sales: Shipyard Division$1,437,273$1,777,890$2,636,639$2,131,829Equipment Division2,399,5002,232,4574,071,9391,523,559Total$3,838,773$4,010,347$6,708,578$3,655,388Depreciation: Shipyard Division$ 82,174$ 68,440$ 79,519$ 48,767Equipment Division26,99333,32333,70911,106Total$ 109,167$ 101,763$ 113,228$ 59,873Gross Profit: Shipyard Division$ 547,716$ 652,392$1,152,090$ 633,989Equipment Division586,663463,980927,896421,684Total$1,134,379$1,116,372$2,079,986$1,055,673Administrative, selling and1,019,181952,4291,328,103585,049other expensesNet operating profit$ 115,198$ 163,943$ 751,883$ 470,624Other income54,14739,98388,30624,449Total income$ 169,345$ 203,926$ 840,189$ 495,073Other Deductions and Losses: Loss on cafeteriaLoss on clothing manufactureLoss on electronics divisionLiquidation of sea skiffsdivisionLoss on furniture and store$ 126,870fixture divisionPostwar adjustmentsTotal Other Deductions and$ 126,870LossesNet profit before Federal$ 42,475$ 203,926$ 840,189$ 495,073income taxFederal income tax21,72525,077440,000306,746Net Profit$ 20,750$ 178,849$ 400,189$ 188,327220 A comparative balance sheet for the years ended December 31, 1946 through 1950, reads as follows: ASSETS19461947194819491950Current Assets: Cash$ 67,975$ 64,419$ 102,783$ 222,306$ 311,794Marketable145,30922,688securitiesNotes and752,621742,505566,558660,421982,324accountsreceivableInventories1,163,574763,3101,181,0741,105,3581,210,881Claim for tax365,759refundPrepayments48,78083,17149,70649,204155,123Total Current$2,178,259$2,019,164$1,922,808$2,037,334$2,660,122AssetsPlant, property$ 304,601$ 230,985$ 723,998$ 738,968$1,077,672and equipment,netReal estateinvestmentMortgage182,050receivableCash value of8,6428,9909,2169,4209,942life insuranceOther assets97,11580,76543,88174,04849,945Total Assets$2,770,667$2,339,904$2,699,903$2,859,770$3,797,681LIABILITIESCurrentLiabilities: Notes payable$ 653,500$ 362,249$ 334,205$ 323,305$ 445,553Mortgage payable25,00025,00025,000- current portionAccounts payable557,982743,083573,335685,7201,056,730and accruedexpensesAdvances oncontractsAdvances from83,43441,704stockholdersAccrued Federal14,899412,415410,723468,941income taxesTotal Current$1,226,381$1,105,332$1,428,389$1,486,452$1,996,224LiabilitiesLong-TermLiabilities: Mortgage payable$ 162,500$ 137,500$ 112,500Notes payable -29,86516,32669,276banks and othersNotes payable to$ 50,000$ 143,084230,000230,000230,000stockholdersTotal Long-Term$ 50,000$ 143,084$ 422,365$ 383,826$ 421,776LiabilitiesCapital Stock andSurplus: Preferred stock,$ 150,000$ 149,000$ 149,000$ 149,000$ 149,0006% cum., $100 parCommon stock,45,00044,50044,50044,50044,500$100 parEarned surplus1,299,286897,988655,649795,9921,196,181Total Capital$1,494,286$1,091,488$ 849,149$ 989,492$1,389,681Stock and SurplusTotal Liabilities$2,770,667$2,339,904$2,699,903$2,859,770$3,797,681ContingentLiability onRetain TitleEquipment SalesContractsdiscountedwith recourse$ 103,846$ 453,911$ 874,774$1,492,675Cumulative unpaid$ 36,00044,70053,64062,58071,520preferreddividends221 The earnings per share of the corporation's common stock fluctuated widely in the period from 1936 to May 27, 1951. The following is a list of earnings from 1936 to 1954 adjusted to give effect to accumulated but undeclared dividends on the preferred stock and computed by giving effect to the losses sustained by the corporation in businesses unrelated to the ship repair business: Years EndedEarnings perDec. 31Common Share1936$ (23.06)1937(112.87)1938(9.56)1939(8.54)1940(18.97)1941610.111942192.131943655.281944364.70Parentheses indicate red figures.19451,035.56194649.261947(921.88)1948(564.67)1949295.291950879.211951 (5 months to May 27)412.011951 (Total)679.651952463.601953352.431954 (Total)(350.21)A complete balance sheet of the corporation as of May 27, 1951, reads as follows: ASSETSCurrent Assets:AmountsCash in banks and on hand$ 98,869Due from banks on discounted contracts15,387Receivables: Retain title equipment sales contracts$1,580,211Less - Contracts discounted with1,531,019recourse$ 49,192Notes receivable22,151Accounts receivable1,423,676Amounts due under incompleted MarineRepairContracts87,628Advances to employees39,642$1,622,289Less - Reserve for uncollectible91,874accounts1,530,415Inventories: Caterpillar and related equipment (new)$ 459,996Caterpillar and related equipment95,489(used)Repair parts for equipment508,950Boats held for resale82,797Work-in-process-equipment service jobs25,074Raw materials - Marine Division456,2411,628,547Unexpired insurance49,387Deposits and advances on purchase of307,832shrimp boatsOther prepaid expenses9,793Total Current Assets$3,640,230Capital Assets: Land$ 108,750Depreciable assets$1,800,225Less - Reserve for depreciation812,643987,5821,096,332Other Assets: Notes receivable$ 20,000Unexpired insurance, applicable after 125,671yearCash surrender value of life insurance9,942on officersInvestment in Florida Farm Equipment281,500Co.Miscellaneous1,370338,483Total Assets$5,075,045LIABILITIESCurrent Liabilities: Notes payable to banks$1,286,098Due within one year on purchase money25,000mortgageAccounts payable892,094Accrued payrolls and commissions138,726Withholding and payroll taxes payable69,006Customers' deposits14,478Accrued property taxes and sales taxes31,590Provision for Federal taxes on income634,659Total Current Liabilities$3,091,651Long Term Liabilities: Purchase money mortgage payable toUnitedStates Government$ 131,250Less - Amount shown as current25,000liability$ 106,250Notes payable - banks24,276Notes payable - others45,000Notes payable - stockholders230,000Total Long-Term Liabilities405,526Total Liabilities$3,497,177Net worth: Preferred stock, 6% cumulative, $100$ 149,000parCommon stock, $100 par44,500Earned Surplus: Balance - January 1, 1951$1,196,041Add - Profit from operations for fivemonths ending May 27, 1951188,3271,384,3681,577,868Total Liabilities and Net Worth$5,075,045222 Note: Cumulative unpaid preferred dividends amounted to $75,245, or $50.50 per share, at May 27, 1951. The total profit of the corporation before taxes and adjustments for losses in diversified areas and on liquidation of the "Sea Skiff" business, the profit solely attributable to the "Shipyard Division" operation, and the profit solely attributable to the "Equipment Division" operation for the approximately 5 5/12 years prior to the gift in issue were: YearTotal ProfitShipyardEquipment1946$127,248$ 132,509$ (5,261)1947202,49042,238160,2521948169,345200,153(30,808)1949203,926301,754(97,828)1950840,189752,52787,662To 5/27/51495,073428,42666,647Total$1,857,607$180,664 Over this same period a ratio between net profits and sales showed the equipment division was earning profits of approximately 1 per cent of sales and the shipyard division was earning profits at the rate of approximately 12 per cent of sales. During the years 1946 through 1951 the corporation had inadequate working capital and its cash position was bad. In these two respects the condition of the corporation had improved by 1954 when223 Weed sold his stock to the corporation. The item "Notes payable - stockholders" which appears in the balance sheet of May 27, 1951, in the amount of $230,000 represents a note dated December 28, 1948, payable to George and George, Jr. The face amount was $230,000. Interest rate was 5 per cent per annum payable semiannually since June 30, 1949. The maturity date was December 28, 1951. This note was secured by a mortgage on the corporation's real estate and certain of its equipment, with the real estate being subject to a first mortgage running to the War Assets Administration or its assignee. This note with its mortgage security was immediately assigned by the payees, George and George, Jr., to the Atlantic National Bank of Jacksonville. At the same time, the payees gave the bank a mortgage on certain valuable real estate owned by them individually. By this means, George and George, Jr., secured a loan by the bank to them in the amount of $230,000 which fund they turned over to the corporation in exchange for the corporation note in the same amount running to them. In addition, the corporation note and mortgage, together with the mortgage on their own property, were held by the bank224 as security for a line of credit running to the corporation in the amount of $800,000. Against this line of credit was charged the $230,000 loan to George and George, Jr. In June 1948 the corporation purchased the present site of its ship repair facilities from the War Assets Administration for $250,000, $50,000 in cash and the balance in quarterly installments over an 8-year period, secured by a first mortgage aforementioned. This site consisted of an outfitting yard which the corporation had been operating under a lease from the United States Navy, and which would have been sold to the highest bidder if the corporation had not acted to acquire the site itself. In 1949 the corporation settled an alleged income tax deficiency for the years 1942 through 1945 in an amount in excess of $1,000,000 for $400,000. This amount was to be paid over a period of years, as agreed to by the Government because the corporation lacked cash to pay the amount of the settlement in a lump payment. The corporation sought to arrange a long-term loan of at least a 5-year duration with two banks but its request was declined. The ship repair business in 1949 was very slow, both generally and particularly225 with regard to the corporation. The income tax settlement found the corporation with only $25,000 cash on hand. The corporation therefore was forced to allow payment of debts to trade creditors other than Caterpillar Tractor to fall behind. Caterpillar Tractor executives, however, aware that the corporation was in financial straights demanded that George and George, Jr., execute a personal guarantee agreement in favor of Caterpillar Tractor to assue that debts of the corporation to it would be met. In 1950 the corporation, in order to procure liquid funds to pay past and current tax liabilities, attempted to work out a mortgage or debenture loan in the amount of $500,000 through mortgage brokers in Jacksonville. The proposal was submitted to New York Life Insurance Company, New York, N. Y., Connecticut General Life Insurance Company, Hartford, Connecticut, National Life Insurance Company, Montpelier, Vermont, and The Mutual Benefit Life Insurance Company, Newark, New Jersey. Only one company expressed any interest in the proposal, and that company indicated it would consider a loan in the amount of $300,000. This proposal was unacceptable to the management of the corporation since226 the effect of acceptance would have been to make available only some $120,000 in new funds as there was then outstanding the first mortgage to the War Assets Administration which the insurance company demanded be paid off as a condition of the loan and this mortgage debt amounted to approximately $180,000 at that time. A second similar attempt was made by the corporation in 1950 to procure liquid funds in the form of a loan - this time from the Reconstruction Finance Corporation. This agency indicated its willingness to loan the corporation $400,000 upon the following conditions: (1) The stockholders put into the corporation $150,000 in new funds, (2) the loan be personally guaranteed by all of the stockholders of the corporation, and (3) the first mortgage held by the War Assets Administration on the real property of the corporation in the amount of $175,000 be paid off. For reasons similar to rejection of the insurance company's counteroffer this proposal was unacceptable to the corporation. In 1949 and 1950 a major source of the earnings of the corporation was the conversion of two uncompleted British aircraft carriers for an Italian customer. These ships, the Athling and the227 Fencer, were converted by a procedure, unorthodox in the ship repair business, of removing deckhouses from two Liberty ships and putting them on the carriers. This procedure was attractive to the customer, because it saved $250,000 in initial construction. The volume of work in this conversion operation was approximately $2,000,000 - the largest job in the corporation's yard since the end of World War II. These earnings from this conversion contract were used for the payment of the income tax assessment for the year 1950. In June 1950 the Korean War commenced. It provided a great stimulus to the activity in the shipyard and equipment divisions. Beginning at this time the ship repair and construction industry was in general engaged in defense work again, and the corporation was in particular engaged in the repair and construction work involved in reactivation of merchant shipps from the moth ball fleet and connected with other war projects. In November 1950 the corporation leased an 18,000-ton floating drydock from the United States Navy for a 5-year term, the lease being cancelable upon 24 hours' notice. This drydock was used, after installation, along with a 4,000-ton drydock228 purchased as part of the ship repair site acquired in 1948. Before the 18,000-ton drydock could be placed in operation, however, the corporation expended $400,000 to dredge a hole for the dock and to install mooring guides. This expenditure used up much of the profit of the corporation before taxes of 1950 so that management was faced with the possible inability of paying its tax liability for that year. Despite the weak cash position of the corporation the expenditure was considered worthwhile because acquisition and installation of the larger drydock would enable the corporation for the first time to repair large tankers and other cargo ships. It was not until the latter part of 1951, however, that the corporation was able to achieve a place on the bidding lists of the large oil carriers such as Esso, Socony Vacuum, and Gulf. In December 1950 the loan from George and George, Jr., to the corporation in the amount of $230,000 was renewed on a 3-year basis to improve the capital position of the corporation. George and George, Jr., were able in turn to renew their loan from the Atlantic National Bank of Jacksonville. The ship repair and construction business is accurately to be229 characterized as "feast or famine." It is directly influenced by changes to and from a defense or war economy and the commencement and termination of expenditures, public and private, incident thereto. The repair business, particularly with regard to tanker repair, is seasonal and the corporation, with its larger 18,000-ton drydock installed and in use, was largely dependent on tanker repair business vis-a-vis other cargo ship repair because the geographical location of the corporation made the repair of other dry cargo ships unattractive insofar as the shipowner was concerned. In the repair business generally the backlog of work is only approximately 20 days. There is great competition and uncertainty in bidding for work, with a great premium placed on the personal intangible qualities of management which fosters good will for the repair company. And there exists the risk of not completing work within the narrow time limit allowed by the shipowners and of finding the repair company removed from a bidding list, because tankers are valuable only when sailing and command large demurrages a day which an owner loses when they are idle in repair yards. The value of the common stock230 of the corporation as of June 5, 1951 was $1,100 a share. Opinion KERN, Judge: In these cases we are required to resolve the question as to what is the value of the common stock of a closely held corporation for gift tax purposes. This question is basically one of fact. Estate of Thomas W. Tebb, 27 T.C. 671">27 T.C. 671. "Value" is defined by the applicable regulation as "the price at which such property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell." See Regulations 108, sec. 86.19(a). And "[court] decisions frequently state in addition that the hypothetical buyer and seller are assumed to be able, as well as willing, to trade and to be well informed about the property and concerning the market for such property." See Revenue Ruling 54-77, 1 C.B. 187">1954-1 C.B. 187. Petitioners have attempted to prove a value of $1,000 a share for the stock and have sought to demonstrate the correctness of the method of valuation which they employed. Alternatively, they argue that in no event could the value of the shares231 have exceeded $1,100 because they were subject at the time of gift to outstanding and currently enforceable options to purchase, exercisable at that figure. Respondent has attempted to prove a valuation of $2,500 and argues that his method of valuation is correct. He also argues that the options outstanding were without effect in these cases for purposes of determining the value of the gifts here involved. There is little dispute between the parties with regard to the evidentiary facts. The difference between them lies in the degree of emphasis or deemphasis which they give to the various factors relevant to the question of fair market value. For example, the respondent stresses among other factors the book value of the stock and the considerable earnings of the corporation during the year of the gifts and the years immediately preceding it, while the petitioners stress among other factors the erratic earning history of the corporation over a greater number of years, the failure of the corporation to pay dividends, the critical cash position of the corporation and its lack of working capital, and the sales of its stock in 1948 and 1954. Both parties present arguments based upon232 comparisons made with other corporations. However, these companies are unlike the corporation here involved in so many particulars that we have not been impressed with the comparisons made. Each party has presented expert testimony. The expert witness testifying for petitioners persuasively justified his valuation of $1,000 a share made in 1951, while the expert witness testifying for the respondent explained intelligently and in detail his valuation of $2,500 a share made in 1956. We have carefully considered this expert testimony and the entire record before us in an attempt to give the proper weight to the various factors pertinent to the ultimate questions before us. There is no mathematical table which prescribes the proportionate weight to be given to each such factor. Revenue Ruling 54-77, supra, reads in part: "No formula can be devised that will be generally applicable to the multitude of different valuation issues arising in estate and gift tax cases. Often an appraiser will find wide differences of opinion as to the fair market value of a particular stock. In resolving such233 differences he should maintain a reasonable attitude in recognition of the fact that valuation is not an exact science. A sound valuation will be based upon all the relevant facts, but the elements of common sense, informed judgment and reasonableness must enter into the process of weighing those facts and determining their aggregate significance. * "Because valuations cannot be made on the basis of a prescribed formula, there is no means whereby the various applicable factors in a particular case can be assigned mathematical weights in deriving the fair market value. For this reason no useful purpose is served by taking an average of several factors (for example: book value, capitalized earnings and capitalized dividends) and basing the valuation on the result. Such a process excludes active consideration of other pertinent factors, and the end result is incapable of being supported by a realistic application of the significant facts in the case except by the mere chance." We have tried to assess the relevant facts with that "common sense, informed judgment and reasonableness" which is recommended in the quotation just made. The result of our attempt is a conclusion that234 the stock of the corporation had a fair market value of $1,100 a share on June 5, 1951. In reaching this conclusion we have not considered the price named in the options granted to George, Jr., in 1948. Therefore, it is unnecessary to consider petitioners' alternative argument that the option price was determinative of and limited the value of the stock in 1951. Decisions will be entered under Rule 50. Footnotes1. This paragraph is taken verbatim from the stipulation.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623846/	RICHARD A. WILSON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentWilson v. Comm'rNo. 13703-01United States Tax Court118 T.C. 537; 2002 U.S. Tax Ct. LEXIS 34; 118 T.C. No. 33; June 12, 2002, Filed 34 Respondent's Motion to Dismiss for Lack of Jurisdiction granted. In conjunction with a criminal prosecution for tax evasion, P executed a Plea Agreement in which he agreed to file delinquent Federal income tax returns and report specific amounts of income. After assessing the tax liabilities reported on the delinquent returns, R sent P a notice of deficiency determining only additions to tax for fraudulent failure to file and failure to pay estimated tax under secs. 6651(f) and 6654(a), I.R.C., respectively. P filed a petition for redetermination. R moved to dismiss for lack of jurisdiction, arguing that the deficiency notice was invalid because R had not determined any "deficiency" as defined in sec. 6211(a), I.R.C. Held: This Court lacks jurisdiction over the additions to tax for fraudulent failure to file because such additions are not attributable to a deficiency. Sec. 6665(b)(1), I.R.C. Held, further, This Court lacks jurisdiction over the additions to tax for failure35 to pay estimated tax because P actually filed returns for the years in issue. Sec. 6665(b)(2), I.R.C.Howard B. Young and John A. Ruemenapp (specially recognized), for petitioner.Timothy S. Murphy and Tami Belouin, for respondent. Dawson, Howard A., Jr.;Armen, Robert N., Jr. DAWSON; ARMEN538 OPINIONDAWSON, Judge: This case was assigned to Special Trial Judge Robert N. Armen, Jr., pursuant to the provisions of section 7443A(b)(5) and Rules 180, 181, and 183. 1 The Court agrees with and adopts the opinion of the Special Trial Judge, which is set forth below. OPINION OF THE SPECIAL TRIAL JUDGEARMEN, Special Trial Judge: This matter is before the Court on respondent's Motion to Dismiss for Lack of Jurisdiction. Respondent asserts that jurisdiction36 is lacking because "no deficiency is raised in the notice of deficiency, pursuant to I.R.C. sections 6211 and 6665, nor has respondent made any other determination with respect to petitioner's taxable years 1991, 1992, 1993, and 1994, that would confer jurisdiction on this Court." As explained below, we shall grant respondent's motion to dismiss. BackgroundOn July 2, 1999, petitioner executed a Plea Agreement pursuant to rule 11 of the Federal Rules of Criminal Procedure. In the Plea Agreement, petitioner agreed, inter alia, to file with the Internal Revenue Service delinquent Federal income tax returns for 1991, 1992, 1993, and 1994. In this regard, the Plea Agreement states in pertinent part: The defendant will file with the Internal Revenue Service delinquent individual income tax returns, Forms 1040, for the years 1991, 1992, 1993, and 1994, reporting, as income to him, diverted corporate receipts and dividend income totaling $ 328,915, $ 176,376, $ 222,472, and $ 251,839, respectively.On March 22, 2000, petitioner filed U.S. Individual Income Tax Returns, Forms 1040, 37 for 1991, 1992, 1993, and 1994 in compliance with the Plea Agreement. Petitioner reported tax liabilities of $ 95,778, $ 48,262, $ 72,760, and $ 84,247 for the years 1991, 1992, 1993, and 1994, respectively.On September 13, 2001, respondent issued to petitioner a notice of deficiency. In the notice, respondent determined that although petitioner is not liable for any deficiencies in 539 income taxes, he is liable for additions to tax under section 6651(f) (fraudulent failure to file) and section 6654 (failure to pay estimated tax) for the years and in the amounts as follows: Additions to TaxYear Tax Sec. 6651(f) Sec. 66541991 --- $ 71,834 $ 5,4741992 --- 36,197 2,1051993 --- 54,570 3,0491994 --- 63,185 4,372On December 6, 2001, petitioner timely filed with the Court a petition for redetermination, challenging the above-described notice of deficiency. At the time that the petition was filed, petitioner resided in Holly, Michigan.In response to the petition, respondent filed a Motion to Dismiss for Lack of Jurisdiction on the ground that the38 notice of deficiency is invalid because respondent did not determine any "deficiency" within the meaning of sections 6211 and 6665. Petitioner filed an Objection to respondent's motion to dismiss. Thereafter, pursuant to notice, respondent's motion was called for hearing at the Court's motions session in Washington, D.C.2 DiscussionThe Tax Court is a court of limited jurisdiction, and we may exercise our jurisdiction only to the extent authorized by statute. Naftel v. Commissioner, 85 T.C. 527">85 T.C. 527, 529 (1985). The Court's jurisdiction to redetermine a deficiency depends upon the issuance of a valid notice of deficiency39 and a timely filed petition. Rule 13(a), (c); Monge v. Commissioner, 93 T.C. 22">93 T.C. 22, 27 (1989); Normac, Inc. v. Commissioner, 90 T.C. 142">90 T.C. 142, 147 (1988).The pivotal issue in this case is whether respondent determined a "deficiency" in petitioner's Federal income tax within the meaning of sections 6211 and 6665. The term "deficiency" is defined in section 6211(a) as the amount by which the tax 540 imposed by subtitle A or B, or chapter 41, 42, 43, or 44, of the Internal Revenue Code exceeds the excess of the sum of the amount shown as the tax by a taxpayer on the taxpayer's return plus the amounts previously assessed (or collected without assessment) as a deficiency, over the amount of rebates made.Consistent with section 6211(a), the definition of a deficiency is influenced in part by the definition of the term "tax". In this regard, section 6665(a) states the general rule that additions to tax are treated as "tax" for purposes of assessment and collection. However, section 6665(b) provides an exception to the general rule as follows: SEC. 6665(b) Procedure For Assessing Certain Additions To Tax. -- For purposes of40 subchapter B of chapter 63 (relating to deficiency procedures for income, estate, gift, and certain excise taxes), subsection (a) shall not apply to any addition to tax under section 6651, 6654, 6655; except that it shall apply -- (1) in the case of an addition described in section 6651, to that portion of such addition which is attributable to a deficiency in tax described in section 6211; or (2) to an addition described in section 6654 or 6655, if no return is filed for the taxable year.In sum, section 6665(b) provides in pertinent part: (1) An addition to tax under section 6651 will be treated as a tax for purposes of the deficiency procedures only to the extent that the addition to tax is attributable to a deficiency as defined in section 6211, and (2) an addition to tax under section 6654 will be treated as a tax for purposes of the deficiency procedures only if no return is filed for the year in question.The record in this case shows that, consistent with a criminal plea agreement, petitioner filed delinquent Federal income41 tax returns for 1991, 1992, 1993, and 1994. Respondent accepted those returns as filed and immediately assessed the taxes reported therein. See sec. 6201(a)(1); Meyer v. Commissioner, 97 T.C. 555">97 T.C. 555, 559 (1991). The amounts shown as taxes by petitioner on his returns do not constitute deficiencies within the meaning of section 6211(a).Respondent also determined that petitioner is liable for additions to tax for fraudulently failing to timely file his tax returns and failing to pay estimated taxes for the years in question. Applying the plain language of sections 6211 and 541 6665(b) to the facts presented, we hold that the additions to tax under section 6651(f) determined in the notice of deficiency are not attributable to "deficiencies" within the meaning of section 6211(a), and, therefore, the Court lacks jurisdiction over such additions to tax in this case. The additions to tax that respondent determined under section 6651(f) were computed by reference to the taxes shown by petitioner on his delinquently filed returns; thus, those additions are not attributable to a deficiency as defined in section 6211. See Estate of Forgey v. Commissioner, 115 T.C. 142">115 T.C. 142 (2000);42 Meyer v. Commissioner, 97 T.C. at 559-563; Estate of DiRezza v. Commissioner, 78 T.C. 19">78 T.C. 19, 25-32 (1982); Estate of Scarangella v. Commissioner, 60 T.C. 184">60 T.C. 184 (1973); Newby's Plastering, Inc. v. Commissioner, T.C. Memo 1998-320">T.C. Memo 1998-320. Further, the additions to tax that respondent determined under section 6654 are not subject to the deficiency procedures because petitioner actually filed tax returns, albeit delinquently, for the years in question. See Meyer v. Commissioner, 97 T.C. at 561-563.Finally, we repeat what we said nearly 30 years ago in a case similar to the present one: We recognize the difficult position in which petitioners are placed by not being able to come to the Tax Court to test the validity of the respondent's action in asserting the penalty. Nevertheless, that is the law and we must take it as we find it.Estate of Scarangella v. Commissioner, 60 T.C. at 186-187.To reflect the foregoing,An order will be entered granting respondent's Motion to Dismiss43 for Lack of Jurisdiction. Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code, as amended, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. During the hearing, counsel for respondent argued that although the Court lacks jurisdiction to redetermine the additions to tax in question pursuant to its deficiency jurisdiction under sec. 6213(a), the Court may have the authority to review such additions to tax pursuant to its collection review jurisdiction under secs. 6320 and 6330.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623847/	ADOLPH HIRSCH & CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Adolph Hirsch & Co. v. CommissionerDocket No. 3230.United States Board of Tax Appeals7 B.T.A. 707; 1927 BTA LEXIS 3114; July 23, 1927, Promulgated 3114 Upon the evidence held that the petitioner and the Brazilian Rubber Plantation & Development Co. were affiliated during the calendar year 1920. Meyer Bernstein, Esq., for the petitioner. J. Harry Byrne, Esq., for the respondent. GREEN 707 In this proceeding the petitioner seeks a redetermination of its income and profits tax for the calendar year 1920, for which year the Commissioner determined a deficiency of $12,386.24. The petitioner alleges that the Commissioner erred in refusing to affiliate it with the Brazilian Rubber Plantation & Development Co. FINDINGS OF FACT. Adolph Hirsch & Co., Inc., hereinafter called the Hirsch Company, is a domestic corporation, organized August 18, 1919, and existing under and by virtue of the laws of the State of New York. The Brazilian Rubber Plantation & Development Co., hereinafter called the Brazilian Company, is a domestic corporation organized July 6, 1906, and existing under and by virtue of the laws of the State of New York. The principal place of business of both of these corporations is 63 Park Row, City of New York, State of New York. Since 1888, Adolph Hirsch, a former American Vice-Consul3115 to Brazil, and his brother, I. Henry Hirsch, have been engaged in the business of importing diamonds, rubber, wax, cocoa, hides, skins, etc., and have had numerous branches and correspondents, one of the main South American branches being located at Bahia, Brazil. Until 1919, the date of incorporation of the petitioner company, this business was conducted as a partnership, known as Adolph Hirsch & Co., in which Adolph Hirsch owned a 60 per cent interest and his brother, I. Henry Hirsch, 40 per cent. At the time of incorporation, Adolph Hirsch transferred 10 per cent and I. Henry Hirsch, 5 per cent, of their holdings to their nephew, Arthur A. Glass, and these three continued to be the only stockholders in the corporation of Adolph Hirsch & Co. Capital stock of the Adolph Hirsch & Co. in the amount of $400,000 was issued to Adolph Hirsch for the good will of the partnership. All the assets and liabilities of the partnership were transferred to the corporation, which continued to conduct the business in the same manner as it had been carried on 708 by the partnership. Adolph Hirsh & Co., both as a partnership and a corporation, was represented in Brazil by a Brazilian Company3116 called The Companhia Brazileiro Exportadivia. The Brazilian Company, during 1920, was engaged in working plantations in the State of Pianhy, Brazil, the outlet or port of shipment of the rubber and other products grown by the company being Bahia, Brazil. A plantation was acquired in 1905, consisting of 27 square miles of land suitable for a rubber plantation, to which was added an additional 27 square miles adjacent thereto, acquired from the State of Pianhy, Brazil. Title to the land was taken in the name of Adolph Hirsch and the sale is still registered in his name in the Brazilian Registry. In 1906, the Brazilian Company was formed to operate these plantations. The total authorized capital stock of the Hirsch Company was 20,000 shares, par value $100 each, all of which had been issued and were owned as follows: SharesPer centAdolph Hirsch13,57067.85I. Henry Hirsch5,40027.00Arthur A. Glass1,0305.15Total20,000100.00The stock of the Brazilian Company, during the year 1920, aggregated 4,240 shares and was owned and controlled as follows: SharesPer centAdolph Hirsch1,84043.42I. Henry Hirsch51912.21Bloomberg family and others1,88144.37Total4,240100.003117 The Brazilian Company never had an office of its own, never had a selling organization of any kind, never existed as a buying organization or as a commercial entity in any place whatsoever. All of its affairs were handled by the brothers, Adolph Hirsch and I. Henry Hirsch, first through the partnership of Adolph Hirsch & Co. and later by its successor, the corporation, Adolph Hirsch & Co. No regular set of books was kept recording the affairs of the Brazilian Company, no cash book, no ledger, no sales book. It did have a separate bank account from September 5, 1906, to December 1913, but since then, has had no separate bank account. All activities on the plantation and elsewhere were financed and managed entirely by 709 the Hirsch Company, through Adolph Hirsch and I. Henry Hirsch, which furnished the money for the development of this exploitation. The affairs of the Hirsch Company and the Brazilian Company were conducted through one office and one set of employees. Funds for the conduct of the affairs of the Brazilian Company were advanced by the Hirsch Company, either by cable transfer of money or the opening of a credit against which a draft would be made by the3118 people in Brazil. No funds were supplied by the Brazilian Company for any of the operations or for any purpose whatsoever. All sales of cotton, rubber, and other merchandise produced by the Brazilian Company were made through and in the name of the Hirsch Company. In Europe, the merchandise was sold by the correspondents of the Hirsch Company. Proceeds of such sales were credited on the books of the Hirsch Company against advances made by it. No sales of merchandise were made to or through any organization other than the Hirsch Company and the agents of the Hirsch Company abroad. All of the affairs of the Brazilian Company were conducted by Adolph Hirsch and I. Henry Hirsch as a department of the Hirsch Company business in the same manner as were conducted the various other departments of their business. No regular meetings of the stockholders and directors of the Brazilian Company were held. At the time of the incorporation of the Brazilian Company, Adolph Hirsch and I. Henry Hirsch, in an attempt to befriend some of their very close friends, permitted them to subscribe to a portion of the stock of the Brazilian Company and the ownership of this stock was made a "family3119 affair among friends." No subscriptions of stock were solicited from the general public. These stock owners were divided into three groups, one group of which comprised all intimate friends of Adolph Hirsch, another group consisted of intimate friends of I. Henry Hirsch, and the third group consisted of their attorneys and members of their attorneys' family, who were intimate friends of the Hirsches. The largest block of the minority stock was owned by Harry Bloomberg and his family. Mr. Bloomberg was the personal attorney of the Hirsch brothers and had been intimately associated with them for 35 years. It was he who acted as attorney for the incorporation of the Brazilian Company and he has been a stockholder and director since its incorporation. Bloomberg testified "that we went into it with our eyes open with the hope of realizing something and if we did not, we know you did your utmost to make it productive and it is with no fault of yours if it is a failure." The minority stockholders were all entirely satisfied with the manner in which the Brazilian Company was operated and never, at any time, interfered with the policy of the Hirsch brothers. 710 There was3120 complete harmony between the stockholders and the officers. The stockholders had absolute confidence in the integrity and ability of the officers and actually left the management and operation entirely in their hands. Adolph Hirsch and I. Henry Hirsch had complete control of the management and operation of both corporations. The minority stockholders made their investment in the Brazilian Company, realizing that it was a speculation and permitted Adolph Hirsch and I. Henry Hirsch to manage the company. The business of the Hirsch Company and the Brazilian Company was managed as a single business entity, using the same personnel and the same office. The Commissioner refused to permit the two corporations to file a consolidated return for the calendar year 1920, on the ground that they were not affiliated corporations, within the provisions of section 240(b) of the Revenue Act of 1918, and asserted a deficiency of $12,386.24. OPINION. GREEN: The question here is whether the petitioner should be affiliated with the Brazilian Rubber Plantation & Development Co. Affiliation, if it exists, must be based on ownership or control of substantially all the stock by the same interests. 3121 Section 240(b) of the Revenue Act of 1918 is as follows: For the purpose of this section two or more domestic corporations shall be deemed to be affiliated (1) if one corporation owns directly or controls through closely affiliated interests or by a nominee or nominees substantially all of the stock of the other or thers, or (2) if substantially all the stock of two or more corporations is owned or controlled by the same interests. Adolph Hirsch and I. Henry Hirsch, brothers, owned 94.85 per cent of the stock of the Hirsch Company and they also owned 55.63 per cent of the stock in the Brazilian Company. The Brazilian Company was formed in 1906 to develop a large tract of land which Adolph Hirsch had acquired in Brazil, and the sole activity of the corporation was in this development. After its organization all advances were made directly by the Hirsch Company. No funds were supplied by the Brazilian Company for any of the operations or for any purpose whatsoever. It maintained no separate office and all of its affairs were conducted by Adolph Hirsch and I. Henry Hirsch as a department of the Hirsch Company. The minority interests were in the hands of friends and associates3122 of Adolph and I. Henry Hirsch, who had been induced to go into the venture on account of its speculative nature. The largest group of minority stockholders was composed of bloomberg and his immediate 711 family. Bloomberg had been a close friend and business associate of Adolph Hirsch and I. Henry Hirsch for some thirty-five years. He represented Adolph Hirsch & Co. as attorney while it was a partnership and continued to act in this capacity for the successor corporation. He was also the attorney who organized the Brazilian Company and from the time of its organization served as a director and attorney. He testified that he was entirely satisfied to trust the management of the Brazilian Company to the judgment of Adolph and I. Henry Hirsch. The intercompany transactions show that there was the closest relationship existing between the two organizations, the Brazilian Company being operated as a department of the Hirsch Company. It is a clear of commercial and economic unity. In , it was stated: A careful examination of the stockholdings and the relationships existing between the various holders shows that substantially*3123 all of the stock is owned or controlled by the same individuals. It seems to follow, naturally, if a group of individuals owns or controls substantially all of the stock of both corporations, and if such ownership or control is by all exercised for one purpose, namely, the joint success of the corporations, that these individuals meet the requirements of the words "the same interest." The stockholdings and conduct of the two corporations involved in this proceeding meet the above requirements. We believe that the two corporations were affiliated. Judgment for the petitioner upon the issue raised on 15 days' notice, under Rule 50.Considered by ARUNDELL and STERNHAGEN.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623848/	John O. Maxwell v. Commissioner.Maxwell v. CommissionerDocket Nos. 15124, 15125.United States Tax Court1949 Tax Ct. Memo LEXIS 272; 8 T.C.M. (CCH) 151; T.C.M. (RIA) 49037; February 3, 1949Isaac I. Bender, Esq., for the petitioner. Charles D. Leist, Esq., for the respondent. DISNEYMemorandum Findings of Fact and Opinion DISNEY, Judge: These cases, duly consolidated, involve income taxes for the calendar years 1943 and 1944. Deficiencies were determined in the respective amounts of $2,251.21 and $2,266.96. The parties have stipulated as to some items and the effect of such stipulation will be reflected in decisions under Rule 50. This leaves for our consideration the following questions: (a) Whether the petitioner is taxable upon income from certain property, which he was later required by law to return; (b) whether he may deduct certain medical and funeral bills incurred for an aunt; (c) whether deductible travel and273 business expenses are shown; (d) whether he properly $100deducted as interest paid for 1944; and (e) whether $1,000 net capital loss, in each year, is a proper deduction. We find certain facts to be as stipulated. We incorporate such stipulated facts as are considered necessary to examination of the issues, together with facts found from evidence adduced, in our Findings of Fact The petitioner resides at Robinson, Illinois. His Federal income tax returns (on a cash basis for 1943; basis not shown as to 1944) for the taxable years were filed with the collector for the eighth district of Illinois. The petitioner's aunt, Mrs. Jessie M. Kelsey, then aged 75, was taken ill in early December 1942. She lived alone, and asked the petitioner to look after her. She was ill until her death, on November 25, 1943. On March 19, 1943, she assigned to him certain property, consisting of stocks and bonds, on consideration that he thereafter pay her bills and funeral expenses. He received the securities and transfer certificates were executed and he kept them in his own safety deposit box. Until 1945, when the court made an order on the matter, he regarded these stocks and bonds as his own, 274 maintained that they were, and dealt with them as he did with his other stocks and bonds. Some he cashed and sold. The income therefrom he received and maintained that it was his to do with as he pleased. He made no differentiation between the income from the securities asigned by Mrs. Kelsey and his other property so far as concerned his right to use the income, and used such income for his personal purposes. The income from the assigned property was mingled with his other income, not segregated in any way. Some of the income he used to carry out the terms of the assignment agreement, such as for funeral expenses and medical expenses. Later he returned to her some of the property, common stocks which he had registered in her name; but she asked him to take the income and take care of her. She retained ten rental properties, which were sold later in 1943, but the proceeds were invested in securities registered in her name, and held by her at her death, and passed to her estate, but the income therefrom was received by petitioner. After her death the county court refused to appoint the petitioner as administrator and appointed one Unbehaun. Some time after Mrs. Kelsey's death a suit275 was filed by the administrator against the petitioner and on May 9, 1945, an order was entered therein, stating, after recitation that evidence had been taken and arguments of counsel considered, in material part in effect, as follows: That the transfers from Jessie M. Kelsey to the petitioner recited that they were in consideration for services rendered and to be rendered, including payment of all future bills and funeral expenses; that the petitioner promised to support her and pay her bills, including hospital bills, medical bills, and funeral expenses; and drew checks on her account, including one for $3,000, which amount petitioner received; that there was a confidential relation between the two parties; that the consideration was far in excess of the services rendered or to be rendered; that the transaction was inequitable and unjust and the transfers were procured by undue influence and were null and void, and that the stocks and bonds transferred (which were in the order listed) were a part of Jessie M. Kelsey's estate and should be delivered to the administrator; that the amounts received by petitioner for stocks and bonds which had been called (which were listed), totaling276 $30,216.96, together with certain other amounts (not including the $3,000 check above referred to) amounting to $14,199.26, all totaling $44,416.22, and any sums petitioner might thereafter receive as income from the specified stocks and bonds or payments on principal on any stocks and bonds should be paid to the administrator; and that the stocks and bonds should be transferred to him. Petitioner appealed from the order but later by agreement of parties dismissed his appeal and in August 1945 the order was carried out and he turned the property and the income therefrom during the years 1943 and 1944 over to the administrator according to the court order. As an heir of Mrs. Kelsey he received his share. Funeral expenses for Mrs. Jessie M. Kelsey were paid by the petitioner in the amount of $688.95 in 1943. On January 19, 1944, he paid for medical services in the amount of $812.50, and in 1944 paid $56.75 other medical expense. During 1943 he paid other bills for Mrs. Kelsey in the amount of $1,563.59, for drugs, nursing, hospital, and medical service. During 1943 petitioner received $5,095.67 dividends and interest from stocks and bonds referred to in the court order of May 9, 1945; 277 and in 1944 received $4,000 from the same source. During 1943 the petitioner paid Kamp Auto Company a total of $1,847.71 for gas, oil and repairs, with one item of antifreeze, in monthly bills ranging from $119.37 to $189.20. In 1944 he paid Kamp Auto Company a total of $2,010.83 for oil, gas, tires and repairs, again with one item of anti-freeze, in monthly bills ranging from $113.92 to $259.40. No proof was made of any particular amount for any particular class of purchases. The petitioner was in the taxable years president of Kamp Auto Company, and owner of 65 per cent of its stock. His business was that of automobile dealer. He considered the business of Kamp Auto Company his business. During 1943 and 1944 petitioner personally employed a secretary. She was also treasurer and secretary of Kamp Auto Company and she did bookkeeping and secretarial work, took dictation and wrote letters. She received payment during the latter part of 1944 at the rate of $15 a week, for two years. In 1943 petitioner paid an attorney $500 for legal fees, in connection with the estate and transfer of property; also paid $95 for income tax service, and $97 for investment counsel service. During278 1943 and 1944 petitioner had considerable expense, in his business, for entertainment. Checks for that purpose were paid by the petitioner. The entertainment was in behalf of the Kamp Auto Company. The checks for entertainment totaled $991.82 for 1943 and $1,898.50 for 1944. In 1942 the petitioner in his Federal income tax return reported a long-term capital loss of $3,175, being 50 per cent of $6,350, the difference between $22,050, sale price in 1942 of "Kamp Motor Co." purchased in 1923 for $15,700. One Thousand Dollars ($1,000) thereof was deducted. The petition in Docket No. 15125 for 1943, but involving 1942 because of the tax forgiveness feature, shows that for 1942 the claim of capital loss was disallowed; and the petition for 1943 set up no error in that regard, but alleges that deduction of $1,000 capital loss carry-over from 1942 was for 1942 improperly disallowed. In 1942 petitioner sold for $15,700 157 shares of Kamp Motor stock, some of which cost $100 a share, some costing a different amount. In 1944 petitioner sold for $2,960 "securities," not otherwise designated, costing $4,982 in 1942, with loss of $2,022 and on his return listed 50 per cent thereof, $1,011, 279 as long-term capital loss. In addition $599.25 short-term capital loss, not explained, was listed; and $1,000 capital loss was deducted. The petitioner took a loss on sale of his own securities of $2,022. The petitioner in Docket No. 15125, involving 1943, alleged as error only that the Commissioner erred in disallowing the following deductions: "Traveling and business expense$1850.20Capital loss carry over1000.00Depreciation, repairs and other ex-penses on rental property3030.92Interest100.00Taxes178.50Medical expense2500.00"In Docket No. 15124, for 1944, the only allegation of error was disallowance of the following deductions: "Rental Expense$1,773.46Rental depreciation1,340.00Traveling Expense1,534.10Interest5.11Taxes391.32New Business1,898.58Capitol Loss1,000.00" Neither petition set forth any facts relied upon, merely stating that the facts relied upon are "That the above mentioned expenses are allowable under the Internal Revenue Code." On June 7, 1948, by permission granted, each petition was amended only to allege as error the inclusion by the Commissioner in income of $5,095.67, in 1943, 280 and $4,651.67, in 1944, which amounts were alleged to be income "derived from property, title to which was vested in an estate as set forth in an order of the county court of Wabash County of the state of Illinois entered on the 9th day of May 1945, and such income should have been reported as income by the said estate and not by the petitioner." In determining the deficiency in Docket No. 15125 for 1943 the Commissioner in addition to disallowing, as not substantiated, the deduction as alleged in the petition, added to income long-term capital gain of $264.63. As to 1944, in addition to disallowing, as not substantiated, the items of deductions as alleged in the petition, the Commissioner added to income $307.09 for income from interest and dividends not reported. Petitioner's check stub books from February 3, 1942, to December 1, 1945, indicate many items of funeral expense, medical expense, entertainment expense, and expense of legal service, income tax service, and investment service. No check stub appears for $100 for interest paid or for interest in any amount in 1943. Several stubs indicating checks to Crawford County State Bank appear with showing of the expense for which281 the checks were written. In 1944 a check stub to that bank of $1,003.75 on February 18, 1944, indicates "note and interest." A check stub dated June 5, 1944, to that bank indicates interest, and a check stub on August 29, 1945, to that bank indicates $38.33 interest. Opinion We will consider the questions presented in the order above stated. (a) As to both 1943 and 1944, is the petitioner taxable upon income ($5,095.67 in 1943; $4,000 in 1944) from property transferred to him by his aunt in consideration of his agreement to pay her bills and funeral expenses, in the light of the fact that in 1945, after her death, he was compelled by a court to return such property, and income, to the administrator of the estate? The issue was raised by amendment to the petitions. The answer is in the affirmative, under the facts and so much and such clear authority that it would be superfluous to accumulate citations. North American Oil Consolidated v. Burnet, 286 U.S. 417">286 U.S. 417; National City Bank of N. Y. v. Helvering, 98 Fed. (2d) 93. The petitioner was very positive in his evidence that he treated and claimed the moneys as his own - a strong showing of receipt under282 claim of right. All of the reasons advanced by the petitioner on brief against income taxation on an annual basis and the taking of loss when sustained have been expressly disposed of in the many cases. We sustain the Commissioner on this issue. (b) May the petitioner deduct medical bills and funeral expenses incurred for his aunt, Mrs. Jessie M. Kelsey, under the agreement to pay such bills in consideration of the transfer of property to him? The funeral expenses are not included in errors assigned as to either 1943 or 1944; therefore, as such, funeral expenses are not before us for consideration. Funeral expenses of $688.95 and medical bills of $1,563.59 were paid in 1943, and medical bills of $812.50 and $56.75 in 1944. The petitioner urges also that if not deductible as funeral expense, the amounts are deductible as business expenses incurred in acquisition of property transferred by his aunt, the income from which is included in his taxable income. The point is not well taken, first, because it is nowhere found in the pleadings, and, second, because it is plain that such expenses, being consideration for acquisition of the property received, are capital expenditures in the acquisition283 of such property, and not ordinary and necessary business expenses. As to the medical expenses: These involve only 1943, no error being assigned in that respect for 1944 or claim made in the return for that year. For 1943 error is assigned for denial of medical expense of $2,500. Evidence, as to 1943, was adduced showing payment of $1,563.59 for medical, hospital and drug bills, for Jessie M. Kelsey. In our opinion, deduction thereof by the petitioner was properly denied, first, because under the evidence, including the specific terms of the agreement between petitioner and his aunt, such expenses were, like the funeral expenses above considered, capital expenditures to secure the property transferred to the petitioner, and not deductible medical expenses; and, second, within the language of section 23(x) of the Internal Revenue Code, such medical expenses must be those not compensated for by insurance or otherwise, and for these petitioner appears compensated. Though he was by the court order in 1945 required to turn over to the estate of his aunt certain stocks and bonds, listed, and income from other listed securities, nowhere is he required by the order284 to return the $3,000 which the court order recites that he received by check dated March 31, 1943, from his aunt. On the contrary, the order carefully lists item by item, first the stocks and bonds, which he shall turn over, then lists, by items, the bonds which have been called and requires the proceeds thereof, in the total amount of $30,216.96, to be turned over to the administrator; then lists $14,199.26 additional, from named sources not including the $3,000 check, therefore orders petitioner to pay $44,416.22 to the administrator, plus any sums which he may receive from stocks and bonds or payments of principal thereon after the date of the order. Thus, it is affirmatively shown that petitioner was not by the court order required to pay back the $3,000. Though he testified that he was not allowed to keep anything that he received, he is not only contradicated by the order (and we can not believe that he voluntarily paid more than it required), but he also testified that he returned all cash and securities in his possession "as the court ordered" and did not retain any securities or income therefrom "as stated in the court order." Under these circumstances, it can not be found285 that, within the intent of section 23(x) of the Code, petitioner was not compensated for the medical expenses he incurred for his aunt. Moreover, in our view, the aunt was not shown to be petitioner's dependent within the meaning of section 23(x) and section 25(b)(3), for it is not shown that one-half of her support was received from him. She retained ten rental properties, and the proceeds thereof, when the properties were sold during 1943, were invested in stocks and bonds, belonged to her, and were registered in her name until her death and passed to her estate. Though the income "went to" petitioner, they belonged to her, and he appears only as her agent in receiving the income. Such a situation by no means demonstrates that she received more than half of her support from the petitioner. We conclude that no error is shown in denial of the deduction for medical expense. (c) Is the petitioner entitled to deduct the $1,850.20, for 1943, as alleged in the petition as deductible travel and business expenses, and, for 1944, $1,898.58 itemized as "new business" and $1,534.10 as travel expense? To support these assignments of error the petitioner offered some records as to "entertainment" 286 in the amount of $991.82 for 1943 and $1,898.58 for 1944. Since the $1,898.58 is a very exact figure and is precisely the same as the deduction for "new business" alleged in the petition for 1944 it is apparent that that is the only business expense included in the issues set by the petition for that year (except the travel item of $1,534.10 hereafter referred to). The item, assuming proper proof of the amount, must be disallowed for the reason that the petitioner testified that it was entertainment on behalf of Kamp Auto Company, a corporation of which he was president and owner of 65 per cent of the stock; and that he considered the corporation's business his business. We can not, under such a record, allow the deduction to him individually. It affirmatively appears that it is not attributable to him as the individual here involved. This eliminates the entire business expense for 1944 and $991.82 of the $1,850.20 "traveling and business expense" for 1943. This leaves $858.38 for 1943 alleged travel and business deductions. The respondent agrees on brief, as to 1943, that $95 for income tax services, and $97 for investment advice, a total of $192, is deductible. This leaves the petitioner287 to prove, as to 1943, $666.38 under the heading of business expense, as set forth in the petition. The petitioner proved $500 paid to an attorney for legal services in 1943 "in connection with the estate and transfer of property." This can not be allowed, for, the above being all of the evidence before us, it is not shown not to be a capital expenditure, to be considered with the matter of capital acquisition from Jessie M. Kelsey; and, in fact, on such bit of evidence, it affirmatively appears to be such capital expenditure. Perhaps other evidence might have shown the expense to be general and deductible under section 23(a)(1) or (c)(2) but it is not before us. The petitioner also paid Kamp Auto Company $1,847.71 in 1943 and $2,010.83 in 1944 for gas, oil and repairs, including also some items of tires and two indications of antifreeze. These amounts must, under the state of the record, be disallowed as deductions, because no attempt was made to show them to be for business purposes. No proof was made what automobiles were used, or for what purpose. Moreover, the petitioner testified that he was president of Kamp Auto Company but considered it in business for himself. Kamp Auto Company288 was the payee of the amounts just here considered. No other explanation of his business is given except that he is an "automobile dealer." Obviously such facts do not permit deduction of the amounts last above stated. The petitioner also adduced some testimony as to paying a secretary $15 a week for the period of 1943 and 1944, payment being made late in 1944. Since at least in 1943 the petitioner was on a cash basis, such payment if properly shown does not help prove the business expense for 1943; and as this completes the proof as to "business" expense for that year, we hold that no ordinary and necessary expense of business has been shown, except the $192 conceded as above seen. Considering the $15 a week to the secretary, amounting for two years to $1,560, we note that the payee was secretary both to Kamp Auto Company and the petitioner, being treasurer of the corporation. In answer to the first question as to her occupation she replied that she was secretary to the corporation. Later she said she was treasurer. As such she was used as a witness to testify as to the payments of the $1,847.71 and $2,010.83, above considered, to Kamp Auto Company. Nothing of record indicates or permits289 any division of her duties, or compensation, between the corporation and petitioner, and taking into consideration petitioner's testimony that he was president of the corporation but "I considered it in business for myself," we see no opportunity to divide the deduction under the principle of Cohan v. Commissioner, 39 Fed. (2d) 540. So far as this record shows, the petitioner's only business was that of the Kamp Auto Company and he would have us disregard corporate entity. He was owner of only 65 per cent of the stock. We discern no reason to disregard the corporate entity. The "business" deductions are disallowed except as above stated. As to travel expense, incorporated in the $1,850.20 item of travel and business expense in the petition for 1943, and $1,534.10 separately alleged in the petition for 1944: No separate proof was made of expense of travel. On brief the petitioner identifies it as to 1943 as the $1,847.71 expense of oil, gas and repairs, above considered. As to 1944, on brief he argues that the travel expense of $1,534.10 is supported by the evidence of $1,898.58 for entertainment, $2,010 automobile expense, and $1,560 for private secretary. Such items290 on their face prove nothing as to travel. They have, moreover, been above considered. The respondent is sustained as to travel expense. (d) In the petition for 1943 error is alleged in disallowing $100 as interest paid. The only evidence on the item is petitioner's testimony that he borrowed money in 1943 at the Crawford County State Bank and paid interest. He could not remember the amount until shown the petition, showing $100, but then said he paid that amount. There was placed in evidence petitioner's check stub books from February 3, 1942, to December 1, 1945, in order to prove the items of funeral expense, medical expense, entertainment expense, legal service, income tax service, and investment service, above referred to, and check stubs for these items therein appear, with many other checks. These include several to Crawford County State Bank, with showing of the expense for which the checks were written. But none appears for $100 for interest, or for interest in any amount. We note $1,003.75 paid Crawford County State Bank for "note and interest" on February 18, 1944. Likewise a check stub dated June 5, 1944, to that bank indicates interest, and again on August 29, 1945, a291 check to that bank indicates payment of $38.33 interest. In the absence of any documentary proof under all these circumstances we think the petitioner is not correct in saying $100 interest was paid in 1943. It is too noticeable that the stubs indicating many other payments, to the bank in question and indicating care to show payment of interest to that bank, do now show this payment, for it to be considered proven. The deduction is denied. (e) There remains for consideration petitioner's assignment of error that the Commissioner erred in not allowing deduction of capital net loss carry-over of $1,000 in 1943 and capital loss of $1,000 in 1944. The evidence on the matter is in an unsatisfactory state and the petitioner does not touch the matter on brief and appears to have abandoned it. His proposed findings of fact do however include $1,000 capital loss carry-over for 1943 and $1,000 capital loss for 1944. We will consider the question, though without benefit of brief from petitioner on the point, and will consider 1943 and 1944 separately. As to 1943, the alleged capital loss is carried from 1942. Petitioner's return for 1943 claims the $1,000 net loss from a $1,599.25 net loss292 carry-over, with no explanation whatever therefor. In his income tax return for 1942 the petitioner claimed a long-term capital loss of $3,175 as one-half of $6,350 loss upon Kamp Motor Company stock purchased for $22,050 in 1923 and sold for $15,700, in 1942. Gains 3of $575.75 on other securities reduced the $3,175 to $2,599.25, but the $575 was not included in income by petitioner. One Thu1sand Dollars was deducted for 1942, but was disallowed by the Commissioner and the $575 was added to income, all as shown by the petition in Docket No. 15125, as to the taxable year 1943 (but involving 1942 because of the tax forgiveness feature), and the petition does not controvert such disallowance of net capital loss for 1942, but assigns error by the Commissioner only in disallowing the $1,000 net loss claimed for 1943, as shown by the return for that year. The petitioner testified that in 1942 157 shares of Kamp Motor stock were sold and that some cost him $100 a share, and as to some the cost price was different, that he could not give the exact figures, and he did not recall the amount received. Though suggestion was made that the witness refresh his recollection, he did not do so. He stated293 that the returns stated the true facts as to the sale. Though, under all of the circumstances here, we accept the 1942 return as showing the claim for that year and the prices claimed as paid and received, in the absence of any issue taken with the disallowance of the capital loss for that year, and in the condition of the record and uncertainty of testimony, we can not allow carry-over of a part thereof from that year to 1943, which only, as above seen, is placed in issue here. The disallowance for 1942 was a negation of capital loss, even to the extent of $1,000, for that year, and in the absence of some showing of attack thereon, by assignment of error in this matter, $1,000 capital loss can not be considered properly carried over to 1943, where there is no explanation of the Commissioner's disallowance of the capital loss claim as to 1942, and where the testimony is equivocal as to the facts involved. There may have been sound reason for disallowance of capital loss for 1942 and unless this is explained a carry forward of such capital loss to 1943 is not properly shown. The mere return for 1942, nor reading therefrom, nor the statement that it stated the facts (even if such statement294 were not contradicted by testimony of the petitioner that some of the stock did not cost $100 per share) does not establish the capital loss carry-over claimed. H. B. Moore, 8 B.T.A. 749">8 B.T.A. 749, 754; Louis Halle, 7 T.C. 245">7 T.C. 245; Leonard B. Willits, 36 B.T.A. 294">36 B.T.A. 294. Logically this is particularly true where as here the return in question was not prepared by the witness. The respondent is sustained on this point. With reference to $1,000 capital loss claimed in 1944 the situation is somewhat different. It involves, not a carry-over, but "capital loss" under claim, as set forth in the return, of purchase of "securities" (not further designated in the record) in 1942 for $4,982, and sold in 1944 for $2,960, with loss of $2,022 and 50 per cent or $1,011 claimed as long-term capital loss. The return also indicates, without any explanation whatever, claim of $599.25 short-term capital loss, with net capital loss claimed in the amount of $1,000. The petitioner, on trial, testified that he sold some stock and some bonds were called, on which he sustained a loss, that a part of the stocks and bonds were his own, a part were received from Mrs. Kelsey in the assignment, *295 and that he had about $1,400 of $1,500 loss. From the return, without objection, he identified this as the $1,011 loss, and stated that it was on his securities. Though the condition, as to information contained, of the return, the petition and the proof is not what it should be as to accuracy or clearness, we think that a fair conclusion from the entire record indicates that the $1,000 capital loss in 1944 was proved and should be allowed, as to 1944. No objection as to that year was taken to testimony from the return which was introduced by the respondent, and in a broad way the testimony from the return was corroborative of petitioner's testimony, and by way of refreshing memory; and with some hesitation we take the view that the cases last cited do not here apply. We sustain the petitioner on this point as to 1944. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623855/	JAMES B. SMITH AND JEAN T. SMITH, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSmith v. CommissionerDocket No. 3778-89United States Tax CourtT.C. Memo 1991-612; 1991 Tax Ct. Memo LEXIS 659; 62 T.C.M. (CCH) 1429; T.C.M. (RIA) 91612; December 10, 1991, Filed 659 An appropriate order will be entered.James B. Smith, pro se. Victor A. Ramirez and Randall G. Durfee, for the respondent. GOFFE, Judge. GOFFEMEMORANDUM FINDINGS OF FACT AND OPINION The Commissioner determined deficiencies in petitioners' Federal income tax and additions to tax as follows: JAMES B. SMITHTaxableAdditions to Tax under SectionsYearDeficiency1 6651(a)(1) 6653(a)(1)6653(a)(2)1974$ 1,807$ 452$ 9019751,9864969919762,57864412919772,19454811019782,45961512319792,68467113419803,16379115819813,8349571911982589-0--0-N/A19831,317-0--0-N/A19842,001-0--0-N/ATaxableAdditions to Tax under SectionsYear66546653(b)(1)6653(b)(2)1974$ 58-0-N/A197586-0-N/A197696-0-N/A197778-0-N/A197878-0-N/A1979112-0-N/A1980202-0-N/A1981295-0-N/A1982-0-$ 2941983156581984581,000*660 JEAN T. SMITHTaxableAdditions to Tax under SectionsYearDeficiency6651(a)(1)6653(a)(1)6653(a)(2)1974$ 818 $ 204$ 4119759062264519761,4363597219779472374719781,1012755519791,1872975919801,4753697419811,706425851982589-0--0-N/A19831,317-0--0-N/A19842,001-0--0-N/ATaxableAdditions to Tax under SectionsYear66546653(b)(1)6653(b)(2)1974$ 26-0-N/A197539-0-N/A197654-0-N/A197734-0-N/A197835-0-N/A197950-0-N/A198094-0-N/A1981131-0-N/A1982-0-$ 2941983156581984581,000JAMES B. SMITH AND JEAN T. SMITHAddition to Tax under SectionsYearDeficiency6653(b)(1)6653(b)(2)1985$ 1,930$ 1,209*661 The issues for decision are: (1) Whether the Commissioner correctly determined petitioners' income tax liabilities for the taxable years 1974-84; (2) whether the Commissioner correctly determined petitioners' joint income tax liability for the taxable year 1985; (3) whether petitioners are liable for the addition to tax under section 6653(a)(1) and (2) for negligent disregard of revenue laws for the taxable years 1974-81; (4) whether petitioners are liable for the addition to tax under section 6653(b)(1) and (2) for fraud for the taxable years 1982-85; (5) whether petitioners are liable for the addition to tax under section 6651(a)(1) for the failure to file returns for the taxable years 1974-81; (6) whether petitioners are liable for the addition to tax under section 6654 for failure to pay estimated tax for the taxable years 1974-81, 1983-84; and, finally, (7) whether petitioners are liable for a penalty under section 6673. FINDINGS OF662 FACT James B. Smith and Jean T. Smith (husband and wife or, collectively, petitioners) were residents of Malad, Idaho, at the time the petition in this case was filed. Petitioners did not file Federal income tax returns for the taxable years 1974-84. Petitioners filed a joint Federal income tax return for 1985. Petitioners also did not maintain adequate records during the years in issue with which to prepare the tax returns that were required to be filed. On February 28, 1990, respondent served on petitioners a request for admissions pursuant to Rule 90. The Court filed what it deemed to be petitioners' response to the request for admissions on March 19, 1990, which this Court found to be insufficient and frivolous, thereby failing to comply with the requirements of Rule 90(c). In an Order dated April 11, 1990, we found petitioners' answers to be groundless within the meaning of section 6673. We ordered petitioners to properly answer respondent's request for admissions in full on or before May 14, 1990. Petitioners failed to make a written response as required by Rule 90(c). As a result, the matters in the request for admissions were automatically deemed admitted. Morrison v. Commissioner, 81 T.C. 644">81 T.C. 644, 647 (1983).663 During the years in issue, petitioners received income from the following sources: YearPayorPayeeFormAmount1980LA-Z-BoyJames SmithW-2$ 458.111981David J. JosephJames SmithW-280.001982Thiokol, Inc.James SmithW-213,558.201983Thiokol, Inc.James SmithW-222,121.061984Thiokol CUJames Smith1099-Int18.001984Thiokol, Inc.James SmithW-227,486.631984Ireland BankJean Smith1099-Int12.001985Thiokol CUJames Smith1099-Int37.001985Thiokol, Inc.James SmithW-228,304.92$ 92,075.92Mr. Smith claimed eight exemptions on the Form W-4, Employee's Withholding Exemption Certificate, for the period beginning April 1982 to January 30, 1984. He also claimed 14 exemptions during the period beginning January 31, 1984 to June 4, 1985. He then claimed an "exempt" status beginning June 5, 1985 to September 21, 1986. Petitioners were entitled to claim no more than two exemptions during the taxable years at issue. Petitioners filed a joint Federal income tax return for the taxable year 1985 which bore the notation, "filed under protest." They reported the wage income of Mr. Smith reflected on the Form W-2 and the interest income reflected664 on the Form 1099-Int. They claimed four exemptions and a residential energy credit. They claimed a refund of income tax in the amount of $ 50. The return was due on or before April 15, 1986. It was stamped "RECEIVED OSC 118, FEB 22 1988, IRS-OGDEN, UTAH" which is nearly two years after the due date. No extension of time was sought by petitioners from, nor granted by, the Commissioner. The Commissioner mailed statutory notices of deficiency to petitioners on November 25, 1988. In the notices covering the taxable years 1974 through 1984, the Commissioner determined deficiencies in tax and additions to tax against each petitioner separately. The notice of deficiency covering the taxable year 1985 was based upon the examination of petitioners' joint return for the taxable year 1985. In that notice the Commissioner disallowed the residential energy credit and allowed only two of the four exemptions claimed. He also determined that the return was fraudulent and determined the addition to tax under section 6653(b)(1) and (2). OPINION Issue One: Determination of Tax for 1974-1984We must first decide whether petitioners received taxable income for the taxable years 1974 through665 1984, inclusive. Petitioners admit that they did not file income tax returns, therefore respondent was forced to reconstruct petitioners' income. Under section 446(a), a taxpayer's income is computed according to the taxpayer's regular method of accounting. If a taxpayer does not have a regular method of accounting, or if the method used does not clearly reflect income, section 446(b) empowers the Commissioner to devise a method that clearly reflects income. Cracchiola v. Commissioner, 643 F.2d 1383">643 F.2d 1383, 1385 (9th Cir. 1981), affg. a Memorandum Opinion of this Court. The Commissioner determined petitioners' income for the taxable years 1974 through 1981, inclusive, using data compiled by the Bureau of Labor Statistics. Giddio v. Commissioner, 54 T.C. 1530">54 T.C. 1530, 1532-1533 (1970). 2 For the taxable years 1982 through 1984, inclusive, respondent reconstructed petitioners' income using Forms W-2, Wage and Tax Statement, and Forms 1099-Int, Interest Income. 666 The Commissioner's method of calculation is presumptively correct. Avery v. Commissioner, 574 F.2d 467">574 F.2d 467, 468 (9th Cir. 1978). Petitioners have the burden of proving the Commissioner's method to be wrong. Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 115, 78 L. Ed. 212">78 L. Ed. 212, 54 S. Ct. 8">54 S. Ct. 8 (1933); Rule 142(a). Petitioners do not contest the accuracy of the reconstruction of their income by respondent. At trial, the Court asked: THE COURT:Now what evidence are petitioners going tooffer to show that those amounts of incomeare not correct?THE WITNESS:I'm not going to offer any evidence in thatrespect, but I intend to enter evidence fromthe Revenue Code as to who is and who isn't ataxpayer. * * We thus conclude that petitioners' taxable income as reconstructed by respondent for the taxable years 1974 through 1984, inclusive, is correct. Petitioners have presented no evidence of any deductions or credits which would be allowable for those years. Issue Two: Determination of Tax for 1985The Commissioner determined a deficiency in tax for the taxable year 1985 based upon disallowance of the residential energy credit and entitlement to two exemptions. Petitioners667 offered no evidence to support allowance of the credit or the exemptions claimed over those disallowed. Accordingly, the determination of the Commissioner is sustained. Rule 142(a). Issue Three: Additions to Tax Under Section 6653(a)The next issue for decision is whether petitioners are liable for the additions to tax under section 6653(a) for the negligent disregard of rules and regulations for the taxable years 1974-81. Section 6653(a) provides for the addition of an amount equal to 5 percent of the underpayment which is due to negligence or intentional disregard of rules or regulations (but without intent to defraud) and 50 percent of the interest payable on the underpayment. Section 6001 requires that every person liable to pay income tax to keep records of income so that the Commissioner will be able to determine tax liability. Petitioners are liable to pay income tax because they received compensation for services and interest income. Sec. 61(a)(1) and (4); Brushaber v. Union Pacific Railroad Co., 240 U.S. 1">240 U.S. 1, 17, 60 L. Ed. 493">60 L. Ed. 493, 36 S. Ct. 236">36 S. Ct. 236 (1916); Rowlee v. Commissioner, 80 T.C. 1111">80 T.C. 1111, 1119-1120 (1983). Petitioners failed to exercise due care in that668 they did not file tax returns which they knew they were required to do. Thompson v. Commissioner, 78 T.C. 558">78 T.C. 558, 563 (1982); Robinson's Dairy, Inc. v. Commissioner, 35 T.C. 601">35 T.C. 601, 608-609 (1961), affd. 302 F.2d 42">302 F.2d 42 (10th Cir. 1962). Petitioners offered no records at trial; therefore, we conclude that they had none. Petitioners failed to maintain records as required by section 6001 and were negligent in not filing returns as required by law. Accordingly, we find for respondent on this issue. Issue Four: Additions to Tax Under Section 6653(b)The next issue is whether petitioners are liable for additions to tax under section 6653(b) for the taxable years 1982-85. Section 6653(b) provides for an addition to the tax if any part of the underpayment is due to fraud and 50 percent of the interest payable on the underpayment attributable to fraud. Respondent has the burden of proving fraud by clear and convincing evidence. Sec. 7454(a); Stone v. Commissioner, 56 T.C. 213">56 T.C. 213, 220 (1971); Rule 142(b). This burden may be met by showing there is an underpayment of tax and that the taxpayer intended to conceal, mislead, 669 or otherwise prevent the collection of taxes. Candela v. United States, 635 F.2d 1272">635 F.2d 1272 (7th Cir. 1980); 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). Petitioners filed no returns for the taxable years 1982 through 1984. Accordingly, they underpaid their tax for those taxable years. An underpayment for purposes of section 6653(b) equals the amount of tax imposed if a return is not filed on or before the last day prescribed for filing. Sec. 6653(c)(1); sec. 301.6653-1(c)(1)(ii), Proced. and Admin. Regs. Petitioners filed a joint return for the taxable year 1985 on which they claimed credit for tax withheld from Mr. Smith's wages. The Commissioner allowed two of the four exemptions claimed and disallowed the residential energy credit which adjustments were not contested by petitioners. These adjustments produced a deficiency in income tax and an underpayment of income tax. Having found that there were underpayments of tax for the taxable years 1982 through 1985, the remaining question is whether such underpayments were due to fraud. The existence of670 fraud is a question of fact to be resolved upon a consideration of the entire record. Mensik v. Commissioner, 328 F.2d 147">328 F.2d 147, 150 (7th Cir. 1964), affg. 37 T.C. 703">37 T.C. 703 (1962); Rowlee v. Commissioner, supra at 1123; Gajewski v. Commissioner, 67 T.C. 181">67 T.C. 181, 199 (1976), affd. without published opinion 578 F.2d 1383">578 F.2d 1383 (8th Cir. 1978). Respondent cannot satisfy his burden of proving fraud by relying solely on the failure of petitioners to discharge their burden of proving error in the determination of the deficiencies. Otsuki v. Commissioner, 53 T.C. 96">53 T.C. 96, 106 (1969). Fraud is never 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. Stephenson v. Commissioner, 79 T.C. 995">79 T.C. 995, 1005-1006 (1982), affd. 748 F.2d 331">748 F.2d 331 (6th Cir. 1984); Gajewski v. Commissioner, supra at 200. The taxpayer's entire course of conduct may establish the requisite fraudulent intent. Spies v. United States, 317 U.S. 492">317 U.S. 492, 87 L. Ed. 418">87 L. Ed. 418, 63 S. Ct. 364">63 S. Ct. 364 (1943);671 Gajewski v. Commissioner, supra at 200; Stone v. Commissioner, supra at 223-224. Courts have relied on a number of indicia of fraud in deciding section 6653(b) issues. See, e.g., Bradford v. Commissioner, 796 F.2d 303">796 F.2d 303 (9th Cir. 1986), and cases cited therein. Although no single factor is necessarily sufficient to establish fraud, the existence of several indicia is persuasive evidence. These "badges of fraud" include: (1) Understatement of income, Grudin v. Commissioner, 536 F.2d 295">536 F.2d 295, 296 (9th Cir. 1976); Ruark v. Commissioner, 449 F.2d 311">449 F.2d 311, 313 (9th Cir. 1971); Estate of Rau v. Commissioner, 301 F.2d 51">301 F.2d 51, 54-55 (9th Cir. 1962); (2) inadequate records, Bradford v. Commissioner, supra at 307; Bahoric v. Commissioner, 363 F.2d 151">363 F.2d 151, 153-154 (9th Cir. 1966); Factor v. Commissioner, 281 F.2d 100">281 F.2d 100, 129 (9th Cir. 1960); (3) failure to file tax returns, Factor v. Commissioner, supra at 129; Powell v. Granquist, 252 F.2d 56">252 F.2d 56, 61 (9th Cir. 1958); (4) failure672 to cooperate with tax authorities, Bradford v. Commissioner, supra at 307-308; Ruark v. Commissioner, supra at 313; Powell v. Granquist, supra at 61; and (5) submission of false W-4 certificates, Hebrank v. Commissioner, 81 T.C. 640">81 T.C. 640 (1983); Rowlee v. Commissioner, 80 T.C. at 1123-1126; Habersham-Bey v. Commissioner, 78 T.C. 304">78 T.C. 304, 313-314 (1982). In a previous case in this Court involving these petitioners, petitioners had filed returns for the taxable years 1969 and 1970. Smith v. Commissioner, T.C. Memo 1985-167">T.C. Memo 1985-167. Petitioners were, therefore, aware of the obligations to prepare and submit tax returns. We have also found that petitioners filed false W-4 certificates claiming excessive exemptions or "exempt" status when they were entitled to only two exemptions. This action further reveals petitioners' intent to evade the payment of income taxes. Petitioners refused to stipulate to undisputed facts and made no attempt to cooperate in any way with authorities from the Internal Revenue Service. Instead, they advanced nothing more673 than the usual "protestor" arguments. Reliance upon frivolous tax protestor arguments which have often been rejected by the courts can be evidence of fraud. Castillo v. Commissioner, 84 T.C. 405">84 T.C. 405, 410 (1985). We conclude, based upon the record before us, respondent has presented clear and convincing evidence of fraud by petitioners in this case. Accordingly, we sustain the determination that petitioners are liable for the additions to tax for fraud under section 6653(b) for the taxable years 1982-85. Issue Five: Additions to Tax Under Section 6651(a)(1)The next issue for decision is whether petitioners are liable for additions to tax under section 6651(a)(1) for the taxable years 1974 through 1981. Section 6651(a)(1) imposes a 5-percent addition to the amount of tax due when a taxpayer fails to file an income tax return as required by the Code. This addition to the tax increases by 5 percent for each month that the return is not filed, but is not to exceed 25 percent in the aggregate. The addition will not be imposed if the failure to file the return "is due to reasonable cause and not due to willful neglect." Sec. 6651(a)(1). Petitioners were well674 aware of their obligation to file income tax returns. They have been the subject of previous cases before this Court advancing traditional well-worn tax protestor arguments. See Smith v. Commissioner, T.C. Memo 1979-51">T.C. Memo 1979-51; Smith v. Commissioner, T.C. Memo 1985-167">T.C. Memo 1985-167. The instant case is no different. Petitioners' reasons for not filing income tax returns were because they claim that: (1) They are not taxpayers under the Internal Revenue Code; (2) receipt of income is not a taxable event; (3) the Commissioner's authority to collect taxes was not properly delegated from the Secretary of the Treasury; (4) the regulations, forms, and letters used by the Internal Revenue Service violate the Paperwork Reduction Act because they do not have proper Office of Management and Budget (OMB) control numbers and expiration dates; and finally, (5) the Commissioner should have been collecting the taxes from them all along, and, petitioners argue, if we find against petitioners, this would effectively render them bankrupt. Petitioners' argument that they are not "taxpayers" is based upon their observation that the money they receive as wages from their labor675 is "personal property." They contend that working for wages is a right secured by the U.S. Constitution. The Constitution, they argue, provides for two methods governing the collection of taxes: the rule of apportionment and the rule of uniformity. Of these two methods, petitioners' contend that neither method permits collection of tax measured by income. Assuming, without deciding, that petitioners' arguments are correct, it would appear that petitioners have failed to read the amendments to the Constitution. Upon ratification of the Sixteenth Amendment, it no longer makes a difference whether income tax falls under the rule of apportionment or uniformity. This amendment permits Congress to lay and collect tax on income from whatever source derived, without apportionment among the several states, and without regard to any census or enumeration. The validity of our income tax law has been upheld since its inception. Brushaber v. Union Pacific Railroad Co., 240 U.S. 1">240 U.S. 1, 60 L. Ed. 493">60 L. Ed. 493, 36 S. Ct. 236">36 S. Ct. 236 (1916). As the Court of Appeals for the Fifth Circuit said in Crain v. Commissioner, 737 F.2d 1417">737 F.2d 1417, 1418 (5th Cir. 1984): We perceive no need to refute these arguments676 with somber reasoning and copious citation of precedent; to do so might suggest that these arguments have some colorable merit. The constitutionality of our income tax system -- including the role played within that system by the Internal Revenue Service * * -- has long been established. * * The issue between apportionment versus uniformity is completely devoid of any arguable merit in law. The Court of Appeals for the Ninth Circuit has noted the "patent absurdity and frivolity of such a proposition." In re Becraft, 885 F.2d 547">885 F.2d 547, 548 (9th Cir. 1989); see also United States v. Collins, 920 F.2d 619">920 F.2d 619, 629 (10th Cir. 1990). Efforts to argue this issue as a means to avoid paying income tax have been held to be frivolous, even when raised by pro se litigants. Lovell v. United States, 755 F.2d 517">755 F.2d 517, 519-520 (7th Cir. 1984). The argument by petitioners that the receipt of income is not a taxable event is equally groundless. Petitioners maintain that income taxes are "excises" (sic) and that "excises are levied upon the happening of an event -- Sales, Manufacturing, Consumption, Privileges, Licenses and Franchises." Petitioners677 argue that the income tax as presently devised is an excise tax, and there must be one of these triggering events which they have set forth for such a tax to be valid. To the contrary, the income tax is a tax upon income. It is not an excise tax. Section 1.61-2(a)(1), Income Tax Regs., clearly includes wages within the definition of income. The authority to lay and collect these taxes is conclusively established by the Sixteenth Amendment. Stratton's Independence, Ltd. v. Howbert, 231 U.S. 399">231 U.S. 399, 415, 58 L. Ed. 285">58 L. Ed. 285, 34 S. Ct. 136">34 S. Ct. 136 (1913); United States v. Buras, 633 F.2d 1356">633 F.2d 1356, 1361 (9th Cir. 1980); United States v. Russell, 585 F.2d 368">585 F.2d 368, 370 (8th Cir. 1978). To argue otherwise is patently frivolous. The argument by petitioners that the tax forms which they were required to file did not comply with the Paperwork Reduction Act is likewise frivolous. This tired issue has been visited repeatedly by this and other courts. It has been conclusively settled. United States v. Collins, supra at 630-631, and cases cited therein. The Forms 1040 that petitioners were required to file all bore OMB numbers as required by the Paperwork678 Reduction Act. Further, the additions to tax in issue here arose solely in relation to petitioners' failure to file Forms 1040 reporting their income, and the presence or absence of numbers on the tax forms is irrelevant. The Court of Appeals for the Tenth Circuit found, in United States v. Collins, supra at 631, that such an argument lacks "any arguable basis in fact or law" and is "legally frivolous." See also Neitzke v. Williams, 490 U.S. 319">490 U.S. 319, 104 L. Ed. 2d 338">104 L. Ed. 2d 338, 109 S. Ct. 1827">109 S. Ct. 1827 (1989) (defining legal frivolousness). 3Finally, petitioners argue in the alternative that if they are "taxpayers" as defined by the Code, that respondent is derelict in his duties for "lack of prosecution." Mr. Smith testified that respondent "waited nearly 12 years or longer before they [respondent] attempted to do anything, and now they're attempting to impose penalties pursuant to their lack679 of prosecution, which would financially bankrupt the petitioners." Mr. Smith further testified that "the Revenue Service is well aware of who I am, where I live and could have prosecuted this case in order that petitioners' would have been spared the financial hardships of the -- case." Petitioners' argument that the Internal Revenue Service is in some way responsible for the magnitude of the additions to tax because it did not monitor petitioners' failure to file their tax returns each year is absurd. The tax system depends upon a scheme of self-assessment, albeit with the "encouragement" of additions to tax if the taxpayer negligently or intentionally disregards the law. Abrams v. Commissioner, 82 T.C. 403">82 T.C. 403, 408 (1984) (citing Hatfield v. Commissioner, 68 T.C. 895">68 T.C. 895, 899 (1977)). The onus for the initial assessment and reporting of the tax due is placed upon the taxpayer. We find this contention by petitioner without merit. Petitioners cite Yoshimura v. Alsup, 167 F.2d 104">167 F.2d 104 (9th Cir. 1948), and they argue that this case stands for the proposition that if a tax "assessment would work a hardship on the plaintiffs [sic] 680 and -- and would destroy them financially, then the * * taxpayers are entitled to an injunction against that assessment, so that they are not bankrupted by the assessment." The short response to petitioners' contention is that Yoshimura has nothing to do with the situation in issue here. Further, their characterization of the principle of law in Yoshimura is simply wrong. In Yoshimura, a taxpayer with limited knowledge of the English language was coerced into signing blank forms confessing tax liability. It was discovered that the taxpayer had innocently made a $ 150 bookkeeping error, but he was threatened with a "jail term or a huge fine" if he didn't sign the forms. Yoshimura v. Alsup, supra at 105. As a consequence of signing the forms, the taxpayer was assessed $ 6,325 as additional Federal income tax due and $ 3,162.51 in additions therefor. Yoshimura v. Alsup, supra.The court, finding these tactics egregious, permitted the taxpayer to continue with his lawsuit seeking to enjoin the Internal Revenue Service from the collection of the tax because the assessment was procured by fraud and coercion. The facts 681 in Yoshimura are completely inapposite to the instant case. Unlike the taxpayer in Yoshimura, petitioners made no attempt to cooperate in any way with revenue authorities. First, they did not file income tax returns at all for a decade. Then, when they filed a return "under protest" in 1985 and were contacted by the Internal Revenue Service, the Smiths carried on with amazing tenacity efforts to thwart orderly resolution of their case. The fault in resolving the deficiencies determined by the Service belongs to the Smiths' entirely, and they cannot look to the Yoshimura decision to shift responsibility for their own misbehavior. As an afterthought, petitioners make general assertions that the additions to tax under the circumstances are unjustified and unwarranted. We disagree. It is the precise action of these taxpayers for which such additions are entirely appropriate. All of petitioners' arguments are patently frivolous. We conclude that their failure to file tax returns was not due to reasonable cause but rather the result of intentional neglect. Therefore, we find for respondent and uphold his determination of the additions to tax provided by section 6651(a)(1)682 for the taxable years 1974-81. Issue Six: Additions to Tax Under Section 6654We must next decide whether respondent properly determined additions to tax under section 6654 for underpayments of estimated tax for the taxable years 1974 through 1981, inclusive, and for 1983 and 1984. Where prepayments of tax, either through withholding or by quarterly estimated tax payments, do not equal the percentage of total liability required under the statute, imposition of this addition is generally mandatory, unless the taxpayer shows that one of several statutory exceptions applies. Sec. 6654; Grosshandler v. Commissioner, 75 T.C. 1">75 T.C. 1, 20-21 (1980); Estate of Ruben v. Commissioner, 33 T.C. 1071">33 T.C. 1071, 1072 (1960). Petitioners failed to introduce any evidence on this issue; accordingly, we sustain respondent's determination as to the section 6654 additions to tax. Reaver v. Commissioner, 42 T.C. 72">42 T.C. 72, 83 (1964); Rule 142(a). Issue Seven: Penalty Under Section 6673We next consider respondent's motion for a penalty under section 6673. Section 6673(a)(1), as amended by section 7731(a) of the Omnibus Budget Reconciliation Act of 683 1989, Pub. L. 101-239, 103 Stat. 2106, 2400 (applicable to positions taken after December 31, 1989, in proceedings pending on or commenced after such date), provides that: Whenever it appears to the Tax Court that -- (A) proceedings before it have been instituted or maintained by the taxpayer primarily for delay, (B) the taxpayer's position in such proceeding is frivolous or groundless, or (C) the taxpayer unreasonably failed to pursue available administrative remedies,the Tax Court, in its decision, may require the taxpayer to pay to the United States a penalty not in excess of $ 25,000.This proceeding involves in part the addition to tax for fraud. In this regard although we are normally reluctant to require a penalty in fraud cases, the record in this case establishes that petitioners have engaged in a crusade lasting more than a decade to simply ignore their obligation to pay income tax. This is not the first time that petitioners have wasted this Court's time. Petitioners have delayed consideration of other cases before this Court by requiring us to consider their worthless theories. It is unfair to other taxpayers with legitimate claims against the684 Commissioner's determinations to permit tax protestors to repeatedly glut this Court's docket with these types of cases. We have issued fair warning that the continued use of frivolous arguments would be met with the full use of the penalty provisions provided to us by Congress. Abrams v. Commissioner, 82 T.C. 403">82 T.C. 403, 408-412 (1984), and cases cited therein. Upon review of this record, we find that petitioners have instituted and maintained this action primarily for delay and that petitioners' position in this proceeding is frivolous and groundless. Accordingly, we hold that a penalty is appropriate in this case. Therefore, we will grant respondent's motion for a penalty, and in our decision we will require petitioners to pay to the United States a penalty of $ 10,000. An appropriate order and decision will be entered.Footnotes1. Unless otherwise indicated, all section numbers refer to the Internal Revenue Code in effect for the taxable years 1974 through 1985, and Rule numbers refer to the Tax Court Rules of Practice and Procedure. 50 percent of the interest due on the portion of the underpayment attributable to negligence. 50 percent of the interest due on the underpayment attributable to fraud.** 50 percent of the interest due on the underpayment attributable to fraud.* 50 percent of the interest due on the portion of the underpayment attributable to negligence. ** 50 percent of the interest due on the underpayment attributable to fraud.↩2. See also Greenway v. Commissioner, T.C. Memo 1987-4">T.C. Memo 1987-4; Denson v. Commissioner, T.C. Memo 1982-360">T.C. Memo 1982-360; Wheeling v. Commissioner, T.C. Memo 1982-246">T.C. Memo 1982-246, affd. without published opinion 709 F.2d 1512">709 F.2d 1512 (6th Cir. 1983); Kindred v. Commissioner, T.C. Memo 1979-457">T.C. Memo 1979-457, affd. 669 F.2d 400">669 F.2d 400↩ (6th Cir. 1982).3. Currier v. Commissioner, T.C. Memo 1991-194">T.C. Memo 1991-194; Allnutt v. Commissioner, T.C. Memo 1991-6">T.C. Memo 1991-6↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623849/	Kenneth Armstrong and Angelina Armstrong, et al. 1 v. Commissioner. Armstrong v. CommissionerDocket Nos. 93805, 93806, 93857.United States Tax CourtT.C. Memo 1963-232; 1963 Tax Ct. Memo LEXIS 114; 22 T.C.M. (CCH) 1179; T.C.M. (RIA) 63232; August 28, 1963Spurgeon Avakian and Jerry Phelan, First Western Bldg., Oakland, Calif., for the petitioners, Claude R. Wilson, Jr., for the respondent. TURNER Memorandum Findings of Fact and Opinion TURNER, Judge: The respondent determined deficiencies in income tax against the petitioners as follows: DocketDefi-No.PetitionerYearciency93805Kenneth Armstrong andAngelina Armstrong1957$2,641.8119583,283.3819593,915.2393806Peter Rubman and LucyRubman19571,570.1119581,672.6419592,169.8593857Kenneth M. Dotson andJean Dotson1958430.421959721.53115 The only issue for decision is whether certain expenses of the petitioners for meals and lodging were incurred while away from home in the pursuit of their trade or business within the meaning of section 162(a)(2) of the Internal Revenue Code of 1954, and are therefore deductible from gross income. Findings of Fact Some of the facts have been stipulated and are found as stipulated. Petitioners Kenneth Armstrong (hereinafter sometimes called Armstrong) and Angelina Armstrong are husband and wife, and filed joint income tax returns for the calendar years 1957 and 1958 with the district director of internal revenue at Newark, New Jersey, and for the calendar year 1959 with the district director at Reno, Nevada. Petitioners Peter Rubman (hereinafter called Rubman) and Lucy Rubman are husband and wife, and filed joint income tax returns for the calendar years 1957 and 1958 with the district director of internal revenue at Newark, New Jersey, and for the calendar year 1959 with the district director at Reno, Nevada. Armstrong and Rubman are Canadian citizens. Petitioners Kenneth M. Dotson (hereinafter called Dotson) and Jean Dotson are husband and wife, 116 and filed joint income tax returns for the calendar years 1958 and 1959 with the district director of internal revenue at Reno, Nevada. The Armstrongs had no children during the taxable years and insofar as appears neither did the Rubmans or the Dotsons. On none of their returns for the years herein was there any claim of exemption for a child. During the years 1957, 1958 and 1959, Kenneth Armstrong, Angelina Armstrong and Rubman were partners in a professional entertainment group known as the "Jo Ann Jordan Trio" (hereinafter called the Trio). The Trio's performances featured comedy, music and dancing. Dotson, during the years 1958 and 1959, was a professional entertainer. He joined the Trio on September 4, 1958, as an employee. The Trio was organized in Montreal, Canada, in 1951, and came to the United States in the same year. It first performed in Nevada in December 1955, at the Mapes Hotel in Reno. During the fourteen-month period from December 1955 through January 1957, it performed in Reno for twelve months. The Armstrongs and Rubman performed with the Trio during 1957, 1958 and 1959 as follows: YearFromToPlace1957Jan. 1Feb. 5Mapes Hotel, Reno, NevadaFeb. 13Mar. 12Riviera Hotel, Las Vegas, MexicoMar. 20Apr. 2Casa Linda, Phoenix, ArizonaApr. 12Apr. 25Taylor's Club, Denver, ColoradoApr. 29May 11B & B Club, Indianapolis, IndianaMay 13May 25Yeaman's, Detroit, MichiganMay 27June 1Commodore, Windsor, Ontario, CanadaJuly 3Sept. 2North Shore Club, Lake Tahoe, NevadaSept. 4Oct. 28Royal Nevada, Las Vegas, NevadaNov. 5Dec. 30Mapes Hotel, Reno, Nevada1958Jan. 1Feb. 2Mapes Hotel, Reno, NevadaFeb. 6Feb. 19Taylor's Club, Denver, ColoradoFeb. 27Mar. 19Flamingo, Las Vegas, NevadaApr. 8May 11Mapes Hotel, Reno, NevadaMay 12June 22Wagon Wheel, Lake Tahoe, NevadaJuly 3Sept. 3North Shore Club, Lake Tahoe, NevadaSept. 4Sept. 18Wagon Wheel, Lake Tahoe, NevadaSept. 22Oct. 22Taylor's Club, Denver, ColoradoOct. 27Dec. 31Commercial Hotel, Elko, Nevada1959Jan. 1Jan. 25Commercial Hotel, Elko, NevadaJan. 29May 20Riverside Hotel, Reno, NevadaMay 26June 7Bahama Inn, Pasadena, CaliforniaJune 15Sept. 8Wagon Wheel, Lake Tahoe, NevadaSept. 17Dec. 30Commercial Hotel, Elko, Nevada117 Dotson performed with the Trio during all of the above engagements from September 4, 1958, through the end of 1959. Beginning at the time when the Trio came to the United States in 1951, the Armstrongs used as a mailing address for business purposes the New York City residence of a sister of Angelina Armstrong. They communicated with the sister regularly, but except for an occasional visit they never stayed at her residence. In 1956 the sister moved from New York City and thereafter the Armstrongs used the address of the sister's son, 76 Harcourt Avenue, Bergenfield, New Jersey. Except for a three-week visit in June 1957, the Armstrongs did not, during the taxable years, stay at the Bergenfield address. On their 1957 and 1958 income tax returns, the Armstrongs listed "76 Harcourt Avenue, Bergenfield, New Jersey," as their home address, and claimed deductions for expenses incurred for meals and lodging while away from that address in pursuit of their business. On their 1959 return, they listed their home address as "1600 So. Arlington Avenue, Reno, Nevada," but claimed deductions for expenses incurred for meals and lodging while away from the New Jersey address in pursuit of their118 business, including amounts so incurred while in Reno. The Armstrongs had moved to the Arlington Avenue address in 1960, prior to the filing of their 1959 return. When the Armstrongs had engagements in Reno during the taxable years, it was their practice to rent and occupy an apartment at the Casson Apartments, 700 Forest Street. The Casson Apartments were furnished apartments. They first stopped at the Casson in 1956. They had no continuing arrangement at the Casson when they were away from Reno, but when they did have engagements in Reno, they tried to rent the same suite. If it was occupied they would take a different one. When they were in Reno for only one or two nights they did not always stay at the Casson. When filling engagements at places other than Reno, they did at times leave one or more items, as for instance a suitcase and a trombone, in the storage room at the Casson. On his 1957 and 1958 income tax returns, Rubman listed "9 Povershon Road, Nutley, New Jersey," as his home address, and claimed deductions for expenses incurred for meals and lodging while away from that address in pursuit of his business. The address was the residence of a sister of Lucy Rubman. The119 Rubmans stayed there only on infrequent visits, the last one during the taxable years being in June 1957, when they stayed about three weeks. On his 1959 return, he listed his home address as "790 Shangri-La Drive, Reno, Nevada," but claimed deductions for expenses incurred for meals and lodging while away from the New Jersey address in pursuit of his business, including amounts so incurred while in Reno. The Rubmans had moved to the Shangri-La Drive address in 1960, prior to the filing of their 1959 return. Beginning in December 1955, and during the taxable years involved, the Rubmans also rented and occupied an apartment at the Casson Apartments while the Trio was performing in Reno. On every occasion except one, they occupied the same suite. On one or more occasions, when they were away from Reno, they stored a bagful of clothing in a storage room at the Casson. They did not rent or maintain any place of abode or residence in Reno when the Trio had engagements elsewhere. When the Trio was performing in cities other than Reno, the Armstrongs and the Rubmans rented housekeeping apartments if they were available. Otherwise, they stayed in hotels. The Armstrongs stayed at the120 following hotels or motels on the following dates, and stated their address upon registering as indicated: Address shown uponDateHotel or MotelRegisteringJan. 28, 1957Bellevue Hotel,Reno, NevadaSan Francisco, CaliforniaFeb. 20-22, 1958The Mapes, Reno, NevadaBergenfield, New JerseyJune 26-28, 1958Saharan Hotel,Bergenfield, New JerseyHollywood, CaliforniaAug. 18-19, 1958The Mapes, Reno, NevadaLake Tahoe, NevadaSept. 20, 1958Hotel Utah & Motor Lodge,Bergenfield, New JerseySalt Lake City, UtahOct. 25, 1958Hotel Utah,76 Harcourt,Salt Lake City, UtahBergenfield, New JerseyMay 22-25, 1959Riviera Hotel,700 Forest St.,Las Vegas, NevadaReno, NevadaJune 8-11, 1959Sands-Sunset Hotel,Reno, NevadaHollywood, CaliforniaJuly 6, 1959Mirador Hotel,Tamarack St.,Reno, NevadaStateline, CaliforniaJuly 20-21, 1959Riverside Hotel,Stateline, CaliforniaReno, NevadaAug. 4-5, 1959Riverside Hotel,Stateline, CaliforniaReno, NevadaAug. 19-20, 1959Riverside Hotel,Stateline, CaliforniaReno, NevadaSept. 2, 1959El Centro Motel,Stateline, CaliforniaReno, NevadaSept. 10-11, 1959El Centro Motel,Stateline, CaliforniaReno, NevadaSept. 13-15, 1959St. Francis Hotel,Reno, NevadaSan Francisco, California121 The Rubmans stayed at the following places of lodging on the following dates, and stated their address upon registering as indicated: Address shown uponDatePlace of LodgingRegisteringFeb. 21-22, 1958Caravan Motel,Nutley, New JerseyReno, NevadaJuly 1-Sept. 3, 1958Cabin rented from North9 Povershon RoadTahoe Rental AgencyNutley, New JerseyIn June 1957, while on a vacation trip to New York or New Jersey, the Armstrongs decided that they wanted to live in Reno, and near the end of the year began looking for a house that might be bought. At an undisclosed later date they decided to build rather than buy a house, and sometime in April 1959, 2 they purchased a lot in Reno. The lot was either purchased jointly with the Rubmans, or an interest was later sold to them. Construction of a duplex house on the lot was begun in 1959, one unit of which was to belong to the Armstrongs and one to the Rubmans. The duplex was completed in January of 1960, and the Armstrongs moved into their unit the same month. 122 At approximately the same time as the Armstrongs, the Rubmans had also decided to acquire a house in Reno. Early in 1959, they made a deposit on a house but did not thereafter complete the purchase. As did the Armstrongs, the Rubmans moved into their unit of the duplex after it was completed early in 1960. The duplex was on a corner lot, with the Armstrongs' portion facing South Arlington Avenue and the Rubmans' portion facing Shangri-La Drive. Armstrong's parents moved to Reno from Montreal, Canada, in August 1958. On a prior visit by them to Reno, Armstrong, who was their only child, told them that he wanted them to move to Reno, because he and his wife would not thereafter be traveling East very often. Armstrong's parents had owned a home in Montreal, which they sold. When they arrived in Reno they moved into a two-bedroom suite at the Casson Apartments. The Trio was performing at Lake Tahoe at the time, and did not perform in Reno again until January 29, 1959. When the Armstrongs performed in Reno from January 29, 1959, to May 20, 1959, they lived in the suite with Armstrong's parents. Armstrong paid the rent for the suite during the entire time his parents lived at the Casson123 Apartments. Before his parents moved to Reno, Armstrong did not rent an apartment at the Casson Apartments or any other place of abode in Reno except when he was playing there. Neither of Armstrong's parents were employed while they were living in Reno in 1958, but both were employed in 1959. In October 1959, or prior thereto, Armstrong's parents moved from the Casson Apartments to a one-bedroom suite in a different apartment. 3 Armstrong paid the rent for that apartment. From the time the parents moved into the one-bedroom apartment until the end of 1959, the Trio did not perform in Reno. On six different occasions in July, August and September 1959, the Armstrongs made visits of one and two days to Reno and on those occasions did not stay at the apartment with Armstrong's parents, but at a hotel or motel. When the Armstrongs moved into the duplex in January 1960, the parents moved in with them. In addition to his residence, Armstrong owns or has an interest in other real property in Reno consisting of two duplex houses and a lot, all of which124 were purchased or constructed in 1959 or 1960. During the taxable years he did not own any real property elsewhere. During the taxable years Armstrong and Rubman maintained memberships in the American Federation of Musicians in Montreal, Canada. Under the union rules, one of the conditions for transferring from one local union to another was that for the first three months the member so transferring could not take any steady engagement. 4 Armstrong performed in various cities as a traveling member, under which status he was required to pay the local union in the particular area a "traveling tax" equal to ten percent of the union scale of that local union. Rubman obtained a traveling membership certificate from Local No. 104 in Salt Lake City, Utah, for a three-month period beginning on November 3, 1958, and for another three-month period beginning on May 26, 1959. 125 Dotson went to Reno in October 1957, to seek employment. Prior to that time he had lived in Ventura, California. He complied with the requirements for membership in the Reno local of the American Federation of Musicians, and was admitted to membership in January 1958. Thereafter, and until about the end of June 1958, he performed with various groups in Reno. He then performed with a group at Oliver's Club in Lake Tahoe, Nevada, before joining the Trio on September 4, 1958. He lived at 2795 East Fourth Street in Reno from October 1957 until June 1958, and again for a two-week period at a later time. Subsequently he stayed at the Casson Apartments while performing in Reno. During 1958 and 1959 Dotson did not own a house in Reno, and did not rent or maintain any residence or place of abode in Reno when he was not performing there. The address shown on the Dotsons' 1958 and 1959 income tax returns was "c/o Casson Apts., 700 Forest St., Reno, Nevada." Dotson obtained an amateur radio operator's license from the Federal Communications Commission, with an effective date of April 17, 1958, which listed his address as "2975 East Fourth Street, Reno, Nevada." During 1958 and 1959 he had126 an automobile, which was registered in Nevada. The Trio filed a partnership return for the calendar year 1957 showing "76 Harcourt Avenue, Bergenfield, New Jersey," as the address of the partnership. The Trio filed a partnership return for the calendar year 1959 showing "1600 So. Arlington Ave., Reno, Nevada," as the address of the partnership, and showing Washoe, the county in which Reno is located, as the county in which the business was located. 5 These partnership returns and all of the petitioners' individual returns for the respective taxable years were prepared by an accountant in Reno. On their 1957, 1958 and 1959 income tax returns, the Armstrongs claimed deductions as expenses incurred for meals and lodging as follows: YearMealsLodging1957$4,312.00$2,146.1219584,312.002,460.6219594,060.002,468.23 The amounts deducted represented expenses claimed to have been incurred by the Armstrongs while away from their New Jersey address in pursuit of their business, and included expenses incurred while they were in Reno. 127 In his determination of deficiencies, the respondent disallowed all of the deductions so claimed, on the ground that, in the absence of an established home, the expenses were not incurred while the Armstrongs were away from home. The expenses incurred by the Armstrongs for meals and lodging while away from Reno in pursuit of their business were as follows: 1957$4,25319585,34419594,346On his 1957, 1958 and 1959 returns, Rubman claimed deductions as expenses incurred for meals and lodging as follows: YearMealsLodging1957$2,205.00$2,110.0019582,156.002,016.2519592,030.002,427.45 The amounts deducted represented expenses claimed to have been incurred by Rubman while away from his New Jersey address in pursuit of his business, and included expenses incurred while he was in Reno. In his determination of deficiencies, the respondent disallowed all of the deductions so claimed. The expenses incurred by Rubman for meals and lodging while away from Reno in pursuit of his business were as follows: 1957$2,84319583,29319592,968On his 1958 and 1959 returns, Dotson deducted expenses for meals and128 lodging as follows: YearMealsLodging1958$1,015$1,01519591,0201,450 The amounts deducted represented expenses incurred by Dotson while away from Reno in pursuit of his business. The amounts deducted for 1958 included expenses incurred by Dotson before he joined the Trio on September 4. In his determination of deficiencies, the respondent disallowed all of the deductions so claimed. During the respective taxable years, the Armstrongs, Rubman and Dotson lived, and had their respective places of residences and abode, wherever they were performing at the particular time, and not elsewhere. Opinion In section 162(a)(2) of the Internal Revenue Code of 1954, it is provided that "traveling expenses (including the entire amount expensed for meals and lodging) while away from home in the pursuit of a trade or business" shall be allowed as a deduction. In section 262 of the Code, it is provided that "except as otherwise expressly provided in this chapter, no deduction shall be allowed for personal, living, or family expenses." The petitioners contend that under section 162(a)(2), the home of each in all of the taxable years was129 Reno, Nevada, and that they are entitled to deduct the amounts paid by them for meals and lodging while away from Reno in pursuit of their trade or business. For all taxable years, the Armstrongs and the Rubmans, in their returns, used Bergenfield, New Jersey, and Nutley, New Jersey, respectively, as their homes, in computing the deductions claimed for expenses incurred for meals and lodging while away from home on business, and this even though on their 1959 returns they listed as their home addresses Reno, Nevada. Claiming Reno as their homes for all taxable years, as they now do, they do not contest the disallowance of that part of the claimed deductions which represented expenses incurred in Reno for meals and lodging. The respondent contends that during the taxable years the petitioners while away from Reno in the pursuit of their trade or business, were not away from home within the meaning of section 162(a)(2). The facts show that the petitioners lived and had their respective places of residence and abode wherever they were performing at a particular time, and not elsewhere. When they were performing away from Reno they had no place of residence or abode in Reno. James v. United States, 308 F. 2d 204,130 is in point. There the taxpayer was a traveling salesman, who, in support of claimed deductions for traveling expenses, claimed Reno, Nevada, as his home. He did have some accounts in Reno and in serving those accounts spent some part of each year there. He had no regular or permanent residence or place of abode in Reno, but while there stopped at a hotel, renting and occupying a room only for the duration of his visit. Finding that the taxpayer had failed to show that he had or maintained a home in Reno, and finding also that his home was wherever he happened to be, the United States District Court for Nevada, at 176 F. Supp. 270, decided that the Commissioner had properly disallowed the claimed deductions. Noting the findings and conclusions of the court below, the United States Court of Appeals for the Ninth Circuit affirmed. To the same effect, is the case of Wilson John Fisher, 23 T.C. 218">23 T.C. 218, affd. 230 F. 2d 79. Fisher was a professional musician and filled limited engagements in various cities in Wisconsin and Minnesota, as did petitioners in Nevada and other states. He and his family lived wherever he happened to be working. They maintained131 no residence or place of abode elsewhere. Fisher used the apartment of his mother-in-law in Milwaukee as a mailing address and paid part of the telephone bill there. But on the two occasions when he was employed in Milwaukee, he and his family did not reside with his mother-in-law. It was held that Fisher while away from Milwaukee in the course of his employment, was not away from home within the meaning of the statute. As supporting his claims for 1958 and 1959, Armstrong stresses the fact that during the latter part of 1958 and for all of 1959 he paid the rent on the apartments occupied by his parents in Reno; that the apartment first so occupied was a two-bedroom apartment and that during an engagement in Reno in 1959, ending May 20, he and his wife occupied one of the bedrooms in the apartment so rented. Armstrong's parents had sold their home in Montreal and moved to Reno at his behest, and he rented and paid the rent on the apartment for them. The Armstrongs did occupy one of the bedrooms during their Reno engagement in 1959, but after their engagement was concluded, it being known that they would not be performing in Reno again for some considerable time, the parents gave132 up the two-bedroom apartment for one with only one bedroom. It is to be noted also that on six different occasions in July, August and September 1959, the Armstrongs made visits of one to two days in Reno, but that on none of those visits did they stay with the parents, even though on the dates of two of the visits and possibly all six the parents were still occupying the two-bedroom apartment at the Casson, if Armstrong's testimony as to the date of the move to the one-bedroom apartment is correct. We are satisfied, from the evidence, that the apartments in question were rented by Armstrong as a home for his parents. They were not rented and maintained as his home, except for the period of his engagement in Reno. Both Armstrong and Rubman stress the fact that in 1959 they acquired a lot in Reno and in the latter part of the year were constructing a duplex in which they expected to live and into which they did move after it was completed in 1960. With respect to the duplex, we regard it as sufficient to note that it was not completed until 1960 and did not constitute the residence or home of any one in 1959. The respondent's disallowance of the deductions claimed by the petitioners*133 as expenses incurred for meals and lodging while away from home in the pursuit of their business is sustained. In the Armstrong and Rubman cases, Rule 50 computations will be necessary, by reason of stipulations covering automobile expenses. In the Dotson case there was no automobile expense issue. Decisions in Docket Nos. 93805 and 93806 will be entered under Rule 50. Decision in Docket No. 93857 will be entered for the respondent. Footnotes1. The proceedings of the following petitioners are considered herewith: Peter Rubman and Lucy Rubman, Docket No. 93806, and Kenneth M. Dotson and Jean Dotson, Docket No. 93857.↩2. On direct examination, Armstrong testified the lot was purchased in April, but on cross-examination, it was his testimony that it must have been toward the end of 1959.↩3. It was Armstrong's testimony that the move into the one-bedroom apartment was "around August or September or October of '59."↩4. The exact nature of this restriction is not clear from the record.armstrong testified that a union member would be "allowed to work club dates" during the period, but no explanation was made of the term "club dates." In other parts of his testimony, the engagements under which the Trio did perform were in one or more instances referred to as club engagements. Dotson, who did transfer his union membership, testified that for the initial threemonths period he was not allowed to work more than three days per week.↩5. No 1958 partnership return was introduced into evidence, although Armstrong testified that the Trio filed one.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623858/	CHRISTINE M. THOMAS, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentThomas v. CommissionerDocket No. 18433-86United States Tax CourtT.C. Memo 1989-648; 1989 Tax Ct. Memo LEXIS 649; 58 T.C.M. (CCH) 872; T.C.M. (RIA) 89648; December 11, 1989Steven R. Guest, for the respondent. SCOTT MEMORANDUM OPINION SCOTT, Judge: This case was assigned to Special Trial Judge Lee M. Galloway pursuant to section 7443A(b)(4) of the Internal Revenue Code650 of 1986 and Rule 180 et seq. 1 The Court agrees with and adopts the opinion of the Special Trial Judge, which is set forth below. OPINION OF THE SPECIAL TRIAL JUDGE GALLOWAY, Special Trial Judge: This case is before the Court on respondent's Motion For Summary Judgment, filed on July 27, 1989, pursuant to Rule 121, which was calendared for hearing at Milwaukee, Wisconsin, on September 25, 1989. In his notice of deficiency dated March 7, 1986, respondent determined a deficiency and additions to tax in petitioner's income tax for 1984 as follows: Additions to Tax, Secs.YearIncome Tax6653(b)(1)6653(b)(2)665466611984$ 11,389.56$ 5,694.7850% of the$ 678.26$ 1,138.96interest dueon $ 11,389.56The issues raised by the pleadings are: (1) Whether respondent correctly utilized the bank deposit method in determining that petitioner underreported her taxable income by the amount of $ 32,014.43; (2) whether petitioner is651 liable for additions to tax under the provisions of section 6654 and 6661; and (3) whether petitioner is liable for additions to tax under sections 6653(b)(1) and 6653(b)(2). Petitioner was a resident of Milwaukee, Wisconsin, when she filed a timely petition on June 9, 1986. Respondent's answer was filed on August 1, 1986. In support of his determination that all of the underpayment of tax required to be shown on petitioner's tax return was due to fraud pursuant to section 6653(b), respondent set forth 31 paragraphs of affirmative allegations in his answer, which we summarize as follows: 1) In 1984, petitioner was employed at the Touch Of Class, a massage parlor located in Green Bay, Wisconsin. 2) During 1984, petitioner maintained four separate accounts at the First Northern Savings and Loan at Green Bay and deposited the respective amounts of $ 11,740.00, $ 22,477.25, $ 28,498.30, and $ 1,500.00 in these accounts, a total of $ 64,215.55. 3) Petitioner's 1984 deposits included transfers and miscellaneous non-taxable deposits in the respective amounts of $ 20,950.43, and $ 8,681.04, a total of $ 29,631.47, which reduced total bank deposits of $ 64,215.15 to net taxable deposits652 of $ 34,584.08. 4) During 1984, petitioner reported gross wages received of $ 3,973.00 on her tax return and had available for her use $ 3,319.65 cash as net wages after Federal income taxes, State income taxes and Federal Social Security taxes were withheld. 5) Petitioner's unreported taxable income for the year 1984 is summarized as follows: ExplanationAmountTotal Bank Deposits$ 64,215.55Less reductions fornon-taxable sources$ 29,631.47Net taxable deposits$ 34,584.08Less net wage income$ 3,319.65Total$ 31,264.43Plus cash returned fromchecks deposited$ 750.00Unreported taxable income$ 32,014.436) On or about April 6, 1984, petitioner fraudulently and with intent to evade tax, submitted to her employer, Touch of Class, a form W-4 giving the fictitious name of Susan Thompson and the false Social Security number of 386-57-4151, instead of her correct Social Security number of 526-51-4151. 7) On or about October 25, 1984, petitioner opened a bank account, fraudulently and with the intent to evade tax, at First Northern Savings and Loan, Green Bay in the name of XINE INCORPORATED, a fictitious corporation with653 no such name registered in the State of Wisconsin. 8) Petitioner made extensive use of cash during 1984 with the fraudulent attempt to evade tax. 9) Petitioner fraudulently understated her taxable income in 1984 in the amount of $ 32,014.43 and fraudulently understated her income tax liability in 1984 by the amount of $ 11,389.56 (correct liability of $ 11,462.56 less $ 73.00 reported on her return) with the intent to evade tax. On October 6, 1986, respondent filed with the Court, a Motion For Entry Of Order That Undenied Allegations In Answer be Deemed Admitted pursuant to Rule 37(c). On November 7, 1986, the Court granted respondent's Motion For Entry Of Order That Undenied Allegations In Answer Be Deemed Admitted and ordered that the affirmative allegations of fact set forth in 31 subparagraphs of paragraph 7 of respondent's Answer be deemed admitted for purposes of this case. Thereafter, on April 25, 1988, respondent filed a Motion For Summary Judgment. In support of the Motion For Summary Judgment, respondent relied in part on the facts deemed admitted under Rule 37(c). However, prior to the hearing on respondent's motion in Washington, D.C., on June 8, 1988, the Court654 was informally advised that petitioner had filed a petition in bankruptcy on November 7, 1986 and that petitioner's bankruptcy case had been dismissed on November 25, 1986. On July 13, 1988, this Court vacated its November 7, 1986 order, which granted respondent's Motion For Entry Of Order that Undenied Allegations In Answer Be Deemed Admitted, since this order apparently violated the automatic stay provisions of 11 U.S.C. paragraph 362 (1982). The Court also denied, without prejudice, respondent's Motion For Summary Judgment filed on April 25, 1988. The Court further ordered petitioner to file a proper reply to the allegations contained in respondent's Answer on or before August 17, 1988. Petitioner did not comply with the Court's order. On September 12, 1988, respondent filed with the Court, a Motion For Entry Of Order that undenied allegations in answer be deemed admitted. On June 14, 1989, the Court granted respondent's Motion For Entry Of Order that Undenied Allegations In Answer Be Deemed Admitted and ordered that the Affirmative Allegations of Fact set forth in 31 subparagraphs of paragraph 7 of respondent's Answer be deemed admitted for purposes655 of this case. Petitioner has the burden of proof with respect to the deficiency in income tax for the year 1984 and additions to tax, except as to additions to tax determined under section 6653(b). Rule 142(a), (b). The facts established for purposes of this case affirmatively show an unreported taxable income of $ 32,014.43 for the year 1984 and a deficiency in income tax of $ 11,389.56 for the year 1984 and that petitioner's correct tax liability for the year 1984 is $ 11,462.56. Petitioner failed to reply to respondent's Answer and controvert respondent's affirmative allegations of fact. There is no genuine issue of material fact concerning petitioner's taxable income, income tax liability, amount of the deficiency in income tax for the year 1984 and additions to tax determined under sections 6654 and 6661. Accordingly, respondent is entitled, as a matter of law, to a summary adjudication in his favor that there is a deficiency in income tax due from petitioner for the year 1984 in the amount of $ 11,389.56, and that there are additions to tax owed by petitioner under sections 6654 and 6661 in the respective amounts of $ 678.26 and $ 1,138.96. Respondent has the burden656 of proof with respect to the issue of additions to tax for fraud under sections 6653(b)(1) and 6653(b)(2). Rule 142(b); section 7454(a). The dollar amount of the underpayment of tax for the year 1984 is supported by the record in this case. The facts that have been deemed admitted in paragraphs 7(c) through 7(af) of the Answer are sufficient to satisfy respondent's burden of proving the amount of the underpayment of tax for the year 1984. The indicia of fraud for the year 1984 are also contained in the record of this case. The facts in paragraph 7(n) through 7(af) of the Answer are sufficient to satisfy respondent's burden of proving that all of the underpayment of tax for the year 1984 is due to fraud. Respondent is entitled, as a matter of law, to a summary adjudication that there are due from petitioner additions to tax under the provisions of section 6653(b)(1) in the amount of $ 5,694.78 and under section 6653(b)(2) based upon 50 percent of the interest due on $ 11,389.56. See Doncaster v. Commissioner, 77 T.C. 334">77 T.C. 334 (1981). There are no genuine issues of fact to be decided with respect to issues upon which petitioner has the burden of proof, e.g., petitioner's657 1984 taxable income, 1984 income tax liability, the amount of deficiency in 1984 income tax and additions to tax due under sections 6654 and 6661. There are no genuine issues of fact to be decided with respect to respondent's determination of additions to tax for fraud under sections 6653(b)(1) and 6653(b)(2). Accordingly, respondent's Motion For Summary Judgment will be granted. An appropriate order and decision will be entered. Footnotes1. All subsequent section numbers refer to the Internal Revenue Code in effect for the taxable year in issue. All rule numbers refer to the Tax Court Rules of Practice and Procedure.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623852/	Lawrence J. Pierce and Isabel C. Pierce, Husband and Wife v. Commissioner.Pierce v. CommissionerDocket No. 55623.United States Tax CourtT.C. Memo 1955-241; 1955 Tax Ct. Memo LEXIS 87; 14 T.C.M. (CCH) 964; T.C.M. (RIA) 55241; August 31, 1955Warren A. Doolittle, Esq., Colman Building, Seattle, Wash., for the petitioners. John O. Durkan, Esq., for the respondent. RAUMMemorandum Opinion RAUM, Judge: The respondent determined a deficiency in income tax of petitioners in the amount of $1,522.84 for the year 1950. The issue is whether the petitioners, who realized long-term capital gains on sales of stock in 1946 and refunded certain amounts to the purchaser in 1950 as an adjustment of the selling price pursuant to a sales agreement, should treat the amounts refunded as long-term capital losses or as ordinary losses. [Findings of Fact] All of the facts were stipulated and we adopt the stipulation as our findings88 of fact. For the purposes of this opinion, the following summary will suffice: The petitioners, husband and wife, are residents of Seattle, Washington. They filed a joint return on the cash basis with the then collector of internal revenue for the District of Washington. On May 1, 1946, petitioners and others sold all of the common stock of The J. M. Colman Company at $100 per share to Walter L. Wyckoff. The stock sale agreement included the following provisions: "10. Inasmuch as the purchase price of said common stock has been arrived at on the assumption that all income and excess profits taxes shown on any returns heretofore filed by the corporation are true and correct, the Stockholders, in the event of the exercise of this option by the Purchaser, hereby agree that they will indemnify the Purchaser against any future assessments of any additional income taxes or excess profits taxes with respect to any period covered by any such return heretofore filed by the corporation. In the event that any such assessment should be made by the government of the United States, or any of its agents, the Stockholders shall have the right to contest the liability of the corporation for such89 additional tax, or in the alternative to determine whether the corporation should acquiesce in the assessment of the additional tax or compromise the matter with the government, and the indemnity hereby given to the Purchaser shall be limited to the amount ultimately paid to the government by the corporation on account of such assessment, plus any necessary costs and expenses incurred in defending against such additional assessment." Each of the petitioners realized a gain on the sale of their shares and reported 50 per cent thereof as taxable in their joint return for the calendar year 1946. In November 1947, the Commissioner of Internal Revenue notified the J. M. Colman Company that he proposed to assert against it certain income tax deficiencies for the years 1944 and 1945. In May of 1950 the Commissioner and the company entered into an agreement settling the proposed deficiencies on the basis that there was a deficiency for the year 1944 in the amount of $12,158.24 and that there was no deficiency for the year 1945. Thereafter, during the year 1950, the company paid the amount of the deficiency, plus interest, and during 1950 petitioners and the other former stockholders paid90 Walter L. Wyckoff this amount plus the amount of certain attorney's and accountant's fees and other expenses incurred in settling the proposed deficiencies. The total amount paid by all of the former stockholders was $26,451.60, and the portion thereof paid by Lawrence J. Pierce was $1,439.54 and by Isabel C. Pierce, $3,958.75. On their joint return for 1950 an itemized miscellaneous deduction of $5,398.29 was claimed by petitioners and was identified as "Indemnity Payment to J. M. Colman Company." The respondent determined that the petitioners were not entitled to deduct as an ordinary loss the indemnity payments totalling $5,398.29 made by them during 1950, and that these payments were deductible only to the extent of 50 per centum, or $2,699.15, as a long-term capital loss. The petitioners contend that a capital loss can arise only when there has been a sale or exchange of a capital asset, that there was no such sale or exchange in 1950 when the indemnity payments were made, and that they are deductible in their entirety as a loss on a transaction entered into for profit under Section 23(e)(2) of the Internal Revenue Code of 1939. [Opinion] In our judgment petitioners' 91 contentions are foreclosed by Arrowsmith v. Commissioner, 344 U.S. 6">344 U.S. 6; Duveen Brothers, Inc., 17 T.C. 124">17 T.C. 124, affirmed per curiam, 197 Fed. (2d) 118 (C.A. 2); and Estate of James M. Shannonhouse, 21 T.C. 422">21 T.C. 422. In accord with those decisions, the amounts refunded to the purchaser in 1950 must be regarded as an adjustment of the sales price and are therefore to be treated as long-term capital losses. Petitioners' attempt to distinguish the cited cases, particularly the Arrowsmith case, is unpersuasive. The same result must be reached here. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623860/	Miss Georgia Scholarship Fund, Inc., Petitioner v. Commissioner of Internal Revenue, RespondentMiss Georgia Scholarship Fund, Inc. v. CommissionerDocket No. 5127-78XUnited States Tax Court72 T.C. 267; 1979 U.S. Tax Ct. LEXIS 126; May 1, 1979, Filed 126 Decision will be entered for the respondent. The petitioner was set up to provide a fund for the purpose of giving scholarships to contestants in the Miss Georgia Pageant. The participants were required as a condition for qualifying for scholarships to enter into a contract which would obligate them in the event they were selected to participate in the Miss America Pageant to abide by the rules and regulations of the pageants, including participation in public appearances and the like, under the sponsorship of the Miss Georgia Pageant. Held: The only activity engaged in by the petitioner was the awarding of so-called scholarships to participants in the Miss Georgia Pageant. Such scholarships were awarded in consideration of certain contractual obligations assumed by the participants. Because of this, the scholarships did not qualify as a scholarship grant under sec. 117, I.R.C. 1954. Since this was the only activity of the petitioner, the petitioner did not qualify as an exempt organization under sec. 501(c)(3). S. Davis Laney, for the petitioner.Bernard B. Kornmehl, for the respondent. Quealy, Judge. QUEALY267 OPINIONRespondent determined that petitioner does not qualify for exemption from Federal income tax under section 501(c)(3). 1 Petitioner challenges respondent's determination and has invoked the jurisdiction of this Court for a declaratory judgment pursuant to section 7428. The issue presented to us is whether petitioner is operated exclusively for charitable, religious, or educational purposes within the meaning of section 501(c)(3) of the Code.This case was submitted for decision on the stipulated129 administrative record under Rule 122, Tax Court Rules of Practice and Procedure. The stipulated administrative record is incorporated herein by this reference. The evidentiary facts and representations contained in the administrative record are assumed to be true for purposes of this proceeding.Miss Georgia Scholarship Fund, Inc. (hereinafter referred to as petitioner), is a Georgia nonprofit corporation, incorporated 268 and organized under the laws of the State of Georgia on December 11, 1973. Petitioner's stated purposes are as follows:To solicit, receive, hold, manage, control, disburse and generally administer property, funds and monies for the principal purpose of providing educational scholarships to contestants of the annual Miss Georgia Pageant; to receive donations and agree upon the conditions thereof with donors for purposes within these Articles of Incorporation; to invest the funds of the Corporation in such property, real and personal, as the Board of Trustees may, from time to time, in their discretion determine; to engage in public or private fund raising activities, not prohibited by law, to further the purposes of the Corporation * * Petitioner conducts130 its operations in affiliation with the Miss Georgia Pageant Corp. (hereinafter referred to as Georgia Pageant). The latter is a nonprofit corporation, incorporated under the laws of the State of Georgia in November 1964. The purpose of Georgia Pageant is to select a Miss Georgia each year and to promote the City of Columbus and the State of Georgia. Georgia Pageant is an organization described under section 501(c)(4).The articles of incorporation of petitioner require that a majority of its board of trustees at all times be members of the board of Georgia Pageant.Petitioner affords the way for citizens of Georgia to assist the Miss Georgia Pageant in meeting its challenges for scholarship expansion to attract Georgia's most talented young ladies to participate in the Miss Georgia Pageant.The Miss Georgia Pageant stresses "scholarships" because a better "scholarship" program will better the quality of contestants who seek the Miss Georgia crown.All participants in the Miss Georgia Pageant must complete the Miss Georgia Pageant Contestant Contract (hereinafter referred to as the contestant contract).Every contestant in the Miss Georgia Pageant is a recipient of remuneration131 designated as a "scholarship." These "scholarships" are paid solely to recognized educational institutions attended by the contestants. However, "scholarships" will not be available to contestants who fail to execute the contestant contract with Georgia Pageant.The contestant contract places the following requirements upon all participants in the MissGeorgia Pageant:269 (1) Contestant agrees to participate in the series of events leading up to the final selection of Miss Georgia and to abide by and be bound by the rules and regulations governing the Miss Georgia Pageant and the awarding and supervision of the Miss Georgia scholarships and other prizes.(2) Contestant in the finals of the Miss Georgia Pageant shall participate in all public appearances required of contestant by the Pageant officials such as telecasts, radio broadcasts, and moving pictures of all or any part of the events in connection with the finals.(3) Contestant authorizes the "State Pageant" and anyone duly licensed by it to televise, broadcast, and take moving pictures of her singly or in a group.(4) Contestant will furnish to "State Pageant" an official questionnaire properly filled out.(5) Contestant, 132 to assist her sponsor, must furnish to Georgia Pageant six black and white glossy photographs of contestant consisting of head and shoulder front view poses in evening dress.On April 23, 1975, petitioner mailed Department of Treasury Form 1023 to the District Director of the Internal Revenue Service in Atlanta, Ga., requesting a ruling that it was an exempt organization within the meaning of section 501(c)(3).On February 14, 1978, the Internal Revenue Service issued a final adverse ruling letter to petitioner denying it exempt status under section 501(c)(3).Our consideration will be restricted to the reasons set forth by respondent in his adverse ruling from which this appeal was taken. Respondent determined that petitioner failed to qualify under section 501(c)(3) for the following reasons:The scholarships that you award the participants in the Miss Georgia Beauty Pageant constitute the payment of compensation within the meaning of section 117 of the Code * * Thus, you are paying compensation for services rendered to the Miss Georgia Beauty Pageant which is exempt under section 501(c)(4) of the Code. This flow of funds from a section 501(c)(3) organization to a section 133 501(c)(4) organization constitutes a non-exempt purpose in that such payments are for the general support of the section 501(c)(4) organization.The principal issue for our decision is whether the purported "scholarships" granted by petitioner are exempt under section 270 117(a)2 or section 74, 3134 or whether such "scholarships" are compensatory in nature and therefore covered by section 1.117-4(c)(1), Income Tax Regs.4A similar issue was presented in Wilson v. United States, 322 F. Supp. 830">322 F. Supp. 830 (D. Kans. 1971). The sum of $ 653 was paid to the plaintiff for her educational expenses as the winner of the "Miss America" contest. Defendant, in the motion for summary judgment, claimed that the amount in question did not qualify as a scholarship and could not be excluded from gross income under section 74 and 135 section 117, as interpreted by section 1.117-4(c)(1), Income Tax Regs. In that case, the Court denied defendant's motion for summary judgment because the record was unclear as to whether the plaintiff would forfeit her scholarship if she did not fulfill the terms of her contract as a contestant.This proceeding in which the Court is limited to the administrative record is analogous to the situation in Wilson v. United States, supra. However, based upon the record before us, the Court must conclude that the scholarships awarded to the contestants in the Miss Georgia Pageant are forfeitable. Each contestant as a quid pro quo for services rendered under the contestant contract is compensated in the form of a "scholarship." To those contestants who fail to execute the contestant contract with Georgia Pageant, these "scholarships" are not 271 available. Thus, by refusing to sign the contestant contract, a contestant will forfeit her right to receipt of the "scholarship."In our opinion, it is immaterial whether the relationship between Georgia Pageant and the contestant is that of employer and employee. The fact remains that the "scholarship" 136 grant is compensatory in nature -- payment for the contestant's agreement to perform the requirements of the contestant contract. A scholarship for compensation is not a scholarship within the meaning of section 117. See Rev. Rul. 68-20, 1 C.B. 55">1968-1 C.B. 55; Bingler v. Johnson, 394 U.S. 741">394 U.S. 741 (1969); Parr v. United States, 469 F.2d 1156">469 F.2d 1156 (5th Cir. 1972); Hembree v. United States, 464 F.2d 1262">464 F.2d 1262 (4th Cir. 1972).Petitioner also argues that the determination of whether the "scholarships" are excludable under section 117 or section 74 is not indicative of petitioner's qualifications as an exempt organization under section 501(c)(3). However, if the primary purpose of the scholarships is compensatory as we have so found, then petitioner does not qualify for exempt status under section 501(c)(3). Petitioner is affiliated with and is operated for the purpose of providing compensatory payments on behalf of Georgia Pageant so as to attract a high quality of contestants to enter the Miss Georgia Pageant. Therefore, petitioner is not operated exclusively for137 any of the permissible purposes enumerated in section 501(c)(3) and should not be classified as an exempt organization. See Christian Manner International, Inc. v. Commissioner, 71 T.C. 661">71 T.C. 661 (1979); Church in Boston v. Commissioner, 71 T.C. 102 (1978); B.S.W. Group, Inc. v. Commissioner, 70 T.C. 352">70 T.C. 352 (1978); Better Business Bureau v. United States, 326 U.S. 279 (1945).We conclude that petitioner was not operated exclusively for a purpose exempt under section 501(c)(3), and so the exemption was properly denied by respondent.Decision will be entered for the respondent. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise stated.↩2. SEC. 117. SCHOLARSHIPS AND FELLOWSHIP GRANTS.(a) General Rule. -- In the case of an individual, gross income does not include -- (1) any amount received -- (A) as a scholarship at an educational organization described in section 170(b)(1)(A)(ii), or(B) as a fellowship grant, including the value of contributed services and accommodations; * ↩3. SEC. 74. PRIZES AND AWARDS.(a) General Rule. -- Except as provided in subsection (b) and in section 117 (relating to scholarships and fellowship grants), gross income includes amounts received as prizes and awards.(b) Exception. -- Gross income does not include amounts received as prizes and awards made primarily in recognition of religious, charitable, scientific, educational, artistic, literary, or civic achievement, but only if -- (1) the recipient was selected without any action on his part to enter the contest or proceeding; and(2) the recipient is not required to render substantial future services as a condition to receiving the prize or award.↩4. Sec. 1.117-4 Items not considered as scholarships or fellowship grants.The following payments or allowances shall not be considered to be amounts received as a scholarship or a fellowship grant for the purpose of section 117: * * *(c) Amounts paid as compensation for services or primarily for the benefit of the grantor↩. (1) Except as provided in paragraph (a) of § 1.117-2, any amount paid or allowed to, or on behalf of, an individual to enable him to pursue studies or research, if such amount represents either compensation for past, present, or future employment services or represents payment for services which are subject to the direction or supervision of the grantor.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623862/	Roland M. Hooker, Petitioner, v. Commissioner of Internal Revenue, RespondentHooker v. CommissionerDocket No. 13485United States Tax Court10 T.C. 388; 1948 U.S. Tax Ct. LEXIS 253; February 26, 1948, Promulgated 253 Decision will be entered under Rule 50. 1. Gift Tax -- Settlement at Divorce -- Transfer in Trust for Minor Child. -- No adequate money consideration or lack of donative intent shown, and transfer held gift to extent value exceeded obligation to support child during minority.2. Gift Tax -- Judgment Satisfied -- Transfer in Trust for Minor Child. -- Transfer to trust for minor child in accordance with separation agreement and divorce decree made pursuant to a judgment for specific performance of the separation agreement held gift to extent value exceeded obligation to support child during minority. John C. Parsons, Esq., for the petitioner.Paul P. Lipton, Esq., for the respondent. Murdock, Judge. Johnson, J., dissents. MURDOCK 388 OPINION.The Commissioner determined a deficiency of $ 34,602.40 in gift tax for 1943. The petitioner alleges that the Commissioner erred in taxing as gifts the 1943 transfers to two trusts which he was required to make by the order of a court. The Commissioner claimed an increased deficiency on the theory that he erroneously omitted from gifts of prior years, in computing the 1943 deficiency, a transfer of securities254 worth $ 49,375 made by the petitioner to his wife on August 10, 1935. The parties filed a stipulation of facts, which is adopted as the findings of fact.The petitioner filed his gift tax return for 1943 with the collector of internal revenue for the district of Florida. He married Winifred Holahan in 1921. They had two children, Edward, born on April 7, 1923, and Margaret, born in 1925. Margaret died on July 2, 1940.The petitioner and Winifred separated and entered into a separation agreement dated August 26, 1935. They then resided in Connecticut. The petitioner transferred to Winifred, on August 10, 1935, securities valued at $ 49,375, of which no mention appears in the separation agreement, and on August 26, 1935, $ 15,000 in cash, pursuant to paragraph 2 of the separation agreement which was as follows:Mr. Hooker has paid to Mrs. Hooker, simultaneously with the execution of this agreement the sum of Fifteen thousand Dollars ($ 15,000), the receipt of which is hereby acknowledged, and said sum is accepted by Mrs. Hooker in full satisfaction of the obligation of Mr. Hooker to support and maintain her.Paragraph 3 of the separation agreement was in part as follows:3. In255 order to provide for the maintenance and support of the children of the parties Mr. Hooker has created simultaneously with the execution of this agreement two certain trusts with Central Hanover Bank and Trust Company, as Trustee, under which Mr. Hooker is grantor and the said children of the 389 parties, to wit, Edward Gordon Hooker and Margaret Carmichael Hooker, are beneficiaries. Reference is hereby made to said trust agreements for the full terms and conditions thereof.It is the desire and intention of Mr. Hooker that the provisions for the support and maintenance of his said children shall in the future be augmented. To carry out the foregoing intent Mr. Hooker agrees:A. * * [To place in trust for each child one-sixth of any amount he received from his mother during her life.]B. If Mr. Hooker's mother shall predecease him, upon completion of the administration of the estate of Mr. Hooker's mother but in any event not more than one year after the death of Mr. Hooker's mother, to place in trust for each of the said two children of the parties amounts equal to one-sixth (1/6) of the aggregate of the following:(a) Such amounts as Mr. Hooker shall receive and/or shall256 be entitled to receive outright from his mother's estate after her death;(b) Such amounts as shall be placed in trust for Mr. Hooker under his mother's will with income payable to him for life or for any shorter period. * * [The petitioner also agrees at this point to leave in trust by his will one-sixth of his estate to each trust if he predeceases his mother.]C. Mr. Hooker's liability under the foregoing subdivisions A and B shall be extinguished upon the happening of any of the following events:(1) If either Mr. Hooker or his mother at any time during life or by will shall place in trust for each of his children the sum of One Hundred thousand Dollars ($ 100,000);(2) If both of said children shall die without surviving issue while Mr. Hooker and his mother are both living. * * G. Wherever in this paragraph 3 reference is made to the creation of a trust by either Mr. Hooker or his mother for the benefit of the said children of Mr. Hooker it shall mean a trust with the same Trustee and with terms and provisions substantially similar to those of the trusts created simultaneously with this agreement.Other provisions of the agreement included the following: Winifred was257 to have sole custody and control of the children, with the right of the petitioner to visit them not more than twice a month; each released all rights in the property of the other arising from the marriage and agreed not to encumber that property, but to aid, if necessary, in its transfer; and the agreement was to be incorporated in any decree of divorce later obtained, but could be altered by the joint action of the two parties.The petitioner established two trusts on August 26, 1935, in which he named the Central Hanover Bank & Trust Co. of New York trustee, and his two children as principal beneficiaries. The petitioner transferred to each trust, on August 26, 1935, property then worth $ 97,980.The trust for Edward provided that the income until he became 25 was to be paid to Winifred for his education, maintenance, and support, or, if Winifred should die, used by the trustee for that purpose; excess income was to be accumulated and used later or paid to Edward at 25; income after Edward became 25 was to be paid to him for life; 390 his children and widow were to receive the trust corpus at his death; Margaret was to take Edward's place if he and his family were not living258 to take under the trust; Winifred was to become life beneficiary if those named were not living; if she was dead, then the petitioner or his heirs were to take the corpus; and Winifred had the right to revoke the trust during her life after the child beneficiary had reached 25, in which case the corpus was to go to her.The trust for Margaret was identical except for the difference in names.Winifred obtained an absolute divorce in Nevada by a decree entered October 19, 1935. The divorce decree provides that the settlement agreement of August 26, 1935 "is, by this Court, ratified, adopted and approved in all respects," it is "declared to be fair, just and equitable" to both parties and the children, and the parties are ordered to comply with it fully.The petitioner remarried in 1936 and Winifred remarried in 1937.The petitioner's mother died on March 13, 1939, and the petitioner received $ 478,100.25 in the settlement of her estate, but he failed to add portions thereof to the two trusts. His son Edward, then beneficiary of each trust, acting through Winifred, and Winifred individually brought suit against the petitioner on July 17, 1940, in Connecticut for specific performance259 of the trusts and the separation agreement. The trial court entered judgment against the petitioner for specific performance. That judgment was affirmed on appeal, and thereafter, during 1943, the petitioner transferred to the trust for Edward property having a value of $ 159,366.75.The petitioner reported no taxable gifts on his return for 1943, but explained thereon that he had been forced to make the transfer to the trust by the decree of the Connecticut court. The Commissioner eliminated the present value of the right of Edward to receive the income during his minority and held that the remainder of $ 153,237.25 1 was taxable as a gift. The petitioner does not contend and has not shown that his obligation to support his minor son was greater than the amount excluded by the Commissioner.Section 1000 of the Internal Revenue Code imposed a tax on transfers of property by gift and section 1002 provided:SEC. 1002 TRANSFER260 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.The petitioner stated in the separation agreement that he desired and intended to augment in the future the provisions for the support 391 of his minor children and he agreed to carry out those desires and intentions by placing in the trusts for the children one-third of any amount he might later receive from his mother. The children were then 10 and 12. Those circumstances tend to show rather than to negative a donative intent on the part of the father in entering into the agreement of August 26, 1935. He apparently wanted to do more for the children than the minimum required by law. This, in so far as the children were concerned, then was not an "arm's length" transaction made in the ordinary course of business without donative intent. Yet both parties hereto recognize261 that there was some consideration present for the undertakings of the petitioner as set forth in that agreement. Later, the transfer here in question was made pursuant to that agreement. The Commissioner has not taxed all of the transfers made pursuant to the agreement, but has excluded all of the transfers to the wife and a part of all transfers to the trusts representing the present worth of the income from the trust funds during the minority of the child beneficiary. He maintains, however, that the value of the transferred funds in excess of the amount excluded constitutes a gift within section 1002. His action in finding a taxable gift is in accord with the statute. Edmund C. Converse, 5 T.C. 1014">5 T. C. 1014; affirmed on another point, 163 Fed. (2d) 131.The petitioner relies heavily upon the opinion of the Circuit Court in Edmund C. Converse, supra, affirming the Tax Court in holding that a lump sum paid to a divorced wife pursuant to the agreement of the parties embodied in the decree of divorce was not a gift. The Commissioner points out that the present transfer was for the benefit of the 262 child rather than in settlement of any property rights of the wife, although the latter might benefit under certain contingencies; the husband's obligation to support his wife was fulfilled by a transfer, not involved herein, made pursuant to paragraph 2 of the settlement agreement; the transfer was pursuant to the order for specific performance of the agreement rather than on the decree of divorce; and there has been no showing of consideration in money or money's worth for the present transfer in excess of that already recognized and excluded. He concludes that the opinion relied upon by the petitioner was based on a dissimilar set of facts and should not be followed as an authority upon the present issue.The decree in the Converse divorce case ordered the defendant (husband) to pay $ 625,000 to the wife in lieu of monthly payments provided in the separation agreement. The decree also provided that the husband would be discharged, after the lump sum had been paid, of all property rights and claims for support of the wife. The separation agreement was otherwise ratified. The Circuit Court, in deciding the Converse case, pointed out that the payment was not made pursuant263 392 to the separation agreement, but was ordered only after an agreement during the course of trial and after testimony had been presented and considered by the court. The Circuit Court may have thought that those circumstances constituted a sufficient showing of an adequate and full consideration in money or money's worth. Here the situation is quite different, as the Commissioner points out. The court went on to state that the payment there was "of a liquidated debt created by the judgment and the discharge thereby of the respondent's obligation to pay that debt was an adequate and full consideration in money or money's worth for the transfer," and no taxable gift resulted. We are not disposed to remove this latter part of the opinion from its context. However, if it means that no payment in liquidation of a judgment is a taxable gift within section 1002, then this court disagrees and, with all due respect, declines to follow that opinion. Commissioner v. Greene, 119 Fed. (2d) 383 (reversing 41 B. T. A. 515); certiorari denied, 314 U.S. 641">314 U.S. 641. Cf. Estate of Louis D. Markwell, 40 B. T. A. 65;264 affd., 112 Fed. (2d) 253. That section expressly provides that transfers in excess of an adequate consideration shall be deemed gifts for the purpose of the tax. Courts, asked to enforce contracts, do not inquire into the adequacy of consideration in cases, such as this, involving no fraud of any kind, but enforce agreements supported by any valid consideration. Congress legislates in the light of existing law. It may not be supposed that it intended to pass a law which could be circumvented by the clever process of entering into an agreement to make a transfer, supported by an inadequate money consideration, and then making the transfer to satisfy a judgment on the agreement. Nor would it matter if, as here, a change of mind occurred after the agreement and the donor was forced to abide by his earlier agreement. A divorce court would certainly not interfere to prevent a father from making greater provision for his minor children than the minimum required by law or more than the court could require. Yet the excess would be a gift under section 1002. Cf. Stella S. Housman, 38 B. T. A. 1007; affd., 105 Fed. (2d) 973;265 certiorari denied, 309 U.S. 656">309 U.S. 656.We are unable to agree with the petitioner that this case is like Herbert Jones, 1 T.C. 1207">1 T. C. 1207, and similar cases (including the lump sum in the Converse case) in which it was held that transfers to a wife pursuant to a separation agreement or a divorce decree were not gifts. The reason for holding in those cases that there was no gift was that the circumstances negatived the presence of a donative intent and showed an arm's length transaction. But the absence of a donative intent and the presence of adequate consideration in money or money's worth may not be presumed in prenuptial agreements and in transfers for the benefit of minor children. Commissioner v. Wemyss, 324 U.S. 303">324 U.S. 303; 393 Merrill v. Fahs, 324 U.S. 308">324 U.S. 308; Edmund C. Converse, supra.Cf. Estate of Louis D. Markwell, supra.Here the trust deeds show that the primary beneficiaries of the trusts were the minor children, not the wife, even though she had large powers in certain contingencies. The266 value of consideration from the wife and the value of the wife's interest in these trusts has not been shown. Nor is it sufficient that provisions for the minor children were incorporated in the separation agreement and the divorce decree, since the fact that the husband may have bargained closely with his wife does not negative a donative intent in so far as the agreement provided for the children. Edmund C. Converse, supra.Further proof that he did not intend to make a gift to them and that there was adequate consideration in money or money's worth for the transfer to them would be necessary.The respondent did not mention his affirmative issue in his main brief, but devoted a paragraph to it in his reply. This procedure is not entirely fair to his adversary, if he seriously urges the claim to increase the deficiency. However, he must fail in any event, since the stipulation does not show that there was donative intent or an absence of adequate money's worth consideration in the 1935 transfer of $ 49,375 to the estranged wife. It may have been for her support and may have been eliminated properly from the gift category for that reason.Decision267 will be entered under Rule 50. Footnotes1. The stipulation gives $ 153,337.25 but the notice of deficiency shows $ 153,237.25.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623863/	GORDON L. RAINES and CONNIE E. RAINES, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentRaines v. CommissionerDocket No. 21214-80United States Tax CourtT.C. Memo 1983-125; 1983 Tax Ct. Memo LEXIS 665; 45 T.C.M. (CCH) 940; T.C.M. (RIA) 83125; March 9, 1983. Curtis A. Massey Sr., for the petitioners. Linda J. Wise, for the respondent. SCOTT MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: Respondent determined a deficiency in petitioners' income tax for the calendar year 1978 in the amount of $2,576. The sole issue for decision is whether the expenditures made by petitioner Gordon L. Raines in attending a 3-week training course on the flying of a fan-jet Falcon DA-20 aircraft qualify as deductible educational expenses under section 162. 1666 FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. Petitioners Gordon L. Raines and Connie E. Raines, husband and wife, reside in Birmingham, Alabama, at the time of the filing of their petition in this case. Petitioners filed a joint U.S. individual income tax return for the calendar year 1978 with the Internal Revenue Service Center, Atlanta, Georgia. Mr. Raines since 1968 has been employed as a commercial pilot and has since 1976 been employed as a corporate pilot. Mr. Raines has worked as a pilot for small airlines and also for charter operations. As of the date of the trial in this case, Mr. Raines had approximately 9,000 hours of flight time as either a pilot-in-command or as a corporate pilot. Mr. Raines was certified as an Airline Transport Pilot on February 14, 1973. Pilot's certificates are issued by the Federal Aviation Agency (FAA) in the following categories: (1) Airline Transport Pilot, (2) Commercial Pilot, (3) Private Pilot, and (4) Student Pilot. A private pilot may not fly and receive compensation for furnishing his services as a pilot. A commercial pilot, on the other hand, may fly persons for hire and receive compensation667 for furnishing his services as a pilot. Of these certificates, the Airline Transport Pilot certificate is the highest. With this rating, a pilot can act as pilot-in-command on any scheduled airline or scheduled taxi service in a non-jet aircraft not exceeding 12,500 pounds in gross weight or act as pilot-not-in-command on an aircraft of any weight. However, to act as pilot-in-command on a jet aircraft or on an aircraft weighing in excess of 12,500 pounds on a scheduled airline or scheduled taxi service, in addition to the Airline Transport Pilot certificate, the pilot must have a "type-rating" in the aircraft being flown. Additionally, while a private or commercial pilot may or may not have an instrument flying rating, the FAA requires an airline transport pilot to have such rating. A commercial pilot is authorized to fly cargo for hire or passengers for hire within a 25-mile radius of a particular airport. However, if such commercial pilot works for a licensed nonscheduled air taxi operation, he may fly passengers outside that 25-mile radius. A pilot may fly aircraft for private companies with a commercial license as long as the passengers carried are not being carried "for668 hire." However, most private companies prefer to have airline transport pilots because of their higher rating and because of the lower insurance rates involved. Mr. raines was employed as a corporate pilot by R.R. Dawson Bridge Co. from August of 1976 to April 1980. The only type of aircraft owned by the company and operated by petitioner in his employment was a KA-200 Beechcraft Turbo Prop aircraft. The KA-200 Beechcraft has two turbo propeller engines. The plane can achieve a high-speed cruise of 333 mph. The plane usually will be used to carry up to a maximum of between six to eight passengers and a crew of two. While the FAA would permit the plane to be flown by only one pilot, Mr. Raines' employer, like most operators, would always have two pilots aboard when the aircraft was flown. These two pilots had definite pilot and co-pilot duties to carry out. The educational expenses at issue were incurred by Mr. Raines in attening a fan-jet Falcon DA-20 type-rating course conducted by an organization known as Flight Safety International in Memphis, Tennessee, from November 27, 1978, to December 17, 1978. The Falcon DA-20 is a twinengine, fan-jet aircraft which holds approximately669 nine to ten passengers and a crew of two pilots. The plane is primarily used in the transportation of corporate executives. 2 The FAA also requires that the plane have a mandatory crew of two pilots since it is a jet aircraft. In attending the course, Mr. Raines made the following expenditures: Fare for airplane$ 106.00Meals and lodging640.03Ground school750.00Simulator training3,000.00Flight training6,532.50$11,028.53In his ground school training, Mr. Raines received comprehensive instruction on the DA-20 aircraft and all of its systems. The systems would include the aircraft's electrical system, hydraulic system, pressurization system, fuel system, and pneumatic system. In the training, Mr. Raines was given instruction not only in how to properly operate the various systems, 670 but also on how to handle malfunctions and remedy them or compensate for them while the aircraft was in flight. The simulator training portion of the course used a full motion visual simulator. The simulator itself was an exact replica of the cockpit of the Falcon DA-20. The simulator allowed one to obtain instrument training in the aircraft and to practice dealing with malfunctions in the different systems of the aircraft in a safe, controlled environment. Mr. Raines prior to taking the course had not been type-rated in a Falcon DA-20. After receiving the training, Mr. Raines was tested and received a Falcon DA-20 type-rating. R.R. Dawson Bridge Co., Mr. Raines' employer, did not own or have plans to purchase a Falcon DA-20 at the time Mr. Raines undertook his training. The company did not require Mr. Raines to attend the Falcon DA-20 type-rating course, nor did it reimburse Mr. Raines for any of the expenses he incurred in attending the course. On their income tax return for 1978 petitioners took a $11,028.53 employee business expense deduction for the various expenditures made by Mr. Raines in attending the course on the Falcon DA-20 aircraft. Respondent in his notice671 of deficiency disallowed the claimed deduction with the following explanation: (a) The amount of $11,028.53 claimed on your return as employee business expense is disallowed because it has not been established that any amount was for an ordinary or necessary business expense, or was expended for the purpose designated. Therefore, your taxable income is increased $11,028.53. Respondent subsequently agreed that the expenditures were made for the purposes stated on the return and have been substantiated and that only the deductible nature of the entire $11,028.53 amount as an educational expense under section 162 is in issue. Respondent also has abandoned his prior contention that the training course qualified Mr. Raines for a new trade or business. OPINION The sole issue presented for decision is whether the expenditures made by Mr. Raines in attending a training course on the flying of a Falcon DA-20 aircraft qualify as deductible educational expenses under section 162. Petitioners contend that the expenditures here in issue meet all of the requirements for deductibility under section 162. Respondent on the other hand maintains that the education or training Mr. Raines672 received had no proximate relation to his existing employment. As a part of this argument, respondent contends that the training had only a de minimis effect in improving or maintaining the skills required by Mr. Raines' employment since a Falcon DA-20 aircraft is a markedly different type of plane than the plane flown by Mr. Raines for R.R. Dawson Bridge Co.3Section 162(a) allows a deduction for all the ordinary and necessary expenses paid or incurred by a taxpayer in carrying on any trade or business. Section 262, however, expressly provides that no deduction is allowable for personal, living, or family expenses. Section 1.262-1(b)(9), Income Tax Regs., provides that expenditures made by a taxpayer in obtaining an education or in furthering his education are not deductible unless they qualify under section 162 and section 1.162-5 of respondent's regulations. Section 1.162-5, Income Tax Regs., sets673 forth objective criteria for deciding whether an educational expense is a business, as opposed to a personal, expense. 4 This regulation provides, with certain exceptions not relevant here, that educational expenses are business expenses if the education-- (1) Maintains or improves skills required by the individual in his employment or other trade or business, or (2) Meets the express requirements of the individual's employer, or the requirements of applicable law or regulations, imposed as a condition to the retention by the individual of an established employment relationship, status, or rate of compensation.The parties have stipulated that Mr. Raines' employer did not require him to take the training, and it is also clear that the FAA did not require such training for Mr. Raines to retain his position as a corporate pilot. Thus, the dispute between the parties is whether the training in flying of the Falcon DA-20 aircraft maintained or improved the skills required by Mr. Raines in his employment as a corporate pilot.674 Whether education maintains or improves skills required by a taxpayer's employment is a question of fact. Boser v. Commissioner,77 T.C. 1124">77 T.C. 1124, 1131 (1981). The burden of proof is on petitioners to show that there was a direct and proximate relationship between Mr. Raines' training on a Falcon DA-20 aircraft and skills required in his employment as a corporate pilot for his company. A precise correlation is not necessary, and the educational expenditure need not be for training which is identical to petitioner's prior training so long as it enhances existing employment skills. Boser v. Commissioner,supra at 1131; Schwartz v. Commissioner,69 T.C. 877">69 T.C. 877, 889 (1978). On the record presented, petitioners have carried their burden in showing that the training undertaken by Mr. Raines maintained or improved skills required in his employment. At the trial, Mr. Raines testified that the ground school training concerning the electrical system and the pressurization system of the Falcon DA-20 was especially helpful in his employment. Mr. Raines noted that the pressurization system of the KA-200 Beechcraft is identical to that of the675 Falcon DA-20. He further elaborated that the electrical system training helped him to differentiate between generator buses that were essential and those which were nonessential. Mr. Raines testified that overall the training course helped improve his judgment as a pilot. Petitioners at the trial also offered the testimony of a witness who was also employed as a corporate pilot. This witness testified that the training Mr. Raines received would be especially helpful in preparing him to deal with emergency situations. Petitioners' witness, although acknowledging that there is a difference in emergency procedures for the Falcon DA-20 and the Beechcraft KA-200, stated that there is a common ground in such emergency procedures. Both Mr. Raines and the other witness were unqualifiedly of the opinion that the instrument training received would improve or maintain skills required by a corporate pilot in his day-to-day employment. Mr. Raines further specifically testified that, based on the crew coordination training he received in the course, upon returning to his company he instituted a similar type of crew coordination training for pilots flying the company's planes. We are unconvinced676 by respondent's arguments to the contrary that the training would not improve or maintain the skills needed by Mr. Raines in his existing employment. We reject respondent's contention that training in flying a Falcon DA-20 is only of remote benefit in improving or maintaining skills required for piloting a KA-200 Beechcraft. We attach little weight to the testimony given by respondent's witness. This witness gave an opinion to the effect that the training would not have been of much benefit in improving or maintaining the skills needed to fly a KA-200 Beechcraft, but acknowledged that the training would improve a person's general piloting skills. Essentially, respondent's position is that the training would only improve or maintain skills needed in the existing employment if such training was on an aircraft identical to that which would be flown in petitioner's existing employment. In our view, the record clearly shows that there is a direct and proximate relationship between the training taken and the skills required in Mr. Raines' employment as a corporate pilot for his company. We find that the training here in issue either improved or maintained the skills needed by Mr. Raines677 in his employment with his company. In addition to meeting the requirement that the training or education maintain or improve skills required in the taxpayer's employment, such expenses to be deductible must also meet the ordinary and necessary test of section 162(a). Boser v. Commissioner,supra at 1132. As used in section 162(a), the term "ordinary" has been defined as that which is normal, usual or customary in the taxpayer's trade or business. Deputy v. Du Pont,308 U.S. 488">308 U.S. 488, 495 (1940). The term "necessary" as used in the statute has also been definitively defined to mean that which can be considered appropriate or helpful, not indispensible or required. Ford v. Commissioner,56 T.C. 1300">56 T.C. 1300, 1306 (1971), affd. per curiam 487 F.2d 1025">487 F.2d 1025 (9th Cir. 1973). That particular training is not required by the taxpayer's employer does not, therefore, prevent such training from being ordinary. Boser v. Commissioner,supra at 1132; Carlucci v. Commissioner,37 T.C. 695">37 T.C. 695, 699-700 (1962). Respondent does not seriously dispute, and the record abundantly shows, that the training here678 was an ordinary expenditure within the meaning of section 162. Respondent, however, while conceding that the training might be considered helpful or appropriate in one sense, maintains that the amount of the expenditure was unreasonable. Respondent argues that it was unreasonable for petitioner to expend $11,028.53 in order to take a training course when he only earned $20,562.50 for the year 1978 in his employment as a corporate pilot for his company. To the extent that an expenditure is unreasonable, it is not necessary. Boser v. Commissioner, supra at 1133. 5 What is a reasonable expenditure is a question of fact. Commissioner v. Heininger,320 U.S. 467">320 U.S. 467, 475 (1943); Boser v. Commissioner, supra at 1133; Voigt v. Commissioner,74 T.C. 82">74 T.C. 82, 89 (1980). The training Mr. Raines received consisted of ground school training, simulator training and flight training over a 3-week period. The cost appears quite reasonable in light of the nature of the training.Since the expense of the course is deductible under section 162, the expenses679 incurred for travel, meals and lodging by petitioner in travel away from home to attend the course are also deductible. Respondent has not contended that any of such expenses were attributable to the pursuit of unrelated personal activities. See section 1.162-5(e), Income Tax Regs. We find that petitioners are entitled to an $11,028.53 deduction under section 162 for the expenses incurred by Mr. Raines in attending the flight training course.Decision will be entered for the petitioners.Footnotes1. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the year here in issue.↩2. In addition to being slightly larger, the DA-20, since it is a jet aircraft, is somewhat faster than the turbo-prop KA-200 Beechcraft. The DA-20 is also capable of reaching a slightly higher altitude although the optimum cruising altitude for either aircraft is about the same. The takeoff and landing procedures for either aircraft are substantially similar.↩3. Respondent is not contending that the training here in issue was required for Mr. Raines to meet the minimum educational requirements of his employment, and respondent has abandoned his prior contention that such training qualified Mr. Raines for a new trade or business.↩4. As we have recognized, this regulation, by its terms, does not require a taxpayer to establish his primary purpose in undertaking the education. Boser v. Commissioner,77 T.C. 1124">77 T.C. 1124, 1130 (1981); Carroll v. Commissioner,51 T.C. 213">51 T.C. 213, 219 (1968), affd. 418 F.2d 91">418 F.2d 91↩ (7th Cir. 1969).5. See also, Stoddard v. Commissioner,T.C.Memo. 1982-720↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623867/	Allen Leavell, Petitioner v. Commissioner of Internal Revenue, RespondentLeavell v. CommissionerDocket No. 29996-91United States Tax Court104 T.C. 140; 1995 U.S. Tax Ct. LEXIS 8; 104 T.C. No. 6; January 30, 1995, Filed 8 Decision will be entered under Rule 155. P, a professional basketball player, formed a personal service corporation. P agreed to furnish his services to his personal service corporation; the personal service corporation, in turn, executed an NBA Uniform Player Contract with the Rockets to furnish P's services. As a condition to executing the player contract, the Rockets required P to execute a written agreement with the Rockets wherein P personally agreed to perform the individual services called for by the terms and conditions of the player contract. Held: The Rockets had the right to control the manner and means by which P's personal services were performed; accordingly, with respect to P's services as a player for the Rockets, P was an employee of the Rockets. It follows that the $ 204,333.35 paid by the Rockets to P's personal service corporation constitutes income allocable to P. Sargent v. Commissioner, 93 T.C. 572">93 T.C. 572 (1989), revd. 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991), followed. Bennett G. Fisher and Ian Cain, for petitioner.Victoria Sherlock and Susan Sample, for respondent. Ruwe, Chabot, Parker, Cohen, Gerber, Parr, Halpern, 9 Beghe, Chiechi, Swift, Laro, Hamblen, Jacobs, WellsRUWE140 RUWE, Judge: This case is before the Court pursuant to a petition filed by Allen Leavell for redetermination of respondent's determination of a deficiency of $ 66,897 in petitioner's 1985 Federal income tax. Unless otherwise 141 indicated, section references are to the Internal Revenue Code in effect for 1985, the taxable year in issue. Rule references are to the Tax Court Rules of Practice and Procedure.After concessions by the parties, the sole issue for decision is whether $ 204,333.35 paid to petitioner's wholly owned personal service corporation, Allen Leavell, Inc. (corporation), is includable in his gross income. The Houston Rockets (Rockets), a basketball team in the National Basketball Association (NBA or association), paid this amount to corporation in exchange for petitioner's services as a professional basketball player.FINDINGS OF FACTMany of the10 facts have been stipulated and are so found. The stipulation of facts, first supplemental stipulation of facts, and attached exhibits are incorporated herein by this reference. For the taxable year in issue, petitioner filed a 1985 Form 1040, U.S. Individual Income Tax Return, with the Austin Service Center of the Internal Revenue Service. When he filed his petition in this Court, petitioner resided in Houston, Texas.Petitioner began playing professional basketball for the Rockets in 1979. On July 1, 1980, upon advice of counsel, petitioner formed corporation to serve as his representative/employer for his services as a professional basketball player and to market his personal appearances and endorsement opportunities. 1 Corporation observed all corporate formalities as required by the laws of Texas, its State of incorporation, and was in good standing throughout the taxable year in issue. Corporation had a fiscal year that ended on June 30.11 Petitioner was the sole shareholder of corporation during its existence and served as corporation's president and treasurer; petitioner also served as one of corporation's two directors. Petitioner's attorney and agent, Lance Luchnick, served as corporation's vice president and secretary; Mr. Luchnick also served as corporation's other director. Mr. Luchnick was actively involved in the day-to-day operation of corporation; his duties and responsibilities included opening corporation's 142 mail and paying its bills, maintaining and controlling its checking account, depositing and writing its checks, paying its payroll, preparing (or causing to be prepared) its tax returns, and negotiating all contracts on its behalf. Petitioner met routinely with Mr. Luchnick to review the business of corporation.In his individual capacity, petitioner entered into an employment agreement with corporation under which petitioner agreed to provide his basketball and promotional services exclusively for corporation. This agreement gave corporation the right to determine the professional basketball team for which petitioner would perform and also the right and authority to contract with any professional12 basketball team. 2 With respect to his promotional services, corporation generated income opportunities for petitioner based on his endorsements of consumer products (e.g., Nike shoes, athletic equipment, and clothing) and by promoting petitioner's appearances at selected events. For each of these income opportunities, corporation had the right to dictate to petitioner the time and place of the endorsement or the event.13 On December 11, 1984, the Rockets and corporation executed a contract entitled "Uniform Player Contract". The Uniform Player Contract was a form contract drafted by the NBA; the individual teams in the NBA were required to use the Uniform Player Contract to bind a player to their team, and could not omit or reject any of the provisions therein. The 1984 Uniform Player Contract executed by corporation and the Rockets was for a term of 2 years starting on September 1, 1984, and covered the Rockets' 1984-85 and 1985-86 basketball seasons. 3The 1984 Uniform Player Contract designated Allen Frazier Leavell, Inc., as the "player". There is nothing in the written terms of the 1984 Uniform Player Contract that specifically calls for petitioner to personally perform the services 143 required to be provided by the "player". 4 The contract required that the "player": Attend each training camp; play the scheduled14 games during each season; play all scheduled exhibition games during and prior to the season; when invited, play in the All-Star Games and attend every event associated with the All-Star Games; play in the playoff games subsequent to each regular season; report at the time and place fixed by the Rockets in good physical condition; keep in good physical condition throughout each season; give his best services and loyalty to the Rockets; agree to give immediate notice of any injury suffered by him, including the time, place, cause, and nature of such injury, and submit himself to a medical examination and treatment by a physician designated by the Rockets; play only for the Rockets or its assignees; report to the club to whom his contract has been assigned within 48 hours after receiving notice of the assignment or within such longer time for reporting as may be specified in the notice; and refrain from, directly or indirectly, enticing any player or coach to enter into negotiations for or relating to his services as a basketball player.15 The contract also required that the "player": Observe and comply, at all times whether on or off the playing floor, with all requirements of the Rockets respecting conduct of its team and its players; be neatly and fully attired in public and always conduct himself according to the highest standards of honesty, morality, fair play, and sportsmanship, on and off the court; not do anything which is detrimental to the best interests of the Rockets or the association; not engage in sports endangering his health or safety (including, but not limited to, professional boxing or wrestling, motorcycling, moped riding, auto racing, sky diving, and hang gliding); except with written consent of the Rockets, not engage in any game or exhibition of basketball, football, baseball, hockey, lacrosse, or other athletic sport; allow the Rockets or the association to take pictures of the "player", alone or together with others, at such times as the Rockets or association may designate; refrain from public appearances, participating in radio or television programs, permitting his picture to be taken or writing or sponsoring newspaper or magazine articles or commercial products without the written consent16 of 144 the Rockets, which shall not be withheld except in the reasonable interests of the Rockets or professional basketball; make himself available for interviews by representatives of the media conducted at reasonable times; agree to participate in all other reasonable promotional activities of the Rockets and the association; and conform his personal conduct to standards of good citizenship, good moral character, and good sportsmanship.Under the contract, the Rockets could impose fines, sanctions, and other disciplinary measures for "player" violations. For example, the "player" could be: Fined, suspended, and have his compensation reduced for violating the requirements of the Rockets respecting conduct of its team and players; suspended and have his compensation reduced for not arriving in good physical condition for the first game of the season, or if he fails to remain in good physical condition throughout the season (unless the condition results from any injury sustained as a direct result of participating in any practice or game played for the Rockets); suspended and have his compensation reduced for failing to report to a club to whom his contract has been assigned; 17 and fined and suspended for engaging in sports that may endanger his health or safety.The contract also provides that the association could impose fines, sanctions, and other disciplinary measures. For example, the "player" could be: Suspended or indefinitely expelled by the commissioner if he bet, or offered or attempted to bet, money on the outcome of any game participated in by any club which is a member of the association; subject to a fine not exceeding $ 1,000 by the association for giving, authorizing, or endorsing any statement having or designed to have, an effect that is prejudicial or detrimental to the best interests of basketball or of the association; subject to a fine not exceeding $ 10,000 and suspended by the association for engaging in an act or conduct during a preseason, championship, playoff, or exhibition game that is prejudicial to or against the best interests of the association or the game of basketball; and subject to a fine not exceeding $ 1,000 and be suspended for a definite or indefinite period for engaging in conduct that, in the opinion of the commissioner, is prejudicial or detrimental to the association.145 The 1984 Uniform Player Contract18 was negotiated primarily by Mr. Luchnick on behalf of corporation and by Ray Patterson on behalf of the Rockets. Petitioner signed the contract for corporation in his capacity as its officer, 5 and Mr. Patterson signed the contract for the Rockets in his capacity as the Rockets' president and general manager. Mr. Patterson signed the 1984 Uniform Player Contract with the understanding that it was not a contract with petitioner, but rather, was a contract between the Rockets and corporation in order to acquire petitioner's services. The Rockets wanted to obtain petitioner's services and did not care if his services were obtained through corporation. However, as a condition to entering into the 1984 Uniform Player Contract, the Rockets required petitioner, in his individual capacity, to enter into a written agreement with the Rockets entitled "Personal Guarantee by Player". This "Personal Guarantee", which was also signed on December 11, 1984, provided as follows:19 PERSONAL GUARANTEE BY PLAYER(For Use When Player Contract Is Entered Into By Player Corporation)I, /s/ Allen Leavell, in order to induce ___ (hereinafter called the "Club") to enter into the annexed Player Contract with ALLEN LEAVELL, INC. (hereinafter called the "Company"), and intending the Club to rely hereon, do hereby make the following representations, warranties, and agreements:1. I have read the annexed Player Contract (and any amendments, riders, and addenda thereto), and understand that it calls for the Company to provide my services as a professional basketball player. In consideration of the promises, conditions, and provisions contained in said Player Contract, I hereby expressly accept and agree to be bound by all the terms and conditions thereof.2. The Company has the right to enter into the annexed Player Contract, to grant all the rights therein granted, and to supply my services to the Club pursuant to the terms thereof. I will cause the Company to perform all of its obligations pursuant to the terms of the annexed Player Contract.3. I will perform and supply all of the services which the Company has agreed to perform and supply to the Club pursuant20 to the terms of the annexed Player Contract.146 IN WITNESS WHEREOF, I have executed this personal guarantee this 11 day of DECEMBER, 1984./s/ Allen LeavellWITNESS:/s/ Ray A. Patterson As a member in the NBA, the Rockets played games at the times and places scheduled by the NBA. The Rockets had the right to require petitioner to provide his services at the times and places of scheduled games. The facilities in which games were played were provided by the respective team organizations. The Rockets provided the arena in which its home games were played. The Rockets, through its coach, scheduled the time and place where petitioner was required to attend training camp and practice sessions and provided for the facilities in which they were conducted. The coach determined the type of drills that would be performed by players during training camp and practice sessions.NBA teams like the Rockets generally have 12 players on their active team roster. During a game, only five players from each team are actually playing at any one time. Coaches regularly substitute players during games. The primary object of the team having possession of the ball is to score. 21 This generally requires the five individual players on the basketball court to coordinate their actions. The primary object of the team that does not have possession of the ball is to prevent the offensive team from scoring and to gain possession of the ball. This also generally requires the individual players to coordinate their defensive actions.The coach of the Rockets determined the general game strategy that was to be utilized by the players during games. The coach also had the authority to direct players as to game tactics and the use of specific plays. Because of the fast pace of the game, the players were expected to exercise discretion to adjust their play to meet the immediate circumstances, even if this sometimes required deviation from the coach's directives. The coach had the authority to determine who would play in a game, how much time a player would play, and who would be cut from the team. This authority provided the coach with leverage over players in order to induce them to conform to his directions and expectations.147 During the year in issue, petitioner's regular position on the Rocket's basketball team was "point guard". That position required petitioner22 to take a leadership role during games. The point guard would generally bring the ball up the court and generally provide direction to other team members.When the Rockets paid corporation the compensation required by the 1984 Uniform Player Contract, the Rockets did not withhold income taxes or pay or withhold payroll taxes. For the 1985 calendar year, the Rockets issued corporation a 1985 Form 1099-MISC, Miscellaneous Income, reporting that the Rockets paid corporation $ 204,333.35 in nonemployee compensation during that calendar year. For its fiscal year ended June 30, 1985, corporation filed a Form 1120, U.S. Corporation Income Tax Return, and reported in its gross income all amounts that the Rockets paid corporation during that fiscal year pursuant to the 1984 Uniform Player Contract. Corporation also included in its gross income all compensation that it received during that fiscal year for petitioner's endorsement and promotional services. Corporation's Form 1120 further reported that corporation paid petitioner $ 135,600 during corporation's fiscal year ended June 30, 1985. Corporation withheld both Federal income taxes and Social Security taxes from this amount.For its fiscal23 year ended June 30, 1986, corporation filed a Form 1120 and reported in its gross income all amounts that the Rockets paid corporation during that fiscal year pursuant to the 1984 Uniform Player Contract. Corporation's Form 1120 also reported that corporation paid petitioner $ 100,400 during corporation's fiscal year ended June 30, 1986, and that corporation contributed $ 27,663 to a pension plan.Corporation issued petitioner a 1985 Form W-2, Wage and Tax Statement, reporting that corporation paid petitioner wages of $ 111,400 during the 1985 calendar year and that, with respect to these wages, corporation withheld: (1) Federal income taxes of $ 10,560.37, and (2) Social Security taxes of $ 2,791.80. On petitioner's 1985 Form 1040, he included the wages on line 7, wages, salaries, tips, etc., and included the withheld Federal income taxes on line 57, Federal income taxes withheld.148 Corporation did not pay any expenses incurred for petitioner's travel as a member of the Rockets. These travel expenses were paid directly by the Rockets.Respondent determined that the entire amount paid by the Rockets to corporation during the 1985 calendar year should be included in the income24 of petitioner and, accordingly, increased petitioner's income by $ 92,933 (the difference between (1) the $ 204,333 that the Rockets paid corporation during the 1985 calendar year, and (2) the $ 111,400 that petitioner included in his 1985 gross income as paid to him by corporation during that calendar year). Respondent did not determine any reassignment of income received by corporation for services performed by petitioner other than with respect to the payments from the Rockets. Respondent does not contest the fact that corporation was a separate, legal entity for some purposes; respondent argues that corporation should be disregarded for purposes of the compensation paid to it by the Rockets.OPINIONThe issue before us is whether compensation paid by the Houston Rockets in return for the performance of personal services by petitioner is income to him or to his personal service corporation.6 Whether a personal service corporation should be recognized as the recipient of income for tax purposes has been the subject of numerous cases. We recently had occasion to analyze this issue in the context of professional athletes. See Sargent v. Commissioner, 93 T.C. 572">93 T.C. 572 (1989),25 revd. 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991). The facts in Sargent are analogous to those presented here. The taxpayers in Sargent were professional hockey players who formed personal service corporations and entered into contracts to furnish their services to their personal service corporations. The personal service corporations, in turn, contracted with the professional hockey club (the club) to furnish the services of the individual taxpayers to the club. The individual taxpayers also guaranteed that they would perform these services for the club.In Sargent v. Commissioner, supra, we applied the assignment of income doctrine articulated in Lucas v. Earl, 281 U.S. 111">281 U.S. 111, 114-115149 (1930), in which the Supreme Court held that the predecessor to section 61 taxed salaries, fees, and compensation "to those who earned them", "that the tax could not be escaped by anticipatory arrangements26 and contracts however skilfully devised to prevent the salary when paid from vesting even for a second in the man who earned it", and that "no distinction can be taken according to the motives leading to the arrangement by which the fruits are attributed to a different tree from that on which they grew." This was reaffirmed in United States v. Basye, 410 U.S. 441">410 U.S. 441, 450 (1973):The principle of Lucas v. Earl, that he who earns income may not avoid taxation through anticipatory arrangements no matter how clever or subtle, has been repeatedly invoked by this Court and stands today as a cornerstone of our graduated income tax system. * * See also Commissioner v. Culbertson, 337 U.S. 733">337 U.S. 733, 739-740 (1949) ("the first principle of income taxation * * [is] that income must be taxed to him who earns it").In deciding whether the compensation paid by the club was income of the individual hockey players, as opposed to income of their personal service corporations, we used the test for determining whether the individual players were "employees" of the club, as opposed to being employees of their personal service corporations. 27 The criteria for making this determination are comparable to those used to determine whether an individual is an employee or an independent contractor. Sargent v. Commissioner, 93 T.C. at 578. 7In the employee versus independent contractor analysis, the issue turns on whether the service recipient has the right to control the manner and means by which the services are performed.829 Weber v. Commissioner, 103 T.C. 378">103 T.C. 378, 387 (1994). If the answer is yes, the service provider is an employee. If the 150 answer is no, the service provider is an independent contractor. As an independent contractor, the individual service provider retains control over his activities. This control generally includes the right to grant an intermediate entity the right to control his services. Thus, individual persons who are independent contractors generally retain the right to choose to do business as a corporation. This same flexibility, however, does not exist where there is an employer-employee relationship between the individual service provider and the service recipient. 9If the service provider's relationship with the service recipient28 gives the recipient the actual right to control the manner and means by which services are provided, the service provider cannot, with respect to those same services, simultaneously be an employee of his personal service corporation. Put simply, the individual service provider who is an employee of the recipient of his services cannot transfer control over his activities to his personal service corporation, because he cannot transfer something which he does not have.Sargent was the first case involving a personal service corporation in which we applied the assignment of income doctrine by reference to the common law test for determining whether an employer-employee relationship existed between the service recipient and the individual service provider. The primary consideration for determining whether an individual is an employee of one organization or another is which of the two has the right to control the activities of the individual person whose status is in issue. Sargent v. Commissioner, 93 T.C. at 578. Whenever this issue arises in a setting involving a personal service corporation, there are three parties: The individual service provider, the recipient of the service, and the personal service corporation that has been formed as a legal entity30 through which the individual seeks to offer his services. In this context, it is critical to examine the reality of the relationship between the individual service provider and the recipient of those services.In Sargent, we found that the taxpayers were employees of the club because the activities of the hockey players in question were subject to the control of the club. We, therefore, 151 held that the compensation paid by the club was earned by the taxpayers as individual employees of the club and taxable to them individually. In Sargent, we distinguished previously decided cases that involved the issue of whether compensation paid by the recipient of personal services was income to the individual workers or their personal service corporations, because the issue of whether the service provider was an employee of the service recipient had not been examined. As a result, we found those previous cases inapplicable to our analysis. Sargent v. Commissioner, 93 T.C. at 580-583. 1031 Because our decision in Sargent was reversed by the Court of Appeals for the Eighth Circuit, we will reconsider the legal principles upon which we relied in Sargent. We will begin our analysis by identifying the issues upon which we and the Court of Appeals agree.First, the Court of Appeals accepted our use of the employer-employee analysis as the proper focus for determining whether or not to apply the assignment of income doctrine. Sargent v. Commissioner, 929 F.2d at 1254. Second, the Court of Appeals accepted the principle that the most important single factor for determining the identity of the employer is answered by identifying who has the right to control the manner and means by which the individual's services are performed. Id. at 1256. In this respect, the Court of Appeals held that in order for a personal service corporation to be recognized as the employer: (1) It must have "the right to direct and control" the activities of the individual service provider "in some meaningful sense", and (2) "there must exist between the corporation and the person or entity (club) using the services a contract or 32 similar indicium recognizing 152 the corporation's controlling position." 11Id. at 1256. In this respect, we also agree with the Court of Appeals.33 The Court of Appeals' reversal was based on its holding that the taxpayers were employees of their respective personal service corporations rather than employees of the professional hockey club. Id. at 1254. This holding was based on two points. First, the Court of Appeals concluded that we had used a doctrinaire approach requiring that any individual who provides services as a member of a "team" should be automatically considered an employee of the team organization. Thus, the Court of Appeals stated:It seems to this Court that legal analysis is forgotten if we simply measure the control element of an employment relationship by whether the employee is or is not a member of a superficially defined "team." Eventually, the issue becomes mired in a game of definitions: If the organizational structure is itself mislabeled a "team," a personal service corporation, as a matter of law, is a forbidden tax deferment tool for each and every person providing his or her services to that organization. On the other hand, if the organization to which the services are provided is not defined as a "team," then those same service-providers are free to create a PSC and subject that PSC's legitimacy34 to traditional common law and tax code analysis, regardless of the level of control exerted over those persons by the organization. Such an arbitrary approach is specious at best. [Sargent v. Commissioner, 929 F.2d at 1256.]We agree with the Court of Appeals that the mere use of the word "team" to describe the organization that is the recipient of personal services is not determinative of employer status. However, we do not believe that we applied such a superficial standard in Sargent.In Sargent, we dealt with a specific professional sports organization that owned and operated a professional hockey team in the National Hockey League. In deciding that the taxpayers were employees of the organization that owned and operated the team, we relied on specific facts regarding the taxpayers' relationships with the professional hockey 153 club. 1236 The taxpayers in Sargent argued that, by virtue of their individual personal talents, they retained control of their own playing activities despite the specific elements of control that were retained and exercised by the club over when, where, how, and how much they would play. It was in this 35 factual context that we said that the nature of team sports "must be taken into account in determining the existence of an employer-employee relationship in accordance with common law principles." Sargent v. Commissioner, 93 T.C. at 579. Nowhere in Sargent did we state or imply that the mere description of the service recipient as a "team" would be determinative.13 In light of our findings of fact in Sargent regarding the reality of the relationships between the individual players and the club, we discerned nothing to indicate that the personal service corporations had any "meaningful" control over the performance of the individual hockey players' activities as members of the hockey team. The Court of Appeals' apparent reason for holding that the taxpayers in Sargent were employees of their personal service corporations, as opposed to the club, was the language of the written agreements between the individual taxpayers and their personal service corporations, and between the personal 154 service corporations and the club, whose literal terms37 appeared to recognize the personal service corporations' controlling position as employers. Sargent v. Commissioner, 929 F.2d at 1256-1258. 14 The Court of Appeals did not refer to any other facts that would indicate that the personal service corporations in Sargent had a right to direct and control the activities of the individual taxpayers "in some meaningful sense." While we agree that contract terms are important in determining whether a personal service corporation is to be recognized as the true employer of the individual service provider, we do not believe that the mere existence of such terms in a contract is sufficient when the reality of the relationship is otherwise. As we have previously held:A contract purporting to create an employer-employee relationship will not control where the common law factors (as applied to the facts and circumstances) establish that the relationship does not exist. In Bartels v. Birmingham, * * * [332 U.S. 126">332 U.S. 126 (1947)], the Supreme Court was asked to determine whether certain orchestra members were employees of the orchestra leader or of the operators of various dance halls 38 where they performed. After applying the common law rules to the facts of the case, the Court held that the orchestra leader was the employer (and therefore responsible for the employment tax) despite the formal contractual agreement designating the proprietors of the dance halls as the employers. * * [Professional & Executive Leasing, Inc. v. Commissioner, 89 T.C. 225">89 T.C. 225, 233 (1987), affd. 862 F.2d 751">862 F.2d 751 (9th Cir. 1988).]In Professional & Executive Leasing, the contracts literally purported to give control over the individual service providers to the taxpayer-corporation. Nevertheless, as the Court of Appeals for the Ninth Circuit observed: "The right to control, however, was at best illusory." Professional & Executive Leasing, Inc. v. Commissioner, 862 F.2d at 754.39 155 We will continue to examine all the facts and circumstances in order to determine the reality of who has control over the manner and means by which the individual service provider delivers services. Any other approach would simply elevate form over substance so as to thwart the assignment of income doctrine that requires compensation to be taxed to the person who earns it, regardless of "anticipatory arrangements and contracts however skilfully devised". Lucas v. Earl, 281 U.S. 111">281 U.S. 111, 114-115 (1930). In this respect, we believe that Judge Arnold's dissent in Sargent captured the essence of that case when he wrote: "The idea that the coach issued orders to Sargent and Christoff in their capacity as corporate officers, which orders they then relayed to themselves as corporate employees, is fanciful." Sargent v. Commissioner, 929 F.2d at 1261. After carefully reconsidering our position in Sargent v. Commissioner, supra, in light of its reversal by the Court of Appeals for the Eighth Circuit, we conclude that our approach in Sargent was correct. 15 We now turn to an analysis of the facts in the instant40 case. We first look to what is clearly the most important factor--the right to control the manner and means by which the individual service provider renders the services for which compensation is being paid. 1642 The Rockets wanted to acquire the professional basketball services of petitioner for a term of 2 years beginning in the fall of 1984. Being a member of the NBA, the Rockets were required to use the Uniform Player Contract drafted by the NBA. The variable terms of 156 the contract for petitioner's services were negotiated between petitioner's attorney and the Rockets' general manager. Petitioner wanted the NBA Uniform Player Contract to be between his41 personal service corporation and the Rockets. The Rockets wanted to obtain petitioner's services and did not care if his services were obtained by way of a contract with petitioner's corporation, so long as they were able to secure petitioner's services under the terms and conditions required by the standard NBA Uniform Player Contract. Satisfied that this was possible, they were willing to, and did, enter into a standard player contract with petitioner's corporation. The contract was executed on December 11, 1984. The preprinted terms of the 1984 Uniform Player Contract are identical to player contracts entered into with individual players. However, the first paragraph identifies Allen Frazier Leavell, Inc., 17 as the party who is referred to thereafter as the "Player". The remaining portions of the contract refer to the obligations of the "player" in a way that clearly indicates that the language of the contract contemplated binding a specific individual person with basketball playing skills to perform services for and under the specific supervision of the Rockets. The first numbered paragraph begins by stating that "The Club hereby employs the Player as a skilled basketball player for a term of two year(s)", and paragraph 9 states thatThe Player represents and agrees that he has extraordinary and unique skill and ability as a basketball player, that the services to be rendered by him hereunder cannot be replaced or the loss thereof adequately compensated for in money damages, and that any breach by the Player of this contract will cause irreparable injury to the Club and to its assignees. * * The contract requires the "player" to render services under conditions that give the Rockets a great degree of control over his basketball services and many of his personal activities to 43 the extent that they might affect his playing ability or reflect on the Rockets or the NBA. For example, the contract requires that the "player": Attend each training camp; play scheduled games; report at the time and place fixed by the Rockets in good physical condition; give his best services and loyalty to the Rockets; observe and comply with all 157 requirements of the Rockets respecting conduct of its team and its players; play only for the Rockets or its assignees; keep in good physical condition throughout each season; agree to give immediate notice of any injury suffered by him; submit to a medical examination and treatment by a physician designated by the Rockets; and report to any other club to whom his contract has been assigned.The contract also requires that the "player": Be neatly and fully attired in public and conduct himself according to the highest standards on and off the court; refrain from any conduct that is detrimental to the best interests of the Rockets or of the association; not engage in sports endangering his health or safety; allow the Rockets or the association to take his picture at such times as the Rockets or association may designate; make himself44 available for interviews by representatives of the media conducted at reasonable times; agree to participate in all other reasonable promotional activities of the Rockets and the association; and conform his personal conduct to standards of good citizenship, good moral character, and good sportsmanship.Under the contract, the Rockets had the right to impose fines, sanctions, and other disciplinary measures on the "player" for violating the requirements of the Rockets respecting conduct of its team and players. The contract also provides that the association could impose fines, sanctions, and other disciplinary measures.The terms of the Uniform Player Contract exhibit an intent to give the Rockets a degree of control over the activities of an individual "player" that transcends the control most employers have over their employees. However, as written, the December 11, 1984, player contract, designated Allen Frazier Leavell, Inc., as the "player" rather than petitioner. The 1984 Uniform Player Contract made no specific reference to petitioner as an individual. The Rockets recognized this. While the Rockets were willing to obtain petitioner's services by executing a contract with 45 his corporation, the Rockets were not willing to jeopardize the rights that they would have otherwise obtained by contracting with an individual player. This problem was solved by requiring petitioner to individually execute a written agreement with the Rockets, which was titled "Personal Guarantee By Player". In this agreement, petitioner promised that he would personally perform 158 the services required of the "player" in accordance with the terms and conditions of the December 11, 1984, player contract. The consideration for petitioner's personal agreement to be bound to the terms of the NBA Uniform Player Contract was the Rockets' promise to pay compensation for his basketball services to corporation. Without petitioner's personal agreement, which was also executed on December 11, 1984, the Rockets would not have signed the Uniform Player Contract in question. With the agreement, the Rockets were in the same position with respect to their rights to control petitioner's activities as if he had personally signed the player contract. 18 Given these facts, the personal service corporation's rights to control the manner and means by which petitioner performed the basketball 46 and related activities required by the player contract were at best illusory.Petitioner argues that his point guard position placed him in a leadership position where he could control decisions about his and his teammates' playing tactics. However, the discretion inherent in petitioner's position as a skilled professional basketball47 player is not sufficient to remove him from employee status. It is well recognized that the extent of control necessary for a professional to qualify as an employee is less than that necessary for a nonprofessional. Professional & Executive Leasing, Inc. v. Commissioner, 862 F.2d 751 (9th Cir. 1988), affg. 89 T.C. 225">89 T.C. 225 (1987). The type of discretion that petitioner had as a player is not sufficient to negate the overall control of the Rockets, who retained the right to direct petitioner's activities as to where, when, and how he was to perform services. The Rockets' coach had the right to control player activity during training camp, practice sessions, and games. If the Rockets were dissatisfied with petitioner's response to directives, they had the power to reduce his playing time, fine him, suspend him, or ultimately remove him from the team. 1948 159 Where, as in this case, an individual taxpayer attempts to provide his services through a personal service corporation, the determination of whether income derived from such services should be attributed to the individual taxpayer or his personal service corporation depends on who is the actual employer of the individual taxpayer. This determination must be based on all the facts and circumstances. Based on all the facts and circumstances in this case, we hold that petitioner was the employee of the Rockets. It follows that the compensation paid by the Rockets in return for petitioner's services is attributable to petitioner.Decision will be entered under Rule 155.CHABOT, PARKER, COHEN, GERBER, PARR, HALPERN, and BEGHE, JJ., agree with this majority opinion.CHIECHI, J., concurs in the result only.APPENDIXNATIONAL BASKETBALL ASSOCIATION UNIFORM PLAYER CONTRACT(Rookie or Veteran--Two or More Seasons)THIS AGREEMENT made this 11 day of December 1984 by and between the Houston Rockets (hereinafter called the "Club"), a member of the National Basketball Association (hereinafter called the "Association") and Allen Frazier Leavell, Inc.49 whose address is shown below (hereinafter called the "Player").WITNESSETH:In consideration of the mutual promises hereinafter contained, the parties hereto promise and agree as follows:1. The Club hereby employs the Player as a skilled basketball player for a term of two year(s) from the 1st day of September 1984. The Player's employment during each year covered by this contract shall include 160 attendance at each training camp, playing the games scheduled for the Club's team during each schedule season of the Association, playing all exhibition games scheduled by the Club during and prior to each schedule season, playing (if invited to participate) in each of the Association's All-Star Games and attending every event (including, but not limited to, the All-Star Game luncheon and/or banquet) conducted in association with such All-Star Games, and playing the playoff games subsequent to each schedule season. Players other than rookies will not be required to attend training camp earlier than twenty-eight days prior to the first game of each of the Club's schedule seasons. Rookies may be required to attend training camp at an earlier date. Exhibition games shall not50 be played on the three days prior to the opening of the Club's regular season schedule, nor on the day prior to a regularly scheduled game, nor on the day prior to and the day following the All-Star Game. Exhibition games prior to each schedule season shall not exceed eight (including intra-squad games for which admission is charged) and exhibition games during each regularly scheduled season shall not exceed three.2. The Club agrees to pay the Player for rendering services described herein the sum of see addendum per year, (less all amounts required to be withheld from salary by Federal, State and local authorities and exclusive of any amount which the Player shall be entitled to receive from the Player Playoff Pool) in twelve equal semi-monthly payments beginning with the first of said payments on November 1st of each season above described and continuing with such payments on the first and fifteenth of each month until said sum is paid in full; provided, however, if the Club does not qualify for the playoffs, the payments for the year involved which would otherwise be due subsequent to the conclusion of the schedule season shall become due and payable immediately after the51 conclusion of the schedule season.3. The Club agrees to pay all proper and necessary expenses of the Player, including the reasonable board and lodging expenses of the Player while playing for the Club "on the road" and during training camp if the Player is not then living at home. The Player, while "on the road" (and at training camp only if the Club does not pay for meals directly), shall be paid a meal expense allowance as set forth in the Agreement currently in effect between the National Basketball Association and National Basketball Players Association. No deductions from such meal expense allowance shall be made for meals served on an airplane. While the Player is at training camp (and if the Club does not pay for meals directly), the meal expense allowance shall be paid in weekly installments commencing with the first week of training camp. For the purposes of this paragraph, the Player shall be considered to be "on the road" from the time the Club leaves its home city until the time the Club arrives back at its home city. In addition, the Club agrees to pay $ 50.00 per week to the Player for the four weeks prior to the first game of each of the Club's schedule seasons that52 the Player is either in attendance at training camp or engaged in playing the exhibition schedule.4. The Player agrees to observe and comply with all requirements of the Club respecting conduct of its team and its players, at all times whether 161 on or off the playing floor. The Club may, from time to time during the continuance of this contract, establish reasonable rules for the government of its players "at home" and "on the road," and such rules shall be part of this contract as fully as if herein written and shall be binding upon the Player. For any violation of such rules or for any conduct impairing the faithful and thorough discharge of the duties incumbent upon the Player, the Club may impose reasonable fines upon the Player and deduct the amount thereof from any money due or to become due to the Player during the season in which such violation and/or conduct occurred. The Club may also suspend the Player for violation of any rules so established, and, upon such suspension, the compensation payable to the Player under this contract may be reduced in the manner provided in the Agreement currently in effect between the National Basketball Association and National Basketball53 Players Association. When the Player is fined or suspended, he shall be given notice in writing, stating the amount of the fine or the duration of the suspension and the reason therefor.5. The Player agrees (a) to report at the time and place fixed by the Club in good physical condition; (b) to keep himself throughout each season in good physical condition; (c) to give his best services, as well as his loyalty to the Club, and to play basketball only for the Club and its assignees; (d) to be neatly and fully attired in public and always to conduct himself on and off the court according to the highest standards of honesty, morality, fair play and sportsmanship; and (e) not to do anything which is detrimental to the best interests of the Club or of the Association.6. (a) If the Player, in the judgment of the Club's physician, is not in good physical condition at the date of his first scheduled game for the Club, or if, at the beginning of or during any season, he fails to remain in good physical condition (unless such condition results directly from any injury sustained by the Player as a direct result of participating in any basketball practice or game played for the Club during54 such season), so as to render the Player, in the judgment of the Club's physician, unfit to play skilled basketball, the Club shall have the right to suspend such Player until such time as, in the judgment of the Club's physician, the Player is in sufficiently good physical condition to play skilled basketball. In the event of such suspension, the annual sum payable to the Player for each season during such suspension shall be reduced in the same proportion as the length of the period during which, in the judgment of the Club's physician, the Player is unfit to play skilled basketball, bears to the length of such season.(b) If the Player is injured as a direct result of participating in any basketball practice or game played for the Club, the Club will pay the Player's reasonable hospitalization and medical expenses (including doctor's bills), provided that the hospital and doctor are selected by the Club, and provided further that the Club shall be obligated to pay only those expenses incurred as a result of continuous medical treatment caused solely by and relating directly to the injury sustained by the Player. If, in the judgment of the Club's physician, the Player's injuries55 resulted directly from playing for the Club and render him unfit to play skilled basketball, then, so long as such unfitness continues, but in no event after the Player 162 has received his full salary for the season in which the injury was sustained, the Club shall pay to the Player the compensation prescribed in paragraph 2 of this contract for such season. The Club's obligations hereunder shall be reduced by any workmen's compensation benefits (which, to the extent permitted by law, the Player hereby assigns to the Club) and any insurance provided for by the Club whether paid or payable to the Player, and the Player hereby releases the Club from any and every other obligation or liability arising out of any such injuries.(c) The Player hereby releases and waives every claim he may have against the Association and every member of the Association, and against every director, officer, stockholder, trustee, partner, and employee of the Association and/or any member of the Association (excluding persons employed as players by any such member), arising out of or in connection with any fighting or other form of violent and/or unsportsmanlike conduct occurring (on or adjacent to56 the playing floor or any facility used for practices or games) during the course of any practice and/or any exhibition, championship season, and/or play-off game.7. The Player agrees to give the Club's coach, or to the Club's physician, immediate notice of any injury suffered by him, including the time, place, cause and nature of such injury.8. Should the Player suffer an injury as provided in the preceding section, he will submit himself to a medical examination and treatment by a physician designated by the Club. Such examination when made at the request of the Club shall be at its expense, unless made necessary by some act or conduct of the Player contrary to the terms of this contract.9. The Player represents and agrees that he has extraordinary and unique skill and ability as a basketball player, that the services to be rendered by him hereunder cannot be replaced or the loss thereof adequately compensated for in money damages, and that any breach by the Player of this contract will cause irreparable injury to the Club and to its assignees. Therefore, it is agreed that in the event it is alleged by the Club that the Player is playing, attempting or threatening to play, or57 negotiating for the purpose of playing, during the term of this contract, for any other person, firm, corporation or organization, the Club and its assignees (in addition to any other remedies that may be available to them judicially or by way of arbitration) shall have the right to obtain from any court or arbitrator having jurisdiction, such equitable relief as may be appropriate, including a decree enjoining the Player from any further such breach of this contract, and enjoining the Player from playing basketball for any other person, firm, corporation or organization during the term of this contract. In any suit, action or arbitration proceeding brought to obtain such relief, the Player does hereby waive his right, if any, to trial by jury, and does hereby waive his right, if any, to interpose any counterclaim or set-off for any cause whatever.10. The Club shall have the right to sell, exchange, assign or transfer this contract to any other professional basketball Club and the Player agrees to accept such sale, exchange, assignment or transfer and to faithfully perform and carry out this contract with the same force and effect as if it had been entered into by the Player with58 the assignee Club instead 163 of with this Club. The Player further agrees that, should the Club contemplate the sale, exchange, assignment or transfer of this contract to another professional basketball Club or Clubs, the Club's physician may furnish to the physicians and officials of such other Club or Clubs all relevant medical information relating to the Player.11. In the event that the Player's contract is sold, exchanged, assigned or transferred to any other professional basketball Club, all reasonable expenses incurred by the Player in moving himself and his family from the home city of the Club to the home city of the Club to which such sale, exchange, assignment or transfer is made, as a result thereof, shall be paid by the assignee Club. Such assignee Club hereby agrees that its acceptance of the assignment of this contract constitutes agreement on its part to make such payment.12. In the event that the Player's contract is assigned to another Club the Player shall forthwith be notified orally or by a notice in writing, delivered to the Player personally or delivered or mailed to his last known address, and the Player shall report to the assignee Club within forty-eight59 hours after said notice has been received or within such longer time for reporting as may be specified in said notice. If the Player does not report to the Club to which his contract has been assigned within the aforesaid time, the Player may be suspended by such Club and he shall lose the sums which would otherwise be payable to him as long as the suspension lasts.13. The Club will not pay and the Player will not accept any bonus or anything of value for winning any particular Association game or series of games or for attaining a certain position by the Club's team in the standing of the league operated by the Association as of a certain date, other than the final standing of the team.14. This contract shall be valid and binding upon the Club and the Player immediately upon its execution. The Club agrees to file a copy of this contract with the Commissioner of the Association prior to the first game of the schedule season or within forty-eight (48) hours of its execution, whichever is later; provided, however, the Club agrees that if the contract is executed prior to the start of the schedule season and if the Player so requests, it will file a copy of this contract with the 60 Commissioner of the Association within thirty (30) days of its execution, but not later than the date hereinabove specified. If pursuant to the Constitution and By-Laws of the Association, the Commissioner disapproves this contract within ten (10) days after the filing thereof in his office, this contract shall thereupon terminate and be of no further force or effect and the Club and the Player shall thereupon be relieved of their respective rights and liabilities thereunder.15. The Player and the Club acknowledge that they have read and are familiar with Section 35 of the Constitution of the Association, a copy of which, as in effect on the date of this Agreement, is attached hereto. Such section provides that the Commissioner and the Board of Governors of the Association are empowered to impose fines upon the Player and/or upon the Club for causes and in the manner provided in such section. The Player and the Club, each for himself and itself, promises promptly to pay 164 to the said Association each and every fine imposed upon him or it in accordance with the provisions of said section and not permit any such fine to be paid on his or its behalf by anyone other than the61 person or Club fined. The Player authorizes the Club to deduct from his salary payments any fines imposed on or assessed against him.16. Notwithstanding any provisions of the Constitution or of the By-Laws of the Association, it is agreed that if the Commissioner of the Association shall, in his sole judgment, find that the Player has bet, or has offered or attempted to bet, money or anything of value on the outcome of any game participated in by any Club which is a member of the Association, the Commissioner shall have the power in his sole discretion to suspend the Player indefinitely or to expel him as a player for any member of the Association and the Commissioner's finding and decision shall be final, binding, conclusive and unappealable. The Player hereby releases the Commissioner and waives every claim he may have against the Commissioner and/or the Association, and against every member of the Association, and against every director, officer, stockholder, trustee and partner of every member of the Association, for damages and for all claims and demands whatsoever arising out of or in connection with the decision of the Commissioner.17. The Player and the Club acknowledge62 and agree that the Player's participation in other sports may impair or destroy his ability and skill as a basketball player. The Player and the Club recognize and agree that the Player's participation in basketball out of season may result in injury to him. Accordingly, the Player agrees that he will not engage in sports endangering his health or safety (including, but not limited to, professional boxing or wrestling, motorcycling, moped-riding, auto racing, sky-diving, and hang-gliding); and that, except with the written consent of the Club, he will not engage in any game or exhibition of basketball, football, baseball, hockey, lacrosse, or other athletic sport, under penalty of such fine and suspension as may be imposed by the Club and/or the Commissioner of the Association. Nothing contained herein shall be intended to require the Player to obtain the written consent of the Club in order to enable the Player to participate in, as an amateur, the sport of golf, tennis, handball, swimming, hiking, softball or volleyball.18. The Player agrees to allow the Club or the Association to take pictures of the Player, alone or together with others, for still photographs, motion pictures63 or television, at such times as the Club or the Association may designate, and no matter by whom taken may be used in any manner desired by either of them for publicity or promotional purposes. The rights in any such pictures taken by the Club or by the Association shall belong to the Club or the Association, as their interests may appear. The Player agrees that, during each playing season, he will not make public appearances, participate in radio or television programs or permit his picture to be taken or write or sponsor newspaper or magazine articles or sponsor commercial products without the written consent of the Club, which shall not be withheld except in the reasonable interests of the Club or professional basketball. Upon request, the Player shall consent to and make himself available for interviews by representatives of the media conducted at 165 reasonable times. In addition to the foregoing, the Player agrees to participate, upon request, in all other reasonable promotional activities of the Club and the Association.19. The Player agrees that he will not, during the term of this contract, directly or indirectly entice, induce, persuade or attempt to entice, induce64 or persuade any player or coach who is under contract to any member of the Association to enter into negotiations for or relating to his services as a basketball player or coach, nor shall he negotiate for or contract for such services, except with the prior written consent of such member of the Association. Breach of this paragraph, in addition to the remedies available to the Club, shall be punishable by fine to be imposed by the Commissioner of the Association and to be payable to the Association out of any compensation due or to become due to the Player hereunder or out of any other moneys payable to him as a basketball player. The Player agrees that the amount of such fine may be withheld by the Club and paid over to the Association.20. (a) In the event of an alleged default by the Club in the payments to the Player provided for by this contract, or in the event of an alleged failure by the Club to perform any other material obligation agreed to be performed by the Club hereunder, the Player shall notify both the Club and the Association in writing of the facts constituting such alleged default or alleged failure. If neither the Club nor the Association shall cause such alleged65 default or alleged failure to be remedied within five (5) days after receipt of such written notice, the National Basketball Players Association shall, on behalf of the Player, have the right to request that the dispute concerning such alleged default or alleged failure be referred immediately to the Impartial Arbitrator in accordance with Article XXI, Section 2(h), of the Agreement currently in effect between the National Basketball Association and National Basketball Players Association. If, as a result of such arbitration, an award issues in favor of the Player, and if neither the Club nor the Association complies with such award within ten (10) days after the service thereof, the Player shall have the right, by a further written notice to the Club and the Association, to terminate this contract.(b) The Club may terminate this contract upon written notice to the Player (but only after complying with the waiver procedure provided for in subparagraph (f) of this paragraph (20) if the Player shall do any of the following:(1) at any time, fail, refuse or neglect to conform his personal conduct to standards of good citizenship, good moral character and good sportsmanship, to keep66 himself in first class physical condition or to obey the Club's training rules; or(2) at any time, fail, in the sole opinion of the Club's management, to exhibit sufficient skill or competitive ability to qualify to continue as a member of the Club's team (provided, however, that if this contract is terminated by the Club, in accordance with the provisions of this subparagraph, during the period from the fifty-sixth day after the first game of any schedule season of the Association through the end of such schedule season, the Player shall be entitled to receive his full salary for said season); or166 (3) at any time, fail, refuse or neglect to render his services hereunder or in any other manner materially breach this contract.(c) If this contract is terminated by the Club by reason of the Player's failure to render his services hereunder due to disability caused by an injury to the Player resulting directly from his playing for the Club and rendering him unfit to play skilled basketball, and notice of such injury is given by the Player as provided herein, the Player shall be entitled to receive his full salary for the season in which the injury was sustained, less all workmen's67 compensation benefits (which, to the extent permitted by law, the Player hereby assigns to the Club) and any insurance provided for by the Club paid or payable to the Player by reason of said injury.(d) If this contract is terminated by the Club during the period designated by the Club for attendance at training camp, payment by the Club of the Player's board, lodging and expense allowance during such period to the date of termination and of the reasonable travelling expenses of the Player to his home city and the expert training and coaching provided by the Club to the Player during the training season shall be full payment to the Player.(e) If this contract is terminated by the Club during any playing season, except in the case provided for in subparagraph (c) of this paragraph 20, the Player shall be entitled to receive as full payment hereunder a sum of money which, when added to the salary which he has already received during such season, will represent the same proportionate amount of the annual sum set forth in paragraph 2 hereof as the number of days of such season then past bears to the total number of days of such schedule season, plus the reasonable travelling expenses68 of the Player to his home.(f) If the Club proposes to terminate this contract in accordance with subparagraph (b) of this paragraph 20, the applicable waiver procedure shall be as follows:(1) The Club shall request the Association Commissioner to request waivers from all other Clubs. Such waiver request must state that it is for the purpose of terminating this contract and it may not be withdrawn.(2) Upon receipt of the waiver request, any other Club may claim assignment of this contract at such waiver price as may be fixed by the Association, the priority of claims to be determined in accordance with the Association's Constitution or By-Laws.(3) If this contract is so claimed, the Club agrees that it shall, upon the assignment of this contract to the claiming Club, notify the Player of such assignment as provided in paragraph 12 hereof, and the Player agrees he shall report to the assignee Club as provided in said paragraph 12.(4) If the contract is not claimed, the Club shall promptly deliver written notice of termination to the Player at the expiration of the waiver period.(5) To the extent not inconsistent with the foregoing provisions of this subparagraph (f) the waiver69 procedures set forth in the Constitution and By-Laws of the Association, a copy of which, as in effect on the date of this agreement, is attached hereto, shall govern.(g) Upon any termination of this contract by the Player, all obligations of the Club to pay compensation shall cease on the date of termination, 167 except the obligation of the Club to pay the Player's compensation to said date.21. In the event of any dispute arising between the Player and the Club relating to any matter arising under this contract, or concerning the performance or interpretation thereof (except for a dispute arising under paragraph 9 hereof), such dispute shall be resolved in accordance with the Grievance and Arbitration Procedure set forth in the Agreement currently in effect between the National Basketball Association and the National Basketball Players Association.22. Nothing contained in this contract or in any provision of the Constitution or By-Laws of the Association shall be construed to constitute the Player a member of the Association or to confer upon him any of the rights or privileges of a member thereof.AddendumSalary1984-85 $ 132,000Bonus (Limited To $ 18,00070 Total)If Rockets win 30 games, Player earns $ 1,000 and $ 1,000 for each win beyond 30 for the 1984-85 season.If Player averages more than ten minutes per game for the 1984-85 season, player earns $ 5,000.If Player is among the top three on the Club in average assists for the 1984-85 season, player earns $ 5,000.If the Player is among the top three on the club in average steals for the 1984-85 season, Player earns $ 5,000.Any bonus earned will be paid upon completion of the 1985 NBA playoffs.Salary1985-86 $ 200,00023. This contract contains the entire agreement between the parties and there are no oral or written inducements, promises or agreements except as contained herein.EXAMINE THIS CONTRACT CAREFULLY BEFORE SIGNING ITIN WITNESS WHEREOF the Player has hereunto signed his name and the Club has caused this contract to be executed by this duly authorized officer.Witnesses:/s/ Ray Patterson/s/ James A. FoleyBy Ray PattersonTitle: President and General Manger168 /s/ Lance Jay LuchnickAttorney At Law/s/ Allen LeavellAllen Leavell PlayerPlayer's Address 6735 Gentle Bend, Houston, Tx. 77069RECEIVED & RECORDED71 DEC 13, 1984/s/ David J. SternCOMMISSIONEREXCERPT FROM CONSTITUTION OF THE ASSOCIATION MISCONDUCT OF OFFICIALS AND OTHERS35. (a) The provisions of this Section shall govern all members, and officers, managers, coaches, players and other employees of a member and all officials and other employees of the Association, all hereinafter referred to as "persons." Each member shall provide and require in every contract with any of its officers, managers, coaches, players or other employees that they shall be bound and governed by the provisions of this Section. Each member, at the direction of the Board of Governors or the Commissioner, as the case may be, shall take such action as the Board or the Commissioner may direct in order to effectuate the purposes of this Section.(b) The Commissioner shall direct the dismissal and perpetual disqualification from any further association with the Association or any of its members, of any person found by the Commissioner after a hearing to have been guilty of offering, agreeing, conspiring, aiding or attempting to cause any game of basketball to result otherwise than on its merits.(c) Any person who gives, makes, issues, authorizes or endorses72 any statement having, or designed to have, an effect prejudicial or detrimental to the best interests of basketball or of the Association or of a member or its team, shall be liable to a fine not exceeding $ 1,000, to be imposed by the Board of Governors. The member whose officer, manager, coach, player or other employee has been so fined shall pay the amount of the fine should such person fail to do so within ten (10) days of its imposition.(d) If in the opinion of the Commissioner any other act or conduct of a person at or during a pre-season, championship, playoff or exhibition game has been prejudicial to or against the best interests of the Association or the game of basketball, the Commissioner shall impose upon such person a fine not exceeding $ 1,000 in the case of a member, officer, manager or coach of a member, or $ 10,000 in the case of a player or other employee, or may order for a time the suspension of any such person from any connection or duties with pre-season, championship, playoff or exhibition games, or he may order both such fine and suspension.(e) The Commissioner shall have the power to suspend for a definite or indefinite period, or to impose a fine not 73 exceeding $ 1,000, or inflict both such suspension and fine upon any person who, in his opinion, shall have been guilty of conduct prejudicial or detrimental to the Association.169 (f) The Commissioner shall have the power to levy a fine of $ 1,000 upon any Governor or Alternate Governor who, in the opinion of the Commissioner, has been guilty of making statements to the press damaging to the Association.(g) Any person who, directly or indirectly, entices, induces, persuades or attempts to entice, induce, or persuade any player, coach, trainer, general manager or any other person who is under contract to any other member of the Association to enter into negotiations for or relating to his services or negotiates or contracts for such services shall, on being charged with such tampering, be given an opportunity to answer such charges after due notice and the Commissioner shall have the power to decide whether or not the charges have been sustained; in the event his decision is that the charges have been sustained, then the Commissioner shall have the power to suspend such person for a definite or indefinite period, or to impose a fine not exceeding $ 5,000, or inflict both such74 suspension and fine upon any such person.(h) Any person who, directly or indirectly, wagers money or anything of value on the outcome of any game played by a team in the league operated by the Association shall, on being charged with such wagering, be given an opportunity to answer such charges after due notice, and the decision of the Commissioner shall be final, binding and conclusive and unappealable. The penalty for such offense shall be within the absolute and sole discretion of the Commissioner and may include a fine, suspension, expulsion and/or perpetual disqualification from further association with the Association or any of its members.(i) Except for a penalty imposed under subparagraph (h) of this paragraph 35, the decisions and acts of the Commissioner pursuant to paragraph 35 shall be appealable to the Board of Governors who shall determine such appeals in accordance with such rules and regulations as may be adopted by the Board in its absolute and sole discretion. SWIFTSWIFT, J., concurring in the result only: Upon further consideration and with the benefit of the opinion of the U.S. Court of Appeals for the Eighth Circuit in Sargent v. Commissioner, 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991),75 revg. 93 T.C. 572">93 T.C. 572 (1989), I believe the majority opinion incorrectly relies too heavily on employee-independent contractor principles in analyzing the relationships of petitioner and his personal service corporation (PSC) with the Rockets. I would decide the issue before us on the basis of the two-pronged control or contractual analysis of Johnson v. Commissioner, 78 T.C. 882">78 T.C. 882 (1982), affd. without published opinion 734 F.2d 20">734 F.2d 20 (9th Cir. 1984), that traditionally has been used in analyzing the issue of the assignment of income as between a PSC and its individual owners. Under that analysis and based on certain undisputed 170 and particularly pertinent facts in this case, I believe that a conclusion would be required herein that petitioner individually, and not petitioner's PSC, is to be charged with the income relating to petitioner's services as a basketball player for the Houston Rockets.Employee-Independent Contractor AnalysisAfter expressly finding that petitioner entered into an exclusive employment contract with his PSC for his basketball services (see majority op. p. 142) and 76 that petitioner's PSC entered into a contract to provide basketball services to the Rockets (majority op. p. 142), the majority's analysis focuses on the "control" that is exercised by the Rockets and by the Rockets' coach over petitioner as a basketball player, and the majority concludes that petitioner was an "employee" of the Rockets with regard to such services and therefore that the income received from the Rockets should be charged or assigned to petitioner individually, not to petitioner's PSC. This analysis is directly contrary to and inconsistent with the majority's findings that petitioner had an employment contract with his PSC for his basketball services and that petitioner's PSC contracted to provide basketball services to the Rockets. Moreover, the majority opinion overlooks the fact that the team or coach's control that is exercised over players on competitive sports teams is inherent in team sports. Such control has little, if anything, to do with whether the player is an employee of, or an independent contractor with, the team. Such control simply reflects the way team sports are played.Whether one considers a Little League baseball team, a high school basketball77 or wrestling team, a college football team, or a professional basketball, baseball, football, hockey, or soccer team, one must acknowledge that with each team sport, with each team, with each coach, and with each player, in order for the team to win and to be competitive, the team and the coach control many aspects of the game and of the individual player's participation in each game and on the team. Such control, in the context of competitive team sports, is simply the way the game is played by everyone--male and female, volunteer and professional, independent contractor and employee. The team simply plays better when 171 the players are coached, when the players play as a team, and when the coach has control over most aspects of the game and of the individual player's participation on the team.Upon further consideration of participation in team sports in the above light, it is evident that the control that is exercised by teams and by coaches over individual players on the teams has little to do with whether a particular individual player is an employee or an independent contractor of the team (and it certainly tells us little to nothing about whether the player is an employee78 of a PSC). In each situation, the game is played essentially the same. The coach's control is essentially the same. The nature of and degree of control that the team and coach exercise are not affected by whether the player treats himself or herself as a direct employee of the team or as an employee of his or her PSC to which the employee is attempting to attribute the income received from the team.It should be noted that the parties herein, with regard to petitioner's relationship with the Rockets, do not make an employee-independent contractor argument or analysis in their briefs, and they do not here ask us to determine whether petitioner was an employee or independent contractor of the Rockets. We are asked here simply to apply traditional assignment-of-income principles to the facts before us, to evaluate the bona fide nature of petitioner's alleged contract with his PSC (not just the existence of some amorphous oral contract with no terms), and to evaluate whether the written contract with the Rockets for petitioner's basketball services was, in substance and reality, a contract with petitioner, not with petitioner's PSC.Assignment of IncomeEver since the Court of 79 Appeals for the Tenth Circuit's decision in United States v. Empey, 406 F.2d 157 (10th Cir. 1969), it has been clear that even though PSC's may be generally recognized as viable corporations for Federal income tax purposes under Moline Properties, Inc. v. Commissioner, 319 U.S. 436">319 U.S. 436 (1943), Federal income tax adjustments may still be appropriate with regard to particular income received for particular services of the individual owners of the PSC's. 172 See, e.g., Keller v. Commissioner, 77 T.C. 1014">77 T.C. 1014 (1981), affd. 723 F.2d 58">723 F.2d 58 (10th Cir. 1983), in which the taxpayer's PSC was recognized as a legitimate corporation and some income received by the PSC was taxed to the PSC, but certain other income received by the PSC was taxed to the individual owner of the PSC.Under the case authority, the fact that a PSC is a viable corporation and has a legitimate business purpose will not preclude the application of the assignment of income doctrine or adjustments under section 482 with respect to particular income received by the PSC where the contractual rights of the PSC80 vis-a-vis the service recipient with regard to the particular income in question are not established by valid contracts--first, between the service provider and the PSC; and second, between the PSC and the service recipient. See Johnson v. Commissioner, 78 T.C. at 890.As we explained in Johnson v. Commissioner, supra at 891, a case involving facts similar to the facts of this case:Given the inherent impossibility of logical application of a per se actual earner test, a more refined inquiry has arisen in the form of who controls the earning of the income. An examination of the case law from Lucas v. Earl hence reveals two necessary elements before the * * [PSC], rather than its * * * [service provider], may be considered the controller of the income. First, the * * * [service provider] must be * * * an employee of the * * * [PSC] whom the * * * [PSC] has the right to direct or control in some meaningful sense. Second, there must exist between the * * * [PSC] and the * * * [service recipient] a contract or similar indicium recognizing the * * * [PSC's] controlling position. [Citations and fn. refs. omitted.]In Sargent v. Commissioner, 929 F.2d at 1256-1257,81 the above statement of this traditional test was approved and quoted verbatim by the Court of Appeals for the Eighth Circuit, and the Court of Appeals explained further--the Tax Court * * [in Johnson] ultimately held the contracts to be dispositive of the issue of control:* * * Ultimately, * * [the taxpayer] was required to pay individual income tax on the entire amount paid to his PSC, but only because his PSC had no contractual arrangement with the * * * [service recipient]. Said the Tax Court regarding the second prong of the "control" test: "[c]rucial is the fact that there was no contract or agreement between the * * * [service recipient] and [the PSC]." We are not faced with such a dilemma in this 173 case. Not only did * * [the service provider] have a contractual arrangement with their respective PSC's, thereby passing the first prong of the analysis, each PSC also had a contractual relationship with the * * * [service recipient]. Consistent with its analysis in the past, the Tax Court in Johnson concluded that the existence of bona fide contracts between the parties satisfied the requisite elements of control. * * * [Citation omitted; emphasis82 added.]In Sargent v. Commissioner, supra, our opinion at 93 T.C. 572">93 T.C. 572 (1989) was reversed by the Court of Appeals for the Eighth Circuit, but mainly because the Eighth Circuit rejected the team control test that we had enunciated in our opinion. Because the Eighth Circuit concluded that the facts of Sargent established the existence of the necessary bona fide contracts between the service providers and the PSC's and between the PSC's and the service recipients, the income was treated by the Eighth Circuit as earned by the PSC's.The facts of this case are more similar to the facts of Johnson v. Commissioner, supra, and, in my opinion, this case should be controlled by the two-pronged control or bona fide contract test set forth in Johnson v. Commissioner, supra.In this case, petitioner did not have a written contract with his PSC, and petitioner has not established any of the specific terms and conditions of a bona fide oral contract between petitioner and his PSC.A written contract did exist with the Rockets, but in that written contract certain corporate formalities were not adhered83 to and significant irregularities appear in that petitioner, not his PSC, signed the contract as the player and contracting party. On the first page of the 1984 Uniform Player Contract with the Rockets (1984 Contract), petitioner's individual given first name, his given middle name, and his last name (namely, "Allen Frazier Leavell") are typed in as the "Player" and as a party to the contract. The word "Inc." is handwritten next to petitioner's full given name without any initials or date indicating when the word "Inc." was added to the document. Also, when the word "Inc." was added in handwriting, petitioner's given middle name was not deleted from the contract.On the signature line on the last page of the 1984 Contract with the Rockets, only petitioner's individual name appears as the "Player" and as a party to the contract. There is no indication on the signature line that petitioner was signing 174 the 1984 Contract as an officer or representative of his PSC. Nowhere in the 1984 Contract does the correct name of petitioner's PSC (namely, Allen Leavell, Inc.) appear.In connection with the 1984 Contract, the Rockets required that petitioner individually execute a personal84 guarantee in which petitioner personally and individually agreed to play professional basketball for the Rockets. Under the terms of the personal guarantee, petitioner agreed to be personally bound by all of the terms and conditions set forth in the 1984 Contract, and petitioner agreed to perform the professional basketball services described in the 1984 Contract.Earlier, in 1983, with respect to petitioner's professional basketball services for the Rockets during the 1983-84 basketball season, a written contract (1983 Contract) with the Rockets was entered into reflecting terms similar to the terms of the 1984 Contract. On the first page of the 1983 Contract, petitioner's PSC is named as the "Player" and as a party to the contract. On the signature line of the 1983 Contract, however, only petitioner's individual name appears as the "Player" and as a party to the contract. There is no indication on the signature line that petitioner was signing the 1983 Contract as an officer or representative of his PSC.Most, if not all, of the specific terms and the specific language of the 1984 Contract with the Rockets implicitly speak in terms of petitioner individually as the "Player" 85 governed by the contract. For example, only petitioner, individually, not his PSC, could possibly play "10 minutes per game" or be "one of the top three players in assists or steals".Additionally, the Rockets did not rely on the contract with petitioner's PSC but required petitioner to sign a personal guarantee, thereby indicating the Rocket's reliance not on the 1984 Contract, but rather reliance on the personal guarantee and on petitioner individually for performance under the contract.The majority opinion defers to the trial judge's finding that an oral contract existed between petitioner and his PSC. The mere existence of a contract, however, is in my opinion insufficient in and of itself to establish the bona fide nature of the contract. Petitioner must prove that the contract contained essential terms that establish the bona fide nature of the contract. Those terms, if they existed, are missing from the record in this case.175 In summary, my suggested analysis in this case in favor of respondent is consistent with the decided cases in this area, and it is based on the cumulative effect of the following three points: (1) The record is inadequate to determine the substance86 and terms of any bona fide oral contract between petitioner and petitioner's PSC; (2) the 1984 Contract with the Rockets contained irregularities inconsistent with petitioner's position in this case that he had a bona fide contract with his PSC that controlled the performance of his basketball services for the Rockets; and (3) the Rockets required petitioner individually to provide a personal guarantee.I emphasize that the contractual irregularities and deficiencies discussed and highlighted in this side opinion are not disputed. They are acknowledged in the majority opinion, and they should, in my opinion, control the outcome of this case. They lead to the conclusion that petitioner, not his PSC, is to be charged with the income received from the Rockets.Section 269AIn 1982, Congress enacted section 269A, applicable to years beginning after December 31, 1982, in response to court decisions involving the relationship between the assignment of income doctrine and the use of closely held PSC's. Congress intended that section 269A overturn the decisions reached in cases like Keller v. Commissioner, 77 T.C. 1014">77 T.C. 1014 (1981), affd. 723 F.2d 58">723 F.2d 58 (10th Cir. 1983),87 where an individual service provider owner of a PSC attempts to attribute income to the PSC that was in substance earned by the individual service provider. H. Conf. Rept. 97-760, at 633-634 (1982), 2 C.B. 600">1982-2 C.B. 600, 679-680.Generally, section 269A allows respondent to reallocate income from a PSC to a service-provider owner if substantially all of the services are performed for one other entity, and if the principal purpose for forming the PSC or the principal use of the PSC is to avoid or evade Federal income tax. It is significant that in enacting section 269ACongress did not inject into that remedial statute the employee-independent contractor analysis and factors that the majority utilizes in its analysis (i.e., the employee-versus-independent-contractor status of the individual service provider to the service recipient is simply not a factor).176 The applicability and scope of section 269A has not yet been addressed in any published opinion. In this case, respondent, without adequate explanation, has conceded that the facts before us are not within the scope of section 269A. I suggest that in future similar situations respondent not shy away88 from utilizing the statutory provisions Congress has provided to address adjustments involving the assignment of income between PSC's and individual owners of the PSC's. LAROLARO, J., dissenting: The majority clings tightly to the principles underlying the "team-sports doctrine" developed in Sargent v. Commissioner, 93 T.C. 572">93 T.C. 572 (1989), revd. 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991). 1 With this adherence, I cannot agree and must respectfully dissent.89 The judicially created team-sports doctrine is an unprecedented alternative test first applied in Sargent v. Commissioner, supra. This doctrine negated the first prong of the traditional two-prong control test which had evolved from the assignment of income rule enunciated in Lucas v. Earl, 281 U.S. 111">281 U.S. 111, 115 (1930). 291 The majority claims a disavowal of the team-sports doctrine, but espouses a chameleonic "manner and means" test under which a team athlete will be precluded from incorporating his or her services. Although the majority acknowledges that "the mere use of the word 'team' to describe the organization that is the recipient of personal 177 services is not determinative of employer status", majority op. p. 152, I am unable to envision a situation when a member of a "team" could incorporate his or her services under the majority's manner and means test. 3 The manner and means test is merely the Sargent team-sports doctrine reintroduced and redesigned under yet another name. I ask myself "What's in a name?" and I conclude "that which we call a rose By any other name would smell as sweet". Shake-speare, Romeo and Juliet, act II, 90 sc. ii, 43. The typical personal service corporation (PSC) scenario involves three players: A PSC, its shareholder/service provider, and a service recipient. As explained below, the focus of the traditional assignment of income methodology is on the relationships between the service provider and his or her PSC, on the one hand, and the PSC and the service recipient, on the other. 4 The team-sports doctrine changes this focus. The team-sports doctrine concentrates primarily on the relationship between the service provider and the service recipient. The manner and means test does likewise. Indeed, the manner and means test forces the Court to examine meticulously the relationship between a service recipient and service provider, and determine whether the service recipient "controls" the service provider notwithstanding a bona fide employment contract that was executed between the service 178 provider and his or her PSC. In the case of a member of a team sport, such as petitioner, he or she will never meet the majority's manner and means test due to, 92 for example: (1) The perceived control that a coach has over the team's members, (2) the need for team members to blend their talents and perform as a team in order to win, and (3) the inherent impossibility for each member of the team to schedule independently when, where, and how he or she will furnish his or her services to the team.93 The Court developed the team-sports doctrine in Sargent v. Commissioner, supra at 580, based on the Court's belief that the nature of team sports "involves a high level of control over player activity by coaches and managers". Id. at 580. The majority opinion states that it is not applying this doctrine to the facts at hand. Instead, the majority pronounces, a service provider (and not his or her PSC) is the earner of income if the facts and circumstances show that "the service recipient has the right to control the manner and means by which the services are performed." Majority op. pp. 149, 154-155. In making its pronouncement, the majority appears to recognize that it is inappropriate to deny the right to incorporate to an individual merely because he or she is a member of a team. At the same time, however, the majority adopts a manner and means test that leads to the same result. The majority's attempt to dignify its result by utilizing this facts and circumstances test is not persuasive. The rules that apply to assignment of income cases involving a PSC and its sole shareholder/service provider have been firmly embedded94 in our jurisprudence throughout the last 65 years. In Justice Oliver Wendell Holmes' seminal opinion in Lucas v. Earl, 281 U.S. 111">281 U.S. 111 (1930), the Supreme Court enunciated the bedrock principle that income is taxed to him or her who earns it. Assignments of income, "however skillfully devised", cannot escape Federal income taxation by anticipatory arrangements. Id. at 115; see also United States v. Basye, 410 U.S. 441">410 U.S. 441, 449-451 (1973); Commissioner v. Culbertson, 337 U.S. 733">337 U.S. 733, 739-740 (1949). Pursuant to the Court's directive, courts continue to dissect skillfully devised arrangements to determine the true earner of income. The instant case, involving a professional basketball player and his wholly owned personal service corporation, requires this Court to do just that. In so doing, we must: (1) Consider Justice 179 Holmes' opinion in Lucas v. Earl, supra, and its progeny, and (2) reconsider the core of our opinion in Sargent v. Commissioner, supra.In Lucas v. Earl, supra, a husband and wife95 agreed to be joint tenants of all the property acquired by them during their marriage. The husband later earned salary and fees from personal service contracts to which his wife was not a party. The husband allocated 50 percent of this income to his wife pursuant to their agreement. Respondent disregarded their agreement and determined that the husband was taxable on 100 percent of his personal service income. Id. at 113-114. In upholding respondent's determination, the Supreme Court stated:There is no doubt that * * * [a predecessor to section 61] could tax salaries to those who earned them and provide that the tax could not be escaped by anticipatory arrangements and contracts however skillfully devised to prevent the salary when paid from vesting even for a second in the man who earned it. That seems to us the import of the statute before us and we think that no distinction can be taken according to the motives leading to the arrangement by which the fruits are attributed to a different tree from that on which they grew. [Lucas v. Earl, supra at 114-115.]This assignment of income doctrine, however, does not exist96 in a vacuum. The doctrine coexists with other, equally well-settled rules of tax law. For example, in Moline Properties, Inc. v. Commissioner, 319 U.S. 436">319 U.S. 436, 438-439 (1943), the Supreme Court stated that a wholly owned corporation is a separate taxable entity that can operate only through its employees, and an individual can minimize his or her taxes through a corporate form of business. As long as the corporation is involved in a legitimate business activity, the Court stated, any tax advantages properly flowing from incorporation are free from attack by the Government.5 As the Court stated:The doctrine 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 180 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. * * * [Moline Properties, Inc. v. Commissioner, supra at 438-439;97 fn. refs. omitted.] With the tension between Lucas v. Earl, supra, and Moline Properties, Inc. v. Commissioner, supra, in mind, this Court pronounced: "The policy favoring the recognition of corporations as entities independent of their shareholders requires that we not ignore the corporate form so long as the corporation actually conducts business." 6Keller v. Commissioner, 77 T.C. 1014">77 T.C. 1014, 1031 (1981), affd. 723 F.2d 58">723 F.2d 58 (10th Cir. 1983).98 The majority disregards this pronouncement. Indeed, the taxpayer today is similar to the taxpayer in Keller v. Commissioner, supra.In Keller v. Commissioner, supra, respondent challenged a wholly owned professional corporation formed by a pathologist to hold his partnership interest in a medical partnership. Contemporaneously with forming this corporation, the pathologist agreed to render his services to the corporation in exchange for the corporation's paying him certain annual compensation. Id. at 1016-1017. Respondent argued then, as she similarly argues today, that the pathologist was taxable on 100 percent of the income received by the professional corporation under the doctrines of lack of business purpose and substance over form, and because the pathologist was the "true earner" of the income. Respondent argued that the pathologist's formation of the professional corporation accompanied by his execution of the employment contract constituted an anticipatory assignment of income to the corporation. Id. at 1030.99 This Court rejected respondent's arguments. The Court recognized the existence of the pathologist's professional corporation and refused to reallocate the income from the corporation to the service-provider/pathologist under the assignment of income doctrine. The Court observed that an employer/employee relationship existed in the case, stating that "We find that an employment relationship was created in this case by the employment agreement and that it was 181 maintained by the parties to the agreement after the execution". 7Id. at 1032.100 Our approach in Keller v. Commissioner, supra with respect to the assignment of income issue was followed in Haag v. Commissioner, 88 T.C. 604">88 T.C. 604, 610-614 (1987), affd. without published opinion 855 F.2d 855">855 F.2d 855 (8th Cir. 1988); Bagley v. Commissioner, 85 T.C. 663">85 T.C. 663, 674-676 (1985), affd. 806 F.2d 169">806 F.2d 169 (8th Cir. 1986); Johnson v. Commissioner, 78 T.C. 882">78 T.C. 882, 889-892 (1982), affd. without published opinion 734 F.2d 20">734 F.2d 20 (9th Cir. 1984); Pacella v. Commissioner, 78 T.C. 604">78 T.C. 604, 622 (1982); and Pflug v. Commissioner, T.C. Memo 1989-615">T.C. Memo. 1989-615. In each of these cases, the Court held that income was not reallocable from a PSC to the service-provider under the assignment of income doctrine if the service-provider met both prongs of a two-prong control test evolving from case law beginning with Lucas v. Earl, 281 U.S. at 115. 8103 Johnson v. Commissioner, supra at 891; see also sec. 31.3121(d)-1(c)(2), 101 Employment Tax Regs. Under this two-prong test, a 182 PSC controls the service-provider, and, hence, earns the income, if: (1) The service-provider is an employee of the PSC, and the PSC has the right to direct and control him or her in a meaningful sense, 9 see, e.g., Vnuk v. Commissioner, 621 F.2d 1318">621 F.2d 1318, 1320-1321 (8th Cir. 1980), affg. T.C. Memo 1979-164">T.C. Memo. 1979-164; Bagley v. Commissioner, supra at 675-676; and (2) the PSC and the service-recipient have a contract or similar indicium recognizing the controlling position of the PSC, see, e.g., Pacella v. Commissioner, supra at 622; see also Haag v. Commissioner, supra at 612-614 (second prong met despite absence of written or formal contract between PSC and service-recipient; employment agreement existed between PSC and service-provider, and the service-recipient recognized the PSC as the entity through which the service-provider performed his services); Johnson v. Commissioner, supra at 893 (PSC was not the controller of the service-provider; as stated102 by the Court: "Crucial is the fact that there was no contract or agreement between the * * [service-recipient] and * * * [the PSC]"). In connection with this two-prong test, Professors Bittker and Eustice have stated thatAlthough the contours of this bifurcated control over the income test remain to be developed by the courts, a contract between a personal service corporation and its shareholder-employee should ordinarily be effective unless it (1) fails to supersede a prior contract between the shareholder-employee and the customers to whom the services are rendered, (2) is disregarded in practice, or (3) is ineffective under local law because the corporation cannot legally practice in the area. [Bittker & Eustice, Federal Income Taxation of Corporations and Shareholders, par 2.07[2], at 2-26 (5th ed. 1987); fn. ref. omitted.]As she did in Sargent v. Commissioner, 93 T.C. 572">93 T.C. 572 (1989), revd. 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991), respondent urges us to reject this two-prong test and apply the team-sports doctrine that she advocated in Sargent104 .10 Currently viewing this issue in the light of a different record, and with the benefit of the 183 opinion of the Court of Appeals for the Eighth Circuit, we should decline respondent's invitation to abandon the traditional assignment of income analysis. Instead, we should decide the Sargent v. Commissioner, supra, issue according to the traditional analysis, generally developed by the Supreme Court and this Court, and the contract theory enunciated by the Court of Appeals for the Eighth Circuit in Sargent v. Commissioner, 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991). We should not depart from this analysis because: (1) Lucas v. Earl, supra, and its progeny, provides a solid framework on which to decide the issue herein, (2) contrary tests, such as the teamsports doctrine and the manner and means test, are not adequate barometers for resolving a claim of an assignment of income because they disregard any valid contractual relationship existing between the employer and employee, and (3) it is inconsistent to apply a contrary method to an athlete merely because he or she is a member of a judicially defined team.105 In Sargent v. Commissioner, supra, each taxpayer was a professional hockey player who formed a wholly owned PSC to negotiate with his professional hockey team, the club. 11106 Each taxpayer entered into an employment agreement with his PSC whereby the taxpayer agreed that he would exclusively perform services for the PSC as a professional hockey player and consultant. On the same day, each PSC entered into an agreement with the club whereby the PSC primarily agreed to furnish to the club the services of its employee/taxpayer as a hockey player and consultant; in return, the club agreed to pay the PSC specified remuneration. Each taxpayer, his PSC, and the club also entered into an agreement whereby: (1) The PSC represented to the club that the PSC had the 184 right to cause its employee to perform services on its behalf, and (2) the PSC would cause the employee to perform the agreed-upon services to the club in order to fulfill the PSC's obligations under the agreement. 12 Following the execution of these agreements, each taxpayer played hockey for the club pursuant to his exclusive agreement with his PSC, and the club remitted payments for each taxpayer's services directly to his PSC. Each PSC, in turn, paid a portion of the payments to the taxpayer and contributed another portion of the payments to the PSC's pension plan. Each PSC withheld Federal income taxes and withheld and paid employment taxes in connection with the payments that it made to its employee/taxpayer. Sargent v. Commissioner, 93 T.C. at 573-577.107 The Court held that each taxpayer was taxable on the entire amount paid to his PSC by the club. In so holding, the Court stated that the facts presented "a classic situation for the application of the assignment of income doctrine articulated in Lucas v. Earl, 281 U.S. 111 (1930), and its progeny," and turned aside our traditional analysis for deciding assignment of income cases, reasoning that "the nature of team sports is a critical element which must be taken into account in determining the existence of an employer/employee relationship in accordance with common law principles".13Sargent v. Commissioner, 93 T.C. at 579-581, 583. Based on this "critical element", the Court proceeded to hold that each taxpayer was controlled by his team, the club, rather than his PSC. The Court held that each taxpayer was an employee of the club, rather than his PSC, and was taxable on the amounts paid by the club to his PSC for his services. Id. at 583.108 185 The Court of Appeals for the Eighth Circuit disagreed. The appellate court firmly rejected the team-sports doctrine and focused on the contractual relationship between each taxpayer and his PSC. Sargent v. Commissioner, 929 F.2d at 1258. In holding that the amounts were taxable to the PSC's, the appellate court determined that section 31.3121(d)-1(c)(2), Employment Tax Regs., and this Court's prior opinions, directed that the PSC's (and not the club) were the employers of the taxpayers because both prongs of the two-prong test were met; namely:(1) Each taxpayer was an employee of his PSC whom the PSC had the right to direct or control in some meaningful way; and(2) a contract or similar indicium recognizing the PSC's controlling position existed between each PSC and the club.Respondent contends that the Court of Appeals for the Eighth Circuit erroneously reversed our decision in Sargent v. Commissioner, supra. Respondent argues in her brief that "the Eighth Circuit employed a superficial form over substance analysis relying on the mere existence of the taxpayers' contracts with their respective * * * [PSC's], rather than the control109 imposed directly on the taxpayers by the team's coaching staff and management." (Emphasis added.) The majority agrees. Majority op. p. 154. Both are mistaken. The PSC's right to control its employee/taxpayer in Sargent v. Commissioner, supra, was evidenced by more than the "mere existence" of the employment contract. The contractual relationships at issue there met the two-prong control test mentioned above. 14 The majority's holding to the contrary fails to appreciate the well-settled principle that a wholly owned corporation is an entity separate and apart from its shareholder. 186 See, e.g., Moline Properties, Inc. v. Commissioner, 319 U.S. 436">319 U.S. 436 (1943). The majority's disregard for this well-settled principle is clearly seen from its following statement: "we believe that Judge Arnold's dissent in Sargent captured the essence of that case when he wrote: 'The idea that the coach issued orders to Sargent and Christoff in their capacity as corporate officers, which orders they then relayed to themselves as corporate employees, is fanciful.'" Majority op. p. 155. As a point of fact, this "fanciful" scenario is present (and, with the exception110 of today, respected) in any solely owned corporation setting where the sole shareholder is also an officer and employee of the corporation. The fact that an individual shareholder may serve simultaneously in the role of officer and employee of his or her wholly owned corporation is indisputable and flows naturally from the fact that he or she may form such a corporation.111 The majority states that "the most important factor" for deciding the issue at hand is the "right to control the manner and means by which the individual service provider renders the services for which compensation is being paid." Majority op. p. 155. I disagree. The fact that the majority is mistaken is seen from our opinions outside of Sargent v. Commissioner, supra. For example, the facts of the instant case are similar to the facts of Johnson v. Commissioner, 78 T.C. 882">78 T.C. 882 (1982), affd. without published opinion 734 F.2d 20">734 F.2d 20 (9th Cir. 1984). In Johnson the taxpayer (Johnson) was a basketball player with the San Francisco Warriors (Warriors) of the National Basketball Association (NBA). In 1974, Johnson signed a contract with an unrelated corporation (PMSA) that: (1) Gave PMSA the right to Johnson's services in professional sports for 6 years starting on August 16, 1974, (2) gave PMSA the right to control Johnson's services in professional sports, and (3) obligated PMSA to pay Johnson $ 1,500 a month. Johnson also signed a Uniform Player Contract with the Warriors that obligated him to play basketball for the Warriors112 for the 1974-75 and 1975-76 basketball seasons. Id. at 884. In the following year, 1975, Johnson assigned his rights under the 1974 Uniform Player Contract to a second unrelated corporation (EST). The Warriors remitted the contract payments for Johnson's services directly to EST following that assignment. In deciding the assignment of income issue there, the Court did not discuss the majority's means and methods test. The 187 Court simply applied the two-prong test. With respect to the first prong, the Court looked solely to the contracts to determine whether it was met:we accept arguendo that the * * * [PMSA-Johnson] agreement was a valid contract which required the payments with respect to * * * [Johnson's] performance as a basketball player ultimately to be made to PMSA or EST. * * * We also accept arguendo that the * * * [PMSA-Johnson] agreement gave PMSA a right of control over * * * [Johnson's] services * * . Thus, the first element is satisfied. * * [Johnson v. Commissioner, supra at 891-892.] 15113 Likewise, in Pflug v. Commissioner, T.C. Memo 1989-615">T.C. Memo. 1989-615, a case involving a taxpayer/actress, the Court passed on whether the taxpayer was an employee of a PSC or an independent contractor. 16 As we had done in Johnson v. Commissioner, supra, the Court looked exclusively to the two-prong control test and concluded that the taxpayer was the PSC's employee. The Court relied solely on the contract between the taxpayer and the PSC and held that the PSC had the right to control the taxpayer by virtue of its employment contract with her. As later observed by the Court of Appeals for the Eighth Circuit in Sargent v. Commissioner, 929 F.2d at 1257:This Court is perplexed to find that those same contractual arrangements which were dispositive of the issue of "control" in Pflug were summarily discarded in the case before us. By the same token, those same "team" factors which were dispositive of the issue of control in the case before us were not even discussed in Pflug.Was not Joanne Pflug a part of a team every bit as "controlled" as Sargent and Christoff? Like a hockey team in which different114 players assume different roles to insure success, the members of Pflug's team included the cast, writers, directors, and producers all working toward the common goal 188 of producing a successful TV series. More importantly, just as a hockey player has a generalized set of plays tailored to fit his talents and the talents of his teammates, so, too, Ms. Pflug's "plays" included movements carefully choreographed to mesh with other cast members, a script prepared for her to follow, cue cards to insure that little or no deviation from the designed "play" occurred, and numerous retakes to guarantee that ultimate control vested in the hands of the studio, not Ms. Pflug's PSC. Nevertheless, the Tax Court concluded that Ms. Pflug was an employee of her PSC.There can be little question that Ms. Pflug was part of a team under more stringent production controls than those placed on either Sargent or Christoff by the Club. But, as the Tax Court concluded, " * * by virtue of the contract [Pflug] entered with Charwool [the PSC], Charwool had the requisite right to control [Pflug]." * * * Appellants' contractual arrangements, which were every bit as bona fide as those entered into by Ms. 115 Pflug, should and do provide the requisite control for Appellants to be considered employees of their respective PSCs. [Fn. ref. and citation omitted.]116 Accordingly, reverting to the traditional approach and applying the two-prong control test to the case at hand, I would hold that both prongs were met. With regard to the first prong, petitioner was corporation's employee, and corporation had the right to (and in fact did) control him in a meaningful sense. Corporation was a valid corporation formed under the laws of Texas for legitimate business purposes; i.e., to serve as petitioner's employer for his basketball services, personal appearances, and endorsement opportunities. 17 Corporation also continuously operated in a business-like manner, e.g., corporation followed corporate formalities, had its own checking account, filed tax returns, incurred liabilities, had a payroll, and entered into contracts. Although petitioner may have formed corporation, in part, with an eye towards minimizing taxation, "one may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose that pattern which will best pay the Treasury; there is not even a patriotic duty to increase one's taxes." Helvering v. Gregory, 69 F.2d 809">69 F.2d 809, 810 (2d Cir. 1934), affd. 293 U.S. 465">293 U.S. 465 (1934).117 189 With regard to petitioner's relationship with corporation, petitioner was corporation's employee. Petitioner agreed to provide his exclusive basketball services to third parties in his capacity as an employee of corporation, and corporation had the right to "sell" petitioner's services to any team during the time period specified in the 1984 Uniform118 Player Contract. Corporation also had the right to designate the professional basketball team for which petitioner would play basketball and had the right to dictate the time and place of petitioner's personal appearances and endorsement opportunities. Although petitioner did not introduce into evidence a written employment contract between himself and corporation, I, as the trier of fact, found the trial witness' testimony on the existence of such an employment agreement to be credible and undisputed by respondent. The following facts also exemplify the existence of an employment agreement between corporation and petitioner: (1) Corporation was specifically formed to serve as petitioner's employer for his basketball services, personal appearances, and endorsement opportunities; (2) Mr. Luchnick negotiated the 1984 Uniformed Player Contract, and did so in his capacity as one of corporation's officers; (3) Mr. Patterson signed the 1984 Uniform Player Contract on behalf of the Rockets, and did so with the understanding that the Rockets were obtaining petitioner's basketball services in his capacity as an employee of corporation; (4) the Rockets dealt with corporation and respected 119 both its corporate form and its employer/employee relationship with petitioner; (5) corporation issued petitioner a 1985 Form W-2 to inform him that it had paid him wages during the 1985 calendar year (corporation would have issued petitioner a 1985 Form 1099-MISC if corporation had wanted to inform petitioner that it had paid him nonemployee compensation during that year); and (6) petitioner reported his compensation from corporation as wage income.That petitioner was an employee of corporation is further seen from the NBA and the Rockets' recognition of corporation as petitioner's employer. The record is barren of any suggestion or implication that petitioner, corporation, or the Rockets ignored the employment agreement under which corporation employed petitioner. When a taxpayer, such as petitioner, has exercised considerable bargaining power in arm's-length 190 negotiations over the manner in which he or she will provide his or her services to a recipient, the Court should weigh heavily the parties' belief in the type of employment relationship that they created. Penn v. Howe-Baker Engrs., Inc., 898 F.2d 1096">898 F.2d 1096, 1103 n.9 (5th Cir. 1990) (parties' 120 intent is a "significant factor" when weighing the common law factors that distinguish an employee from an independent contractor).18 The majority has not done so. 19121 In connection with the second prong of the two-part test, the PSC (corporation) and the service-recipient (Rockets) had a contract or similar indicium recognizing the controlling position of corporation. The 1984 Uniform Player Contract evidenced the relationship between corporation and the Rockets and was reached following arm's-length negotiations between Mr. Patterson and Mr. Luchnick. In negotiating the 1984 Uniform Player Contract, Mr. Patterson was acting as an officer of the Rockets, and Mr. Luchnick was acting as an officer of corporation. By virtue of the 1984 Uniform Player Contract, the Rockets recognized and appreciated that petitioner was an employee of corporation, and respected the employer/employee relationship existing between corporation and petitioner. The Rockets also issued corporation a 1985 Form 1099-MISC, reporting the amount of compensation that the Rockets paid to corporation during the 1985 calendar year, and did not pay or withhold payroll or income taxes on this compensation. Corporation, in turn, issued petitioner a 1985 Form W-2 reporting the amount of compensation that it had paid to him during that calendar year.In conclusion, I would hold that 122 the $ 204,333 is not includable in petitioner's gross income because both prongs of the two-prong control test were met. Because the majority chooses to reach a contrary result by adopting and applying 191 a result-oriented manner and means test, I respectfully dissent.HAMBLEN, JACOBS, and WELLS, JJ., agree with this dissent. Footnotes. This case was reassigned to Judge Robert P. Ruwe↩ by order of the Chief Judge.1. In addition to their salary from playing basketball, well-known players in the NBA can earn money through endorsements.↩2. Respondent argues that petitioner has failed to prove that an agreement between petitioner and corporation actually existed. Petitioner testified that such an agreement existed but admitted that it was never put into writing. There was no evidence regarding the date of the agreement or whether it was for a specific period of time or terminable at the will of either party. There was also no evidence regarding the method or means by which such nonwritten agreement was entered into. The trial judge, based upon the evidence, concluded that there was an agreement between petitioner and corporation, and we will follow his finding that the agreement existed.↩3. Basketball seasons for teams in the NBA begin in one calendar year and end in the following calendar year.↩4. The entire Dec. 11, 1984, Uniform Player Contract is attached as the appendix.↩5. Petitioner's signature on the 1984 Uniform Player Contract appears immediately above the designation "Allen Leavell Player" and his home address. While petitioner's signature does not explicitly indicate that he was signing in the capacity of a corporate representative or agent, petitioner testified that he intended to sign in his capacity as a corporate officer. The trial judge accepted petitioner's testimony on this point, and we will follow his finding.↩6. Respondent has not argued and has disavowed reliance on sec. 269A↩.7. As we have previously stated:While the cases which deal with the common law factors usually involve a determination of whether a person is an employee or an independent contractor, the principles are equally applicable to determine by whom an individual is employed. [Professional & Executive Leasing, Inc. v. Commissioner, 89 T.C. 225">89 T.C. 225, 232 (1987), affd. 862 F.2d 751">862 F.2d 751↩ (9th Cir. 1988); fn. ref. and citation omitted.]8. Throughout this opinion, we describe the test as the right to control the "manner and means" by which the services are performed. This test is also often described as control over the "method and means", "details and means", and various other formulations. See Weber v. Commissioner, 103 T.C. 378">103 T.C. 378, 388-389 (1994); Professional & Executive Leasing, Inc. v. Commissioner, 89 T.C. at 231-232; sec. 31.3121(d)-1(c)(2), Employment Tax Regs.↩9. Whether an individual taxpayer is classified as an independent contractor or as an employee has important income and employment tax consequences, many of which would be nullified if employees were able to alter their tax status simply by forming a personal service corporation.↩10. In both Haag v. Commissioner, 88 T.C. 604">88 T.C. 604 (1987), affd. without published opinion 855 F.2d 855">855 F.2d 855 (8th Cir. 1988), and Keller v. Commissioner, 77 T.C. 1014">77 T.C. 1014 (1981), affd. 723 F.2d 58">723 F.2d 58 (10th Cir. 1983), the individual taxpayers, prior to the formation of their personal service corporations, were partners in medical partnerships. As partners, the manner and means by which the services were performed were not controlled by the patients or clients of the taxpayers. Similarly, in Pacella v. Commissioner, 78 T.C. 604">78 T.C. 604 (1982), the taxpayer was a medical professional who provided services to patients who had no right to control the manner and means by which the services were performed. In Johnson v. Commissioner, 78 T.C. 882">78 T.C. 882 (1982), affd. without published opinion 734 F.2d 20">734 F.2d 20 (9th Cir. 1984), there was no contractual relationship between the personal service corporation and the team. Therefore, it was not necessary that we address the issue of whether the team or the personal service corporation had the right to control the manner and means by which the taxpayer provided his basketball services to the team. See infra↩ note 11.11. In Johnson v. Commissioner, supra at 893, we found that this second prong of the two-part test had not been met. We found that there was no contract between the taxpayer's personal service corporation and the service recipient. Accordingly, for purposes of argument, we assumed, without deciding, that the first prong of the two-part test had been satisfied--i.e., that the personal service corporation had the right to direct and control the taxpayer's activities in "some meaningful sense." Id. at 891-892. In Johnson, we stated:We accept arguendo that the * * * [personal service corporation] agreement [with the taxpayer] was a valid contract * * . We also accept arguendo that the * * agreement gave * * * [the personal service corporation] a right of control over [the taxpayer's] services * * * [Id.↩]12. Included in our findings of fact was that:Each memorandum of agreement gave the club the right to sell, transfer or assign, or loan out the services of Sargent and Christoff, respectively.Each memorandum of agreement provided that Sargent and Christoff, respectively, would not, without the club's consent, engage in any other athletic sport nor make any public appearances, sponsorships, etc., relating to the services performed for the club.The club provided Sargent and Christoff with uniforms and hockey equipment during the years in issue. As between the club and petitioners, the club controlled the scheduling of the games in which the Minnesota North Stars team would play. During a game, the coach of the club had the responsibility of deciding which players would play and for how long and the strategy of play. The coach was also responsible for conducting the practices which the players were required to attend. Training camps were held by the club and were run by the coach with the assistance of the general manager. If a player with a contract failed to show up at training camp, he could be fined pursuant to the NHL rules. [Sargent v. Commissioner, 93 T.C. 572">93 T.C. 572, 577 (1989), revd. 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991).]We also found that each of the individual taxpayers guaranteed to the club that he would personally render the services called for in the contracts between their personal service corporations and the club. Id.↩ at 574, 576.13. As we have stated:Whether or not an employer-employee relationship exists is a question which must be determined on the basis of the specific facts and circumstances involved. Simpson v. Commissioner, 64 T.C. 974">64 T.C. 974, 984 (1975); Ellison v. Commissioner, 55 T.C. 142">55 T.C. 142, 152 (1970); Hand v. Commissioner, 16 T.C. 1410">16 T.C. 1410, 1414 (1951). Sec. 31.3121(d)-1(c)(3), Employment Tax Regs. * * * [Professional & Executive Leasing, Inc. v. Commissioner, 89 T.C. 225">89 T.C. 225, 232 (1987), affd. 862 F.2d 751">862 F.2d 751 (9th Cir. 1988).]See also Weber v. Commissioner, 103 T.C. 378">103 T.C. 378, 386-387↩ (1994).14. The Court of Appeals for the Eighth Circuit's opinion perceives an inconsistency between our opinions in Sargent and Pflug v. Commissioner, T.C. Memo 1989-615">T.C. Memo. 1989-615. Sargent v. Commissioner, 929 F.2d 1252">929 F.2d 1252, 1257 (8th Cir. 1991). The issue before the Court in Pflug was whether the taxpayer (an actress) was an employee of her husband's wholly owned production corporation, as the taxpayer contended, or whether the taxpayer was an independent contractor subject to self-employment tax, as the Government contended. Considering only those arguments, on that narrow issue, in light of the particular facts presented, the Court in Pflug held that the taxpayer was an employee of her husband's wholly owned corporation. The assignment of income doctrine was not an issue in Pflug and neither party argued that the ultimate recipient of the taxpayer's personal services, as opposed to her husband's corporation, was her employer. The opinion in Pflug does not even cite Sargent. However, if one were to still perceive any inconsistency between Sargent and Pflug, it should be clear that our holding in Sargent↩, which was reviewed by the full Court, embodies this Court's position as opposed to any perceived inconsistent statement in a memorandum opinion.15. In Golsen v Commissioner, 54 T.C. 742">54 T.C. 742, 757 (1970), affd. 445 F.2d 985">445 F.2d 985↩ (10th Cir. 1971), we stated that we will follow a Court of Appeals' decision that is squarely in point where appeal lies to that court. In the instant case, venue for appeal lies to the Court of Appeals for the Fifth Circuit.16. Factors commonly considered by courts in determining the existence of the employer-employee relationship are: (1) The right to control the details of the work; (2) furnishing the tools and the workplace; (3) withholding taxes, workmen's compensation, and unemployment insurance funds; (4) right to discharge; and (5) permanency of the relationship. Professional & Executive Leasing, Inc. v. Commissioner, 862 F.2d at 753 (citing United States v. Silk, 331 U.S. 704">331 U.S. 704, 714-716 (1947); Simpson v. Commissioner, 64 T.C. 974">64 T.C. 974, 984-985 (1975)).Although each factor is important, the test usually considered fundamental is set out in a Treasury regulation:"Generally, such relationship exists when the person for whom services are performed has the right to control and direct the individual who performs the services, not only as to the result to be accomplished by the work but also as to the details and means by which that result is accomplished. That is, an employee is subject to the will and control of the employer not only as to what shall be done but how it shall be done. In this connection, it is not necessary that the employer actually direct or control the manner in which the services are performed; it is sufficient if he has the right to do so." [Id. (quoting sec. 31.3121(d)-1(c)(2), Employment Tax Regs.↩).]17. On the written contract, the term "Inc." was inserted by handwriting.↩18. It is unclear from the record whether the Rockets were aware of, or even inquired about, the terms of the agreement between petitioner and his corporation. Had they inquired, they would have known that there was no written contract giving Allen Frazier Leavell, Inc., rights to petitioner's services. It is doubtful that the Rockets would have relied on an unwritten agreement, the terms of which may have existed only in petitioner's mind. However, by requiring petitioner's personal written agreement that he would individually provide the services and meet the obligation required of the "player", pursuant to the Dec. 11, 1984, Uniform Player Contract, these potential problems were obviated.↩19. The employer-employee relationship between the Rockets and petitioner is further evidenced by the fact that the Rockets, in association with the NBA of which it was a member, provided petitioner and other Rockets basketball players the facilities for training camps, practices, games, and paid the players' transportation, housing, and meal costs while players were attending away games. Likewise, the 2-year duration of the 1984 Uniform Player Contract is consistent with our finding that an employer-employee relationship existed between the Rockets and petitioner. See supra↩ note 16.1. I use the term "team-sports doctrine" to refer to the rationale of Sargent v. Commissioner, 93 T.C. 572">93 T.C. 572 (1989), revd. 929 F.2d 1252">929 F.2d 1252 (8th Cir. 1991), that effectively precludes a "team member" from incorporating his or her personal services. Although the majority opinion states that "Nowhere in Sargent did we state or imply that the mere description of the service recipient as a 'team' would be determinative", majority op. p. 153, the practical effect of this Court's majority opinion in Sargent v. Commissioner, supra↩ is that the personal services furnished by a team-sports member to his or her personal service corporation will not be recognized for Federal income tax purposes.2. As stated in the majority opinion: "Sargent was the first case involving a personal service corporation in which * * * [the Court] applied the assignment of income doctrine by reference to the common law test for determining whether an employer-employee relationship existed between the service recipient and the individual service provider." Majority op. p 150; but see infra note 12. Although the majority opinion purports to reapply this common law test to the facts at bar, it does not explain the need to abandon the traditional analysis for assignment of income cases. By failing to do so, the majority opinion does not justify its need to depart from the traditional methodology. Moreover, the majority opinion fails to address adequately a critical part of the reasoning of the Court of Appeals in Sargent v. Commissioner, supra, finding error in the fact that this Court did not apply such a common law test to the "team member" in Pflug v. Commissioner, T.C. Memo. 1989-615. The majority opinion chooses to refute the Court of Appeals' reasoning concerning our inconsistent application in Pflug v. Commissioner, supra↩, in a brief footnote. See majority op. p. 154 note 14.3. The majority has also not listed such an example.↩4. The Congress responded to a perceived abuse in this area by enacting sec. 269A. Sec. 269A generally allows the Commissioner to allocate items between a PSC and its employee/shareholders in order to reflect clearly the income of the employee/shareholders or the PSC, if the "principal purpose" for the PSC is the avoidance or evasion of Federal income tax. Respondent did not determine or argue that sec. 269A applies to the instant case. In fact, she has disavowed its application by making the following stipulations:22. The corporation, Allen Leavell, Inc., was formed for the primary purpose of creating flexibility for Allen Leavell to act as a free agent or claim the benefits of free agency in the event the Houston Rockets failed to release him from obligations imposed by the Uniform Player Contract.23. Although certain tax benefits may have resulted from the incorporation of Allen Leavell, Inc. by Allen Leavell, the corporation was not formed for the principal purpose of evading or avoiding federal income taxes by securing the benefits of deductions, credits, or other allowances which would not otherwise be available.24. Accordingly, based upon the facts of this case, the parties agree and Respondent concedes that no allocation of income, deductions, or credits is to be made under the specific authority of I.R.C. section 269A.[Emphasis added.]Given that respondent has, in effect, stipulated that the tool Congress has given to the Government to deal with perceived abuses by PSC's is not applicable and that the income in question is not to be reallocated under that section, the majority opinion's use of the "manner and means" test is nothing more than a solution in search of a problem.↩5. The Supreme Court observed, however, that there are recognized exceptions to treating a corporation as a separate taxable entity. For example, the Court stated: "the corporate form may be disregarded where it is a sham or unreal. In such situations the form is a bald and mischievous fiction." Moline Properties, Inc. v. Commissioner, 319 U.S. 436">319 U.S. 436, 439↩ (1943). As documented by the facts at hand, the instant case is not one that warrants disregard for the corporate form.6. In the instant case, respondent is asking the Court to ignore corporation to the extent that it marketed petitioner's professional basketball services.↩7. The Congress responded to the fact pattern of Keller v. Commissioner, 77 T.C. 1014">77 T.C. 1014, 1031 (1981), affd. 723 F.2d 58">723 F.2d 58 (10th Cir. 1983), by enacting sec. 269A, applicable to taxable years beginning after Dec. 31, 1982. See supra note 4. According to the legislative history, "The conferees intend that the provisions * * * [of sec. 269A] overturn the results reached in cases like Keller v. Commissioner, 77 T.C. 1014 (1981), where the corporation served no meaningful business purpose other than to secure tax benefits which would not otherwise be available." H. Rept. 97-760, at 633-634 (1982), 2 C.B. 600">1982-2 C.B. 600, 679-680. Because respondent conceded that no allocation is to be made under sec. 269A, the Court should apply the analysis that we applied in Keller v. Commissioner, supra and reach a result that is consistent thereto. The majority, however, does not. It develops a new analysis to apply to the fact pattern of Keller v. Commissioner, supra, and reaches a result that is contrary to our opinion there. In so doing, the majority has obviated the need for respondent to utilize the precise tool that the Congress gave her to deal with fact patterns similar to Keller v. Commissioner, supra↩, such as the facts at hand.8. While recognizing that the assignment of income doctrine may apply in the corporate context, the Court has observed that this control test is better than the true earner test articulated in Lucas v. Earl, 281 U.S. 111">281 U.S. 111, 115 (1930), because a corporation is an inanimate person that can earn service income only through the performance of its employees and agents. See, e.g., Bagley v. Commissioner, 85 T.C. 663">85 T.C. 663, 675 (1985), affd. 806 F.2d 169">806 F.2d 169 (8th Cir. 1986); Haag v. Commissioner, 88 T.C. 604">88 T.C. 604, 610-611 (1987), affd. without published opinion 855 F.2d 855">855 F.2d 855 (8th Cir. 1988); see also Vercio v. Commissioner, 73 T.C. 1246">73 T.C. 1246, 1254-1255 (1980). The control test generally asks the question: "Who controls the earning of the income, the individual or his or her corporation?" Johnson v. Commissioner, 78 T.C. 882">78 T.C. 882, 891 (1982), affd. without published opinion 734 F.2d 20">734 F.2d 20 (9th Cir. 1984); Bagley v. Commissioner, supra at 675. The majority does not ask or answer this question. By failing to do so, the majority ignores the importance of the following precedent in Schneer v. Commissioner, 97 T.C. 643">97 T.C. 643, 659-660 (1991) (quoting Johnson v. Commissioner, supra at 890):"Recognition must be given to corporations as taxable entities which, to a great extent, rely upon the personal services of their employees to produce corporate income. When a corporate employee performs labors which give rise to income, it solves little merely to identify the actual laborer." * * * an employee of a personal service corporation * * * is outside the holding of Lucas v. Earl, supra↩, to some degree because of the "entity concept." The business entity is cast as the earner of the income, obviating the need to analyze whether there has been an assignment of income.9. The right to control an employee is usually evidenced by an employment contract between the PSC and the service-provider. See, e.g., Haag v. Commissioner, supra at 612 (employment agreement gave the PSC control over the service-provider's medical practice although the service-provider could unilaterally rescind, modify, or ignore the agreement), affd. without published opinion 855 F.2d 855">855 F.2d 855 (8th Cir. 1988). As observed by the Court of Appeals for the Eighth Circuit, there exists "ample Tax Court precedent which upholds the sanctity of contractual relations between taxpayers and their respective personal service corporations." Sargent v. Commissioner, 929 F.2d 1252">929 F.2d 1252, 1258 (8th Cir. 1991), revg. 93 T.C. 572">93 T.C. 572↩ (1989).10. Respondent had announced the team-sports doctrine as her litigating position in G.C.M. 39553↩ (Sept. 3, 1986).11. Prior to the Tax Reform Act of 1986 (TRA), Pub. L. 99-514, 100 Stat. 2085, the Code provided numerous incentives for a professional to incorporate his or her services. For example, a service-provider could take modest salaries from his PSC and, in effect, divert income from his or her personal services to his or her PSC; before the TRA, the maximum marginal rate of tax for corporations was lower than the maximum marginal rate of tax for individuals. Similarly, the individual could adopt a fiscal year for the PSC which ended on the last day of the first month of his or her individual taxable year. With proper tax planning, the individual could then defer the recognition of the personal service income earned in one year until the next year by drawing the majority of his or her salary in the first month after the end of his or her taxable year. The TRA minimized many of these incentives. See, e.g., secs. 1, 11 (maximum corporate rate of tax higher than maximum individual rate of tax); sec. 441(i) (taxable year of a PSC generally must be the calendar year); see also sec. 11(b)(2) (certain PSC's are taxed at a flat rate of 35 percent, rather than at the graduated rates of tax in sec. 11(a) that are otherwise applicable to corporations); supra↩ note 6.12. As is true in the case at hand, each taxpayer also personally guaranteed his PSC's obligations to the service-recipient. Sargent v. Commissioner, 93 T.C. 572 (1989). The Court in Sargent v. Commissioner, supra↩, found no relevance in this personal guarantee. The majority does. In my mind, the majority places too much emphasis on this fact. The personal guarantee of a 100-percent shareholder is commonly required in the business world. In this regard, the majority does not indicate how their analysis would apply to this everyday occurrence.13. In abandoning our traditional analysis, the Court stated that the Court had never addressed whether an employer/employee relationship existed in any of our prior assignment of income opinions. Sargent v. Commissioner, 93 T.C. at 582. As subsequently noted by the Court of Appeals for the Eighth Circuit, however, "Each time the legitimacy of the employee's relationship with the * * * [PSC] was raised [in our prior assignment of income cases], the Tax Court pointed to the existence of a contractual relationship between the * * * [PSC] and the employee/service-provider as the rationale for upholding the legal significance of the PSC." Sargent v. Commissioner, 929 F.2d at 1258↩.14. I do not mean to suggest that the "mere existence" of an employment contract may or may not be enough to satisfy the two-prong control test. The Court need not resolve that issue today. The record in Sargent v. Commissioner, supra, as well as the record at bar, evidences an employer/employee relationship between the PSC and the service-provider through more than an employment contract. With respect to Sargent v. Commissioner, 93 T.C. at 573-577↩, I note: (1) Following the receipt of legal advice, each taxpayer formed his PSC for a legitimate business purpose that involved "selling" his services to the club as an employee of the PSC, (2) the club entered into an agreement whereby each PSC represented to the club that the PSC had the right to cause its employee to perform services on its behalf, (3) the club remitted payments for each taxpayer's services directly to their PSC's, (4) each PSC withheld Federal income taxes, and withheld and paid employment taxes, in connection with the payment of service income to the taxpayers, (5) the PSC's filed the necessary employer/employee payroll tax returns with the Commissioner, and (6) the club recognized and respected the employment contracts between each taxpayer and his PSC.15. The Court ultimately held against Johnson because the Warriors did not have an agreement with either PMSA or EST that addressed the taxpayer's basketball services. Accord Johnson v. United States, 698 F.2d 372">698 F.2d 372↩ (9th Cir. 1982). In the instant case, by contrast, petitioner's basketball services were discussed in both his contract with corporation and the Rockets' contract with corporation.16. In Pflug v. Commissioner, T.C. Memo. 1989-615↩, the taxpayer contracted with her husband's wholly owned PSC to perform her acting services exclusively as its employee. Subsequently, the taxpayer and her husband separated, and, in June 1982, the taxpayer severed her relationship with the PSC. From 1975 until June 1982, all contracts for the taxpayer's acting services were executed between the PSC, as the taxpayer's employer, and the service-recipients (producers). The producers paid the PSC all amounts for the taxpayer's services and did not pay or withhold any employment taxes with regard to these amounts; the PSC, in turn, paid a salary to the taxpayer and paid employment taxes with respect to the salary. The PSC included on its Federal income tax returns the amounts paid to it by the producers and deducted its payments to the taxpayer as wage expense.17. Respondent has not disputed corporation's viability to the extent that corporation was petitioner's employer for purposes other than to market his basketball services. In this regard, the record does not indicate that corporation controlled petitioner's personal services with regard to his basketball services in any less of a significant manner than it controlled his personal services with regard to his personal appearances and endorsements. Concluding that corporation is not a viable entity with respect to petitioner's basketball services, but not with respect to his personal appearances and endorsements, is a distinction without a difference and is arbitrary.↩18. The majority holds that petitioner is a "professional" as that term is used in Professional & Executive Leasing Co. v. Commissioner, 862 F.2d 751">862 F.2d 751 (9th Cir. 1988), affg. 89 T.C. 225">89 T.C. 225 (1987). The majority, therefore, concludes that petitioner is subject to a lower standard in determining whether he should be considered an employee of the Rockets. Notwithstanding my disagreement with the majority's test in the first place, I believe that the majority has misapplied the term "professional" as it was used in Professional & Executive Leasing Co. v. Commissioner, supra.The term "professional" as used in Professional & Executive Leasing Co.↩ applied to individuals who were engaged in a licensed profession, such as doctors and attorneys. In our case, petitioner is a basketball player who is called a professional in order to distinguish him from an amateur.19. With respect to petitioner's arrangement as an employee of corporation, the legitimacy of such an arrangement in the taxable year in issue is also discerned from the fact that the NBA prohibited corporate employers of NBA players after that year. Such a prohibition by the NBA would have been unnecessary had the NBA considered these corporate employers to be shams.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623868/	Dane County Title Company, Petitioner, v. Commissioner of Internal Revenue, RespondentDane County Title Co. v. CommissionerDocket No. 57497United States Tax Court29 T.C. 625; 1957 U.S. Tax Ct. LEXIS 2; December 31, 1957, Filed 2 Decision will be entered for the respondent. Taxpayer maintained a tract index and engaged in the title abstract business in Dane County, Wisconsin. In 1929 it purchased, through its stockholders, the assets, including a tract index of its only competitor. The competitor's real property was subsequently sold, the competitor's furniture and fixtures were used by the taxpayer in its business, and the competitor's tract index was stored in a separate vault but was not kept up to date. Until 1943 Dane County did not maintain a tract index, but only maintained a grantor-grantee index, from which a title abstract could be prepared at great inconvenience. In 1951 taxpayer destroyed the competitor's tract index after microfilming a copy of its principal tract index records. Held:1. Taxpayer's purpose in purchasing the competitor's tract index was to eliminate competition, which elimination was effected whether or not the tract index was in physical existence, and accordingly taxpayer is not entitled to an abandonment deduction.2. Commissioner's determination that taxpayer's cost of microfilming its principal tract index was not less than $ 5,000, sustained. Charles P. Seibold, Esq., for the petitioner.Thomas J. Donnelly, Jr., Esq., for the respondent. Tietjens, Judge. TIETJENS625 The Commissioner determined a deficiency in the petitioner's 1951 income tax in the amount of $ 6,707.55. There are two issues for our decision: (1) Whether the petitioner sustained an abandonment loss in 1951 as a result of its permanently discarding certain title abstract records it had purchased in 1929 from the Dane Abstract of Title Company; and (2) what portion of the petitioner's 1951 microfilming expenses represented the cost of microfilming its old title records. The petitioner concedes that such microfilming cost is a nondeductible capital expenditure.626 FINDINGS OF FACT.Some of the facts are stipulated. Such facts are found as stipulated and with the exhibits attached thereto are included herein by reference.The4 petitioner is a Wisconsin corporation, organized in the year 1902, with its principal place of business in Madison, Wisconsin. The petitioner's income tax return for the year 1951 was filed with the then collector of internal revenue for the district of Wisconsin.From the year 1902 to the present time the petitioner has engaged in the title abstract and title insurance business in Dane County, Wisconsin.Dane Abstract of Title Company (not to be confused in name with the petitioner) was in the year 1929, and for many years prior thereto, a Wisconsin corporation engaged in the title abstract business in Dane County, Wisconsin, with its principal place of business at 111-113 South Carroll Street, Madison, Wisconsin. John T. Kenney was its principal stockholder and chief operating officer. This company will hereinafter be referred to as the Kenney Company, and the title abstract records of this company as the Kenney records.In the year 1929 the petitioner and the Kenney Company were the only two operating general title abstract companies in Dane County and those two companies controlled the major portion of the title abstract business in that county at that time.On April 18, 1929, 5 Stanley C. Hanks and L. M. Hanks, the petitioner's then majority stockholders, entered into an agreement to purchase all physical assets of the Kenney Company for a total consideration of $ 55,000. On April 25, 1929, all of the real property of the Kenney Company was conveyed by deed to Stanley C. Hanks and L. M. Hanks. On May 20, 1929, they transferred to the petitioner, by deed, the title to that property.On April 27, 1929, the personal property of the Kenney Company was transferred by bill of sale to Stanley C. Hanks and L. M. Hanks. The personal property was described as follows in the bill of sale:all the personal property now owned by said first party [Kenney Company] including typewriters, desks, Rotary Neostyle Mimeograph, Sundstrand Adding Machine, filing cases, abstract of title records, abstracts, furniture, blank forms, office supplies now owned by said Company used in the conduct of its business together with all furniture and furnishings owned by said Company and contained in the building at 111-113 South Carroll Street, Madison, Wisconsin.On May 16, 1929, Stanley C. Hanks and L. M. Hanks sold all of their right, title, and interest in the above-mentioned personal6 property to the petitioner.627 The purchase of the Kenney Company property was recorded by the petitioner in its ledger accounts as follows:Carroll Street PropertyDane County title records$ 20,400Office furniture and fixtures2,500Buildings20,000Land12,100The Kenney Company was dissolved in 1929 after the sale of all of its assets. The petitioner did not obtain a covenant against competition from the Kenney Company or its stockholders, nor did the petitioner ever use the name or location of the Kenney Company.The title records maintained by the petitioner in 1929 and thereafter consisted of a tract index containing information on every parcel of land in Dane County, including the names of the grantors and grantees in each transaction affecting a parcel of land, the dates and types of instruments affecting a parcel of land, and the document number of each publicly recorded instrument affecting title to a parcel of land.The Kenney records consisted of a tract index with entries recording the parcel of land and the document number of each publicly recorded instrument affecting title to the parcel of land.In 1929 an abstract of title could be prepared7 from either set of records; however, the petitioner's own records were easier and more convenient to use because they contained more information than the Kenney records.In 1943 a public tract index was installed in Dane County from which index title abstracts could be prepared. Prior to that time it was a practical necessity for an organization in the title abstract business to have a tract index of its own, since title abstracts could be prepared from the public grantor-grantee index only at great inconvenience and with the expenditure of considerable time.The Kenney tract index would have avoided the time and inconvenience involved in preparing title abstracts from public records, for years prior to 1929, for anyone pursuing the title abstract business in Dane County.The cost of manually reproducing a tract index from public records in 1929 would have been about $ 100,000.Destruction of records insurance was not available in 1929. Such insurance became available in 1936 at the rate of $ 2.50 per thousand dollars coverage and the petitioner took out insurance at that time to the extent of $ 100,000 coverage, which it retained throughout the year 1951.628 The number of8 instruments recorded in the Registrar of Deeds office in Dane County, the number of orders received by the petitioner, and its net income, during the years 1927 through 1931, are as follows:YearRecordedPetitioner'sPetitioner'sinstrumentsordersnet income192714,1466,243$ 6,022192814,4896,0079,486192913,0575,9928,228193012,0085,1498,371193110,9044,5285,353The Carroll Street property (land and buildings) was never used by the petitioner in its business and was sold by the petitioner in 1935. The office furniture and fixtures formerly owned by the Kenney Company were used by the petitioner in its business. The Kenney records were never used by the petitioner in preparing abstracts of title and they were not kept up to date by the addition of entries for transfers made after their acquisition in 1929.In 1929, the Kenney records had a value to the petitioner as a "standby" record in the event of destruction of its principal records.The Kenney records were retained by the petitioner in a separate vault on its premises until 1951 when the petitioner microfilmed its principal records. A copy of the film was stored in a vault9 off the premises subsequent to that time.At a meeting held on December 13, 1951, the petitioner's board of directors adopted the following resolution:Due to completion of microfilm project by the Company, wherein all of the essential title records owned and now used by it have been microfilmed and one extra copy of said film obtained and since one copy of said film is now stored in a vault off the Company premises, the title records of the Dane Abstract of Title Company acquired in 1929 are now of no further use or value, it is resolved that the said records be discarded permanently as an asset of said Corporation. Motion carried.The Kenney records were physically destroyed by burning in 1951 or 1952.The petitioner's purpose in microfilming its title records was to insure and safeguard their continued use in case of any disaster or mutilation or destruction of the records and also as a safeguard against the physical deterioration which results from their continued use.During the year 1951 the petitioner's microfilming costs were about $ 10,000, which included about $ 7,000 for labor and $ 3,000 for materials and supplies.During the year 1951 the petitioner microfilmed its10 title records covering the years 1832 through 1950. It also microfilmed twice, every instrument recorded in the office of the Registrar of Deeds and it 629 microfilmed all of its abstract orders that year as well as other public records, certain accounting records, and other miscellaneous documents.In microfilming its old title records during 1951, petitioner microfilmed about 100,000 documents. In microfilming documents recorded with the Registrar of Deeds during 1951 and its abstract orders that year, the petitioner microfilmed about 80,000 documents. The number of other public documents, accounting records, and miscellaneous documents microfilmed by the petitioner during 1951 is unknown.The costs of microfilming, per page, varies in accordance with the type of records microfilmed, depending on whether the materials may be fed into the microfilm machine automatically or whether they must be fed into it manually. Some of the petitioner's old title records could be microfilmed automatically.On its tax return for the year 1951, the petitioner claimed a loss on assets abandoned, which pertained to the Kenney records, in the amount of $ 20,400.The Commissioner disallowed11 that deduction on the ground that the petitioner had not established that the alleged loss from abandonment of records constituted an allowable deduction from gross income under the provisions of section 23, I. R. C. 1939.The Commissioner also determined that the cost of microfilming the old title records was a capital expenditure and not deductible by the petitioner. He determined that such microfilming costs were not less than $ 5,000 and increased the petitioner's income in that amount.The petitioner's predominant purpose in purchasing the Kenney records was to eliminate competition.OPINION.The first issue for decision is whether the petitioner sustained an abandonment loss in 1951 as a result of its permanently discarding the Kenney records as an asset.It was stipulated that shortly after Stanley C. Hanks and L. M. Hanks purchased the real property of the Kenney Company, they transferred it to the petitioner, and about that same time the personal property, including furniture and fixtures, the Kenney records, and other items were also transferred to the petitioner from Stanley C. Hanks and L. M. Hanks. The total cost to the petitioner of those assets was not mentioned in12 the stipulation or the document introduced into evidence by which the personal property was transferred to petitioner. However, certain of the petitioner's ledger accounts were introduced into evidence which showed that the Kenney Company real property was recorded on the petitioner's books at a cost of $ 32,100, the Kenney Company furniture and fixtures were recorded at a 630 cost of $ 2,500, and the Kenney records were recorded at a cost of $ 20,400. These records appear to have been kept in the ordinary course of the petitioner's business, and we accept the petitioner's books and records as showing the petitioner's cost of the various Kenney Company assets. The Commissioner's argument that the petitioner has not shown the cost of the Kenney records to it is therefore without merit.Next we turn to the question of the petitioner's purpose in purchasing the Kenney records. The petitioner argues that its purpose was to acquire a set of standby records and the Commissioner argues that it was for the purpose of eliminating competition.The cost of eliminating competition is a capital asset. Where the elimination is for a definite and limited term the cost may be exhausted13 over such term, but where the benefits of the elimination of competition are permanent or of indefinite duration, no deduction for exhaustion is allowable. B. T. Babbitt, Inc., 32 B. T. A. 693 (1935).John T. Kenney, Stanley C. Hanks, and L. M. Hanks, the parties to the 1929 transaction, were dead at the time of the hearing of this case. Thus there is no direct testimony as to Stanley C. Hanks's and L. M. Hanks's purpose in purchasing the Kenney records. However, subsequent events and other factors in the record shed some light on the answer to that question.In 1929 the petitioner and the Kenney Company were the only two operating general title abstract companies in Dane County and they controlled the major portion of the title abstract business in that county at that time. At that time both the Kenney Company and the petitioner maintained tract indexes, while Dane County maintained only a grantor-grantee index. It was much easier to prepare a title abstract from a tract index than from a grantor-grantee index and it was much easier to prepare a title abstract from the petitioner's tract index than from the Kenney Company's tract index because 14 the former was much more complete than the latter.It is obvious that the petitioner, by purchasing the Kenney records, foreclosed a third party from purchasing such records and then competing with the petitioner in the title abstract business in Dane County. It also appears obvious to us that for all practical purposes, when the petitioner purchased the Kenney records it foreclosed the possibility of anyone else's entering the title abstract business in Dane County, because of the difficulty in preparing title abstracts from the public records and because of the great cost involved in producing a tract index (it would have cost about $ 100,000 to reproduce the petitioner's tract index in 1929). Another factor indicating that the purpose of purchasing the Kenney records was to eliminate competition, is that the petitioner sold the Kenney Company real property in 1935 without ever having used it. That the petitioner did not obtain a covenant 631 against competition from the Kenney Company or its stockholders does not, in our opinion, show that the petitioner's purpose was not to eliminate competition because as a practical matter such a covenant was not needed.We think the15 petitioner has failed to prove that its purpose in purchasing the Kenney records was to acquire a set of standby records in the event of destruction of its principal records. The petitioner never used the Kenney records in preparing title abstracts and it did not keep them up to date after it purchased them. The Kenney records were kept in a separate vault so that if the principal records were destroyed, petitioner could use them in preparing title abstracts insofar as years prior to 1929 were concerned. To this extent the Kenney records had standby value to the petitioner. That the petitioner was not impressed with such value is shown in that it took out destruction-of-records insurance in 1936 when it became available in Wisconsin, with coverage to the extent of $ 100,000, which insurance was kept in force up to and throughout the year 1951.It is our opinion from considering the record as a whole, that the petitioner's predominant purpose in purchasing the Kenney records was to eliminate competition and was not to acquire a set of standby records and that if the latter was one of the petitioner's purposes in purchasing such records, it was only incidental to the former. It16 is apparent that even if the Kenney records had been physically destroyed, the benefit of their purchase in eliminating competition would have been a continuing benefit which would have endured despite their destruction. The petitioner contends that if some part of the purchase price should be assigned to the cost of eliminating competition then we should make such an allocation. However, we think that the record does not furnish us with sufficient basis for making a division of the price paid between what might have been paid for the records and what we think was primarily paid to eliminate competition.The petitioner's president testified that the total cost of microfilming the old records was $ 2,035. This amount was admittedly an estimate. On cross-examination, the petitioner's president was questioned in regard to the petitioner's total microfilming costs for the year in comparison with the total number of documents microfilmed so that it could be determined whether the $ 2,035 estimate was approximately proportionate to the cost of microfilming a similar number of other documents. It was thus determined that the petitioner's total microfilming cost was about $ 10,000 ($ 17 7,000 for labor and $ 3,000 for materials), that the petitioner microfilmed about 100,000 documents in microfilming its old records, and that it microfilmed somewhat more than 80,000 other documents. It was also determined that the cost of microfilming documents varied considerably depending on whether the document could be fed into the machine manually; and in *632 the case of the old records, a majority of them could be automatically microfilmed, but a substantial portion of them had to be microfilmed manually.Upon a careful consideration of the petitioner's estimate in the light of the other pertinent evidence in the record, we have come to the conclusion that the petitioner has failed to sustain its burden of showing that the Commissioner erred in determining that the cost of microfilming the old records was not less than $ 5,000, and accordingly we sustain the Commissioner on this issue.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623869/	WILLIAM P. O'MALLEY, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent; BARBARA L. O'MALLEY, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentO'Malley v. CommissionerDocket Nos. 8797-77; 12113-77.United States Tax CourtT.C. Memo 1980-95; 1980 Tax Ct. Memo LEXIS 491; 40 T.C.M. (CCH) 16; T.C.M. (RIA) 80095; March 26, 1980, Filed William P. O'Malley, pro se. Roger D. Osburn, for the respondent. SCOTT MEMORANDUM FINDINGS OF FACT AND OPINION SCOTT, Judge: Respondent determined a deficiency in petitioners' Federal income tax for calendar year 1974 in the amount of $4,165.42 and an addition to tax under section 6653(a), I.R.C. 1954, 1 of $208.27. The issue with respect to the addition to tax was conceded by respondent, leaving for decision only whether a transaction involving $20,000 of advances by one of petitioners to a third party resulted in a worthless nonbusiness debt, the loss493 from which is deductible in accordance with the provisions of section 166(d) or a loss from a transaction entered into for profit deductible under section 165(c)(2). FINDINGS OF FACT Petitioners William P. O'Malley and Barbara L. O'Malley, husband and wife, who resided in Clearwater, Florida, at the time of filing their petition in this case, filed a joint Federal income tax return for calendar year 1974 with the Internal Revenue Service Center at Chamblee, Georgia. Mrs. O'Malley was married to William P. O'Malley in December 1972. She had previously been married to Charles Robertson. Mr. Robertson died in an automobile accident in December 1969. During her marriage to Mr. Robertson and as his widow, Mrs. O'Malley had been known as Barbara L. Robertson; however all further references to her shall be by her present married name. Subsequent to Mr. Robertson's death, Mrs. O'Malley collected proceeds of $25,000 from the insurance held on Mr. Robertson's life. At that time Mrs. O'Malley was employed by the Hertz Corporation494 in St. Petersburg, Florida. Richard A. Sharp, by marriage a relative and a friend of Mrs. O'Malley, lived in Shreveport, Louisiana, in March 1970. Mr. Sharp was president of a real estate company, Richard A. Sharp, Inc., with offices in Shreveport and Baton Rouge, Louisiana. As a result of discussions between Mr. Sharp and Mrs. O'Malley, Mrs. O'Malley advanced $2,000 to Mr. Sharp on March 2, 1970. Mrs. O'Malley understood that the $2,000 would be used by Mr. Sharp in developing a proposed residential subdivision in Caddo Parish, Louisiana, on property which he had inherited from his father. At that time Mrs. O'Malley did not receive from Mr. Sharp and written receipt or memorandum acknowledging the $2,000 advance. However, on May 20, 1970, Mrs. O'Malley accepted from Mr. Sharp a writing acknowledging his receipt of the $2,000 advance. Dated March 2, 1970, the acknowledgement provides: This will acknowledge receipt in the amount of $2,000.00, from Mrs. Barbara L. Robertson, 2401 S. Shore Dr., S.E., St. Petersburg, Florida, such funds being credited to the account of Mrs. Robertson as her interest in the proposed Cross Lake West-Sharp Estate development by RICHARD A. SHARP,495 INC., or one of its wholly owned subsidiaries, for which RICHARD A. SHARP, INC., promises to pay directly to Mrs. Barbara L. Robertson, the amount of $150.00 per lot, as sold, on lots 1A through lots 20A, as proposed, until Mrs. Robertson has received a full and final amount of $3,000.00, in return for the $2,000.00 invested. It is fully understood by Mrs. Barbara L. Robertson and by Richard A. Sharp, President of RICHARD A. SHARP, INC., that this transaction is of a personal nature and personally guaranteed by Richard A. Sharp or, in the event of his death, by his Estate, and in no way involves the sale of stock; it being further agreed by Richard A. Sharp, President and sole owner of Richard A. Sharp, Inc., and its wholly owned subsidiaries, that for any reason the proposed development does not materialize within twelve months of this date, Mrs. Barbara L. Robertson will be refunded the above mentioned $2,000.00, bearing interest at the rate of 10% per annum, effective this date. Between March 1970 and November 1970 Mrs. O'Malley advanced $18,000 in several installments to Mr. Sharp. Mr. Sharp responded by later acknowledging the first installment of $5,000 by a promissory496 note dated June 6, 1970, which provides: I, RICHARD A. SHARP, 4501 Orchid Street, Shreveport, Louisiana, promise to pay to the order of Mrs. Barbara L. Robertson, St. Petersburg, Florida, the amount of Five Thousand and no/100 Dollars ($5,000.00), upon request of thirty (30) days written notice, with interest at the rate of Ten (10) per cent per annum from June 6, 1970, until paid. The second installment, $3,000, is evidenced by a promissory note dated July 6, 1970, signed in Shreveport, Louisiana, by Mr. Sharp, providing as follows: I, RICHARD A. SHARP, promise to pay to the order of Mrs. Barbara L. Robertson, St. Petersburg, Florida, the amount of Three Thousand and no/100 Dollars ($3,000.00), upon request of thirty (30) days written notice, with interest at the rate of Ten (10) per cent per annum from July 6, 1970, until paid. Mr. Sharp acknowledged the fourth and final installment of $10,000 with a similar note executed on November 2, 1970, and bearing interest of 10 percent per annum from date of execution. All three promissory notes were forwarded to Mrs. O'Malley along with a letter dated November 2, 1970. Aside from a reference to497 the three notes, Mr. Sharp's only mention of business in that correspondence is as follows: It appears I may go to Washington around the 13th or 14th. I am trying to secure an appointment with Gillis Long. Gillis is quite a prominent attorney in Washington and has vast experience with setting up stock issues and gaining the approval of the Securities and Exchange Commission. It may be a little premature but it is a very time consuming undertaking and won't hurt for me to be familiarizing myself with the red tape necessary, as well as the expense involved. It also appears Gillis may be the next Governor of Louisiana and nothing like getting your foot in the door. Unfortunately in Louisiana, it isn't WHAT you know but WHO you know. Between the spring of 1970 and March 28, 1971, Mrs. O'Malley and Mr. Sharp had several telephone conversations. During those discussions Mr. Sharp encouraged Mrs. O'Malley to leave her funds in his possession. On March 28, 1971, Mr. Sharp wrote a letter to Mrs. O'Malley wherein he states: Anyhow, to let you know that you have not invested money in vain and that I still have your best interests at heart, and be advised that you and Jean will receive498 interest due to the delay, I have had many soul searching decisions to make and think I have finally made them to the betterment of the entire project. I really will have to see you and talk with you to tell you of the problems that have confronted me, but I believe they are all behind us now. The first filing on the subdivision, to be known as Richland Hills, is now a matter of record, property has been dedicated to the parish for roads, the surveyors finished staking the lots this past week, I have received the bids on roads, gas lines, water, lights, clearing, etc., to the turn of $29,000.00. Anyhow, it is going to go great guns, and many other things which I haven't told you about, but am involved in and all of it together should make the two of us pretty well secure in our old age, and believe you me, mine has crept up on a big hurry. * * And, what else? Oh, yes. I am recapitalizing Richard A. Sharp, Inc., to bring out a half million dollar stock issue.Primarily its function will be to have the funds to promote about eight of these similar projects at one time throughout the country. At an estimated profit of about $200,000 each during a six month period, that499 is a very lucrative venture. So, start talking up the stock. The attorneys are fixing it so you will subscribe for about $100,000 worth of stock but you will pay for it only out of declared dividends from profits. So, you'll wind up owning that much without paying for it out of your pocket. In other words, you'll have that much stock reserved for you, and each time a dividend is declared, you will use that money to purchase so much stock until you get your $100,000 worth and yet, not a dime of your own money has gone into it. * * * On January 23, 1972, the Richland Hills Subdivision, to which Mr. Sharp had referred in his March 28, 1971, correspondence, remained undeveloped. At that time Mr. Sharp wrote a letter to Mrs. O'Malley wherein he refers to her $20,000 advances in connection with ownership in that proposed development project: This is to acknowledge that for the amount of twenty-five thousand dollars ($25,000.00), of which I acknowledge receipt of twenty thousand dollars ($20,000.00), you are the rightful owner of a one-quarter (1/4) interest in Richland Hills Subdivision, Caddo Parish, Louisiana. Richland Hills Subdivision, to comprise an area slightly500 more or less than one hundred (100) acres, is located in the SW1/4 of Section 23, T18N, R16W, Caddo Parish, Louisiana. For any reason whatsoever that I, Richard A. Sharp, Record Owner, dedice not to fully develop Richland Hills as a subdivision as planned, I hereby agree to return the above mentioned funds to you, bearing interest at the rate of ten per cent (10%) per annum. Following Mrs. O'Malley's marriage to William P. O'Malley in December 1972, she made several inquiries of Mr. Sharp with regard to the progress of the development of his subdivision. In February 1974, Mr. and Mrs. O'Malley traveled to Shreveport, Louisiana, to visit Mr. Sharp. Petitioners visited the future site of Richland Hills Subdivision and found that contrary to Mr. Sharp's reports neither roads nor drainage pipes had been laid. Petitioners hired a Louisiana attorney, Alfred W. Bullock, to accompany them to the Office of Public Records of Caddo Parish, where they found that Mr. Sharp had encumbered the Richland Hills Subdivision tract with a $50,000 mortgage. Thereafter, on behalf of petitioners Mr. Bullock prepared a second mortgage covering the Richland Hills Subdivision. Mr. Sharp, as mortgagor, 501 executed the $26,098.55 mortgage on July 19, 1971, in favor of "Future Holder," as mortgagee. The $26,098.55 demand note accompanying the mortgage was executed by Mr. Sharp on July 19, 1974; however, by its terms the 10 percent per annum interest was to accrue from May 29, 1974. In the latter part of 1974 Mr. Bullock determined that Mr. Sharp had defaulted on the first mortgage of $50,000 encumbering the Shreveport property. On December 23, 1974, Mr. Bullock wrote Mr. O'Malley that Peoples Bank and Trust Company of Minden, Louisiana, had filed foreclosure proceedings. Meanwhile, Mr. Sharp had left the country and reputedly had relocated in Honduras. Mr. Sharp never returned to Mrs. O'Malley any of her $20,000 advances, nor did he pay any interest thereon. In their 1974 income tax return petitioners claimed an ordinary loss of $20,000 from "investment in land development." Respondent disallowed petitioners' claimed loss of $20,000 and determined that the $20,000 loss was from a nonbusiness bad debt. On this basis respondent determined that petitioners were entitled to deduct in 1974 the amount of $1,000 since their nonbusiness bad debt must be treated as a short-term capital502 loss. OPINION Petitioners content that the $20,000 advanced between March 2, 1970, and November 2, 1970, by Mrs. O'Malley to Mr. Sharp constitute transactions entered into for profit and that the worthlessness of those advances in 1974 entitled them to an ordinary loss deduction under section 165(c)(2). 2 Respondent takes the position that the advances made by Mrs. O'Malley to Mr. Sharp were loans which became worthless in 1974 and that petitioners are entitled only to deduct $1,000 for a nonbusiness bad debt in accordance with the provisions of section 166. 3 As each party recognizes, the treatment provided under the loss and bad debt provisions of the Code are mutually exclusive. Spring City Foundry Co. v. Commissioner, 292 U.S. 182">292 U.S. 182 (1934). 503 This Court and other courts have construed the phrase "any transaction entered into for profit" though not connected with a trade or business as found in section 165(c)(2) to refer to "all transactions induced primarily by a profit motive." Jefferson v. Commissioner, 50 T.C. 963">50 T.C. 963, 968 (1968). The controlling factor in determining whether a transaction is "induced primarily by a profit motive" is the taxpayer's intent or state of mind when engaging in the transaction. A bad debt results where there has been (1) previous creation of a creditor-debtor relationship, i.e., a valid debt; and (2) occurrence of the debt's worthlessness in the tax year in issue. Prior to 1942, there was no distinction between business and nonbusiness bad debts. In enacting the predecessor or section 166(d) Congress rejected the liberal treatment previously given to deductions for nonbusiness bad debts and intended "to put nonbusiness investments in the form of loans on a footing with other nonbusiness investments" by treating their worthlessness as short-term capital loss. Putnam v. Commissioner, 352 U.S. 82">352 U.S. 82, 92 (1956).504 With regard to bad debt deductions H. Rept. No. 2333, 77th Cong., 1st Sess. (1942), 2 C.B. 372">1942-2 C.B. 372, 408-409, stated: The present law gives the same tax treatment to bad debts incurred in nonbusiness transactions as it allows to business bad debts. * * This liberal allowance for nonbusiness bad debts has suffered considerable abuse through taxpayers making loans which they do not expect to be repaid.This practice is particularly prevalent in the case of loans to persons with respect to whom the taxpayer is not entitled to a credit for dependents. * * * For purposes of section 166 the courts have defined debt as an unqualified obligation to pay a sum certain. E.g., Gilbert v. Commissioner, 248 F.2d 399">248 F.2d 399 (2d Cir. 1957), remanding a Memorandum Opinion of this Court. The existence of a contingency repayment precludes the formation of a loan within the meaning of section 166. Between March 2, 1970, and November 2, 1970, Mrs. O'Malley advanced to Mr. Sharp, a friend and a relative by a prior marriage, a total of $20,000, in installments as follows: $2,000 on or before March 2, $5,000 on or before June 6, $3,000 on or before July 6, and $10,000505 on or before November 2. Petitioners assert that the advances were given to Mr. Sharp for investment purposes. By petitioners' account the funds were to be used in developing a subdivision in Caddo Parish, Louisiana, and Mrs. O'Malley was to receive an interest in the subdivision in return for her advances.Respondent contends that Mrs. O'Malley and Mr. Sharp were not joint venturers, and therefore that the transaction was not entered into for profit within the meaning of section 165. Petitioners do not claim that Mrs. O'Malley entered into a joint venture. Instead, they insist that a transaction entered into for profit as referred to in section 165(c)(2) is not limited to transactions between joint venturers, relying on Weir v. Commissioner, 109 F.2d 996">109 F.2d 996 (3d Cir. 1940), affirming in part and reversing in part 39 B.T.A. 400">39 B.T.A. 400 (1939) (where loss was deductible on a transaction involving the purchase and sale of preferred stock of a corporation which owned the taxpayer's apartment building); Jefferson v. Commissioner, 50 T.C. 963">50 T.C. 963 (1968) (where taxpayer purchased mother's home). Section 165(c)(2) and section 1.165-1(e)(2) refer to 506 any transaction entered into for profit. Petitioners do not attach a label to the type of transaction in which Mrs. O'Malley engaged. Rather, petitioners view the advances as being covered by the term "any transaction." As we indicated in Seed v. Commissioner, 52 T.C. 880">52 T.C. 880, 885 (1969)-- With respect to the meaning of the word "transaction," apparently the only discussion concerning its meaning is contained in comments made during the debate in the U.S. Senate to the effect that the word was "a very broad word" and that the word "by itself means anything." 53 Cong. Rec. 13265 (1916). It is obvious, however, that Congress intended to grant a deduction for a loss which arose out of activities which constituted something less than the carrying on of a trade or business. To hold otherwise would be to render section 165(c)(2) a nullity since losses incurred in a trade or business are deductible under section 165(c)(1). We will not assume that congress did a useless thing, Mercantile National Bank v. Langdeau,371 U.S. 555">371 U.S. 555 (1963). Accordingly it was appropriate to note in Eli D. Goodstein,30 T.C. 1178">30 T.C. 1178, 1192 (1958), affd. 507 267 F.2d 127">267 F.2d 127 (C.A. 1, 1959), that "It is clear that the type of transaction to which the statute refers is one which has substance and in which there is a true motive of deriving a profit." (Emphasis supplied.) * * Certainly where a taxpayer lends his money to another person for the borrower's use, the creditor intends to realize a profitable return from the borrower. However, it is clear that the term "any transaction entered into for profit" as used in section 165(c)(2) was not intended to and does not include a loan even though the taxpayer expects a profit in the nature of interest for the use of his money. See Putnam v. Commissioner,352 U.S. 82">352 U.S. 82, 88 (1956), in which the Court pointed our that "the worthlessness of a debt shall be regarded as a bad debt loss, deductible as such or not at all." Therefore, if we conclude that Mrs. O'Malley's advances to Mr. Sharp were loans which became worthless in 1974, it follows that the deduction to which petitioners are entitled is governed by sectioin 166(d) even though Mrs. O'Malley's objective was to receive508 interest from the $20,000 advances to her friend, Mr. Sharp. On the basis of the facts in this record, we conclude that Mrs. O'Malley intended to and did make loans of the $20,000 to Mr. Sharp, and any thought she had of investment in a profitable real estate venture was merely a potential bonus. In taking the position that Mrs. O'Malley did not lend any money to Mr. Sharp, petitioners argue that all written documents acknowledging the advances are merely unsolicited receipts executed by Mr. Sharp.The correspondence between Mrs. O'Malley and Mr. Sharp indicates the contrary. Each written acknowledgement signed by Mr. Sharp consists of an unconditional promissory note payable on demand to Mrs. O'Malley at the rate of interest of 10 percent per annum. The characterization by petitioners of these notes as unsolicited does not negate the existence of a creditor-debtor relation-ship between Mrs. O'Malley and Mr. Sharp.Petitioners further claim that Mr. sharp's and Mrs. O'Malley's treatment of their relationship disfavors characterization as that of a creditor and debtor. As supporting their conclusion petitioners cite the fact that Mr. Sharp delayed written acknowledgements of the509 June and July advances, for $5,000 and $3,000, respectively, until November 2, 1970. They claim that a true creditor would not have tolerated the time lapses. Yet, we are unpersuaded by this assertion as their personal friendship and Mrs. O'Malley's trust of Mr. Sharp explain the reason for Mrs. O'Malley's failure to complain of the delays. Petitioners emphasize that the March 2, 1970, receipt acknowledging the $2,000 advance from Mrs. O'Malley to Mr. Sharp referred to the funds as being credited toward a future interest in a proposed real estate development.According to the receipt, in return for the $2,000 advance, Mrs. O'Malley could receive $150 per lot, as sold, on 20 proposed lots, until paid a total of $3,000. Petitioners are reading the first paragraph of the acknowledgement in isolation. Instead, when all paragraphs of the March 2, 1970, acknowledgement are read as a complete unit, the language does not contravene our conclusion. It is clear from the record that the parties perceived the proposed real estate development as tenuous. Mr. Sharp personally and unconditionally guaranteed Mrs. O'Malley that after one year her $2,000 advance would be refunded on demand with510 interest at a rate of 10 percent per annum. Between March 2, 1970, and March 2, 1971, the funds were at Mr. Sharp's disposal and available for any purpose, personal or otherwise. If the real estate development materialized according to Mr. Sharp's definition, within that first year, Mr. Sharp promised to apply the $2,000 thereto. In that event, the guaranteed loan bearing 10 percent interest annually effectively would be transformed into one bearing total interest of 50 percent regardless of the number of years required to reach that yield. In essence the claim of $2,000 plus total interest of 50 percent was conditional; the $2,000 demand note bearing 10 percent per annum interest was an unconditional debt. To further support their position, petitioners rely on letters dated November 2, 1970, and March 28, 1971, to indicate that the $20,000 in advances to Mr. Sharp were investment transactions.The November 2, 1970, correspondence does not so indicate.In fact, that letter refers to three promissory notes executed by Mr. Sharp in favor of Mrs. O'Malley, dated June 6, 1970, July 6, 1970, and November 2, 1970. In the November 2, 1970, correspondence Mr. Sharp writes that he may511 travel to Washington to secure an appointment with Gillis Long, an attorney with experience in "gaining the approval of the Securities and Exchange Commission" in the issuance of stock. Petitioners would have us believe that the reference to traveling to Washington was for the purpose of Mr. Sharp's establishing a half-million dollar corporation in which he could invest Mrs. O'Malley's advances. The language of the November 2, 1970, writing and Mrs. O'Malley's testimony do not support petitioners' claim. The fact that Mr. Sharp executed an unconditional demand note in the amount of $10,000 bearing interest at a rate of 10 percent per annum from November 2, 1970, clearly indicates that when Mrs. O'Malley advanced the $10,000 to Mr. Sharp, she intended it as a personal loan to Mr. Sharp. Certainly Mrs. O'Malley did not intend the advances to remain financially unproductive prior to the formation of the proposed corporation. Supportive of this conclusion is Mrs. O'Malley's own testimony that "then he got this brainchild of going in and doing this stock thing, and this is the new -- a whole new deal, than what our original was." Alternatively, petitioners argue that the March 28, 1971, correspondence512 justifies an ordinary loss deduction. They claim that the letter is merely a written indication of prior oral conversations between Mrs. O'Malley and Mr. Sharp. Their contention is that Mrs. O'Malley and Mr. Sharp entered into a novation between mid-1970 and spring 1972 whereby Mrs. O'Malley's advances to Mr. Sharp would constitute a "pre-paid, presubscription agreement" for stock. We do not agree with petitioners' position with respect to a "novation." However, if Mrs. O'Malley's advances were a "pre-paid, presubscription agreement" for stock, petitioners would not be entitled to any greater deduction than the $1,000 allowed by respondent. Under sections 165(f) and (g) and Income Tax Regulation section 1.165-5(a)(2) and section 1.165-5(c), worthless securities, including "a right to subscribe for, or to receive, a share of stock in a corporation" are treated as a capital loss as limited by sections 1211 and 1212. See also Gawler v. Commissioner,60 T.C. 647">60 T.C. 647 (1973), affd. 504 F.2d 425">504 F.2d 425 (4th Cir. 1974). In our view, however, no such513 "pre-paid presubscription agreement" ever existed. We hold that Mrs. O'Malley made loans of $20,000 to Mr. Sharp and that when this debt became worthless in 1974 petitioners became entitled to a $1,000 deduction under section 166(d) for a nonbusiness bad debt.Decision will be entered under Rule 155. Footnotes1. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect in the years in issue.↩2. Section 165(c) reads in pertinent part as follows: SEC. 165. LOSSES. * * (c) Limitation on Losses of Individuals.--In the case of an individual, the deduction under subsection (a) shall be limited to-- * (2) losses incurred in any transaction entered into for profit, though not connected with a trade or business; * * ↩3. As applicable, section 166 reads in part as follows: 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. (2) Partially worthless debts.--When satisfied that a debt is recoverable only in part, the Secretary or his delegate may allow such debt, in an amount not in excess of the part charged off within the taxable year, as a deduction. * * *(d) Nonbusiness Debts.-- (1) General rule.--In the case of a taxpayer other than a corporation-- (A) subsections (a) and (c) shall not apply to any nonbusiness debt; and (B) where any nonbusiness debt becomes worthless within the taxable year, the loss resulting thereform 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.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623870/	Estate of Marcellus L. Joslyn, Robert D. MacDonald, Executor, Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Joslyn v. CommissionerDocket No. 5591-67United States Tax Court63 T.C. 478; 1975 U.S. Tax Ct. LEXIS 200; January 28, 1975, Filed 200 Decision will be entered under Rule 155. The estate incurred expenses in selling stock in a secondary offering. The stock was sold to a group of underwriters for $ 18.095 per share. The underwriters then sold the stock to the public for $ 19.25 per share. Held: Expenses incurred in making the sale are deductible. Sec. 2053, I.R.C. 1954. The deductibility of such expenses is not limited by the provisions of sec. 20.2053-3(d)(2), Estate Tax Regs., allowing a deduction for any loss on the sale of stock. Held, further, the underwriters' profit on the sale is not a broker's expense deductible under sec. 2053(a)(2), I.R.C. 1954. Malcolm George Smith, for the petitioner.Allan D. Teplinsky and Norman H. McNeil, for the respondent. Simpson, Judge. SIMPSON479 SUPPLEMENTAL FINDINGS OF FACT AND OPINIONThis case is now before the Court on remand from the United States Court of Appeals for the Ninth Circuit. The case was originally heard by this Court and decided in favor of the Commissioner (57 T.C. 722">57 T.C. 722 (1972)). Upon a petition for review, the Court of Appeals for the Ninth Circuit reversed our decision and remanded the case for further consideration in accordance with its opinion (500 F. 2d 382 (1974)).The parties having jointly moved to reconsider this case on the basis of the evidence in the record and briefs previously filed, no further hearing was held. The Court of Appeals ruled that we erred in holding that the selling expenses incurred in the secondary offering were not a deductible cost of administration under section 2053 of the Internal Revenue Code of 19541 because such selling expenses were taken into consideration in computing201 the value of the stock includable in the gross estate. The case was remanded so that we might consider "whether the particular deductions claimed are within the purview of section 2053 and, if so, what is the extent of those deductions." 2500 F. 2d at 387.FINDINGS OF FACTSome of the supplemental facts have been stipulated, and those facts are so found.On the date of his death, the decedent owned 66,099 shares of common stock in Joslyn Mfg. & Supply Co. (Joslyn). The stock was not then listed on any national exchange but was traded over the counter. In order to pay the estate's taxes and administration costs, a portion of the Joslyn stock was selected for sale by the petitioner.480 Due to the size of the petitioner's block of stock, it was decided that the best 202 method of selling the stock was by registering it and selling it by means of a secondary offering. Negotiations were begun with the stock brokerage firm of Hornblower & Weeks-Hemphill, Noyes (Hornblower) during the summer of 1964 to arrange the sale.On September 30, 1964, all the stock of Joslyn was split at the ratio of 4 to 1. After the split, the petitioner owned 264,396 shares of the stock. The process of registering the stock with the Securities and Exchange Commission (SEC) was thereupon commenced. The stock could not be publicly sold until the registration became effective.After the filing of the registration statement with the SEC, Hornblower sought other firms to participate in underwriting the sale of the Joslyn stock. It sought firms which had selling organizations oriented toward a wide distribution of the stock to the public.On March 30, 1965, the registration became effective. Thereupon, the petitioner 3 entered a firm commitment underwriting agreement with Hornblower who was acting as representative for 42 other underwriters. The agreement provided that the petitioner would sell 250,000 shares of Joslyn stock, and each underwriter would purchase its proportionate203 part, for $ 18.095 per share. The petitioner warranted its title to the stock free and clear of all liens so that delivery of the stock to the underwriters would vest title in them. The closing date on which payment to the petitioner was to be made in full by certified check was the sixth full business day after the effective date of the registration. The petitioner was to reimburse Joslyn for any expenses incurred in connection with the registration and to provide indemnification insurance for the underwriters.The obligation of the underwriters was made conditional on the stock remaining registered until the date for payment; on receiving various specified legal and accounting opinions and certifications; and on the following clause:(i) Since the date of this Agreement and prior to the Closing Date there shall not have occurred any substantial change in affairs which, in the opinion of the Underwriters (including the 204 Representative) who have agreed to purchase in the aggregate 50% or more of the Shares, has had such an effect on the financial 481 markets of the United States as to render it impractical or inadvisable to consummate the sale of the Shares at the price herein provided.The underwriting group sold the Joslyn stock to the public for $ 19.25 per share. Within a short period from March 30, 1965, the stock had been sold at retail to the public in 2,391 separate sales by members of the underwriting group and certain dealers.On April 6, 1965, pursuant to the terms of the underwriting agreement, the underwriters delivered checks for $ 4,523,750 ($ 18.095 per share) to the petitioner, and the petitioner in turn delivered 250,000 shares of Joslyn stock to the underwriters.The petitioner incurred and paid the following expenses in connection with the sale of the Joslyn stock:Travel expense$ 489.52Bond premium for underwriters13,679.09Attorneys for underwriters6,860.35Reimbursement to Joslyn47,447.96Costs of Kindel & Anderson1,726.77Total70,203.69These expenses and fees were approved by the California probate court with jurisdiction over the decedent's estate. 205 In this proceeding, the petitioner seeks to deduct as administration expenses the incidental expenses of the underwriting, consisting of $ 70,203.69, and the underwriting discount, consisting of the difference between the price it received for the stock and the price paid by the public, or $ 288,750. The Commissioner denied a deduction for these amounts.OPINIONWe must decide whether the incidental expenses and underwriting discount are deductible under section 2053(a)(2) which allows a deduction for administration expenses in computing a taxable estate. Section 20.2053-3(d)(2) of the Estate Tax Regulations provides:(2) Expenses for selling property of the estate are deductible if the sale is necessary in order to pay the decedent's debts, expenses of administration, or taxes, to preserve the estate, or to effect distribution. The phrase "expenses for selling property" includes brokerage fees and other expenses attending the sale, such as the fees of an auctioneer if it is reasonably necessary to employ one. Where an item included in the gross estate is disposed of in a bona fide sale (including a redemption) to a dealer in such items at a price below its fair market value, 206 for purposes of this paragraph there shall be treated as an expense for selling the item whichever of the following amounts is the lesser: (i) The 482 amount by which the fair market value of the property on the applicable valuation date exceeds the proceeds of the sale, or (ii) the amount by which the fair market value of the property on the date of the sale exceeds the proceeds of the sale. * * See §§ 20.2031-1 through 20.2031-9.The Commissioner agrees that the sale of the Joslyn stock was necessary to pay the expenses of administration and taxes. See Estate of David Smith, 57 T.C. 650">57 T.C. 650 (1972), on appeal (C.A. 2, Apr. 25, 1974); Estate of Mabel F. Colton Park, 57 T.C. 705">57 T.C. 705 (1972), revd. 475 F. 2d 673 (C.A. 6, 1973). However, he argues that the third sentence of the above-quoted regulation is a limitation on the deduction allowed by the first two sentences. According to that interpretation of the regulation, the expenses for the sale of the Joslyn stock are not deductible because the fair market value of the stock on the applicable valuation date did not exceed the proceeds of the sale. 207 There may be a question as to whether the stock was sold to "dealers" within the meaning of the regulations, but we need not decide that question, for we are convinced that the Commissioner's proposed interpretation of the regulations is completely unwarranted.The disputed provision of the regulations does not purport to be a limitation on the deduction authorized by the first two sentences of the paragraph. It provides that the lesser of the two amounts "shall be treated as an expense for selling the item [emphasis supplied]," not the only expense allowed. The sentence in question merely allows an additional deduction to the estate if it suffers a loss on the sale of an item. It does not purport to deny or limit a deduction for other expenses incurred when a sale to a dealer is made.A review of the history of this regulation provides additional support for our view of the regulations. Since the early days of the estate tax, the regulations have consistently allowed a deduction for brokerage fees and other reasonable expenses connected with the sale if necessary for the administration of the estate. 4 The sentence concerning a sale to a dealer was not added until 208 1965; it was not added as a result of any new statutory limitation. The new sentence was added to section 20.2053-3(d)(2) at the same time as the amendment of sections 20.2031-1 through 20.2031-9, relating to the valuation of property included 483 in an estate, and it is apparent that the amendment of section 20.2053-3(d)(2), allowing a deduction for a sale at a loss, was a corollary of the adoption of new rules for the valuation of property included in the estate. See T.D. 6826, 2 C.B. 368">1965-2 C.B. 368-369. Accordingly, we hold that the third sentence of section 20.2053-3(d)(2) does not affect the deductibility of the incidental expenses for the sale of the Joslyn stock. In view of that conclusion, we need not consider the petitioner's alternative argument that the amended regulation could not retroactively apply in this case.209 The incidental expenses incurred by the estate in connection with the sale of the stock are clearly expenses of selling property. Furthermore, they were allowed as expenses of administration by the California probate court which had jurisdiction over the estate. See Estate of Louis Sternberger, 18 T.C. 836">18 T.C. 836 (1952), affirmed per curiam 207 F. 2d 600 (C.A. 2, 1953), reversed on other issues 348 U.S. 187">348 U.S. 187 (1955). Consequently, they are deductible under section 2053(a)(2) as administration expenses.The petitioner also claims that the underwriting discount is deductible as a brokerage fee. It contends that the underwriting agreement, while in form a contract of sale, was in substance a brokerage agreement. However, we find that the substance of the agreement, as well as the form, was a sale by the estate to the underwriters.The underwriting agreement was by its terms a sale. The underwriters agreed to pay for the stock regardless of whether they were able to sell any of it to the public. 5 This form of agreement is known as "firm commitment" underwriting.It is not technically underwriting in 210 the classic insurance sense. But its purpose and effect are much the same in that it assures the issuer of a specified amount of money at a certain time (subject frequently to specified conditions precedent in the underwriting contract) and shifts the risk of the market (at least in part) to the investment bankers. The issuer simply sells the entire issue outright to a group of securities firms, represented by one or several "managers" or "principal underwriters" or "representatives." They in turn sell at a price differential to a larger "selling group" of dealers. And they sell at another differential to the public. In a very limited sense the process is comparable to the merchandising of 484 beans or automobiles or baby rattles. The issuer is the manufacturer of the securities; the members of the underwriting group are the wholesalers; and the members of the selling group are the retailers. * * * [1 Loss, Securities Regulation 164 (2d ed. 1961).]There was no evidence that the underwriting agreement was other than a bona fide sale to the underwriters; they were acting as principals and were not mere agents for the estate. Compare Demarco v. Edens, 390 F.2d 836">390 F. 2d 836, 844211 (C.A. 2, 1968), with Spence v. Balogh & Co., 216 F. Supp. 492">216 F. Supp. 492, 494 (D. D.C. 1962), affirmed per curiam 317 F. 2d 909 (C.A.D.C. 1963), certiorari denied 375 U.S. 823">375 U.S. 823 (1963), and S.E.C. v. Investment Bankers, 181 F. Supp. 346">181 F. Supp. 346, 348 fn. 4 (D. D.C. 1960); cf. Francis C. Currie, 53 T.C. 185">53 T.C. 185 (1969).The petitioner argues that the underwriters bore no risks through their purchase of the stock. Because of the212 "market-out" clause in the underwriting agreement, it argues that the underwriters could terminate their obligations at will prior to the closing date. The clause provided that if the purchasers of 50 percent of the stock, in their absolute judgment, determined that there had been a substantial change in affairs which had had such an effect on the market so as to make a sale of the stock at the agreed price impractical or inadvisable, the obligation of the underwriters would be terminated. In our opinion, that clause cannot be used to eliminate all risks on the part of the underwriters.In Blish v. Thompson Automatic Arms Corp., 30 Del. Ch. 538">30 Del. Ch. 538, 569, 64 A. 2d 581, 597 (1948), the plaintiff argued that a "market-out" clause, similar to the one involved here, made the underwriting contract invalid for a lack of mutuality, because the underwriters could void the contract at will. The court found that: "The term 'absolute judgment', as indicated, means a judgment based upon sincerity, honesty, fair dealing and good faith, not one evidencing caprice or bad faith." The court found that the "market-out" clause did not make the contractual 213 obligations of the underwriters illusory. Their obligations were conditional, but an objective test determined whether the condition had occurred. Thus, contrary to the petitioner's assertions, the underwriters herein bore far greater risks than mere agents.We find that while many of the risks of the sale remained with the seller, the underwriters could not terminate the contract at will. They were not mere conduits through which the petitioner 485 transferred title to the stock to the public. The sale was not a mere formalism which can be disregarded when considering the tax consequences of the sale. Compare Commissioner v. Court Holding Co., 324 U.S. 331">324 U.S. 331, 334 (1945).In maintaining that it is entitled to deduct the underwriters' discount, the petitioner relies upon Estate of Henry E. Huntington, 36 B.T.A. 698">36 B.T.A. 698 (1937). However, Huntington is readily distinguishable from the present case. In Huntington, the executor sold notes to an underwriter at a discount and later repurchased them at a premium. We held there that the entire amount of the discounts and premiums was a deductible expense. However, *214 the nature of that transaction was far different from the present case. In substance, the executor in Huntington merely borrowed money by selling the notes. When he repurchased them, he in effect was repaying the loans. The difference between what he received and what he paid back was the cost of borrowing the money, which we found to be deductible.In the present case, there was merely a sale of an asset of the estate. We have found that there was in substance, as well as form, a sale to the underwriters. The underwriters' subsequent profit is not a deductible cost of administration.Decision will be entered under Rule 155. Footnotes1. All statutory references are to the Internal Revenue Code of 1954.↩2. The legal expenses of this litigation are to be considered in a computation pursuant to Rule 155, Tax Court Rules of Practice and Procedure.↩3. Trustees of an unrelated trust were also parties to the agreement as selling shareholders.↩4. The provision first appeared in 1919 in art. 44, Regs. 37. It was reiterated in similar language in 1942 in sec. 81.35, Regs. 105, and in 1958 in sec. 20.2053-3(d)↩, Estate Tax Regs.5. The petitioner offered proof to show that all the stock was sold by the underwriters prior to the closing date. We need not pass on the Commissioner's objection to such evidence, for we find it not determinative in this case. In our view, the fact that the underwriters' obligations were not conditional upon their ability to sell all of the stock is the controlling factor. The fact that all of it may have been sold does not prove that the underwriters were mere brokers.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623871/	ROBERT J. TWOHEY AND SUZANNE R. TWOHEY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentTwohey v. CommissionerDocket No. 20444-91United States Tax CourtT.C. Memo 1993-547; 1993 Tax Ct. Memo LEXIS 567; 66 T.C.M. (CCH) 1394; November 22, 1993, Filed 567 Decision will be entered under Rule 155. For petitioners: James A. Bennett. For respondent: Richard A. Stone. JACOBSJACOBSMEMORANDUM FINDINGS OF FACT AND OPINION JACOBS, Judge: Respondent determined the following deficiencies in, and additions to, petitioners' Federal income taxes: Additions to TaxSec.Sec.Sec.YearDeficiency6653(a)(1)(A)6653(a)(1)(B)6661(a)1986$ 8,132$ 4331$ 2,08819875,00527721,383All section references are to the Internal Revenue Code in effect during the years at issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. This case involves the deductibility of rental losses claimed by petitioners on Schedule E of their 1986 and 1987 joint income tax returns with regard to a Scottsdale, Arizona, condominium unit they owned. The specific issues for decision are: (1) Whether petitioners used their Scottsdale, Arizona, condominium for personal purposes in excess of 14 days in either 1986 or 1987. We hold that they did not. (2) Whether petitioners are liable for the additions568 to tax pursuant to section 6653(a)(1)(A) or (B) or 6661. We hold that they are not. FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. The stipulation of facts and attached exhibits are incorporated herein by this reference. Robert J. Twohey and Suzanne R. Twohey, husband and wife, filed joint Federal income tax returns for 1986 and 1987. At the time the petition was filed, petitioners resided in Champaign, Illinois. Robert J. Twohey is a cardiologist; Suzanne R. Twohey is a counselor. They have two daughters, Mary and Amy. During the years at issue, Mary was approximately 18 years old, and Amy was approximately 12 years old. Robert Twohey worked eight summers in construction during high school and college. He has taken advanced courses in woodworking and related subjects from a local junior college. He has taken several shopsmith courses on woodworking, and he maintains a complete tool shop at home. In May 1985, petitioners purchased a condominium unit (Condominium) located at 10015 East Mountain View Road, Scottsdale, Arizona. The Condominium measures 1,100 square feet, exclusive of garage and patios. It contains two bedrooms, two bathrooms, 569 a living room, dining room, kitchen, vanity, and dressing area. The Condominium is located in a complex known as The Fountains. The Fountains encompasses a total of 160 condominium units. Petitioners occupied the Condominium for a total of 29 days during 1986 and 38 days during 1987. These days were spread over seven time periods as follows: 12/20/85 -01/04/8604/19/86 -04/29/8609/21/86 -09/30/8612/28/86 -01/11/8705/09/87 -05/23/8709/20/87 -09/26/8712/27/87 -01/10/88Petitioners rented out the Condominium for a total of 48 days during 1986 and 49 days during 1987. The dates of such rentals were: 02/16/86 -04/04/8602/15/87 -04/04/87Petitioners testified at length with regard to the failure of the builder and developer to complete the Condominium, and the necessity for petitioners to perform substantial repairs and maintenance in order to make the Condominium suitable for rental purposes. Petitioners maintained extensive documentation of the amounts and timing of these expenditures. Petitioners recorded a diary in which they kept track of the days they spent performing such work on the Condominium. According to this diary, one or both of petitioners570 were engaged in work on the Condominium for 16 of the 29 days that they occupied the Condominium in 1986, and 24 of the 38 days that they occupied the Condominium in 1987. Such work included the installation of the following items: patio drain covers carpeting water purifier door guards metal storage room doors shelves houseplants shower hooks window sun film cable television phone jacks shower and tub stalls security locks Such work also involved cleaning and other common forms of maintenance. OPINION 1. Petitioners Did Not Use the Condominium for Personal Purposes in Excess of 14 days in Either 1986 or 1987Deductions in connection with the rental of a vacation home are limited if the vacation home is used by the taxpayer during the taxable year as a residence. Sec. 280A(c)(5). A taxpayer is considered to have used a vacation home as a residence if he uses the vacation home for personal purposes for a number of days which exceeds the greater of 14 days or 10 percent of the number of days during the year for which the property was rented at a fair rental. Sec. 280A(d)(1). Here, for both years at issue, 14 days is greater than 10 percent of the number571 of days during the year for which the Condominium was rented. If the taxpayer, during a given year, has occupied his vacation home for personal purposes in excess of 14 days, section 280A limits deductions so as to not exceed gross rental income. Sec. 280A(c)(5). In general, if a taxpayer uses the home for personal purposes for any part of a day, that day is counted as one of personal use. However, pursuant to section 280A(d)(2), if the taxpayer is engaged in repair and maintenance of the residence on a substantially full-time basis for any day, such use will not constitute personal use of the residence. If the taxpayer is engaged in repair and maintenance of his vacation home on a substantially full-time basis for any day, and other individuals who are on the premises at that time are not so engaged, the mere presence of the other individuals does not allow the Secretary to treat such use as personal. Sec. 280A(d)(2). Respondent contends that petitioners engaged in making capital improvements to the Condominium that do not fall within the statutory exception for repairs and maintenance. We disagree. Petitioners testified at length as to the condition of the Condominium at572 the time they acquired it, and, specifically, the extent to which there existed portions of the Condominium and related areas in disrepair. Petitioners testified in detail as to their construction experience and the exact work they performed each day. Their uncontroverted testimony was believable. We are satisfied that petitioners performed extensive work in their attempts to make the property suitable and competitive for rental purposes. Petitioners have documented the extent and necessity of this work and the days in which they were so engaged. We believe that this work was ordinary and necessary in order to keep the Condominium competitive in its market. We accept petitioners' assertions that they actually did spend the days they claimed performing substantial work on the Condominium. We are satisfied that petitioners' actions are covered by the repairs and maintenance exception authorized by section 280A(d)(2). Consequently, we hold that petitioners did not use the Condominium for personal purposes in excess of 14 days during either 1986 or 1987. 2. Petitioners Are Not Liable for the Additions to Tax Pursuant to Section 6653(a)(1)(A) or (B) or 6661. A small deficiency*573 may exist because of concessions by petitioners, and because of a capital item petitioners expensed that must be depreciated. Petitioners concede that personal expenditures of $ 95.70 for 1986 and $ 222.79 for 1987 are not deductible. Petitioners spent $ 450 for a decorative statue that must be depreciated rather than expensed. This deficiency, however, will not be a substantial understatement within the meaning of section 6661. Consequently, we hold that petitioners are not liable for the addition to tax pursuant to section 6661. We also find that this small deficiency is not due to negligence. Consequently, we hold that petitioners are not liable for the addition to tax pursuant to section 6653(a)(1)(A) or (B). To reflect the foregoing, Decision will be entered under Rule 155. Footnotes1. 50 percent of the interest due on $ 8,659.↩2. 50 percent of the interest due on $ 5,530.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623874/	W. CORDELL CLINGER and SHAUNA C. CLINGER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentClinger v. CommissionerDocket No. 20008-88United States Tax CourtT.C. Memo 1990-459; 1990 Tax Ct. Memo LEXIS 504; 60 T.C.M. (CCH) 598; T.C.M. (RIA) 90459; August 27, 1990, Filed 504 Decision will be entered for the respondent. P studied art under Alvin Gittins, a well-known portrait artist in the Intermountain area. In 1984, she purchased one of his paintings which she placed in her studio. P believed the painting would provide her with an educational benefit (i.e., she could study the painting to further perfect her skills) and would promote the sale of her own paintings. Held: 1. The enactment of the accelerated cost recovery system (ACRS) under the Economic Recovery Tax Act of 1981 did not abolish the requirement that an asset have a determinable useful life in order to be depreciable. 2. Respondent's disallowances of ACRS deductions, investment tax credit, and section 179 expense deduction with respect to the painting are sustained. John J. Borsos, for the petitioners. Joel A. Lopata, for the respondent. JACOBS, Judge. JACOBSMEMORANDUM FINDINGS OF FACT AND OPINION Respondent determined deficiencies in petitioners' Federal income taxes for the years 1984 and 1985 in the amounts of $ 1,524.24 and $ 471.70, respectively. The issue for decision concerns petitioners' 507 entitlement to a depreciation deduction, an investment tax credit, and a deduction under section 1791 with respect to the purchase of an oil painting in 1984. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and accompanying exhibits are incorporated herein by reference. W. Cordell Clinger and Shauna C. Clinger, husband and wife, resided in Salt Lake City, Utah, at the time they filed their petition. They filed joint Federal income tax returns for 1984 and 1985. References to "petitioner" in the singular are to Shauna C. Clinger. Petitioner is a professional portrait artist and has a studio in Salt Lake City. She studied art at the University of Utah; one of her instructors was Alvin Gittins (Gittins), a well-known portrait artist in the Intermountain area. 508 At the time of trial, petitioner had been painting professionally for 15 years. Because of her expertise in portrait painting, she felt that Gittins' paintings were the standard against which her work would be evaluated. She believed that she could establish her credentials and facilitate the marketing of her paintings by purchasing a Gittins painting and placing it in her studio where potential customers could view it along with her paintings. She also believed that a Gittins painting would provide her with an educational benefit, i.e., she could study the painting to further perfect her artistic skills. In 1984, petitioner purchased a Gittins oil painting, entitled "Ethnic Study," from the deceased artist's estate for $ 9,000. She hung the painting in the front room of her studio, where it has remained for approximately 5 years. Petitioner has no present intention of moving the painting from her studio and plans to continue painting throughout her lifetime. On their 1984 Federal income tax return, petitioners claimed an ACRS deduction, an investment tax credit, and a section 179 expense deduction with respect to the purchased painting, which respondent disallowed. On their509 1985 Federal income tax return, petitioners claimed an ACRS deduction with respect to the painting, which respondent disallowed. OPINION Prior to the Economic Recovery Tax Act of 1981 (ERTA), Pub.L. 97-34, 95 Stat. 172, as a general rule, property was depreciable if it was (1) used in a trade or business or held for the production of income, and (2) subject to wear and tear, decay or decline from natural causes, exhaustion or obsolescence. In addition, the concepts of useful life and salvage value played a prominent role in the eligibility of a depreciation deduction. To be entitled to a deduction for depreciation, the property in question had to have a determinable useful life. The amount of depreciation, in total, was limited to the cost or other basis of the property less a reasonable estimate for salvage value. Prior to ERTA, the principal method used to determine useful lives for personal property was the Asset Depreciation Range (ADR) system. Under the ADR system assets were grouped into classes and a guideline life was determined for each class. Taxpayers were permitted to use a useful life of up to 20 percent longer or shorter than the guideline life established under510 the ADR system. For assets not eligible for ADR treatment and for taxpayers who did not elect to utilize ADR, useful lives generally were determined on a facts and circumstances basis. With the enactment of ACRS under ERTA, Congress overhauled the then existing depreciation regime in an effort to provide investment stimulus for economic expansion and to remove existing complexities. S. Rept. 97-144 (1981). ACRS provides for the recovery of capital costs for most tangible depreciable property by utilizing accelerated methods of cost recovery over one of various separate recovery periods depending upon the type of property. The amount of the ACRS deduction is determined by applying a statutory percentage to the original cost of an asset. Respondent cites in his brief several of our memorandum decisions in which the taxpayer was denied a depreciation deduction for artwork on the basis that the taxpayer failed to prove the artwork's useful life. 2 Petitioners assert that the cases relied upon by respondent are distinguishable in that they involve pre-ERTA law and argue that with the enactment of ACRS, the concepts of useful life and salvage value no longer have any role in determining511 whether property is depreciable. Although we agree with petitioners that the concept of salvage value has been eliminated with the enactment of ACRS under ERTA, we disagree that useful life considerations have been entirely eliminated. Section 168(a) provides for a deduction with respect to recovery property. In general, recovery property is defined as tangible property of a character subject to the allowance for depreciation which is used in a trade or business or held for the production of income. Sec. 168(c). The cost of an eligible asset is recovered over a predetermined recovery period based upon the class of512 recovery property into which the asset falls. The classes of recovery property, i.e., 3-year property, 5-year property, etc., make reference to "present class lives," a term borrowed from the ADR system. Sec. 168(c)(2). Thus, the ADR system of pre-ERTA law provides a basis for determining the applicable recovery period under ACRS. ACRS eliminated the concept of salvage value by permitting the entire cost of an asset to be recovered. Sec. 168(b). Petitioners likewise posit that the concept of useful life has been eliminated. The legislative history to ERTA provides some guidance in this regard. In explaining the reasons for the change in law, the portion of the Senate Report discussing ACRS provides: The committee believes that a new capital cost recovery system should be structured which de-emphasizes the concept of useful life, minimizes the number of elections and exceptions, and so is easier to comply with and to administer. S. Rept. 97-144, supra at 47. While we acknowledge that the concept of useful life may have been deemphasized by the enactment of ERTA, we513 reject petitioner's contention that it was altogether eliminated. Congress achieved simplification of the depreciation system by supplanting the ADR system with predetermined recovery periods based upon defined classes of property. In defining recovery property, section 168(c) refers to an "allowance for depreciation." Additionally, various classes of recovery property are defined by reference to the ADR system. Admittedly, the predetermined recovery periods under ACRS are generally shorter than the economic useful lives under the pre-ACRS regime. However, this is consistent with Congress' goal of providing incentives to fuel economic expansion rather than a wholesale abandonment of the useful life requirement. Accordingly, it is our opinion that the concept of useful life was not eliminated by the enactment of ACRS under ERTA; hence, where respondent has determined that a taxpayer's assets have no determinable useful life and consequently are not depreciable, petitioner must establish that an asset used in a trade or business has a determinable useful life and prove the class of recovery514 property to which it is assigned. See Potts, Davis & Co. v. Commissioner, 431 F. 2d 1222 (9th Cir. 1970), affg. a Memorandum Opinion of this Court. We therefore must examine the record to determine whether petitioner has established a determinable useful life for the Gittins painting. Respondent contends that the painting was a work of art rather than a mere wall decoration and therefore it did not have a determinable useful life; petitioner believes otherwise. The theory underlying respondent's position is articulated in Revenue Ruling 68-232, 1 C.B. 79">1968-1 C.B. 79, which provides in its entirety as follows: A valuable and treasured art piece does not have a determinable useful life. While the actual physical condition of the property may influence the value placed on the object, it will not ordinarily limit or determine the useful life. Accordingly, depreciation of works of art generally is not allowable. A.R.R. 4530, C.B. II-2, 145 (1923), is superseded, since the position set forth therein is restated under current law in this Revenue Ruling. Respondent's515 ruling, of course, does not constitute authority in this Court. Tandy Corp. v. Commissioner, 92 T.C. 1165">92 T.C. 1165, 1170 (1989). Petitioner advances several arguments to support her entitlement to the claimed deductions and investment tax credit. First, she argues that respondent has failed to establish that the painting was a valuable and treasured work of art, as opposed to a mere wall decoration which has a determinable useful life. She misunderstands the burden of proof. Respondent's determinations are presumptively correct. Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). The issuance of the revenue ruling cited above in no way shifts the burden of proof. While we find it unnecessary to decide the correctness of respondent's contention that works of fine art are never depreciable, see Associated Obstetriciana and Gynecologists, P.C. v. Commissioner, T.C. Memo. 1983-380; Hawkins v. Commissioner, T.C. Memo. 1982-451, affd. 713 F. 2d 347 (8th Cir. 1983), the burden remains on petitioner to establish (1) 516 that the property in question has a determinable useful life and (2) the class of recovery property to which it is assigned. Petitioner contends that the portrait had a useful life of 5 years, the period of time in which she expected her skills and reputation to surpass those of Gittins. This contention is speculative and unconvincing. Petitioner alternatively posits that the portrait had a useful life based upon her life expectancy. This argument also lacks merit. In Coussement v. Commissioner, T.C. Memo. 1966-179, affd. 391 F. 2d 227 (6th Cir. 1968), the taxpayer argued that the useful life of a building which he had purchased was 20 years because, as a 57 year old man, he could be expected to live only 20 years from the date of acquisition. We rejected the "bizarre suggestion" that the owner's life expectancy should determine the depreciable useful life of an asset whose inherent value does not terminate upon the owner's death. Here, petitioners have failed to establish that the painting had a determinable useful life. Accordingly, it is not recovery property under section 168(c), and respondent's disallowance of petitioners' claimed ACRS517 deductions for 1984 and 1985 is sustained. We next must decide whether petitioners are entitled to their claimed investment tax credit and section 179 expense deduction. Section 38 allows a tax credit for investments in section 38 property as defined in section 48(a). Under section 48(a), section 38 property is, in general, personal property that is recovery property under section 168 or for which depreciation is otherwise allowable under section 167(a). Section 179(a) allows an expense deduction for section 179 property in the year the property is placed in service. For 1984, the aggregate cost which may be deducted under section 179 is $ 5,000. Section 179(b) . Under section 179(d), section 179 property is recovery property which is section 38 property and which is acquired by purchase for use in a trade or business. To be eligible for the investment tax credit and the deduction provided for under section 179, an asset must be section 38 property. Having already found that the painting is not recovery property subject to depreciation, it follows that it is not section 38 property. *518 Accordingly, petitioners are not entitled to an investment tax credit or a deduction under section 179 with respect to the painting. Decision will be entered for the respondent. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Associated Obstetricians and Gynecologists, P.C. v. Commissioner, T.C. Memo 1983-380">T.C. Memo. 1983-380; Hawkins v. Commissioner, T.C. Memo. 1982-451, affd. 713 F.2d 347">713 F.2d 347 (8th Cir. 1983); and Judge v. Commissioner, T.C. Memo. 1976-283↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623875/	ROYAL W. IRWIN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Irwin v. CommissionerDocket No. 79044.United States Board of Tax Appeals37 B.T.A. 51; 1938 BTA LEXIS 1094; January 11, 1938, Promulgated 1094 The petitioner was regularly engaged in the mining business in 1931 and he was entitled to carry over a net loss from that year to offset income of 1932. Peter L. Wentz, Esq., for the petitioner. Elmer L. Corbin, Esq., for the respondent. MURDOCK 52 The Commissioner determined a deficiency of $3,201.61 in the petitioner's income tax for 1932. The only adjustment made was the disallowance of $32,379.32 as a net loss carried over from 1931. The only error assigned is the disallowance of that item. FINDINGS OF FACT. The petitioner is an individual, who filed his income tax return for 1932 with the collector of internal revenue for the first district of Illinois. He is a lawyer, practicing his profession in Chicago. He had an ambition to own a mine, had investigated a number of mining properties over a period of years, and had invested in three. His interest in these had ceased long prior to 1931. He entered into an agreement in 1922 with N. B. Holter, who owned mineral-bearing lands in Montana. This agreement was followed by four others between the same parties relating to the same or some of the same properties. The differences1095 in these agreements are not now material. The last of the series was dated November 15, 1926. It gave the petitioner an option to purchase the property for $125,000 and the right to mine and remove ore upon payment of royalties to Holter. All royalties paid were to be applied as payments on the option price, but were to be retained as rent in case of termination for failure of the petitioner to comply with the agreement. He was required to do at least a designated amount of work each month. There were at least two openings on the property, and through these openings a considerable quantity of ore was blocked off at the time the petitioner took possession in 1922. The mine had been operated many years previously and there were about 40,000 tons of tailings on the property. The petitioner planned to block out additional ore deposits and thereafter to rebuild an old mill which was on the property and to develop a separating process, so that he could market his product on a sound financial and commercial basis. During the first several years of his proprietorship additional tunnels and driftings were made, a new deposit was opened, and water power was developed. He rebuilt the1096 mill in 1926 and equipped it with second-hand machinery. From 1926 to 1931 some additional digging was done on the property and a great deal of effort was expended in an attempt to discover a satisfactory separating process for the rather complicated ore found on the property. The petitioner during 1930 failed to comply with the provision of the agreement which required him to do a certain amount of work on the property in each month. The owner in December 1930 gave notice to the petitioner under which the lease was terminated in the early part of 1931. The petitioner thereupon lost all of the interest 53 which he formerly had in the property. During the period from 1922 until the termination of the agreement the petitioner was regularly and continuously engaged in the business of mining the ore from this property. He made frequent visits to the property and regularly communicated with his mining engineer, who resided at the property and was in charge of the work there. The petitioner expended $65,217.80 during the period from 1922 until the termination of the lease in attempting to develop the property for commercial mining purposes. The money was expended for salaries, 1097 wages, mining supplies, and mining equipment. The mill was completed in 1926, but a satisfactory method for separating the ore was never developed. The petitioner never completely developed the property for commercial mining purposes. A small amount of ore was removed from the property and sold for experimental purposes in an effort to determine whether or not it would smelt properly and in an effort to develop a satisfactory process for separating the various minerals in the ore. The total amount received from sales was $4,136.15. Part of this was paid to Holter as royalties and the petitioner retained $3,667.46 as the entire proceeds which he received from the property. Although the petitioner never succeeded in producing ore from the property on a commercial basis, he continued his efforts to do so until the termination of the lease. He never claimed and he was not allowed any deduction from income in connection with his development work on this property for years prior to 1931. He deducted $6 ,570.44 as a loss on his income tax return for 1931. The Commissioner allowed the loss for 1931. Thirty-two thousand three hundred and seventy-nine dollars and thirty-two cents1098 of the loss was not needed to offset income of 1931 and was claimed on his return for 1932 as a net loss of 1931, completely offsetting all net income for 1932. The Commissioner disallowed the claimed net loss as a deduction from income for 1932. OPINION. MURDOCK: The figures involved are not disputed. The Commissioner suggests that the loss may not have been from a business regularly carried on by the petitioner. Sec. 117(a)(1), Revenue Act of 1932. The evidence shows, however, that the petitioner was regularly engaged in the mining business in connection with this particular property during all of the period from 1922 until the termination of the agreement in 1931. He gave the work a part of his personal attention, made frequent visits to the property, received regular reports from his mining engineer, wrote frequently to the latter instructing him in the conduct of the work, and was personally responsible for all decisions. He was also engaged in other business and 54 he failed to develop this property commercially, but those facts did not prevent him from being regularly engaged in this mining business. 1099 ; affd., ; certiorari denied, ; ; affd., ; ; . Since the expenditures were all made in an effort to develop the property, they were not deductible in years prior to 1931. Art. 235, Regulations 77. Cf. . The net receipts were from sales made from ore produced for experimental purposes. No deduction for depreciation or depletion was ever claimed or allowed. None was allowable to the petitioner. The capital net loss section has no application, since the expenditures did not result in the acquisition by the petitioner of any capital asset and since his loss did not result from a sale or exchange. Sec. 101 (c)(2) and (8); ; affd., ; ; affd., 1100 . Decision will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623878/	Laura S. Fletcher v. Commissioner.Fletcher v. CommissionerDocket No. 5399-68.United States Tax CourtT.C. Memo 1970-228; 1970 Tax Ct. Memo LEXIS 129; 29 T.C.M. (CCH) 981; T.C.M. (RIA) 70228; August 11, 1970, Filed Laura S. Fletcher, pro se, 9070 Imperial Highway, Apt. 18, Downey, Calif.Michael J. Christianson, for the respondent. RAUMMemorandum Findings of Fact and Opinion RAUM, Judge: The Commissioner determined a deficiency in the income tax of petitioner for the taxable year 1967 in the amount of $322.98. At issue is whether petitioner may deduct amounts in excess of those allowed by the Commissioner in respect of her claimed deductions for: (1) contributions to her church; (2) a bad debt; (3) a casualty loss; and (4) the cost of a typewriter used in her trade or business. The petitioner is Laura S. Fletcher. She resided in Downey, California, at the time she filed her petition herein. She filed130 an individual Federal income tax return for the year 1967 with the district director of internal revenue, Los Angeles, California. The issues presented herein are entirely factual, and, the burden of proof with respect to the deductions claimed is on the petitioner. Welch v. Helvering, 290 U.S. 111">290 U.S. 111. We will consider the petitioner's claims in order. 1. Petitioner claimed a deduction of $500 for contributions to the Christian Science Church. The Commissioner allowed a total of $325 in respect of this amount, including an allowance of $75 for the use of petitioner's automobile in connection with her church. Petitioner testified that she made weekly donations to the church ranging in amount from a low of $3 per week to a high of $25. However, she was absent from church on some weeks, and her larger contributions generally took into account her absence of a prior week or weeks. Sometimes she made her donations by check, and she had cancelled checks totaling $125 in respect of her donations in the year in issue. She kept no records of the amounts given in the form of cash contributions and her claimed deduction of $500 for the year was based only on an estimate by her131 that she contributed an average of $10 per week. In his determination, the Commissioner allowed a deduction of twice the amount of the cancelled checks, namely, $250, plus $75 for charitable use of her automobile, or a total of $325. On this record we cannot find that he erred in respect of this item, and indeed his action appears to have been entirely reasonable. We find as a fact that petitioner's total contributions to her church in 1967 did not exceed $325. 2. Petitioner seeks a bad debt deduction, disallowed by the Commissioner, in the amount of $550, based upon a loan made by her during March, 1967, to her eldest son who was then about 42 years old and who needed the money in an "emergency" of an undisclosed nature. Though petitioner expected the amount to be repaid, no time limit was set for repayment nor has petitioner pressed him for repayment. Her son is an engineer and has been employed continuously since the time of the loan. The record fails to establish that the son is unable to make repayment. Petitioner still expects that the loan will be repaid and there is nothing in the record to indicate that it will not. She has failed to prove that the Commissioner erred in132 denying a bad debt deduction in respect of this item. 3. Petitioner argues that the Commissioner erred in disallowing a deduction for a claimed casualty loss in the amount of $491.50. The alleged loss resulted from an automobile accident in which her car, a 1962 or 1963 Dodge Lancer which she had previously purchased second-hand, was totally destroyed while being driven by her grandson. Petitioner's insurance company valued her car at $675 and, after a "deductible" of $100, paid her $575 therefor. A short time before the accident petitioner had a new engine installed in the car at a cost of approximately $254. She replaced her wrecked automobile with another costing approximately $914. To compute the loss 983 claimed, petitioner added the cost of the new motor installed in the wrecked car to the cost of the new car, and deducted therefrom the value of her wrecked car as determined by the insurance company, $675. We do not accept petitioner's computation as to the loss in respect of her car. The amount allowable under the Code as a casualty deduction in the case of a total loss is the lesser of the fair market value of the property before the casualty or the adjusted basis133 of the property at the time of loss. Regs. section 1.165-7(b)(1)(i) and (ii); see Regs. section 1.165-7(b)(3), Example 1. The loss deduction is permitted only for amounts exceeding $100. Section 165(c)(3), I.R.C. 1954. Here, petitioner's car was valued at $675 by her insurance company and she received $575 from it for the wrecked car apparently without contesting the amount. No evidence was produced to show that the fair market value of her car immediately before the accident exceeded $675, notwithstanding that petitioner had a new engine installed in her car shortly before the accident. Further, the cost of her new car has no bearing on the fair market value of the wrecked car. Since she received $575 for her car from her insurance company, it is clear that she did not suffer a deductible loss in excess of $100 as is required by the statute. 4. Finally, petitioner claimed a deduction for the cost of a typewriter in the amount of $300.61 which she uses in her trade or business. The Commissioner ruled that the cost of the typewriter is a capital expenditure which must be spread over its useful life of 10 years. He accordingly disallowed a deduction for the cost of the typewriter as*134 an expense, but allowed depreciation in respect thereof. We agree with the Commissioner. It is clear that the typewriter has a useful life longer than one year and petitioner has produced no evidence to suggest that its useful life is less than the 10 years determined by the Commissioner. We can find no error in his determination in connection with this item. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623879/	MAYNARD M. and BARBARA A. LARSON, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentLarson v. CommissionerDocket No. 2696-84.United States Tax CourtT.C. Memo 1986-542; 1986 Tax Ct. Memo LEXIS 60; 52 T.C.M. (CCH) 996; T.C.M. (RIA) 86542; November 12, 1986. Maynard M. and Barbara A. Larson, pro sese. Dean H. Wakayama, for the respondent. GOFFEMEMORANDUM FINDINGS OF FACT AND OPINION GOFFE, Judge: The Commissioner63 determined deficiencies in petitioners' Federal income taxes and additions to tax under section 6653(a)(1)1 for the taxable years 1980 and 1981 as follows: Addition to TaxTaxable YearDeficiencyUnder Sec. 6653(a)(1)1980$3,916$19619815,622281The issues for decision are: (1) whether petitioners' breeding and selling of horses constituted an "activity not engaged in for profit" within the meaning of section 183; (2) whether petitioners are entitled to an investment tax credit for assets used in the horse breeding and selling activity; (3) whether petitioners are entitled to a residential energy credit for a fireplace insert; (4) whether petitioners are entitled to a casualty loss deduction for a horse barn destroyed by wind; (5) whether petitioners are entitled to a credit for child and dependent care expenses; and (6) whether petitioners are liable for the addition to tax under section 6653(a)(1). FINDINGS64 OF FACT Some of the facts have been stipulated and are so found. The stipulated facts and exhibits attached thereto are incorporated herein by this reference. Petitioners, Maynard M. Larson and Barbara A. Larson, husband and wife, resided in Auburn, Washington, at the time they filed their petition in this case. Petitioners filed joint Federal income tax returns for the taxable years 1980 and 1981. During 1980, Maynard M. Larson (Maynard) was employed as a salesman by Duo-Fast Washington, Inc. (Duo-Fast), a distributor of Duo-Fast, Incorporated, which makes nails and staple guns sold to the construction industry. In September 1980, Maynard went to work as the local representative of Amerace Corporation (Amerace), selling high strength elastic nuts and bolts. He worked a minimum of 40 hours per week on these jobs and received approximately $19,850 and $21,200 as wages for the taxable years 1980 and 1981, respectively. On petitioners' Federal income tax returns his occupation was listed as "sales." Barbara A. Larson (Barbara) was employed by Coast-to-Coast Hardware and received approximately $7,200 and $9,200 as wages for the taxable years 1980 and 1981, respectively. Maynard65 was born in North Dakota, raised on a farm and has always been around agriculture. He has been riding horses for approximately 32 years and has been roping calves and steers for about 20 years. Maynard has a degree in business administration. In 1969 and 1970 he served an apprenticeship with Don McMann, one of the largest paint horse breeders in the State of Washington. During his apprenticeship, Maynard learned to break and train colts. In 1973 petitioners purchased their residence and two and one-half acres of land. In 1978 petitioners purchased an additional three acres adjacent to their land for $10,000. On this five and one-half acres petitioners conducted the horse breeding and selling activity. During the taxable years in issue, petitioners conducted the activity under the name "Rocky Acres Ranch." In 1979 petitioners constructed a three stall barn on the property at a cost of $6,407 and purchased a horse trailer for $2,635. In 1980 petitioners made $1,453 worth of additions to the barn and in 1981 had a stud stall built at a cost of $1,246. 266 During the taxable years in issue, petitioners owned a paint mare named "Sweet Apache," which was acquired in 1974. Petitioners also owned a sorrel gelding quarterhorse named "Santana," acquired in 1975 for $550, and a bay gelding named "Norcho's Ringo," acquired in 1978 for $450. In 1980 petitioners purchased an Appaloosa gelding for $600. In 1981 petitioners purchased "I'm Ready," a quarterhorse gelding for $500. During the taxable years in issue, petitioners sold "Norcho's Ringo" and "Santana" for $1,150 and $1,500, respectively. They also reported boarding fees of $190 and income from roping events of $200 for the taxable year 1980 and boarding fees of $750 for the taxable year 1981. "Sweet Apache," petitioners' mare, was sold in 1982 for $3,500. During the taxable years in issue, petitioners owned two automobiles, a 1976 Ford LTD and a 1979 Ford pickup truck. The Ford LTD was purchased in January 1979 for $2,000. Barbara used it to commute to work and it was also used to tow petitioners' horse trailer to a local arena in the summer months. The pickup truck was purchased in June 1979 for $8,900. Maynard used the pickup truck to commute to work and in his jobs with67 Duo-Fast and Amerace. He also used it in connection with the horse breeding and selling activity to haul grain and feed and to tow the horse trailer. On three occasions the pickup truck and trailer were used to transport some of the horses that petitioners' daughter used for her 4-H activities in 1981. In 1980 he was reimbursed approximately $1,056 by Duo-Fast for travel expenses. While employed by Amerace, he was given a company credit card to cover fuel expenses incurred at his job. During the taxable years in issue, petitioners did not maintain a travel log. The horse breeding and selling activity was conducted on a cash basis. When feed was purchased Maynard made a notation on a calendar. The majority of the other expenses Maynard paid by check and retained the cancelled check for record keeping purposes. Maynard did not maintain a separate bank account for Rocky Acres Ranch and did not advertise that any of the horses were for sale. Frank H. Dollar, Jr., petitioners' tax return preparer for the taxable years in issue, was the sole source of advice for the operating and budgetary plans pertaining to the activity. However, Mr. Dollar did not breed, raise, show, buy or68 sell horses. On their Federal income tax returns, Schedule F, Farm Income and Expenses, petitioners claimed losses attributable to the horse breeding and selling activity for the taxable years 1978 through 1984 as follows: YearLoss Claimed1978$6,749197914,659198010,680198115,33919822,42819835,79319843,750However, petitioners' Federal income tax returns for the taxable years 1978, 1979, and 1980 as originally filed did not include the activity on Schedule F. Furthermore, during the audit of their Federal income tax returns for the taxable years 1978 and 1979, petitioners did not raise the existence of a Schedule F activity or other source of income. Frank H. Dollar, Jr., prepared petitioners' Federal income tax return for the taxable year 1981 and also prepared amended Federal income tax returns for the taxable years 1978 and 1979 and a "corrected" Federal income tax return for the taxable year 1980 to include the horse breeding and selling activity on Schedule F. On their amended Federal income tax return for the taxable year 1979, petitioners claimed an investment tax credit on the Ford LTD, pickup truck, horse trailer,69 and barn. A portion of the credit, $340, was not utilized and carried forward to petitioners' "corrected" Federal income tax return for the taxable year 1980. Petitioners also claimed a residential energy credit of $212, for an energy efficient woodburning stove, which was not utilized and carried forward to the taxable year 1980. For the taxable years 1980 and 1981, petitioners deducted various expenses attributable to the horse breeding and selling activity. Petitioners depreciated the barn, stud stall, Ford LTD, pickup truck, horse trailer, and horses. The Ford LTD and pickup truck were depreciated based on 100 percent business use. Petitioners also deducted 100 percent of the insurance on the automobiles and for the taxable year 1980 deducted 100 percent of the insurance on their personal residence. They deducted a portion of their utilities, including water, electricity, garbage and sewer, and phone bill. In addition, they deducted the cost of dog food for their Doberman pinscher as a security expense. They also deducted the cost of having several trees trimmed and payment for house sitting. On both their original and corrected Federal income tax return for the taxable70 year 1980 petitioners claimed a casualty loss of $2,840. The loss was claimed for a horse barn destroyed by wind during 1980. The horse barn was purchased by petitioners in 1973 along with the two and one-half acres of land. Petitioners filed a claim with Grange Insurance Association and received $5,700, the policy limit. The casualty loss claimed was the replacement cost in excess of the insurance reimbursement. Petitioners also claimed a credit of $64 for child and dependent care expenses. On their Federal income tax return for the taxable year 1981, petitioners claimed an investment tax credit of $279. The credit was claimed on a saddle, a horse, and the stud stall. The Commissioner, in his statutory notice of deficiency, determined that petitioners' horse breeding and selling activity was not engaged in for profit within the meaning of section 183 and accordingly disallowed petitioners' deductions attributable to the activity to the extent they exceeded income from the activity. The Commissioner also determined that petitioners were not entitled to an investment tax credit, a residential energy credit, a casualty loss deduction, or a credit for child and dependent care71 expenses. In addition, the Commissioner determined that petitioners were liable for additions to tax under section 6653(a)(1). OPINION Activity Not Engaged in for ProfitSection 183(a) provides the general rule that, in the case of an activity by an individual not engaged in for profit, no deduction attributable to such activity shall be allowed except as provided in section 183(b). Section 183(b)(1) provides that there shall be allowed those deductions that would be allowable without regard to whether the activity is engaged in for profit. See sec. 1.183-1(b), Income Tax Regs.Section 183(b)(2) provides that deductions that would be allowable if the activity were engaged in for profit shall be allowed to the extent that the gross income derived from the activity exceeds the deductions allowable under paragraph (1) of section 183(b). Section 183(c) defines an activity72 not engaged in for profit as follows: (c) ACTIVITY NOT ENGAGED IN FOR PROFIT DEFINED. -- For purposes of this section, the term "activity not engaged in for profit" means any activity other than one with respect to which deductions are allowable for the taxable year under section 162 or under paragraph (1) or (2) of section 212. Section 183(d) provides that, in the case of an activity which consists in major part of the breeding, training, showing, or racing of horses, if the gross income derived from such activity exceeds the deductions therefrom for any 2 of 7 consecutive taxable years, then such activity shall be presumed to be engaged in for profit, unless the Secretary establishes to the contrary. Respondent has determined that the activity of petitioners was an "activity not engaged in for profit," and therefore, that petitioners' deductions for expenses incurred with respect to such activity must be limited in accordance with section 183(b). Petitioners argue that it should be presumed that the activity was engaged in for profit in accordance with section 183(d), and, in any event, 73 that they are entitled to all of the deductions claimed as attributable to the activity because they possessed the requisite intention of making a profit. Petitioners bear the burden of proof. Rule 142(a); Golanty v. Commissioner,72 T.C. 411">72 T.C. 411, 426 (1979), affd. without published opinion 647 F.2d 170">647 F.2d 170 (9th Cir. 1981). Petitioners maintain that the operations of Rocky Acres Ranch should be presumed to be engaged in for profit in accordance with section 183(d). Petitioners contend that they engaged in the horse breeding and selling activity as of the taxable year 1978, so that the seventh taxable year of the activity refers to the taxable year 1984. Petitioners argue that if we ignore depreciation, the activity would show a profit for the taxable years 1982 and 1984 and consequently would have operated at a profit for 2 of 7 consecutive taxable years. Section 183(d) provides that the presumption applies if gross income derived from the activity exceeds the deductions attributable to such activity, determined without regard to whether such activity is engaged74 in for profit. However, the statute does not provide an adjustment for depreciation in determining the profit. Cf. sec. 1.183-1(c)(2), Example (1), Income Tax Regs. Accordingly, we conclude that the presumption under section 183(d) is inapplicable. 3 However, the failure to qualify for this presumption does not give rise to any inference that the activity was not engaged in for profit. Sec. 1.183-1(c)(1), Income Tax Regs. Therefore, we must next consider whether petitioners engaged in the horse breeding and selling activity with the objective of making a profit. Petitioners maintain that they have operated Rocky Acres Ranch with the intent of making a profit, within the meaning of section 183. It is not necessary that the expectations of petitioners75 of making a profit be reasonable, so long as they possessed a bona fide objective of realizing a profit. Sec. 1.183-2(a), Income Tax Regs.; Golanty v. Commissioner,72 T.C. at 425-426; Bessenyey v. Commissioner,45 T.C. 261">45 T.C. 261, 274 (1965), affd. 379 F.2d 252">379 F.2d 252 (2d Cir. 1967), cert. denied 389 U.S. 931">389 U.S. 931 (1967). We must determine whether petitioners possessed an "actual and honest profit objective," Dreicer v. Commissioner,78 T.C. 642">78 T.C. 642, 645 (1982), affd. without opinion 702 F.2d 1205">702 F.2d 1205 (D.C. Cir. 1983). Whether petitioners had the requisite profit motive is a question of fact to be determined from all the facts and circumstances. Sec. 1.183-2(a), Income Tax Regs.; Golanty v. Commissioner,72 T.C. at 426. In resolving this factual issue, greater weight is given to objective facts than to petitioners' statements of their intent. Sec. 1.183-2(a), Income Tax Regs.; Engdahl v. Commissioner,72 T.C. 659">72 T.C. 659, 666 (1979). 76 Section 1.183-2(b), Income Tax Regs., lists the following nine factors to be considered, along with all of the surrounding facts and circumstances, in determining whether an activity is engaged in for profit: (1) the manner in which the taxpayer carries on the activity; (2) the expertise of the taxpayer or his or her 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 earned, if any; (8) the financial status of the taxpayer; (9) elements of personal pleasure or recreation involved in the activity. Applying these factors to the record herein, we conclude that petitioners' horse breeding and selling activity was an "activity not engaged in for profit" within the meaning of section 183(a). Petitioners contend that the manner in which Rocky Acres Ranch was conducted indicates an intent to make a profit. Petitioners introduced77 into evidence a business plan which Maynard testified he formulated in 1978. He testified that it was a program to encourage investors to purchase horses that he would break and train. However, he further testified that no horses were purchased by investors under the business plan. Petitioners maintain that the records kept were adequate to reflect gross income and expenses. The activity was conducted on the cash basis and when feed was purchased Maynard made a notation on a calendar. The majority of the other expenses Maynard paid by check and, therefore, had a cancelled check for record keeping purposes. However, there has been no showing that books and records were kept for the purpose of cutting expenses, increasing profits, and evaluating the overall performance of the operation. Golanty v. Commissioner,72 T.C. at 430. In fact, there is nothing in the record to demonstrate that petitioners made any changes in operating methods in an effort to increase profitability. Maynard did not maintain a separate bank account and did not advertise that any of the horses were for sale. Furthermore, in the taxable year 1978, when petitioners contend that the activity78 started, and in the taxable years 1979 and 1980, the activity was not shown on the original Federal income tax returns filed by petitioners. In addition, during the audit of their Federal income tax returns for the taxable years 1978 and 1979 petitioners did not raise the existence of a Schedule F activity. In light of these facts, we conclude that petitioners' manner of operation does not indicate an intent to make a profit. Petitioners also contend that the time and effort expended by Maynard support their position. During the taxable years in issue Maynard spent a minimum of 40 hours per week at his jobs with Duo-Fast and Amerace. Maynard testified that he devoted 4 hours a day during the week and from 6 to 10 hours on the weekend to the horse breeding and selling activity. Maynard's testimony regarding his daily routine was that in the mornings he would take the horses out, groom them, and turn them loose in a pen for free exercise. He would then clean out the stalls and feed the horses. If there was a show coming up, he would work the horse that he was going to show. In the evenings, the same routine was repeated. In addition, any maintenance required on the barn or79 fences was done in the evenings. The fact that Maynard devoted a substantial amount of personal time and effort to carry on the horse breeding and selling activity may indicate an intention to derive a profit, particularly if the activity does not have substantial personal or recreational aspects. Sec. 1.183-2(b)(3), Income Tax Regs. Although he testified that he devoted 4 hours a day during the week and from 6 to 10 hours on the weekend in the pursuit of the activity, the material recreational element involved somewhat diminishes the importance and significance of this factor. Maynard was raised on a farm and has always been around agriculture. He has been riding horses for approximately 32 years and has been roping calves and steers for about 20 years. In 1981 some of the horses were used by petitioners' daughter for her 4-H activities.Furthermore, petitioners incurred these expenses without regard to their deductibility as evidenced by the fact that the expenses were incurred in 1978, 1979, and 1980 and not deducted on the income tax returns originally filed for those years. Petitioners further contend that their profit motive is evidenced by the80 anticipated appreciation in the value of assets used in the horse breeding and selling activity, particularly the value of the barn and land. The barn was built in 1979 at a cost of $6,407 and petitioner testified that it was insured for $18,000. The land was purchased in 1978 for $10,000. Maynard testified that at the time of trial the value of the land, based on sales of properties in the area, was $60,000. However, petitioners failed to introduce any evidence to corroborate these valuations. We do not accept Maynard's conclusory and self-serving statements as fact. Another factor that weighs against petitioners is the history of losses incurred with respect to the horse breeding and selling activity. In each taxable year from 1978 through 1984 petitioners reported a net loss, in amounts ranging from approximately $2,400 to $15,300. Although losses in the initial years of an activity are not necessarily fatal to the section 183 determination, section 1.183-2(b)(6), Income Tax Regs., the ultimate goal of an activity engaged in for profit must be to realize81 a net profit on the activity so as to recoup losses sustained previously. Bessenyey v. Commissioner,45 T.C. at 274. There is nothing in the record to indicate whether an investigation was made, prior to undertaking the activity, to determine the business viability, economic feasibility, and profit making potential of a horse breeding and selling activity. Furthermore, petitioners have not indicated any changes made in the activity over the period 1978 to 1984 that might have supported an intent to improve its profitability. For example, with respect to the breeding aspect of the activity, petitioners owned only one mare.Maynard testified that the mare was bred in 1980 but aborted the foal. Maynard further testified that the mare was bred again in 1981 and again she aborted the foal. There is nothing in the record to indicate if a foal was ever born to the mare. The mare was sold in 1982 and there is nothing in the record to indicate that another mare was purchased. With regard to the selling aspect of the activity, petitioners sold two horses during the taxable years in issue for a total selling price of $2,650. The two remaining horses, excluding the mare,82 were not established to have substantial resale value. Petitioners also reported boarding fees of $940 and income from roping events of $200 during the taxable years in issue. Accordingly, it is difficult to imagine how petitioners expected to generate a profit. Furthermore, petitioners failed to produce any evidence that the activity would become profitable in the future. No projection of the activity's potential for profit or loss has ever been made. Petitioners contend that since they are in a low tax bracket the losses of the horse breeding and selling activity do not generate substantial tax benefits. Maynard testified that during the taxable years in issue they received a 15 to 20 percent tax benefit from the losses of the activity. They reason that consequently there is no real benefit to them in losing money. They contend that this indicates that the activity is pursued with a profit motive and not for tax benefits. Section 1.183-2(b)(8), Income Tax Regs., provides that substantial income from sources other than the activity (particularly if the83 losses from the activity generate substantial tax benefits) may indicate that the activity is not engaged in for profit especially if there are personal or recreational elements involved. In Engdahl v. Commissioner,72 T.C. 659">72 T.C. 659 (1979), we did not construe the regulation as providing that the existence of substantial tax benefits is an additional reason to deny a deduction. Instead, we said that "the concurrent existence of other income poses the question, rather than answers it." Engdahl v. Commissioner,supra at 670. Conversely, the lack of substantial tax benefits is not to be construed as indicative of a profit motive.Furthermore, it is a simple economic fact that "[a]s long as tax rates are less than 100 percent, there is no 'benefit' in losing money." Engdahl v. Commissioner,supra at 670. Upon review of the entire record, we conclude that the horse breeding and selling activity was an "activity not engaged in for profit" within the meaning of section 183.Accordingly, petitioners' deductions for expenses properly attributable to the activity are limited under section 183(b). 484 Investment Tax CreditOn their amended Federal income tax return for the taxable year 1979, petitioners claimed an investment tax credit on the Ford LTD, pickup truck, horse trailer, and barn. A portion of the credit was not utilized and carried forward to the taxable year 1980. On petitioners' Federal income tax return for the taxable year 1981, they claimed an investment tax credit on a saddle, a horse, and the stud stall. Section 38 provides a credit for investment in certain depreciable property. The credit is available for tangible personal property with respect to which depreciation (or amortization) is allowable. Sec. 48(a)(1)(A). Depreciation is allowable only for property used in a trade or business or held for the production of income. Sec. 167(a). A building and its structural components are not eligible for the credit. Sec. 48(a)(1)(B). Neither are horses eligible for the credit. Sec. 48(a)(6). Therefore, an investment tax credit cannot be claimed on the barn or horse. We have previously concluded that petitioners' horse breeding and selling activity was an85 "activity not engaged in for profit." This is defined as any activity other than one with respect to which deductions are allowable under section 162 or under paragraph (1) or (2) of section 212. Sec. 183(c). Section 162 provides for deductions for ordinary and necessary expenses paid or incurred during the taxable year in carrying on a trade or business. Section 212(1) and (2) provides that in the case of an individual, there shall be allowed a deduction for the ordinary and necessary expenses paid or incurred during the taxable year for the production of income or for the management, conservation, or maintenance of property held for the production of income. As a result of our conclusion that this is an "activity not engaged in for profit," the property is not used in a trade or business or held for the production of income.Since depreciation is allowed only for property used in a trade or business86 or held for the production of income, depreciation is therefore not allowable with respect to the property used in petitioners' activity. Accordingly, the Ford LTD, pickup truck, horse trailer, saddle, and stud stall are not eligible for the investment tax credit. Residential Energy CreditOn their amended Federal income tax return for the taxable year 1979, petitioners claimed a residential energy credit of $212 for an energy efficient wood burning stove. The credit was not utilized and carried forward to the taxable year 1980. Maynard, however, testified at trial that the credit was claimed on a fireplace insert. 5 He also testified that it was designed to fit their fireplace and was airtight and did not allow any of the heat from the central heating system to escape.The residential energy credit is allowed for qualified energy conservation expenditures. Sec. 44C(a)(1). 6 Energy conservation expenditures are defined87 as expenditures made on or after April 20, 1977, for insulation or other energy-conserving component installed on a dwelling unit. Sec. 44C(c)(1). The items which qualify as energy-conserving components are specifically set forth in section 44C(c)(4)(A)(i) through (vii). In addition, the Secretary is given authority to designate additional items as energy-conserving components. Sec. 44C(c)(4)(A)(viii). Included in the list of other energy-conserving components is a device for modifying flue openings designed to increase the efficiency of operation of the heating system. Sec. 44C(c)(4)(A)(ii). Section 1.44C-2(d)(4)(ii), Income Tax Regs., provides as follows: (ii) A device for modifying flue openings. The term "device for modifying flue openings" means an automatically operated damper that -- (A) Is designed for installation in the flue, between the barometric damper or draft hood and the chimney, of a furnace; and (B) Conserves energy by substantially reducing the flow of conditioned air through the chimney when the furnace is not in operation. 88 Conditioned air is air that has been heated or cooled by conventional or renewable energy source means. Petitioners contend that the fireplace insert is a device for modifying flue openings designed to increase the efficiency of operation of the heating system. However, they have not established that the fireplace insert is an automatically operated damper. Neither have they established that the fireplace insert is located in the flue, between the barometric damper or draft hood and the chimney, of their furnace. Accordingly, petitioners have not established that the fireplace insert is a device for modifying flue openings designed to increase the efficiency of operation of the heating system. Sec. 1.44C-2(d)(4)(ii), Income Tax Regs. Nor have they established that the Secretary has designated a fireplace insert as an energy-conserving component. Sec. 44C(c)(4)(A)(viii). Therefore, the expenses incurred do not qualify for the residential energy credit. Casualty Loss DeductionOn their Federal income tax89 return for the taxable year 1980, petitioners claimed a casualty loss deduction of $2,840. The loss was claimed for a horse barn, purchased by petitioners in 1973, destroyed by wind during 1980. Section 165(a) provides that there shall be allowed as a deduction any loss sustained during the taxable year and not compensated for by insurance or otherwise. In the case of an individual, the deduction under section 165(a) is limited by section 165(c) to losses incurred in a trade or business or in any other transaction entered into for profit or losses not connected with a trade or business, if such losses arise from fire, storm, shipwreck, or other casualty, or from theft. The amount deductible is the lesser of the difference between the fair market value of the property immediately before the casualty reduced by the fair market value of the property immediately after the casualty or the adjusted basis of the property. Helvering v. Owens,305 U.S. 468">305 U.S. 468 (1939); sec. 1.165-7(b), Income Tax Regs.The fair market value of the property immediately90 before and immediately after the casualty shall generally be ascertained by competent appraisal. Sec. 1.165-7(a)(2)(i), Income Tax Regs.Petitioners have not established the value of the property before and after it was destroyed. Furthermore, petitioners have not provided any proof as to the adjusted basis of the property. The only evidence submitted was the estimated replacement cost of the property. Any amount calculated with reference to replacement cost would not in and of itself be a proper measure of any loss sustained by casualty. Accordingly, petitioners have failed to prove the amount of the loss sustained. Rule 142(a). Section 6653(a)(1) Addition to TaxThe final issue for decision is whether petitioners are liable for the addition to tax pursuant to section 6653(a)(1). 7Section 6653(a)(1) applies where any part of the underpayment is due to negligence or intentional disregard of rules and regulations. Petitioners bear the burden of proving that the determination of the negligence addition is erroneous. Rule 142(a). 7*91 Petitioners deducted depreciation and insurance attributable to the personal use of the automobiles. No attempt was made to allocate between asserted business activity and personal use. Petitioners were aware that allocation was required as evidenced by the allocation of their utilities and phone bills. Petitioners also deducted other personal expenses, such as the cost of trimming trees, house sitting, dog food, and insurance on their personal residence. Petitioners have failed to persuade us that respondent's imposition of such addition was unwarranted. Accordingly, we sustain respondent's determination with respect to the addition to tax pursuant to section 6653(a)(1). To reflect the foregoing, Decision will be entered for the respondent.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954, as amended and in effect for the relevant years, and all Rule references are to the Rules of Practice and Procedure of this Court.↩2. The stud stall was classified as five-year property on petitioners' Federal income tax return for the taxable year 1981.↩3. The record does not indicate that petitioners timely filed an election to postpone until the taxable year 1983 the determination of whether it should be presumed that, since the taxable year 1978, the horse breeding and selling activity was engaged in for profit. See subsections (d) and (e) of section 183↩.4. In view of our resolution of the issue, we need not address the argument of respondent that petitioners did not substantiate their expenses attributable to the horse breeding and selling activity.↩5. In Olson v. Commissioner,81 T.C. 318">81 T.C. 318↩ (1983), we held that a wood burning stove was not eligible for the residential energy credit.6. Section 44C was redesignated as section 23↩ by sec. 471(c)(1) of the Tax Reform Act of 1984, Pub. L. 98-369, 98 Stat. 826.7. On their Federal income tax return for the taxable year 1980, petitioners claimed a credit of $64 for child and dependent care expenses as provided for in section 44A (section 44A was redesignated as section 21 by sec. 471(c)(1) of the Tax Reform Act of 1984, Pub. L. 98-369, 98 Stat. 826). Petitioners, however, failed to introduce any evidence at trial to substantiate the amount of the expenses incurred. Furthermore, they did not address the issue in their brief. We can only conclude that petitioners have conceded this issue.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623880/	FRANCES BRAWNER, EXECUTRIX, ESTATE OF ALEXANDER HARRISON BRAWNER, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Brawner v. CommissionerDocket No. 16092.United States Board of Tax Appeals15 B.T.A. 1122; 1929 BTA LEXIS 2722; March 27, 1929, Promulgated 2722 1. The unexpended balance of a bequest received by a decedent from a preceding estate within five years prior to his death, remaining in his account in a bank at the time of his death, held deductible under section 303(a)(2), Revenue Act of 1924. 2. The value of corporation securities acquired in exchange for property received by decedent within five years prior to his death from a prior-taxed estate allowed as a deduction from the gross estate in full, or to the extent they were included in such estate and not otherwise deducted. L. F. Logan, Esq., for the petitioner. L. S. Pendleton, Esq., for the respondent. LANSDON 1122 This is an appeal from the action of respondent in his determination of a deficiency in the estate tax of Alexander Harrison Brawner, 1123 in the amount of $1,853. The deficiency results from respondent's rejection of a deduction claimed by the petitioner from the gross estate in the amount of $100,000, said sum having been received by the decedent from a previously taxed estate within five years, a part of which was thereafter invested in securities. The issues are the identity of (1) the unexpended2723 portion of said fund, and (2) the securities thus purchased under the provisions of section 303(a)(2) of the Revenue Act of 1924. FINDINGS OF FACT. The petitioner is the executrix of the estate of Alexander Harrison Brawner, who died October 4, 1924, in the State of New York. On July 3, 1922, Ella Frances Brawner, wife of the decedent, died in said State, leaving an estate consisting of mixed property made up of stocks and bonds valued at $1,539,676, and cash on deposit in various banks in the aggregate sum of $42,622.86. Upon these values an estate-tax return was duly made by the administrator of said prior decedent and taxes in the sum of 107,480.68 paid to the Federal Government. In the distribution of the estate of Ella Frances Brawner, the decedent, Alexander Harrison Brawner, was paid the sum of $100,000 in accordance with a provision in the will of said prior decedent, reading as follows: I give, devise and bequeath to my husband, Alexander Harrison Brawner the sum of $100,000, and I direct that any and all notes which I may hold at the time of my decease made by my said husband to me with any unpaid interest thereon be first deducted from said sum, and when so2724 deducted shall be deemed to have been paid. This money was received by the decedent on the 21st day of May, 1924, and deposited by him in a general account with the Corn Exchange Bank of New York City. On the date of this deposit the balance standing to the credit of decedent in this bank, exclusive of the deposits made that day, was $1,742.65; simultaneously with this bequest the decedent received the sum of $49,108.38 in payment of commissions allowed to him by the court for services as executor of said estate, which sum was likewise deposited to his account in said bank. Other sums were thereafter placed in this account at times up to and including October 1, 1924, at which time the total deposits thus made, together with the initial balance of May 31, amounted to $156,128.09. At the time of the death of the prior decedent, and before receipt by him of the monies from that estate, Alexander Harrison Brawner owned no property or source of income excepting said bank balance and certain common and preferred stock in the Whiting-Adams Co. 1124 and the American Radiator Co., and some Liberty bonds. From these securities decedent derived income during the period following2725 May 31 to September 16, 1924, in the aggregate of $7,015.90, which was likewise placed to his credit in the above-mentioned account and formed a part of the balance so shown. From this balance and upon this account the decedent drew from time to time, as his demands required, money to defray his personal expenses and items other than for investment in the aggregate sum of $5,647.66; he also drew from said account during this period money which he invested in securities in amounts shown as follows: 100 shares United States Steel preferred$7,165100 shares American Bank Note Company preferred5,315100 shares American Bank Note Company preferred5,415100 shares Union Pacific preferred7,215100 shares American Radiator Company preferred12,520100 shares Delaware, Lackawanna & Western R. R12,115200 shares United States Steel preferred24,455Total74,200The decedent left a gross estate which, as found by the respondent, consisted of the property described and valued as follows: Gross estateReturned (706)Determined on reviewReal estateStocks and bonds$295,304.98$295,304.98Mortgages, notes, cash, and insurance76,409.5876,409.58Jointly owned property301.00301.00Other miscellaneous propertyTransfersPowers of appointmentProperty identified as previously taxedTotal gross estate372,015.56372,015.562726 In the extate-tax return petitioner claimed a deduction from the gross estate in the sum of $100,000, as being an amount equal to the value of property received by decedent within five years from a prior-taxed estate. This claim was disallowed by the Commissioner of Internal Revenue in a Bureau letter under date of February 6, 1926, the grounds of such disallowance, as stated therein, being as follows: Under the caption "property identified as taxed within five years" the bequest of $100,000.00 in cash shown to have been received by this decedent from the prior estate of Ella F. Brawner, is excluded from deductions since it appears to have been so intermingled with other funds of this decedent, and purchases made therewith of securities returned in the present estate, that identification for purposes of deduction is impossible. 1125 Additional reasons were assigned for said disallowance by the Commissioner in the deficiency letter dated March 23, 1926, as follows: * * There has been furnished no evidence to show that the bequest of $100,000 was paid from the corpus of the prior estate or from income received by it subsequent to the death of the decedent, nor whether2727 the purchases of stocks were made with money received from or taxed in the prior estate. * * OPINION. LANSDON: The right of petitioner to the deduction claimed in this case is governed by the provisions of that part of the Revenue Act of 1924 relating to the taxing of estates, which reads as follows: SEC. 303. For the purpose of the tax the value of the net estate shall be determined - (a) In the case of a resident, by deducting from the value of the gross estate - * * * (2) 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 such 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 or an estate tax under this or any prior act of Congress was paid by or on behalf of the donor or the estate of such2728 prior decedent, as the case may be, and only in the amount of the value placed by the Commissioner on 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 not deducted under paragraph (1) or (3) of this subdivision. To avail himself of the benefits of this section of the statute the petitioner must show, in respect to the property involved, four concurring conditions: (1) That it was received by the decedent from such prior decedent by gift, bequest, devise or inheritance within five years prior to his death; (2) that an estate tax under the Revenue Act of 1924 or any prior act of Congress was paid on behalf of said prior decedent; (3) that the property now included in the estate can be identified as having been received by decedent from the prior estate, or as having been acquired in exchange for property so received; and (4) that it has not been deducted from the gross estate under other provisions of the law. The first two conditions are conceded by the respondent except as to the application of the second to the facts in this case. 2729 In respect to these he contends that before the petitioner is entitled to the benefits of this section he must show not only that the tax was paid on the 1126 preceding estate but that the property received formed a part of the assets of such estate at the time the tax was paid. He argues that, inasmuch as the bequest in this case was not paid to the decedent until nearly two years after the death of the prior decedent, there is a bare possibility that it might have been paid out of subsequent accretions and not the corpus upon which the estate tax was paid. We have considered carefully respondent's argument in connection with the law and the facts in this case, but find nothing in either that justifies the speculations thus advanced or the claims in respect thereto. The property in this case was bequeathed to decedent by the will of the prior decedent. The record indicates that the estate of the prior decedent was solvent and much more than sufficient to pay the amount here in question. In these circumstances the legal presumption is that the bequest was paid from the corpus of the prior decedent's estate, which the respondent admits was taxed within five years of the2730 death of this decedent. The remaining question, and the only real issue here, has to do with the identity of property, a part of which petitioner claims was acquired in exchange for property received from the preceding estate. The original bequest consisted of $100,000 in money, which was paid to the decedent. The records show that he received this money on May 31, 1924; also, the further sum of $49,108.38 as commissions for services as executor of said estate, all of which he deposited to his credit in the bank. Before this deposit his balance in this bank was $1,742.65. On the same date he withdrew from said account the sum of $12,480, which he invested in corporation stock. Thereafter at different dates up to and including August 11, 1924, he made further withdrawals from said account and further purchases of corporation securities with the funds so withdrawn, the total withdrawals for investment amounting to the sum of $74,200. Other withdrawals than these mentioned were made during this time from this account by decedent, but inasmuch as the aggregate of such was less than the total deposits, independent of this bequest, made to the same account during the period, it2731 follows that the unexpended balance of this bequest, not withdrawn for investment as hereinbefore noted, remained in said account and formed a part of the assets of the estate of decedent at the time of his death. We have previously held, under such circumstances, that funds thus identified are deductible under section 303(a)(2), supra, ; . It follows, therefore, that in so far as the claims of the petitioner pertain to the deduction of such ascertained residue remaining on deposit in the bank at the date of decedent's death, his contention must be sustained in the amount of $25,800. 1127 The record shows the exchange of $74,200 of these funds for corporation securities. We are of the opinion that petitioner is entitled to deduct such amount from the gross estate of the present decedent to the extent that any part thereof was included in such estate at date of death and has not been deducted from said gross estate under the provisions of subdivisions 1, 3, or 4 of section 303 of the Revenue Act of 1924. *2732 ; . Reviewed by the Board. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623881/	Estate of Shirley Pollock, Deceased, Neal J. Pollock, Personal Representative, Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Pollock v. CommissionerDocket No. 2430-80United States Tax Court77 T.C. 1296; 1981 U.S. Tax Ct. LEXIS 8; December 21, 1981, Filed 8 Decision will be entered under Rule 155. Held, decedent-transferee's discretionary life interest in a trust created by prior decedent did not constitute a fixed right to all or even a determinable portion of the distributable income for the remainder of her life, and was therefore not susceptible of valuation so as to qualify for an estate tax credit under sec. 2013(a), I.R.C. 1954. Jan D. Atlas, for the petitioner.David M. Kirsch, for the respondent. Raum, Judge. RAUM1296 The Commissioner determined an estate tax deficiency in the amount of $ 31,922 in respect of the Estate of Shirley Pollock. After concessions, the only question remaining is whether her estate is entitled to a credit under section 2013, I.R.C. 1954, for the estate tax paid by the Estate of Sol Pollock, her husband, with respect to property in a trust the income of which was distributable after his death to his wife and children "in such proportions as [the trustee] determines without being required to maintain equality among them" in accordance with specified provisions.FINDINGS OF FACTSome10 of the facts have been stipulated. The stipulation of facts and attached exhibits are incorporated herein by this reference.Shirley Pollock died on August 4, 1976, at the age of 54, a legal resident of Florida, where her estate was probated. The estate is the petitioner herein, and the personal representative 1297 of the estate is Neal J. Pollock, the decedent's son, a resident of Virginia. The Pollocks had one other child, Stephen J. Pollock.On September 12, 1968, Sol Pollock, the decedent's husband, established an inter vivos revocable trust. Arthur D. Pollock, whose relationship to the settlor does not appear in the record, was named as trustee. The corpus consisted of insurance policies, and it was apparently intended that the beneficiaries' enjoyment of the trust was not to commence until the settlor's death, when the proceeds of the insurance policies would be collected. On the death of Sol Pollock, with Mrs. Pollock surviving, the trustee was directed to divide the corpus and hold the assets in two separate trusts. Under paragraph "First," a marital deduction trust was to be established for the benefit of the wife. It was to be funded in such manner as to produce11 the maximum marital deduction when coordinated with other property passing to Mrs. Pollock as a result of her husband's death. She was to be paid the income from this trust periodically during her lifetime as well as so much of the principal as she might from time to time request, and she was given a general power of appointment over the undistributed portion of the principal at her death.The second trust was to contain all assets remaining in the original trust after funding of the marital deduction trust. Relevant provisions of this "remainder" trust are set forth as follows:SECOND: After allocating to the Trust under Item First the fraction, if any, of the principal held hereunder which may be required to satisfy the provisions of Item First, Trustee shall hold the balance of such principal in trust, and pay to or apply for the benefit of such of Settlor's wife, SHIRLEY POLLOCK, and Settlor's children as he selects and in such proportions as he determines without being required to maintain equality among them, so much of the income of this Trust as shall be necessary for their proper maintenance, support, health, education, or any other need which Trustee shall deem to be sufficient, 12 until the death of the survivor of Settlor and Settlor's wife, or until there shall be then living no child of Settlor who is under the age of 21 years, whichever shall last occur.* * * THIRD: Trustee is authorized, in his absolute discretion, to use principal for maintenance and support, for educational requirements, and health, including but not limited to medical and surgical expenses, of any income beneficiary or any issue of Settlor, provided however, that, in determining whether to use principal pursuant hereto, Trustee shall consider the funds available to such beneficiary or issue from other sources.1298 Payments made hereunder for anyone other than Settlor's wife shall be made only from the principal of the Residuary Trust, established by Item Second, and payments for the benefit of Settlor's wife shall be made only from the Marital Trust under Item First, as long as there are any funds remaining in that trust.* * * Notwithstanding the foregoing, Trustee is further authorized, in its absolute discretion, to use principal for a child of Settlor in order to enable such child to engage in a business venture; provided however, that the amount of principal so used13 shall not exceed in the aggregate an amount equal to fifty percent (50%) of such child's immediate or future share. 1Sol Pollock appears to have been a resident of Pennsylvania at the time the trust was created, and he directed that the trust be governed by the laws of that State. This provision was altered, however, by an amendment dated April 26, 1972, which expressed his intent that the trust be construed according to the laws of Florida, of which he had meanwhile become a legal resident. This amendment also substituted Sol Pollock for Arthur Pollock as trustee, and14 named the First National Bank of Hallandale, Hallandale, Fla., as successor trustee in the event of his incapacity or death. By a later amendment of May 26, 1972, the First National Bank of Hallandale was replaced by the First National Bank of Hollywood, Hollywood, Fla., as successor trustee.Sol Pollock died on August 10, 1974, survived by his wife and two sons, Neal and Stephen. Mrs. Pollock was in relatively poor health at that time, having undergone two radical mastectomies, an operation on the lymph nodes under her arm, chemotherapy, and radiation therapy. The extent of her assets is not in evidence, although it appears that she owned the condominium apartment in which she resided and that the marital deduction trust, over which she had a right to call for distribution of principal during her lifetime as well as a general power of appointment, was in excess of $ 100,000. The record does not disclose whether she had medical insurance that might pay all or substantially all of her medical expenses. 1299 At the time of his father's death, Neal Pollock was unmarried. He was an electronics engineer and worked, apparently as a Government employee, at an annual salary of15 approximately $ 20,000. His assets included investments with a value in the range of $ 30,000 to $ 35,000. Stephen Pollock was married; he worked as a registered pharmacist and manager of a drugstore. His wife was employed as a dental assistant, and their combined salaries totaled approximately $ 28,000. Although Stephen Pollock testified that he had additional income from assets, neither the amount of the assets nor the income was specified.Robert Schneider, who in August of 1974 was employed as a trust officer of the First National Bank of Hollywood, was responsible for administration of the trust in issue. He had never met or communicated with Sol Pollock, but he did meet with Mrs. Pollock and Neal Pollock after Sol's death to discuss the distribution of income. He was instructed by Neal and Stephen Pollock "to defer to their mother." He determined that the sons were self-sufficient adults and that Mrs. Pollock was dependent upon the income of the trust. He later requested Neal and Stephen Pollock to provide him with a written statement confirming their desire that their mother receive the income distributions, which they did in a letter dated June 31, [sic] 1975.It is16 not disputed that all income of the remainder trust was distributed to Shirley Pollock until her death on August 4, 1976, almost 2 years after the death of her husband. In addition, there is no evidence of invasion of principal on behalf of Mrs. Pollock or any other beneficiary.On the estate tax return filed by petitioner, a credit of $ 19,274 was claimed under section 2013, I.R.C. 1954, which provides a credit for tax on prior transfers. The computation of the credit appears to have been based on the assumption that Mrs. Pollock was the sole income beneficiary of the remainder trust during her lifetime, and the amount of the credit thus claimed was equal to that portion of tax paid with respect to Mr. Pollock's estate that was allocable to the value of her alleged life estate in the remainder trust actuarially computed as of the date of her husband's death. In his notice of deficiency, the Commissioner disallowed the credit in its 1300 entirety on the ground that Shirley Pollock's income interest in the remainder trust had no value.OPINIONThrough the medium of an insurance trust established September 12, 1968, Sol J. Pollock provided for the creation of two trusts to 17 be funded at the time of his death out of the corpus of the insurance trust. The first such testamentary trust, created by article "First" of the insurance trust, is referred to as the marital trust. It provided for the payment of income to Mrs. Pollock for life and so much of the principal as she might from time to time request, with a general power of appointment over any portion of the principal remaining at her death. Since all parts of this trust, life estate as well as principal, were not subject to estate tax at Mr. Pollock's death by reason of the marital deduction, no credit in respect thereof was available against the tax imposed upon Mrs. Pollock's estate (sec. 2013(d)(3)), and petitioner has claimed none.The controversy herein concerns the second, or remainder trust, created by article "Second" of Mr. Pollock's original trust. All the remaining assets not required for the marital trust were to be held in trust for the benefit of Mrs. Pollock and their children. The trustee was directed to "pay to or apply for the benefit of such of Settlor's wife * * * and Settlor's children as he selects and in such proportions as he determines without being required to maintain 18 equality among them, so much of the income * * as shall be necessary for their proper maintenance, support, health, education, or any other need which Trustee shall deem to be sufficient." The trustee was also authorized "in his absolute discretion" to use principal "for maintenance and support, for educational requirements, and health * * * of any income beneficiary," provided that the trustee was to consider the funds available to such beneficiary from other sources. But such payments for the benefit of the wife were to be made only from the marital trust as long as any funds remained therein. Furthermore, the trustee "in his absolute discretion" was authorized to use principal of the remainder trust to enable any child "to engage in a business venture," provided that the aggregate so used for any child should not exceed 50 percent of such child's immediate or future share. The ultimate disposition 1301 (after the life or income interests) of the remaining principal was stated to be for the benefit of the Pollock's children or their descendants.As set forth in our findings, Mrs. Pollock's estate, petitioner herein, claimed a $ 19,274 credit against estate tax liability19 on the theory that she was the sole income beneficiary of the remainder trust during her lifetime, and that such life interest was "property" within the meaning of section 2013(a) and (e), I.R.C. 1954. 221 Although these provisions were designed "to prevent the diminution of an estate by the imposition of successive taxes on the same property within a brief period" (S. Rept. 1622, 83d Cong., 2d Sess. 122 (1954)), it is undisputed that a life estate created by the transferor for the benefit of the decedent-transferee may nevertheless qualify for the credit notwithstanding that the life estate by its very nature expires with the death of the decedent-transferee and is thus not included in his gross estate. Sec. 20.2013-1(a),-5(a), Estate Tax Regs.; Rev. Rul. 59-9, 1 C.B. 232">1959-1 C.B. 232. 3 The Government accordingly does not challenge the claimed credit if Mrs. Pollock were in fact given such a life estate by her husband. But it does contend that she was not given any exclusive life interest in the remainder trust, and that whatever interest 1302 was given to her had no ascertainable value as of the date of Mr. Pollock's death. 4 We 20 agree with the Government's position.By the very terms of the governing instrument, Mrs. Pollock was not the sole income beneficiary of the remainder trust during her lifetime. She was at most only one of three beneficiaries, and was not assured of even an equal one-third of the income. The trustee was accorded discretion as to the selection of and amounts to be distributed to the income beneficiaries ("pay to or apply for the benefit of such of Settlor's wife * * and Settlor's children as he selects and in such proportions as he determines without being required to maintain equality among22 them"). To be sure, the instrument goes on to specify that the distributions shall be of "so much of the income as shall be necessary for their proper maintenance, support, health, education, or any other need which Trustee shall deem to be sufficient." And it may well be that these latter provisions furnish some standard for determining the amounts to be paid to any of the three potential distributees, 5 but even within any such standard, there is sufficient discretion granted the trustee to preclude a construction of the trust requiring him to allocate all of the income to the widow to the exclusion of the two children. There is nothing in the governing instrument that points to any intention on the part of the settlor to favor his wife over the children, and certainly nothing even suggesting that she was to be the sole income beneficiary. Had Mr. Pollock so intended, it would have been a simple matter to name her as the sole income beneficiary. The instrument reflects careful draftsmanship, and it is altogether too plain to resort to extrinsic evidence to interpret it and give it a meaning contrary to its unambiguous terms. 6 In this respect, this case is wholly unlike Estate of Lloyd v. United States, 228 Ct. Cl. (1981), 650 F.2d 1196">650 F.2d 1196 (1981),23 where the widow was the only named life tenant and where the majority 1303 of the panel of the Court of Claims found (over the protests of a persuasive dissent) an intention to favor the widow over the possible remainder beneficiaries in relation to the invasion of corpus. Indeed, as will appear shortly, there is evidence in the instrument before us that Mr. Pollock was definitely concerned about the welfare of his children, who were remainder beneficiaries as well as income beneficiaries.In article "Third" of the governing instrument, Mr. Pollock24 authorized the trustee "in its absolute discretion, to use principal for a child of Settlor in order to enable such child to engage in a business venture," provided only that the amount of principal so used "shall not exceed in the aggregate" 50 percent of such child's "immediate or future share." Under these provisions, the trustee would have been fully justified in reducing the principal by one-half for the benefit of the two sons for use in possible business ventures. 7 And if principal were so reduced, obviously, income realized by the remainder trust would be correspondingly reduced. Thus, even if the widow were to be treated as having something like a one-third interest in current income, that interest was subject to shrinkage by one-half by reason of this provision alone. But other provisions in article "Third" threaten even further shrinkage of an unmeasurable magnitude. The same article "Third" authorizes the trustee "in his absolute discretion, to use principal for maintenance and support, for educational requirements, and health, including but not limited to medical and surgical expenses, of any income beneficiary or any issue of Settlor," provided that in determining25 whether to use principal for such purposes the trustee was to consider other funds available to any such distributee, except that in the case of settlor's wife, such payments from principal could be made only after all funds from the marital trust had first been exhausted. Possible invasion of the principal for the benefit of 1304 either or both of the sons occasioned by unforeseen contingencies could easily consume the entire principal and leave no assets whatever in the remainder trust. Taking into account unanticipated events and the rather modest financial circumstances of the sons, the possibility of such invasion could not be ruled out and certainly could not be treated as "so remote as to be negligible." Cf. Estate of Gooel v. Commissioner, 68 T.C. 504">68 T.C. 504, 509 (1977), affd. 639 F.2d 788">639 F.2d 788 (9th Cir. 1981); Estate of Buckwalter v. Commissioner, 46 T.C. 805">46 T.C. 805, 821 (1966).26 After giving due weight to all of the foregoing considerations affecting the possible distribution of income to Mrs. Pollock from the remainder trust, it is our conclusion that when viewed as of the date of Mr. Pollock's death, Mrs. Pollock did not have, under the governing instrument, a fixed right to all of the distributable income or a determinable portion thereof for the remainder of her life. Her income interest in that trust did not have any ascertainable value and therefore cannot form the basis for any credit under section 2013(a).We are, of course, fully aware that Mrs. Pollock did in fact receive the income of the remainder trust for the relatively brief period of her life that remained after the death of her husband. But her interest as of the date of her husband's death cannot be valued on the basis of hindsight. 8 See Estate of Lloyd v. United States, 650 F.2d at 1198-1199. We are also aware that her two sons instructed the trustee to distribute all the income to their mother. However, notwithstanding certain testimony suggesting otherwise, we are far from satisfied that the trustee would have paid the income over to the widow 27 in its entirety in the absence of such direction or consent by the two sons. In our view, the sons acted out of filial devotion to their mother, who, it is plain, had but a limited life span ahead of her in view of her medical history. The record does not show that the sons were independently wealthy -- indeed their income was modest and their assets were not shown to be of any major consequence. Nor is it clear on this record that the widow's needs could not have been satisfied adequately out of 1305 her own assets and the marital trust. She owned the condominium apartment in which she resided, and the record fails to show that her medical expenses were not met entirely, or at least in greater part, by health insurance. Indeed, the estate tax return discloses a medically associated indebtedness in the amount of only $ 40 for nursing. However, regardless of these considerations, it is clear to us, on the basis of the unambiguous terms of the trust instrument, that Mrs. Pollock's income interest was not susceptible of valuation. The Commissioner's determination must be approved.28 Decision will be entered under Rule 155. Footnotes1. At a number of places in the copy of the typed trust instrument placed in evidence, there was underlining of various words, clauses, and sentences. There was no explanation of the source of such underlining, which appeared to have been subsequently added by hand, with perhaps the assistance of a straight edge. In the circumstances, no probative value is here given to the emphasis reflected in such underlining, and it is not reproduced herein.↩2. SEC. 2013. CREDIT FOR TAX ON PRIOR TRANSFERS.(a) General Rule. -- The tax imposed by section 2001 shall be credited with all or a part of the amount of the Federal estate tax paid with respect to the transfer of property (including property passing as a result of the exercise or non-exercise of a power of appointment) to the decedent by or from a person (herein designated as a "transferor") who died within 10 years before, or within 2 years after, the decedent's death. If the transferor died within 2 years of the death of the decedent, the credit shall be the amount determined under subsections (b) and (c). If the transferor predeceased the decedent by more than 2 years, the credit shall be the following percentage of the amount so determined -- (1) 80 percent, if within the third or fourth years preceding the decedent's death;(2) 60 percent, if within the fifth or sixth years preceding the decedent's death;(3) 40 percent, if within the seventh or eighth years preceding the decedent's death; and(4) 20 percent, if within the ninth or tenth years preceding the decedent's death.* * * *(e) Property Defined. -- For purposes of this section, the term "property" includes any beneficial interest in property, including a general power of appointment (as defined in section 2041).↩3. The justification for this seemingly extraordinary result in respect of a statute that seeks to avoid double taxation is that "the terminable interest may have produced income that might be taxable in the [transferee-] decedent's estate." S. Rept. 1622, 83d Cong., 2d Sess. 122 (1954). See also Holbrook v. United States, 575 F.2d 1288">575 F.2d 1288, 1290 (9th Cir. 1978); Estate of Sparling v. Commissioner, 552 F.2d 1340">552 F.2d 1340, 1343↩ n. 8 (9th Cir. 1977).4. See sec. 20.2013-4(a), Estate Tax Regs.↩5. Cf. Merchants Nat. Bank of Boston v. Commissioner, 320 U.S. 256">320 U.S. 256, 261 (1943); Salisbury v. United States, 377 F.2d 700">377 F.2d 700, 703-708↩ (2d Cir. 1967); 4 J. Mertens, Federal Gift & Estate Taxation, sec. 28.38 (1959).6. See Florida Bank at Lakeland v. United States, 443 F.2d 467">443 F.2d 467, 472 (5th Cir. 1971); Knauer v. Barnett, 360 So. 2d 399">360 So. 2d 399, 404↩ (Fla. 1978).7. We must of course interpret this broad grant of power in light of any bounds placed on the trustee's discretion by State law. Cf. Robinson v. Commissioner, 75 T.C. 346">75 T.C. 346, 353 (1980). Our review of Florida trust law yields only the rule that a trustee must carry out his duties in good faith, judiciously, and with prudence, and that a court will not intervene unless there is failure to comply with this obligation. Hoppe v. Hoppe, 370 So. 2d, 374, 375 (Fla. Dist. Ct. App. 1978), rehearing denied 370 So. 2d 376">370 So. 2d 376 (Fla. Dist. Ct. App. 1979), cert. denied 379 So. 2d 206">379 So. 2d 206 (Fla. Sup. Ct. 1979); Mesler v. Holly, 318 So. 2d 530">318 So. 2d 530, 533↩ (Fla. Dist. Ct. App. 1975). Thus, an invasion of this nature, in accordance with the terms of the trust, would certainly be within the trustee's power.8. Even if her income interest were valued on the basis of hindsight, she survived her husband only about 2 years, and a 2-year interest in the income of the remainder trust was obviously nowhere near as great as the actuarially computed life interest of a 54-year old woman, which petitioner apparently used in the computation of the sec. 2013↩ credit.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623883/	DAVID W. WESTALL, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentWestall v. CommissionerDocket No. 20433-84.United States Tax CourtT.C. Memo 1988-421; 1988 Tax Ct. Memo LEXIS 439; 56 T.C.M. (CCH) 66; T.C.M. (RIA) 88421; September 6, 1988; As amended September 12, 1988 David Westall, pro se. Mary E. Jansing, for the respondent. PARRMEMORANDUM FINDINGS OF FACT AND OPINION PARR, Judge: Respondent determined the following deficiencies in and additions to petitioner's income tax: Additions to TaxDeficiencySec. 6651(a) 1Sec. 6653(a)Sec. 66541978$ 55,062$ 13,766$ 2,753$ -0-197958,12414,5312,9062,423198038,6849,6711,9342,469After concessions we must decide: (1) whether petitioner is entitled to alimony deductions in 1978, 1979, and 1980 in the respective amounts of $ 8,075, $ 2,650 and $ 2,340; (2) whether petitioner is entitled to two personal exemptions in each year from 1978 through 1980: (3) whether petitioner443 received $ 40,000 in unreported income from his ex-wife, Jeanne Westall, in 1978; (4) whether petitioner received ordinary income or capital gainincome from a $ 5,000 nonrefundable deposit in 1980; (6) whether petitioner is entitled to Schedule C deductions in 1978, 1979, and 1980 in the respective amounts of $ 33,412, $ 32,866 and $ 26,995; (7) whether petitioner is entitled to additional investment tax credits fro 1978, 1979, and 1980 in the respective amounts of $ 15, $ 662 and $ 515; 2(8) whether petitioner is liable for self-employment tax for 1978 through 1980; (9) whether petitioner is liable for additions to tax under section 6651(a) for failure to file tax returns in 1978 through 1980; (10) whether petitioner is liable for addition to tax under section 6653(a) for negligence in 1978 through 1980; and (11) whether petitioner is liable for additions to tax under section 6654 for failure to pay estimated tax in 1979 and 1980. In his brief respondent states that petitioner and444 respondent are in agreement as to the gross income received by petitioner except for $ 40,000 in 1978, $ 25,543 in 1979 and $ 5,000 in 1980. The record indicates there are also "other income" items in dispute (capital gain and net operating loss in 1979 and capital gain in 1980). Respondent has not addressed any of these "other income" items. Petitioner has, however, agreed with respondent's determination regarding capital gains for the 1979 taxable year. While petitioner did address the remaining items on brief, he did not present evidence in support of his position at trial. The arguments he makes on brief do not constitute evidence in support of his contentions. As a result, in the absence of an agreement between the parties as to the net operating loss for 1979 and the capital gain for 1980, we find that petitioner has not overcome the presumption of correctness of respondent's determination as to these facts. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and exhibits are incorporated herein by this reference. Petitioner resided in West Hollywood, Calif., at the time he filed his petition. Petitioner failed to file445 Federal income tax returns in 1978, 1979 and 1980. In 1958 petitioner married Jacqueline Westall. The couple had three children. Petitioner and Jacqueline were divorced in 1967. At the time the divorce was granted, petitioner was required to pay $ 30 each week for child support in addition to a fixed sum of $ 5,500 designated by the county court as "alimony." Petitioner was still required to make child support payments throughout the years in issue. Petitioner was also once married to Rosinda Westall. Petitioner and Rosinda had a daughter, Marsiella. Petitioner made payments to Rosinda between 1978 and 1980. The payments were allegedly for alimony and child support. Based upon the payments to Rosinda petitioner claims that he is entitled to two exemptions in 1978, 1979 and 1980. During 1978, 1979 and 1980 petitioner received income from rental property, from auto sales and from the operation of movie theaters. For five months in 1978 petitioner operated a theater in King City, Calif., and one in Monterey, Calif. After September 1978, petitioner operated only the theater in King City. During 1978 petitioner also received at lest $ 40,000 3 from his ex-wife, Jeanne446 Westall. Jeanne transferred the money to petitioner to make investments on her behalf. Petitioner neither made the investments nor returned the money in 1978. However, in September of 1978 petitioner transferred to Jeanne title to a new 3,500 square foot house on 5 acres in Kentucky, as partial repayment of the $ 40,000. Petitioner purchased the house for $ 58,000 with $ 10,000 cash down. Apparently, Jeanne assumed the mortgage. The next day Jeanne sold the house to a neighbor for $ 76,000. Jeanne apparently took a second mortgage, because later when the purchasers defaulted she took back the house and resold it in 1984, at less than $ 76,000; the exact amount Jeanne received is unclear. Petitioner repaid Jeanne $ 6,000 in 1982 as additional reimbursement of the $ 40,000. 447 On February 15, 1979 petitioner purchased real property at 411 Ellis Street, King City, Calif. The stated purchase price was $ 55,000. In a three-cornered transaction, on July 6, 1979, petitioner exchanged the property on 411 Ellis Street in King City for property located at 1615 Flores Street, Seaside, Calif. In exchange for the King City house and assumption of liabilities on the Seaside property, petitioner received $ 9,354 in cash, a house valued at $ 50,000 and he surrendered liabilities of $ 47,436 on the King City property. In addition, petitioner incurred selling expenses of $ 3,318 on the exchange. Finally, petitioner sold the house in Seaside as part of the exchange and suffered a loss of $ 1,1816. On July 25, 1980 petitioner received and cashed a check in the amount of $ 5,000 from Taso Promotions of Chicago. The check was for an option on the sale of the Del Rio Theater 4 in King City, Calif. The $ 5,000 was to be applied toward the purchase price. The remainder of the purchase price was never paid. 448 Respondent has conceded that petitioner is allowed the following Schedule C and Schedule E deductions in connection with his auto sales, rental property and the operation of his movie theaters: 197819791980Schedule C-Theaters$ 105,136$ 68,043$ 79,903Schedule C-Auto17,4919,9853,594Schedule E-Rentals5,863N/AN/APetitioner did not file any returns but nevertheless claims he is also entitled to the following business expenses which respondent has disallowed for a lack of substantiation: 197819791980Advertising$ 1,075$ 1,495$ 2,493Car & Truck5,3484,7473,443Depreciation1,7665,6266,959Legal & Professional3,5223,1303,075Rent2,000975-0-Repairs2,599691879Concession Supplies1,1053,2921,287Taxes-0-1,320186Travel & Entertainment7,8451,610933Film Rental & Delivery3,3317,3683,851Wages4,8212,7123,889Total$ 33,412$ 32,866$ 26,995Petitioner also claims that he is entitled to additional investment tax credits for the purchase of theater supplies in 1978, 1979 and 1980 in the respective amounts of $ 15, $ 622449 and $ 515. OPINION As a preliminary matter, petitioner submitted new documentation (receipts, invoices and affidavits) attached to his brief. We cannot and do not consider this material as part of the record. Rule 143(b). Furthermore petitioner was aware that we would not accept any additional evidence because we specifically stated to petitioner at trial, The Court: All right. The case is submitted. I'm going to allow 60 days for simultaneous briefs, and I don't believe we need responding briefs. * * The Court: During that 60 days, Mr. Westall, you might consult with respondent as to whether you can, in fact, produce material that will satisfy them, although the case is closed as far as I'm concerned; they still might be willing to make some adjustments with you if you can come up with evidence, but that's between you and the respondent. Petitioner did not produce any new evidence for respondent during the 60 days between trial and when the briefs were due. We will not now consider evidence which he failed to present at trial. Petitioner has also submitted two supplemental briefs. Respondent has not submitted any supplemental briefs. The Court did not request450 these additional briefs. In fact, we stated we did not think responding briefs were necessary in this case. Petitioner was informed at trial that each party would submit only one brief. Therefore, all of petitioner's arguments should have been in this first brief. If petitioner had an overwhelming need to bring new arguments to the Court's attention, then he should have requested that the court permit him to file a supplemental brief. Petitioner did not take this action. The supplemental briefs will not be considered. We now address the substantive issues in the case. Petitioner has the burden of proof on all the issues before the Court. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). AlimonyPetitioner claims that in 1978 he paid his ex-wife Jacqueline $ 3,000 alimony and his ex-wife Rosinda $ 5,675 in alimony. 5 Petitioner states that a substantial portion of the payment to Rosinda represented payment for back alimony. Petitioner makes similar claims for the 1979 and 1980 tax years. For the 1979 taxable year he claims to have paid Jacqueline Westall alimony of $ 1,200 and Rosinda Westall alimony of $ 2,200. For the 1980 taxable year451 petitioner claims he paid Rosinda $ 2,950 and that part of the payment was for back alimony. In support of his position petitioner submitted the divorce decree from his marriage to Jacqueline. In that decree the Court ordered petitioner to pay $ 30 per week in child support and a fixed amount of $ 5,500 in "alimony." Petitioner did not provide a copy of the divorce decree from his marriage to Rosinda.Whether the payments in fact represent alimony is a question that turns upon the facts, not upon any labels placed upon them. Ryker v. Commissioner,33 T.C. 924">33 T.C. 924, 929 (1960). The deductibility of alimony payments under section 215 is determined by reference to section 71(a). Section 71(a) provided generally that if a wife is divorced and the husband is required to make periodic payments to the wife pursuant452 to the divorce decree or other written instrument, then the wife must include the periodic payments in her gross income. Section 71(c)(1) provided that installment payments which discharge part of an obligation, the principal sum of which is specified in the decree or instrument, are not considered a periodic payments, unless by the terms of the decree the amount is to be paid in installments over a period exceeding 10 years. Section 215 allows a corresponding deduction to husbands who make periodic payments under section 71. The facts in this case do not support petitioner's contention that the payments to Jacqueline Westall were periodic alimony payments as described in section 71. The divorce decree submitted by petitioner clearly specifies that petitioner was required to pay Jacqueline a total sum of $ 5,500. There is no provision for periodic payments. Moreover, the $ 5,500 payment is not subject to any of the contingencies of death, remarriage, or changed economic status. Thus, the exception described in section 1.17-1(d)(3), Income Tax Regs., does not apply. Therefore petitioner is not entitled to any deduction for alimony paid to Jacqueline453 Westall in 1978 or 1979. Petitioner is likewise denied an alimony deduction for payments made to Rosinda Westall between 1978 and 1980. Petitioner failed to introduce any evidence at trial which substantiated his obligation to make periodic payments to Rosinda Westall. Moreover, since petitioner also claims portions of the payment to Rosinda were for back alimony, we do not even know what petitioner alleges was his annual alimony obligation. Petitioner has failed to meet his burden of proof and is denied any alimony deduction for payments made to Rosinda Westall. Personal ExemptionsPetitioner claims he is entitled to a personal exemption for 1978, 1979 and 1980, for his daughter, Marsiella. Petitioner alleges that child support payments he made represented more than one half of Marsiella's support.Section 152(e) provides 6 special rules regarding dependency exemptions in the case of children of divorced parents. Generally, the custodial parent will be entitled to claim the dependency exemption. There are two exceptions: (1) if the divorce decree provides that the noncustodial454 parent is entitled to the deduction and the noncustodial parent provides at least $ 600 in child support; or (2) if the noncustodial parent provides at least $ 1,200 in support and the custodial parent fails to clearly establish that she provided more support than the noncustodial parent. Neither of the exceptions apply in this case. Petitioner claims he paid Rosinda Westall $ 7,475 in 1978 and that $ 1,800 of that amount was for child support. In 1979 petitioner claims he paid Rosinda Westall $ 3,850 and that $ 1,650 of this amount was for child support. In 1980 petitioner claims he paid Rosinda Westall $ 4,750 and that $ 1,800 was for child support. Petitioner has not introduced a divorce decree or any type of written document which indicates that he was required to pay the above-mentioned child support. Petitioner has also failed to introduce any checks to substantiate his claim that he in fact made the payments. Even petitioner's accountant testified455 he "assumed' what portion of the payments to Rosinda Westall were for child support and that petitioner later informed him that his assumption was incorrect. Therefore, we have only petitioner's self-serving testimony to substantiate that the above-mentioned payments were made for child support. Petitioner had the opportunity before trial to secure a copy of his divorce decree or to present witnesses and/or cancelled checks to support his testimony. In the absence of any corroborating testimony we decline to allow petitioner to claim an exemption for Marsiella in 1978, 1979 and 1980. Petitioner failed to meet his burden of proof. Unreported Income 1978In 1978 petitioner received $ 40,000 or more from his ex-wife Jeanne Westall. Petitioner claims he received the money as loans and that he has repaid a substantial amount through (1) the transfer of his Kentucky home to Jeanne in August 1978, and (2) the payment of $ 6,000 in 1982. Respondent does not deny that petitioner transferred the Kentucky home in 1978 or the $ 6,000 in 1982. However, respondent asserts the money petitioner received in 1978 was income to him either because Jeanne gave him the money to invest456 on her behalf, which he failed to do and instead converted for his own use; because he stole the money from Jeanne; or, because the money was compensation for services. 7We find that Jeanne transferred $ 40,000 to petitioner in 1978 for investment purposes and did not intend it to be a loan. Petitioner failed to make the investments. The facts in this case indicate that the transfer of the new Kentucky home was intended to be a partial repayment of the $ 40,000. We accept petitioner's testimony, which is uncontradicted, that he made a $ 10,000 down payment on the Kentucky property and that the purchase price was in fact $ 58,000. The house therefore had a $ 48,000 mortgage, 457 which Jeanne assumed. Moreover, both petitioner and Jeanne testified that she sold the house to a neighbor the day after the transfer for $ 76,000. We find that this sale was prearranged. Petitioner has taxable income to the extent he did not repay the $ 40,000 in 1978. Petitioner clearly repaid $ 10,000 to Jeanne as represented by his basis in the Kentucky home. Thus, the amount petitioner had to pay was reduced to $ 30,000. The property, while held by petitioner, apparently appreciated another $ 18,000. This $ 18,000 serves to further reduce petitioner's obligation to Jeanne from $ 30,000 to $ 12,000. Thus petitioner had $ 12,000 in unreported income from the $ 40,000 he took from Jeanne but failed to repay. James v. United States,366 U.S. 213">366 U.S. 213 (1961). The transfer of the Kentucky home also resulted in additional tax consequences to petitioner. Since the appreciation served to decrease a debt, the amount of the appreciation, that is, the difference between petitioner's basis in the home and the fair market value of the home, is income to petitioner. As we458 said in Peninsula Properties Co., Ltd. v. Commissioner,47 B.T.A. 84">47 B.T.A. 84, 91 (1942), "In each case the transaction is treated as if the transferor had sold the asset for cash equivalent * * and had applied the cash to the payment of the debt." In this case if petitioner had sold the house he would have realized an $ 18,000 gain. 8 We cannot ignore that amount simply because it was transferred in the form of appreciated property. See also Simms v. Commissioner,28 B.T.A. 988">28 B.T.A. 988 (1933) (holding that the difference between a husband's basis in stock and the fair market value of that stock, transferred to his wife to repay a legal debt, was income to the husband). The fact that the purchasers later defaulted and Jeanne had to re-sell the house in 1984 does not affect the 1978 tax year. Similarly, the fact that petitioner paid Jeanne an additional $ 6,000 in 1982 does not affect the 1978 taxable year; rather it serves to decrease his459 income in 1982, a year not before the Court. James v. United States, supra at 220. 1979On February 15, 1979 petitioner purchased real property in King City, Calif. On July 16, 1979 petitioner exchanged the property in King City for property in Seaside, Calif. As part of the transfer petitioner then sold the property in Seaside. We need to decide the amount of gain, if any, petitioner must recognize on these transactions. Petitioner purchases the property in King City for $ 55,000. Of this amount, $ 47,500 was represented by a note. Petitioner's basis in the King City house was reduced for depreciation. Petitioner claims his basis in the house was increased by $ 7,384 for improvements he made. In the exchange petitioner gave up the King City house and assumed $ 21,790 in existing liabilities on the Seaside house. In return, petitioner received (1) $ 9,354 in cash, 9 (2) the Seaside house valued at $ 50,000, and (3) the assumption of liability existing on the King City house of $ 47,436. Petitioner also incurred selling expenses of $ 3,318 on the exchange. Finally, petitioner suffered a loss of $ 1,816 on the disposition of the house in Seaside. 460 Section 1031(a) provides in general that no gain or loss is recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of a like kind which is to be held either for productive use in a trade or business or for investment. Section 1031(b) provides that if money or other property is received in addition to the "like kind exchange" property the recipient must recognize gain, but only to the extent of money received or the fair market value of the other property. Furthermore, under section 1031(d) the recipient's basis in the exchange property is the same as it was in the property he transferred and any liabilities assumed are treated as money received on the exchange. In this case petitioner's basis in the King City house was equal to $ 54,413. 10 Petitioner has failed to prove the claimed improvements were actually made on the house in King City. Therefore, his basis is461 not increased above the purchase price. The total gain petitioner must recognize is determined as follows: ReceivedCash$ 9,354Fair Market Value of SeasideProperty50,000Liabilities given up47,436Amount realized106,790Less: Selling expenses3,318Net Amount realized$ 103,472Given UpCash-0-Adj. Basis inKing City Property54,413Liabilities assumed21,790Net amount paid76,203Gain realized27,269Less: loss onsale of Seaside Property1,816Gain recognized$ 25,4531980On July 25, 1980 petitioner received a check for $ 5,000 as a "nonrefundable deposit" for the sale of the Del Rio Theater in King City, Calif. Petitioner cashed the check on July 25, 1980. The payor of the check wrote across the back of the check "Cashing of this check confirm the sell of the Del Rio Theater (King City Calif) to Me Tarsicio Soto." Petitioner endorsed the check with the following qualification: 462 I endorse this check with the understanding that Tarsicio Soto will pay to me $ 45,000.00 on Jan. 1, 1981 and then take possession of he Del Rio Reel Joy Theatre, and on this date will execute a note and trust deed for $ 125,000.00 for the remaining balance due me. This initial deposit of $ 5,000.00 is not refundable.Beneath this qualification petitioner signed his name and Del Rio Theatre. No other funds were received. Respondent accepts petitioner's characterization of the check as a nonrefundable deposit but claims it results in ordinary income to petitioner. Furthermore, respondent asserts that petitioner's qualified endorsement was written after the check was received and therefore it does not necessarily represent the agreement between Soto and petitioner. Conversely, petitioner claims that since the money was for the sale of property and he held the property since 1978, the $ 5,000 constitutes long-term capital gain. As a preliminary matter, although respondent agrees to accept petitioner's characterization of the $ 5,000 as a nonrefundable deposit, we do not. We believe that the $ 5,000 in fact represented an option to purchase the theater which expired in January463 1981. The fact that petitioner endorsed the check and stated it was a nonrefundable deposit indicates the price of the option was to be applied against the total purchase price of $ 175,000. We are further convinced of our opinion from petitioner's testimony at trial where he stated: What had happened, I had advertised the theater, actually, I'd advertised the theater for sale from the time I bought it in '78, and I advertised in a national publication called "Box Office" magazine, and this happens to be July 21, 1980 issue, the theater is listed in here. And Mr. Soto, who owns Spanish Theaters in Chicago, called me and asked me about the theater and I told him, gave him the information and he says, "That's just what I want." And I said, "Well" -- he said "I'll send you a deposit." And I said, "Well, if you wire me a deposit it's nonrefundable." He says, "No, I want that theater. I want to open up operations in California." So, the gentleman sent me a certified check for $ 5,000 July 25 of 1980. On the back of it is written by him, "Cashing of this check confirms the sale of the Del Rio Theater" to me, "Tarcicio (phonetic) Soto," and then I, in turn, put my endorsement464 with the terms and so forth and so on, that he had to exercise by January 1, of '81. The man actually called me about the 15th of December, I hadn't heard from him, and he says, "Could I have a short time or more time?" And I gave him until January 15th, and he didn't exercise, or he didn't go through with the sale and he didn't tell me anything, and so ended up -- I had already deposited this in July and that's what this issue is about, the check.It is clear that there is no income from an option until such time as the option is exercised or lapses. Section 1.1234-1(b), Income Tax Regs. Any gain realized on the failure to exercise an option is ordinary income. Section 1.1234-1(b), Income Tax Regs. Therefore, we agree with respondent that petitioner realized ordinary income on the $ 5,000 payment from Soto. However, we accept that petitioner's qualified endorsement and his testimony at trial reflected the agreement of the parties. Therefore, contrary to respondent's position, we hold that petitioner did not realize any gain465 until 1981, when the option lapsed. Schedule C DeductionsIn 1978 petitioner claimed $ 138,548 in Schedule C expenses. Respondent allowed deductions totaling $ 105,136. In 1979 petitioner claimed $ 100,909 in Schedule C expenses. Respondent allowed $ 68,043. In 1980 petitioner claimed Schedule C expenses of $ 106,898, and respondent allowed $ 79,903. Remaining at issue are deductions for the following expenses: advertising, car and truck, depreciation, legal and professional, rent, repair, concession supply, taxes, travel and entertainment, film rental and delivery, and wages. In order to be entitled to any additional deductions petitioner must prove that these expenses were incurred in a trade or business and that the expenses were "ordinary and necessary." Sec. 162; Rule 142(a). Petitioner presented insufficient evidence to prove his entitlement to any advertising, rent, repair, concession supply, tax, travel and entertainment and wage expenses. In most instances petitioner presented only his own self-serving testimony and perhaps some cancelled checks that do not clearly466 indicate the payments were business related. That is, for the rent, repair, concession supply and wage expenses petitioner presented checks payable to individuals or stores which could have represented payment for any number of personal expenses. On brief petitioner also attempted to recategorize most of his advertising expenses either as travel and entertainment or as car and truck expenses. However, petitioner failed to present any evidence to substantiate his claim. The same holds true for all of petitioner's other travel and entertainment expenses. Petitioner testified about trips he made between his two California theaters and his excursions to pick up films throughout California; unfortunately for petitioner, this falls far short of the specific substantiation requirements of section 274. As a result, petitioner is not entitled to any of the above claimed deductions. Car and TruckPetitioner claimed the following truck and car expenses: 1978$ 5,74819799,74719803,443Respondent has allowed petitioner deductions of $ 400 for each of the years in question. Petitioner owned two theaters between May and September of 1978. Petitioner failed467 to maintain any type of log to substantiate his business miles and also failed to produce any receipts for actual car and truck expenses at trial.In limited circumstances when a taxpayer fails to produce evidence substantiating his entitlement to a deduction the Court will estimate deductions taxpayers are permitted to claim. We do this only when the taxpayer has convinced us that he in fact incurred an expense in the conduct of his trade or business and he has provided us with a means for estimating the expense he incurred. See Cohan v. Commissioner,39 F.2d 540">39 F.2d 540 (2d Cir. 1930). We do not believe petitioner has provided any basis to increase his car and truck expenses for 1979 or 1980. Petitioner has, however, convinced us that he traveled between King City and Monterey on a regular basis for five months of 1978, the period in which he owned two theaters. We treat this as local transportation and find that petitioner traveled approximately 2,640 miles. Using a figure of 17 cents per mile, petitioner would have incurred car and truck expenses of $ 448. Since respondent468 has already allowed petitioner a deduction of $ 400, petitioner may claim an additional $ 48 in auto expenses for the 1978 taxable year. DepreciationPetitioner claimed depreciation as follows for the years in question: 1978$ 4,658197911,476198012,809Respondent disallowed a portion of each of these claimed deductions. The major controversy for all the years in question is the correct useful life for a theater that petitioner bought in 1978. Petitioner contends that appropriate useful life is 10 years while respondent asserts the appropriate useful life is 20 years. Petitioner bases his opinion on the fact that the building was constructed in 1926 and was 52 years old when he purchased it. Petitioner further contends that in past cases where courts have determined the appropriate useful life for theaters the longest useful life was 59 years. Thus, 10 years plus the 52 years of age of the building creates a 62 years useful life, which petitioner contends is reasonable. Respondent contends petitioner has failed to produce any evidence to support his position.469 "Useful life" is defined as "the period over which the asset may reasonably be expected to be useful to the taxpayer in his trade or business * ." (Emphasis added.) Section 1.167(a)-1(b), Income Tax Regs. This determination is made with reference to the taxpayer's experience with similar property, accounting for present conditions and probable future developments. We also consider (1) the wear and tear and decay or decline of the property from natural causes, (2) the normal progress within the industry and the taxpayer's trade or business, (3) the climatic and other local conditions peculiar to the taxpayer's trade or business, and (4) the taxpayer's policy as to repairs, renewals and replacements. Sec. 1.167(a)-1(b), Income Tax Regs.In this case petitioner presented no evidence to support his claim that the building would have a useful life of 10 years as a theater. He also presented no evidence to contradict respondent's determination that the theater had a useful life of 20 years. Therefore, petitioner must utilize a 20 year useful life in determining his annual depreciation on the theater. The depreciation470 of several equipment items are also at issue. Petitioner failed to present any evidence as to his basis in any of these items or when they were placed in service. As a result he may not take depreciation deductions in excess of that which respondent has already allowed. Legal and ProfessionalPetitioner claimed legal and professional fees as follows for the years in question: 1978$ 3,52219793,13019803,075Petitioner's attorney, Mark Sincoff, testified at trial. Sincoff stated he represented petitioner in a civil action his ex-wife Jeanne filed against him and in a sale of the Del Rey Theater which fell through. Sincoff also represented petitioner in two divorce actions. 11Sincoff was unable to allocate his legal fees among the various representations. In order to be entitled to a deduction for471 legal and professional fees petitioner must prove the expenses were incurred in carrying on his trade or business or paid in connection with the production of income. Sections 162 and 212. Whether a particular legal expense is deductible depends on whether or not the claim arises in connection with the taxpayer's profit seeking activities. It does not depend on the consequences that might result to a taxpayer's income producing property from the failure to defeat the claim * . [United States v. Gilmore,372 U.S. 39">372 U.S. 39, 48 (1963). Emphasis in original.] In this case petitioner argues that Sincoff was hired to protect his business interests. In fact, however, Sincoff was hired to represent him in a divorce action which, as a consequence, required the protection of is business assets. Moreover, since petitioner is unable to allocate what portion of the fees paid to Sincoff in 1980 were for the failed sale of the theater, and he has not provided any facts upon which we may estimate an allocation, ( Cohan v. Commissioner, supra), none of the fees paid to Sincoff are deductible.12472 In addition, petitioner paid Joseph Landreth, an attorney, $ 3,407.40 in 1978. Petitioner testified that $ 2,500 of his amount was attributable to relieving petitioner and Jeanne Westall from liabilities on the purchase of the black of buildings in which the Del Rey Theater was located. According to petitioner after he and Jeanne entered the agreement they realized that the rents they could collect would not exceed the mortgage payments. The legal costs incurred in rescinding this business deal are deductible. Therefore, accepting petitioner's testimony in conjunction with the parties' stipulation that the check was written, petitioner is entitled to deduct $ 2,500 in legal expenses in 1978. Petitioner has, however, failed to substantiate his entitlement to the additional $ 907.40 in legal expenses paid to Landreth. Film Rental and DeliveryDuring the years at issue petitioner claimed the following film rental and delivery expenses: 1978$ 37,070197930,051198033,906Respondent disallowed a portion of these claimed deductions in each year for lack of substantiation. At trial petitioner testified that on several occasions he actually went473 to pick up films and respondent has failed to allow any deduction for those occasions. This is a familiar argument in this case. Petitioner claimed part of his truck and car expense was attributable to local travel between his two theaters in order to transport films. Petitioner also claimed that part of his travel and entertainment expenses were incurred for trips he made to pick up films. We have already allowed petitioner car and truck expenses for five months of 1978 for local transportation between the two theaters he owned. In addition, respondent has allowed petitioner deductions of $ 400 for car and truck expenses in 1979 and 1980. Respondent has also allowed a substantial portion of petitioner' claimed film rental and delivery expenses. We are not certain on what basis respondent allowed these deductions. However, for the Court to allow additional film delivery deductions without substantiation could lead to a duplication of deductions. Without more evidence we will not allow petitioner any additional deductions for film delivery. The check disbursement schedule for 1978 indicates that $ 2,531.76 in film rental expenses are still at issue. One check was payable to474 Mitchell Bros. We have no evidence that the check was in fact for film rental. Two other checks, however, were payable to Freway Films and John Denver Film Rental. These two checks were for film rental; as a result petitioner is entitled to an additional film rental deduction of $ 531.76 for the 1978 taxable year. There is no indication on the check disbursement schedule for the 1979 taxable year that checks payable to any film rental companies were disallowed. Instead, all of the disallowed deductions were for checks payable to individuals. Petitioner has failed to produce any evidence which convinces us that these checks to individuals were really film rental expenses. Therefore, he is not entitled to any additional deduction in 1979. In 1980 all of the film rental and delivery expenses respondent disallowed were for payments to individuals or some type of aviation or travel company. Petitioner presented no evidence that the payments to individuals were actually for film rental. Also, as we have already stated, petitioner's lack of substantiation for his travel expenses precluded him from deducting any aviation costs as travel and entertainment expenses. His lack of substantiation475 similarly precludes petitioner from deducting aviation costs as film delivery expenses. Petitioner is not entitled to any additional deductions in 1980. Investment Tax CreditPetitioner claims he is entitled to investment tax credits in the following amounts: 1978$ 31519796221980515Respondent allowed $ 300 of the investment tax credit in 1978 and disallowed all of petitioner's claimed credits in 1979 and 1980. Section 38, sets forth the general rule that a credit is available for investment in certain property. In order to be eligible for the credit the property must be depreciable. Anderson v. Commissioner,446 F.2d 672">446 F.2d 672, 674 (5th Cir. 1971). In order to be depreciable the taxpayer must have a basis in the property and prove it is used in a trade or business. Petitioner has not presented any evidence which contradicts respondent's determination or supports his position that he is entitled to these credits. Therefore, petitioner is not entitled to claim investment tax credits in excess of those previously allowed by respondent. Self-employment TaxPetitioner claims he is not liable for self-employment tax in 1978476 because he suffered a loss from self-employment during that year. We have found as a fact, however, that petitioner did have income from self-employment during 1978 and he is therefore liable for self-employment tax for that year. Similarly, petitioner earned income from self-employment both in 1979 and 1980. He is also liable for self-employment tax in those years. Additions to Tax - Failure to FileSection 6651(a)(1) provides for an addition to tax when a taxpayer fails to file a return. The addition to tax is imposed unless it is shown that the failure was due to reasonable cause and not willful neglect. Under section 6651(a)(1) the amount of the addition to tax is 5 percent of the total deficiency for each month the return is not filed, but not in excess of 25 percent. Petitioner has the burden of proving he is not liable for the additions to tax. Rule 142(a). Before trial petitioner stipulated to the fact that he did not file tax returns in 1978, 1979 or 1980. Petitioner also admitted that he earned income from rental property, auto sales and the operation of a477 movie theater during those years. In his brief, filed in accordance with this Court's order, petitioner failed to address any of the additions to tax. At trial petitioner offered no evidence to show that his failure to file was due to reasonable cause and not willful neglect. Petitioner has failed to meet his burden of proof. Davis v. Commissioner,81 T.C. 806">81 T.C. 806, 820 (1983), affd. without published opinion 767 F.2d 931">767 F.2d 931 (9th Cir. 1985); Fischer v. Commissioner,50 T.C. 164">50 T.C. 164, 177 (1968). Since petitioner has failed to file any returns for the years in question he is liable for additions to tax under section 6651(a)(1) equal to 25 percent of the underpayment. Additions to Tax - NegligenceSection 6653(a) provides for an addition to tax equal to 5 percent of any underpayment attributable to negligence or disregard of the rules or regulations. Negligence is lack of due care or failure to do what a reasonable and ordinarily prudent person would do under the circumstances. Neely v. Commissioner,85 T.C. 934">85 T.C. 934, 947 (1985).478 Petitioner has the burden of proving the additions to tax for negligence do not apply. Bixby v. Commissioner,58 T.C. 757">58 T.C. 757 (1972); Rule 142(a). Petitioner has offered no evidence to contradict respondent's determination. The additions to tax under section 6653(a) must stand for the 1978, 1979 and 1980 taxable years. Additions to Tax - Failure to Pay Estimated TaxRespondent determined an addition to tax under section 6654 for failure to pay estimated tax for 1979 and 1980. Petitioner has the burden of proving the addition to tax under section 6654 does not apply. Petitioner has provided no evidence to contradict respondent's determination which, therefore, must stand. Reaver v. Commissioner,42 T.C. 72">42 T.C. 72, 83 (1964). To reflect the foregoing. Decision will be entered under Rule 155.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code as in effect during the years in question and all Rule references are to the Tax Court Rules of Practice and Procedure. ↩2. Petitioner concedes on brief that his original claim of an investment tax credit in the amount of $ 875 for 1980 was incorrect because there was no carryover from 1979 to 1980. ↩3. Respondent contends petitioner received $ 40,000 from Jeanne Westall in 1978. According to a complaint Jeanne filed on October 25, 1978, petitioner received $ 51,700 from her. She alleged he received $ 20,000 on December 5, 1977, $ 10,000 on February 6, 1978, $ 1,400 on April 5, 1978, $ 10,300 on April 20, 1978 and $ 10,000 on August 2, 1978. It is not clear why or how respondent arrived at a figure of $ 40,000. However, at trial Jeanne Westall confirmed that she believed petitioner originally owed her that approximate sum. ↩4. Throughout the trial and in the documentary evidence this theater was referred to as the Del Rio Theatre, the Del Rey Theatre and the Reel Joy Theatre interchangeably. ↩5. There apparently is a typographical error in petitioner's brief where he claims first that he paid Rosinda $ 5,075 but that $ 600 was erroneously included in child support and therefore, "The alimony deduction should be increased from $ 8,075 to $ 8,675." ↩6. Sec. 152(e) has since been amended by sec. 423(a) of Pub. L. 98-369, 98 Stat. 799 and also by sec. 104(b)(1)(B) of Pub. L. 99-514, 100 Stat. 2104. Sec. 152(e)↩, as explained above, applied to all of the years at issue. 7. Respondent's third alternative,t hat the money was compensation, arises from a lawsuit that Jeanne Westall filed against petitioner. In that suit Jeanne sought to recover the $ 40,000 at issue here. Petitioner cross complained that he had earned that money for managing Jeanne's money. He alleged he was entitled, pursuant to an agreement, to one half of the profits of her business for managing her money. In that complaint petitioner claimed his share of her profits was approximately $ 150,000. ↩8. We assume that petitioner realizes short-term gain or ordinary income rather than long-term capital gain on this transfer because he failed to produce any evidence to prove how long he held the Kentucky home. ↩9. Petitioner claims he never collected this money, but he failed to prsent any evidence to substantiate his claim. ↩10. Petitioner's basis equalled ↩$ 55,000purchase priceless587depreciation$ 54,41311. Sincoff testified that he was hired to represent petitioner primarily for purposes of the property settlement and that he was not hired to represent petitioner in his divorce since neither party can contest a divorce in the State of California. ↩12. We also note even if petitioner could allocate a portion of his legal expenses to the failed sale of the Del Rey Theater the cost would not be currently deductible; instead the cost would be added to the taxpayer's basis or offset against its selling price. Woodward v. Commissioner,397 U.S. 572">397 U.S. 572, 578↩ (1970).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623884/	MISSOURI VALLEY BRIDGE & IRON CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Missouri Valley Bridge & Iron Co. v. CommissionerDocket No. 15282.United States Board of Tax Appeals14 B.T.A. 1162; 1929 BTA LEXIS 2986; January 10, 1929, Promulgated 2986 The petitioner in computing its net income for the year 1921 is not entitled to deduct the amount of $89,152.83 involved herein either as a loss or as a debt ascertained to be worthless and charged off within the taxable year. Daniel F. Hickey, Esq., for the petitioner. Paul Peyton, Esq., for the respondent. MARQUETTE 1162 The petitioner has appealed to this Board from the respondent's determination as set forth in a registered letter dated March 9, 1926, that there is a deficiency in tax for the year 1922 in the amount of $5,936.98, and overassessments for the years 1921 and 1923 in the amounts of $699.41 and $3,026.46, respectively. The petitioner alleges that its tax liability for the three years mentioned is in controversy. 1163 FINDINGS OF FACT. The petitioner is a corporation organized under the laws of Kansas with its principal office at Leavenworth. During the years herein mentioned it was engaged in the business of constructing dams, bridges, etc. In the year 1911 the petitioner entered into a contract with the United States Government for the construction of a dam in the Ohio River. The contract provided, among2987 other things, that: 6. If the contractor shall fail to prosecute the work covered by this contract so as to complete the same within the time agreed upon, the contracting officer may, with the prior sanction of the Chief of Engineers, in lieu of annulling the contract under the preceding paragraph, waive the time limit and permit the contractor to finish the work within a reasonable period, to be determined by the contracting officer. Should the original time limit be thus waived, all expenses for inspection and superintendence, including all necessary traveling expenses connected therewith, and all other actual losses and damages to the United States due to the delay beyond the time originally set for completion, shall be determined by the contracting officer and deducted from any payments due or to become due the contractor: Provided, however, That no charge for inspection and superintendence shall be made for such period after the date of expiration of this contract, as in the judgment of the contracting officer, approved by the Chief of Engineers, shall equal the time which shall have been lost through any cause for which the United States is responsible, either in the2988 beginning or prosecution of the work, or in the performance of extra work ordered by the contracting officer, or on account of unusual freshets, ice, rainfall, or other abnormal force or violence of the elements or by strikes, epidemics, local or State quarantine restrictions, or other unforeseeable cause of delay arising through no fault of the contractor, and which actually prevented such contractor from commencing or completing the work or delivering the material within the period required by the contract. The findings of the contracting officer, approved by the Chief of Engineers, shall be accepted by the parties hereto as final. But such waiver of the time and remission of charges shall in no manner affect the rights or obligations of the parties under this contract. 7. If, at any time during the prosecution of the work, it be found advantageous or necessary to make any change or modification in the project, and this change or modification should involve such change in the specifications as to character and quantity, whether of labor or material, as would either increase or diminish the cost of the work, then such change or modification must be agreed upon in writing by2989 the contracting parties, the agreement setting forth fully the reasons for such change, and giving clearly the quantities and prices of both material and labor thus substituted for those named in the original contract, and before taking effect it must be approved by the Secretary of War: Provided, That no payments shall be made unless such supplemental or modified agreement was signed and approved before the obligation arising from such modification was incurred. 8. No claim whatever shall at any time be made upon the United States by the contractor for or on account of any extra work or material performed or furnished, or alleged to have been performed or furnished under or by 1164 virtue of this contract, and not expressly bargained for and specifically included therein, unless such extra work or materials shall have been expressly required in writing by the contracting officer, the prices and quantities thereof having been first agreed upon by the contracting parties and approved by the Chief of Engineers. The work under this contract was completed on October 6, 1916. The full amount due the petitioner under the contract was paid by the United States, final payment2990 being made on December 1, 1916. In accepting the final payment the petitioner gave notice that it did not waive its rights to recover through the courts any additional cost arising from changes in methods of construction claimed by it to have been ordered by the Government officers in charge of the work. On December 31, 1916, the books of the petitioner disclosed a total loss on the aforesaid contract in the amount of $139,811.55. After making certain minor debits and credits to the account during the years 1917, 1918, and 1919, a total loss of $147,111.88 was shown, which was charged to profit and loss by the petitioner as follows: 1915$100,000.00192023,111.88192124,000.00These amounts were taken as deductions on the income-tax returns filed by the petitioner for the years 1915, 1920, and 1921, respectively. The first two deductions were allowed by the respondent, but the third deduction was disallowed. In 1917 the petitioner filed a suit in the Court of Claims to recover the amount of $89,152.83 claimed by it as extra cost and expense in building the dam under the contract above mentioned, made necessary by the construction changes ordered by2991 the Government. The said amount of $89,152.83 is included in the above said total loss of $147,111.88. No part of said amount of $89,152.83 has ever been accrued as income on the petitioner's books or included as gross income in any of its income-tax returns. The petitioner's books were kept on the basis of completed contracts. On March 29, 1920, the Court of Claims held that the petitioner was not entitled to recover any amount from the United States Government, and it rendered judgment against the petitioner for costs and dismissed its petition. The petitioner did not appeal or prosecute error from said judgment of the Court of Claims but sought relief in Congress, and in August, 1921, it reached the conclusion that it could not obtain such relief. The petitioner filed an income and profits-tax return for the year 1921 and reported a net income of $8,994.06 and tax due thereon in the amount of $699.41, which was duly assessed. For the year 1922 1165 the petitioner filed an income-tax return and reported a net income of $20,742.09 and tax due thereon in the amount of $2,342.76, which was assessed. For the year 1923 the petitioner filed an income-tax return showing2992 a net income of $80,397.39 and tax due thereon in the amount of $10,049.67, which was assessed by the respondent. The respondent, upon audit of the petitioner's returns for the years 1921, 1922, and 1923, disallowed as a deduction from gross income for 1921 the amount of $24,000 claimed by the petitioner as a loss under its Government contract as hereinbefore set forth; made other adjustments in the petitioner's income which are not material here; determined that the petitioner had sustained a net loss of $136,834.74 in the year 1921, and that there was an overassessment in tax for that year in the amount of $699.41. For the year 1922 the respondent determined that the petitioner had a net income subject to tax of $66,237.95 and that there is a deficiency in tax in the amount of $5,936.98. The respondent also determined that for the year 1923 the petitioner's net income was $56,185.70, and that there is an overassessment in tax for that year in the amount of $3,026.46. OPINION. MARQUETTE: It is the contention of the petitioner that in computing its net income for 1921 it is entitled to deduct, either as a debt ascertained to be worthless and charged off within the taxable2993 year, or as a loss sustained in that year, the amount of $89,152.83 mentioned in the findings of fact. If this contention is well taken the petitioner's net loss for 1921 as determined by the respondent will be increased by the amount of $89,152.83 and as so increased will wipe out the taxable income for 1922 and result in no deficiency for that year. The petitioner's argument is ingenious but not convincing, and we are unable to perceive any merit in its claim. Before a deduction can be allowed on account of a worthless debt it is essential that the existence of a valid debt be established. ; ; . In the last case cited this Board said: If the debtor was not legally liable to the taxpayer, then there was no debt to become worthless. It can not become worthless because of inability to establish legally the liability for the debt, for in such a case there is not an ascertainment of worthlessness of an existing debt, but an ascertainment of the nonexistence of such a debt. In the instant case the petitioner has wholly failed to prove that2994 there was ever a valid debt due it from the United States. On the other hand the record shows that the United States at no time admitted any liability and that the Court of Claims judicially determined 1166 that the petitioner had no valid claim for the amount in controversy, or for any other amount, and that it rendered judgment against the petitioner and dismissed its suit. The petitioner declined to appeal from that judgment and it became final some time in 1920. The decision of the Court of Claims was the ascertainment of the nonexistence of the debt that the petitioner claims, and is binding upon this Board. It follows that since no debt existed there was nothing to charge off or deduct. We are also of opinion that the petitioner is not entitled to deduct the amount in question as a loss sustained in 1921. The evidence shows that the petitioner sustained a loss on its construction contract with the United States in the amount of $147,111.88 but it seems clear to us that the entire loss occurred prior to 1921. When the Court of Claims rendered its judgment adverse to the petitioner, and the petitioner declined to appeal therefrom, its claim for any further compensation*2995 or payment under the contract became completely and finally adjudicated and foreclosed and the loss on the contract became final and complete at that time, if not before. The fact that the petitioner appealed to Congress does not alter the situation. If Congress had seen fit to give the petitioner any relief it would have undoubtedly been on account of moral, not legal obligations, for if the petitioner had a legal claim against the United States an application to Congress for relief would not have been necessary. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623885/	Vance Lauderdale and Katharine B. Lauderdale, Husband and Wife, Petitioners, v. Commissioner of Internal Revenue, Respondent. J. Robert Hewitt and Enid V. Hewitt, Husband and Wife, Petitioners, v. Commissioner of Internal Revenue, RespondentLauderdale v. CommissionerDocket Nos. 11395, 11398United States Tax Court9 T.C. 751; 1947 U.S. Tax Ct. LEXIS 57; October 23, 1947, Promulgated 57 Decisions will be entered for the respondent. The petitioners' partnership (formed June 1, 1939) inventoried securities in which it was dealing. One petitioner entered military service on June 30, 1942. They formed another partnership with an employee. Thereafter, the securities of the old partnership were held by the Stock Exchange house which represented both partnerships, in an account labeled "old accounts"; and there was thereafter only a limited amount of buying and selling from the "old accounts." The new partnership, including the former employee, inventoried its securities, in which the partners were specialists. A partnership return was filed for 1942, showing the three partners, but also showing the partnership as formed May 31, 1939, the business as "dealers in securities," and reporting for all of 1942. For 1943 a return was filed for the old partnership, showing only the petitioners as partners. Another partnership return was filed for 1943 by the partnership consisting of the three partners. Both returns showed formation of partnership as May 31, 1939. No permission was secured for changing from the inventory method. No evidence showed the old partnership58 closed, and the securities inventoried were not distributed to the partners. Held, profit from securities sold from "old accounts" was ordinary income and not capital gain. Paul V. Wolfe, Esq., for the petitioners.Thomas R. Charshee, Esq., for the respondent. Disney, Judge. DISNEY751 These proceedings, consolidated for hearing and disposition, involve deficiencies in income tax liabilities for the calendar year 1943, as follows:DocketPetitionersnumberAmountVance and Katharine B. Lauderdale11395$ 5,806.92J. Robert and Enid V. Hewitt113987,058.10752 The only issue to be determined is whether profit from the sale of certain stock represents capital gains, as reported, or ordinary income, as held by Commissioner.A stipulation of facts was filed. We adopt same by reference59 and find the facts therein set forth. Such parts thereof as it is considered necessary to set forth are included with other facts found from evidence adduced in our findings of fact.FINDINGS OF FACT.Vance and Katharine B. Lauderdale and J. Robert and Enid V. Hewitt, petitioners herein, are husband and wife, respectively. They filed their Federal income tax returns for 1942 and 1943 with the collector of internal revenue for the second district of New York. Vance Lauderdale and J. Robert Hewitt will hereinafter be called the petitioners.Prior to July 1, 1942, petitioners were the sole partners of the firm of Hewitt, Lauderdale & Co. (referred to hereafter as the "old partnership"), formed to engage in the general business of specialists on the New York Stock Exchange, under an agreement dated June 1, 1939. The net profits of the old partnership were apportioned as follows:J. Robert Hewitt (hereinafter referred to as Hewitt)61.111%Vance Lauderdale (hereinafter referred to as Lauderdale)38.889%On or about June 30, 1942, Hewitt entered the service of the United States. At that time a new partnership arrangement, under the same name as the old partnership, was entered60 into by Hewitt, Lauderdale, and Frank J. Warne. The net profits of the business (referred to hereinafter as the "new partnership") were apportioned as follows: J. Robert Hewitt, 51.111%; Vance Lauderdale, 38.889%; and Frank J. Warne, 10% of the net profits after deducting the sum of $ 50 per week guaranteed and payable by Hewitt.The net losses of the new partnership were to be apportioned as follows:J. Robert Hewitt61.111%Vance Lauderdale38.889%Frank J. Warne0.00% Warne was a clerk in the office of the old partnership prior to June 30, 1942, and was paid a salary of "about forty dollars a week." He made no investment in the new partnership. The only purpose in making Warne a member of the new partnership was to have him act as alternate on the Stock Exchange while Hewitt was in the service of the United States.The old partnership carried a large amount of stocks and securities, as its stock in trade, inventoried them at cost, and used the "first in, 753 first out" method in computing net income. Upon the formation of the new partnership, all of the securities which the old partnership had held as its stock in trade and inventoried, composing in part those61 herein in question, were held by a Stock Exchange house through which firm the old and new partnerships cleared their transactions. The securities were held after June 30, 1942, by the Stock Exchange house in an account labeled "old accounts," which referred to the old partnership. The activities of this account are indicated in the following schedule:Hewitt, Lauderdale & CompanyPURCHASES AND SALES -- OLD ACCOUNTS JULY 1, 1942, TO DEC. 31, 19447/1/42 to 12/31/42InventorySecurity7/1/42,SharesSharessharespurchasedsoldBangor & Aroostook500Congoleum-Nairn400200Detroit Edison300300General Realty & Utility12,240General Realty & Utility pfd500100Libby Owens Ford500500Remington Rand com700100500Reynolds Spring1,700300Worthington Pump & Mach2,4001,4001,600Worthington Pump & Mach pr. pfd600100Worthington Pump & Mach conv. pfd300100Total20,1401,5003,700Hewitt, Lauderdale & CompanyPURCHASES AND SALES -- OLD ACCOUNTS JULY 1, 1942, TO DEC. 31, 19441/1/43 to 12/31/431/1/44 to 12/31/44SharesSharesSharesSharesSecuritypurchasedsoldpurchasedsoldBangor & Aroostook200500200Congoleum-Nairn200Detroit EdisonGeneral Realty & Utility11,740500General Realty & Utility pfd100500Libby Owens FordRemington Rand com300Reynolds Spring1,200200Worthington Pump & Mach4001,800Worthington Pump & Mach pr. pfd100400Worthington Pump & Mach conv. pfd200Total30015,1403,10062 The activities of the new partnership are indicated in the following schedule:PURCHASES AND SALES -- NEW ACCOUNTSJULY 1, 1942, TO DEC. 31, 19447/1/42 to 12/31/42SecuritySharesSharespurchasedsoldBangor & Aroostook700200Congoleum-Nairn2,9552,955Detroit Edison4,2004,700Fidelity-Phenix Insurance1,1001,100General Realty & UtilityGeneral Realty & Utility pfdHecht CoLibbey Owens Ford5,1004,900Norfolk & Western880810Norfolk & Western pfd10Remington Rand600600Reynolds Spring600400Worthington Pump1,8001,300Worthington Pump pr. pfdWorthington Pump cu. pfd100Total18,04516,965PURCHASES AND SALES -- NEW ACCOUNTS JULY 1, 1942, TO DEC. 31, 19441/1/43 to 12/31/431/1/44 to 12/31/44SecuritySharesSharesSharesSharespurchasedsoldpurchasedsoldBangor & Aroostook8,6008,6004,1004,300Congoleum-Nairn4,9004,8006,7006,800Detroit Edison13,80013,20010,10010,100Fidelity-Phenix Insurance4,2004,2003,7003,400General Realty & Utility9,5008,00025,10023,100General Realty & Utility pfd1,0001,000900900Hecht Co200200Libbey Owens Ford11,40011,6009,9009,600Norfolk & Western2,2002,1101,7901,980Norfolk & Western pfd2030200200Remington Rand11,40011,1009,8059,905Reynolds Spring7,3007,2006,2006,400Worthington Pump13,30013,10017,90018,300Worthington Pump pr. pfd1,7001,5002,2002,300Worthington Pump cu. pfd1,3001,0009001,200Total90,62087,44099,69598,68563 Hewitt, Lauderdale & Co. filed a single partnership return for the year 1942, which reflected the income of the old and the new partnerships for that year. The return shows that the business of the company 754 was "dealers in securities." Salaries and wages (other than compensation for partners) were shown at $ 3,715. The date of the organization of the partnership was shown as May 31, 1939. Hewitt, Lauderdale, and Warne were listed as partners. The return shows an inventory at the end of the year of $ 129,695.26.Hewitt, Lauderdale & Co. filed two partnership returns for the year 1943. The return designated No. 1 shows the receipt of dividends of $ 6,200, the payment of interest and taxes of $ 2,147.52, net short term capital gains of $ 835.78, and net long term capital gains of $ 15,165.62. The return shows no inventory. It showed the partners as Hewitt and Lauderdale and that their business or profession was that of investors. The date of organization of the partnership was shown as May 31, 1939. According to a schedule attached to the return, the date of acquisition of the 15,040 shares of stock sold during 1943 and reported as long term capital gains ranged from64 December 30, 1940, to December 17, 1942. Another schedule indicated the 100 shares sold and reported as a short term capital gain were acquired March 9, 1943, and sold June 14, 1943. The return designated No. 2 shows the same name and address of the business as does No. 1. It covers the operation of the partnership as specialists and reflected a net income of $ 36,579.50. It shows a beginning inventory of $ 26,234.67, and showed the partners as Hewitt, Lauderdale & Warne and that their business or profession was that of brokers. The date of organization of the partnership was shown as May 31, 1939.No application was made to the Commissioner to change the method of inventorying the securities held by Hewitt, Lauderdale & Co.In their individual income tax returns for 1943, petitioners reported their respective shares of the profits realized from the sale of securities held by the Stock Exchange house for the old partnership account, as reflected in the partnership return marked No. 1 for the year 1943, as capital gains. The Commissioner determined that the capital gains reported in the partnership return No. 1 for 1943 were ordinary gains and increased the income reported in65 the No. 1 partnership return from $ 4,052.48 to $ 34,466.26.OPINION.In the taxable year 1943 the petitioners sold certain securities. Were the profits taxable as ordinary income, or at capital gain rates? The securities had, earlier at least, belonged to a partnership composed of the petitioners. The answer here depends upon the view taken as to what happened to that partnership and the securities. That partnership had been dealing in the securities, and inventoried them. No permission was secured from the Commissioner to change from the inventory method. Therefore, if the partnership continued to own the securities until they were sold in 1943, they would not be capital assets, within the text of sections 117 (a) (1) and 22 (c) of 755 the Internal Revenue Code, 166 and Regulations 111, section 29.22 (c)-5, 2 which is not challenged as not being within the statute.In our opinion, the securities sold clearly did remain the property of the partnership. The burden is upon the petitioner to show otherwise. No attempt was made to show dissolution of the partnership. Evidence was introduced that on or about June 30, 1942, a new partnership agreement entered into was between the petitioners and one Warne, formerly an employee of the old partnership, because Hewitt entered the military service of the United States, and a partner was67 necessary to represent him as alternate in the Stock Exchange, of which he was a member. The new partnership, composed of Hewitt, Lauderdale, and Warne, dealt in securities, including those of the same companies formerly dealt in by the partnership between Hewitt and Lauderdale. The securities held by the "old partnership" (including those later sold and here in question) after June 30, 1942, were held by a Stock Exchange house in an account labeled "old accounts," which referred to the old partnership. There was purchase and sale in that account, but much smaller in amount than was conducted by the new partnership in securities in which it dealt. The securities in the "old accounts" were not distributed to Hewitt and Lauderdale. They consisted of 20,140 shares. All but 3,100, together with later purchases of 1,800 shares, were sold prior to December 31, 1943, and the 3,100 remaining were sold in 1944.It is apparent that the petitioners did not regard the old partnership as terminated on June 30, 1942, for a partnership return was filed for 1942, reflecting income of both the old and the new partnerships, that is, 756 for the entire year 1942, with no suggestion of dissolution68 of the old partnership, but, on the contrary, a statement that the partnership reporting was formed May 31, 1939, which was the date of inception of the old partnership. Only one partnership return was filed for 1942. For 1943 two partnership returns were filed, and both showed the date of formation as May 31, 1939. One of the 1943 returns showed Hewitt and Lauderdale as the partners. The other return showed Hewitt, Lauderdale, and Warne as partners. The latter showed a net income of approximately $ 36,000, as against about $ 22,000 for the other return by the Hewitt-Lauderdale partnership. To us it is apparent from all this that Hewitt and Lauderdale in the taxable year, and in fact at all times after June 30, 1942, regarded themselves as a partnership as they were before June 30, 1942, and separate from that in which Warne participated. At trial it was suggested by counsel for petitioner that the matter here is one of intention. The intention as to continuation of the old partnership is plain. It was not dissolved. Its property was not distributed. Therefore, that partnership continued to report as such, and, since it did not secure permission to change from the inventory69 method, the securities so inventoried, including those sold, can not be viewed as capital assets, in the face of the statute saying assets properly includible in inventory are not.The petitioners urge that the partners considered themselves only as investors after June 30, 1942, as to the "old accounts," and cite Vaughan v. Commissioner, 85 Fed. (2d) 497; certiorari denied, 299 U.S. 173">299 U.S. 173. But that case is distinguishable. Here the same entity continued, to a considerable extent, to buy and sell, and to report as such, without permission to change from the inventory method, while in the Vaughan case the former activity in the stocks involved passed from Vaughan to a partnership formed. A mere desire by the partners to regard certain securities as no longer inventory, but as investments, and themselves as no longer dealers, can not suffice to meet the statute. There is ample and sound reason for the requirement that permission be given before change from the inventory method. Stokes v. Rothensies, 61 Fed. Supp. 444; affd., 154 Fed. (2d) 1022. The statutes70 and regulations require the conclusion here that the stocks sold were not capital assets, and we therefore hold that the Commissioner did not err in taxing the profits from their sales as ordinary income.Decisions will be entered for the respondent. Footnotes1. SEC. 117. CAPITAL GAINS AND LOSSES.(a) Definitions. -- As used in this chapter --(1) Capital assets. -- The term "capital assets" means property held by the taxpayer (whether or not connected with his trade or business), but does not include stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business * * .SEC. 22. GROSS INCOME. * * (c) Inventories. -- Whenever in the opinion of the Commissioner the use of inventories is necessary in order clearly to determine the income of any taxpayer, inventories shall be taken by such taxpayer upon such basis as the Commissioner, with the approval of the Secretary, may prescribe as conforming as nearly as may be to the best accounting practice in the trade or business and as most clearly reflecting the income.↩2. Sec. 29.22 (c)-5. Inventories by Dealers in Securities. -- A dealer in securities who in his books of account regularly inventories unsold securities on hand either -- (a) At cost,(b) At cost or market, whichever is lower, or(c) At market value,may make his return upon the basis upon which his accounts are kept; provided that a description of the method employed shall be included in or attached to the return, that all the securities must be inventoried by the same method, and that such method must be adhered to in subsequent years, unless another method be authorized by the Commissioner↩ * *. [Italics supplied.]	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623887/	Estate of Charles Hart, Deceased, Florence Hart Wainwright, Administratrix, d.b.n.c.t.a., and Estate of Florence McCurdy Hart, Deceased, Natalie Hart, Eileen Hart McMichael and Florence Hart Wainwright, Administratrices v. Commissioner.Estate of Hart v. CommissionerDocket No. 47374.United States Tax CourtT.C. Memo 1955-295; 1955 Tax Ct. Memo LEXIS 40; 14 T.C.M. (CCH) 1140; T.C.M. (RIA) 55295; October 31, 195540 James A. Moore, Esq., and R. C. Sorlien, Esq., for the petitioners. William G. Handfield, Esq., for the respondent. RAUMMemorandum Findings of Fact and Opinion The respondent determined a deficiency in income tax in the amount of $350.72 for the year 1949. The sole question is whether the taxpayers are entitled to a capital loss carry-over deduction claimed in 1949 for a loss upon stock of the Delaware River Steel Company. Findings of Fact Charles Hart and Florence McCurdy Hart, husband and wife, filed a joint income tax return for the year 1949 with the collector of internal revenue for the first district of Pennsylvania. During that year they were residents of Media, Pennsylvania. Charles Hart died on May 22, 1950, and Florence McCurdy Hart died on November 18, 1954. Florence Hart Wainwright is Administratrix d.b.n.c.t.a. of the Estate of Charles Hart. Natalie Hart, Eileen Hart McMichael and Florence Hart Wainwright are Administratrices of the Estate of Florence McCurdy Hart. On January 1, 1948, Florence McCurdy Hart owned 715 shares of the capital stock of Delaware River Steel Company, a Pennsylvania corporation. She purchased 675 shares on or before41 January 10, 1911, for $100 a share. She purchased an additional 20 shares on or before January 28, 1920, for $100 a share. The Delaware River Steel Company (here inafter referred to as the Company) carried on the business of manufacturing pig iron from its incorporation in 1909 until 1939. The financial condition of the Company is shown by the following trial balance of its books and accounts as of May 31, 1939: DebitsAccounts Receivable$ 12,689.51Accounts Receivable T. Hemphill - Trustee464.60Loan Howard F. Hansell, Syndicate Mgr.2,927.68Prepaid Insurance578.50Deferred Charges (Services of Trustee)83.34Deferred Charges (Expenses of Bond Issue)3,864.53Inventory MaterialsCoke$ 469.40Limestone400.03Captain Ore5,124.33Ferromanganese Slag550.03Mill Scale729.48Old Bed Ore17,242.29Open Hearth Slag318.82Pebbles405.98Wabana Ore5,830.97Stores24,615.5855,686.91Notes Receivable2,001.41Garage Building200.00Office Furniture & Fixtures113.50Package Account (Prepaid for Containers)72.35Plant and Real Estate$1,205,084.60Less Reserve for Depreciation167,837.581,037,247.02Expenses (P. & L. Items)Expense while idle Office$ 518.43Expense while idle Overhead3,673.03Expense while idle Plant254.83Expenses of Trustee6,837.85Dock & Wharf Expense149.5911,433.73Reserve for Relining Furnace (P. & L.)17,932.48Profit Loss - (Deficit)646,123.46$1,791,419.02CreditsAccounts Payable$ 43,860.13Bonds - 5 year 6% Ser. A397,000.00Bonds - 5 year 6% Ser. B600,000.00Accrued Interest on Bonds Ser. "A"119,100.00Accrued Interest on Bonds Ser. "B"136,800.00Taxes Accrued (Current Year)3,402.40Accrued Soc. Sec. Taxes1.08Interest Rec'd (P. & L. Item)55.41Capital Stock - Common 4,912 shares - $100 par491,200.00$1,791,419.0242 On or about January 28, 1939, an application for relief under Section 77B of the Bankruptcy Act was filed for the Company with the United States District Court for the Eastern District of Pennsylvania, and a Trustee was appointed. The Trustee subsequently advised the court that reorganization was impossible, and the application was dismissed. The Chester-Cambridge Bank and Trust Company, Chester, Pennsylvania, Delaware County National Bank, Chester, Pennsylvania, and Union National Bank of Youngstown, Ohio, were the holders of mortgage bonds totaling $997,000 shown in the trial balance of May 31, 1939. Chester-Cambridge Bank and Trust Company was Trustee-Mortgagee for the bondholders. It held bonds of the Company as collateral for the personal note of Charles Hart, which bonds were secured by a first mortgage on the plant of the Company. It also held 1,372 shares of stock of the Company out of 4,912 shares outstanding as further collateral security for Charles Hart's note. On June 19, 1939, suit was instituted by writ of scire facias sur mortgage by the Trustee-Mortgagee to foreclose the mortgage. Judgment was entered by default for the Trustee-Mortgagee on July 17, 1939, for43 the amount of $1,378,830.24. Thereafter execution was issued and the premises covered by the mortgage were sold by the Sheriff of Delaware County on the 4th Monday of August, 1939, to the Trustee-Mortgagee for $2,500 by Sheriff's Deed dated September 9, 1939. No deficiency judgment was obtained against the Company at that time or subsequently nor did the trustee for bondholders of the Company ever file a petition with the court to fix the fair market value of the property acquired under the foreclosure sale. After the foreclosure, the Company remained in possession of and held unencumbered legal title to other real and personal property. Its balance sheet as of December 31, 1939, showed the following: AssetsCash - Chester-Cambridge Bank & Trust Co.$ 973.82Accounts Receivable12,672.13Joseph P. Santman$ 48.52Caroline Foundry Co.39.33Charles Hart3,581.97R. H. McCurdy8,802.31Riverside Steel Casting Co.200.00Building - Garage200.00Raw Materials31,071.33Coke469.40Limestone400.03Captain Ore5,124.33Managanese Slag550.03Mill Scale729.48Old Bed Ore17,242.29Open Hearth Slag318.82Pebbles405.98Wabana Ore5,830.97Stores (supplies, spare parts & c)24,615.58Office Furniture & Fixtures113.50$ 69,646.36LiabilitiesAccounts Payable: Hannum, Hunter & Hannum$ 1,900.00Capital Stock - 4,912 shares - $100.00 par491,200.00Profit & Loss (Deficit)- 423,453.64$ 69,646.3644 The board of directors of the Chester-Cambridge Bank and Trust Company were fully aware of the existence of a substantial pile of pig iron and some cash in the hands of the Company after the foreclosure. They considered the possibility of suing on the bonds and obtaining a deficiency judgment and determined affirmatively not to do so. This decision was communicated to the officials of the Company, one of whom was Charles Hart. The decision was based on the board's opinion that the Bank would receive less on a forced sale of the Company's remaining assets than it would if it allowed Charles Hart and the Company's officers to operate the Company. Although the Company lost its plant by the 1939 foreclosure, it continued in existence until 1948 for the purpose of liquidating its inventory. During 1940 it received $48.52 and expended $822.14. From January 1, 1941, until June 28, 1948, the Company had the following receipts and expenses: 1940 Dec. 31 BALANCE. AS PER BOOKS$ 200.20RECEIPTS 1/1/41 to 5/27/48Caroline Foundry Co. - for pig iron$ 39.33Reimbursement by Bank - for watchmen54.25Sale of scrap rails223.72Sale of iron ore32,166.50Sale of store room supplies13,226.25Sale of furniture & fixtures110.00Sale of real estate1,304.7047,124.75$47,324.95DISBURSEMENTS 1/1/41 to 5/27/48Office expense (tel., water, stationery, heat,etc.)$ 246.58Watchman (Reimbursed by Bank)36.75Repairs office building13.50Commonwealth of Pa., state capital stock tax743.78Legal expense100.001,140.611948 May 27 BALANCE AS PER BANK STATEMENT$46,184.34UNPAID BILLS 5/27/48THE ROBERT McCURDY CO.Bills paid for Co. Pa. Bonus Tax $ 21.53Electricity 38.68Telephone bills 187.57Water bills 41.53Moving - Rep. heater, etc. 324.37Stenographers' salaries 3,729.37Post office box rent 7.934,350.98CHADWICK, CURRAN, PETRIKIN AND SMITHERSExpenses incurred $ 237.08Louis N. Howard - services re saleof bed of lateral rwy. 50.00Professional Services 1,700.001,987.08COMMONWEALTH OF PENNSYLVANIATaxes to 6/30/4823.20Articles of Dissolution - filing fee10.00Affidavits of Articles of Dissolution.756,372.01Balance available for distribution to stockholders$39,812.33Number of shares outstanding 4,912Amount payable per share $8,105145 On December 2, 1946, as a result of a resolution by the board of directors, the Company filed an election to dissolve. In the course of dissolution, a liquidating payment was made to the common stockholders of record June 6, 1948, in the amount of $8.1051 per share. On June 29, 1948, a Certificate of Dissolution of the Company was issued by the Department of State of the Commonwealth of Pennsylvania. In 1948 Florence McCurdy Hart received $5,795.15 in full payment for her 715 shares of common stock of the Company. Petitioners realized no capital gain from any transaction in the calendar year 1948. The stock of the Company did not become worthless prior to the year 1948. Opinion RAUM, Judge: The parties agree that on June 6, 1948, Florence McCurdy Hart (hereinafter referred to as the "taxpayer") owned 715 shares of stock of the Delaware River Steel Company; that 695 of these shares had a cost basis of $100 per share; and that on that date, upon the complete liquidation of the Company, she received a distribution of $5,795.15 in full payment for her 715 shares. The respondent contends that the stock of the Company became worthless prior to 1948 and that the taxpayer46 did not sustain a capital loss in that year. The petitioners contend that the distribution in liquidation gave rise to a capital loss in 1948, and that the taxpayer was entitled to the deduction of the capital loss carry-over claimed in joint return filed by her and her husband for 1949. The respondent urges that the stock of the Company had no value subsequent to 1939. He points to the fact that the Company was in financial difficulties early in that year, that its liabilities exceeded its assets and that it had mortgage bonds outstanding in the amount of $997,000; that action was instituted by the trustees for the bondholders to foreclose the mortgage on June 19, 1939; that judgment was entered against the Company on July 17, 1939, for the amount of $1,378,830.34; that execution was issued on the judgment and the mortgaged premises, consisting of the Company's plant and real estate, was sold by the Sheriff of Delaware County to the Mortgagee-Trustee for $2,500; that after this sale the officers of the Company proceeded to wind up its affairs and sell its remaining assets; and that these facts clearly indicate that in 1939 the Company was a defunct, insolvent corporation, and that47 its stock had absolutely no value. We do not agree with the respondent. After the Sheriff's Sale in 1939 the Company owned assets which were not included in the mortgaged premises at the time of foreclosure. These assets consisted of an inventory of pig iron, and other supplies and equipment. The trustee for the bondholders, which was also a stockholder of the Company, decided not to sue on the bonds and obtain a deficiency judgment because it felt it would receive less on a forced sale of the assets than it would as a stockholder if it allowed Charles Hart and the other officers of the Company to dispose of them. As a result of this decision, which was communicated to the officers of the Company, it was left with unencumbered assets which were sold during the years 1940 to 1948 for approximately $47,000. After subtracting expenses incurred in those years, the Company netted $39,812.33. This amount was distributed proportionately to its stockholders, including the taxpayer, during the year 1948 when the Company was liquidated and dissolved. This, we think, is * convincing evidence that the stock of the Company did not become worthless prior thereto. Although the matter may not be48 completely free from doubt, we have concluded, on the basis of the entire record, that the stock did not become worthless prior to 1948 and that a capital loss was sustained in that year by the taxpayer when the distribution she received amounted to less than the cost basis of her stock. The respondent erred in disallowing the capital loss carry-over deduction claimed by her in the joint return filed for 1949. Decision will be entered for the petitioners. Footnotes. The word "strong" was deleted from this sentence by Official Tax Court Order dated November 3, 1955, and signed by Judge Raum.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623890/	JACK'S MAINTENANCE CONTRACTORS, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentJack's Maintenance Contractors, Inc. v. CommissionerDocket No. 11114-79.United States Tax CourtT.C. Memo 1981-349; 1981 Tax Ct. Memo LEXIS 393; 42 T.C.M. (CCH) 330; T.C.M. (RIA) 81349; July 6, 1981393 A, an individual, incorporated his sole proprietorship as C corporation (petitioner). As C's president and sole shareholder, A made all management decisions and was solely responsible for C's acquisition of new business. Following C's incorporation, A (and his wife) were indicated for criminal tax violations and charged with having failed to include certain receipts of the sole proprietorship as business income on their joint returns. C paid A's legal fees in connection with the criminal tax case. Held: C may deduct the legal fees it paid for A's defense under sec. 162(a), I.R.C. 1954. Lohrke v. Commissioner, 48 T.C. 679 (1967), followed. United States v. Gilmore, 372 U.S. 39">372 U.S. 39 (1963), discussed. Michael S. Fawer, for the petitioner. Alan H. Kaufman, for the respondent. FAYMEMORANDUM FINDINGS OF FACT AND OPINION FAY, Judge: Respondent determined deficiencies of $ 13,235 and $ 4,908 in petitioner's Federal income taxes for 1975 and 1976, respectively. Because of concessions by both parties, the only issue presented is whether petitioner, a corporation, is entitled to deduct legal fees it paid in 1975 for the defense of its president, the corporation's sole shareholder, on charges of criminal tax fraud. FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. Petitioner, Jack's Maintenance Contractors, Inc., was a Louisiana corporation whose principal place of business was Belle Chasse, La., at the time the petition was filed395 herein. In or around 1967, Jack Farmer (hereinafter Farmer) went into business for himself with a handful of employees as Jack's Maintenance Contracting Company (the Company). Farmer operated the Company out of his home as a sole proprietorship. His principal business activities were painting, sandblasting, waterproofing, and doing general repair work on bridges, high stacks (smokestacks), high towers, large buildings, and other tall structures. Farmer was solely responsible for the acquisition of new business, for making estimates, and for submitting bids on available work. In the initial years, Farmer got some jobs simply by keeping his eyes open for work that needed to be done and then volunteering his services. In addition to handling all sales and estimates, purchasing supplies, and hiring employees; Farmer put in long hours doing much of the actual work himself. The Company was very successful. Its gross receipts grew from $ 46,736 in 1967 to $ 546,863 in 1971. On April 25, 1972, the Company was incorporated as Jack's Maintenance Contractors, Inc. (petitioner or the corporation). Farmer was petitioner's president and sole shareholder. By this time, Farmer used a396 working foreman to supervise crews in the field on some jobs. Petitioner's workforce grew to 40 or 50 employees by the mid-1970's, and gross receipts grew to $ 2,596,206 for 1976. Nevertheless, Farmer continued to be solely responsible for all important business decisions of the corporation. Most importantly, Farmer alone estimated the costs and submitted the bids for work to be done by petitioner. Moreover, the creditors and suppliers of the business continued to rely on the credit of Farmer, who was personally responsible for all of the corporation's outstanding bank loans. In short, Farmer was vital to petitioner's financial health. He could not have been replaced. Starting in 1976 or 1977, that is, subsequent to the year in issue, petitioner first employed additional estimators. Sometime thereafter, administrative personnel were hired to help manage the corporation, which had 120 to 200 employees by the time of trial in 1980. However, the growth of the business since 1975 has remained largely dependent on the personal reputation and experience of Farmer. In March of 1973, Farmer and his wife, Darlene, were first contacted by a special agent of the Internal Revenue397 Service concerning the possibility of criminal tax violations of the Internal Revenue Code by them. On December 24, 1974, the case was referred to the Department of Justice. On or about January 15, 1975, Farmer and his wife retained attorney Michael Fawer (Fawer) to represent them in the proposed criminal case. On July 31, 1975, Farmer and his wife were indicted for violations of sections 7201 1 (attempt to evade or defeat tax) and 7206(1) (untrue declaration under penalties of perjury) with respect to their income tax returns for 1970 and 1971. Each such violation would have been a felony. The indictments charged the Farmers with omitting from Schedule C of their returns certain gross receipts of the sole proprietorship, Jack's Maintenance Contracting Company. Farmer and his wife had filed joint returns for those years. The jury trial of the case United States v. Jack H. Farmer and Darlene V. Farmer, Docket No. 75-460 (E.D. La), on the above indictments began on January 19, 1976. However, on January 22, 1976, all criminal charges against the Farmers were dismissed at the request398 of the United States Attorney in charge of the case. 2During 1975, petitioner-corporation paid Fawer $ 25,407.02 for representing the Farmers. Fawer's retainer of $ 10,000, paid by petitioner in January 1975, was initially recorded on petitioner's books and records as an account receivable due from officers. Subsequent to the end of the taxable year, this amount was removed from the "Accounts Receivable-Officers" account and recorded as a "legal & accounting" expense. Other payments totaling $ 15,407.02 made by petitioner to Fawer in 1975 well all recorded as "legal & accounting" fees. On its income tax return for 1975, petitioner-corporation deducted the payments to Fawer as legal expenses incurred in its trade or business. This deduction was disallowed by respondent in his statutory notice. OPINION In 1975, petitioner, a corporation, paid legal fees to an attorney defending petitioner's president and sole shareholder, Jack Farmer (Farmer), who was charged with criminal income tax evasion and perjury on his returns for the years 1970 and 1971. Farmer's wife was also399 involved by virtue of the couple's having filed joint returns for those years. The criminal case centered on certain gross receipts allegedly omitted from the Farmers' returns relating to petitioner's predecessor, Farmer's sole proprietorship. The issue presented is whether petitioner may deduct the legal fees it paid for the Farmers' defense under section 162(a), which allows the deduction of "all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business." Respondent analyzes the case as follows: The legal expenses were paid in connection with Farmer's criminal tax problems, which involved tax years prior to petitioner's incorporation. Therefore, respondent contends, the expenses did not originate in petitioner's conduct of its trade or business. Respondent argues that the hardship to petitioner which would result from Farmer's conviction and incarceration are of no import because United States v. Gilmore, 372 U.S. 39">372 U.S. 39, 49 (1963), directs us to consider the "origin and character of the claim with respect to which an expense was incurred, rather than its potential consequences upon the fortunes of the taxpayer. 400 " Thus, respondent concludes, the expenses are not deductible by petitioner because they were actually incurred by Farmer. Petitioner argues that the legal fees it paid for Farmer's defense were vital to the survival of its business. Petitioner contends that Farmer's role in the affairs of the corporation was indispensable and that he could not have been replaced. Petitioner argues that Gilmore does not preclude deductibility because the legal fees petitioner paid would clearly have been deductible as business expenses by its predecessor, Farmer's sole proprietorship. 3 For the reasons which follow, we find for petitioner. 401 Respondent has misconceived the issue in this case by confusing the questions "whether deductible" and "deductible by whom." The "origin of the claim" test of United States v. Gilmore, supra, is applied to determine whether an expenditure is deductible. Whether another taxpayer may also pay and deduct that expense is a different issue. In Gilmore, the Supreme Court resolved a conflict among the circuits by firmly rejecting the notion that an expenditure may be deductible based solely upon the consequences to the payor or to his property. The taxpayer in Gilmore had incurred litigation expenses in drawn-out, sensational divorce proceedings. He argued that he was entitled to deduct such expenses as costs incurred to protect his interests in certain income-producing properties. Reversing the Court of Claims, the Supreme Court held: the characterization, as "business" or "personal," of the litigation costs of resisting a claim depends on whether or not the claim arises in connection with the taxpayer's profit-seeking activities. It does not depend on the consequences that might result to a taxpayer's income-producing property from a failure402 to defeat the claim, * . [372 U.S. at 48] Thus, on the ground that the divorce action was based on the taxpayer's marital relationship and not any income-producing activity, the deduction was disallowed. The "origin of the claim" test set forth in Gilmore has since been applied to a wide variety of problems involving the deduction of business expenses. E.g., Woodward v. Commissioner, 397 U.S. 572">397 U.S. 572 (1970) (costs arising in connection with the acquisition of property, held capital and nondeductible); Commissioner v. Tellier, 383 U.S. 687 (1966) (expenses of unsuccessful criminal defense where taxpayer was convicted of securities fraud, held deductible; the charges arose in connection with taxpayer's trade or business as an underwriter); Von Hafften v. Commissioner, 76 T.C. No. 70 (May 21, 1981). Applying Gilmore to the facts in this case, it is clear that the legal fees paid for the Farmers' defense would have been deductible by Farmer had he not incorporated his sole proprietorship. Respondent readily conceded this both at trial and on brief. The indictment charged Farmer and his wife with having403 failed to include certain Company receipts as business income on Schedule C of their joint returns for 1970 and 1971. Accordingly, viewed solely from the perspective of Gilmore, the legal fees at issue herein were business expenses because they were based upon Farmer's operation of and tax returns for his sole proprietorship. That such expenses were paid in defense of a criminal charge is no bar to deductibility. Commissioner v. Tellier, supra.See Commissioner v. Heininger, 320 U.S. 467">320 U.S. 467 (1943); Conforte v. Commissioner, 74 T.C. 1160">74 T.C. 1160, 1189-1190 (1980); Johnson v. Commissioner, 72 T.C. 340">72 T.C. 340, 347-348 (1979). The real issue in this case is whether one person can deduct the expenses of another; that is, whether petitioner, as the corporate successor to Farmer's sole proprietorship, may deduct the legal fees it paid for Farmer's defense. The general rule is that a taxpayer may not deduct the payment of another's expenses. See Deputy v. du Pont, 308 U.S. 488">308 U.S. 488 (1940). Moreover, transactions involving a sole shareholder and his corporation are subject to careful scrutiny because such parties404 are able to deal with one another at less than arm's length. However, in Lohrke v. Commissioner, 48 T.C. 679">48 T.C. 679, 684-685 & 688 (1967), after an extensive review of the case law, we held: As in the case of most general rules, an exception to this one has been developed. In a number of cases, the courts have allowed deductions when the expenditures were made by a taxpayer to protect or promote his own business, even though the transaction giving rise to the expenditures originated with another person and would have been deductible by that person if payment had been made by him. A review of these cases leads us to conclude that in some situations in individual may deduct the expenses of another person. * * The tests as established by all of these cases are that we must first ascertain the purpose or motive which cause the taxpayer to pay the obligations of the other person. Once we have identified that motive, we must then judge whether it is an ordinary and necessary expense of the individual's trade or business; that is, is it an appropriate expenditure for the furtherance or promotion of that trade or business? If so, the expense is deductible by the individual405 paying it. In Rushing v. Commissioner, 58 T.C. 996">58 T.C. 996 (1972), we applied the Lohrke exception to the deduction of legal expenses. See also Newark Morning Ledger Co. v. United States, 539 F.2d 929">539 F.2d 929 (3d Cir. 1976); Young & Rubicam, Inc. v. United States, 187 Ct. Cl. 635">187 Ct. Cl. 635, 410 F.2d 1233">410 F.2d 1233 (1969); Gould v. Commissioner, 64 T.C. 132">64 T.C. 132 (1975); Snow v. Commissioner, 31 T.C. 585">31 T.C. 585 (1958); Catholic News Publishing Co. v. Commissioner, 10 T.C. 73">10 T.C. 73 (1948). Such cases are not really "exceptions" in the sense that a different rule has been applied. It would be more accurate to say these cases are exceptional, because only rarely will volunteering to pay another's expense be an "ordinary" as well as "necessary business expense for purposes of section 162. See, e.g., Deputy v. du Pont, supra; Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Friedman v. Delaney, 171 F.2d 269">171 F.2d 269 (1st Cir. 1948). Compare Union Investment Co. v. Commissioner, 21 T.C. 659">21 T.C. 659 (1954) (payment of officer's legal fees required under contract). This case falls within406 the rule of Lohrke. We note first that petitioner's motive in paying the Farmers' legal expenses was to keep itself in business. It is clear from the record, and we have found as a fact, that Farmer was indispensable to petitioner and irreplaceable. Not only did Farmer make all ongoing management decisions for petitioner, Farmer alone was responsible for acquiring and making bids on new business, without which petitioner would have ceased to function within a short time. Cf. Home Interiors & Gifts, Inc. v. Commissioner, 73 T.C. 1142">73 T.C. 1142 (1980). Second, the expenses in issue were "ordinary" within the meaning of section 162. Surely it is "ordinary" for a corporation to pay legal fees when pending litigation threatens its very existence. See Commissioner v. Tellier, 383 U.S. 687">383 U.S. 687 (1966); Commissioner v. Heininger, supra; Catholic News Publishing Co. v. Commissioner, supra.The legal fees paid were not in any sense capital expenditures. Compare Family Group, Inc. v. Commissioner, 59 T.C. 660">59 T.C. 660 (1973). They were a current expense for petitioner notwithstanding their origin in the returns407 filed by the sole proprietorship for earlier years. In short, the expenses are deductible because they were both "ordinary" and "necessary" under section 162. This case actually falls within a special subset of the Lohrke line of cases, in which the payor is the successor to the entity on whose behalf the expenses are later incurred. In such circumstances, courts have frequently allowed deductions for the expenses of resolving inherited problems. See Doering v. Commissioner, 39 T.C. 647">39 T.C. 647 (1963), affd. 335 F.2d 738">335 F.2d 738 (2d Cir. 1964); Scruggs-Vandervoort-Barney, Inc. v. Commissioner, 779">7 T.C. 779 (1946); Kelley v. Commissioner, 38 B.T.A. 1292">38 B.T.A. 1292 (1938). See also Rev. Rul. 73-226, 1 C.B. 62">1973-1 C.B. 62; Lutz v. Commissioner, 282 F.2d 614 (5th Cir. 1960). An illustrative case is Holdcroft Transp. Co. v. Commissioner, 153 F.2d 323">153 F.2d 323 (8th Cir. 1946), affg. a Memorandum Opinion of this Court (4 TCM 508, 1945 P-H T.C. Memo. par. 45,167). In Holdcroft, the corporate taxpayer had acquired the assets and liabilities of a partnership in a tax-free incorporation under section408 112(b)(5), I.R.C. 1939 (current sec. 351). At the time of incorporation, there were outstanding contingent claims against the partnership, which were eventually settled by the taxpayer. The Court of Appeals affirmed our holding that, although the taxpayer's payments of the outstanding claims were a nondeductible capital cost of acquisition (see Arrowsmith v. Commissioner, 344 U.S. 6">344 U.S. 6 (1952)), the attorney's fees paid in connection with settling the claims were deductible as a current expense. Holdcroft is soundly reasoned and applies here. Petitioner in this case paid the costs of litigation instituted against its predecessor, which happened to be a sole proprietorship. In such a case, the deduction is allowable under the rationales of both Lohrke and Gilmore. 4 See also Kornhauser v. United States, 276 U.S. 145">276 U.S. 145 (1928). *409 To reflect the foregoing, Decision will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended.↩2. Deficiencies for 1970 and 1971 were paid by the Farmers and have not since been contested.↩3. Alternatively, petitioner argues, presumably to protect the interests of Farmer himself, that its payment of Farmer's legal fees should be considered as a repayment of corporate indebtedness to Farmer. Because we decide this case on the grounds set forth in the text, we do not reach this issue. Moreover, whether the benefits to Farmer constituted loan repayments or corporate dividends to him matters not one whit to petitioner-corporation, who would be entitled to no deduction in either case and who does not argue that the payments on Farmer's behalf were in the nature of compensation. For similar reasons, we reject petitioner's reliance on Parker v. Commissioner, 365 F.2d 792">365 F.2d 792, 801 (8th Cir. 1966), affg. in part and revg. in part T.C. Memo 1965-77">T.C. Memo. 1965-77. The issue decided in Parker was whether the founder and chief officer of a religious mail-order corporation received taxable income when the corporation paid for his criminal defense on a morals charge. Despite some broad dicta by the Court of Appeals, deduction by the corporation of such legal fees plainly was not in issue. It cannot be overemphasized that when identical facts involve both inclusion by a corporate employee or shareholder and the corporation's deduction, these are different issues which are not necessarily interdependent. The correct characterization of a transaction will of course apply to both parties, but the issues need not be symmetrically related. In a loan/dividend case, the corporation gets no deduction no matter how the issue is resolved as to the shareholder-employee. See Berthold v. Commissioner, 404 F.2d 119">404 F.2d 119 (6th Cir. 1968), affg. a Memorandum Opinion of this Court. Compare Haber v. Commissioner, 422 F.2d 198">422 F.2d 198 (5th Cir. 1970), affg. 52 T.C. 255">52 T.C. 255 (1969) (loan/compensation). In a dividend/reasonable compensation case, the shareholder employee has income of some kind no matter how the issue is resolved as to the corporation. See Kennedy v. Commissioner, 793">72 T.C. 793 (1979), appeal filed (6th Cir., Mar. 14, 1980). And corporate payments which also benefit an employee may or may not result in income (or whatever character) to him (which may or may not be accompanied by an offsetting deduction) without regard to deductibility by the corporation. Cf. Greenspun v. Commissioner, 72 T.C. 931">72 T.C. 931, 948-950 & nn. 20, 21 (1979), appeal filed (9th Cir., Nov. 20, 1979). See generally Blackburn v. Commissioner, T.C. Memo. 1973-254↩. Keeping the precise issue presented sharply in focus will dissipate much of the apparent conflict to be found in some cases in this general area.4. There may well be cases in which the Lohrke and Gilmore lines of cases ultimately come into conflict. Cf. Parker v. Commissioner, supra, (religious mail-order corporation's payments for principle officer's defense on a morals charge might be deductible under Lohrke but not Gilmore). See also Newark Morning Ledger Co. v. United States, 539 F.2d 929">539 F.2d 929, 934↩ n. 6 (3d Cir. 1976). This is not such a case.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623891/	Frank Shinkonis and Virginia Shinkonis, Husband and Wife, v. Commissioner.Shinkonis v. CommissionerDocket No. 23093.United States Tax Court1951 Tax Ct. Memo LEXIS 219; 10 T.C.M. (CCH) 503; T.C.M. (RIA) 51153; May 25, 1951219 John F. Kane, Esq., 841 Penobscot Building, Detroit 26, Mich., for the petitioners. Thomas V. LeFevre, Esq., for the respondent. ARUNDELLMemorandum Findings of Fact and Opinion This proceeding was initiated to test the correctness of respondent's determination of a deficiency in the amount of $4,002.53 for the calendar year 1945. The major issue is the amount of petitioners' gross income from the operation of a tavern. Respondent concedes that should petitioners prevail on the major issue they will be entitled to a refund in the amount of $266.50 which represents an overpayment of their 1944 tax which was credited against the deficiency determined for 1945, and there will be a further refund arising from respondent's adjustment of the opening inventory of petitioners' tavern for the taxable year 1945 from $1,000 to $1,500. Respondent on brief now concedes that petitioners are entitled to dependency credits for the father and mother of petitioner Frank Shinkonis. Findings of Fact Petitioners Frank and Virginia Shinkonis, husband and wife, reside in Detroit, Michigan, and filed their joint Federal income tax return for the calendar year 1945 with the collector220 of internal revenue for the district of Michigan at Detroit, Michigan. During the calendar year 1945, Frank and Virginia owned and operated a Class "C" Tavern known as Virge's Bar at 3504 Myrtle Street. This bar is located in the lower west side of Detroit, Michigan, and is in a classification commonly known as "neighborhood bars". The customers of the bar are mostly laborers and factory workers. Besides the owners the bar had three employees. The books and records covering the operation of the bar were kept by Frank, and the method of bookkeeping was adequate except that certain credit sales were not entered on the books. All purchases of merchandise, supplies, and equipment were paid for with cash taken from the cash register when the purchases were delivered to the bar. The receipts for the purchases were then placed on a spindle along side of the cash register. At the close of each business day, Frank would reconcile these purchase receipts with the cash in the cash register and would then enter the amounts shown on the purchase receipts in the books and records under the date when the purchases and expenditures were made and under a properly designated column. After the221 entries had been made, the receipts for each particular day were clipped together and placed in a cigar box labeled with the month when the purchases and expenditures were made. At the end of each month, the various columns were totaled and the totals added to the summary sheet in the books and records. At the end of the taxable year, the totals from the summary sheets were placed on the income tax return. Sales were made for cash and on credit. When a sale was made for cash the bartender on duty who made the sale and who received the cash would ring the amount up on the cash register and deposit the cash in the cash register. On no occasion was cash received for merchandise which was not rung up and deposited in the cash register. The cash register used in the business was not equipped with a tape but did have a totalizer. At the end of each business day Frank would take the reading off the cash register and mark the total on a slip of paper. He would then reconcile the cash in the register. Afterwards he would take the total as shown on the slip of paper and enter the total in the books and records under the corresponding date and in the properly designated column which total represented222 total cash sales for that particular date. At the end of each month, the cash sales column was added and the total carried to the summary sheet in the books and records. At the end of the year, the monthly totals were added and this figure was placed in the books as total cash register reading for the year. For the year 1945 this total amounted to $41,843.30. When sales were made on credit the bartender on duty would mark the amount of the sale and the name of the person to whom the credit was extended on a slip of paper and place the slip in a cigar box which was kept beside the cash register. These sales were not rung up on the cash register. When the debtor paid his bill the slip representing the bill was marked "paid" and the cash placed in the cigar box. At the close of the business day, Frank would remove the cash from the cigar box and place it with the other business cash. He would not, however, ring this cash up on the cash register and so it was not reflected in the daily cash sales recorded in the books and records. The credit slips were preserved and at the end of the year Frank would add up the amount of credit sales and then add this total to the total amount of cash223 sales and this combined total would be placed on the income tax return as gross sales from the business. The total credit sales for 1945 amounted to $3,723.90. This total, while it is included in the income tax return was not placed in the books and records because the business of the taxpayers is operated under a license from the Michigan Liquor Control Commission which has a rule prohibiting credit sales by licensees and the taxpayers feared that if the credit sales were placed in the books and records they would be subjected to a violation in case their books were audited by the Liquor Commission. The bar had a music juke box and a skill machine. These machines were not owned by the taxpayers. For permitting the machines to be on the premises the taxpayers received 50 per cent of the gross amount placed in the machines. Periodically the owner of the machines would come to the bar and open them up and after counting the money contained therein, would give 50 per cent of it to the taxpayers. This money was not rung up on the cash register but was handled separately. As he received these payments, Frank would enter them in the books and records of the business under a column designated224 "Juke Box" or "Skill Machine" as the case called for. At the end of the year the total amount of this income was placed on the income tax return as a separate item of income. For the year 1945 this income amounted to $1,058.65. The bar did not charge for "set-ups" which accompanied purchases of whiskey. When a customer spilled a shot of whiskey or a glass of beer on the bar a refill was given without charge. It was the practice of Frank to give his customers a free drink with approximately every six drinks they purchased. The last two or three gallons of draft beer in every keg sold had to be thrown away since it had a tendency to go "flat". At various times during the year, bottles of whiskey were dropped and broken and their contents lost. The bar sold beer and wine to take out. In order to meet competition the prices charged for this merchandise were very nearly the same or slightly higher than those charged by the neighboring grocery store. The Commissioner in determining the proposed deficiency accepted the books and records of the taxpayer in so far as they reflected purchases and expenses of operating the business and in so far as they reflected income from the music juke225 box and skill machine. He disregarded the books and records in so far as they reflected gross sales and redetermined gross sales by the use of a unit mark-up system which was based primarily on the average price of merchandise purchased with a mathematical computation which assumed that the taxpayers sold 28 "shots" of whiskey out of each bottle purchased at 28 cents per shot; sold 24 bottles of beer out of each case purchased at 15 cents per bottle; sold 198 glasses of beer out of each keg purchased at 10 cents per glass; and received a 50 per cent profit on all wine purchased during the taxable year. Based on this formula the gross sales were determined to be $55,863.16 instead of $46,625.85 as reported by the taxpayers on their income tax return for the year 1945. Opinion ARUNDELL, Judge: The sole question we have left for decision is the amount of petitioners' gross income derived from the operation of Virge's Bar. The Commissioner in determining the proposed deficiency has used the books and records of the taxpayers in so far as they reflected purchases and expenses of operation, and the income from the music juke box and skill machine. The books and records were disregarded226 by the Commissioner in so far as they reflected gross sales and in lieu thereof gross sales were determined by the unit mark-up system which is set forth in some detail in the last paragraph of our findings of fact. The respondent's method was admittedly not based on any factual information as it pertained to the operation of Virge's Bar, but on assumptions of the Revenue Agent based on what he testified to be his experience with the operation of similar bars. The Revenue Agent's assumption that petitioners sold 28 "shots" of whiskey out of each fifth purchased was denied by petitioners and their witnesses as being contrary to the fact, and taking into consideration the spillage and free drinks we are satisfied that the "shots" sold per fifth of whiskey were very much less than contended for by respondent. It was also testified that out of keg beer there was a large loss due to the beer in the bottom of the keg becoming stale and unsalable. This case is entirely factual and decision must be rested on the facts as established by the testimony. On the record as made it is our opinion that the gross sales as reported in the returns should be accepted as correct, and as this is the only*227 issue submitted for decision it follows that the petitioners must prevail. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623953/	HERBERT C. SCHULZE and MARY JEANNE SCHULZE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSchulze v. Comm'rDocket No. 8976-77.United States Tax CourtT.C. Memo 1980-385; 1980 Tax Ct. Memo LEXIS 195; 40 T.C.M. (CCH) 1234; T.C.M. (RIA) 80385; 210 U.S.P.Q. (BNA) 29; September 16, 1980, Filed 195 1. Petitioner entered into a contractual arrangement with Certain-Teed for development of certain processes patented by petitioner. Held, petitioner failed to prove that the $15,000 he received from Certain-Teed was consideration for transfer of all substantial rights to a patent taxable as capital gain under sec. 1235, I.R.C. 1954. 2. Petitioners' tax return for 1971 was not filed until 1977. Held, petitioners failed to prove that the failure to file the return timely was due to reasonable cause. Addition to tax under sec. 6651(a)(1), I.R.C. 1954, sustained. Herbert C. Schulze, pro se. Jeffrey L. Millward, for the respondent. DRENNEN30 MEMORANDUM FINDINGS OF FACT AND OPINION DRENNEN, Judge: Respondent determined a deficiency in petitioners' income tax in the amount of $5,691.25 and an addition to tax under section 6651(a)(1), I.R.C. 1954 in the amount of $1,422.81 for the taxable year ended December 31, 1971. As a result of concessions, the only issues for decision are: (1) The proper characterization of payments totaling $15,000 received by petitioner Herbert C. Schulze in connection with the implementation of certain of his patented processes; and (2) whether petitioners 196 are liable for the section 6651(a)(1) addition to tax for late filing of their 1971 tax return. FINDINGS OF FACT Some of the facts were stipulated and they are so found. The stipulation of facts together with the exhibits attached thereto are incorporated herein by this reference. Petitioners Herbert C. Schulze and Mary Jeanne Schulze resided in Incline Village, Nev., when they filed their petition in this case. Petitioners filed a joint Federal income tax return for their taxable year ended December 31, 1971, with an office of the Internal Revenue Service in Phoenix, Ariz., on February 7, 1977. Inasmuch as Mary Jeanne Schulze is a petitioner herein solely by reason of having filed a joint Federal income tax return with petitioner Herbert C. Schulze, the term "petitioner" will hereinafter only refer to Herbert C. Schulze. During the taxable year in issue, petitioner was a practicing attorney who primarily practiced in the areas of patent, trademark and copyright law. In addition to his legal training, petitioner also had experience and education in engineering. The instant case arose as a result of petitioner's activities as an engineer. Over the years prior to 1971, petitioner 197 had been involved in various capacities with the production of pipes and fittings made of asbestos, cement, and other materials. Petitioner experimented with various processes relative to the extrusion of asbestos-cement products and he ultimately obtained three patents relative to specific processes pertaining to forming, extruding, and curing asbestos-cement products. One of these patents, No. 3,356,799, was issued in December 1967. Another, No. 3,549,737, involving the use of carbon dioxide in extruding asbestos-cement products, was issued in December 1970. The third, which involved the use of an inorganic additive in the extrusion of asbestoscement products was issued in April 1975. Certain-Teed Products Corporation (hereinafter Certain-Teed) owned a facility in Buffalo, N.Y., used for manufacturing extruded asbestos-cement products. In 1971 this facility was not operated profitably. In May 1971 a contractual arrangement (it is not clear from the evidence whether it was oral or written) 1 was entered into by Certain-Teed and petitioner whereby during the 3-month period of June-August 1971 an attempt would be made to implement at the Buffalo facility the extrusion processes 198 which petitioner had developed. As part of the arrangement petitioner agreed not only to assist in the implementation of his processes but also to make suggestions concerning general improvement of the operations at the Buffalo facility. Pursuant to the contractual arrangement, petitioner was to receive $5,000 per month during the 3-month period. As part of the same contractual arrangement, petitioner was granted an option to purchase stock in Certaseal, Inc. (hereinafter Certaseal), a subsidiary of Certain-Teed, pursuant to the written agreement set forth in pertinent part below: AGREEMENTMade this 21st day of May, 1971 between CERTAIN-TEED PRODUCTS CORPORATION ("Certain-teed"), a Maryland corporation, and CERTASEAL, INC. ("Certaseal"), a Delaware corporation, both of Valley Forge, Pennsylvania 19481, and HERBERT C. SCHULZE, ("Schulze"), 999 South Cleveland Street, Oceanside, California 92054. WITNESSETH:199 WHEREAS, Certain-teed is the owner of a facility in Buffalo, New York used for manufacturing extruded asbestos cement products; and WHEREAS, Schulze is the owner of certain patents relating to the process of extruding asbestos cement products; and 31 WHEREAS, Schulze is desirous of exploiting asbestos cement products made by his process as well as certain processes for extruding asbestos cement products under patents owned by Valley Forge Corporation ("Valley Forge"), a majority owned subsidiary of Certain-teed, and wishes to have an interest in a manufacturing facility for use in such exploitation. NOW THEREFORE, in consideration of the promises contained herein, the parties agree as follows: 1. Certaseal hereby grants to Schulze the option to purchase 40,000 shares of its common stock for a price of $800,000. This option shall continue for a period of one year from the date of this Agreement. The option may not be partially exercised, but must be exercised for the total number of shares. Schulze shall exercise said option by notice in writing received by Certaseal within the option period. A closing ("Closing") shall be held thirty (30) days after receipt of said notice at which 200 time Schulze shall deliver to Certaseal a certified or cashiers check in the amount of $800,000 and Certaseal will deliver a certificate representing 40,000 shares of its common stock. 2. Upon exercise of the above option by Schulze, Certaseal shall at the Closing sell to Schulze 10,000 shares of Certaseal Common Stock. Schulze shall pay for said stock $10,000 by his note for said amount due one year from the date of Closing bearing interest at the rate of six per cent (6%) per annum and Schulze shall also transfer to CertasealUnited States Patents #3,549,737 and #3,356,779 entitled respectively, "Forming Articles of Asbestos-Cement" and "Method of Curing Articles Manufactured From Cement and Asbestos." 3. Upon exercise of the above option by Schulze, Certain-teed shall at the Closing transfer to Certaseal the land, buildings, equipment, inventory, accounts receivable and other miscellaneous assets comprising or used in connection with its Buffalo manufacturing facility (all such property hereinafter called "Buffalo Plant"). The purchase price for the Buffalo Plant shall be not book value on the date of Closing. Certaseal shall pay the purchase price as follows: (a) $500,000 201 in cash; (b) a term note equal to the remaining net book value payable in ten (10) equal annual installments, the first payment to be due one year from the date of transfer, together with accrued interest at the rate of ten per cent (10%) per annum. The note described above shall be secured by a mortgage on the Buffalo Plant. 4. Upon exercise of the above option by Schulze, Certain-teed shall at the Closing transfer to Certaseal its rights to the nonexclusive right to exploit certain extrusion patents and technology transferred to Valley Forge by an Agreement between Certain-teed and Valley Forge dated May 12, 1970. This transfer shall be subject to and in all respects governed by the term of said May 12, 1970 Agreement. In addition to the right granted under said Agreement, Certain-teed agrees to cause Valley Forge to grant to Certaseal, at the Closing, the right to grant sub-licenses of said patents and technology. Such sub-licenses shall be approved by Valley Forge as to grantee and the terms and conditions thereof. Certaseal shall pay to Valley Forge royalties equal to one-half of all fees and royalties returned to it from sub-licenses. During June-August 1971 petitioner's 202 extrusion processes were tested at the Buffalo facility. Petitioner did receive the $5,000 per month as required in the contractual arrangement. On August 5, 1971, petitioner applied for a patent on the process which involved the introduction of an inorganic additive when extruding asbestos-cement products. A patent was ultimately issued on April 29, 1975. At the end of the 3-month period, the contractual arrangement between Certain-teed and petitioner was terminated, it having not been shown that petitioner's processes could be profitably implemented. The stock option granted petitioner in the agreement set out above was never exercised. On the income tax return for 1971, petitioner reported the $15,000 received from Certain-teed as long-term capital gain under section 1235 as an amount received for the conveyance of patent rights. Petitioner retained a certified public accountant to prepare the 1971 return. A dispute arose between petitioner and the accountant concerning the reporting of a particular transaction not here in issue. Accordingly, petitioner refused to sign the return prepared by the accountant. Subsequently, after retention of a different accountant, a 32 return 203 was filed for 1971 on February 7, 1977. In the staturory notice of deficiency respondent determined that the $15,000 received by petitioner from Certain-teed was for services rendered rather than for a conveyance of patent rights and, therefore, was ordinary income. The section 6651(a)(1) addition to tax was determined upon the absence of a showing that the failure to file a timely return was due to reasonable cause. OPINION The principal issue for decision is the proper characterization of the $15,000 received by petitioner from Certain-teed. Petitioner contends that the contractual arrangement whereby his processes 2204 applicable to the extrusion of asbestos-cement products were put into operation at Certain-Teed's Buffalo facility was an exclusive licensing of those processes such that the $15,000 received qualified under section 1235 as long-term capital gain. 3 Respondent argues that the amount is ordinary income. We agree with respondent for a number of reasons. Section 1235 provides, 4 subject to certain conditions, that a transfer of "all substantial rights to a patent, or an undivided interest therein which includes a part of all such rights," will result in longterm capital gain to the transferor since the transfer "shall be considered the sale or exchange of a capital asset." Petitioner has the burden of establishing that he received the $15,000 under circumstances which satisfy the requirements of section 1235. Kueneman v. Commissioner,68 T.C. 609">68 T.C. 609, 619 (1977), affd. F.2d (9th Cir. 1980); Rule 142(a), Tax Court Rules of Practice and Procedure. Although transfer of an exclusive license can qualify under section 1235, see sec. 1.1235-2(b)(2), Income Tax Regs., petitioner has failed to establish that his receipt of the $15,000 205 qualifies under section 1235. In determining whether the contractual arrangement 206 between petitioner and Certain-teed qualifies as a transfer of "all substantial rights" to a patent, it is necessary to make "a detailed factual examination and evaluation of the nature and quantity of the patent rights transferred and retained." Kueneman v. Commissioner,supra at 618 (fn. omitted). See also Fawick v. Commissioner,436 F.2d 655">436 F.2d 655 (6th Cir. 1971), revg. 52 T.C. 104">52 T.C. 104 (1969); Mros v. Commissioner,493 F.2d 813">493 F.2d 813 (9th Cir. 1974), revg. a Memorandum Opinion of this Court. The evidence presented in this case is not sufficient to enable us to make the necessary analysis of the facts. The only evidence concerning the exact nature of the contractual arrangement between petitioner and Certain-teed was petitioner's testimony. Documentary evidence was not introduced, nor did any witness connected with Certain-teed testify. Although we considered petitioner to be a candid witness, his testimony was inexact and did not clearly identify "the nature and quantity of the rights transferred and retained." We have no evidence other than petitioner's bald assertion that the contractual arrangement 33 transferred an exclusive license. This testimony standing alone does not allow for the required 207 detailed factual examination. Moreover, examination of petitioner's testimony and of the stock option agreement leaves the impression that the contractual arrangement was more in the nature of a 3-month trial joint venture, petitioner contributing his patents and knowledge and Certain-teed contributing its Buffalo facility, to explore whether petitioner's processes could be profitably implemented. If the processes could have been profitably implemented, petitioner could have exercised the stock option and, as the agreement notes, have an interest in a facility for use in the exploitation of those processes. When, however, at the end of the 3-month period it had not been shown that the patents could be profitably used, the arrangement was terminated. Even if we were to accept as true petitioner's testimony as to the existence of an exclusive license, we could not hold for petitioner. To qualify under section 1235, a transfer must be of "all substantial rights to a patent, or an undivided interest therein which includes a part of all such rights." At trial petitioner testified that the exclusive license existed for the same length of time as the stock option, 1 year from the date 208 of the agreement. Transfer of an exclusive license for such a duration is not a transfer of "all substantial rights." Sec. 1.1235-2(b)(1)(ii), Income Tax Regs.; see Milberg v. Commissioner,52 T.C. 315">52 T.C. 315 (1969). Apparently recognizing that a transfer of an exclusive license for only a 1-year period would not qualify under section 1235, petitioner on brief states that the transfer was essentially for the life of the patents since the transfer was to Certaseal. Petitioner's testimony solely pertained to a transfer to Certain-teed. While it may have been petitioner's intention, had the implementation of his processes at the Buffalo facility proved successful, that Certaseal would exclusively use the processes, evidence was not introduced to support the statement that a transfer was made to Certaseal. Furthermore petitioner's oral testimony did not specify that the $15,000 was consideration for transfer of the patents or rights to the patents as contemplated by section 1235. See Beausoleil v. Commissioner,66 T.C. 244">66 T.C. 244, 250 (1976). Petitioner's testimony and his 1971 return indicate that the $15,000 was received from Certain-teed while the option agreement states that two of the patents 209 should be transferred by petitioner to Certaseal. Additionally, pursuant to the contractual arrangement, petitioner agreed to assist in the implementation of his processes. Petitioner testified that he did perform services during the 3-month period. Whether payments received by petitioner were for services or for the transfer of patent rights is a factual question which "must be resolved by a careful scrutiny of the record." Beausoleil v. Commissioner,supra at 247. Incidental services performed ancillary to the transfer of patent rights take on the nature of the patent rights as "property" and will not affect the capital nature of the proceeds. PPG Industries, Inc. v. Commissioner,55 T.C. 928">55 T.C. 928, 1015-1016 (1970); United States Mineral Products Co. v. Commissioner,52 T.C. 177">52 T.C. 177, 199 (1969); 5 cf. Glen O'Brien Partition Co. v. Commissioner,70 T.C. 492">70 T.C. 492, 502 (1978). However, from the evidence presented a determination cannot be made whether services performed by petitioner were merely ancillary to the "transfer" of patent rights. Moreover, petitioner also agreed to make suggestions concerning the general operation of the Buffalo facility. Such services would not be incidental to 210 the transfer of patent rights and payment therefor would be ordinary income. In summary, we conclude that petitioner has failed to establish that he received the $15,000 from Certain-Teed solely as consideration for his transfer of "all substantial rights" to his processes. The absence of specific evidence as to whether the payments in issue were for patent rights or services, as to the nature and quality of any rights transferred, and as to the nature of services provided precludes a determination in favor of petitioner. We accordingly sustain respondent's determination that the $15,000 was ordinary income. The final issue for decision is whether petitioner is liable for the section 6651(a)(1) addition to tax determined by respondent. We conclude that he is. Section 6651(a)(1) generally provides that a taxpayer is liable for an addition to tax if he fails to file a return on or before the date it is due, unless such failure is "due to reasonable cause and not due to willful neglect." Treasury Regulations define "reasonable cause" for purposes of section 34 6651(a)(1) as encompassing those circumstances when a taxpayer is unable to file 211 a return when due, notwithstanding the exercise of ordinary business care and prudence. Sec. 301.6651-1(c)(1), Proced. & Admin. Regs. Petitioner bears the burden of establishing reasonable cause. Bebb v. Commissioner,36 T.C. 170">36 T.C. 170, 173 (1961). There is no evidence that a return for the taxable year in issue was due on other than the normal due date, April 15, 1972. Sec. 6072(a). Petitioner did not file a return until February 7, 1977. At trial petitioner testified that the cause for the untimely filing of the return was a dispute which arose between himself and his accountant concerning the reporting of a particular transaction not here in issue. Accordingly, petitioner refused to sign the return prepared by this accountant since he did not believe it to be correct. This return was apparently not prepared until sometime in 1973. Subsequent thereto petitioner had discussions with Internal Revenue Service personnel concerning his not filing a return. He claims that he attempted to file a return at this time but that such return was not accepted because petitioner made a notation in the margin of the return to the effect that the return was being filed subject to certain qualifications. *212 Finally, after the retention of another accountant, a return was filed. Petitioner is an attorney and there is no evidence that he did not know when the return was due. If a dispute arose between himself and his accountant concerning how a particular transaction should be reported, petitioner should have prepared his own return or sought other professional assistance. We agree with petitioner that a taxpayer should not sign a return which he does not believe is correct. This general principle, however, does not relieve a taxpayer of timely filing a return. Petitioner has not introduced any evidence which even remotely establishes reasonable cause for the nearly 5-year delay in the filing of the return in this case. Accordingly, we sustain the respondent's imposition of the section 6651(a)(1) addition to tax. Because of concessions, Decision will be entered under Rule 155. Footnotes1. Petitioner testified that he thought the agreement was reduced to writing but he could not produce such a written agreement or copy thereof at the trial. Since petitioner was the only witness at the trial the terms of this arrangement must be deduced solely from petitioners' testimony.↩2. Neither party suggests that the applicability of sec. 1235 to the amount in issue is in any way limited by the fact that a patent concerning the use of an inorganic additive in the extrusion process was not applied for until Aug. 1971 and was not issued until Apr. 1975. See sec. 1.1235-1(a), Income Tax Regs.; Meiners v. Commissioner,42 T.C. 653">42 T.C. 653, 659 (1964); cf. Glen O'Brien Partition Co. v. Commissioner,70 T.C. 492">70 T.C. 492, 500↩ (1978). We will therefore not consider this point. 3. Petitioner makes no alternative argument that the transaction in issue qualifies for long-term capital gain treatment if sec. 1235↩ does not apply.4. SEC. 1235. SALE OR EXCHANGE OF PATENTS. (a) General.--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-- (1) payable periodically over a period generally coterminous with the transferee's use of the patent, or (2) contingent on the productivity, use, or disposition of the property transferred. (b) "Holder" Defined.--For purposes of this section, the term "holder" means-- (1) any individual whose efforts created such property, or (2) any other individual who has acquired his interest in such property in exchange for consideration in money or money's worth paid to such creator prior to actual reduction to practice of the invention covered by the patent, if such individual is neither-- (A) the employer of such creator, not (B) related to such creator (within the meaning of subsection (d)).↩5. Gable v. Commissioner,T.C.Memo. 1974-312↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623954/	Ruth E. Kern, Petitioner v. Commissioner of Internal Revenue, RespondentKern v. CommissionerDocket No. 265-69SCUnited States Tax Court55 T.C. 405; 1970 U.S. Tax Ct. LEXIS 19; December 3, 1970, Filed 19 Decision will be entered for the respondent. The petitioner received periodic payments from her former husband pursuant to a written agreement incident to their divorce. The payments were made for the petitioner's support while she was pursuing further education. Held, such payments are in discharge of a legal obligation incurred by the husband because of the marital relationship and are taxable to the petitioner. Towner Leeper, for the petitioner.W. Read Smith and Daniel A. Taylor, Jr., for the respondent. Simpson, Judge. SIMPSON405 The respondent determined a deficiency of $ 305.84 in the petitioner's 1966 Federal income tax. The issue for decision is whether the petitioner is required to include in taxable income certain payments which she received for her support while she was securing additional education20 and which were paid to her by her former husband pursuant to an agreement incident to their divorce.FINDINGS OF FACTSome of the facts were stipulated, and those facts are so found.The petitioner, Ruth E. Kern, maintained her residence in El Paso, Tex., at the time the petition was filed in this case. She filed her 1966 individual Federal income tax return with the district director of internal revenue, Austin, Tex.The petitioner was married to Martin Kern in 1948. The marriage was terminated by a decree of divorce granted to the petitioner by the District Court of El Paso County, Tex., on October 14, 1966. On October 7, 1966, the petitioner and Mr. Kern entered into an agreement in contemplation of divorce, and this agreement was incorporated by reference into the divorce decree.The substantive provisions of the agreement were prefaced by a statement of the objectives of Mr. and Mrs. Kern:[The] parties desire to settle completely and forever their property rights in and to their community property, to effect a partition of their community property, and to settle and adjust by this Agreement all of the rights and obligations arising out of their marital relations; [Emphasis21 supplied.]The agreement described the parties' holdings of separate and community property, and provided how the community property was to be divided between them in a manner which very closely approached an equal division of such property. It provided that Mr. Kern would pay designated amounts of support for the couple's two children, who were to be in the custody of the petitioner.406 The agreement also contained the following paragraph:6. Education Allowance for Wife. It is contemplated by the parties that the Wife in an endeavor to become self-supporting will study and attend a review course for the State Bar Examination. The Husband agrees to contribute for the support of the Wife during such period the sum of $ 625.00 each month for a period of 6 months on November 15, December 15, 1966, January 15, February 15, March 15, and April 15, 1967. If the Wife dies or if the Wife remarries during the six-month period, the payments shall cease.The payments described in paragraph 6 and the payments for child support were the only periodic payments which Mr. Kern was required to make to the petitioner under the agreement. The agreement also provided that "each party22 accepts the provisions herein in full satisfaction of all property rights and all obligations for support or otherwise arising out of the marital relationship of the parties."As contemplated by the agreement, the petitioner did in fact study for the Texas bar examination, which she passed, and subsequently engaged in the practice of law. Pursuant to paragraph 6 of the agreement, Mr. Kern paid a total of $ 1,250 to the petitioner in 1966.From January 1964 through the summer of 1965, Mr. Kern attended the University of California at Berkeley, where he was a full-time student at the Graduate School of Business. The total of the expenses attributable to Mr. Kern's attending college was about $ 3,000 to $ 3,500, including additional family living expenses and approximately $ 1,500 for the tuition, books, and related expenses. During those years, the petitioner worked and earned $ 721.75 in 1964 and $ 436.72 in 1965, and she contributed such earnings to the family expenses. The remaining expenses of his education were paid out of funds that the couple had accumulated.The sixth paragraph was included in the agreement because the petitioner and Mr. Kern thought it fair that, in view23 of the assistance she had given him in the pursuit of his further education, she should receive aid from him for the extra education she needed to help her support herself.OPINIONThe issue for decision is whether the petitioner must include in taxable income the payments totaling $ 1,250 that she received from her former husband in 1966 under the sixth paragraph of the agreement.A divorced wife must include in her gross income payments which she receives from her former husband "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." Sec. 71(a)(1), I.R.C. 407 1954; 1 see also sec. 1.71-1(b)(1)(i), Income Tax Regs. In this case, the sole issue is whether the payments described in the sixth paragraph of the agreement were made pursuant to a legal obligation which was imposed upon or incurred by Mr. Kern by reason of the marital relationship. The petitioner contends that such payments were not made pursuant to such an obligation, but rather, that Mr. Kern agreed to make them as a result of a "moral obligation" resulting 24 from the petitioner's having assisted him to secure additional education. According to the petitioner, section 71(a)(1) does not apply to payments arising out of such a moral obligation.The petitioner asserts, and the respondent does not deny, that Texas law does not require a divorced husband to educate his former wife. However, in Taylor v. Campbell, 335 F. 2d 841 (C.A. 5, 1964), it was held if a husband undertakes a legal obligation to make payments to his wife after their divorce, and the obligation in all respects meets the requirements of section 71(a)(1), that section applies despite the fact that such payments would not have been imposed upon him by the court granting the divorce under the applicable State Law. The same position has been adopted by this Court in Blanche Curtis Newbury, 46 T.C. 690">46 T.C. 690 (1966); Ada M. Dixon, 44 T.C. 709">44 T.C. 709 (1965); Thomas E. Hogg, 13 T.C. 361">13 T.C. 361 (1949);25 and Tuckie G. Hesse, 7 T.C. 700">7 T.C. 700 (1946). In these cases, the courts reasoned that since section 71(a)(1) speaks of a legal obligation "imposed on or incurred by the husband," such language indicates that Congress intended to deal with a legal obligation which the husband voluntarily incurred, as well as one which was judicially imposed on him.In her briefs, the petitioner indicates that her case is not based upon the premise that Mr. Kern's obligation to support her while she was securing additional education was unenforceable. Rather, she argues that he undertook to make such payments because of a moral obligation which was independent of the marital relationship. We find the petitioner's concept of the marital relationship artificial and unrealistically narrow. As a result of the marital relationship, the spouses undertake to do many things for each other. We assume that when the petitioner went to work to assist her husband to secure additional education, it was done because of the marital relationship. Similarly, we are convinced that when Mr. Kern undertook to assist the petitioner to secure additional education, it was done because of the 26 marital relationship -- he would not have entered into such an undertaking for a stranger, nor would he have agreed to pay $ 3,750 in return for another's substantially lesser assistance. When a marriage is terminated by divorce, a husband frequently agrees to pay 408 more alimony or support than the law would require of him; yet, his undertaking to do more than is required of him grows out of the former marital relationship, and surely no one would argue that only the minimum amount of support should be treated under section 71 as taxable to the wife.The undertaking in this case to provide for the petitioner's further education is entirely distinguishable from the situation in which there is an agreement to repay a loan or to transfer property. In those situations, there is a relationship between the husband and wife which is distinct from and independent of the marital relationship. Likewise, this case is distinguishable from George R. Joslyn, 23 T.C. 126">23 T.C. 126 (1954), affirmed in part and reversed in part 230 F. 2d 871 (C.A. 7, 1956), in which the husband had an option to pay a smaller or a larger sum -- if he elected27 to pay the greater sum, it was wholly gratuitous -- there was not even a colorable legal obligation to make the larger payments.After the trial in this case, this Court held that section 71(a)(1) does not apply to payments designated as alimony when such payments are made subsequent to the remarriage of the divorced wife, when the divorced husband has knowledge of such remarriage, and when the applicable State law provides that a party shall not be entitled to alimony after remarriage. Allen Hoffman, 54 T.C. 1607 (1970), on appeal (C.A. 7, Nov. 9, 1970). The petitioner has called our attention to such case in support of her argument, but we think that the two cases are factually distinguishable.In Allen Hoffman, the agreement incident to the divorce and the divorce decree provided for the payment of "permanent alimony"; thus, after the remarriage of the wife, it was necessary to decide whether alimony continued to be payable. Because a question existed as to the intention of the parties and the Illinois court, this Court held that the agreement and the decree had to be read in light of Illinois law, and since such law provided explicitly for28 the termination of alimony on remarriage of the wife, it was held that there was no intent that the husband be legally obligated to continue to pay alimony after her remarriage. On the contrary, in the case before us, no question whatsoever exists as to the intention of the parties or the Texas court. Although the applicable Texas law apparently did not require Mr. Kern to provide for the support of the petitioner while she was securing additional education, he agreed to make such payments, presumably with knowledge that he was not required to do so, and such agreement was incorporated in the divorce decree. Thus, there is no need to look to Texas law to ascertain the underlying 409 intent; such intent was made perfectly clear by the language of the agreement.Moreover, in Allen Hoffman, this Court said that the husband's legal obligation was established by the decree of the Illinois court granting the divorce, and because the court could not establish as an element of the decree a provision in derogation of State law, there could be no legal obligation upon the husband to pay alimony after the remarriage of his former wife. This Court pointed out that the State law 29 requiring the termination of alimony upon the wife's remarriage was a "mandatory provision" which "operates automatically as a matter of law." In contrast to the situation in that case, there is no suggestion here that the statutory law of Texas provides that a divorced husband shall not make temporary support payments to his unremarried former wife pursuant to a voluntarily incurred obligation. Mr. Kern's undertaking an obligation to make the payments to the petitioner was an act done to supplement and surpass the requirements of the State's statutory law, but was not an act which contravened any of its explicit provisions.In any event, because this case arose in the Fifth Circuit, our conclusion is governed by Taylor v. Campbell, supra.Jack E. Golsen, 54 T.C. 742">54 T.C. 742 (1970), on appeal (C.A. 10, May 4, 1970). Even if Mr. Kern's obligation was unenforceable under Texas law, a question upon which we need not and do not pass judgment, Taylor v. Campbell would constrain us to hold that section 71(a)(1) applies to payments made pursuant to such obligation. The Fifth Circuit in that case cited with approval legislative30 history concerning the predecessor of section 71 which indicated that amounts paid in the nature of or in lieu of alimony were intended to be treated uniformly regardless of any variance in different States' laws regarding the existence or continuation of an obligation to pay alimony; the court said that "The vagaries of Texas marital law cannot operate to defeat the obvious intent of the statute that it be uniformly applied." Therefore, it seems clear that the Fifth Circuit would, under Taylor v. Campbell, apply section 71(a) (1) in this case.We conclude that the payments received by the petitioner from her former husband pursuant to paragraph 6 of the agreement incident to their divorce were received in discharge of a legal obligation incurred by Mr. Kern because of the marital or family relationship. Therefore, such payments are includable in the petitioner's gross income under section 71(a)(1).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/4623955/	PETER Y. TAYLOR, SR., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent; THE MELT ORGANIZATION (A Trust), GEORGE T. HORVAT, TRUSTEE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentTaylor v. CommissionerDocket Nos. 3221-77, 4843-77.United States Tax CourtT.C. Memo 1980-552; 1980 Tax Ct. Memo LEXIS 32; 41 T.C.M. (CCH) 539; T.C.M. (RIA) 80552; December 15, 1980Peter Y. Taylor, Sr., pro se. Joseph R. Peters, for the respondent. DAWSONMEMORANDUM FINDINGS OF FACT AND OPINION DAWSON, Judge: These cases were tried before Special Trial Judge Marvin F. Peterson pursuant to Rule 180, Tax Court Rules of Practice and Procedure. His report was served on the parties on August 28, 1980. Petitioner Peter Y. Taylor, Sr. filed exceptions to the conclusions of the Special Trial Judge. After consideration, the Special Trial Judge's report, which is set forth below, has been adopted with some modifications. REPORT OF SPECIAL TRIAL JUDGE 1PETERSON, Special Trial Judge: In these consolidated cases respondent determined the following deficiencies and additions to tax under section 6651(a)(1): 2TaxableAddition to TaxPetitionerYearDeficiency(Sec. 6651(a)(1))Peter Y. Taylor, Sr.1972$ 432.54$ 0(Docket No. 3221-77)19731,144.80286.201974142.3437.67The Melt Organization1973946.83236.71(A Trust) (Docket No.4843-77)35 Due to petitioner's concession that the delinquency penalty was properly asserted by respondent, the issues for decision are (1) whether petitioner Peter Y. Taylor, Sr. or a trust is taxable on certain consulting fees earned during the year which were assigned to a trust; and (2) in the alternative, if the fees are taxable to the trust, whether the trust is an association taxable as a corporation under section 7701. FINDINGS OF FACT Some of the facts have been stipulated by the parties and are found accordingly. Petitioner Peter Y. Taylor, Sr., the petitioner in docket no. 3221-77, resided in Milwaukee, Wisconsin, at the time of filing his petition herein. Petitioner filed a joint Federal income tax return with his spouse for each of the taxable years 1972, 1973, and 1974 with the Internal Revenue Service Center, Kansas City, Missouri. The income tax return for the year 1973 was filed on January 3, 1975, and the income tax return for the year 1974 was filed on July 2, 1975. Petitioner, The Melt Organization (A Trust), George T. Horvat, Trustee, the petitioner in docket No. 4843-77, had its principal office in Milwaukee, Wisconsin, at the time of filing its petition herein. 36 The trust filed its Federal income tax return for the taxable year 1973 with the Internal Revenue Service Center, Kansas City, Missouri. The income tax return was filed on January 6, 1975. On February 29, 1972, petitioner Peter Y. Taylor, Sr. (hereinafter petitioner) executed a document entitled "Declaration of Trust of this Constitutional Trust." The document was executed by petitioner for the purpose of creating a trust known as The Melt Organization (A Trust) (hereinafter Trust). The declared purpose of the Trust was: "* * * to accept the exclusive use of Peter Y. Taylor's lifetime services including ALL his earned remuneration from ALL his outside sources of remuneration derived from his full-time employment as a bona fide Consumer's Consultant in the fields of Insurance, Taxation, Economics, Business Management, from the date of THIS CONTRACT * * ." The initial trustees were George T. Horvat, a good friend of petitioner, and Kenneth Warford, a long-time acquaintence of Mr. Horvat. At the first meeting of the trustees on February 29, 197i, three additional trustees were appointed who were the petitioner's wife Mary E. Taylor, and his two children Peter Y. Taylor, Jr. 37 and Eileen D. Moore. On March 1, 1972, Mary E. Taylor was appointed Trust Manager by the trustees and authorized to open a trust bank account. The Trust was to continue for a period of 25 years unless the trustees unanimously determined to terminate the Trust at an earlier date at which time the assets of the Trust would be distributed to the beneficiaries. On March 1, 1972, petitioner executed a document which irrevocably conveyed to the Trust "[A]ll my earned and to be earned remuneration and ALL my right, title and interest in such earnings from my services rendered or to be rendered * * ." Specifically, the document provided that " * * All Servicemaster of West Allis, Inc.'s checks, made payable to Peter Y. Taylor, Sr. will henceforth be endorsed over to and deposited to the account of the above named Trust * * ." In return petitioner received all 100 units of beneficial interest in the Trust. Shortly thereafter petitioner returned his certificate of ownership of 100 units of beneficial interest for cancellation and for reissuance of 30 units to each of his three children and 10 units to his wife. All distributions to the beneficiaries were discretionary with the trustees38 as recorded in the Trust minutes. Since its creation no additional personal or real property has been transferred to the Trust and no distributions have been made to the beneficiaries. During the year 1972 petitioner Peter Y. Taylor, Sr. received income for janitorial services from Servicemaster of West Allis, Inc. (Servicemaster) in the amount of $ 1,538 and from Alternative, Inc. in the amounts of $ 200 in 1973 and $ 3,275 in 1974. Petitioner directly received payment from Servicemaster by check which was subsequently transferred to the Trust by endorsement. The other amounts were received from persons who came to petitioner for consumer consulting services. Pursuant to petitioner's direction, payments for such services were made directly to the Trust. Alternative, Inc. was incorporated in 1973 for the purpose of conducting services for persons who created family trusts. During the years 1973 and 1974 the Melt Organization owned 99.36 percent and 91.41 percent, respectively, of the outstanding stock of Alternative, Inc. Corporate income tax returns for Alternative, Inc. were filed with the Internal Revenue Service Center at Kansas City, Missouri, for the taxable years39 ended June 30, 1974 and June 30, 1975. In 1970 petitioner Peter Y. Taylor, Sr. created Apocalypse Limited, a corporation, for the purpose of teaching financial freedom. The Melt Organization was created to perform services for Apocalypse Limited by selling tax savings plans through the use of family trusts. In his notice of deficiency dated December 30, 1976, to Peter Y. Taylor, Sr. and his deceased wife, Mary E. Taylor, respondent determined that the "wages attributable" to Peter Y. Taylor, Sr. from Servicemaster and Alternative, Inc. were taxable to him under section 61 of the Code and not to the Trust. Alternatively, he determined that the "wages" were reportable and taxable to petitioner pursuant to sections 671 through 678 or that the assignment of the wages to the Trust was a sham, lacking economic reality for Federal income tax purposes. It was also determined that the payments made by Alternative, Inc. to the Trust constituted dividend income to petitioner under section 301. In the notice of deficiency to The Melt Organization (A Trust) dated February 16, 1977, the respondent determined that the Trust was an association taxable as a corporation under section 7701. 40 OPINION The first issue for decision is whether the payments made for consulting services earned by petitioner are properly income of the petitioner or the Trust. Respondent contends that petitioner is taxable on all of the amounts because he earned the income and that any assignment to the Trust did not effectively transfer the incidence of taxation to the Trust. Alternatively, respondent contends (1) that the Trust should be ignored because it lacks economic reality; (2) that the income should be taxed to petitioner under the grantor trust rules of sections 671 through 678; and (3) that the Trust is an association taxable as a corporation under section 7701. Petitioner agrees that the income was earned through his personal services, but he contends that the document of March 1, 1972, which conveyed "* * * [his] earned and to be earned remuneration * * ", did transfer, as of the date of the document, his earnings from whatever source to the Trust. Since the transfer was made prior in time to the actual earning of the income, he argues that the assignment of income theory is inapposite. At the trial the petitioner maintained that the creation of the Trust was analogous41 to the formation of professional service corporations which have been recognized by the respondent and the courts for Federal income tax purposes. However, petitioner gave a negative response to the Court's question when asked whether he desired to have the Trust treated as a corporation for income tax purposes. Petitioner's brief states that he is in full accord with the principle set forth in Commissioner v. Culbertson, 337 U.S. 733">337 U.S. 733, 739, 740 (1949), that income is taxed to the one who earns it. Petitioner also agrees with our decision in American Savings Bank v. Commissioner, 56 T.C. 828">56 T.C. 828 (1971), where we held that the entity that controls the earning of the income is the true earner of that income. Since both parties fully agree on the legal principle involved, it only remains for the Court to apply the law to the facts of this case. Under the terms of the conveyance of March 1, 1972, petitioner transferred his earned and to-be-earned income to the Trust. By these terms there was to be no transfer of earnings to the Trust until the money had been collected. As stated in our findings, petitioner was paid for his services by Servicemaster, 42 and he endorsed the payments to the Trust. Other sums for consulting fees were paid at petitioner's direction to the Trust. Thus, the conveyance is a classic case of a taxpayer attempting to shift the incidence of taxation of his earned income by assigning it to another entity. The assignment clearly falls within the rule that income is taxed to the one who earns it. The crucial point is not the timing of the assignment but the earning of the income. Under this well established rule the petitioner cannot escape the burden of taxation on his earned income by the March 1, 1972, assignment to Trust. In a long list of similar cases we have held that the conveyance to a trust of a taxpayer's lifetime services and the income earned from such services was not effective to shift the tax burden from the taxpayer to a trust. See, e.g., Verciov. Commissioner, 73 T.C. 1246">73 T.C. 1246, 1254 (1980); Markosian v. Commissioner, 73 T.C. 1235 (1980); Wesenberg v. Commissioner, 69 T.C. 1005">69 T.C. 1005, 1011 (1978); Vnuk v. Commissioner, 621 F.2d 1318">621 F.2d 1318 (8th Cir. 1980); affg. T.C. Memo. 1979-164; Horvat v. Commissioner, T.C. Memo. 1977-104,43 affd. by unpublished order (7th Cir. June 7, 1978), cert. denied 440 U.S. 959">440 U.S. 959 (1979); and Taylor, Jr. v. Commissioner,T.C. Memo. 1980-313. We reach the same conclusion here. As we said in American Savings Bank v. Commissioner, supra at 839, the factual background must be carefully scrutinized to determine the person that earns the income. After considering all of the facts here, we conclude that the petitioner was the true earner of the income allegedly earned by the Trust. Although the Trust may have validity under state law, it did not in fact operate as a separate entity for Federal income tax purposes. There is no evidence that it kept formal records of its operation, that it had a separate office and equipment, that it held itself out to the public as being separate and independent, that it had separate employees, that it had an enforceable contract with petitioner for the use of his services, or that it had any of the customary business characteristics. In essence, petitioner simply executed a trust document and agreed to transfer all of his earned income to a trust. Under such circumstances we hold that there was no44 active operating entity capable of independently earning income. In addition, based on petitioner's statement in his brief that the Board of Trustees by voice vote agreed to remunerate him for his services rendered in proportion to the Trust income developed by his services, we think his arrangement with the Trust lacked economic reality. Not only is such an indefinite and loose agreement unenforceable, but it is unrealistic to conclude that a taxpayer would agree to turn over all of his earned income for an unspecified payment under such circumstances unless he was in control of the trust or other entity. Where a trust has no valid purpose other than tax avoidance it loses its economic reality, which, in turn, mandates that we disregard any attempt to shift income to a mere paper entity. See Markosian v. Commissioner, supra at 1245. The facts relating to amounts of other income, presumably self-employment income and not wages, generated by petitioner Peter Y. Taylor, Sr. are not fully developed by this record. Nevertheless, we think it is clear that, even if the Trust had any economic substance, the grantor trust provisions of sections 671 through 677 require45 this other income to be taxed to petitioner. Vnuk v. Commissioner, supra at 1321; Vercio v. Commissioner, supra at 1255-1259; Wesenberg v. Commissioner,supra at 1011-1014. Having sustained respondent's determination that all of the income reported by the petitioner and the Trust was properly includable in petitioner's income, it is unnecessary for us to decide whether the Trust is an association taxable as a corporation. To reflect the conclusions reached herein, Decisions will be entered under Rule 155. Footnotes1. This report was prepared pursuant to Rule 182(b), Tax Court Rules of Practice and Procedure.↩2. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623956/	Christian W. Korell, Petitioner, v. Commissioner of Internal Revenue, RespondentKorell v. CommissionerDocket No. 13943United States Tax Court10 T.C. 1001; 1948 U.S. Tax Ct. LEXIS 172; June 2, 1948, Promulgated 172 Decision will be entered under Rule 50. Premium paid for bonds callable for redemption on 30 days' notice held amortizable in full in year of acquisition under Internal Revenue Code, sections 23 (v) and 125, notwithstanding premium may have been due entirely to accompanying privilege of converting into obligor's stock at price below current market. Paul L. Peyton, Esq., for the petitioner.Ellyne E. Strickland, Esq., for the respondent. Opper, Judge. OPPER1001 This proceeding was brought for a redetermination of a deficiency in income tax for the year 1944 in the amount of $ 5,218.84. Minor adjustments have been conceded by petitioner and the litigated 173 issue is whether respondent erred in disallowing the deduction claimed by petitioner in the taxable year under Internal Revenue Code, sections 23 (v) and 125, as amortization of the premium over the call price of certain bonds.1002 FINDINGS OF FACT.All the facts are stipulated and are hereby found accordingly.Petitioner, an individual, filed his income tax return for the period in question with the collector of internal revenue for the second district of New York.During 1944 petitioner purchased $ 50,000 principal amount of American Telephone & Telegraph Co. 15-year 3 per cent convertible debenture bonds, due September 1, 1956, as follows:August 16, 1944, $ 11,000 at 121 1/8$ 13,351.25August 16, 1944, $ 2,000 at 1212,425.00August 22, 1944, $ 37,000 at 121 1/444,862.50The average market price of the capital stock of the American Telephone & Telegraph Co. on August 16, 1944, was $ 163.1875 per share, and on August 22, 1944, was $ 163.6875 per share.These bonds were issued under an indenture between American Telephone & Telegraph Co. and City Bank Farmers Trust Co., trustee, dated September 1, 1941. The indenture provided in part that on not less than 30 174 days' notice the bonds might be redeemed by the company in whole or in part on any date on or after September 1, 1942, "at the following redemption prices (expressed in percentages of the principal amount) together with accrued interest to the date fixed for redemption: to and including August 31, 1944, 107%; thereafter to and including August 31, 1948, 104%; thereafter to and including August 31, 1953, 102%; and thereafter, 100%."The indenture further provided that the holder of any debenture bond "shall have the right, at his option, at any time after January 1, 1942, to and including December 31, 1954 (except that, in case any Debenture Bond or Debenture Bonds shall be called for redemption before such latter date and payment thereof duly provided for, such right shall terminate at the close of business on the date fixed for redemption of such Debenture Bond or Debenture Bonds) to convert * * the principal of any such Debenture Bond * * * into such number of full-paid and non-assessable shares of Capital Stock of the Company as the principal amount of the Debenture Bond * * * surrendered for conversion is a multiple of $ 100 * * * at the price of $ 140 per share * * ," by the175 surrender of $ 100 principal amount of debenture bonds and payment to the company of cash equal in amount to the excess of the conversion price over $ 100.The entire issue of these bonds was called for payment under the provisions of the indenture as of September 1, 1947, at 104, plus interest.In his return for the taxable year petitioner claimed as a deduction, in computing net income, amortization of the premium paid with respect to his bonds in the amount of $ 8,638.75, representing the difference 1003 between $ 60,638.75 (the cost of the bonds) and $ 52,000 (the call price of the bonds at 104).These bonds were the only premium bonds purchased or owned by petitioner in 1944. They were not part of the stock in trade of petitioner or includible in any inventory of petitioner at the close of the taxable year, or held by him primarily for sale to customers in the ordinary course of his trade or business, but were purchased by petitioner as an investment.Petitioner, in 1944, did not sell any of the bonds or exercise his right of converting them into capital stock of the company.OPINION.When the coupon rate of interest carried by a bond issue exceeds the going rate for obligations176 of comparable desirability, the market will tend to place a premium on the bonds. If bonds are purchased for investment under such circumstances, the premium paid must be recovered tax-free out of the earnings of the bond 1 very much as depreciation must be recovered out of the income of depreciable property if the true distinction between income and recovery of capital is to be preserved. Cf. United States v. Ludey, 274 U.S. 295">274 U.S. 295. With this objective in mind, 2177 Congress in 1942 added provisions to the Internal Revenue Code permitting the amortization of bond premium by deductions from gross income. 3178 A complication bound to arise was the amortization of premium on 1004 bonds callable prior to maturity. Such obligations, although not included in the statute, are covered in a subdivision of the regulations dealing with "Callable and Convertible Bonds." 4179 The debentures purchased by petitioner in the tax year and which form the subject of this controversy were both callable and convertible. They were currently callable at the option of the obligor at any time on 30 days' notice at 104 per cent of face. They were convertible at any time at the option of the holder into common stock of the obligor upon payment of the difference between the face of the bond and 140 per cent of par.Petitioner purchased the debentures at approximately 121 when the common stock of the obligor was selling at 163. Relying upon his interpretation of the statute and the regulations, petitioner deducted the difference between 104, the call price, and 121, his purchase price or basis, as a premium. The entire deduction was taken in the year before us, on the theory that the bond could have been called in that same year, and that in that event the entire premium would have been lost.1005 Respondent does not dispute such treatment in the case of a bond callable within the current year, but rejects petitioner's claim here because of the convertible feature of the debentures. His position was set forth in a ruling issued in 1945, dealing with the same180 issue of debentures as that now in controversy. 5181 Respondent's reasoning to justify rejection of the claimed deduction is not without force. He says in effect that what Congress was dealing with when it enacted section 125 was, as we have seen, the investment premium paid in excess of the call or maturity price of an obligation which was required to be paid in order to purchase interest income. Respondent's regulations, to be sure, do not provide that no bond "convertible into stock" is within the definition of an amortizable obligation, but that "the fact that a bond is * * convertible into stock does not, in itself, prevent the application of section 125." 6 This, however, advances us only to the point that the mere aspect of convertibility may not necessarily affect the possibility of the payment of an investment premium. Such would be the situation where the relationship between the conversion figure and the market price of the obligor's stock, eliminated value from the conversion privilege. See Badger, Valuation of Industrial Securities, p. 42. 7 But in the present case, both the call price and the conversion figures 1006 indicate that the premium was paid, not for the investment feature of the bond, but for the182 rights of conversion.The final reference in the regulation to a convertible obligation is that contained in the last sentence of the subdivision previously quoted, 8 reading as follows:* * * A convertible bond is within the scope of section 125 if the option to convert183 [on a date certain specified in the bond] rests with the holder thereof.If this statement could be taken as fairly interpretative, and whatever its meaning may be, 9 it seems clear that it could under no circumstances apply to these facts, and hence could be disregarded here. The debentures held by petitioner were convertible on any date from the minute he acquired them to their possible future call for redemption and consequently not on "a date certain." The result of this sentence would then be neutral and leave open for consideration the question whether the section covered such convertible bonds as those held by petitioner.184 The difficulty with respondent's entire position, however, is that it ignores the interpretation which Congress itself placed upon the legislation. In both the Ways and Means Committee report and the Finance Committee report 10 there appears in identical language the following:The fact that a bond is callable or convertible into stock does not of itself prevent the application of this section. In the case of a callable bond, the earliest call date will, for the purposes of this section, be considered as the maturity date. Hence, the total premium is required to be spread over the period from the date as of which the basis of the bond is established down to the earliest call date, rather than down to the maturity date. In the case of a convertible bond, if the option to convert the bond into stock rests with the owner of the bond, the bond is within the purview of this section. [Italics added.]The final statement185 is unequivocal and precisely includes the bonds in controversy. Petitioner's application of the provision to his situation and his computation of the deduction are thus squarely justified by the expression of congressional intent. The portion of the sentence of the regulation quoted above which is enclosed in brackets appears to be a gratuitous addition by respondent not founded upon the statutory language and directly in conflict with its legislative history. We 1007 are accordingly unable to ascribe to it the validity which would result in authorizing respondent's position in this proceeding. We see no choice but to disapprove the deficiency.Decision will be entered under Rule 50. Footnotes1. "* * * The difference between the yield and the actual interest rate is simply a return of capital and should be treated as such rather than as a capital loss." (Statement of Randolph Paul, Tax Adviser to the Secretary of the Treasury, Hearings before the Committee on Ways and Means on Revenue Revision of 1942, p. 90.)↩2. "Under existing law, bond premium is treated as capital loss sustained by the owner of the bond at the time of disposition or maturity and periodical payments on the bond at the nominal or coupon rate are treated in full as interest. The want of statutory recognition of the sound accounting practice of amortizing premium leads to incorrect tax results which in many instances are so serious that provision should be made for their avoidance."The present treatment, moreover, results in an unjustifiable tax discrimination in favor of tax-exempt as against taxable bonds. Holders of taxable bonds not only pay a tax, as upon income, upon that portion of the so-called interest payments which is in reality capital recovered but are denied the deduction, except as restricted by the capital loss provisions, of the corresponding capital 'lost' at maturity. Holders of tax-exempt bonds, on the contrary, are allowed to deduct premium as capital loss in spite of the fact that the corresponding amount of capital has been recovered in the guise of interest and no tax has been paid upon it."The treatment proposed is mandatory to all taxpayers with respect to wholly tax-exempt bonds and elective to all with respect to bonds fully taxable. In the case of partially tax-exempt bonds, it is mandatory to corporate taxpayers and elective to all other taxpayers."The amortization provision is found in section 119 of the bill and its operation is described in detail later in this report." (H. Rept. No. 2333, 77th Cong., 2d sess., p. 47.)↩3. SEC. 23. * * (v) Bond Premium Deduction. -- In the case of a bondholder, the deduction for amortizable bond premium provided in section 125.SEC. 125. AMORTIZABLE BOND PREMIUM.(a) General Rule. -- In the case of any bond, as defined in subsection (d), the following rules shall apply to the amortizable bond premium (determined under subsection (b)) on the bond for any taxable year beginning after December 31, 1941:(1) Interest wholly or partially taxable. -- In the case of a bond (other than a bond the interest on which is excludible from gross income), the amount of the amortizable bond premium for the taxable year shall be allowed as a deduction. * * (b) Amortizable Bond Premium. --(1) Amount of bond premium. -- For the purposes of paragraph (2), the amount of bond premium, in the case of the holder of any bond, shall be determined with reference to the amount of the basis (for determining loss on sale or exchange) of such bond, and with reference to the amount payable on maturity or on earlier call date, with adjustments proper to reflect unamortized bond premium with respect to the bond, for the period prior to the date as of which subsection (a) becomes applicable with respect to the taxpayer with respect to such bond.(2) Amount amortizable. -- The amortizable bond premium of the taxable year shall be the amount of the bond premium attributable to such year.(3) Method of determination. -- The determinations required under paragraphs (1) and (2) shall be made --(A) in accordance with the method of amortizing bond premium regularly employed by the holder of the bond, if such method is reasonable;(B) in all other cases, in accordance with regulations prescribing reasonable methods of amortizing bond premium, prescribed by the Commissioner with the approval of the Secretary.↩4. Sec. 29.125-5 [Regulations 111]. Callable and Convertible Bonds. -- The fact that a bond is callable or convertible into stock does not, in itself, prevent the application of section 125. For the purposes of such section, in the case of a callable bond the earlier call date will be considered as the maturity date and the amount due on such date will be considered as the amount payable on maturity, unless the taxpayer regularly employs a different method of amortization which is reasonable. Hence, the bond premium on such a bond is required to be spread over the period from the date as of which the basis for loss of the bond is established down to the earlier call date, rather than the maturity date. The earlier call date may be the earliest call date specified in the bond as a day certain, the earliest interest payment date if the bond is callable at such date, the earliest date at which the bond is callable at par, or such other call date, prior to maturity, specified in the bond as may be selected by the taxpayer. A taxpayer who deducts amortizable bond premium with reference to a particular call date may not thereafter use a different call date in the calculation of amortization deductions with respect to such premium. A convertible bond is within the scope of section 125↩ if the option to convert on a date certain specified in the bond rests with the holder thereof.5. " * * If the call provisions of these bonds were to be considered wholly apart from other attendant circumstances, the taxpayer might select the 31st day after the date of purchase as the 'earlier call date,' even though the bonds were not actually called on that date or notice of call had not been given."Section 29.125-5 of Regulations 111, provides, however, that the fact that a bond is callable or convertible into stock does not, in itself, prevent the application of section 125. The qualification 'in itself' indicates that other factors may arise which would preclude the application of section 125 of the Code to such bonds."The bonds have been selling for approximately 123 and the common stock of the American Telephone and Telegraph Company has been selling for about 163. It will thus be seen that the $ 123.00 cost of such bond plus the $ 40.00 conversion fee equals $ 163.00, the same price for which the stock can be purchased on open market. For nearly two years, the market price of those bonds has fluctuated almost directly in accordance with the quotations on the common stock into which such bonds are, at any time, convertible. This clearly indicates that substantially all of the so-called premium of $ 23.00 represents the market value of the conversion option, rather than a premium paid for the investment value of the security itself, considered independently of the conversion option. This $ 23.00, therefore, is not a true bond premium such as would normally be amortized out of gross interest earnings in order to exclude capital recovered under the guise of interest and thus determine the effective yield of the security."This office is accordingly of the opinion that the excess of the amount of the basis of these bonds over the amount payable at maturity may not be amortized under section 125 of the Internal Revenue Code↩. * * " (1945 P. H., para. 76,157; 1945 C. C. H. para. 6139.)6. See footnote 4, supra↩.7. * * The value of convertible bonds is, in fact, dependent on either one of two factors. As long as the value of the issue into which the bond is convertible remains below the point where conversion is profitable, just so long will the value of the bond be dependent entirely on its investment status. When the value of the former rises, however, the value of the convertible issue is a function of two factors, the rate of conversion and the price of the issue into which it may be converted. This may be expressed mathematically as follows:Investment Value of Convertible IssueIConversion RateRMarket Price of StockPValue of Convertible BondVI determines V if I is greater than P/R; otherwise V=P/R↩8. See footnote 4, supra↩.9. Respondent suggests the following in his brief as an example of the purpose of that portion of the regulations (p. 22):"A bond callable at any time on 30 days' notice, is convertible into stock only on January 1, 1950 (a date certain specified in the bond). It would be possible for the issuer, by exercising the call privilege, to defeat the bondholder's conversion right so that any premium paid for the bond might be lost thereby. This might justify the allowance of the deduction for amortization of premium where conversion is provided for on a date certain specified in the bond; whereas, when no date certain is specified, the holder of the bond would be protected by his right to convert, which could not be defeated by the mere exercise of the call privilege."↩10. H. Rept. No. 2333, 77th Cong., 2d sess., p. 80; S. Rept. No. 1631, 77th Cong., 2d sess., p. 94.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623957/	P. A. Davis v. Commissioner.Davis v. CommissionerDocket No. 26090.United States Tax Court1952 Tax Ct. Memo LEXIS 150; 11 T.C.M. (CCH) 704; T.C.M. (RIA) 52216; 1 Oil & Gas Rep. 997; June 30, 1952150 deQuincy V. Sutton, Esq., c/o Wooton and Wooton, Hattiesburg, Miss., for the petitioner. J. Frost Walker, Esq., for the respondent. TURNER Memorandum Findings of Fact and Opinion TURNER, Judge: The respondent determined deficiencies in the petitioner's income tax for the years and in the amounts as follows: 1944$3,924.191945500.841946565.951947138.00The only issue presented is whether the gains realized by petitioner on the sale of certain mineral interests during the respective years constituted ordinary income or long-term capital gains. Findings of Fact The petitioner's income tax returns for the years 1944 through 1947 were filed with the collector of internal revenue for the district of Mississippi. In 1935 the petitioner moved from New Orleans, Louisiana, to Hattiesburg, Mississippi, where he has continued to reside. During 1939 and 1940 the petitioner sold refrigerators on a commission basis for a furniture store in Hattiesburg. Thereafter for a time he sold butane gas equipment for a corporation which transferred to another organization its distributorship for such equipment in the territory in which the petitioner151 worked. This organization in turn transferred the distributorship for the equipment to another organization, known as Quick & Grice. The petitioner became associated with each of the successive organizations and sold butane gas equipment for them on a commission basis, receiving 10 per cent of the selling price of all equipment actually installed. About the middle of 1946 the petitioner severed his connection with Quick & Grice and discontinued the foregoing activity. However, in 1947 he sold three gas systems for another firm. On some undisclosed date following the entry of the United States into the war and because of the adverse effect of the war on the butane gas equipment business the petitioner began acting as the local agent in the Hattiesburg area for the Reliance Life Insurance Company of Pittsburgh, Pennsylvania. The petitioner reported no income from this source for any of the years in controversy and apparently his connection with that company was terminated prior to 1944. Because of his health the petitioner was not regularly employed on a full-time basis after 1943. While selling refrigerators for the furniture store in Hattiesburg during 1939 and 1940 and during later152 years, including all the taxable years in controversy except 1944, the petitioner bought mineral 1 interests for others and received as compensation for his services a commission based on the purchase price. The petitioner received nothing in 1944, $1,053.61 in 1945, $869.50 in 1946, and $66 in 1947 as commissions for such services. During the latter part of 1939 or early in 1940 the petitioner began purchasing mineral interests on his own account. From time to time he made sales of interests so acquired. Generally in making sales of interests held for long periods the petitioner was influenced by the favorable price to be had and the proceeds were used to acquire other mineral interests that were selling at lower prices. During the taxable years the petitioner was in the business of buying and selling mineral interests and some of the interests sold by him in those years had been acquired and were held primarily for sale to customers in the ordinary course of such business. Other mineral interests153 sold by petitioner during the years here in question had been acquired by him so as to have an accumulation of such interests, the production from which he could look to for support when he became old, and were not held by him primarily for sale to customers in the ordinary course of his business. The petitioner, in the course of his buying and selling of mineral interests, did not keep any records wherein the interests bought for sale to customers were segregated from those not bought and held for such sale. The petitioner was not financially able to drill on or develop mineral properties. Most of the mineral interests purchased by him were in properties which were then under lease for development, and those interests purchased with a view to realizing income by reason of production were purchased with the hope of later development and production by the leaseholder. Some of the interests purchased with a view to realizing income from production therefrom were sold by petitioner from time to time. Generally the price at which he could sell such interests determined whether or not he would make the sale. Where the price offered was such that he considered it to his financial advantage154 to sell, he sold the interest, instead of retaining it. With respect to some of the interests acquired and sold to customers in the course of his business, some were sold to persons who were getting together a block of acreage for a drilling unit, while in some instances petitioner already had buyers prior to his acquisition of the interests. At the beginning of 1944 petitioner's net worth was probably as much as $20,000. His entire income for 1944, $20,773.78, was gain derived from the sale in that year of 16 mineral interests. Of such gain $3,005.70 was from the sale of 10 mineral interests held by petitioner for less than six months and $17,768.08 was from the sale of six interests held for more than six months. Of the latter interests three were acquired in 1940 and three in 1943. The sales of the 10 interests held for less than six months were made to persons residing in the towns of Hattiesburg, Jackson, Lafayette and Laurel, Mississippi. In general the sales made in 1944 were of interests in three areas which were under development and in two of which production began in 1943 and 1944, respectively. Of the interests sold in 1944 those which had been purchased in 1943 and 1944155 were held primarily for sale to customers in the course of petitioner's trade or business. The petitioner's entire income for 1945, $8,322.73, was composed of the following items: Commissions from the sale of butanegas equipment$ 933.80Commissions from the purchase ofmineral interests for others1,053.61Oil royalties598.65Lease rentals59.75Gains on sales of mineral interests5,676.92$8,322.73 Of the gains realized on sales of mineral interests, $1,651.84 was derived from the sale of 10 such interests which had been held by the petitioner for less than six months. Of such 10 interests three were sold within two days after acquisition and four (possibly five) were sold within five days after acquisition. The remainder of the gains, $4,025.08, was derived from the sale of eight interests which had been held for more than six months. One of the eight interests had been acquired in 1941, four in 1944 and three in February 1945. Of the interests sold in 1945 those which had been purchased in 1944 and 1945 were held primarily for sale to customers in the course of petitioner's trade or business. The petitioner's entire income for 1946, $8,733.79, 156 was composed of the following items: Commissions from the sale of butanegas equipment$ 187.25Commissions from the purchase ofmineral interests for others869.50Oil royalties750.89Lease rentals148.76Gains on sales of mineral interests6,777.39$8,733.79 Of the gains realized on sales of mineral interests, $1,065.07 was derived from the sale of eight such interests which had been held by the petitioner for less than six months. Of such eight interests four were disposed of within a week after acquisition. The remainder of the gains, $5,712.32, was derived from the sale of five interests which had been held for more than six months. Two of the five interests had been acquired in 1943 and three in 1945. Of the interests sold in 1946 those which had been purchased in 1945 and 1946 were held primarily for sale to customers in the course of petitioner's trade or business. The petitioner's entire income for 1947, $6,666.17, was composed of the following items: Commissions from the purchase ofmineral interests for others$ 66.00Oil royalties797.28Lease rentals310.79Gains on sales of mineral interests5,492.10$6,666.17157 Of the gains of $5,492.10 realized on sales of mineral interests, $3,895.58 was derived from the sale of five such interests which had been held by the petitioner for less than six months. Of such five interests two were sold on the day acquired and one was sold the day following acquisition. The remainder of the gains, $1,596.52, was realized on the sale of seven interests which had been held for more than six months. Three of the seven interests had been acquired in 1943 and four in 1944. Of the interests sold in 1947 those sold within six months of their purchase were held for sale to customers in the course of petitioner's trade or business. The petitioner has never had a regularly established office as a place of business. He has never advertised by newspaper, radio or other medium that he was in the business of dealing in mineral interests. Nor has he ever employed anyone to assist him in managing or in buying or selling mineral interests. On occasions negotiations for sales and sales of interests were made at the petitioner's home or at the place of business of others. When in need of money for living expenses, the petitioner, on a few occasions borrowed small amounts from158 the bank. Usually when in need of money he would go out and attempt to find a purchaser for some mineral interest that he owned. At the time of the hearing petitioner owned five interests which he acquired in 1940, one acquired in 1941, three acquired in 1942, ten acquired in 1943, and nineteen acquired in 1944. These have never been offered for sale and offers to purchase them have been refused. At the time of the hearing the petitioner also owned other mineral interests of an undisclosed number which interests have been acquired at an undisclosed time or times. With respect to a goodly number of these, deductions on account of their worthlessness have been taken and allowed. The gain realized by petitioner on the sale of mineral interests held for less than six months was reported by him as short-term capital gain and that realized from the sale of mineral interests held for more than six months was reported as long-term capital gain. The respondent determined that the mineral interests sold by the petitioner were not capital assets within the meaning of section 117(a)(1) of the Internal Revenue Code and that the gain realized from the sale thereof was159 to be regarded as ordinary income. Opinion It is the claim of the petitioner that the mineral interests sold by him in the taxable years were capital assets, within the meaning of section 117(a)(1) of the Internal Revenue Code, 1 and that he properly reported the gain therefrom as short-term capital gain and long-term capital gain. Under section 117(a)(1), the mineral interests sold were not capital assets to the extent that, when sold, they were held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, and whether property sold is so held is a question of fact. 160 The evidence, in our opinion, discloses that during the years in question the petitioner was in the business of buying and selling mineral interests to customers in the course thereof, but that does not mean that all of the interests sold in the taxable years were so held. We think it clear and have concluded as a fact that some of the interests sold in the years 1944 through 1947, were at the time of sale held by him primarily for sale to customers within the meaning of the statute, while other interests sold in those years were not. In the main, the evidence in the case consisted of the testimony of the petitioner. That testimony was rather general and did not give much information relating to the individual interests sold. We have no doubt, however, that from the time of the entry of the United States into the World War in 1941, petitioner engaged in the business of buying and selling mineral interests. At the same time, as already stated, we are convinced that he also bought mineral interests with a view to holding them for the purpose of realizing income from production by way of royalties. The proof as to the individual interests is insufficient, however, to give us a conclusive161 or very satisfactory basis for determining those interests which were acquired by him as an investor and not for sale to customers. We have considered the evidence of record, however, and have made our findings on the basis thereof. Decision will be entered under Rule 50. Footnotes1. Counsel for the petitioner stated at the hearing that the term as employed in the proceeding was used to refer to oil which was the subject of the transaction in each case.↩1. SEC. 117. CAPITAL GAINS AND LOSSES. (a) Definitions. - As used in this chapter - (1) Capital Assets. - The term "capital assets" means property held by the taxpayer (whether or not connected with his trade or business), but does not include stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, or property, used in the trade or business, of a character which is subject to the allowance for depreciation provided in section 23(1), or an obligation of the United States or any of its possessions, or of a State or Territory, or any political subdivision thereof, or of the District of Columbia, issued on or after March 1, 1941, on a discount basis and payable without interest at a fixed maturity date not exceeding one year from the date of issue, or real property used in the trade or business of the taxpayer;↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/1386710/	61 Wash. App. 703 (1991) 812 P.2d 119 THE STATE OF WASHINGTON, Respondent, v. JOHNNY BRANNON SUTTLE III, Appellant. No. 25138-4-I. The Court of Appeals of Washington, Division One. July 1, 1991. Dennis Benjamin of Washington Appellate Defender Association, for appellant. Seth R. Dawson, Prosecuting Attorney, and Seth Aaron Fine, Deputy, for respondent. AGID, J. Johnny Suttle appeals his judgment and sentence for first degree armed robbery. He claims that the trial court erred when it (1) ruled his prior convictions for burglary and robbery admissible under ER 609(a)(2); (2) ruled his status as an escapee admissible as evidence of motive and identity under ER 403 and 404(b); and (3) 705 ordered him to pay $100 for the victim assessment fund as part of his sentence. We affirm. On May 23, 1989, two men entered a 7-Eleven store in Bothell and robbed the store at gunpoint. Three men were arrested on May 26, 1989, and charged with the robbery: Johnny Suttle, Ron Ivy and Chris Hunter. The State's main witnesses were Chris Hunter and Kelly Ivy, Ron Ivy's wife. Both testified that shortly before the robbery, Suttle, Hunter and Ron Ivy began to plan a robbery while all four were driving back from Ellensburg. Kelly Ivy testified that she asked to be taken home before the robbery because she did not want to be involved. She further testified that both Suttle and her husband later told her that they went into the store and robbed it, that her husband had a sawed off shotgun, that Suttle had a knife, and that Hunter waited outside in the car while Ron Ivy and Suttle went into the store. Hunter testified that he met Suttle and Ron Ivy for the first time on the trip to Ellensburg and that he drove Ron Ivy and Suttle to the 7-Eleven. He explained that both Ron Ivy and Suttle went into the store while he waited in the car, that Ron Ivy described the robbery to Hunter after Ivy and Suttle came out, and that Suttle gave Hunter $50 from the robbery. Although Hunter was initially charged with first degree robbery, the charges were reduced to rendering criminal assistance in exchange for a plea and his agreement to testify at Suttle's trial. Ramona Hulse, the store clerk working at the time of the robbery and the only eyewitness, gave a statement to police immediately after the robbery. According to the statement, Hulse told police that one robber was taller than the other, the shorter robber had a mustache and the taller one did not have any facial hair. A few days after the robbery, the police showed Hulse two photographic montages. Hulse identified Ron Ivy as one of the robbers and a man not involved in the 7-Eleven robbery as looking "similar" to the other robber. Neither montage included a photograph 706 of Suttle.[1] At trial, Hulse was unable to identify Suttle as one of the robbers. Ron Ivy testified as a defense witness. He admitted committing the robbery, but stated that his accomplice was Hunter, not Suttle. Ivy testified that he and Hunter dropped Suttle off before they got to the 7-Eleven because Suttle did not want to be involved, and that the shotgun used during the robbery belonged to Hunter. When asked why he told his wife, Kelly Ivy, that Suttle, and not Hunter, robbed the store with him, Ron Ivy testified that Hunter did not want Kelly Ivy to know that Hunter had been involved. Before trial, defense counsel moved in limine to exclude any mention that Suttle had escaped from a work-release program at the time of the robbery. The State argued that this evidence was admissible under ER 404(b) to show motive and identity. The judge granted Suttle's motion, but said that the State could make an offer of proof as to its relevance and move for reconsideration during trial. During trial, the State made an offer of proof through Hunter as to the relevance of Suttle's escape status.[2] The trial judge sustained defense counsel's motion in limine but again stated that he would be open to reconsideration. After the State rested, the State advised defense counsel that it intended to impeach Suttle with a 1979 second degree robbery conviction and a 1987 first degree burglary conviction if Suttle testified. The State argued to the trial court that these two offenses were of a "crimen falsi" nature and thus per se admissible for impeachment purposes under ER 609(a)(2) without weighing their probative value against their prejudicial effect. The trial court agreed 707 and defense counsel objected for the record. The State then asked the court to reconsider its earlier ruling excluding evidence of Suttle's escape status, arguing that the prejudicial effect of this evidence would be greatly reduced now that evidence of Suttle's prior convictions would be introduced. The trial court agreed. Defense counsel advised the trial court that Suttle would not testify in light of the court's ruling that it would allow evidence that Suttle was an escapee. As an offer of proof, defense counsel told the court that Suttle was prepared to testify that he had been in the car with Ron Ivy and Hunter on May 23, 1989, that they let him out before the 7-Eleven because Suttle did not want to be involved, that Ivy and Hunter robbed the 7-Eleven, and that they picked him up on the road after the robbery. The State informed the court that it would not offer evidence of Suttle's escape status unless Suttle testified. Suttle did not testify, and neither the escape evidence nor the prior convictions was admitted into evidence. The jury found Suttle guilty of first degree robbery while armed with a deadly weapon. The trial court sentenced Suttle to 101 months in prison and ordered him to pay $100 under the victim's crime and compensation act. The court later denied Suttle's motion for a new trial. This appeal followed. PRIOR CONVICTIONS UNDER ER 609 Suttle first contends that the trial court erred in ruling that his prior convictions for burglary and robbery were per se admissible under ER 609(a)(2).[3] We need not reach this issue, however, because we find that Suttle waived his 708 objection to the admission of his prior convictions by failing to properly preserve the issue for appellate review.[4] [1] A criminal defendant has not properly preserved for appellate review a trial court's ruling admitting his prior convictions under ER 609(a) when the defendant's decision not to testify is based on other grounds. State v. McLean, 58 Wash. App. 422, 793 P.2d 459 (1990).[5] In McLean, the defendant assigned error to the trial court's ruling that four of his five prior convictions were per se admissible under ER 609(a)(2). The McLean court agreed that three of the defendant's four priors were not per se admissible under ER 609(a)(2), but that one of the priors was. Although he conceded on appeal that his prior forgery conviction was per se admissible under ER 609(a)(2), the defendant, in making his offer of proof, had stated that he would testify only if the trial court ruled all of the priors inadmissible. The McLean court reasoned that, because the defendant's decision not to testify was based on his desire not to have any prior convictions admitted rather than on the trial court's erroneous ruling, the propriety of that ruling was "immaterial". The court therefore held that the defendant had not properly preserved the claimed error for review. 58 Wn. App. at 426. The same situation exists here. The record reflects that Suttle chose not to testify because the trial court decided to admit evidence of Suttle's escape status, not because the court ruled that Suttle's prior convictions were admissible 709 for impeachment purposes. After the court decided to admit both the prior convictions and the escape evidence, defense counsel advised the trial court: Your Honor, my client was prepared, had he testified, to, you know, acknowledge the Robbery Second Degree and the Burglary First Degree, but in light of the Court's ruling, he's not going to testify. That "the Court's ruling" refers to the trial court's ruling on the escape evidence and not to its ruling on Suttle's priors is clear from defense counsel's later statement, made during the offer of proof: "But we feel that this evidence of escape status is just too prejudicial to risk it." Thus, as in McLean, the trial court's ruling on the admissibility of defendant's prior convictions is immaterial because Suttle's decision not to testify was based not on the State's threatened impeachment under ER 609(a), but on other unrelated grounds. Under McLean, therefore, we conclude that Suttle did not properly preserve the claimed error for appellate review. ESCAPE EVIDENCE UNDER ER 404(b) AND ER 403 Under ER 404(b)[6] and ER 403,[7] Suttle next argues that the trial court erred in ruling admissible evidence that Suttle was an escapee at the time of the robbery in order to show identity and motive. Defense counsel's pretrial motion in limine to exclude evidence that Suttle was an escapee from a work-release program at the time of the robbery was based on ER 404(b) and ER 403. As noted above, the trial judge twice sustained defense counsel's motion to exclude this evidence because 710 of his concern that the prejudicial effect of the escape evidence would outweigh its probative value. After ruling that the State could impeach Suttle with his prior convictions, however, the trial judge ruled that the escape evidence was admissible. This ruling was based on two factors. First, because Ron Ivy testified that Hunter and not Suttle was his accomplice, identity had become a much more important issue in the case. Second, the ruling that Suttle could be impeached with his prior convictions reduced the prejudicial effect of the escape testimony. Although we held above that Suttle waived his objection to the admission of his prior convictions under ER 609, we assume for purposes of analyzing the admissibility of the escape evidence that the trial court improperly ruled that the convictions were admissible to impeach Suttle had he testified. Thus, the issue becomes whether, under ER 404(b) and ER 403, the trial court erred in ruling the escape evidence admissible assuming that the ameliorating factor on which the court relied the jury's knowledge of Suttle's prior convictions was not available to reduce the prejudice to the defendant. [2, 3] Whether evidence of a defendant's prior "bad acts" is admissible under ER 404(b) is largely within the sound discretion of the trial court. The court's ruling will not be reversed absent a showing of abuse of discretion. State v. Lynch, 58 Wash. App. 83, 87, 792 P.2d 167, review denied, 115 Wash. 2d 1020 (1990). Although evidence of a defendant's prior "bad acts" is not admissible to establish his character or to show that he acted in conformity with that character, such evidence may be admissible for other purposes, such as to show motive, intent or identity. See ER 404(b). The trial court must identify for the record the purpose for which the State seeks to introduce the evidence and determine whether it is relevant to prove an essential element of the crime charged. State v. Smith, 106 Wash. 2d 772, 776, 725 P.2d 951 (1986). In determining relevance, (1) the purpose for which the evidence is offered must be of 711 consequence to the outcome of the action and (2) the evidence must tend to make the existence of the identified fact more probable. After the court has made its relevance determination, it must then balance the probative value of the evidence against its prejudicial effect pursuant to ER 403. Smith, 106 Wn.2d at 776. [4] Although this appears to be an issue of first impression in Washington, several cases from other jurisdictions have held that evidence of a defendant's escape status is admissible under ER 404(b) as evidence of motive and identity.[8] In this case, we agree with the State that evidence that Suttle had escaped from a work-release program with Ron Ivy was relevant to show motive and identity. While the escape evidence would not have been admissible in the State's case in chief, the defense put motive in issue when their witness, Ron Ivy, testified that it was Hunter rather than Suttle who robbed the store with Ivy. At that point, the question of which one of them was more likely to have been Ivy's partner in the robbery became the central issue. Once the defense implicated Hunter in the robbery, Suttle's escape status became relevant to motive. The jury was then entitled to consider whether Suttle, having recently escaped from a work-release program, needed 712 to get out of Washington to avoid detection, and therefore had a more compelling need for money than Hunter.[9] We also conclude that Suttle's escape status was relevant to identity. Ron Ivy and Suttle had escaped together. This fact made it more likely that Ivy had committed the robbery with Suttle, whom Ivy had known for several months, than with Hunter, whom he had met the day of the robbery. Our analysis of the identity issue is similar to the court's analysis in State v. Pam, 98 Wash. 2d 748, 659 P.2d 454 (1983), overruled on other grounds in State v. Brown, 113 Wash. 2d 520, 782 P.2d 1013, 787 P.2d 906, 80 A.L.R. 4th 989 (1989). In Pam, the court ruled that evidence that the defendant had been previously incarcerated with an eyewitness to a robbery was relevant to establish the robber's identity under ER 404(b). The eyewitness had initially been reluctant to identify the defendant in a photo montage because they had been in jail together and the witness was afraid of being labeled a "`snitch'". 98 Wn.2d at 759-60. The State sought to introduce this evidence to establish the witness' credibility with regard to his identification of the defendant. Finding that the eyewitness' incarceration with the defendant was relevant for that purpose, the court held that the evidence was admissible to show identity. 98 Wn.2d at 760. Here, evidence that Suttle had escaped from a work-release program with Ivy was also relevant to identity 713 because it established the relationship between Suttle and Ivy and their commonality of interest. In contrasting Suttle and Ivy's relationship with that of Ivy and Hunter, whom Ivy barely knew, the jury could reasonably have concluded that Ivy was more likely to have committed the robbery with Suttle. Thus, the evidence that Suttle and Ivy had escaped together, like the evidence in Pam that the defendant and eyewitness had been incarcerated together, was relevant to show the existence and nature of their relationship which, in turn, was probative of the robber's identity.[10] The trial court's ruling admitting the escape evidence must also withstand an ER 403 analysis. We continue to assume for purposes of this analysis that the defendant's prior convictions were inadmissible and thus not available to lessen the prejudicial impact of the escape evidence. As a threshold matter it must be understood that all testimony sought to be elicited against a criminal defendant is prejudicial. The question under ER 403 is whether the evidence was so unduly prejudicial as to outweigh its probative effect. Given the nature of the issue raised by the defense, which greatly enhanced the probative value of the escape evidence, it cannot be said that the evidence was so unduly prejudicial that the State should not have been permitted to introduce that evidence to rebut Ivy's testimony that Hunter, not Suttle, committed the robbery with Ivy. There was no error in the trial court's ruling that evidence of the escape was admissible to rebut Ivy's testimony. 714 ASSESSMENT OF COSTS Suttle finally argues that the trial court erred in ordering him to pay $100 for the victim assessment fund as part of his sentence without determining whether Suttle had a present or future ability to pay. We disagree.[11] [5] Under RCW 7.68.035(1), the trial court is required to order the defendant's contribution to the victim assessment fund.[12] In State v. Hayes, 56 Wash. App. 451, 783 P.2d 1130 (1989), the court held that the trial court erred in ordering the defendant to pay court costs ($101), attorney fees ($447), and contribute to a drug fund ($100) and a victim assessment fund ($70). The Hayes court held that the trial court should have entered specific findings on the defendant's ability to pay, his financial resources, and the likelihood that his indigency status would change. Just this term, however, we decided State v. Eisenman, 61 Wash. App. 246, 810 P.2d 55 (1991), in which the Hayes finding that there was no distinction between attorney fees and contributions to a victim assessment fund was called into question. We held in Eisenman that the trial court is not required to make formal findings that the defendant is able to pay court-imposed fees or costs when their imposition does not infringe on the right to counsel and the amount is minimal. We found the $100 victim penalty assessment to be of such a minimal nature. Because the prosecutor had requested that Eisenman pay attorney fees and the court had denied that request, we also found that the trial court had impliedly concluded that Eisenman had the ability to pay the $100 fee. 61 Wn. App. at 250. *715 Like Eisenman, Suttle was assessed a $100 victim penalty assessment. Suttle's attorney fees and court costs were requested by the prosecutor and disallowed by the court, just as they were in Eisenman. Thus, we conclude as we did there that the trial court impliedly found that Suttle had an ability to pay the $100 for the victim assessment fund. We emphasize, however, that if Suttle truly cannot pay such a court-imposed cost, or later is unable to pay, he will not be subject to incarceration. State v. Barklind, 87 Wash. 2d 814, 819-20, 557 P.2d 314 (1976). Affirmed. FORREST and BAKER, JJ., concur. Reconsideration denied July 26, 1991. NOTES [1] A detective had started to prepare a lineup that included Suttle, but was told by the prosecutor to cancel the lineup because other witnesses agreed to testify that Suttle had been involved. [2] Hunter testified that he did not know Ron Ivy or Suttle were escapees until after Hunter had been arrested and that Hunter drove them to the 7-Eleven because Ivy and Suttle wanted to leave town and go back to California. [3] Under ER 609(a)(2), a defendant's prior convictions are per se admissible for impeachment purposes when the crimes involved "dishonesty or false statement". State v. Jones, 101 Wash. 2d 113, 120, 677 P.2d 131 (1984). For example, the Supreme Court has recently held crimes of theft involve dishonesty and are therefore per se admissible under ER 609(a)(2). State v. Ray, 116 Wash. 2d 531, 806 P.2d 1220 (1991). Other crimes are admissible only if (a) they are felonies; and (b) the court finds that their probative value outweighs their prejudicial effect. Jones, 101 Wn.2d at 120. [4] Therefore, we also need not address Suttle's contention that the convictions were also inadmissible under ER 609(a)(1) as a matter of discretion. [5] In State v. Brown, 113 Wash. 2d 520, 540, 782 P.2d 1013, 787 P.2d 906, 80 A.L.R. 4th 989 (1989), the court held that a criminal defendant must take the stand and testify in order to preserve for appellate review a trial court ruling on the admissibility of prior convictions under ER 609(a). However, the Brown court also held that this ruling would apply prospectively from the date the opinion was filed. 113 Wn.2d at 544. Brown was filed on October 31, 1989. Suttle was tried before that date, on October 24 and 25, 1989. Thus, Brown does not control here, and Suttle was not required to take the stand and testify in order to preserve the alleged ER 609(a) error for appellate review. [6] ER 404(b) provides: "Evidence of other crimes, wrongs, or acts is not admissible to prove the character of a person in order to show that he acted in conformity therewith. It may, however, be admissible for other purposes, such as proof of motive, opportunity, intent, preparation, plan, knowledge, identity, or absence of mistake or accident." [7] Under ER 403, relevant evidence may nevertheless be excluded if "its probative value is substantially outweighed by the danger of unfair prejudice". [8] See, e.g., United States v. Stover, 565 F.2d 1010, 1013 (8th Cir.1977) (evidence that defendant had escaped from prison admissible in trial for car theft to show that defendant was in vicinity where car was stolen and that defendant had motive and intent to steal it); State v. Libberton, 141 Ariz. 132, 685 P.2d 1284, 1289-90 (1984) (although evidence that defendant had escaped from work-furlough program essentially informed jury of defendant's prior convictions, evidence was nevertheless relevant to show motive for crimes, specifically increased need to steal car and money); State v. Bray, 321 N.C. 663, 365 S.E.2d 571, 578-79 (1988) (in trial for theft, robbery and murder, evidence that defendant assaulted warden and escaped from jail was admissible to show intent and motive, that is, that defendant did whatever he needed to avoid capture). The courts in these cases allowed evidence of a defendant's escape status even when, as here, the defendant did not testify and evidence of the defendant's prior convictions was therefore not admitted. In this case, of course, the evidence of Suttle's escape status was never before the jury. [9] State v. LeFever, 102 Wash. 2d 777, 785, 690 P.2d 574 (1984), overruled on other grounds in State v. Brown, 113 Wash. 2d 520, 782 P.2d 1013, 787 P.2d 906, 80 A.L.R. 4th 989 (1989), upon which Suttle relies, is distinguishable. In LeFever, the Supreme Court held that the trial court erred in allowing evidence of the defendant's heroin addiction as proof of motive in a robbery case where the primary issue was whether the defendant or some unknown third person had committed the crime and where the State's witnesses differed greatly in terms of their eyewitness testimony. In the case at bar, however, the issue became which of two identified individuals, Suttle or Hunter, had committed the robbery with Ivy. Here the escape evidence was relevant to allow the jury to compare the motives of two known potential suspects. In LeFever the jury was presented with evidence of the defendant's addiction in a vacuum, not for the purpose of distinguishing him from the other suspect in the same crime. [10] Suttle argues that the escape evidence was not admissible to show identity because the robber's method of committing the crime in question was not so similar to methods used by Suttle in committing prior crimes that the robbery could be deemed a "signature crime". See State v. Coe, 101 Wash. 2d 772, 684 P.2d 668 (1984). We agree that a "signature crime" analysis is neither relevant nor appropriate here. However, as our discussion of Pam indicates, prior "bad acts" evidence may be admitted under ER 404(b) when that evidence is probative of identity for other reasons, and its admissibility is not limited to "signature crimes". [11] Although the trial court ordered restitution during the sentencing hearing, the order indicates that the restitution was to be as established by separate order. No such restitution order appears in the designated papers, and appellant's counsel does not specifically address the restitution issue in his brief. Thus, whether the court acted properly in ordering restitution is not before us. [12] RCW 7.68.035(1) states in part: "[T]here shall be imposed by the court upon such convicted person a penalty assessment. The assessment shall be in addition to any other penalty or fine imposed by law and shall be one hundred dollars for each case". (Italics ours.)	01-04-2023	10-30-2013
https://www.courtlistener.com/api/rest/v3/opinions/4623892/	May, Stern and Company v. Commissioner.May, Stern & Co. v. CommissionerDocket No. 9595.United States Tax Court1946 Tax Ct. Memo LEXIS 81; 5 T.C.M. (CCH) 806; T.C.M. (RIA) 46223; September 17, 1946Louis Caplan, Esq., 1124 Frick Bldg., Pittsburgh, Pa., for the petitioner. R. Bruce Jones, Esq., for the respondent. HARRON Memorandum Findings of Fact and Opinion HARRON, Judge: Respondent has determined deficiencies in income tax for the fiscal years ended January 31, 1941, 1942, 1943, and 1944, in the respective amounts of $1,069.28, $5,034.24, $619.20, and $1,454.65. Also, the respondent has determined that there is a deficiency in excess profits tax82 for the fiscal year ended January 31, 1941, in the amount of $89,774.93. There are two questions presented for decision. The first question is whether, in the computation of excess profits net income under the provisions of section 736 (a) of the Internal Revenue Code, deductions should be allowed the petitioner for bad debts and repossession losses on uncollectible installment sales made prior to January 1, 1940. The second question is whether petitioner, which filed its income tax returns on the installment basis as provided in section 44 (a) of the Internal Revenue Code and which elected under section 736 (a) to compute its excess profits net income on the accrual basis, may include its reserve for unrealized profits on installment sales in its equity invested capital as "accumulated earnings and profits" within the meaning of section 718 (a) (4) of the Internal Revenue Code. Petitioner filed its return with the collector for the twenty-third district of Pennsylvania. The facts are stipulated and are so found; those pertinent being set forth in the findings of fact. Findings of Fact Petitioner is a corporation, 83 with its principal place of business in Pittsburgh, Pennsylvania. Petitioner keeps its books of account and reports its income on the basis of a fiscal year ending January 31. For the fiscal year ended January 31, 1941, and for many years prior thereto, petitioner was engaged in the business of buying and selling home furnishings to the retail trade and computed its income for income tax purposes on the installment basis under section 44 (a) of the Internal Revenue Code. For the taxable year ended January 31, 1943, petitioner elected, for excess profits tax purposes, to compute its income from installment sales on the accrual basis under section 736 (a) of the Internal Revenuecode. Consistent with its election and pursuant to the requirements of section 736 (a) of the Internal Revenue Code, petitioner filed amended income and excess profits tax returns for the taxable year ended January 31, 1941. The normal tax net income reported by the petitioner in its amended excess profits tax return for the taxable year ended January 31, 1941, computed on the accrual basis, was $399,744.90. The Commissioner determined the normal tax net income84 to be $484,157.95, or a difference of $84,413.05, by disallowing deductions of bad debts in the amount of $7,861.14; repossession losses in the amount of $72,096.58; and State income tax in the amount of $4,455.33. The disallowance of $7,861.14 of bad debts represented accounts receivable determined to be worthless in the taxable year ended January 31, 1941, which arose from installment sales made in taxable years beginning prior to January 1, 1940. The repossession losses in the amount of $72,096.58, disallowed in determining normal tax net income, were losses incurred during the taxable year ended January 31, 1941, from installment sales made in taxable years beginning prior to January 1, 1940. These losses represented the difference between the balances due from customers on the purchase price of merchandise repossessed by petitioner because of customers' defaults and the value of the merchandise at the time of repossession. No reserves for bad debts or for losses on repossessions were set up on petitioner's books of account, nor were any such reserves set up by the respondent in making the disallowances of bad debts and repossession losses hereinabove referred to. The disallowance85 of $4,455.33, State income taxes, is an adjustment resulting from the changes made in Federal income and excess profits tax liabilities by the Commissioner. Petitioner in its amended excess profits tax return for the taxable year ended January 31, 1941, claimed an excess profits credit of $304,094.29 based upon invested capital. The Commissioner determined the excess profits credit under the invested capital method to be $207,097.87, resulting in a difference of $96,996.42, in accordance with the following calculations: Per AmendedPer StatutoryReturnNoticeDifferenceEquity invested capital at February 1, 1940$3,939,768.94$2,625,212.92$1,314,556.02Average addition during yearNoneNoneNoneAverage reduction during yearNoneNoneNoneAverage equity invested capital$3,939,768.94$2,625,212.92$1,314,556.02Average borrowed capital80,191.2580,191.25NoneAverage invested capital$4,019,960.19$2,705,404.17$1,314,556.02Reduction on account of inadmissibles218,781.51116,680.78(102,100.73)Invested capital$3,801,178.68$2,588,723.39$1,212,455.29Excess profits credit 8%$ 304,094.29$ 207,097.87$ 96,996.4286 The accumulated unrealized earnings and profits on installment sales at February 1, 1940, amounted to $1,297,745.79. These unrealized earnings and profits constituted that portion of petitioner's accounts receivable which represented petitioner's uncollected gross profits on the sales from which these accounts originated. The difference of $1,314,556.02 in equity invested capital at February 1, 1940, is attributable entirely to the accumulated unrealized earnings and profits at the beginning of the taxable year and is determined as follows: Unrealized profit on installment sales$1,297,745.79Adjustment of prior years' taxes, including Federal income taxes: Per revenue agent's report, surplus decreased$9,080.66($7,697.35 plus $1,608.92 plus $112.79 less $338.40)Per amended return, surplus increased7,729.5716,810.23Difference as above$1,314,556.02Opinion At the time of the submission of this case, three cases were pending in the Tax Court awaiting decision which involved the same questions as are in issue here. Those cases have been decided as follows: The Hecht Co., 7 T.C. 643">7 T.C. 643; Mackin Corporation, 7 T.C. 648">7 T.C. 648;87 and Kimbrell's Home Furnishings, Inc., 7 T.C. 339">7 T.C. 339. The first question presented is controlled by Mackin Corporation, supra, which was followed in the case of The Hecht Co., supra. Under the holdings of these cases petitioner is entitled to deduct for the fiscal year ended January 31, 1941, losses on account of bad debts and repossession loss from installment sales made in taxable years beginning prior to January 1, 1940, such losses having been determined to be worthless and having been incurred in the taxable year. The parties have stipulated that the total amount of the bad debt losses is $7,861.14, which we understand represents accounts receivable determined to be worthless, and they have stipulated that the amount of the repossession losses is $72,096.58, which is said to represent the differences between the balances due from customers on the purchase price of repossessed merchandise and the value of the merchandise at the time of the repossession. The stipulations and the record do not show what portion of the accounts receivable determined to be worthless and what portion of the so-called repossession losses represent unrealized88 profits. Under the rule of the cases of The Hecht Company and Mackin Corporation, supra, the taxpayer is entitled to a deduction only for the unrecovered cost reflected in such accounts. (Note that in the case of Mackin Corporation the amounts of unrecovered costs of sales were stipulated.) Since the parties have been able to stipulate the facts, there will be no difficulty in their agreeing to the required adjustments in the amounts of the bad debt loss and repossession loss, so that the petitioner may receive deductions in such amounts as it is entitled for both types of losses under this issue, under the rule of the case of Mackin Corporation. See The Hecht Co., supra, where the parties were allowed to make further stipulations upon the amount of the unrecovered cost of the goods involved in the accounts charged off, to be given effect in the Rule 50 recomputation. Recomputation under Rule 50 is necessary in this case to give effect to some items the parties have agreed upon, and because of the holding under Issue 2. The parties can take care of the further adjustments under this Issue in the recomputation. The question presented under the second issue is controlled89 by Kimbrell's Home Furnishings, Inc., supra. It is held that the unrealized profits on installment sales at the beginning of the taxable year may not be included in petitioner's equity invested capital as accumulated earnings and profits in computing its excess profits credit for the taxable year. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623893/	ALPENA SAVINGS BANK, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Alpena Sav. Bank v. CommissionerDocket No. 89273.United States Board of Tax Appeals45 B.T.A. 665; 1941 BTA LEXIS 1086; November 12, 1941, Promulgated 1086 The petitioner bank was reorganized in the year 1933 in the following manner: Its depositors relinquished 50 percent of their deposits in consideration of receiving certificates of participation in the income and liquidation of specific assets which were set aside in a trust for their benefit. The bank then reopened free of all liability in respect of 50 percent of its deposits for which the depositors had received certificates of participation in the income and liquidation of the trust. All of the income of the trust accrued to the trust; all of the expenses of the trust, including taxes, were to be borne by the trust. Under a ruling of the state banking department any income tax collected or to be collected from the petitioner in respect of the income of the trust was to be reimbured to the petitioner by the trust. The payment of any income tax upon the income of the trust for 1934 would deplete the assets of the trust to such an extent that the depositors would not receive payment in full of their claims against the trust. Held that the collection of any income tax from the petitioner for 1934 in respect of the income of the trust is barred by section 3798 of the Internal1087 Revenue Code, as amended by section 406 of the Revenue Act of 1939. Johm C. Bills, Esq., for the petitioner. De Witt M. Evans, Esq., and Paul A. Sebastian, Esq., for the respondent. SMITH 665 This proceeding is for the redetermination of deficiencies in income and excess profits tax for the calendar year 1934 in the amounts of $8,373.42 $3and,063.76, respectively. The deficiencies result from the determination of the respondent that the income from certain trust assets, segregated by the petitioner pursuant to a plan of reorganization, constituted income taxable to the petitioner. 666 FINDINGS OF FACT. 1. The petitioner is a banking corporation, organized under the laws of the State of Michigan for the purpose of conducting a general banking business in the city of Alpena, Michigan. Petitioner was organized in 1893 and actively conducted the banking business, receiving deposits and making loans and discounts, without interruption until February 14, 1933. Petitioner assumed its present name on December 28, 1933, by filing amendatory articles of incorporation, it having been known formerly as the Alpena Trust & Savings Bank. 1088 It filed its return for the taxable year with the collector of internal revenue for the district of Michigan. 2. On February 14, 1933, the Governor of the State of Michigan, by proclamation, closed all state banks and they were subsequently ordered to remain closed until further notice. On March 27, 1933, the petitioner applied to the state banking department for the appointment of a conservator in accordance with state law and one was duly appointed. The bank operated under the conservatorship until September 22, 1933, but was closed to depositors during that time. 3. During the conservatorship above mentioned the Michigan State Banking Department, acting through its conservator, devised a plan for the reorganization of the affairs of the closed bank. This plan was embodied in a report made in July 1933 by E. P. Smith, conservator, to the Banking Commissioner of the State of Michigan. A certified copy of this report is in the record as Exhibit 1. 4. The plan sumitted by the conservator in his report above mentioned was approved by the Banking Department of the State of Michigan and by the Governor of the state and put in operation under the provisions of Act No. 1089 32 of the Michigan Public Acts for the year 1933. 5. The conservator recommended that the state banking department levy a 100 percent assessment against the stockholders of the bank. His recommendation in this regard was carried out. The stockholders were directed to pay the assessment to the petitioner, which in turn was to pay it over to the three trustees appointed by the state banking department. 6. As contemplated by the plan the bank reopened for business on September 22, 1933. Certain depositors enumerated in the plan were paid off in full. Each other depositor in the bank when it was closed was credited with a deposit in the reopened bank in an amount equal to 50 percent of the amount that he had on deposit when the bank closed. The bank opened free from liability to its former depositors for the remaining 50 percent of the amount of the said deposits as of the time the bank closed. Under date of September 19, 1933, a trust 667 was created between the bank and three trustees appointed by the state banking commissioner. Certain designated assets of a book value of $2,287,148.67 of the closed bank were turned over to the trust, which assets were to be liquidated1090 for the benefit of the depositors. The amount of their deposits thus to be liquidated was $2,167,857.25. It was provided that the depositors could look only to the proceeds of these assets, segregated and put in trust, for the recovery of the remaining 50 percent of their deposits. They were to receive interest upon such deposits, but only out of the trust of segregated assets "at such rate as may be determined from time to time by the Commissioner of Banking of the State of Michigan." The bank, in turn, surrendered all claims to the segregated assets of the trust unless and until the depositors were paid in full, principal and interest, and the expenses of administering the trust had been paid. The trust fund composed of the segregated assets of a book value of $2,287,148.67 was augmented by the 100 percent stock assessment referred to above. 6. The trust above mentioned has been in existence since September 19, 1933, during which time it has been in process of liquidation for the benefit of the depositors, beneficiaries therein. All income received from the trust and the proceeds from the liquidation thereof have accrued to the trust. All expenses involved in the operation1091 of the trust, including taxes of all kinds, have been borne by the trust. 7. Paragraph 4 of the trust agreement of September 19, 1933, provides in part: Such trustees may, with the approval of the Commissioner, pay any and all taxes, assessments, special assessments, and levies necessary to preserve the trust property or any part thereof covered at any time by this instrument, or in which they have any rights, title, or interest whatsoever, * * 8. Under date of June 4, 1940, the state banking department made the following ruling: To the Reorganized Bank and/or The Trustees of Segregated Assets Addressed Gentlemen: Re: Determination of income and excess profits taxes on operations of segregated trusts Reference is hereby made to our circular to you under date of January 19, 1940, concerning filing of income and excess profits tax returns and the fact that the Commissioner of Internal Revenue has ruled that banks reorganized under Act 32 of the Public Acts of 1933 should file a joint return with the segregated trust for each taxable year combining the income, losses, and all deductions of the bank and of the segregated trust. In connection with any disposition1092 of claims of the Bureau of Internal Revenue, growing out of assessments for income and excess profits tax, it is requested that - when a claim is made against a reorganized bank involving the income of a segregated trust and when such claim has been finally established by the Bureau - the portion of the tax applicable to income of the segregated trust must be paid by the trustees and charged as operating expense of the trust.668 After giving this problem much consideration, it is our conclusion that the establishment of any claim against segregated or trusteed assets of a reorganized bank on the earnings of the trust is a proper charge under the terms of the plan of reorganization, and trust agreement. In all such instances, where the payment of such a tax would diminish assets otherwise available and necessary for full payment of creditors' claims, it is requested that claim for immunity from the tax be made and that a protest be filed so that any rights respecting non-payment, or to recover the amount paid, may be preserved. When and if any tax claims are presented by the Bureau of Internal Revenue for payment, such claims should immediately be submitted to this1093 office together with complete information, for our review and approval prior to payment. The trust operated entirely independently of the petitioner. It had an office separate from that of the petitioner. The petitioner exercised no control whatever over the activities of the trust. 9. The depositors have been paid 80 percent of their principal claims against the trust. Inasmuch as they received 50 percent of their old deposits when the bank reopened and have now received 80 percent of 50 percent of the remainder, they have received an aggregate of 90 percent of the principal amount of their deposits when the bank closed. They have been paid no interest on their claims, although under paragraph 7 of the trust agreement of September 19, 1933, they are entitled to such interest at a rate to be determined by the state banking commissioner. 10. Up to the time of the hearing of this proceeding (April 7, 1941), the remaining assets of the trust showed a book value of $867,469.41, which included uncollected stock assessments of $140,244.10, of which it was believed only $2,056.25 was collectible. The appraised value of all such assets was only $307,911.30. At the same time1094 the unpaid claims of the depositors for unpaid principal amounted to $342,550.97. This leaves a deficiency in assets of $34,639.67 below the claims of the depositors for principal. As stated above, no interest has been paid on the depositors' claims. Computed at the rate of two percent per annum up to the close of business on March 24, 1941, this interest would amount to approximately $186,000. The excess of liabilities over assets as of March 24, 1941, including claims for principal and interest so computed, is $220,639.67. 11. For the calendar year 1934 the petitioner did not include in its income tax return any transactions relating to the trust. All of the bookkeeping connected with the segregated assets was done by the trustees. The segregated assets were not carried as assets of the petitioner; the leabilities of the trust were not liabilities of the petitioner. 12. The net income of the petitioner for 1934, as shown by its return filed for that year, was $55,663.92. The income of the trust for 1934 was $59,018.30. 669 In the determination of the deficiencies for 1934 the respondent added to the net income reported by the petitioner the income of the1095 trust and made other adjustments which increased the petitioner's adjusted net income. Of the asserted deficiencies, $8,063.09 income tax and $2,950.91 excess profits tax were attributable solely to the income of the segregated assets and the balance to the income of the unsegregated assets. OPINION. SMITH: The respondent has determined deficiencies in income and excess profits taxes against petitioner for 1934. To the extent that the taxes are attributable to income in respect of its unsegregated assets, the petitioner now concedes liability; in other words, it concedes that it is liable for deficiencies in income and excess profits taxes for 1934 in the respective amounts of $310.33 and $112.85, which it claims already to have paid. The sole question in issue is whether the petitioner is liable to income tax for 1934 in respect of the income of a trust of segregated assets which were held by three trustees for the benefit of its depositors. The petitioner claims that it is exempt from tax upon such income under the provisions of section 3798 of the Internal Revenue Code, as amended by section 406 of the Revenue Act of 1939. That section, as amended, provides, so far1096 as material, as follows: (b) Whenever any bank or trust company, a substantial portion of the business of which consists of receiving deposits and making loans and discounts, has been released or discharged from its liability to its depositors for any part of their claims against it, and such depositors have accepted, in lieu thereof, a lien upon subsequent earnings of such bank or trust company, or claims against assets segregated by such bank or trust company or against assets transferred from it to an individual or corporate trustee or agent, no tax shall be assessed or collected, or paid into the Treasury of the United States on account of such bank, or trust company, such individual or corporate trustee or such agent, which shall diminish the assets thereof which are available for the payment of such depositor claims and which are necessary for the full payment thereof. (c) (1) Any such tax collected, whether collected before, on, or after the date of enactment of the Revenue Act of 1938, shall be deemed to be erroneously collected, and shall be refunded subject to all provisions and limitations of law, so far as applicable, relating to the refunding of taxes. (2) Any1097 tax, the assessment, collection, or payment of which is barred under subsection (a) of this section, or any such tax which has been abated or remitted after May 28, 1938, shall be assessed or reassessed whenever it shall appear that payment of the tax will not diminish the assets as aforesaid. (3) Any tax, the assessment, collection, or payment of which is barred under subsection (b) of this section or any such tax which has been refunded after May 28, 1938, shall be assessed or reassessed after full payment of such claims of depositors to the extent of the remaining assets segregated or tranferred as described in subsection (b). The respondent contends that the trust set up in 1933, principally out of the segregated assets of the petitioner, is not a separate taxable 670 entity, but that the gains and losses and net income of the trust must be incorporated in the petitioner's income tax return for 1934. The petitioner, although not having any control over the trust, and although its assets are not the assets of the petitioner and its liabilities are not the liabilities of the petitioner, and although its bookkeeping is not reflected in the petitioner's books of account, 1098 does not combat the contention of the respondent that the trust is not a separate tax entity. It contends, nevertheless, that it is not liable to income tax in respect of any net income of the trust for 1934 by reason of the fact that the payment of the tax would reduce the assets of the trust available for the payment of claims of depositors. At the hearing of this case counsel for the respondent stated: In this case, in the year 1934, the bank made a profit of some fifty-five thousand dollars and the profits from what he called the segregated assets, amounted to about fifty-nine thousand dollars. There is one taxable entity, and the deficiency is asserted against the Alpena Savings Bank, which is a going concern, making money each year, and has plenty of free assets and also sufficient income to pay these taxes, which would not in any way, diminish the amount that the depositors would be entitled to. That is really the issue in this case. * * * He further stated: Naturally, if the taxes are paid out of these segreated assets, it would diminish the assets, so that there would not be as much available for the depositors, as you can see, but, on the other hand, if we collect1099 the taxes from whom the deficiency is asserted, there is no harm done to the depositors in any way, shape, or form, except what they have done by their own legal arrangement. The respondent further contends that the Board has no jurisdiction in the determination of the deficiency to consider the effect of section 3798 of the Internal Revenue Code, which relates to "Exemption of Insolvent Banks from Tax." The respondent asserts that it is the function of the Board merely to determine the deficiency and that section 3798 of the Internal Revenue Code pertains only to the collection. This contention of the respondent must be denied upon the authority of West Town State Bank,32 B.T.A. 531">32 B.T.A. 531; Republic Bank & Trust Co.,36 B.T.A. 680">36 B.T.A. 680; Valuation Service Co.,41 B.T.A. 811">41 B.T.A. 811. By the trust agreement of September 19, 1933, in accordance with the terms of which the trust was set up, it is provided that the trust shall pay all of its own expenses, including taxes. The trust fund was managed in accordance with the instructions of the state banking commissioner. He has ruled that if the bank is subjected to any Federal income tax in respect1100 of the income of the trust the trust shall pay it. Since the respondent admits that the payment of the tax by the trust would reduce the assets necessary for the payment of claims of the depositors, both the assessment and collection *671 of the tax are clearly prohibited by section 3798 of the Internal Revenue Code. In Valuation Service Co., supra, which is cited herein for comparison, we stated: As respondent points out, it is not the purpose of the relevant legislation to relieve those having a proprietary interest in the bank from their appropriate tax liability. Jackson v. United States,20 Ct.Cls. 298. But even if there were a possibility under the facts here that such a result might eventuate, the danager is eliminated by the provisions of the 1938 Amendment, leaving open the ultimate liability of those governed by the statute until the outcome of liquidation is apparent. The same is true here. Reviewed by the Board. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623894/	CONSOLIDATED MARBLE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Consolidated Marble Co. v. CommissionerDocket No. 14712.United States Board of Tax Appeals15 B.T.A. 193; 1929 BTA LEXIS 2899; February 5, 1929, Promulgated 2899 1. Expenditures by a corporation to repay money loaned or advanced are not deductible as ordinary and necessary expenses. 2. The value of a leasehold determined from the evidence. H. H. Shelton, Esq., for the petitioner. Arthur Carnduff, Esq., for the respondent. TRAMMELL193 This is a proceeding for the redetermination of a deficiency in income and profits tax for the calendar year 1920 in the amount of $3,833.30. The errors assigned are, first, the action of the respondent in disallowing as a deduction an amount contributed by the petitioner to a railroad company for the purpose of constructing a spur track of railroad which would serve petitioner's plant; second, the action of the respondent in reducing invested capital by the sum of $60,000, the value of a lease claimed by the petitioner to have been acquired for stock. FINDINGS OF FACT. The petitioner is a Tennessee corporation, having its principal office at Knoxville. It is engaged in the business of operating marble quarries near that city. One of the petitioner's properties was located at Newbert Springs, Knox County, Tenn., about seven miles from Knoxville, and about2900 four or four and one-half miles east of the Knoxville & Augusta Railroad, between Maryville and Knoxville. The Knoxville & Augusta Railroad is a branch line of the Southern Railroad. The quarry had no railroad facilities and a proposition was made to the petitioner to join in with others and make a contribution for the purpose of inducing the railroad company to put in a spur track which would come near the petitioner's property and also afford 194 railroad facilities to the other quarries in that vicinity. The petitioner agreed to the proposition. It was then understood that the petitioner's pro rata share of the contribution would be $7,000. It was later ascertained, however, that the petitioner would have to contribute $14,000. The spur track did not entirely reach the petitioner's property and the petitioner constructed a narrow gauge railway from its quarry in order to make connection with the spur track railroad. The spur track was completed some time in 1919, and the petitioner did some operating in 1919 and shipments were made in 1920 and subsequent years. The money on behalf of the petitioner was contributed by Jones, one of its stockholders in 1915, and2901 1916, and the last debit to the railroad account was on February 21, 1916. The petitioner became indebted to Jones, its stockholder, for these advances and obligated itself to repay them. The total amount paid out by Jones for and on behalf of the petitioner from December 2, 1915, until February 21, 1916, inclusive, amounted to $14,000. On January 1, 1920, the amount of $14,000 was charged to profit and loss. The spur track when completed was for the use of the general public. While all of the $14,000 contributed for the construction of the spur railroad track was advanced by Jones personally, it was to be repaid to him by the petitioner out of profits of the company from operation. It did not begin its actual operations of shipping marble from the quarry until 1920, although shipments were made into the quarry of supplies and equipment in 1919. Of the money advanced by Jones on behalf of the corporation, $3,000 was repaid to him on November 4, 1919, $669.61 was paid him on December 22, 1920, and the balance of $14,000 was fully paid to him at some time later. The petitioner acquired a lease on a marble quarry on May 14, 1915, in consideration of the issuance of $60,0002902 par value of the petitioner's capital stock. The lease had been acquired by J. B. Jones, as trustee for the petitioner corporation, from J. M. Leek and R. L. Bowman for the consideration of $1,900 cash and one-sixth of the stock of the corporation to be organized to Leek and one-sixth to Bowman, and the further consideration in the way of royalties as set out in the lease and in the sublease which was made to Jones. Leek and Bowman did business as a copartnership under the name of J. M. Leek & Co., and they had previously acquired the lease on the premises. The entire capital stock of $60,000 thereof was issued to Jones, Leek, and Bowman, one-sixth each being issued to Leek and Bowman, and the balance to Jones. Subsequent operations of the quarry disclosed that the marble was worthless for commercial purposes on account of iron spots appearing therein. The value of the lease was not in excess of $1,900. 195 The respondent disallowed in invested capital any amount with respect to the leasehold acquired and disallowed the deduction of $14,000 claimed by the petitioner with respect to the contribution of the construction of the spur track railroad, the respondent treating2903 the payments in respect to the railroad as capital expenditures. The books and accounts of the petitioner were kept on the accrual basis. OPINION. TRAMMELL: With respect to the payment of $14,000 by the petitioner in connection with the building of the spur track, it is contended by the petitioner that this amount represents ordinary and necessary expenses and is deductible as such. On the other hand, it is contended by the respondent that the expenditure represents a capital asset and is not deductible as expense. Even if we concede for the sake of argument in this case that the expenditure does not represent a capital acquisition on the part of the petitioner, it does not follow that the amount is deductible as an ordinary and necessary expense in 1920 when it is claimed by the petitioner. The expenditure was made for the petitioner by Jones as an individual for and in behalf of the corporation over the years 1915 and 1916. The money was advanced by Jones in the way of a loan to the corporation, which the corporation became obligated to repay. The expenditures actually made by the petitioner in 1919 and 1920 were in payment of advances or loans made to it, or money2904 expended for it and clearly the repayment of loans or money so advanced can not be considered as an ordinary and necessary expense. On the other hand, there is no clear and positive testimony that any amount was actually paid out by the corporation to Jones or to any one else in this connection in 1920 except the amount of $669.61, which appears to have been paid on December 22, 1920. Jones testified that he did not know when the balance was paid to him, but that he does know that the entire amount was repaid to him at some time. This is not sufficient evidence to warrant us in finding that the petitioner either paid or incurred an expense of $14,000 in 1920 as claimed by the petitioner, even if all the other contentions of the petitioner in this respect were conceded to be correct. But, since the petitioner was on the accrual basis, only the amounts of expense which were accrued in that year are deductible and we find no evidence ofthe accrual of any liability with respect to this railroad spur track in 1920. All of the transactions occurred in prior years except the repayment to Jones for the advances he had made. In view of the foregoing, it becomes unnecessary for us to2905 decide whether the amount constituted a capital expenditure or an ordinary 196 and necessary expense. If it were admittedly an ordinary and necessary expense it would not be deductible in 1920. The respondent, on the other hand, has determined that it represents a capital expenditure. In either event, the expenditure is not deductible in 1920. With respect to the acquisition of the lease, the petitioner contends that the evidence establishes the fact that the lease was worth $60,000, which is the par value of the stock claimed to have been issued therefor, and that this amount should be included in invested capital. It appears, however, that Jones, acting as trustee for and in behalf of the corporation, actually acquired the lease for the the consideration of $1,900 in cash and one-third of the capital stock of the corporation, that is to say, one-sixth each to Leek and Bowman and the further consideration in the way of royalties set out in the instrument. The consideration paid by Jones as trustee, who was acting for and on behalf of the corporation, represented the payment by the corporation, and the fact that the $60,000 stock was issued to Jones and Leek and Bowman2906 does not indicate that the entire $60,000 stock was issued for the lease. Not in excess of $20,000 par value of stock and $1,900 in cash represented the payment for the leasehold. However, this fact would not prevent the petitioner from having included in its invested capital the actual value of the lease, acquired for stock, although only $20,000 of stock and $1,900 in cash was paid therefor. The question is, What was the value of the lease so acquired? These facts might indicate, however, that it was not worth $60,000 as contended by the petitioner. There is some evidence as to the sales of stock by the persons who acquired it from the persons to whom the corporation originally issued it, but there is no evidence as to when these sales occurred or as to any circumstances connected therewith, and, in view of these facts, lsuch sales have very little if any bearing upon the value of the lease acquired. It may well be that the portion of the stock which was issued to Jones, who was acting as trustee for the corporation, might have been for services rendered or for other considerations not set out in the record. In any event, Jones, acting in behalf of the corporation in acquiring*2907 the lease for the corporation, clearly did not acquire it for himself, and when he turned it over to the corporation for the stock, the corporation already had the beneficial ownership thereof. That transaction merely amounted to the transfer from a trustee to the beneficiary. On the question of the value of the leasehold to Jones, from all the evidence we find that its value is not shown to have been in excess of $1,900. No amount in excess of that amount can therefore be included in invested capital with respect to the lease. Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623895/	Estate of Oscar A. Nordquist, Deceased, Georgiana G. Nordquist, Executrix, and Georgiana G. Nordquist v. Commissioner.Estate of Nordquist v. CommissionerDocket No. 4146-70United States Tax CourtT.C. Memo 1972-198; 1972 Tax Ct. Memo LEXIS 60; 31 T.C.M. (CCH) 994; T.C.M. (RIA) 72198; September 11, 197260 The petitioner supplied funds to enable another taxpayer to purchase certain stock pursuant to an agreement whereby the petitioner might, at the election of the other taxpayer, receive back either cash or a portion of the stock. When the taxpayer elected to pay the petitioner cash, the resulting gain was not realized on the sale or exchange of a capital asset within the meaning of sec. 1221, I.R.C., 1954. Docket No. 4146-70. T.C. Memo. 1972-198. John H. Perkins, Jr., Michael J. Close, and Bruce A. Ackerman, 140 Broadway, New York, N. Y., for the petitioners. Michael K. Phalin, for the respondent. QUEALYMemorandum Findings of Fact61 and Opinion QUEALY, Judge: In this proceeding, the Commissioner determined a deficiency in Federal income tax against the petitioners for the year 1965 in the amount of $2,569.60, together with an addition to the underpayment of tax for negligence pursuant to section 6653(a). 1 The petitioners have conceded the addition to the tax under section 6653(a). The sole question for decision is whether the sum of $11,400 reported by the petitioner as a long-term capital gain should properly have been included as ordinary income for the year 1965. Findings of Fact All of the facts have been stipulated and are found accordingly. At all times material herein, Oscar A. Nordquist and Georgiana G. Nordquist were husband and wife. They duly filed a joint Federal income tax return for the taxable year 1965 with the district director of internal revenue, St. Paul, Minnesota. Oscar A. Nordquist died December 22, 1968. Georgiana G. Nordquist was appointed executrix of his estate. On the date of the filing of the petition herein, her legal residence was Minneapolis, Minnesota. 262 995 On February 12, 1964, petitioner entered into an agreement with one Oran D. Powell (hereinafter referred to as "Powell") pursuant to which petitioner would provide funds for the acquisition by Powell of stock in a corporation to be organized as Brookdale Motors for the purpose of operating a Ford dealership. Insofar as material herein, the agreement provided that upon the formation of the corporation, petitioner would advance to Powell the sum of $12,000 for the purpose of enabling Powell to acquire 50 percent of the stock of Brookdale Motors. As security for such advance, Powell agreed to deliver to petitioner all of the stock of Brookdale Motors to be acquired by him, together with a mortgage on his home in the amount of $12,000. The agreement further provided that at any time within 15 months from the effective date of the lease of the building in which Brookdale Motors would transact its business, Powell might terminate the agreement by the payment63 to the petitioner of the sum of $24,000; at any time within 26 months from the effective date of the lease, Powell had the right to terminate the agreement by payment to the petitioner of the sum of $26,000; and, finally, if Powell did not elect to terminate the agreement on or before the 26th month from the effective date of the lease, Powell would transfer to petitioner the equivalent of 12 percent of the then outstanding stock of Brookdale Motors. Notwithstanding the terms of the agreement, Powell did not pledge any stock of Brookdale Motors nor did he give a mortgage on his home to the petitioner as security for the $12,000. In November 1965, or within the 15month period prescribed in the agreement, Powell gave to the petitioner the sum of $12,000 in cash and a first mortgage note for $12,000, having a then fair market value of $11,400, which petitioner accepted as constituting payment of $24,000 within 15 months of the effective date of the lease. In accordance therewith, the agreement was thereupon terminated. Petitioner reported the sum of $11,400, being the difference between the sum advanced by petitioner to Powell and the cash and fair market value of the mortgage note64 received by the petitioner from Powell as gain from the sale or exchange of a capital asset held for more than 6 months in accordance with sections 1221 and 1222. Opinion Section 1221 defines a capital asset as "property held by the taxpayer (whether or not connected with his trade or business)," with certain exclusions not material to a decision of this case. The petitioner contends that she sold or exchanged a capital asset, stock of Brookdale Motors, when she received cash and a first mortgage note from Powell in November, 1965. The petitioner argues that when she advanced Powell the sum of $12,000 pursuant to the agreement, she became the equitable owner of a part of the stock of Brookdale Motors to be acquired by Powell. Therefore, when Powell elected to pay the petitioner the equivalent of $23,400, consisting of cash of $12,000 and a first mortgage note in the face amount of $12,000, in lieu of the delivery of said stock, there resulted a sale of the stock by the petitioner. Hence, petitioner argues, she sold a capital asset in which she had held a beneficial interest for more than 6 months, citing Quincy A. Shaw McKean, 6 T.C. 757">6 T.C. 757 (1946). In the McKean case, 65 the taxpayer and his associate paid money to one Bird to enable him to acquire stock, in return for which Bird promised to deliver one-half of the stock to the taxpayer. Bird never delivered the stock and the taxpayer sued for specific performance. That suit was settled by a cash payment to the taxpayer. This Court held that the taxpayer had acquired a present benficial ownership in the stock and the profit was taxable as a gain from the sale of a capital asset. There, unlike here, the taxpayer's claim to the stock was unconditional. The other cases cited in support of this contention, Harold Becher, 22 T.C.M. (CCH) 1251">22 T.C.M. 1251 (1963) and I.C.Bradbury, 23 B.T.A. 1352">23 B.T.A. 1352 (1931) are also distinguishable for the same reason. On the facts in this case, the Court is at a loss to understand how it can be argued that the petitioner ever acquired an interest in any stock. The petitioner gave Powell the sum of $12,000 to invest in the stock of Brookdale Motors on his own behalf. In consideration, Powell agreed either to pay the petitioner a sum certain or to transfer to the petitioner the equivalent of 12 percent of the stock of the corporation. Whether we characterize the transaction*66 as a loan, an option agreement, or merely as a transaction entered into for profit, is 996 immaterial. What the petitioner would receive in return for her investment of $12,000 was within Powell's control. By his choice, she received the equivalent of $23,400. During the period between her original advance and the repayment, it could not be determined whether she would receive $24,000, $26,000 or 12 percent of the stock of Brookdale Motors. In fact, even if she had ultimately received the stock, the transaction could well have resulted in the realizatio of a taxable gain. Cf. Elverson Corporation v. Helvering, 122 F. 2d 295 (C.A. 2, 1941). In this case what the petitioner received was nothing more than what she was entitled to under her contract. Cf. Walter P. Coleman, 8 B.T.A. 1126">8 B.T.A. 1126 (1927). She sold nothing. Powell merely performed his side of the "bargain." It is axiomatic that if one contracts for ordinary income, ordinary income will result. That is precisely the case here and the presence of a possibility that stock might be received, without more, does not change the outcome. Accordingly, Decision will be entered for the Respondent. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩2. The estate of Oscar A. Nordquist is a petitioner herein solely by reason of the decedent having filed a joint income tax return with his wife. Hereinafter references to "petitioner" are to Georgiana G. Nordquist.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623896/	ABDOLVAHAB S. and JEAN D. PIRNIA, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentPirnia v. CommissionerDocket No. 14523-87United States Tax CourtT.C. Memo 1989-627; 1989 Tax Ct. Memo LEXIS 627; 58 T.C.M. (CCH) 740; T.C.M. (RIA) 89627; November 27, 1989Thomas A. Baldwin, for the petitioners. Jeffrey L. Bassin, for the respondent. WRIGHTMEMORANDUM FINDINGS OF FACT AND OPINION WRIGHT, Judge: By notice of deficiency dated February 23, 1987, respondent determined a deficiency in petitioners' Federal income tax for the taxable year 1982 in the amount of $ 14,747. 629 After concessions, the remaining issue for decision is whether petitioner Jean D. Pirnia's show horse activity was engaged in for profit during taxable year 1982 within the meaning of section 183(a). 1FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. The stipulation of facts and accompanying exhibits are incorporated by this reference. Petitioners Dr. Abdolvahab S. and Jean D. Pirnia resided in Dayton, Ohio, when they filed their petition. Petitioners were married and filed a joint Federal income tax return for 1982, but are now divorced. During 1982, Dr. Pirnia's net income from his medical practice, petitioners' only source of income, was $ 95,005.67. In September of 1980, petitioner (all references to petitioner are to Jean D. Pirnia) began taking riding lessons at Bonnie Brooke Farms, located in Dayton, Ohio. Petitioner had little prior experience with horses and had never owned one. Joe and Bonnie McCurry, the owners of Bonnie Brooke630 Farms, encouraged petitioner to buy a high-caliber horse which could be trained as a show horse and resold at a profit. Over a period of several months petitioner examined several horses and consulted with various show horse owners and breeders. In April of 1981, petitioner bought Denmark, a 5-year-old gelding, from Bonnie Brooke Farms for $ 8,000. A 5-year-old horse is considered young for show purposes. Denmark had good blood lines and came from well-respected breeders. Prior to her purchase of Denmark, Joe McCurry assured petitioner that the horse could be sold at a profit within six months and would double or triple in value within a year. Petitioner relied on McCurry's assurances in purchasing Denmark. Several years later petitioner learned that McCurry had purchased Denmark for $ 2,000 shortly before he sold it to her. During the time petitioner owned Denmark she rode the horse only 3 times. Denmark was trained and shown by Joe McCurry from the date of purchase until the fall of 1983. Despite performing poorly at most showings, Denmark won several small cash prizes during 1982. During 1982, 1983, and 1984, petitioner continually tried to sell Denmark. Her efforts631 included advertising Denmark in horse periodicals and putting him through an auction. Her efforts were unsuccessful. In March of 1982, petitioner bought a mare, Country Madam, for $ 25,000. The seller was Jim Aikman, one of the foremost breeders of saddlebreds in the United States and president of the Saddlebred Association. Country Madam was sired by Wild Country, an Aikman horse whose foals commanded high prices. Joe McCurry, who served as broker and received a commission on the sale, convinced petitioner that she could resell Country Madam for $ 50,000 within 6 months. Petitioner relied on McCurry's assurances in deciding to invest in Country Madam. Petitioner and McCurry entered into a partnership with the understanding that McCurry would pay the training expenses and share in the profits when Country Madam was sold. After repeated poor results in showings, petitioner decided the fault lay with the trainer rather than the horse. She paid McCurry $ 7,500 to dissolve the partnership and moved Country Madam to a Kentucky horse farm owned by Don Harris, who informed her that the horse was worth no more than $ 15,000. After evaluating the horse, Harris, who generally trained632 horses worth $ 100,000 to $ 1,000,000, informed petitioner that Country Madam was not of high enough quality to justify his training fees. He recommended that she transfer the horse to the Close Stable in Louisville, which dealt in lower quality horses, in order to more successfully market Country Madam. In February 1984, petitioner moved Country Madam and Denmark to the Close Stable where Denmark was shown fairly successfully. However, petitioner still could not find a buyer for the horse. During 1982 petitioner spent 20 hours a week at Bonnie Brooke Farms learning about horse training, breeding, feeding, tack care, and grooming. Because she had two young children to care for, petitioner could not devote all her attention to the activity. She subscribed to eight different periodicals and journals on horse showing and breeding, and became a member of the Tri-State Saddlebred Association, the American Saddlebred Association, and the United Professional Horse Association. Petitioner maintained detailed records which included all expenditures for each individual horse. In February of 1983, petitioner opened a separate checking account for the show horse activity. In the spring633 of 1983, approximately two years after beginning her show horse activities, petitioner changed the focus of her business from raising show horses to horse breeding. Rather than training horses for resale, petitioner intended to sell the foals produced by her broodmares. Because she would no longer incur expenses for training and showing the horses, petitioner thought the breeding activity would be profitable. Petitioner attended seminars, conventions, auctions, and actively solicited the advice of experts to educate herself in the field of horse breeding. She devoted an average of 25 hours each week to her horse breeding activity. Petitioner delivered a foal, cleaned stalls, and learned to perform other functions essential to a breeding operation. Petitioner had all mares examined by a veterinarian prior to purchase. However, two of her brood mares, Country Madam and Stardust, developed pseudomonas infections which resulted in aborted foals. There were four unsuccessful foalings as a result of the pseudomonas infections. Because the mares did not produce as many foals as petitioner had originally estimated, the breeding activity was unprofitable. Petitioner considered purchasing634 a horse farm in order to expand her breeding activity. In 1985 she came close to purchasing Crabtree Farm in Louisville, Kentucky. Petitioner also searched for a suitable property near her home in Dayton. After discussing the matter with various horse farm owners, she decided that because she could not devote all of her time to breeding horses the chances of making a profit on a farm were slim, and therefore she did not purchase a property. Petitioner occasionally rode one of her brood mares, Princess, in order to exercise the horse. She never rode the other mares (Country Madam, Stardust, Never Never, and Noon Time Affair), nor did she allow her children to ride them. Within a few weeks of petitioners' separation in 1986, petitioner sold all remaining horses to a friend who owned a horse farm. Petitioner's purchases and sales of horses were as follows: HorseDate AcquiredPurchase PriceDate SoldSales PriceDenmark4/81$ 8,000 1/85$ 5,000Country Madam3/8225,0004/864,000Princess4/839,0004/861,000Never Never3/84Princess' foal4/861,500Stardust2/857,2004/861,000Noon Time Affair7/85Country Madam's foal4/862,500635 The income and expenses of petitioner's show horse and breeding activity were as follows: Gain (Loss)Total Farm Out-of-fromOtherIncome PocketDepreci-YearHorse SalesIncome(Loss) Expensesation1981-0- -0- -0- $ 3,483.00$ 1,314.001982-0- $ 250.33$ 250.33 8,424.355,887.741983-0- 328.50328.50 25,972.138,823.071984-0- 395.00395.00 27,450.009,172.001985$ 2,576.00 -0- 2,576.00 18,813.948,480.001986(5,316.00)-0- (5,316.00)6,298.81-0- ($ 2,740.00)$ 973.83($ 1,766.17)$ 90,442.23$ 33,676.81 TotalNet Gain FarmorYear Expenses(Loss)1981$ 4,797.00($ 4,797.00)198214,312.09( 14,061.76)198334,795.20( 34,466.70)198436,622.00( 36,227.00)198527,293.94( 24,717.94)19866,298.81( 11,614.81)$ 124,119.04($ 125,885.21)OPINION Respondent asserts that section 183 disallows all deductions attributable to petitioner's show horse activity. Section 183(a) supplies the general rule which disallows all deductions attributable to activities "not636 engaged in for profit." Section 183(b)(1) then allows those deductions otherwise allowable regardless of profit objective, e.g., interest, State and local taxes. In addition, section 183(b)(2) allows those deductions which would have been allowable had the activity been engaged in for profit, but only to the extent that gross income from the activity exceeds the deductions allowable under section 183(b)(1). Respondent argues that petitioner's show horse activity was "not engaged in for profit" and that, therefore, deductions taken by petitioners for taxable year 1982 which are attributable to such activity must be disallowed to the extent they exceed gross income from the activity. Petitioner replies that she commenced and continued her show horse activity with the requisite profit objective. Thus, petitioner argues, section 183 is inapplicable, and the deductions attributable to the show horse activity are fully deductible under section 162. We must decide whether section 183 applies to petitioner's show horse activity. Section 183(c) defines an activity which is "not engaged in for637 profit" as, "any activity other than one with respect to which deductions are allowable for the taxable year under section 162 or under paragraph (1) or (2) of section 212." Thus, section 183 does not apply if petitioner's activity gives rise to deductions under section 162 or under section 212(1) or (2). Deductions are permitted under those sections if an activity is commenced and continued with the "actual and honest objective of making a profit." Dreicer v. Commissioner, 78 T.C. 642">78 T.C. 642, 645 (1982), affd. without opinion 702 F.2d 1205">702 F.2d 1205 (D.C. Cir. 1983); Engdahl v. Commissioner, 72 T.C. 659">72 T.C. 659, 666 (1979); Golanty v. Commissioner, 72 T.C. 411">72 T.C. 411, 426-427 (1979), affd. without published opinion 647 F.2d 170">647 F.2d 170 (9th Cir. 1981); Brannen v. Commissioner, 78 T.C. 471">78 T.C. 471, 501 (1982), affd. 722 F.2d 695">722 F.2d 695 (11th Cir. 1984). Petitioner needs not, however, establish that she had a "reasonable" expectation of profit. Sec. 1.183-2(a), Income Tax Regs.; Dreicer v. Commissioner, supra at 644-645. Whether petitioner had the requisite objective is638 an issue of fact to be resolved on the basis of all surrounding circumstances. Sec. 1.183-2(b), Income Tax Regs.; Dreicer v. Commissioner, supra at 645. In making our determination, we give greater weight to objective factors than to petitioner's statements of intent. Sec. 1.183-2(a), Income Tax Regs.; Dreicer v. Commissioner, supra at 645. Section 1.183-2(b), Income Tax Regs., provides a nonexclusive list of relevant factors, which are in large part a synthesis of prior case law, to be considered in determining whether an activity is engaged in for profit. Benz v. Commissioner, 63 T.C. 375">63 T.C. 375, 382-383 (1974). These factors include: (1) the manner in which the taxpayer carried 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 the assets used in the activity may appreciate in value; (5) the success of the taxpayer in carrying on other639 similar or dissimilar activities; (6) the taxpayer's history of income or loss with respect to the activity; (7) the amount of occasional profit, if any, which is earned; (8) the financial status of the taxpayer; and (9) whether elements of personal pleasure or recreation are involved. Sec. 1.183-2(b), Income Tax Regs. No single factor is controlling, but rather it is an evaluation of all the facts and circumstances in the case, taken as a whole, which is determinative. Sec. 1.183-2(b), Income Tax Regs.; Abramson v. Commissioner, 86 T.C. 360">86 T.C. 360, 371 (1986). In applying these factors to the instant case we attach great weight to petitioner's testimony, and the documentary evidence she introduced in support of her testimony, which was credible, unimpeached, and uncontradicted by any evidence offered by respondent. We first consider whether petitioner conducted her show horse activity in a businesslike manner; we find she did. Although petitioner did not maintain a separate checking account for her show horse activity during the year at issue, she opened a separate account in February of the following year. In640 addition, petitioner maintained detailed records of her show horse activity. The maintenance of complete and accurate books and records indicates that an activity is engaged in for profit. Sec. 1.183-2(b)(1), Income Tax Regs. Further, petitioner discontinued her show horse activities and began breeding horses when she realized that the show horse activity would never be profitable. Discontinuation of an unprofitable branch of operations indicates a profit objective. Sec. 1.183-2(b)(1), Income Tax Regs.The second factor to be considered is the expertise of petitioner or her advisors. Petitioner went to great lengths to develop a degree of expertise in horse showing. Although petitioner had little prior experience with horses, she sought the advice of persons knowledgeable about show horse operations. In furtherance of her horse showing activities, petitioner read books, subscribed to various periodicals, and attended seminars and clinics641 related to horse showing. She also consulted regularly with a veterinarian. Preparation for an activity by extensive study of its accepted business, economic, and scientific practices, and consultation with those who are expert therein, indicates that the taxpayer entered into the activity for profit. Sec. 1.183-2(b)(2), Income Tax Regs.We next examine the amount of time and effort petitioner devoted to her show horse activity. Petitioner devoted 20 to 25 hours a week to the activity. She had no outside employment other than her show horse activity. Petitioner could not devote all of her time to the activity because she had two young children to care for. However, the fact that petitioner devoted a limited amount of time to the activity does not necessarily indicate a lack of profit objective where petitioner employs competent and qualified persons to carry on such activity. Sec. 1.183-2(b)(3), Income Tax Regs. During 1982 petitioner employed642 Joe McCurry to assist in training and showing the horses. She also consulted regularly with a veterinarian. Because petitioner employed "competent and qualified persons" to assist her in the operation of the activity, the limited amount of time she devoted to the activity does not weigh against her. We next consider whether petitioner expected that the horses she purchased would increase in value. Petitioner expected the first horse she purchased, Denmark, to double in value within six months. She expected the second horse she purchased, Country Madam, to triple in value within a year. In developing these expectations petitioner relied on the representations of Joe and Bonnie McCurry, both of whom were knowledgable in the show horse business. Petitioner, who had never owned a horse, was totally unaware that the McCurrys were taking advantage of her inexperience. Because petitioner paid highly inflated prices for the horses, they were ultimately sold at a loss. However, petitioner purchased and trained the horses with the expectation that they would increase in value. Prior experience in similar or dissimilar activities is also to be considered. The fact that the taxpayer643 has engaged in similar activities in the past and converted them from unprofitable to profitable enterprises may indicate that she is engaged in the present activity for profit, even though the activity is presently unprofitable. Sec. 1.183-2(b)(5), Income Tax Regs. Petitioner had no prior experience with horse showing activities. However, while prior experience may indicate that a taxpayer is engaged in an activity for profit, the lack of such experience does not necessarily indicate that the activity was not engaged in with the objective of making a profit. Sec. 1.183-2(b)(5). We find that petitioner's inexperience in horse showing prior to engaging in the activity is not a significant factor in the instant case. A history of losses may indicate that the activity was not engaged in for profit. Sec. 1.183-2(b)(6), Income Tax Regs. However, the objective to make a profit may exist even in the face of a history of losses unaccompanied by any gains. 644 Bessenyey v. Commissioner, 45 T.C. 261">45 T.C. 261, 274 (1965), affd. 379 F.2d 252">379 F.2d 252 (2d Cir. 1967); White v. Commissioner, 23 T.C. 90">23 T.C. 90 (1954), affd. 227 F.2d 779">227 F.2d 779 (6th Cir. 1955). This is particularly true when such losses occur in the formative years of a business, especially one involving horses. Bessenyey v. Commissioner, supra.The start-up phase of an American saddlebred breeding operation is 5 to 10 years. Engdahl v. Commissioner, supra.Relying on the representations of Joe McCurry, a successful professional horse trainer, petitioner expected to make a profit on her show horse activity within a year. She shifted her focus to breeding when her expectations proved unrealistic. We find that the show horse activity's history of losses does not indicate that the activity was not engaged in for profit in the instant case. We next consider whether, and to what extent, petitioner derived occasional profits from the activity. Other than occasional small cash awards, the show horse activity produced no income. However, 645 an opportunity to earn a substantial ultimate profit in a highly speculative venture is ordinarily sufficient to indicate that the activity is engaged in for profit even though only losses are generated. Sec. 1.183-2(b)(7), Income Tax Regs. Petitioner believed she could double or triple her investment in Denmark and Country Madam within a year of purchasing them. Because petitioner entered into the show horse activity with the objective of earning a substantial ultimate profit, we find that the failure to make occasional profits is not a significant factor in the instant case. We next consider petitioners' income from other sources. Substantial income from sources other than the activity may indicate that the activity is not engaged in for profit, especially if there are personal or recreational elements involved. Sec. 1.183- 2(b)(8), Income Tax Regs. While petitioners had substantial income during 1982 from Dr. Pirnia's medical practice, petitioner could not rely upon his continued support due to marital difficulties. Other than Dr. Pirnia, petitioner's only potential source of income was her show horse activity. Given her tenuous marital status, 646 we think it unlikely that petitioner would embark on a hobby costing thousands of dollars and entailing much personal labor without a profit objective. See Engdahl v. Commissioner, supra at 670. Finally, we consider whether personal pleasure or recreation was involved in the activity. Petitioner acknowledged that she enjoyed her show horse activity. However, she rarely rode any of her horses for pleasure, and did not allow her children to ride the horses. Prior to engaging in her show horse activity petitioner had never owned a horse. There is no evidence in the record that petitioner had ever shown or trained horses as a hobby. The fact that petitioner derived personal pleasure from watching her horses perform is not sufficient to cause the activity to be classified as not engaged in for profit if the activity is, in fact, engaged in for profit as evidenced by other factors. Sec. 1.183-2(b)(9), Income Tax Regs.After consideration of the record as a whole, we conclude that during 1982 petitioner engaged in her show horse activity*647 with an actual and honest objective of making a profit, and petitioners are therefore entitled to deduct the expenses attributable to the activity pursuant to section 162. To reflect the foregoing, Decision will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623897/	Technalysis Corporation, Petitioner v. Commissioner of Internal Revenue, RespondentTechnalysis Corp. v. CommissionerDocket No. 3238-91United States Tax Court101 T.C. 397; 1993 U.S. Tax Ct. LEXIS 68; 101 T.C. No. 27; November 4, 1993, Filed 68 Decision will be entered for petitioner. R determined that P, a publicly held corporation, unreasonably accumulated its earnings and profits and, therefore, was subject to the accumulated earnings tax. P argued that the accumulated earnings tax does not apply to publicly held corporations which do not have a shareholder, or a small group of shareholders, who control more than 50 percent of the stock. P further argued that, if the tax can apply, its accumulation was not unreasonable and it lacked the proscribed purpose. Held, the accumulated earnings tax can apply to a publicly held corporation regardless of the concentration of ownership or whether the shareholders are actively involved in the operation of the corporation. Held, further, although P had an accumulation which exceeded its reasonable needs, it was not formed or availed of to avoid income tax with respect to its shareholders, and the accumulated earnings tax does not apply. Frank J. Walz and Steven R. Kruger, for petitioner.Gail K. Gibson, for respondent. Gerber, Judge. GERBER397 GERBER, Judge: Respondent, by means of a statutory notice of deficiency, determined Federal income69 tax deficiencies for petitioner's 1986, 1987, and 1988 taxable years in the amounts of $ 272,691.92, $ 367,756.68, and $ 449,840, respectively. Respondent, however, conceded that the maximum deficiencies for 1987 and 1988 are not in excess of $ 361,417.05 and $ 335,156.36, respectively. The deficiencies are attributable to respondent's determination that petitioner is subject to the accumulated earnings tax imposed by section 531. 1The issues for consideration are: (1) Whether the accumulated earnings tax can be applied to a widely held public corporation; (2) whether petitioner permitted its earnings and profits to accumulate beyond the reasonable needs of the business; and (3) whether petitioner was formed or availed of for the proscribed purpose of avoiding income tax with respect to its shareholders.398 FINDINGS70 OF FACT Some of the facts have been stipulated, and the stipulation of facts and attached exhibits are incorporated by this reference. When the petition was filed, petitioner's principal place of business was Minneapolis, Minnesota.BackgroundVictor Rocchio (Rocchio) began his career as a computer programmer for Univac in 1956. He left Univac in 1962 to work for Aries Corp., a programming services business started by a colleague from Univac. Rocchio began as a programmer at Aries, and after 2 1/2 years he also became a member of the board of directors. During his last 2 years at Aries, he was manager of the Minneapolis office and a vice president of the company. Rocchio left Aries in 1967 because control of the company switched to the Washington, D.C., office and also because he did not agree with the company's management philosophy. Rocchio's background and experience were principally technical, and he was not as sophisticated regarding business and tax matters.In 1967, Rocchio and six other similarly oriented individuals from Aries incorporated petitioner (hereinafter sometimes referred to as Technalysis) in Minnesota as a private corporation. Technalysis began operation71 on January 2, 1968. During October 1968, Technalysis issued 100,000 shares of stock at $ 2.50 a share through an initial public offering. Technalysis' initial capital was raised from the sale of shares to its incorporators. Technalysis also made shares available to the general public to raise additional working capital. No leveraged financing or similar means of raising capital was used other than the sales of shares of Technalysis stock.During the years in issue, petitioner's shares were listed on the National Market System of the over-the-counter market. Approximately 1,500 shareholders held petitioner's stock during the years in issue. There were 1,606,208, 1,635,018, and 1,591,543 shares outstanding as of December 31, 1986, December 31, 1987, and December 31, 1988, respectively.Nature of Petitioner's BusinessTechnalysis is a computer programming services business. Technalysis provides programmers to government agencies 399 and commercial companies at an hourly rate. This is a highly competitive and volatile business. The programming consulting services are provided primarily at the customer's location. Technalysis also developed computer software programs72 for general use to sell to customers. The percentage of petitioner's gross revenue derived from programming service fees was approximately 86 percent, 90 percent, and 89 percent for the taxable years 1986, 1987, and 1988, respectively. The percentage of petitioner's gross revenue derived from the sale of software was approximately 12 percent, 8 percent, and 8 percent for the taxable years 1986, 1987, and 1988, respectively.Technalysis' business was personnel-intensive. Qualified professionally skilled labor is the most important element in the operation of this type of business. Programmers were hired on a full-time basis, not on a temporary basis. Parttime programmers were not generally utilized because qualified part-time programmers were not always available. Technalysis would hire qualified programmers whenever it found them, whether or not there was an immediate need for their services. Programmers were considered "on the bench" when they were not currently working on a contract and were waiting for their next assignment. Technalysis' policy was to keep employees through slow times and during periods when they were on the bench. Employee turnover at Technalysis was73 minimal, and significant layoffs were not experienced. Petitioner had approximately 185, 227, and 250 employees at the end of the years 1986, 1987, and 1988, respectively. Petitioner's salary expense (exclusive of officers' compensation) for 1986, 1987, and 1988 was $ 1,866,261, $ 1,855,496, and $ 2,351,037, respectively.Technalysis' management philosophy was extremely conservative. Rocchio did not believe in taking risks. While Rocchio was president, Technalysis had no long-term debt. There was short-term debt its first year of operation, but none since then. Technalysis has financed all its growth through the sale of shares and internally generated cash. Even though Technalysis' business expanded throughout the period under consideration and several additional geographical locations were opened, no debt was incurred or leveraging used. Petitioner's accumulated earnings and profits were 400 $ 5,346,888, $ 6,082,042, and $ 7,062,764 at the end of the years 1986, 1987, and 1988, respectively.Petitioner's Officers and DirectorsRocchio has been president and a member of the board of directors since the company was incorporated and throughout the years in issue. 74 Edward Zimmer (Zimmer), Robert Erickson (Erickson), and Archibald Spencer (Spencer), three of the four original members of the board of directors, were outside directors of Technalysis throughout the years in issue. During May 1988, Technalysis' shareholders voted to add a fifth member to the board of directors. Milan Elton (Elton), an employee of Technalysis from the beginning, became the fifth member of Technalysis' board of directors in 1988 at a time when he was a vice president and the secretary/controller of Technalysis.Rocchio was the largest shareholder during the years in issue, holding between 17 percent and 17.7 percent of the outstanding shares. The second largest shareholder was a mutual fund, which held between 12.3 percent and 13.25 percent of the outstanding shares. The mutual fund did not send a representative to any shareholder meetings and made contact with Technalysis' officers only on a few occasions.During 1986, 1987, and 1988, the board members other than Elton collectively owned approximately 25 percent of the outstanding shares of Technalysis, as follows:198619871988Rocchio17.0%17.5%17.7%Spencer1.4 .3 .3 Erickson4.5 4.5 4.5 Zimmer2.8 2.7 2.7 24.7 25.0 25.2 75 Elton owned approximately 4 percent to 4.5 percent of the outstanding shares of Technalysis during the years in issue.401 For the years in issue, Rocchio was president of Technalysis, Elton was vice president/administration and controller, and James Clark (Clark) was vice president/services. In 1986, Spencer was the secretary, but for 1987 and 1988 Elton was the secretary. Total compensation for the officers was as follows:198619871988Rocchio$ 186,855$ 260,500$ 293,665Elton90,000131,267153,390Clark98,500134,940149,001Petitioner did not make any loans to any shareholders, including the officers and directors, during the years in issue. Petitioner did not permit perks, such as cars, club memberships, or first-class travel, to its officers or directors. Overall, Technalysis'76 board and officers were unusually conservative in all respects and did not consider sophisticated tax aspects or other approaches to maximize a return for their shareholders' investment. The board did not maintain detailed minutes of their meetings and/or detailed plans for the corporation's "reasonable needs". In line with the board's and officers' lack of business and tax sophistication, no specialized tax advice was sought with respect to Technalysis' accumulated earnings.DividendsTechnalysis paid its first dividend in 1972 and has paid a dividend every year since that time. Cash dividends approximated 30 percent of current earnings. Essentially, the dividend policy was set by Rocchio based upon his view that the shareholders should be kept happy in case additional capital was needed. He set this policy even though he was aware that other similar businesses generally did not pay dividends. Petitioner paid dividends of $ 322,082 (20 cents per share), $ 405,102 (25 cents per share), and $ 557,981 (35 cents per share) for 1986, 1987, and 1988, respectively. The dividends were declared in December 1986, 1987, and 1988 and were payable during February of 1987, 1988, 77 and 1989, respectively. An Investor's Daily survey of 400 computer companies dated January 21, 1988, showed that of the 400 computer companies surveyed only 41 paid any dividends for 402 the preceding year. Technalysis' directors believed that for a "high tech" company their dividend percentage was very high.Stock Redemption PlanOn October 30, 1987, Technalysis' board of directors approved a stock purchase program. The program authorized the purchase of 200,000 shares of stock at up to $ 8 per share. The authorized purchase price was raised to $ 10 per share at the end of 1987 and, in 1988, raised again to $ 12 per share. During 1987 Technalysis purchased 14,150 shares. As of the end of 1988, Technalysis had purchased 47,275 shares under the plan. The directors believed that the stock purchase program would, along with dividends, provide interest in Technalysis shares and keep shareholders' confidence in their investment. That interest and confidence was considered necessary in order to provide a continuing source of capital, should it be needed.Expansion and AcquisitionsPetitioner's main office was located in Minneapolis, Minnesota, and it maintained78 branch offices in Detroit, Michigan, and Washington, D.C., during the years in issue. Petitioner opened a branch office in Seattle, Washington, in May 1988, but the branch was closed by the end of 1988.Technalysis' management has looked into possible likekind acquisitions. In 1985, petitioner investigated acquiring Reden Consultants, a smaller competing firm. Petitioner did not purchase Reden because the price was too high and because one of Reden's offices was in Minneapolis and petitioner did not want another office in Minneapolis. Petitioner also considered the acquisition of Lawson Professional Services. This transaction was never completed because the managers' personalities did not fit.OPINIONGeneral Background -- Accumulated Earnings TaxThe accumulated earnings tax is imposed on the accumulated taxable income of "every corporation * * formed or availed of for the purpose of avoiding the income tax with respect to its shareholders * * * by permitting earnings and 403 profits to accumulate instead of being divided or distributed." Secs. 532(a), 531. The accumulated earnings tax is a way of discouraging corporations from accumulating earnings not needed79 in conducting the business. Snow Manufacturing Co. v. Commissioner, 86 T.C. 260">86 T.C. 260, 268 (1986). The tax is considered to be a penalty and, therefore, has been strictly construed. Ivan Allen Co. v. United States, 422 U.S. 617">422 U.S. 617, 626 (1975). The most important factor in deciding if the accumulated earnings tax applies is whether a corporation accumulates earnings and profits beyond the reasonable needs of the business. United States v. Donruss Co., 393 U.S. 297">393 U.S. 297, 307 (1969). Section 533(a) establishes the presumption that a corporation that permits earnings and profits to accumulate beyond the reasonable needs of the business does so with the purpose of avoiding income tax with respect to its shareholders. The presumption can be rebutted by a preponderance of evidence to the contrary. Sec. 533(a); Snow Manufacturing Co. v. Commissioner, supra at 269. Therefore, the accumulated earnings tax does not apply if a corporation has allowed an unreasonable accumulation but lacks the proscribed purpose or intent. Pelton Steel Casting Co. v. Commissioner, 28 T.C. 153">28 T.C. 153, 173 (1957),80 affd. 251 F.2d 278">251 F.2d 278 (7th Cir. 1958).Application to Publicly Held CorporationsPetitioner argues that the accumulated earnings tax was not meant to be applied to a publicly held corporation which has no group of shareholders that controls more than 50 percent of the stock. Petitioner maintains that unless the corporation is so controlled, a widely held corporation cannot possess the requisite intent. Respondent argues that the plain language of the statute, as a matter of law, exposes all corporations to the accumulated earnings tax, regardless of the number of shareholders. Respondent contends that the accumulated earnings tax can apply to a publicly held corporation, and that whether the requisite intent to avoid income tax exists is a question of fact.We addressed this issue in Golconda Mining Corp. v. Commissioner, 58 T.C. 139">58 T.C. 139, 158, supplemented by 58 T.C. 736">58 T.C. 736 (1972), and held that "as a matter of law * * the accumulated-earnings tax can apply to publicly held corporations." 404 (Fn. ref. omitted.) That opinion contained the explanation that the accumulated earnings tax should81 only be imposed on a publicly held corporation whose management group is dominated by a single large shareholder, or a group of large shareholders, who exercises effective control over the corporation. This reasoning stems from language in an earlier draft of section 532 contained in H.R. 8300, 83d Cong., 2d Sess., sec. 532 (1954), which, prior to enactment in the Internal Revenue Code of 1954, contained a provision exempting from the accumulated earnings tax any corporation with more than 1,500 shareholders and not more than 10 percent of the stock held by any individual. This language was not in section 532 as finally enacted or as it now exists. The theory behind this early draft was that effective control by the shareholders was necessary to ascribe the proscribed purpose to the shareholders. 282 The Court of Appeals for the Ninth Circuit, in reversing this Court, held that the accumulated earnings tax is not applicable to publicly held corporations. Golconda Mining Corp. v. Commissioner, 507 F.2d 594">507 F.2d 594, 597 (9th Cir. 1974). 3 The Court of Appeals' opinion contained the rationale that Congress, in reenacting the accumulated earnings tax provisions in the Internal Revenue Code of 1954, did not intend to change the application of the tax to include publicly or widely held corporations. Id. The Court of Appeals' opinion contained reasoning that "Congress did not intend to change the longstanding practice and application of the [accumulated earnings] tax to closely held corporations and these corporations alone." Id.83 In 1984 legislation, Congress added section 532(c), which nullifies the Court of Appeals' holding in Golconda and makes clear that the accumulated earnings tax is not limited to closely held corporations. Section 532(c) contains the statement that the application of the accumulated earnings tax "shall be determined without regard to the number of shareholders 405 of such corporation." The conference report issued in connection with the enactment of section 532(c) contains the statement that "the mere fact that a corporation is widely held does not exempt it from the accumulated earnings tax. This rule applies to operating companies, as well as mere holding or investment companies, regardless of how concentrated the ownership of their stock may be." H. Conf. Rept. 98-861, at 828 (1984), 1984-3 C.B. (Vol. 2) 1, 82.Section 532(a) does not expressly limit the application of the accumulated earnings tax to closely held corporations. 4 That limitation had its source in preenactment drafts of proposed versions of section 532 containing limitations on the application of the accumulated earnings tax to corporations with up to a certain number of shareholders. 84 Moreover, the language of section 532(a) does not require direct shareholder involvement or control in corporate management. It only requires that the "corporation * * * [was] formed or availed of for the purpose of avoiding the income tax with respect to its shareholders". To the extent that doubt existed about congressional intent regarding the application of the accumulated earnings tax to widely held corporations, section 532(c) has explicitly resolved them. The accumulated earnings tax can apply to a corporation regardless of how the stock is held.In 1972, before the enactment of section 85 532(c), this Court reasoned in Golconda Mining Corp. v. Commissioner, 58 T.C. 139">58 T.C. 139 (1972), that the accumulated earnings tax should be imposed on a publicly held corporation that is effectively controlled by a single shareholder, or a group of shareholders. Id. at 158. That rationale was the next logical step from existing case law and a point of view derived from the legislative history in existence prior to the enactment of section 532(c). It is not necessary here to engage in the type of analysis we used in our Golconda opinion because of section 532(c).Although widely held corporations can be subject to the accumulated earnings tax, the fact that corporate shares of 406 ownership are widely dispersed may be considered, on a case-by-case basis, in order to determine whether the proscribed purpose exists. 5 Theoretically, however, it is not necessary that those who are responsible for the existence of the accumulation and proscribed purpose (officers and/or directors) also be shareholders.86 Normally, corporations are managed under the direction of the board of directors. Traditionally, the shareholders elect the directors who, in turn, select the officers. Henn & Alexander, Laws of Corporations and Other Business Enterprises, sec. 203, at 550-551 (3d ed. 1983). The board of directors is ultimately responsible for determining and executing corporate policy. Id. sec. 207, at 563-564; see Minn. Stat. sec. 302A.201 (1992). The board has a fiduciary duty to the corporation and, accordingly, the directors must act in good faith for the best interest of the corporation, not the shareholders. 6 Any breach of the fiduciary duty may be actionable under the Federal securities laws. Henn & Alexander, supra sec. 235, at 626-627. In order to determine whether a corporation was formed or availed of for the proscribed purpose, we must consider the actions of the individuals who set corporate policy, whether or not those individuals are shareholders. This is the focus of the inquiry. If the directors and/or officers who effect corporate action and policy are also shareholders, that factor may have some probative value in determining whether the proscribed purpose 87 existed.The accumulated earnings tax can apply to a publicly held corporation if such corporation was formed or availed of for the purpose of avoiding income tax with respect to its shareholders. Whether the corporation possesses the proscribed purpose is a question of fact, Helvering v. National Grocery Co., 304 U.S. 282 (1938), and a publicly held corporation does not lack such intent as a matter of law. Sec. 532(c); Golconda Mining Corp. v. Commissioner, 58 T.C. at 160.407 Petitioner's Reasonable Business Needs Petitioner filed a motion to shift burden of proof on April 88 6, 1992, pursuant to section 534(c). In an order dated May 13, 1992, petitioner's motion was partially granted and respondent bears the burden of proof with respect to the stock redemption plan and the dividends paid to shareholders. Petitioner bears the burden of proof for the remaining issues.The working capital needs of a business are commonly evaluated by means of the "Bardahl formula". Bardahl Manufacturing Corp. v. Commissioner, T.C. Memo. 1965-200. Both parties provided expert witnesses in support of their respective approaches to computing the working capital needs of petitioner. In computing Technalysis' working capital needs with the Bardahl formula, petitioner's expert used a 29-day business cycle and the succeeding years' operating expenses. Respondent's expert used a 22-day business cycle and the current years' operating expenses. We do not agree with either party's expert. We think that petitioner's working capital needs should be computed using a 22-day business cycle and the succeeding years' operating expenses. See id. Therefore, we find petitioner's working capital needs, computed using the Bardahl formula, 89 for 1986, 1987, and 1988 to be $ 2,526,695, $ 3,179,233, and $ 3,578,723, respectively. See appendix.To reach excess working capital where net liquid assets exceed accumulated earnings and profits, the working capital needs generally are subtracted from accumulated earnings and profits, not from net liquid assets. Snow Manufacturing Co. v. Commissioner, supra; see Hughes, Inc. v. Commissioner, 90 T.C. 1">90 T.C. 1, 20 n.16 (1988). Therefore, in 1986, 1987, and 1988, petitioner had excess working capital of $ 2,820,193 ($ 5,346,888-$ 2,526,695), $ 2,902,809 ($ 6,082,042-$ 3,179,233), and $ 3,484,041 ($ 7,062,764-$ 3,578,723), respectively.Petitioner justifies the remaining accumulation with the need for payroll reserves, the stock redemption plan, and expansion. In determining the reasonable needs of a business, its particular needs and circumstances must be considered. Cheyenne Newspapers, Inc. v. Commissioner, 494 F.2d 429">494 F.2d 429, 432 (10th Cir. 1974), affg. T.C. Memo 1973-52">T.C. Memo. 1973-52. Furthermore, a business can reasonably accumulate earnings and 408 profits in order to address90 risks specific to the industry. Dielectric Matls. Co. v. Commissioner, 57 T.C. 587">57 T.C. 587, 599 (1972).With respect to payroll reserves, a portion of petitioner's payroll is accounted for in the Bardahl computation because purchases (cost of goods sold) are primarily made up of salaries. However, an additional payroll reserve is reasonable because of petitioner's policy of retaining programmers through slow times and hiring qualified programmers even where work may not have been secured. Considering this particular business and its approach, we find that a 3-month payroll reserve of $ 350,000 a month 7 is reasonable. Therefore, for 1986, 1987, and 1988, $ 1,050,000 of petitioner's accumulated earnings and profits is justified as a reserve for payroll.91 With respect to the stock redemption plan, petitioner was authorized to purchase 185,850 shares at $ 10 a share and 152,725 shares at $ 12 a share at the end of 1987 and 1988, respectively. We are convinced that petitioner's officers were not focusing upon any benefits that may have accrued to current shareholders due to the redemption. Instead, in their conservative manner, petitioner's board sought to maintain a potential market for the sale of additional shares should additional capital be needed. Additionally, there were no outstanding offers to or apparent interest in purchasing petitioner during the period under consideration. Petitioner, however, had considered the purchase of other related businesses.Considering that respondent bears the burden of proof on this aspect of petitioner's needs, we find that this stock redemption plan was among the reasonable needs of the business and not employed for the proscribed purpose. It was therefore a reasonable need for petitioner to maintain a reserve to effect the stock redemptions of $ 1,858,500 and $ 1,832,700, for 1987 and 1988, respectively.409 Petitioner maintained three branch offices during the years in issue. 92 Petitioner's officers and directors intended that part of the reserves be for future branch offices or acquisitions of similar businesses. Due to the absence of sophisticated tax advice, these plans were not committed to writing. Section 1.537-1(b), Income Tax Regs., contains the statement that to justify the accumulation as a reasonable future need, the corporation must have "specific, definite, and feasible plans". Sec. 1.537-1(b), Income Tax Regs. Taxpayers, however, are allowed to accumulate earnings for reasonably anticipated needs, not solely for certainties. Myron's Enter. v. United States, 548 F.2d 331">548 F.2d 331, 335 (9th Cir. 1977). Specificity and definiteness, coupled with action toward achieving the claimed purpose, are essential in finding the accumulation reasonable. Dixie, Inc. v. Commissioner, 277 F.2d 526">277 F.2d 526, 528 (2d Cir. 1960), affg. 31 T.C. 415">31 T.C. 415 (1958). Although we believe that petitioner's officers and directors were receptive to the idea of expanding if the opportunity was presented to them, we cannot find that petitioner had specific, definite, and feasible plans to expand. Therefore, 93 no portion of petitioner's accumulated earnings and profits can be justified by possible future expansion or acquisition.Therefore, for 1986, 1987, and 1988, petitioner had accumulations of earnings and profits, reasonable needs, and for 1986 and 1988 accumulation beyond the needs of the business, as follows:198619871988Accumulated earningsand profits$ 5,346,888$ 6,082,042$ 7,062,764Reasonable needs of thebusiness:Working capital2,526,6953,179,2333,578,723Payroll coverage1,050,0001,050,0001,050,000Stock redemption-0-1,858,5001,832,700Total needs3,576,6956,087,7336,461,423Accumulation beyondreasonable needs1,770,193-0- 601,341Was Petitioner Formed or Availed Of for the Purpose of Avoiding Income Tax With Respect to Its Shareholders?If a corporation has an unreasonable accumulation of earnings and profits, that creates a rebuttable presumption that 410 the corporation had the purpose to avoid income tax with respect to its shareholders. That presumption can be overcome by a preponderance of the evidence to the contrary. Sec. 533(a). Having found that petitioner had an accumulation94 of $ 5,346,888, $ 6,082,042, and $ 7,062,764 for 1986, 1987, and 1988, respectively, and reasonable needs of $ 3,576,695, $ 6,087,733, and $ 6,461,423, we now decide whether the proscribed purpose existed with respect to the accumulations beyond the reasonable needs of the business, in the amounts of $ 1,770,193 and $ 601,341, for 1986 and 1988, respectively.To determine whether a publicly held corporation possesses the proscribed purpose, we must examine the intent and actions of the people who manage and direct the corporation. As a general rule, corporate management is within the control and/or direction of the board of directors. In this case, the board of directors set the corporate policy. Therefore, we must decide whether petitioner's board of directors accumulated earnings and profits with the intent to avoid income tax with respect to its shareholders. Section 1.533-1(a)(2), Income Tax Regs., sets forth factors to be considered to determine whether a corporation had the proscribed purpose. Some of the relevant factors are: (1) Dealings between the corporation and its shareholders for the personal benefit of the shareholders; for example, personal loans; (2) corporate95 investment of undistributed assets in unrelated businesses or investments; and (3) the corporation's dividend history. Sec. 1.533-1(a)(2)(i), (ii), and (iii), Income Tax Regs.Petitioner argues that consideration of the regulation's factors shows that petitioner did not have the requisite intent. There were no shareholder loans or investments in unrelated businesses or opportunities. Furthermore, petitioner points out that it paid dividends during each of the years in issue, and the amount increased during the years under consideration.Respondent maintains that each member of the board of directors, especially Rocchio, reduced his individual income tax liability because Technalysis paid lower dividends than it could have. Because the officers and directors personally benefited, respondent argues that they accumulated the earnings instead of paying higher dividends in order to avoid income tax with respect to petitioner's shareholders. We note, however, that the officers, including Rocchio, had substantial 411 increases in their salaries over the years in issue. The increase in salary did increase their personal income tax liability.We recognize that it is the responsibility96 of the corporate officers and directors to determine the reasonable needs of the business. Therefore, the judgment of corporate management is not to be ignored in determining if the accumulation of earnings and profits is unreasonable. Faber Cement Block Co. v. Commissioner, 50 T.C. 317">50 T.C. 317, 329 (1968). We are reluctant to substitute our business judgment for the judgment of the officers and directors unless the facts and circumstances of the case require us to do so. Snow Manufacturing Co. v. Commissioner, 86 T.C. 260">86 T.C. 260, 269 (1986).The testimony of the officers and directors at trial indicated that they felt that the accumulation of the earnings and profits was necessary for two main reasons. First, they were involved in a personnel-intensive business, and they needed cash reserves to meet payroll in accord with their employment policy or in case of an economic downturn. It was petitioner's management policy to maintain skilled professional employees even when the needs of the clients did not require use of all employees. This policy was driven by the difficulty encountered in securing the expertise necessary to be 97 successful in this service business. Second, petitioner was involved in a highly competitive and volatile industry in which accumulations were necessary to provide a strong financial position in case of any unexpected changes in the industry. Even though a portion of the accumulation was not found to be for the "reasonable needs" of petitioner's business, we do not find that it was for the shareholders' direct benefit.Therefore, we hold that petitioner was not formed or availed of by its officers or directors to avoid income tax with respect to its shareholders, and the accumulated earnings tax does not apply.Decision will be entered for petitioner.412 APPENDIXBardahl Computation198619871988Billing ratio cycle:22-day business cycle6.0274%6.0274%6.0274%Sales to rec. ratio:Total sales$ 13,212,463$ 14,233,649$ 17,317,098Average A/R$ 2,087,537$ 2,300,884$ 2,608,653Ratio15.7998%16.1651%15.0640%Purchases to payable ratio:Total purchases$ 7,168,200$ 7,639,033$ 9,226,366Average A/P$ 165,402$ 155,436$ 216,598Ratio2.3074%2.0348%2.3476%Net operating cycle19.5198%20.1577%18.7438%Annual operating exps.$ 12,944,269$ 15,771,805$ 19,092,835Working capital needs$ 2,526,695$ 3,179,233$ 3,578,72398 Excess Working Capital198619871988Accumulated E&P$ 5,346,888 $ 6,082,042 $ 7,062,764 Current op. needs(2,526,695)(3,179,233)(3,578,723)Excess working capital2,820,193 2,902,809 3,484,041 Footnotes1. 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, unless otherwise indicated.↩1. The parties' stipulation states that Spencer owned .04 percent in 1986, .04 percent in 1987, and .03 percent in 1988. Evidence presented at trial, however, indicates that Spencer owned .4 percent in 1986, .3 percent in 1987, and .3 percent in 1988. We will use the ownership percentages presented at trial and note that the difference does not affect the outcome.↩2. Possibly, it was considered that dilution of ownership diminished the potential benefit from a corporation's accumulation of profits to a point where it becomes de minimis. Although this type of reasoning could be considered in a factual determination of whether the proscribed purpose existed, it certainly would not, per se, prohibit the possibility of imposing the accumulated earnings tax on a publicly held corporation.↩3. Subsequent to the Court of Appeals' decision in Golconda Mining Corp. v. Commissioner, 507 F.2d 594">507 F.2d 594 (9th Cir. 1974), the U.S. Court of Claims, in Alphatype Corp. v. United States, 211 Ct. Cl. 345">211 Ct. Cl. 345, 38 AFTR 2d 76↩-6019, 76-2 USTC par. 9730 (1976), held that the accumulated earnings tax can be applied to publicly held corporations.4. Sec. 532(a) provides:SEC. 532(a). GENERAL RULE. -- The accumulated earnings tax imposed by section 531 shall apply to every corporation * * [with certain exceptions not pertinent here] formed or availed of for the purpose of avoiding the income tax with respect to its shareholders or the shareholders of any other corporation, by permitting earnings and profits to accumulate instead of being divided or distributed.↩5. The statute does not require that the shareholder(s) personally cause the avoidance, but such consideration may have probative value in determining whether the proscribed purpose exists.↩6. The board of directors has a fiduciary duty to the shareholders inherent in its fiduciary duty to the corporation. The board cannot favor one intracorporate group to the detriment of another, and it cannot authorize transactions that oppress minority shareholders. Henn & Alexander, Laws of Corporations and Other Business Enterprises, sec. 240, at 652 (3d ed. 1983).↩7. Petitioner's expert claimed that petitioner's wage expense was $ 654,239, $ 759,549, and $ 941,060 per month for 1986, 1987, and 1988, respectively. However, no substantiation was provided for these amounts. According to the tax returns filed for the years in issue, the wage expense, exclusive of officers salaries and cost of goods sold, was $ 245,186, $ 261,365, and $ 332,572 per month for 1986, 1987, and 1988, respectively. We agree that the payroll reserve should cover a portion of the salaries used in the Bardahl↩ computation, but we do not agree in duplicating petitioner's entire wage expense in computing petitioner's reasonable needs. Therefore, we think a wage expense of $ 350,000 per month is appropriate in calculating a wage reserve.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623899/	AMERICAN INTERNATIONAL COAL CO., INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentAmerican International Coal Co. v. CommissionerDocket No. 14574-79.United States Tax CourtT.C. Memo 1982-204; 1982 Tax Ct. Memo LEXIS 545; 43 T.C.M. (CCH) 1097; T.C.M. (RIA) 82204; April 15, 1982. Roy J. Roscoe, for the petitioner. Edward F, Peduzzi, Jr., for the respondent. FEATHERSTONMEMORANDUM FINDINGS OF FACT AND OPINION FEATHERSON, Judge: Respondent determined a deficiency in the amount of $ 21,975.87 in petitioner's Federal income tax for 1975. The sole issue 1 for decision is whether petitioner, a corporation, paid Stephen C. Levitt, an employee and shareholder, $ 54,800 as deductible compensation for services or as a nondeductible distribution in redemption of his stock. 546 FINDINGS OF FACT Petitioner, American International Coal Co., Inc., had its principal office in Pittsburgh, Pennsylvania, when the petition was filed. Petitioner filed its Federal income tax return for 1975 with the Philadelphia Service Center. On December 5, 1974, Robert L. Todd (Todd), Stephen C. Levitt (Levitt), and Richard C. Schomaker (Schomaker) entered into a preincorporation agreement in which they agreed to form a corporation to be known as American International Coal Company, Inc., to conduct a coal mining and brokering business. Each party was to contribute to the corporation "all business contacts, contracts and any and all rights pertaining to coal" excepting two coal contracts specifically reserved by Todd. Article 3 of the agreement provided that: If any party to this Agreement performs services in excess of those services rendered by the other shareholders, he shall be compensated on a reasonable basis in addition to his proportion of the net profits. As to the division of net profits, Article 4 of the agreement provided that: "All net profits, after expenses, shall be divided equally among the shareholders." All business decisions were to be made by547 a majority vote of the shareholders. Of the three incorporators, Todd was the only one with previous experience in the coal business. He arranged for operating capital, and he was expected to handle activities in the coal fields. Levitt was to be responsible for day-to-day operations, and Schomaker was to serve as legal counsel. Levitt and Schomaker as cosigners were authorized to write checks for the business from a checking account opened by Levitt. After petitioner's incorporation on December 24, 1974, the preincorporation agreement was ratified by the corporation in all respects except as to Todd. Because Todd was believed to have misapplied some funds, he was not permitted to become an officer or shareholder, but he served as a "probationary employee" until March or April 1975. Levitt and Schomaker became the original and only shareholders, each owning 50 percent (1,000 shares each) of the stock. Levitt devoted much of his time to the work of the corporation from the outset. Beginning May 1, 1975, he became a full-time employee of petitioner with an office in his home, receiving a salary of $ 400 per week plus the use of a car and hospitalization insurance. The salary548 received by Levitt during 1975 totaled $ 8,600. For his legal services to petitioner, Schomaker received $ 1,800 prior to September 23, 1975, and $ 5,600 for the remainder of the year, a total of $ 7,400. During 1975, the first year of its operations, petitioner was engaged only in the business of supplying coal under contract, i.e., the brokering of coal. Petitioner neither owned nor operated any coal mining or coal processing facilities but bought for resale coal mined by others. During the period January 1975 to March 1, 1975, petitioner procured three contracts to ship coal as follows: (1) A contract with West Penn Power Company (West Penn) for its Hatfield Ferry Power Station; (2) a "contract" with H.J. Heinz Company to ship on a purchase order basis; and (3) a contract with United States Steel Corporation. All of these contracts expired on or before August 30, 1975. On March 20, 1975, petitioner entered into a contract with West Penn to supply its Armstrong Power Station with approximately 20,000 tons of coal per month, during the period beginning April 1, 1975, and ending December 31, 1978. Petitioner was to receive a base price of 92.5 cents per million Btu for coal549 having a base heating value of 12,000 Btu per pound. Clause 6 of the contract provided that, on or before November 1 during each year of the contract, negotiations could be had for base price adjustments or for termination of the contract. Prior to the execution of this West Penn contract, Todd advised Levitt and Schomaker that West Penn planned to let long-term contracts for coal. In order to obtain a coal supply for such a contract, Levitt negotiated a deal with Shaw Coal Company (Shaw) to supply a quantity of coal equal to the amount ultimately called for in the West Penn contract. The agreement with Shaw was, in effect, a duplicate of petitioner's contract with West Penn except for changes in the designation of the parties and a 10-cent reduction in the base price. Without the arrangements for a supply of coal from Shaw, West Penn most likely would not have awarded the contract to petitioner, and petitioner would not have committed itself on a supply contract of such magnitude. Shortly after the West Penn contract became effective, Shaw defaulted on its agreement and stopped delivering coal to petitioner. Levitt then entered the spot market for coal and obtained sufficient550 tonnage on open-ended purchase orders to enable petitioner to meet its contract commitment to West Penn. Although the spot market purchase arrangement caused petitioner's brokerage business to take larger risks, Levitt was successful in establishing a good working relationship with several suppliers. In fact, buying coal from these suppliers and reselling it to West Penn was proving more profitable than the arrangement would have been under the Shaw contract. Levitt believed that the company was going to grow and increase in profitability. Petitioner's business was doing well under Levitt's management until September 23, 1975. On that date, without an opportunity for Schomaker to make arrangements for someone to succeed Levitt, Levitt was taken into protective custody under the Federal witness protection program. Levitt has no prior warning that he would be required to enter Federal custody. He spent September 24, 1975, making arrangements to sell his property and terminate his business affairs. Without a balance sheet, profit and loss statement, or an audit of petitioner's financial situation, Levitt concluded on a review of the receivables, payables, and cash in the checking551 account that the corporation at that time had a "plus" position of something over $ 100,000. In other words, if petitioner had paid all its bills and collected all the money due to it at the time, petitioner would have been ahead approximately $ 100,000. As a result of this examination of the books, he decided that he "wanted $ 50,000" for his interest in the company. In making his computations, he did not take into account a liability to Page Coal Company on a $ 24,000 judgment note and did not consider the Federal tax liability of petitioner. Levitt prepared a check (No. 1364) dated September 24, 1975, payable to himself and drawn on petitioner's account in the amount of $ 50,000 which, to be negotiable, required Schomaker's counter signature. On the check stub, he placed the words "For the purchase of the stock of Stephen C. Levitt." On behalf of Levitt, a messenger presented the check to Schomaker for his countersignature on September 25, 1975. Schomaker refused to sign it at that time. On September 25, 1975, Levitt, through agents of the Federal Bureau of Investigation, retained Robert J. Cindrich (Cindrich), an attorney, to represent him in handling his civil affairs. 552 Levitt reviewed his financial affairs with Cindrich, including the need to terminate his interest in petitioner. Later, Levitt and Schomaker had a brief private meeting during which Schomaker advised Levitt that he could not sign the $ 50,000 check "the way it was." It was agreed that Cindrich would conclude the negotiations for terminating Levitt's interest in petitioner. On Cindrich's recommendation, Levitt gave his brother-in-law, Richard M. Handler (Handler), a general power of attorney authorizing him to (among other things) sell Levitt's real estate, stocks, bonds, and other property. Levitt left the City of Pittsburgh in the protective custody of the United States Department of Justice on the night of September 25, 1975. Subsequently, Cindrich and Schomaker met to discuss the termination of Levitt's interest in petitioner. Before this meeting was held, Schomaker examined petitioner's books and concluded that petitioner's net profits exceeded $ 70,000 without regard to the judgment note held by Page Coal Company. Schomaker offered to make a payment to Levitt which would for the most part be characterized as a "commission" rather than as a payment for stock. Cindrich553 did not attempt to negotiate the point, but simply communicated the offer to Levitt who expressed satisfaction with its even though Cindrich advised him that the payment was to be reported for tax purposes as ordinary income. Subsequently, Cindrich drafted two documents, one entitled "Termination Agreement" and the other "Agreement of Sale." The Termination Agreement, dated October 3, 1975, describes Levitt as "Employee" and petitioner as "Employer," and it recites that "Employee is entitled to commissions" on "various sales of coal on behalf of Employer which have resulted in earnings and profit to Employer." The Termination Agreement provides: 1. On or before the 3rd day of October, 1975, Employer shall pay to Employee the sum of FIFTY THOUSAND ($ 50,000.00) DOLLARS in cash, certified or cashier's fund, which said sum shall be in partial payment of commissions due Employee for services rendered to Employer. 2. In addition to the sum of FIFTY THOUSAND ($ 50,000.00) DOLLARS as set forth in Paragraph 1, Employer shall pay to Employee the sum of TWELVE THOUSAND ($ 12,000.00) DOLLARS payable at the rate of TWO HUNDRED ($ 200.00) DOLLARS per week for each and every week, commencing554 on the week beginning Monday, October 6, 1975, without interest on unpaid principle [sic] balance due. 3. Employee agrees to accept the sum set forth in Paragraphs 1 and 2 as full and complete satisfaction of any and all amounts due to him from Employer for services rendered in connection with Employer's coal brokerage business. The Agreement of Sale, by its terms, provided that Levitt agreed to sell to petitioner 1,000 shares of the common capital stock of petitioner in consideration of $ 1,000 ($ 1.00 per share). The purchase price was to be paid by petitioner's cancellation of a $ 1,000 promissory note signed by Levitt in petitioner's favor upon the distribution to Levitt of the initial capital stock. On October 3, 1975, these two agreements were signed by Schomaker on behalf of petitioner and by Handler on behalf of Levitt. On or about that same day, Schomaker countersigned the $ 50,000 check (No. 1364). When he countersigned it, he changed the notation on the check stub by crossing out the words "For the purchase of the stock of Stephen C. Levitt" and substituting the word "Commissions." In addition, Schomaker crossed out the original entry in petitioner's check register555 for check No. 1364 under a column headed "In payment of" in which Levitt had entered "Purchase of stock," and he inserted the word "Commissions." He then delivered the check to Cindrich for transmittal to Levitt. After Levitt's departure, Schomaker all but abandoned his law practice and devoted most of his time to the conduct of petitioner's business. On November 1, 1975, Schomaker decided to continue the West Penn contract without attempting to negotiate a price adjustment. Sometime after November 1, 1975, petitioner employed Jack Sedlack (Sedlack), who has some background in the coal business, to assist in managing petitioner's business operations. Schomaker and Sedlack were able to obtain a supply of coal sufficient to enable petitioner to continue to service the West Penn contract. Between October 3, 1975, and December 31, 1975, Schomaker and Levitt had several conversations, some by telephone and at least one in person. In these conversations, they discussed various problems facing petitioner, including that of maintaining its coal supply. Levitt also wrote several letters to Schmaker concerning various business matters related to petitioner. Beginning in October556 1975, petitioner paid Levitt $ 1,600 per month for 3 months, a total of $ 4,800, plus the $ 50,000 check. On its income tax return for 1975, petitioner deducted the total payment of $ 54,800 to Levitt as commissions. In the notice of deficiency issued to petitioner, respondent disallowed the deduction. The notice of deficiency reflects that for 1975 petitioner had taxable income as revised by respondent in the amount of $ 80,824.54. This figure takes into account the denial of the $ 54,800 deduction here in dispute as well as a deduction of a theft loss in the amount of $ 4,025, conceded by petitioner in this case. On petitioner's Pennsylvania Corporation Income Tax Return for 1975, the stated value of petitioner's common stock for purposes of the Pennsylvania capital stock tax was $ 20,000. Petitioner's Federal income tax returns for 1976, 1977, and 1978 show net profits from its coal business totaling well in excess of $ 1 million for that 3-year period. OPINION The issue to be decided is the deductibility of the $ 54,800 that petitioner paid to Levitt during the period in 1975 following Levitt's departure from Pittsburgh. Petitioner argues that this amount was paid557 pursuant to the October 3, 1975, Termination Agreement as compensation for past services and for current and future consultation services for which it is entitled to a deduction under section 162(a)(1). 2 Respondent, however, maintains that the Termination Agreement is a facade to cloak a tax avoidance scheme whereby petitioner seeks a deduction from ordinary income for amounts paid to redeem Levitt's stock. If the $ 54,800 in issue was, indeed, compensation for services, it would be deductible by petitioner, as it contends, and would be taxable to levitt as ordinary income. 3 On the other hand, if it was paid to redeem558 Levitt's stock in petitioner, the payment would not be deductible by petitioner and would be taxable to Levitt as capital gain. These countervailing tax interests of the parties in the ordinary case would tend to deter artificial arrangements. Cf. Schulz v. Commissioner,294 F.2d 52">294 F.2d 52, 55 (9th Cir. 1961), affg. 34 T.C. 235">34 T.C. 235 (1960); Ullman v. Commissioner,264 F.2d 305">264 F.2d 305, 307 (2d Cir. 1959), affg. 29 T.C. 129">29 T.C. 129 (1957). But it is an elementary rule of tax law that in proper cases the Commissioner may look beyond the formal docufments and assert taxability upon the substance and reality of the transaction. Higgins v. Smith,308 U.S. 473">308 U.S. 473 (1940); Griffiths v. Commissioner,308 U.S. 355">308 U.S. 355 (1939). That is what respondent maintains he has done here. The issue presented is factual. In the light of the entire record, we conclude that $ 50,000 of the agreed $ 62,000 payment was paid to redeem Levitt's stock. As to the remaining $ 12,000, only $ 4,800559 of which was paid in 1975, the issue is close, but on the record before us we hold that it was paid as compensation for consultation services. 1. The $ 50,000 CheckTo support its theory that the entire $ 62,000 payment was to be made for Levitt's services, petitioner relies upon the Termination Agreement, quoted in part in our findings, which describes the payments therein provided as "commissions" due Levitt "for services rendered." By the terms of this agreement, Levitt agreed to accept a total of $ 62,000 "as full and complete satisfaction of any and all amounts due to him" from petitioner "for services rendered" in petitioner's coal brokerage business. This agreement, petitioner argues, gains economic substance from the preincorporation agreement of December 5, 1974, which provided that, if one shareholder performed services in "excess" of those services rendered by the other shareholders, he would be "compensated on a reasonable basis in addition to his proportion of the net profits." Petitioner points out that Levitt devoted at least a substantial amount of his time to petitioner's business from January 1 to May 1, 1975, the devoted his full-time from May 1, 1975, to560 the date of his departure from Pittsburgh on September 25, 1975, receiving total compensation of only $ 8,600. In the meantime, Schomaker, the other shareholder, served as petitioner's attorney and received a total amount of $ 1,800 for his services while continuing his law practice prior to September 24, 1975. As evidence of Levitt's valuable services prior to his departure, petitioner maintains that Levitt, through his efforts and work, was "solely responsible for the success of American's [petitioner's] profits in excess of $ 70,000 or $ 100,000." Petitioner also emphasizes Levitt's role in obtaining the West Penn contract which provided for potential coal sales of approximately $ 20,000,000. To obtain coal to service this contract, Levitt had initially contracted with Shaw and, when Shaw failed to perform satisfactorily, he had arranged for coal on open-ended purchase orders with several suppliers. This purchase order arrangement was working well on September 23, 1975, when Levitt entered the protective custody of the U.S. Department of Justice. Many of the facts cited by petitioner to show the value of Levitt's services, however, tend also to show that petitioner's stock561 had substantial value when Levitt left Pittsburgh, and they indicate that most (if not all) of the payment called for in the Termination Agreement was, in fact, paid to redeem his stock. As of September 23, 1975, petitioner had a going brokerage business with assets which included the West Penn contract and arrangements with at least six suppliers who, in 1975, had abundant quantities of coal available to enable petitioner to service that contract. From the approximately $ 20,000,000 in sales reasonably expected to be made under the contract, Levitt testified that, if things went well, he had "figured" petitioner "should have" a gross profit (before taxes, operating expenses, and overhead) of $ 1,000,000 on the basis of a "pretty standard" 5-percent commission "in the coal business." Levitt's presence was not essential to the continued viability of the West Penn contract, the source of most of petitioner's income. This going-concern value--"the ability of a business to continue to function and generate income without interruption as a consequence of the change in ownership," VGS Corp. v. Commissioner,68 T.C. 563">68 T.C. 563, 592 (1977);562 Computing & Software, Inc. v. Commissioner,64 T.C. 223">64 T.C. 223, 235 (1975)--shows that the business, which had netted $ 70,000 to $ 100,000 in 9 months, had substantial value. It demonstrates that the cancellation of Levitt's $ 1,000 note, purportedly in redemption of Levitt's stock, had little relationship to the stock's value. 4 True, with Levitt's abrupt departure, the business would require prompt attention by some other full-time manager, but the subsequent success enjoyed by Schomaker, assisted by Sedlack, in managing the business demonstrates that the problem was not insurnountable. 5563 Petitioner would have us treat the preincorporation agreement as if it were a contingent compensation agreement of the kind described in section 1.162-7(b)(2), Income Tax Regs.; 6 see, e.g., Lewisville Investment Co. v. Commissioner,56 T.C. 770">56 T.C. 770 (1971). On this basis, petitioner would have us conclude that Levitt was entitled to additional compensation for services because he had obtained the West Penn contract and devoted more time and effort than Schomaker to petitioner's business prior to September 24, 1975. We think this argument misapprehends the effect of the preincorporation agreement. 564 Significantly, the preincorporation agreement was originally drafted as a "Preliminary Limited Partnership Agreement" between Levitt, Todd, and Schomaker and was then modified by pen and ink changes to a "Pre-Incorporation Agreement." In addition to providing for a shareholder to be compensated on a reasonable basis for services in excess of the services rendered by the other shareholders, it provided for an equal division of the profits and for all business decisions to be made "by a majority of the shareholders [including Todd], all of whom shall be entitled to vote." It thus implicitly provided for an equal three-way division of the corporation's stock. Because Levitt and Schomaker concluded that Todd had improperly used business funds prior to the issuance of the stock, Todd was denied any stock in the corporation and, apparently, on that ground was denied the right to participate in business decisions, to share in post-incorporation profits, or to be paid for preincorporation services in excess of the services of the other shareholders. There is no evidence to indicate in what other respects the preincorporation agreement was modified as between Levitt and Schomaker when565 Todd was frozen out. While there is testimony, and we have found, that the agreement was ratified and approved by the corporation except as to Todd, the record does not show on what terms. But even if the agreement did survive, we think it was not a continuing contingent compensation agreement. It was merely an agreement that each shareholder would be paid reasonable compensation for his "excess" services in initiating the business. Further, as we view the evidence, reliance on the preincorporation agreement to explain the Termination Agreement is an afterthought. The Termination Agreement makes no reference, in the words of the preincorporation agreement, to "services in excess of those services rendered by the other shareholders." The preamble of the Termination Agreement 7 recites that Levitt had "consummated various sales of coal" on behalf of petitioner "which have resulted in earnings and profit" to petitioner and that Levitt is "entitled to commissions on said sales." Consistent with these recitations, the check paydable to Levitt and the entry in the check registry written by Levitt when he prepared the $ 50,000 check were modified by Schomaker when he countersigned566 the check to indicate the payment was made for "commissions." The preincorporation agreement makes no reference to commissions. None of petitioner's actions at the time of the settlement with Levitt appear to have been taken on the theory that he was entitled under the preincorporation agreement to additional compensation for services in excess of the services performed by the other shareholders. When Levitt found out that he was going to be forced to leave Pittsburgh, moreover, he examined petitioner's books and concluded567 that "the company was in a plus position in excess of $ 100,000" if it paid all the bills and collected its receivables. On that basis, he decided that he "wanted $ 50,000 for * * * [his] interest in the company" and that $ 50,000 would be fair" for his interest. 8 To that end, at a time when he was effectively sealed off from outside contacts with anyone, Levitt prepared and signed a $ 50,000 check (which required Schomaker's countersignature) payable to himself, writing on its face that it was for the "purchase of stock" and making corresponding entries in petitioner's books. 9 That same check was ultimately countersigned by Schomaker and delivered to Levitt, altered on its face only to show that it was for "commissions" rather than for the purchase of his stock. 568 From May 1, 1975, to September 24, 1975, Levitt was a full-time employee receiving as compensation a salary of $ 400 per week, use of a car, and a hospitalization insurance policy. Levitt made no claim for any additional compensation for past services at any time. In fact, he testified that he felt that he "had been compensated fairly up to that point." He further testified that if he had stayed with the company he anticipated that "we would take the profits that were left in the company and I would get my share and he [Schomaker] would get his share" as the end of 1975. 10569 Petitioner would have us discount this testimony because, he argues, Levitt initially took the position that he should be paid $ 50,000 for his stock rather than additional compensation only to obtain the more favorable capital gain treatment of his receipts. We think it quite inconceivable that Levitt gave tax consequences any real consideration at a time when he was abruptly taken into Federal custody and was faced with having himself and his family uprooted and removed to some other city where they would take a new identity and start life all over again. We think he was truthful when he testified that, as to tax consequences, he "did not care." 11It is true that Levitt's attorney-in-fact, Handler, 570 executed the Termination Agreement describing the $ 50,000 payment as "partial payment of commissions * * for services rendered" and the Agreement of Sale describing cancellation of the $ 1,000 note as consideration for the sale of his stock. It is also true that Levitt in 1979 signed a "Certification" that "all payments" received from petitioner during October 1975 and thereafter were "ordinary commissions/income subject to ordinary income tax," not in payment for his stock, and that the "actual sale of * * * [his] stock was carried out by cancellation of a $ 1,000 judgment note" against him. Levitt also signed a "Supplemental Certification" in 1980. These certifications, which were apparently signed for petitioner's use in handling this case when it was before the Internal Revenue Service, tend to discredit Levitt's testimony to some extent; but, taking into account his explanation of the circumstances in which they were signed, they do not create serious doubts as to his testimony on the crucial facts reviewed in the foregoing discussion. Levitt testified that when he learned he would be required to leave Pittsburgh, he was concerned about his need for cash. He retained571 Cindrich to represent him in closing his business affairs. Cindrich went to Levitt's home, and Levitt told him he wanted $ 50,000 for his interest in petitioner. After a later meeting with Schomaker, Cindrich drafted the Termination Agreement and Agreement of Sale. Cindrich testified that these agreements were not the product of any negotiations he had with Schomaker. Rather, Schomaker told him what the terms of the agreement, including the characterizations of the payments, were to be. He later communicated the terms to Levitt, including an explanation of the income tax consequences of such characterizations, and Levitt told him he did not care whether or not the payments were characterized as ordinary income. Because Levitt knew more about the value of petitioner's business than anyone else and was "perfectly willing, so long as he could get his money, to take it in that fashion," Cindrich did not attempt to negotiate the point. Levitt testified that cindrich explained that, it view of the terms of the Termination Agreement, he should report the payments from petitioner as ordinary income, and he did so. The certifications that he signed merely followed the terms of the572 Termination Agreement and reflected the manner in which he had reported the payments from petitioner in his income tax returns. We do not think the certifications alter the facts that Levitt, who admittedly knew more about the company that anyone else, though his interest in petitioner was worth $ 50,000, asked to be paid that amount, and received it. Petitioner emphasizes a long list of claims, possible claims, and potential claims against it which might have altered Levitt's approximation of its cash position, but we think the evidence shows that those posible claims were fully offset by petitioner's going-concern value, reflected in large part by the West Penn contract to which petitioner points in describing Levitt's valuable services. Moreover, the evidence shows that Schomaker did not at any time question the reasonableness of the amount requested by Levitt, but only the characterization of that amount. Based on a totality of the evidence, we hold that the Termination Agreement and accompanying Agreement of Sale do not reflect the substance and reality of the transaction whereby Levitt's interest in petitioner and all claims against petitioner were resolved. Petitioner573 gave the $ 50,000 check to Levitt, drafted by Levitt himself and ultimately countersigned by Schomaker, in payment for his stock. This was the price which he asked for his stock based on his knowledge of the company's assets and liabilities. This was the price he received. As a payment in redemption of his stock, the $ 50,000 is not deductible by petitioner. 122. The Monthly PaymentsWe are left with the $ 574 12,000 payment called for by paragraph 2 of the Termination Agreement, of which $ 4,800 was paid in 1975. 13 At the trial respondent's counsel offered a "scenario" in which Schomaker, in order to obtain a deduction for petitioner's payment for Levitt's stock, offered to pay him $ 62,000 rather than the $ 50,000 asked by Levitt if he would agree to have the Termination Agreement describe the payment as compensation so that it would be deductible.While there is some basis for suspicion that this is what occurred, there is no evidence to support a finding to that effect. To the contrary, all the testimony is that, while the additional $ 12,000 may have been offered in part as a magnanimous gesture, it was intended to be payment for consultation services which Schomaker needed in assuming management of the brokerage business. After Levitt abruptly left Pittsburgh, Schomaker became responsible for petitioner's day-to-day operations but had no experience or background in handling such details. Levitt, moreover, had established oral arrangements with coal suppliers575 which were important to servicing the West Penn contract. Schomaker testified that, when he met with Levitt during the evening prior to Levitt's departure, he asked the Federal authorities who were at Levitt's home whether he could arrange to have Levitt, on request, call him to advise on petitioner's business operations.He also asked whether Levitt, through proper channels, could receive and answer written inquiries. Both questions were answered affirmatively. On this basis, he agreed in writing to pay $ 12,000 for Levitt's consultation services. Between the time Levitt left Pittsburgh and the end of 1975, Schomaker talked by telephone with Levitt several times, met with him once in the marshall's office in Pittsburgh, and received five letters from him. One communication, for example, involved a disputed trucking bill, and Schomaker testified that the information obtained from that communication alone saved the company $ 2,000. Although Cindrich indicated that he thought that the $ 12,000 provision in the Termination Agreement may have been an act of magnanimity on Schomaker's part, he did recall that Schomaker expressed a "desire for future services or future consulting576 on the part of Mr. Levitt." Cincrich expressly denied that there was any discussion with Schomaker to the effect that the additional $ 12,000 was offered in return for having the agreement designate the entire $ 62,000 payment as compensation. As we have previously noted, Cindrich simply did not negotiate the point. Levitt acknowledged that he had not sought the $ 12,000 compensation provision and confirmed that he consulted with Schomaker on petitioner's business by telephone and by letter. He explained that he spent a great deal of time in Pittsburgh (several days in 1975 and 6 months in 1976) in the custody of the United States Marshall (apparently to testify in pending litigation) and was permitted to talk with Schomaker by telephone. It these communications he gave Schomaker such assistance as he could. Basing our conclusion on the whole record, we conclude that the $ 4,800 which petitioner paid to Levitt in 1975 pursuant to paragraph 2 of the Termination Agreement was compensation deductible under section 162(a)(1).To reflect the foregoing, Decision will be entered under Rule 155.Footnotes1. At the trial petitioner conceded an issue with respect to a claimed theft loss in the amount of $ 4,025. Petitioner has apparently abandoned a request for attorney fees made in the petition.↩2. All section references are to the Internal Revenue Code of 1954, as in effect during the tax year in issue, unless otherwise noted. 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-- (1) a reasonable allowance for salaries or other compensation for personal services actually rendered;↩3. Levitt's tax liability is not in issue here.↩4. Levitt testified that the West Penn "contract had a value because it could be sold" and that in his opinion "that contract could be taken to any coal broker in the country and sold on a percentage basis." By its terms the contract was not assignable, without West Penn's consent, but Levitt indicated that even though the contract "may say that" the nonassignsment provision would not prevent the sale of coal to West Penn through other brokers on a percentage basis. ↩5. On petitioner's Pennsylvania Corporation Income Tax Return for 1975, the stated value of petitioner's common stock was reported to be $ 20,000. On its Federal income tax returns for the period covered by the West Penn contract, petitioner showed total net profits from the coal brokerage business exceeding $ 1,000,000. While the size of those net profits may not have been fully foreseeable, the prospects for profit were sufficient to induce Schomaker to virtually abandon his law practice and take over the management of the business; the amount of income in 1975 depends in large part upon the outcome of the instant case but, as we view the facts, was in the $ 70,000 to $ 100,000 range.↩6. Sec. 1.162-7. Compensation for personal services. (b) The test set forth in paragraph (a) of this section and its practical application may be further stated and illustrated as follows: (2) The form or method of fixing compensation is not decisive as to deductibility. While any form of contingent compensation invites scrutiny as a possible distribution of earnings of the enterprise, it does not follow that payments on a contingent basis are to be treated fundamentally on any basis different from that applying to compensation at a flat rate. Generally speaking, if contingent compensation is paid pursuant to a free bargain between the employer and the individual made before the services are rendered, not influenced by any consideration on the part of the employer other than that of securing on fair and advantageous terms the services of the individual, it should be allowed as a deduction even though in the actual working out of the contract it may prove to be greater than the amount which would ordinarily be paid.↩7. The preamble of the Termination Agreement is as follows: WHEREAS, Employee [Levitt] has been previously employed by Employer [petitioner] as President, General Manager and Sales Representation; and, WHEREAS, Employer [petitioner] has been engaged in the business of coal brokering; and WHEREAS, Employee [Levitt] has consummated various sales of coal on behalf of Employer [petitioner] which have resulted in earnings and profit to Employer [petitioner]; and WHEREAS, Employee [Levitt] is entitled to commissions on said sales as set forth herein and is terminating his employment with Employer [petitioner] as of the 3rd day of October, 1975;↩8. Schomaker testified that he "analyzed the books as of the end of September, 1975" and "determined that there was approximately $ 70,000 that was left over after taking into account receivables, payables, paid payables and paid receivables." The reason for the difference between the two figures is not clear. Levitt explained that his $ 100,000 figure was not a precise one but, taking that approximate figure into account, $ 50,000 would be fair for his interest. ↩9. At one point Levitt testified: Q. * * * Did you view it [the $ 50,000 he claimed] more as a division of profits rather than salary? A. Yes, because that's where I came up with the $ 50,000. Q. Did you make any further claim for salary other than what you made? A. I did not.↩10. Levitt testified: Q. So having arrived at no further agreement for extra compensation, did you at this point feel that you were entitled to extra compensation? A. I felt that my position in the company was worth $ 50,000 to me. Q. And you had been compensated fairly up until that point? A. Right. In other words, there were profits in the company, and I felt I was getting $ 400 a week plus a car plus insurance, and Rick [Schomaker] was doing his bit with the law and getting paid for that, and at the end of the year we would take the profits that were left in the company and I would get my share and he would get his share. Q. If you had remained with the company and all these terrible events hadn't happened and you had to leave town, would you have negotiated for extra salary for the year 1975? A. No, not in 1975, I don't think so. Q. As far as you were concerned, you wanted $ 50,000 and that came out of profits, right? A. Yes, sir.↩11. Levitt testified on cross-examination by petitioner's counsel: Q. By characterizing the transaction as a sale of stock, you expected them to reduce the tax consequences to you; is that right? A. No, sir. When I tell you I gave no consideration to stock, I had to liquidate, and that was the farthest thing, I mean as far as tax, that was the farthest thing from my mind. Q. The tax consequences. A. Absolutely. I did not care. See also fn. 12, infra.↩12. Because of Levitt's need for immediate cash as a result of his departure from Pittsburgh, the countervailing tax considerations mentioned in the text, above, were frustrated as a means of assuring that the terms of Levitt's disposition of his interest in petitioner reflected the economic realities. As we have noted, Levitt simply "did not care" about the tax consequences of the transaction. Levitt testified that he had received a notice of deficiency for 1975 in which respondent had not challenged his reporting of the $ 50,000 as ordinary income. Even if the $ 50,000 has been erroneously treated as compensation in computing Levitt's tax liability, we do not think, in the circumstances here presented, that such treatment alters petitioner's liability.↩13. Although the agreement called only for the payment of $ 800 per month, petitioner paid Levitt $ 1,600 per month.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623901/	APPEAL OF GUTTERMAN STRAUSS CO.Gutterman Strauss Co. v. CommissionerDocket No. 234.United States Board of Tax Appeals2 B.T.A. 433; 1925 BTA LEXIS 2408; September 7, 1925, Decided Submitted March 18, 1925. 2408 Upon the facts herein, held, that the taxpayer did not file a false and fraudulent return with intent to evade the tax, within the meaning of the law. Mark Eisner, Esq., and Ferdinand Tannenbaum, Esq., for the taxpayer. C. H. Curl, Esq., for the Commissioner. MARQUETTE 433 Before IVINS, KORNER, and MARQUETTE. This appeal involves a deficiency in income and profits taxes for the year 1919, in the amount of $47,322.13, and also involves the additional amount of 50 per cent of such deficiency which the Commissioner proposes to assess on account of the filing by the taxpayer of an alleged false and fraudulent return for the year 1919, with intent to evade tax. The appeal was submitted on the pleadings and oral and documentary evidence, from which the Board makes the following. 434 The taxpayer is, and has been since some time prior to the year 1918, a corporation duly organized and existing under the laws of the State of Massachusetts, with its principal office and place of business at Boston, and is and has been engaged in the sole-leather business. Aaron L. Strauss is and was during the years 1918, 1919, and 1920 president2409 of the corporation. In the year 1918 the taxpayer entered into certain informal agreements with the Quartermaster Corps, United States Army, by which agreements it was to furnish to the said Quartermaster Corps, for the use of the United States Army, certain quantities of leather soles and heels for shoes, and it immediately purchased from two tanneries large quantities of leather and started to fill the contracts. Soon after the signing of the armistice on November 11, 1918, the Government canceled the contracts referred to, but agreed to and did accept all finished and nearly finished goods. The taxpayer thereafter made a claim against the War Department for compensation on account of losses incurred by it on account of the cancellation of its contracts, and the War Department awarded to the taxpayer, under the Dent Act, the amount of $62,339.92, which amount was received in two checks on August 9, 1919. At that time the taxpayer's books, on account of a scarcity of competent bookkeepers, were being kept by a young girl, a recent high-school graduate, who was without practical experience in bookkeeping. She entered the amount of the two checks in the taxpayer's cashbook, 2410 general ledger, and accounts-payable ledger, debiting cash and crediting United States Government account. These entries were improperly made, and on account of said improper entries the books did not reflect the true amount of income received by the taxpayer in the year 1919. The taxpayer's income and profits-tax return for the year 1919 was prepared by Ernst & Ernst, accountants, but the $62,339.92 received by the taxpayer from the United States in that year, on account of the canceled contracts, was not included and reported as income, inasmuch as it appeared on the taxpayer's books as an account payable to the United States. The return was signed by Aaron Strauss, president of the corporation. On May 24, 1920, the following letter was sent to the taxpayer by the Bureau of Internal Revenue: IT:I:Am JF TREASURY DEPARTMENT, Washington, May 24, 1920.GUTTERMAN STRAUSS Co., Boston, Mass.SIRS: According to information in this office, you received certain settlements because of canceled war contracts, which, however, do not seem to have been reported by you in conformity with article 52 of regulations 45. 435 It is requested that you furnish this2411 office with a full list of all such settlements, with the dates thereof, for consideration in connection with the audit of your 1918 tax returns. Settlements with other contractors as well as those made direct with the Government should be included, and the value of any material, etc., received by you in such settlement should be given, as well as the cash consideration received. If, as the result of such cancellation, you have made settlements with subcontractors, similar information should be furnished. In your reply tou are requested to refer to the initials in the upper lefthand corner of this letter. Respectfully, G. V. NEWTON, Deputy Commissioner,By JAMES FURSE, Chiet of Section.Upon the receipt of the letter above quoted, the taxpayer, through Mr. Strauss, took the matter up with Ernst & Ernst, who, after an examination of the taxpayer's books, wrote the following letter to the Commissioner of Internal Revenue under date of July 13, 1920: JULY 13, 1920. Ref. IT:I:Am JF COMMISSIONER OF INTERNAL REVENUE, Washington, D.C.DEAR SIR: Your letter of May 24, addressed to Gutterman Strauss Co., Boston, Mass., under the above file number, 2412 has been referred to us for attention. On account of the absence of Mr. Strauss, this letter did not reach us until June 29. Immediately upon its receipt we communicated with you through our Washington office and arranged for time until July 10 to prepare the data necessary for a reply to this letter. It happened, however, that during this extension we had a holiday and the writer was away from his desk for several days and the preparation of this reply was delayed beyond the extended time of July 10. We trust that these facts will be taken into consideration by you in determining the action which should be taken on this case. As a matter of record, we desire to state that the income-tax report of the above-named company for the year 1919 was prepared by our staff accountants. We were limited in our engagement, however, to the preparation of the return without detailed examination of the books. It now appears that in August, 1919, the company received two checks from the War Department in settlement of a claim which they had made for loss on uncompleted war contracts and materials on hand for same, these checks amounting to $62,339.92. Through a misunderstanding as to the2413 correct nature of the transaction, the bookkeeper credited these checks when received to an account with the United States Government included with expenses as compared to the net sales for the year 1919 to support the claim of 28.769 per cent for selling expenses. As a result of preparing these revised figures for the year 1919, we have prepared an amended return for that year which has been duly signed and sworn to by the officers of the company, and we have also prepared an amended return for the year 1918, in which has been included the additional income of $25,315.02, the balance of the settlement of $62,339.92 after 436 deducting the loss realized in 1919 from the liquidation of this merchandise as above explained and supported by the attached exhibits. Upon receipt of additional assessments for the years 1918 and 1919, we will send our check in settlement. Yours very truly, ERNST & ERNST, By A. H. P. Between July 13 and October 4, 1920, the taxpayer furnished the Commissioner copies of its settlements with the Government of the canceled contracts and several conferences were held by representatives of the taxpayer and the Commissioner, as a result of which2414 the $62,339.92 involved herein was allocated to the taxpayer's income for the years 1918 and 1919 in the amounts of $23,520.17 and $38,819.75, respectively. On October 4, 1920, the taxpayer was notified by letter that its net income for the year 1918 had been increased by the portion of the $62,339.92 allocated thereto, and that additional tax was due for that year in the amount of $20,514.05. The additional tax so determined was paid by the taxpayer upon notice and demand by the collector. On December 31, 1920, the amount of $62,339.92, which had been erroneously handled on the taxpayer's books, was credited directly to surplus. The taxpayer did not file an amended return for the year 1919, but merely waited for a bill from the collector for whatever additional tax might be determined to be due upon the basis of the allocation to that year of part of the money received on account of the cancellation of the contracts involved. During the year 1919 the taxpayer disposed of the material it had purchased for the purpose of filling its Government contracts, and which had not been used at the time the contracts were canceled. Part of the unused material was resold at a loss to2415 the tannery from which it had been purchased, and the remainder thereof was cut up and sold along with the taxpayer's regular stock. Upon the sale of this material in the year 1919 the taxpayer sustained a loss of $35,978.80. Subsequent to the year 1920 the Commissioner determined that the amount received by the taxpayer from the United States in settlement of the canceled contracts was income to the taxpayer for the year 1919. He accordingly increased the taxpayer's income as reported in its return by that amount and determined that there is a deficiency in tax for that year in the amount of $47,322.13. He also determined that the taxpayer's return for the year 1919 was fraudulently made with intent to evade tax, and he proposes to assess 50 per cent of the amount of the deficiency, in addition to the deficiency, under the provisions of section 275(b) of the Revenue Act of 1924. The taxpayer now concedes that the amount received in settlement 437 of the canceled contracts was income for the year 1919. The deficiency letter was mailed to the taxpayer on July 25, 1924. The petition herein was filed September 22, 1924. DECISION. The determination of the Commissioner2416 that the taxpayer filed a false and fraudulent return with intent to evade the tax is disapproved. The deficiency should be computed in accordance with the following opinion and the amount thereof will be settled on consent or on 10 days' notice, under Rule 50. OPINION. MARQUETTE: This appeal presents two questions for consideration; first, the action of the Commissioner in refusing to deduct from amounts received under certain Government contracts losses sustained and expenses incurred by the taxpayer in the disposition of materials acquired for use in connection therewith; and, second, the determination of the Commissioner proposing to assess a penalty of 50 per cent of the additional tax for the filing of an alleged false and fraudulent return with intent to evade the tax. The taxpayer concedes that the amount of $62,339.92 is properly income in the year 1919 from Government contracts. Its contention is that losses sustained and expenses incurred in the disposition of materials purchased to carry out the contracts should be deducted from the income received from its Government contracts before such income is subjected to the tax rates applicable thereto. The evidence2417 shows that part of the materials purchased was resold to its vendors at a loss and the balance cut up and sold along with its regular stock. The taxpayer incurred manufacturers' and selling expenses in connection with the disposition thereof which, together with the losses sustained in the disposition thereof, amounted to the sum of $35,978.80. We find no reason for disallowing this amount as a deduction from income received from the Government contracts and it should be allowed as a loss in computing the tax thereon. The point next to be considered is whether upon the evidence presented we should hold the taxpayer filed a false and fraudulent return with intent to evade the tax and is liable to a penalty of 50 per cent of the additional tax. Most of the evidence presented was directed to this issue, and we have the testimony of the bookkeeper, the accountant who prepared the original return and who subsequently submitted the data upon which the present deficiency was predicated, and the president of the corporation before us, together with documentary evidence showing the history of the case. We have carefully considered this evidence and have come to the conclusion 438 2418 that it contains nothing in the way of facts which would warrant us in holding that the return of the taxpayer was fraudulently false and made with intent to evade the tax. We shall shortly set forth the reasons for our conclusion. At the time the checks were received by the taxpayer on its Government contracts it had in its employ a young and inexperienced girl just out of high-school, where she had gained some knowledge of bookkeeping. Without instructions so to do she charged cash and credited the United States, believing such entry correctly reflected the transaction. Upon cross examination she stated her reason as follows: Well, that is the ordinary entry. I received cash and I credited the United States Government. We have no doubt, after hearing her testimony, that she made the entry in good faith and had no idea or knowledge of its effect upon the tax liability of the corporation. The accountants who prepared the return did so under their engagement without a detailed examination of the books, and the item contained in the erroneous entry was not disclosed in the return. When the matter was brought to the attention of the taxpayer through a letter from the Internal2419 Revenue Bureau, the accountants were called in and a full disclosure of the transaction was made by letter of July 13, 1920, together with an explanation showing what the books disclosed, as a result of which the Commissioner allocated the amount received between the years 1918 and 1919 and assessed an additional tax for the year 1918, which was paid, and the taxpayer at that time notified the Commissioner that the additional tax for 1919 would be paid upon receipt of the additional assessment. Much was made of the fact by the attorney for the Commissioner that on December 31, 1920, the amount of $62,339.92 was credited to surplus as evidencing knowledge of the erroneous entry. We do not think this fact is even remotely connected with the issue, for the reason that on July 13, 1920, full disclosure of the transaction had been made to the Government, and the action taken was the only proper action in the circumstances and is a far cry from evidence of fraud. We recognize the fact that the law requires every corporation to file a return setting forth its gross income and the deductions and credits allowed by law which must be sworn to by its principal officers, and that the corporation*2420 or its officers can not hide behind the fraudulent acts of employees committed in its behalf. We are unable, however, to find any evidence of fraud on the part of either the officers or employees, and the proposed penalty of 50 per cent of the additional tax should therefore not be assessed. ARUNDELL not participating.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623903/	STEPHEN M. CARDWELL, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentCardwell v. CommissionerDocket No. 10409-79.United States Tax CourtT.C. Memo 1988-270; 1988 Tax Ct. Memo LEXIS 297; 55 T.C.M. (CCH) 1125; T.C.M. (RIA) 88270; June 22, 1988. 297 Charles L. Abrahams, for the petitioner. Thomas A. Dombrowski, for the respondent. SCOTT MEMORANDUM OPINION SCOTT, Judge: This case is before us on respondent's motion to dismiss for failure to properly prosecute and to determine that there is due from petitioner a deficiency in income tax for the taxable year 1975 in the amount of $ 1,507. Respondent determined a deficiency in petitioner's income tax for the calendar year 1975 in the amount of $ 9,633. In order to put respondent's motion to perspective, it is necessary to recite some of the background of this case. Petitioner is one of over 200 hockey players who are citizens of Canada but play hockey for teams in the United States. Petitioner's petition filed in this case alleges that "for purpose of establishing venue in the United States Court of Appeals, pursuant to Rule 34(b)(1) of the rules of this Court, the legal residence of the Petitioners is Hershey, Pennsylvania. The return for the period here involved was filed with the Office of the IRS at Philadelphia, Pennsylvania." 1 However, in numerous attachments to the petition, it is stated that petitioner's home is Canada and petitioner is298 a citizen of Canada. Since there were numerous similar issues in the over 200 cases involving Canadian hockey players who played for American teams, these cases including the above-entitled case, were assigned in 1982 to Judge William A. Goffe of this Court for trial or other disposition. Two of the cases involving the Canadian hockey players were heard before Judge Goffe and opinions written which were appealed to two separate Circuit Courts of Appeal and affirmed in part and remanded in part. A supplemental opinion was issued with respect to the remand. See Stemkowski v. , affd. in part and remanded in part , supplemental opinion in , and , agreeing with the opinion of the Second Circuit in While the two cases were pending in this Court, the parties discussed agreeing to be bound by the final299 decision in the other cases. The Court held in abeyance any further action with respect to the over 200 cases involving the Canadian hockey players pending the parties working out an agreement. After decision in the two cases, the over 200 cases were set for trial in San Diego, California on January 12, 1987. These cases were called for trial on January 12, 1987, and recalled on subsequent dates in January. The parties on January 23, 1987, filed with the Court a stipulation with respect to a basis of settlement of the hockey player issues in the approximately 200 cases and agreed to submit final documents or a stipulation of settled issues disposing of the hockey player issues in these cases by June, 1987. Thereafter, a number of the cases were settled and stipulations with respect to settlement of the hockey player issues were filed in most of the other cases. There were a few cases, of which the above-entitled case was one, where most of the hockey player issues were disposed of by agreement of the parties. In the instant case, all of the hockey player issues were disposed of except a claim by petitioner for $ 631 of promotional expenses which had not originally been claimed300 on the return and which had subsequently been claimed as a miscellaneous expense. On June 30, 1987, the Court received a status report from respondent reciting that stipulations had been sent to petitioner with respect to disposing of the hockey player issues in this case and that petitioner's counsel had not responded thereto. A copy of this report was served on counsel for petitioner. On September 4, 1987, an order was issued by this Court in this case and a number of other cases that involved the same situation. This order referred to respondent's status report of June 30, 1987, and stated that based on that report the Court concluded that agreement had been reached as to the hockey player issues in all these cases and that these cases involved non-hockey player issues only. The order further recited that counsel for petitioner had not advised the Court to the contrary, although he had had the status report since June 30, 1987. The order further stated that the Court concluded that only non-hockey player issues were involved in these cases and that all these cases (including the instant case) were restored to the general docket for trial in due course on the other issues. 301 This case, along with a number of other hockey player cases involving non-hockey player issues, was placed on the trial session in San Diego, California for March 7, 1988. On December 22, 1987, petitioner filed a motion for partial summary judgment reciting that, in fact, respondent had agreed to settle the above-entitled case by allowing a percentage of the claimed $ 631 of additional promotional expenses. Respondent filed an objection thereto reciting in some detail the background of the negotiations with respect to settlement of the hockey player issues and this motion was set for hearing at the call of the calendar of the trial session in San Diego, California on March 7, 1988. Petitioner filed a motion for continuance of the case on the ground that a motion for summary judgment was pending. This motion was denied by order dated February 10, 1988. This order specifically stated that denial of the motion for summary judgment would not be grounds for a continuance of the case and that the parties should be prepared to try the case on the March 7, 1988, session. On February 10, 1988, petitioner filed a motion in this case, and a number of the other hockey player cases that302 involved non-hockey player issues, alleging that, in fact, respondent had agreed to settle the non-hockey player issues and had not gone forward with the settlement as agreed. This motion was also set for hearing at the call of the trial session in San Diego, California on March 7, 1988. Argument on the motions was heard and both motions for partial summary judgment were denied. The Court then set a date for trial of the remaining issues in this case. The basis for denial of the motion involving the additional promotional expenses of $ 631 was that petitioner's allegations, in light of the other information of record, did not substantiate his contention that there had been a settlement between the parties with respect to this issue. Respondent in his objection to petitioner's motion specifically denied that the parties had reached an agreement of settlement of the claimed $ 631 of promotional expenses. Petitioner has failed to show that a settlement had been reached as to this item and in fact, the documentation clearly indicates to the contrary. The basis for the denial of the second motion for partial summary judgment was that petitioner's affidavit and other documents attached303 to his motion did not show that a settlement agreement had been reached by the parties on the non-hockey player issues and other evidence of record, including the hearings before this Court held in San Diego, California beginning January 12 and extending through January 23, 1987, as recorded in the transcript of those hearings, specifically showed that no agreement had been reached by the parties with respect to the non-hockey player issues. When these cases were reached for trial on the San Diego, California session on March 10, 1988, petitioner's counsel asked that they be continued since he did not have the proof currently available to support the items claimed to be deductible. The Court denied the motion for continuance, but left the record open for 30 days to receive settlement documents based on disposition of any issues that had not been previously settled. The Court stated that if the parties could not settle the issues from the documentation presented to respondent by petitioner in the 30-day period, they should stipulate petitioner's documentation and present the issue to the Court for decision. Respondent, at the call of the case for trial, when petitioner did not304 have available evidence to substantiate the claimed deductions, filed a motion to dismiss for failure to properly prosecute, here under consideration. The Court took this motion under advisement pending the results of the presentations of proof by petitioner to support his claimed deductions. When this case was called for trial, the parties filed with the Court the following stipulation of settled and unsettled issues:Settled IssuesThe issues set forth below are issues, both hockey related and non-hockey related, which the parties agree are settled issues. The parties further agree to adjustments to petitioner's taxable income, as set forth in respondent's notice of deficiency, in the amounts set forth below:Stipulated:(1) Employee Business Expenses:Allowed - $ 476.00(2) Miscellaneous Deductions:Allowed - $ 4,402.00(3) Medical:Allowed - $ 150.00(4) Interest Expenses:Allowed - $ 2,521.00(5) Taxes:Allowed - $ 1,234.00(6) Partnership Income:Allowed - loss - $ 1,311.Unsettled Non-Hockey Related IssuesThe issues set forth below are unsettled hockey related issues not defined in paragraph 5 of the January 23, 1987 stipulation305 or are unsettled non-hockey related issues which are to be tried:(1) Moving Expenses.(2) Sales Tax Deduction.(3) Additional Promotional Expenses.Respondent's motion went to the three remaining unsettled issues in the case. Subsequent to the call of the Canadian hockey player cases from the March 7, 1988, San Diego session, all of the cases except the instant case were disposed of by settlement stipulations filed by the parties. No formal explanation has been furnished to the Court as to why this case was not disposed of by settlement, or why the documentation to support the deductions claimed by petitioner was not presented to the Court within the 30-day period allowed from March 10, 1988. We have a case here, in which no evidence was offered by petitioner to substantiate or support the claimed deductions, which clearly petitioner had the burden to substantiate. All the unsettled issues are purely factual issues. Moving expenses would have to be substantiated before there would be any legal question as to their allowability; a claimed sales tax deduction also requires substantiation, if not computed under the tables provided in respondent's instructions. We have306 previously discussed the lack of substantiation of petitioner's claimed additional promotional expense deduction. Under these circumstances, we have a taxpayer refusing to offer the necessary evidence to substantiate claimed deductions. If petitioner in fact had any evidence to substantiate these claimed deductions, this record fails to show why it was not offered either when the case was called for trial or in the time allowed by the Court thereafter for the documentation to be offered. Petitioner has failed to prosecute his case even though he was notified in an order of this Court will in advance of the trial to be prepared to try the case during the March 7, 1988, session in San Diego, California. This is a clear situation of failure to properly prosecute on the part of petitioner. Therefore, we grant respondent's motion to dismiss for failure to properly prosecute and will enter an order to that effect and determine the proper deficiency. However, since the Court is not certain that the amount of deficiency requested in respondent's motion is the amount computed after allowance of the various amounts conceded by respondent to be allowable in the stipulation of settled*307 and unsettled issues, it seems appropriate to have a recomputation made of petitioner's tax liability in accordance with the items agreed to be allowable by the parties and the sustaining of respondent's disallowance of all other items. An appropriate order and decision will be entered under Rule 155.Footnotes1. All references to Rules are to the Tax Court Rules of Practice and Procedure. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623904/	Harold J. and Opal A. Plumley v. Commissioner.Plumley v. CommissionerDocket No. 4923-68.United States Tax CourtT.C. Memo 1970-35; 1970 Tax Ct. Memo LEXIS 325; 29 T.C.M. (CCH) 98; T.C.M. (RIA) 70035; February 9, 1970, Filed. Harold J. Plumley, pro se, R.R. #8, Box 213, Muncie, Ind.Bernard J. Boyle and Wayne I. Chertow, for the respondent. TIETJENSMemorandum Findings of Fact and Opinion TIETJENS, Judge: The Commissioner determined a deficiency of $1,447.04 in petitioners' 1966 income tax. We must decide whether petitioner, Harold J. Plumley, is entitled to a deduction for the value of certain shares of Mid-American Companies, Inc., which he transferred to two employees of a wholly owned subsidiary of Mid-American Companies, Inc. Findings of Fact Petitioners, Harold J. Plumley, ("petitioner") and Opal A. Plumley, husband and wife, resided in Muncie, Indiana at the time they filed their petitioner herein. They filed their joint Federal income tax return for 1966 with the district director of internal revenue, Indianapolis, Indiana. In 1962 petitioner, a certified public accountant, was employed by Harrington, Hunt and Company, Certified Public327 Accountants. During 1962 he devoted most of his time to public accounting work. In May 1963 he became a partner in the accounting firm of Harrington, Hunt, Plumley and Company. Thereafter he became instrumental in organizing and promoting several corporations, engaging in such activities on behalf of the firm, and devoting an increasing percentage of his time to servicing the management needs of these corporate clients. Among the corporations petitioner was instrumental in organizing and promoting was Talma Fastener Corporation ("Talma"), incorporated in June 1964, and Mid-American Companies, Inc. ("Mid-American"), incorporated in October 1964. Talma became a wholly owned subsidiary of Mid-American. Petitioner and his family were issued 37,483 shares of Mid-American's original issue of 105,481 shares. Early in 1964 petitioner and five other men had formulated plans for the formation of a fastener company. It was to be a new company, starting from scratch. By May 1964 it became apparent to these men that they had the ability to form such a company, although they had little capital. They foresaw that during the early months of the company's business the company "would be tight cash-wise. 328 " At the same time petitioner recognized the importance to the success or failure of the company of its employment of Colman Howton ("Howton"), a production man, and Harry Wink ("Wink"), a salesman. Petitioner induced these men to work for Talma for $100 a week, substantially less than they had been earning in their previous employments. He believed that when Talma had been established in business it would be able to and would raise their salaries to the level these men would have earned had they continued in their previous employments. Petitioner orally promised that he personally would make up the difference in any event. Talma did not prosper as quickly as petitioner had hoped. In 1966 it remained financially incapable of raising the salary of these men to the level they would have enjoyed had they continued in their previous employments. In 1966 petitioner sat down with Howton and Wink to make good on his promise. It was agreed that each should have earned $10,000 a year during the period he was employed by Talma. From this figure was deducted the compensation Howton and Wink had actually received from Talma and the balances - $3,365 for Wink and $3,625 for Howton - were arrived329 at. As petitioner did not have sufficient cash to pay them, Howton and Wink agreed to accept payment in shares of Mid-American. Petitioner transferred to them shares having a fair market value of $6,900 equal to petitioner's basis in such shares. During 1966 petitioner did not dispose of any of his remaining shares of stock in Mid-American. Harrington, Hunt, Plumley and Company received fees from the corporations in the organization and promotion of which petitioner was instrumental. An original fee from Talma of approximately $2,700 reflected charges for petitioner's organization and promotion activities, approximately 85 percent of such fee, as well as charges for his regular accounting services. Subsequently the accounting firm collected fees from Talma on a regular basis. Talma was not a substantial client of Harrington, Hunt, Plumley and Company. By January 1966, petitioner "had several of these corporations going," i.e., corporations for which he devoted most of his 100 time in managing. These corporations were not paying the regular accounting fees that had previously been contributed by petitioner to the accounting firm. For this reason, and because petitioner's and330 Hunt's objectives were different (Hunt's being to remain in the accounting profession), the partnership was dissolved in January 1966. Thereafter petitioner was employed directly by these corporations, managing them and collecting salaries directly from them rather than receiving his fees indirectly through a division of partnership profits. During 1966 petitioner earned approximately $15,000 in the form of such salaries. At the time petitioner originally made his promises to Howton and Wink it was principally because he expected their services would cause Talma to prosper, with a resulting appreciation in value of his stock in Mid-American. Secondarily, he expected Talma would pay the accounting firm, of which he was a partner, fees for his organizational and management services, as well as for his regular accounting services. On their joint Federal income tax return petitioners claimed, with respect to petitioner's transfer of stock to Howton and Wink, a deduction of $6,990. In his statutory notice of deficiency the Commissioner disallowed the claimed deduction with the explanation that it was "not allowable under sections 162, 212, 165 or any other section of the Internal Revenue331 Code of 1954." Opinion We must decide whether petitioner is entitled to a deduction of $6,990, the fair market value of stock owned by petitioner in Mid-American Companies, Inc., which he transferred to two employees of Talma as compensation for services which they rendered Talma. The deduction is claimed either as an "ordinary and necessary" business expense under section 162, I.R.C. 1954, 1 or as a nonbusiness expense incurred for the production of income under section 212. In the alternative petitioner claims he is entitled to a deduction under section 165, for a loss incurred in a transaction entered into for profit, though not connected with a trade or business. Section 162(a) provides 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. Section 212 provides that 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 for, among other things, the production of income. Section332 212 has neither the purpose nor effect of enlarging the area of allowable deductions; it is to be considered in pari materia with section 162, providing for a class of deductions coextensive with "business" deductions but for the requirement that the income-producing activity be a trade or business. United States v. Gilmore, 372 U.S. 39">372 U.S. 39. It merely enlarged the category of incomes with respect to which expenses are deductible, McDonald v. Commissioner, 323 U.S. 57">323 U.S. 57, 62, to include expenses incurred in the production of income. Whipple v. Commissioner, 373 U.S. 193">373 U.S. 193, 200. We find that petitioner58s activity of fostering his assemblage of struggling businesses for compensation constituted either a trade or business, or, if not a trade or business, an activity engaged in for the production of income. Petitioner has persuaded us that his services resulted in his receipt of income "other than the normal investor's return, income received directly for his own services rather than indirectly through the corporate enterprise, and the principles of Burnet ( Burnet v. Clark, 287 U.S. 410">287 U.S. 410), Dalton ( Dalton v. Bowers, 287 U.S. 404">287 U.S. 404),333 duPont ( Deputy v. duPont, 308 U.S. 488">308 U.S. 488) and Higgins ( Iggins v. Commissioner 312 U.S. 212">312 U.S. 212) are therefore not offended (by such a finding.)" Whipple v. Commissioner, 373 U.S. 193">373 U.S. 193, 203. Even if the taxpayer demonstrates an independent trade or business of his own, as distinct from the trade or business of a corporation in which he is an investor, the expense must be shown to be both "ordinary" and "necessary" in order to qualify for deduction under either section 162 or section 212. Welch v. Helvering, 290 U.S. 111">290 U.S. 111. In determining whether a particular expense is "ordinary" the Supreme Court has stated: One of the extremely relevant circumstances is the nature and scope of the particular business out of which the 101 expense in question accrued. The fact that an obligation to pay has arisen is not sufficient. It is the kind of transaction out of which the obligation arose and its normalcy in the particular business which are crucial and controlling. ( Deputy v. duPont, 308 U.S. 488">308 U.S. 488, 496.) It has been held that for an expense to be normal in the particular business, it is not necessary that the payments be habitual334 or normal in the sense that the same taxpayer will have to make them often. Welch v. Helvering, supra. Nevertheless, we are not persuaded that petitioner's obligation to Howton and Wink was "ordinary" in the particular trade or business in which petitioner was engaged - performing management and accounting services to Talma for compensation. Nor has petitioner persuaded us that his engagement was "necessary" or that it was directly connected with or proximately related to his alleged trade or business, a prerequisite to allowance of the deduction under either section 162 or section 212. See Niblock v. Commissioner, 417 F. 2d 1185 (C.A. 7, 1969), affirming a Memorandum Opinion of this Court, and Stratmore v. U.S., 420 F. 2d 461 (C.A. 3, 1970). Accordingly, we hold petitioner is not entitled to the claimed deduction under either of those sections. In the alternative, petitioner claims he is entitled under section 165(a) and (c)(2) to a deduction of $6,990 characterizing his transfer of the shares as a "loss sustained during the taxable year and not compensated for by insurance or otherwise," and "incurred in [a] transaction entered into for335 profit, though not connected with a trade or business." In J. K. Downer, 48 T.C. 86">48 T.C. 86 (1967), the taxpayer, a major shareholder of a corporation, transferred stock in the corporation, held for more than six months, having a fair market value of $15,000 and an adjusted basis of $100,000, to a third person in consideration for services which that person rendered to the corporation. This Court held the shareholder sustained a loss incurred in a transaction entered into for profit, capital in nature, as resulting from his sale or exchange of a capital asset. The measure of his loss was the difference between his adjusted basis in the stock and the value of the intangible benefit he received upon the exchange, presumably equal to the fair market value of the stock at the time of the exchange - $15,000. As section 165(f) limits allowance of such a loss to the extent allowed in sections 1211 and 1212, we held the taxpayer was entitled to a long-term capital loss of $85,000. We think the present case is controlled by J. K. Downer, supra, the petitioner realizing no loss, however, as the fair market value of his stock at the time of the exchange was equal to its adjusted336 basis. Accordingly we hold that petitioner is not entitled to any loss deduction under section 165. As the issue is not before use, we do not decide whether petitioner made a contribution of capital to Mid-American which should be reflected in an increase in the basis of his remaining shares. Decision will be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954 unless otherwise specified.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623907/	CARL A. SAMUELSON, JR., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSamuelson v. CommissionerDocket No. 16398-84.United States Tax CourtT.C. Memo 1985-561; 1985 Tax Ct. Memo LEXIS 71; 50 T.C.M. (CCH) 1409; T.C.M. (RIA) 85561; November 14, 1985. Carl A. Samuelson, Jr., pro se. James E. Gray, for the respondent. HAMBLENMEMORANDUM FINDINGS OF FACT AND OPINION HAMBLEN, Judge: This case is before the Court on respondent's motion for summary judgment pursuant to Rule 121 1 and respondent's motion for an award of damages under section 6673. Respondent issued a notice of deficiency to petitioner on February 29, 1984. In the notice of deficiency respondent determined deficiencies in petitioner's Federal income taxes and imposed additions to tax as follows: YearDeficiencySec.6653(b)(1) 2Sec.6653(b)(2)Sec.66541978$705.00$352.50$23.2719793,646.001,823.0094.1019804,325.882,162.94180.2719812,642.001,321.0019824,070.002,035.00 161.5572 Petitioner filed a timely petition in this case only for the taxable years 1981 and 1982. Therefore, our jurisdiction and respondent's motion for summary judgment relate only to these years. In his original petition, petitioner claimed that respondent erred in his determinations for the following reasons: 4. The commissioner erred in determining that the petitioner was a person liable for income tax without basis of fact in the record, and further erred in determining that fictions of filing status and of income could be utilized to deny and disparage petitioners substantive rights, privileges and immunities. 5. The commissioner erred in determining that petitioner was a bondsman or servant performing services under the direction and control of a master, and that petitioner received compensation for such services deemed to be employee wages or income, and in which the commissioner had an implied interest through an arrangement with the master or employer, voluntarily entered into by petitioner. 6. The commissioner erred in determining that petitioner73 failed or was not timely in fulfilling alleged and known duties and obligations, or that he was in any way negligent, or that an underpayment of tax occurred, or that any facts he provided were false or fraudulent, or that he was subject to any penalty for his rightful conduct. 7. The commissioner erred in determining that certain forms W-2 issued by contracting parties under petitioners name accurately described factual matters relevant and material to alleged deficiencies and alleged income taxes of petitioner. 8. The commissioner erred in knowingly and deliberately making false allegations into deceptions and fictions, cloaking them by color of law with a presumption of fact and a presumption of correctness, then proceeded to determine alleged deficiencies that are self serving, erroneous, false and fraudulent. 9. The commissioner erred by knowing misapplication of the law that was deliberately injurious, materially prejudicial, and done in bad faith. Further, the commissioner fraudulently asserted the application of law and rules upon petitioner that were never published, noticed, or made effective according to law. The "facts" on which petitioner based his assignments74 of error were: 11. Petitioner is a natural, private, sovereign individual. He conducts his affairs pursuant to common right as a sole proprietor, not for any purpose of commerce or objective for profit, and not upon any knowing request, receipt, or exercise of government privilege, franchise and benefit. 12. Petitioner received various amounts shown as consideration for the contracted sale and delivery of personal property, as shown in Table 2. The property was acquired by gift at or shortly before the sale, and was not held as capital. 13. The cost basis petitioner inherited from the donor of the property sold was unknown and indeterminable. A substituted cost basis was determined for each of the properties to be equal to their fair market value just before the sale, corresponding to the time the properties were acquired by, and in the hands of, the donor, and as shown in Table 2. 14. The amounts received by petitioner from the sale of property were received as consideration pursuant to a voluntary contractual relationship with other competent contracting parties, and was part express, implied or both. 15. The expenses incurred by petitioner in the receipt, sales75 and deliveries of the personal property, and in the conduct of his natural and private life, are summarized in Table 2. 16. The forms W-2 utilized by the commissioner herein as a basis, contained a scheme of fictions and deceptive classifications that are potentially fraudulent, created by the commissioner upon self-serving and circular conclusions, and made solely for tax purposes and not as any part of the normal business purpose or records of any of petitioner's contracting parties. The Table 2 amounts for 1981 and 1982 referred to in the petition are the same as the amounts determined by respondent to be gross income from wages paid by the Public Works Commission of Fayetteville, North Carolina, and from retirement income paid by the U.S. Army. Petitioner filed an amended petition on July 26, 1984, which presented identical arguments. On February 1, 1985, respondent filed an answer to the amended petition. In his answer to the amended petition, respondent alleged as follows: 18. FURTHER ANSWERING THE AMENDED PETITION, and in support of the determination that the underpayment of tax required to be shown on each of the petitioner's income tax returns for the taxable years76 1981 and 1982, is due to fraud, respondent alleges: a. For the taxable years 1978, 1979, 1980 and 1982, petitioner did not file federal income tax returns. For the taxable year 1981, petitioner filed an incomplete Form 1040A, to which he attached a Form W-2 from his employer, Fayetteville Public Works Commission. A copy of the Form 1040A is attached hereto as Exhibit B. b. During the taxable year 1978, petitioner received retirement pay of $6,550.68 from the United States Army (hereinafter referred to as "USA"), which he failed to report. c. During the taxable year 1979, petitioner received wages from the Fayettevile, North Carolina Public Works Commission (hereinafter referred to as "PWC") of $10,260.64 and retirement pay of $7,170.12 from USA, all of which he failed to report. d. During the taxable year 1980, petitioner received wages of $8,541.21 from PWC, retirement pay of $8,120.66 from USA, and received a gain of $4,776.00 from the transfer of a house to his wife as part of a separation agreement, all of which he failed to report. e. During the taxable year 1981, petitioner received wages of $13,189.12 from PWC and retirement pay of $8,921.88 from USA. Petitioner77 reported only the wages of $13,189.12 from PWC. Petitioner fraudulently and with the intent to evade tax failed to report the retirement pay of $8,921.88 which he received from USA. f. During the taxable year 1982, petitioner received wages of $12,635.34 from PWC and retirement pay of $9,408.40 from USA, all of which he fraudulently and with the intent to evade the payment of tax failed to report. g. For the taxable years 1978, 1979 and 1980, petitioner had federal income taxes withheld from his wages in the following amounts: $0.00, $1,149.63 and $1,197.48. These amounts are substantially less than the federal income tax liabilities petitioner incurred for the taxable years 1978, 1979 and 1980, which are the following amounts: $705.00, $3,646.00 and $4,325.88. h. For the taxable years 1981 and 1982, petitioner fraudulently and with the intent to evade the payment of tax had federal income taxes of only $2,196.39 and $1,928.37, respectively, withheld from his wages. These amounts are substantially less than the federal income tax liabilities of $2,642.00 and $4,070.00, respectively, which petitioner incurred for the taxable years 1981 and 1982. i. On March 9, 1983, petitioner78 submitted to his employer a Form W-4 on which he claimed exemption from federal income tax. A copy of the Form W-4 is attached hereto as Exhibit C. j. Petitioner fraudulently and with the intent to evade tax failed to report his correct income tax liability for the taxable year 1981 in the amount of $2,642.00, and fraudulently and with the intent to evade tax failed to report his income tax liability for the taxable year 1982, in the amount of $4,070.00. k.All or a part of the underpayments of tax by petitioner for the taxable years 1981 and 1982 is due to fraud. Petitioner did not file a reply to the answer to the amended petition, and on April 26, 1985, respondent filed a "Motion for Entry of Order that Undenied Allegations in Answer to Amended Petition be Deemed Admitted." Petitioner was notified of respondent's motion and informed that he could file a reply on or before May 20, 1985. Petitioner did not file a reply, and respondent's motion was granted by Order dated May 29, 1985. Respondent filed his motion for summary judgment and motion for award of damages on August 15, 1985. Petitioner was served with a copy of each of these motions by respondent.By Order dated September 9, 1985, petitioner79 was given 30 days in which to respond to the motions. Petitioner did not submit any response. Motion for Summary JudgmentA decision will be rendered on a motion for summary judgment if the pleadings, answers to interrogatories, depositions, admissions, and any other acceptable materials, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that a decision may be rendered as a matter of law. Rule 121(b). A fact is material if it "tends to resolve any of the issues which have been properly raised by the parties." C. Wright, A. Miller & M. Kane, 10A Federal Practice and Procedure: Civil, sec. 2725 (2d ed. 1983). 3 Our rules require that the petition contain clear and concise assignments of each error which petitioner alleges to have been committed by respondent. Rule 34(b)(4); Jarvis v. Commissioner,78 T.C. 646">78 T.C. 646, 658 (1982). Any issue not raised in the assignments of error shall be deemed conceded. Rule 34(b)(4); Jarvis v. Commissioner,supra, at 658. 80 Here, petitioner has not raised any justiciable facts or issues with the exception of his contention that his actions were not fraudulent. The assignments of error and "facts" supporting such assignments asserted by petitioner are not unfamiliar to us. We have, in fact, repeatedly rejected petitioner's arguments as meritless. See, e.g., Abrams v. Commissioner,82 T.C. 403">82 T.C. 403, 405 (1984); Rowlee v. Commissioner,80 T.C. 1111">80 T.C. 1111, 1119-1122 (1983). Although petitioner did allege that his actions were not fraudulent, the fact of fraud for each of the years at issue has been conclusively established through petitioner's deemed admissions. Doncaster v. Commissioner,77 T.C. 334">77 T.C. 334, 337 (1981). Consequently, we find that there is no genuine issue of material fact, and respondent is entitled to summary judgment as a matter of law. Motion for DamagesSection 6673 provides, in pertinent part: Whenever it appears to the Tax Court that proceedings before it have been instituted or maintained by the taxpayer primarily for delay or that the taxpayer's position in such proceedings is frivolous or groundless, damages in an amount not in excess81 of $5,000 shall be awarded to the United States by the Tax Court in its decision. * * Here, petitioner in his petition and in his amended petition raises only worn-out meritless arguments. Petitioner, of course, has every right to contest respondent's assertion of fraud. But petitioner's course of conduct convinces us that he did not come before this Court in order to challenge the fraud determination.His failure to prosecute his case coupled with the clearly frivolous petition and amended petition convinces us that petitioner's primary purpose was not to utilize this Court as a forum to litigate a genuine tax controversy but only to express his dissatisfaction with the Federal income tax system and to delay the payment of his Federal tax obligations. Consequently, upon a review of this record, we find that this proceeding was instituted and maintained primarily for delay and that petitioner's position in this proceeding as to the underlying deficiencies was frivolous and groundless. We accordingly award damages to the United States in the amount of $5,000.00. To reflect the foregoing, An appropriate order and decision will be entered.Footnotes1. All rule references are to the Tax Court Rules of Practice and Procedure. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954, as amended and in effect for the taxable years in issue.↩2. Sec. 6653(b) is the applicable provision for the years prior to 1982. * 50 percent of interest due on $2,141.63↩3. Summary judgment under Rule 121 is derived from rule 56, Federal Rules of Civil Procedure. Hence, in any question turning on the interpretation of Rule 121, the history of rule 56, Fed. R. Civ. P., and the authorities interpreting such rule are considered by the Tax Court. See Hoeme v. Commissioner,63 T.C. 18">63 T.C. 18, 21 (1974); Shiosaki v. Commissioner,61 T.C. 861">61 T.C. 861, 862↩ (1974).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623908/	SAM D. CALABY and ARLINE J. CALABY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentCalaby v. CommissionerDocket No. 8201-79United States Tax CourtT.C. Memo 1982-91; 1982 Tax Ct. Memo LEXIS 658; 43 T.C.M. (CCH) 610; T.C.M. (RIA) 82091; February 22, 1982. Sam D. Calaby, pro se. Bernard Wishnia, for the respondent. WILBURMEMORANDUM FINDINGS OF FACT AND OPINION WILBUR, Judge: Respondent determined deficiencies in petitioners' income taxes for the taxable years 1976 and 1977 in the amounts of $ 1,940 and $ 2,125, respectively. The sole issue for our determination is whether petitioner 1 is entitled to deductions under section 162(a)(2) 2 for the taxable years 1976 and 1977 for amounts expended for meals, lodging, and transportation while he was employed in Washington, D.C. 659 FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. Sam D. Calaby (Sam) and Arline J. Calaby, husband and wife, resided in Pennington, New Jersey when they filed their petition in this case. They filed their 1976 and 1977 joint Federal income tax returns with the Internal Revenue Service. From 1965 through early June 1972, Sam was employed by the United States Department of Commerce, Economic Development Administration (EDA), Office of Technical Assistance (OTA) in Washington, D.C. at a GS-15 level. During this time, Sam lived with his wife and 3 children in a home owned by petitioners in the Washington, D.C. area. Pursuant to the International Personnel Act (IPA), Sam was temporarily detailed to the New Jersey Department of Environmental Protection in Trenton, New Jersey. On July 1, 1972, Sam, his wife and 3 children moved to Hopewell Township (Pennington), New Jersey, approximately 20 miles from Trenton, New Jersey. This detail lasted from June 1972 through June 1975. Originally intended to be a two-year detail, this tour of duty was extended one additional year. The IPA provides for temporary assignment of employees between Federal660 agencies and state or local governments. 5 U.S.C. section 3371, et seq. Sam remained an employee of EDA during such detail and was entitled to maintain all his Federal benefits and credit the time toward retirement, pay increases, etc. 5 U.S.C. 3373(c). During the detail, the Federal Government paid approximately half of Sam's salary and maintained his health benefits. IPA details are by their very nature short-lived. The statute (5 U.S.C. section 3372(a)) specifically states that the initial assignment may not exceed two years, and may be extended by the head of a Federal agency for not more than two additional years. Before the completion of his New Jersey detail, Sam attempted to find a job in New Jersey but was unable to obtain a suitable position. Upon completion of the IPA detail, EDA was obligated to reinstate Sam to a GS-15 level in his old position or one roughly equivalent thereto. During the years of the IPA detail, Mr. Baill, Sam's supervisor specifically maintained the organizational structure of OTA and did not promote anyone else to fill the slot temporarily vacated by Sam. Sam expected to661 return to Washington, D.C. upon the completion of the detail. Sam returned to Washington, D.C. in July 1975 but his family remained in New Jersey. From July 1975 through December 31, 1975, Sam was on a temporary six-month assignment from EDA to the Office of Management and Budget in Washington, D.C. From January 1, 1976 through March 5, 1978, with the exception of an assignment of EDA's regional office in Philadelphia from July 1 through October 15, 1977, Sam was assigned to the OTA offices in Washington, D.C. During the years 1976 and 1977, Sam's wife worked on a part-time basis in the vicinity of their home in New Jersey and his 3 children attended New Jersey elementary or high schools during those years. Although Sam enjoyed living in New Jersey, little evidence was offered concerning any strong economic, social and familial bonds that he had with New Jersey. The predecessor agency to EDA was established in 1961 and replaced by the EDA in 1965. On several occasions, EDA had been faced with the possibility that its funding might not be renewed by Congress. Reduction in force notices were actually prepared for EDA staff members in 1965 and 1972. Although the existence662 of EDA was contingent upon periodic Congressional authorizations, the agency never ceased to exist. After the presidential election in 1976, EDA had a somewhat increased budget and the staff, including its supervisors, was optimistic that there would not be any reductions. However, the Federal budget for the 1978 fiscal year submitted in January 1977 by the President and developed in December 1976 by the Commerce Department did provide for an 80 percent reduction (from 12.5 million to 2.5 million dollars) in EDA's budget and a comparable reduction in personnel. Despite this proposed reduction, none of the staff positions were actually terminated. In addition, in view of Sam's seniority and high managerial position with the agency, he could have "bumped" other managers within EDA in the event of a significant reduction in force. Sam's employment in Washington, D.C. during 1976 and 1977 was not temporary. From March 6, 1978 through February 29, 1980, Sam was on another detail from EDA to the New Jersey Economic Development Authority in Trenton, New Jersey. For the taxable years 1976 and 1977, petitioner claimed deductions for business expenses for meals, lodging, and transportation663 with respect to his employment in Washington, D.C. in the amounts of $ 4,770 and $ 5,050. These amounts were disallowed in full by the respondent. OPINION The issue for our decision is whether expenses deducted by petitioner for meals, lodging and transportation with respect to his employment in Washington, D.C. during 1976 and 1977 were incurred while he was "away from home" within the meaning of section 162(a)(2). Section 162(a)(2) allows a taxpayer to deduct traveling expenses (including amounts expended for meals and lodging) incurred while away from home in the pursuit of a trade or business. In order to deduct these expenses, the taxpayer must establish that the expenses were (1) reasonable and necessary; (2) incurred in the pursuit of business; and (3) incurred "while away from home." Commissioner v. Flowers,326 U.S. 465">326 U.S. 465 (1946). Respondent does not dispute that the amounts deducted by petitioner were reasonable and necessary, and incurred "in pursuit of business." Respondent does argue, however, that the expenses are not deductible because they were not incurred while petitioner was away from "home" as that term is used in section 162(a)(2). Normally664 the word "home" as used in that provision means the vicinity of the taxpayer's principal place of employment. Mitchell v. Commissioner,74 T.C. 578">74 T.C. 578, 581 (1980); Kroll v. Commissioner,49 T.C. 557">49 T.C. 557, 561-562 (1968). However, an exception to this rule exists when the taxpayer's place of employment in an area away from his residence and usual place of employment is temporary rather than permanent or indefinite in duration. Commissioner v. Peurifoy,358 U.S. 59">358 U.S. 59 (1958).Under this exception, the taxpayer's "tax home" does not shift to the vicinity of his temporary employment and, therefore, he is regarded as "away from home" while working at such location. The purpose underlying this exception is to relieve the taxpayer of the burden of duplicate living expenses while at a temporary employment location, since it would be unreasonable to expect him to move his residence under such circumstances. Tucker v. Commissioner,55 T.C. 783">55 T.C. 783, 786 (1971). Generally, employment is considered temporary if it "can be expected to last for only a short period of time." Tucker v. Commissioner,supra at 786. Even if it665 is known that a particular job will terminate at some future date, that job is not temporary if it is expected to last for a substantial or indefinite period of time. Jones v. Commissioner,54 T.C. 734">54 T.C. 734 (1970), affd. 444 F.2d 508">444 F.2d 508 (5th Cir. 1971). Whether employment is temporary or indefinite is a question of fact. Commissioner v. Peurifoy,254 F.2d 483">254 F.2d 483, 487 (4th Cir. 1958). "No single element is determinative of the ultimate factual issue of temporariness, and there are no rules of thumb, durational or otherwise." Norwood v. Commissioner,66 T.C. 467">66 T.C. 467, 470 1976). Petitioner argues that his employment in Washington, D.C. with EDA during 1976 and 1977 was temporary. In support of this contention, he offered testimony and submitted various memoranda indicating that the existence of EDA as an agency was dependent on periodic Congressional resolutions and that during 1976 and 1977 the agency was in serious danger of being eliminated. Petitioner introduced further evidence that the budget for the fiscal year 1976 submitted in January 1977 by the President and developed in December 1976 by the Commerce Department provided666 for an 80 percent reduction in EDA's budget and a similar reduction in personnel. In sum, petitioner's principal argument is that his employment with EDA upon his return to Washington, D.C. was temporary because there were serious doubts as to how lon EDA would remain in existence. We cannot agree. Rather, after considering all the facts and circumstances, we conclude that petitioner's employment in Washington, D.C. from 1975 through 1978 was indefinite. Several factors, no one of them in itself determinative, support our conclusion. Although the life of EDA possessed a quality of impermanence, this is to some extent true of many governmental agencies whose existence is subject to the whims of Congress. In fact, EDA had been in existence for over 10 years in 1976 despite the fact that its life had to be periodically resuscitated by Congressional life-support systems. In addition, despite proposed reductions in force, none of the staff positions were actually terminated. Thus, the temporariness of Sam's employment in Washington, D.C. in 1976 and 1977 cannot be predicated on the ephemeral character of EDA's existence as an agency. A review of the essential facts surrounding667 Sam's employment with the Federal Government in Washington, D.C. and assignment to New Jersey inescapably leads to the conclusion that Sam was not "away from home" in 1976 and 1977. From 1965 until June 1972, Sam was employed by EDA, Office of Technical Assistance in Washington, D.C. at a GS-15 level. During that time, Sam lived with his family in a home in the Washington, D.C. vicinity. From July 1972 until June 1975 Sam worked in New Jersey pursuant to IPA on a temporary detail for the New Jersey Department of Environmental Protection. A Federal employee working for a state pursuant to an IPA detail remains an employee of his agency (in Sam's case, EDA) and is entitled to maintain all his Federal benefits and credit his time toward his retirement, pay, increases, etc. 5 U.S.C. section 3373. During this time, the Federal Government paid approximately half of Sam's salary and maintained his health benefits. Sam's wife and children lived with him in a home they purchased in New Jersey but when Sam returned to Washington, D.C. in July 1975 he declined to move them. At the conclusion of the New Jersey detail, Sam did apply for jobs in New Jersey but met with668 no success. Since Sam's IPA detail in New Jersey was for a period of between two and four years, 3 his only job in June 1975 was with EDA in Washington, D.C. and he was entitled to reinstatement upon the completion of the detail to a GS-15 level in his old position or one roughly equivalent thereto. Having failed to secure suitable employment in New Jersey, Sam returned to Washington, D.C. in July 1975 where he remained until March 1978. Sam's own testimony shows that during his detail in New Jersey, he not only considered it a reasonable probability, but even had an expectation that he would return to work with EDA in Washington, D.C. upon the completion of the detail. Nonetheless, Sam's wife and children remained in New Jersey. Since Sam enjoyed living in New Jersey and was nearing retirement age, he may have simply decided for personal reasons to leave his family in New Jersey while working for EDA until he could get another IPA assignment or find another job there. Sam, in fact, 669 did manage to secure another IPA detail in New Jersey with the New Jersey Economic Development Authority where he worked from March 6, 1978 through February 1980. The only explanation offered by Sam for his decision to leave his family in New Jersey was the precarious nature of employment with EDA. As we pointed out previously, the "temporariness" of Sam's employment with EDA in 1976 and 1977 cannot be predicated on the quality of impermanence associated with employment with the Federal Government. In addition, even though Sam may have had no assurance as to how long his employment in Washington, D.C. would last, this is not determinative of whether his employment was temporary. McCallister v. Commissioner,70 T.C. 505">70 T.C. 505 (1978). The lack of permanence does not necessarily require a finding that the employment was temporary for purposes of section 162(a)(2). Garlock v. Commissioner,34 T.C. 611">34 T.C. 611, 616 (1960). Sam worked for EDA in Washington, D.C. from 1965 through June 1972 and again from July 1975 through March 5, 1978 (except for a 3-1/2 month assignment to the Philadelphia regional office of EDA in the middle of 1977), a period of approximately670 10 years. This makes it clear that his "tax home" during the years in question was Washington, D.C. Furthermore, the substantial duration of Sam's employment after his return to Washington, D.C. (for a period of 33 months) provides additional proof that Sam's employment was indefinite. See Babeaux v. Commissioner,601 F.2d 730">601 F.2d 730 (4th Cir. 1979), revg. a Memorandum Opinion of this Court. 4 The fact that Sam thought that his employment in Washington, D.C. would be of short duration does not belie this conclusion; such subjective evidence, standing against the objective facts revealed by the record herein, is insufficient to carry petitioner's burden of proof that his employment was not for a substantial or an indefinite period. Rule 142(a), Tax Court Rules of Practice and Procedure; Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933). *671 We have a good deal of sympathy for the circumstances Sam confronted. His decision to leave his family in New Jersey was neither arbitrary nor unreasonable. In view of the contingencies he confronted and the point in his career he had reached, his decision was in accord with the common sense economics of the matter. Nevertheless, on this record we are constrained by the decided cases to find that Sam's Washington employment was at least for an indefinite period. See Babeaux v. Commissioner,supra, (Dumbauld, J., concurring). Decision will be entered for therespondent.Footnotes1. Since Arline J. Calaby is a party to this action solely by reason of filing a joint return with her husband, Sam D. Calaby will be referred to as petitioner. ↩2. All statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the taxable years in issue.↩3. The statute says specifically that the initial assignment may not exceed two years, and may be extended for not more than two additional years. 5 U.S.C. sec. 3372(a)↩.4. On brief, Sam strenuously asserts that his employment with the Economic Development Administration (EDA) in Washington, D.C. during the years 1976 and 1977 should be segmented into various periods, each lasting for less than 12 months and thus temporary. For example, Sam requests that we view the period from January 1976 until July 1976 as a separate period of employment since, as of January 1, 1976, EDA had authorization to exist and operate until June 30, 1976. Sam also asserts that the 1977 year should be considered separate since the President's proposed reduction in EDA's budget submitted to Congress in January 1977 indicated then that Sam's employment after such time was temporary. We reject such contentions. Sam's employment did not consist of a series of totally unrelated jobs that might be viewed independently. Cf. Smith v. Commissioner,33 T.C. 1059">33 T.C. 1059 (1960). Sam was not laid off between assignments and never changed employers. Cf. Blatnick v. Commissioner,56 T.C. 1344">56 T.C. 1344 (1971). Rather, from 1965 through 1980, Sam was at all times a GS-15 level employee of EDA, and from January 1, 1976 through March 5, 1978, he spent all but three and onehalf months in Washington, D.C. Thus, there is no rational basis for allowing the segmentation desired by Sam. Cf. Saunders v. Commissioner,T.C. Memo. 1977-427↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623911/	CLYDE E. STAFFORD AND CAROLYN J. STAFFORD, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Stafford v. CommissionerDocket No. 13064-90United States Tax CourtT.C. Memo 1992-637; 1992 Tax Ct. Memo LEXIS 666; 64 T.C.M. (CCH) 1199; November 2, 1992, Filed 666 Decision will be entered under Rule 155. For Clyde E. Stafford, pro se. For Respondent: Elizabeth G. Beck. DAWSONDAWSONMEMORANDUM FINDINGS OF FACT AND OPINION DAWSON, Judge: Respondent determined the following deficiencies in and additions to petitioners' Federal income taxes: Additions to TaxSec.Sec.Sec.YearDeficiency1 6653(b)(1) 6653(b)(2)66611984$ 71,331$ 35,66650 percent$ 17,833198561,51530,758of the15,379198625,42019,065interest due6,355on thedeficiencyIn the alternative to the 1984 and 1985 additions to tax under section 6653(b)(1) and (2), 1 respondent determined additions to tax under section 6653(a)(1) in the respective amounts of $ 3,566.55 and $ 3,075.75, and under section 6653(a)(2) in the respective amounts of 50 percent of the interest due on $ 71,331 and $ 61,515. In the alternative to the 1986 additions to tax under 667 section 6653(b)(1)(A) and (B), respondent determined a $ 1,271 addition to tax under section 6653(a)(1)(A) and an addition to tax under section 6653(a)(1)(B) in the amount of 50 percent of the interest due on $ 25,420. Respondent has conceded the additions to tax under section 6653(b)(1) and (2) for 1984 and 1985 and section 6653(b)(1)(A) and (B) for 1986. In respondent's answer to petitioners' amendment to petition, respondent inadvertently asserted additions to tax under section 6651(a)(1) for 1984, 1985, and 1986. Hence respondent has conceded these section 6651(a)(1) additions to tax. In addition, respondent has conceded that the determination with respect to Federal income taxes and additions to tax for 1984 was untimely. The period in which an assessment for that year could have been made pursuant to section 6501668 expired prior to March 30, 1990, the date respondent mailed the statutory notice of deficiency to petitioners in this case. Thus, there is no deficiency or additions to tax due from petitioners for 1984 and that year is no longer in issue. Consequently, the issues remaining for decision are: (1) Whether respondent is barred by the statute of limitations from assessing and collecting the Federal income tax and additions for petitioners' 1985 tax year; 2 (2) whether petitioners understated the Schedule C gross receipts from their gasoline service station businesses for 1985 and 1986 in the respective amounts of $ 231,620 and $ 201,251.66 which in turn increased their gross income for those years; (3) whether petitioners are entitled to additional Schedule C expenses, including depreciation and cost of goods sold, for the operation of their gasoline service station businesses in 1985 and 1986 in the respective amounts of $ 171,244 and $ 127,665; (4) whether petitioners are entitled to claimed Schedule E expenses with respect to two rental properties for 1985 and 1986 in the respective amounts of $ 11,937 and $ 6,492; (5) whether petitioners are entitled to claimed gambling losses 669 of $ 9,870 for 1985; (6) whether petitioners received unreported gambling income of $ 49,140 in 1986; (7) whether petitioners are entitled to Schedule W married couple deductions for 1985 and 1986 in the respective amounts of $ 1,336 and $ 675; (8) whether petitioners are entitled to investment credits of $ 17,570 for 1985; (9) whether petitioners are liable for increased self-employment taxes pursuant to section 1401 for 1985 and 1986 in the respective amounts of $ 4,563 and $ 3,816; (10) whether petitioners are liable for the additions to tax for negligence or intentional disregard of rules or regulations pursuant to section 6653(a)(1) and (2) for 1985, and section 6653(a)(1)(A) and (B) for 1986; and (11) whether petitioners are liable for the additions to tax for substantial understatements of tax pursuant to section 6661 for 1985 and 1986. 670 FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and the attached exhibits are incorporated herein by this reference. BackgroundClyde E. and Carolyn J. Stafford (hereinafter collectively referred to as petitioners) resided in Dallas, Texas, at the time they filed their petition. They timely filed joint Federal income tax returns for 1985 and 1986. On March 30, 1990, respondent mailed a statutory notice of deficiency to petitioners at their last known address. The notice determined deficiencies for 1984, 1985, and 1986. Clyde E. Stafford (hereinafter referred to in the singular as petitioner) is a college graduate who majored in mathematics. For several years prior to operating his own gasoline service station businesses (hereinafter gasoline station businesses or gasoline service station businesses) in 1972, petitioner worked as a bookkeeper for Exxon Co., U.S.A. (hereinafter Exxon). He has always prepared petitioners' joint Federal income tax returns. Carolyn J. Stafford was employed by American Airlines, Inc., during the years in issue. She earned wages of $ 14,295.80 and $ 17,715.03 for 1985 and 1986, respectively, 671 from American Airlines, Inc. I. Gasoline Service Station BusinessesOn petitioners' 1985 and 1986 Federal income tax returns, petitioner listed his occupation as "service station". In fact, he operated two gasoline service station businesses during this period: Stafford's Service Station in Dallas, Texas (hereinafter Dallas Station), and Stafford Exxon, in Irving, Texas (hereinafter Irving Station). Petitioners attached Schedules C, Profit or (Loss) From Business or Profession (Sole Proprietorship), to their 1985 and 1986 returns for each of these businesses. During the years in issue, petitioner used the cash method of accounting for Federal income tax purposes and the cost accounting method to value closing inventory at the gasoline service stations. He accepted both cash and credit card payments for sales and services at the stations. Petitioners earned income from gasoline sales, nongasoline products, automotive repairs, State inspections, and vending machine sales. Petitioner did not have cash registers at the gasoline stations. He kept the cash payments that he received in cash boxes at the stations. Petitioner maintained incomplete records of his gasoline service672 stations' sales and expenses for 1985 and 1986. For example, he did not keep any records of gasoline cash sales or of State motor vehicle inspections. The record in this case is devoid of any testimony or exhibits, other than petitioners' Federal income tax returns, with respect to a majority of the disputed Schedule C expenses for both 1985 and 1986. In the course of investigating petitioners' returns, respondent obtained various third-party records, such as gas distributor invoices, in an attempt to fill this "paper gap". A. The Irving StationPetitioner has operated the Irving Station since 1977. The Irving Station sold Exxon products during the years in issue. It was open for business from 7 a.m. through 8 p.m., every day of the week. 1985The Irving Station purchased a total of 701,371 gallons of gasoline in 1985 at a total cost of $ 728,976.39. These purchases included extra unleaded, unleaded, and regular fuel. The cost of the Irving Station's opening and ending inventories for 1985 was the same: $ 10,726. In addition to the gasoline sales, the Irving Station also received income during 1985 from sales of automotive accessories such as accessories-hard 673 parts, antifreeze, motor oils, batteries, tires, and automotive greases. Petitioner purchased these products from Exxon at a total cost of $ 13,190.36 ($ 5,100.44 for oil and $ 8,089.92 for the remaining nongasoline products). Petitioner marked up motor oils by 50 percent. He marked up other nongasoline items by 20 percent. Petitioner also performed State of Texas motor vehicle inspections at the Irving Station. He paid a total of $ 1,127 for State inspection stickers during 1985. The price per inspection sticker was $ 2.75. Petitioner charged $ 7.50 to inspect cars that ran on leaded fuel and $ 10.50 for cars that ran on unleaded fuel. Petitioner kept an incomplete State inspection log that shows inspections beginning in January 1985, and running approximately 300 consecutive days thereafter. The log shows total income of $ 2,579.08 from State motor vehicle inspections for 1985. Petitioners also received income from specialty motor vehicle repairs at the Irving Station. Petitioner did not, however, maintain any records of his income from these repairs. During 1985, he paid $ 11,000 for automotive repair parts. At trial, he estimated that he had an average daily income674 of between $ 40 and $ 50 from these repairs in 1985. The parties agree that the Irving Station had the following allowable business expenses for 1985: ExpensesAmountInsurance$ 2,016Interest2,881Rent18,960Wages9,073Auto repair parts11,000State inspection stickers1,1271 Utilities and telephone 3,476Taxes746Supplies1,401Exxon credit card8,843Total$ 59,523Petitioners did not claim any advertising expenses on their 1985 return. However, the parties agreed that advertising expenses were at issue, and at trial petitioners claimed $ 859.88 of advertising expenses for 1985. Respondent agrees 675 that petitioners are entitled to $ 586.25 of these expenses. The parties have also agreed that, during 1985, petitioners personally consumed $ 2,188 worth of gasoline and nongasoline products that were purchased by the Irving Station. Petitioners erroneously deducted this amount as car and truck expenses on their 1985 Schedule C for the Irving Station. The parties disagree whether additional expenses petitioners claimed on their 1985 return with respect to the Irving Station are allowable. The disputed Schedule C expenses (other than depreciation and cost of goods sold) are as follows: ExpenseAmountBad debts$ 1,900Car and truck expenses2,188Insurance140Legal and professional services675Repairs2,368Supplies161Utilities and telephone404Equipment2,786Miscellaneous1,989Total $ 12,611The claimed bad debt expenses relate to charge-backs from Exxon for credit card sales that Exxon did not accept. Although petitioners claimed a $ 1,900 bad debt expense for 1985, they have only submitted evidence to substantiate $ 208.22 of this amount. There is no evidence in the record with regard to the remaining claimed bad debts. 1986For 1986, 676 the parties agree that the Irving Station had the following allowable business expenses: ExpenseAmountInsurance$ 1,349.00Interest1,650.00Rent18,960.00Wages10,400.00Utilities and telephone3,394.50Uniforms375.00Equipment400.00Miscellaneous392.00Taxes826.00Exxon credit card charges7,108.00Total$ 44,854.50The disputed Schedule C expenses (other than depreciation and cost of goods sold) are: ExpenseAmountBad debts$ 1,980.00Car and truck expenses368.00Insurance140.00Interest.52Supplies562.00Utilities and telephone3,373.50Total$ 6,424.02Although petitioners claimed a $ 1,980 bad debt expense for 1986, the record does not substantiate any charge-backs for that year. The cost of the Irving Station's 1986 ending inventory was $ 10,726. B. The Dallas Station1985Petitioner has operated the Dallas Station since 1976. In April 1985, petitioner purchased the Dallas Station from Exxon, paying $ 49,971 for the land and buildings. Between April and November, petitioner closed and renovated the station. He installed five reconditioned steel underground storage tanks and made other improvements to the station. 677 On November 5, 1985, the Dallas Station improvements were completed at a total cost of $ 23,600. With regard to the Dallas Station, petitioners claimed a single depreciation deduction of $ 5,111 for 1985, using a $ 92,000 basis and treating the property as 18-year recovery property. (This included depreciation of both the underground storage tanks and the Dallas Station itself.) Petitioners failed to allocate between the value of the Dallas Station's land and its buildings in their claimed cost or other basis on their 1985 return. The Dallas County Tax Assessor-Collector's 1985 Delinquent Tax Roll and Record of Payments stated that approximately 70.9 percent of the Dallas Station property's assessed value is attributable to buildings/improvements ($ 40,720 buildings/improvements value divided by $ 57,460 total assessed value). The Dallas Station sold Exxon products from January through March 1985. When petitioner reopened the station on December 1, 1985, after completing its improvements, he began selling Phillips 66 products at the station. (We will hereinafter refer to the Dallas Station as the Dallas Phillips 66 Station with regard to the period of December 1, 1985, through678 the end of 1986.) Except for the time when it was closed, the Dallas Station/Dallas Phillips 66 Station was open for business from 7 a.m. through 8 p.m., 6 days a week. The cost of the opening and closing inventories of the Dallas Station during the first quarter of 1985 was $ 3,872 and zero, respectively. The cost of the ending inventory as of December 31, 1985, was $ 2,600. The Dallas Station purchased a total of 80,393 gallons of gasoline in 1985, at a total cost of $ 79,527.45. These purchases included extra unleaded, unleaded, and regular fuel. Petitioners' total income in 1985 from gasoline sales at the Dallas Station was $ 90,487.93. S & S Petroleum, Inc., delivered 46,776 gallons of Phillips 66 gasoline to the Dallas Phillips 66 Station during November and December 1985. This gasoline consisted of 12,820 gallons of regular, 21,340 gallons of unleaded, 6,353 gallons of extra unleaded, and 6,263 gallons of diesel fuel. Petitioners' 1985 income from gasoline sales at the Dallas Phillips 66 Station, prior to adjustment for ending inventory, was $ 52,269.42. The parties agree that the Dallas Station had allowable business expenses of $ 1,288 for interest and $ 427 for 679 utilities and telephone for the first quarter of 1985. They also agree that the Dallas Phillips 66 Station had an allowable business expense of $ 503 for utilities and telephone for the last quarter of 1985. The disputed 1985 Schedule C expenses (other than depreciation and cost of goods sold) with respect to the Dallas Station total $ 1,799, consisting of $ 1,750 for rent on business property and $ 49 for utilities and telephone expenses. The disputed 1985 Schedule C expenses (other than depreciation and cost of goods sold) with respect to the Dallas Phillips 66 Station are: ExpenseAmountSupplies$ 286Utilities and telephone59Trash haul150Equipment1,575Miscellaneous689Total$ 2,7591986In 1986, the Dallas Phillips 66 Station purchased $ 5,988 of gasoline from Twin Lakes Petroleum. It also purchased $ 334,587.35 of gasoline from S & S Petroleum, Inc., consisting of 145,584 gallons of leaded regular, 192,478 gallons of unleaded regular, 54,023 gallons of extra unleaded, and 9,375 gallons of diesel fuel. The parties agree that the Dallas Phillips 66 Station had the following allowable business expenses for 1986: ExpenseAmountUtilities and telephone$ 1,355.50Mortgage interest4,140.00Supplies890.00Trash hauling528.00Taxes726.00Total$ 7,639.50680 The disputed 1986 Schedule C expenses (other than depreciation and cost of goods sold) with respect to the Dallas Phillips 66 Station relate to additional utilities and telephone expenses of $ 1,152.50. For 1986, petitioners claimed a single depreciation deduction of $ 5,111 for the Dallas Phillips 66 Station, using a $ 92,000 basis, and treating the property as 18-year property. (This included depreciation of the station and the underground storage tanks.) Petitioners failed to allocate between the value of the station's land and buildings in the claimed basis on their 1986 return. The cost of the ending inventory of the Dallas Phillips 66 Station for 1986 was $ 1,280. Respondent's Determination of Petitioners' 1985 Gasoline Service Station IncomeRespondent determined petitioners' 1985 gross income from gasoline sales by using two computational formulas. The first formula considered the gallons of gasoline delivered to each station and multiplied that number by the U.S. Department of Labor Bureau of Labor Statistics (BLS) Labstat Computer Database average retail price per gallon for the particular month (or other time period) and the particular types of gasoline (i.e., 681 leaded regular, unleaded regular, extra unleaded, or diesel), sold in the Dallas-Fort Worth, Texas, area for the relevant time period. The BLS retail prices included prices from full-service and self-service stations and also considered discounts for cash payments as opposed to credit card payments. (When compared to petitioner's Exxon credit card receipts from one customer for December 1985, the BLS retail prices were consistently less than the credit card prices for all types of gasoline sold by petitioner.) Respondent's second computational formula determined gross income from the sale of inventory. Beginning and ending inventories were examined and any difference between them was taken into account. Irving StationAs described above, respondent used petitioner's invoices for Exxon gasoline purchases and the Consumer Price Index (CPI) from the BLS to determine the Irving Station's 1985 gasoline sales income. This calculation yielded a total gross receipts amount of $ 811,879. Next, income from sales of inventory was determined. Because the beginning and ending inventories for the Irving Station were the same, no adjustment was made for the sale of inventory at the 682 station. Total income from Exxon gasoline sales was thus determined to be $ 811,879. Respondent calculated the 1985 cost of goods sold for the Irving Station by using petitioners' Federal income tax return, beginning and ending inventories (as stipulated), invoices from Exxon purchases, and adjusting (subtracting) for petitioners' personal consumption of gasoline and nongasoline products. This calculation yielded a total cost of goods sold of $ 739,978. Dallas StationRespondent also used petitioner's invoices for Exxon purchases and the CPI from the BLS table to determine 1985 gasoline sales income for the Dallas Station. This calculation yielded a total gross receipts amount of $ 90,488. Next, income from the sale of inventory was determined. Because the beginning and ending inventories for the Dallas Station were different, income from the sale of inventory was calculated. According to this adjustment, petitioners received an additional $ 4,406 of income from inventory sales. Total income from Exxon gasoline sales was thus determined to be $ 94,894. Respondent calculated the 1985 cost of goods sold for the Dallas Station by using petitioners' Federal income tax return, 683 beginning and ending inventories (as stipulated), and invoices from Exxon purchases. This calculation yielded a total cost of goods sold of $ 83,399. Dallas Phillips 66 StationRespondent similarly determined petitioners' total 1985 gross receipts from gasoline sales and cost of goods sold at the Dallas Phillips 66 Station. Total reconstructed income from gasoline sales at the Dallas Phillips 66 Station for 1985 was determined to be $ 49,367, and the 1985 reconstructed cost of goods sold for the station totaled $ 46,017. Total 1985 Income from Gas StationsRespondent determined petitioners' total 1985 income from State motor vehicle inspections by extrapolation of the information contained in petitioners' incomplete vehicle inspection log to a total year's amount. Pursuant to respondent's calculation, petitioners' 1985 taxable income from State motor vehicle inspections was $ 3,108. 3 Also, pursuant to petitioner's statements, respondent reconstructed petitioners' annual income from specialty repairs, and determined that it was $ 14,600. 684 Respondent reconstructed petitioners' income from sales of nongasoline products by multiplying petitioner's markup percentage 4 by the cost of items purchased during 1985. Pursuant to respondent's recalculation, petitioners' 1985 gross income from these sales totaled $ 17,358.56. Respondent also recomputed petitioners' 1985 gross income from labor related to sales of nongasoline products, and determined that it totaled $ 5,276. Thus, respondent determined that petitioners' reconstructed gross income from nongasoline products totaled $ 22,634. The following chart summarizes petitioners' total gross receipts for 1985, as reported by petitioners and as reconstructed by respondent: 5Total Gross Receipts as Stated on Petitioners' 1985 ReturnWages$ 14,296Interest123Other income117,896Schedule E (Rental income)5,800Schedule C gross receiptsIrving Station $ 720,890Dallas Station 27,002Dallas Phillips 66 Station 14,782TOTAL 762,674Total per return gross receipts$ 900,789Respondent's Reconstruction of Petitioners' 1985 Total Gross ReceiptsWages$ 14,296Interest123Other income117,896Schedule E (Rental income)5,800Schedule C gross receiptsIrving Station-gasoline sales $ 811,879Dallas Station-gasoline sales 94,894Dallas Phillips 66 Station-gasoline sales 49,367State inspection 3,108Other nongasoline income 22,634Specialty repair income 14,600Less: personal consumption (2,188)TOTAL 994,294Total reconstructed gross receipts$ 1,132,409685 Respondent's Determination of Petitioners' 1986 Gasoline Service Station IncomeWith regard to 1986, petitioner had very few or no invoices for his Exxon and Phillips 66 purchases and sales. However, on January 17, 1987, petitioner prepared a financial statement of his 1986 gasoline service station businesses for purposes of obtaining a loan from Independence Mortgage, Inc. Irving StationRespondent reconstructed petitioners' 1986 income from the Irving Station based on information contained in the January 17, 1987, financial statement. Pursuant to this information, respondent reconstructed petitioners' 1986 gross income from the Irving Station as follows: Type of IncomeAmountGasoline sales$ 786,629.32Labor17,109.00Goods sold3,875.25Total$ 807,613.57Petitioners reported a $ 720,875.15 cost of goods sold for the Irving Station on their686 1986 return. Respondent did not make any adjustment to this amount in the notice of deficiency. Dallas Phillips 66 StationRespondent reconstructed petitioners' 1986 gross receipts from gasoline sales at the Dallas Phillips 66 Station by once again applying the BLS average annual retail price in the Dallas-Ft. Worth area for each type of gasoline delivered to the Dallas Phillips 66 Station during 1986 (as indicated by the business records of S & S Petroleum, Inc., and Twin Lakes Petroleum), and then making an adjustment for the sale of inventory. Thus, respondent reconstructed petitioners' 1986 total gross receipts from gasoline sales at the Dallas Phillips 66 Station to be $ 342,727. This amount is less than the amount listed on petitioners' February 18, 1987, financial statement for this station. Respondent reconstructed petitioners' Dallas Phillips 66 Station income from labor and sales of nongasoline products to be $ 16,307 and $ 1,802.66, respectively. Thus, petitioners' total 1986 reconstructed income from sales at the Dallas Phillips 66 Station was $ 360,836.66. Respondent calculated the 1986 cost of goods sold for the Dallas Phillips 66 Station by utilizing the687 gross profit percentage for gallons purchased from S & S Petroleum, Inc., and Twin Lakes Petroleum and then making inventory adjustments. Petitioners' 1986 reconstructed cost of goods sold for the Dallas Phillips 66 Station totaled $ 307,700. Total 1986 Income from Gasoline Service StationsOn their 1986 Federal income tax return, petitioners reported gross income from the Irving Station and Dallas Phillips 66 Station in the respective amounts of $ 777,611.57 and $ 189,587. Respondent determined that petitioners' 1986 income from these stations was $ 807,613.57 and $ 360,836.66, respectively. Accordingly, pursuant to respondent's computations, petitioners understated their total gross income from 1986 sales at these stations in the total amount of $ 201,251.66 ($ 30,002 for the Irving Station, plus $ 171,249.66 for the Dallas Phillips 66 Station). II. Rental PropertiesA. HouseIn 1972, petitioners paid $ 26,700 for a personal residence (hereinafter referred to as the house property) located at 2718 Meadow Harvest, in Dallas, Texas. In 1983, petitioners paid $ 5,000 to add a patio cover to the house property. From July 1, 1985, through 1986, petitioners688 rented the house property to third parties. The Dallas County Tax Assessor-Collector's 1985 Tax Roll and Record of Payments indicates that 86.3 percent of the house property's assessed value is attributable to building/improvements ($ 50,210 building/improvements value divided by $ 58,210 total assessed value). B. ChurchIn 1980, petitioner paid $ 30,000 for a parcel of real property that included a church (hereinafter referred to as the church property) located at 4842 Don Drive, in Dallas, Texas. During the years in issue, petitioners rented the church property to third parties. The Dallas County Tax Assessor-Collector's 1985 Tax Roll and Record of Payments indicates that 00.0 percent of the church property's assessed value is attributable to building/improvements ($ 0 building/improvements value divided by $ 17,880 total assessed value). Schedule E Expenses for the House and Church PropertiesWith respect to the Schedule E expenses (other than depreciation) relating to the house and church properties claimed by petitioners on their 1985 and 1986 Federal income tax returns, the parties have stipulated that petitioners are entitled to the following business expenses: 689 1985ExpenseAmountInsurance$ 920Mortgage interest1,834Taxes475Total$ 3,2291986ExpenseAmountCommissions$ 95Insurance258Mortgage interest1,285Interest - First Texas Savings1,913Taxes947Total$ 4,498The disputed Schedule E expenses (other than depreciation) are as follows: 1985Expense ClaimedPropertyHouseChurchCleaning and maintenance$ 190$ 275Repairs2,2802,450Advertising120130Garage door--550Plumbing rework1,600--Subtotal $ 4,190$ 3,405Total $ 7,5951986Expense ClaimedPropertyHouseChurchCleaning and maintenance$ 482$ 283Plumbing rework1,382312Subtotal $ 1,864$ 595Total $ 2,459There is no evidence in the record substantiating the disputed Schedule E expenses for 1985 and 1986. The parties agree that petitioners are entitled to depreciate, on a straight line basis, the buildings located on the house and church properties. On their 1985 and 1986 returns, petitioners claimed straight line depreciation deductions in the amounts of $ 2,317 for the house property and $ 2,333 for 690 the church property for each year. These deductions were based on treating the properties as 18-year real property under the Accelerated Cost Recovery System (ACRS). In the notice of deficiency, respondent disallowed these deductions in part. Petitioners failed to allocate between the value of the land and buildings in these properties' claimed cost or other basis on their 1985 and 1986 returns. III. Gambling Income and ExpensesIn 1985 and 1986, petitioner was a casual gambler. He placed wagers on horse races at approximately five different race tracks during these years, including Santa Anita, Oaklawn, Louisiana Downs, Red River, and Oak Tree. Racetrack wagers are recorded on gambling tickets called totes. Winning totes must be turned in to a racetrack in exchange for the amount won. Losing totes are often retained by bettors to record their losses. Racetracks are required to report to the Internal Revenue Service, on Forms W-2G, all winning totes cashed in excess of $ 600 and are required to withhold taxes on winnings in excess of $ 1,000. Petitioners maintained no formal record of gambling winnings or losses for 1985 or 1986. Although they did not produce any691 losing totes for 1985, they did produce losing totes for 1986 totaling $ 51,372. 1985On petitioners' 1985 return, they reported $ 117,896 as gambling income from one "Pick Six" wager, and attached a Form W-2G from Louisiana Downs, Inc., for this amount. On Schedule A, Miscellaneous Deductions, attached to their 1985 return, petitioners listed $ 9,870 as "Loss & Expenses on American Express & Visa" and deducted this amount as gambling losses. In the notice of deficiency respondent disallowed this deduction in full for lack of substantiation. 1986On their 1986 return, petitioners reported a total of $ 47,550.20 in gambling income from Louisiana Downs, Inc. They attached four separate Forms W-2G to evidence these winnings, which list "Super 6" as the type of wagers. On the Schedule A, Miscellaneous Deductions, attached to their 1986 return, petitioners listed $ 61,783.15 as "Loss & Expenses at La. Downs on Visa & American Express" and took a $ 47,550 deduction practically equal to their total reported winnings. Petitioners based the $ 47,550 deduction on their 1986 losing totes (but limited this deduction to their reported gambling income). Using the totes presented692 by petitioners, respondent determined that petitioner placed over 22,000 bets on approximately 152 days in 1986 at five different racetracks. Respondent then determined that petitioners had additional 1986 gambling income of $ 49,140. 6 Respondent also allowed petitioners an additional $ 14,233 deduction for unclaimed gambling losses for that year. 693 IV. Schedule W Married Couple DeductionsOn their 1985 and 1986 Federal income tax returns, petitioners claimed $ 93.52 and $ 1,097.32, respectively, as Schedule W married couple deductions. In the notice of deficiency, respondent adjusted these deductions to be $ 1,336 and $ 675, respectively, for 1985 and 1986. These adjustments reflected changes in petitioners' qualified earned income based on respondent's recomputation of petitioners' 1985 and 1986 gasoline service station income. V. Investment CreditOn petitioners' 1985 Federal income tax return, they claimed $ 17,570 in investment credits relating to buildings located on the church property, the house property, and the Dallas Station property. Respondent disallowed these credits in the notice of deficiency. VI. Self-Employment TaxesOn their 1985 and 1986 Federal income tax returns, petitioners listed $ 110.35 and $ 1,349.70, respectively, as self-employment taxes. In the notice of deficiency respondent increased petitioners' self-employment income in the respective amounts of $ 4,563 and $ 3,816, for 1985 and 1986. These adjustments were based on respondent's calculation of additional income694 and decreased by additional allowable expenses from petitioners' gasoline service station businesses. OPINION Issue 1. Statute of Limitations for 1985The first issue is whether the statute of limitations bars respondent from assessing and collecting Federal income tax and additions thereto for petitioners' 1985 tax year. Petitioners contend that assessment and collection for 1985 are barred by section 6501(a). Petitioners timely filed their 1985 Federal income tax return on or before April 15, 1986. Respondent's notice of deficiency for 1985 was sent to petitioners by certified mail on March 30, 1990, after the general 3-year period of limitations had expired. See sec. 6501(a). Respondent contends that the notice was timely because the 6-year statute of limitations provided by section 6501(e)(1)(A) is applicable to petitioners' 1985 tax year. Respondent argues that the 6-year statute of limitations would have expired on April 15, 1992, but that the notice of deficiency was mailed on March 30, 1990, prior to the expiration of the 6-year period. Petitioners contend that the 6-year statute of limitations does not apply to their 1985 tax year. They state that they properly695 determined their 1985 gasoline stations' gross receipts, and thereby their 1985 gross income, so that the 6-year statute of limitations would not be applicable. Section 6501(a) provides a general rule that any income tax imposed by the Internal Revenue Code must be assessed within 3 years after the date a taxpayer's return is filed. There are, however, exceptions to this general rule. One exception is stated in section 6501(e)(1)(A), which provides that if a taxpayer omits from gross income a properly includable amount in excess of 25 percent of the gross income stated in the taxpayer's return, an assessment may be made at any time within 6 years after the return is filed. In the case of a trade or business, "gross income" is defined in section 6501(e)(1)(A)(i) as: the total of the amounts received or accrued from the sale of goods or services (if such amounts are required to be shown on the return) prior to diminution by the cost of such sales or services * * See, e.g., Insulglass Corp. v. Commissioner, 84 T.C. 203">84 T.C. 203, 210 (1985); Schneider v. Commissioner, T.C. Memo 1985-139">T.C. Memo. 1985-139. The Commissioner bears the burden696 of proving that the extended 6-year period of limitations is applicable. Wood v. Commissioner, 245 F.2d 888">245 F.2d 888, 893-895 (5th Cir. 1957), affg. in part and revg. in part T.C. Memo 1955-301">T.C. Memo. 1955-301; Gray v. Commissioner, 56 T.C. 1032">56 T.C. 1032, 1059 (1971), revd. and remanded on another issue 561 F.2d 753">561 F.2d 753 (9th Cir. 1977); Stratton v. Commissioner, 54 T.C. 255">54 T.C. 255, 289 (1970), modified 54 T.C. 1351">54 T.C. 1351 (1970); Bardwell v. Commissioner, 38 T.C. 84">38 T.C. 84, 92 (1962), affd. 318 F.2d 786">318 F.2d 786 (10th Cir. 1963). The Commissioner must prove (1) that the amounts of income that were not reported were properly includable in gross income, and (2) that an amount in excess of 25 percent of the amount of gross income shown on the return was omitted. Estate of Whitlock v. Commissioner, 494 F.2d 1297 (10th Cir. 1974), affg. in part and revg. in part 59 T.C. 490">59 T.C. 490 (1972); Burbage v. Commissioner, 82 T.C. 546">82 T.C. 546, 553 (1984), affd. 697 774 F.2d 644">774 F.2d 644 (4th Cir. 1985). Respondent has carried the burden of proof on this issue. The determinative question is whether petitioners omitted from gross income (as that term is specially defined in section 6501(e)(1)(A)) an amount in excess of 25 percent of the gross income stated on their 1985 return. In our consideration of issue 2, which follows, we conclude that, based on respondent's reconstruction of petitioners' gasoline service station income for 1985, petitioners omitted from gross income an amount in excess of 25 percent of the gross income stated on their 1985 return. 7 Accordingly, the 6-year period provided by section 6501(e)(1)(A) is applicable and the assessment and collection of the deficiency and additions to tax for 1985 are not barred by the statute of limitations. 698 Issue 2. Schedule C Gross Receipts from Gasoline Service Station BusinessesThe second issue is whether petitioners understated the 1985 and 1986 Schedule C gross receipts from their gasoline service station businesses. They contend that they reported all of their gross receipts. Respondent's position is that petitioners understated their 1985 and 1986 Schedule C gross receipts by the respective amounts of $ 231,620 and $ 201,251.66. Section 6001 requires all taxpayers to maintain sufficient records to determine their correct tax liabilities. When a taxpayer fails to keep adequate records, the Commissioner is authorized to determine the existence and amount of the taxpayer's income by any method that clearly reflects income. Sec. 446(b); Holland v. United States, 348 U.S. 121">348 U.S. 121 (1954); Mallette Bros. Const. Co. v. United States, 695 F.2d 145">695 F.2d 145, 148 (5th Cir. 1983); Webb v. Commissioner, 394 F.2d 366">394 F.2d 366, 371-372 (5th Cir. 1968), affg. T.C. Memo 1966-81">T.C. Memo. 1966-81. The reconstruction of income need only be reasonable in light of all surrounding facts and circumstances. 699 Giddio v. Commissioner, 54 T.C. 1530">54 T.C. 1530, 1533 (1970); Schroeder v. Commissioner, 40 T.C. 30">40 T.C. 30, 33 (1963). The Commissioner is given latitude in determining which method of reconstruction to apply when a taxpayer fails to maintain records. Petzoldt v. Commissioner, 92 T.C. 661">92 T.C. 661, 693 (1989). Once the Commissioner has reconstructed a taxpayer's income, the burden is on the taxpayer to demonstrate that the Commissioner's determination is erroneous. Mallette Bros. Const. Co. v. United States, supra at 148. Respondent reconstructed petitioners' gasoline service station income because petitioners' books and records were incomplete. As set out in detail in our Findings of Fact, respondent used in the reconstruction certain statistics, petitioner's own statements, the financial statement attached to petitioner's loan application, and third party records and statements. 8 This Court and the United States Court of Appeals for the Fifth Circuit, where an appeal in this case would lie, have approved the use of Bureau of Labor Statistics indexes, such as the consumer700 price index, as well as information based upon third party statements. See Moore v. Commissioner, 722 F.2d 193 (5th Cir. 1984), affg. T.C. Memo. 1983-20; Burgo v. Commissioner, 69 T.C. 729">69 T.C. 729, 749 (1978); Giddio v. Commissioner, supra.We have also permitted the use of loan application financial statements in reconstructing income. See, e.g., Miller v. Commissioner, T.C. Memo. 1983-73, affd. without published opinion (9th Cir., Aug. 14, 1984).Based on the evidence presented, 701 we conclude that respondent used reasonable methods to reconstruct petitioners' income from the gasoline service stations for both 1985 and 1986, especially in light of petitioners' lack of adequate books and records. Respondent's agents reconstructed petitioners' income after a careful and thorough investigation. The approach was conservative and the results were entirely reasonable under the circumstances. The only evidence petitioners presented on this issue was petitioner's own testimony and several hand-written charts. Petitioners offered no records to substantiate their argument that all of their income was reflected on their returns. Neither did petitioners substantiate their contention that the information on their January 17, 1989, financial statement was only a projection of the 1986 gasoline service station income, and not a true reflection of that income. Petitioner's self-serving testimony, unsupported by any other evidence, is insufficient to overcome respondent's proof that petitioners understated their 1985 and 1986 Schedule C gross receipts in the respective amounts of $ 231,620 and $ 201,251.66. 9702 Issue 3. Schedule C Expenses for Gasoline Service Station BusinessesThe third issue is whether petitioners are entitled to additional Schedule C expenses, including depreciation and cost of goods sold, for the operation of their gasoline service station businesses in 1985 and 1986 in the respective amounts of $ 171,244 and $ 127,665. Petitioners contend that they are entitled to all of their claimed expenses. Respondent disagrees. Deductions are a matter of legislative grace. New Colonial Ice Co. v. Helvering, 292 U.S. 435">292 U.S. 435, 440 (1934). Taxpayers bear the burden of establishing that they are entitled to the claimed deductions. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 115 (1933). A taxpayer must substantiate the amounts which give rise to a claimed deduction, and if the taxpayer does not, respondent is justified in denying the deduction. Hradesky v. Commissioner, 65 T.C. 87">65 T.C. 87, 90 (1975), affd. per curiam 540 F.2d 821">540 F.2d 821 (5th Cir. 1976). The inability to produce records does not relieve the taxpayer of this burden of proof. Estate of Mason v. Commissioner, 651">64 T.C. 651 (1975),703 affd. per order 566 F.2d 2">566 F.2d 2 (6th Cir. 1977); Figueiredo v. Commissioner, 54 T.C. 1508">54 T.C. 1508 (1970), affd. per order (9th Cir., Mar. 14, 1973). 1. Schedule C Expenses Other Than Depreciation and Cost of Goods SoldAs stated in our Findings of Fact, the 1985 and 1986 disputed expenses (other than depreciation and cost of goods sold) involve a variety of items including bad debts, car and truck expenses, insurance, legal and professional services, repairs, supplies, utilities and telephone, and equipment. The evidence in the record is very sparse with regard to these disputed expenses. a. Bad Debt ExpensesThe claimed bad debt expenses relate to charge-backs from Exxon for 1985 credit card sales that Exxon did not accept. Section 166(a) allows a deduction for business debts that become wholly or partially worthless during the taxable year. Worthlessness is a question of fact which the taxpayer has the burden of proving by a preponderance of the evidence. Crown v. Commissioner, 77 T.C. 582">77 T.C. 582, 598 (1981). The worthlessness of a debt must be determined by an examination of all the circumstances. 704 Dallmeyer v. Commissioner, 14 T.C. 1282">14 T.C. 1282, 1291 (1950). Circumstances such as the solvency of the debtor and efforts to collect the debt have been considered in determining the worthlessness of a debt. The net result of the charge-backs at issue was that petitioner was responsible for the collection of the debts. There is no evidence in this record of any attempts by petitioner to collect on these charges or of any circumstances of the debtors showing uncollectibility. Thus, we hold that petitioners have not sustained their burden of proving that the claimed bad debts became worthless in 1985 or 1986. b. Utility and Telephone ExpensesAs stated in our Findings of Fact, petitioners' utility and telephone bills reflect charges for both business and personal usage. Petitioners did not, however, keep any records that allocated between their business and personal usage. Respondent has allowed petitioners approximately 90 percent of both the utility and telephone expenses for 1985, and 51 percent of these expenses for 1986. Because petitioners failed to present evidence to establish their entitlement to utility and telephone expenses in excess705 of these amounts, we sustain respondent on this issue. c. Advertising ExpensesPetitioners did not claim any advertising expenses on their 1985 and 1986 returns. However, the parties agreed that advertising expenses are in dispute, and, at trial, petitioners claimed $ 859.88 of advertising expenses for 1985. On brief, respondent agreed that petitioners are entitled to $ 586.25 of this claimed expense, but disputed the remaining $ 273.63. Based on this record, we agree with respondent that petitioners are not entitled to the additional $ 273.63 of advertising expenses. The evidence supports the $ 586.25 of agreed expenses, but petitioners have failed to substantiate their remaining claimed deductions. We therefore sustain respondent on this issue. d. Remaining Disputed ExpensesPetitioners have failed to substantiate their remaining disputed expenses for 1985 and 1986 or to prove that these expenses were ordinary and necessary to their gasoline service station businesses. See sec. 162. They have failed to carry their burden of proof as to these expenses, and we therefore uphold respondent's determinations with regard to these remaining disputed expenses. 2. 706 Schedule C Depreciation Expensesa. Dallas Phillips 66 StationOn both their 1985 and 1986 returns, petitioners claimed a total $ 5,111 depreciation deduction with regard to the Dallas Phillips 66 Station, using a $ 92,000 basis applied to 18-year property. Respondent disallowed portions of these depreciation deductions contesting petitioners' choice of basis, useful life, and method of depreciation. Petitioners argue that they correctly determined their depreciation deductions. They have the burden of proof. Rule 142(a). A deduction for depreciation is limited to a reasonable allowance for exhaustion and wear and tear of property used in a trade or business or held for the production of income. Sec. 167(a). Land is not depreciable. See Hoboken Land & Improvement Co. v. Commissioner, 138 F.2d 104">138 F.2d 104 (3d Cir. 1943), affg. 46 B.T.A. 495">46 B.T.A. 495 (1942). Petitioners paid $ 49,971 for the Dallas Station/Dallas Phillips 66 Station property, 10 including the land and buildings. Section 1.167(a)-5, Income Tax Regs., provides that: In the case of the acquisition on or after March 1, 1913, of a combination of depreciable and707 nondepreciable property for a lump sum, as for example, buildings and land, the basis for depreciation cannot exceed an amount which bears the same proportion to the lump sum as the value of the depreciable property at the time of acquisition bears to the value of the entire property at that time. * * * Pursuant to this regulation, respondent argues that, for purposes of depreciation, the amount that petitioners paid for the Dallas Station/Dallas Phillips 66 Station must be allocated between the land and buildings. We agree. Because the only reliable evidence in the record showing an allocation between the value of the station's land and buildings is the Dallas County Tax Assessor-Collector's 1985 Tax Roll and Record of Payments statement (which indicates that 70.9 percent of the property's assessed value is attributable to buildings/improvements), we sustain respondent's determination of petitioners' depreciable basis as $ 35,429.44 ($ 49,971 purchase price x 70.9 percent = $ 35,429.44). See, e.g., Conroe Office Building, Ltd. v. Commissioner, T.C. Memo. 1991-224. 708 Petitioners used an 18-year useful life to depreciate the station. For property placed in service after May 8, 1985, and before January 1, 1987, the unadjusted basis of real property is recoverable under section 168 over a period of 19 years. See Simplification of Imputed Interest Rules Act of 1985, Pub. L. 99-121, sec. 103(a), 99 Stat. 505, 509. The Dallas Phillips 66 Station was placed in service during the last half of 1985. As a result, respondent recalculated petitioners' depreciation of the station by treating it as 19-year real property subject to ACRS under section 168 and the regulations thereunder. Respondent also applied the half-year convention rule to the property for 1985 (because it was placed in service during the last half of that year), which in this instance works in petitioners' favor and therefore we will not disturb such determination. Compare section 168(b)(2)(A) which prescribes a mid-month convention for 19-year property. Respondent's adjustments are presumptively correct, and petitioners have not introduced any evidence to establish the incorrectness of respondent's recalculation of these deductions. We therefore sustain respondent's determination709 regarding the allowable depreciation deductions for the Dallas Phillips 66 Station for 1985 and 1986. b. Storage Tanks at Dallas Phillips 66 StationPetitioner paid $ 23,600 for the labor, equipment, and materials associated with the underground gasoline storage tanks at the Dallas Phillips 66 Station. Petitioners included these gasoline storage tanks as part of the $ 92,000 basis that they depreciated on their 1985 and 1986 returns with regard to the Dallas Phillips 66 Station, and treated this as 18-year real property on their 1985 and 1986 returns. As stated above, petitioners' 1985 and 1986 reported basis and method of depreciation were erroneous. However, respondent does not dispute that petitioners are entitled to some depreciation deductions with regard to these tanks. The parties have stipulated that the storage tanks constituted "improvements to the real estate." The tanks were installed underground with "poured reinforced concrete over tanks and pipe chases". Because the parties agree that the storage tanks are improvements to real estate (Dallas Phillips 66 Station), we conclude that section 168 is applicable and the unadjusted basis of the storage tanks is 710 recoverable over a period of 19 years (for property placed in service after May 8, 1985, and before January 1, 1987). See Simplification of Imputed Interest Rules Act of 1985, Pub. L. No. 99-121, sec. 103(a), 99 Stat. 505, 509. Also, the tanks were placed in service during the last half of 1985. We assume that respondent, in the Rule 155 computations, will similarly apply the one-half year convention as respondent did in the depreciation of the Dallas Phillips 66 Station. 3. Cost of Goods Sold ExpensesAs described in our Findings of Fact, based upon petitioners' reconstructed gross income from the gasoline service stations, respondent increased petitioners' 1985 and 1986 Schedules C cost of goods sold expenses. Because we have sustained respondent's determinations regarding the increased Schedules C gross income, we also sustain respondent's recalculation of the cost of goods sold expenses for 1985 and 1986. Issue 4. Schedule E Expenses for Rental PropertiesThe fourth issue is whether petitioners are entitled to claimed Schedule E expenses with respect to two rental properties for 1985 and 1986 in the respective amounts of $ 11,937 and $ 6,492. Respondent disallowed711 these expenses for lack of substantiation. Petitioners contend that they are entitled to the full amount of these claimed expenses. Petitioners have the burden of proving that respondent's determinations are erroneous. 1. Schedule E Expenses (Other Than Depreciation)The disputed Schedule E expenses (other than depreciation) relating to petitioners' house and church properties for 1985 and 1986 total $ 7,595 and $ 2,459, respectively. 11 There is no evidence in the record relating to these expenses. Because petitioners have failed to substantiate the disputed expenses, or to show that these expenses were ordinary and necessary to petitioners' rental businesses pursuant to section 162, we sustain respondent with regard to these items. See Rule 142(a); see also sec. 6001. 2. Schedule E Depreciation ExpensesOn their 1985 and 1986 returns, petitioners claimed depreciation deductions of $ 2,317 for the house property and $ 2,333 for the712 church property for each year. Petitioners treated the properties as 18-year real property under ACRS. Respondent disallowed a portion of these depreciation deductions. Respondent asserts that petitioners used an incorrect basis, an improper method of depreciation, an incorrect useful life, and failed to properly apply the half-year convention to the properties. Petitioners paid a total of $ 26,700 in 1972 for the house property and added a patio cover to the house in 1983 at a cost of $ 5,000. Petitioners paid $ 30,000 for the church property in 1980. The depreciable basis of purchased property is, in general, its cost. Secs. 167(g), 1011, 1012; Weis v. Commissioner, 94 T.C. 473">94 T.C. 473, 482 (1990). However, as we have already discussed, when a combination of depreciable and nondepreciable property is purchased for a lump sum, the lump sum must be allocated between the two types of property to determine their respective costs. In making this allocation, the basis of the depreciable property cannot exceed an amount which bears the same proportion to the lump sum as the value of the depreciable property at the time of acquisition bears to the entire 713 value of the property at that time. Sec. 1.167(a)-5, Income Tax Regs. Since land is not subject to depreciation, the purchase price must be allocated between the value of the land and the building. Hoboken Land & Improvement Co. v. Commissioner, 138 F.2d 104">138 F.2d 104 (3d Cir. 1943), affg. 46 B.T.A. 495">46 B.T.A. 495 (1942). Petitioners bear the burden of proving that respondent's allocation is incorrect. Rule 142(a); see Elliott v. Commissioner, 40 T.C. 304">40 T.C. 304, 313 (1963). The only evidence that was presented in this case to provide an allocation of value between land and buildings for the house and church properties is the Dallas County Tax Assessor-Collector's 1985 Tax Roll and Record of Payments statement. For the house property, the assessor's statement indicates that 86.3 percent of the property's assessed value is attributable to building/improvements. For the church property, the assessor's statement indicates that 00.0 percent of the property's assessed value is attributable to building/improvements. Because of the sparse evidence before us, we sustain respondent's use of the local and county taxing authorities' 714 documents to determine petitioners' depreciable bases in the house and church properties. See, e.g., Conroe Office Building, Ltd. v. Commissioner, T.C. Memo. 1991-224; see also Rule 142(a). Thus, petitioners' depreciable basis in the house property is $ 28,042.10 ($ 26,700 X 86.3 percent = $ 23,042.10 + $ 5,000 = $ 28,042.10), and petitioners have a zero depreciable basis in the church property.12 Consequently, petitioners are entitled to some depreciation deductions for 1985 and 1986 with regard to the house property, but no deductions for the church property.The proper method of depreciation depends upon when the properties were placed in service. 715 Property is "placed in service" when it is "first placed in a condition or state of readiness and availability for a specifically assigned function, whether in a trade or business, in the production of income, in a tax-exempt activity, or in a personal activity." Sec. 1.167(a)-11(e)(1), Income Tax Regs.; see Piggly Wiggly Southern, Inc. v. Commissioner, 84 T.C. 739">84 T.C. 739, 745-746 (1985), affd. on another issue 803 F.2d 1572">803 F.2d 1572 (11th Cir. 1986). Respondent determined that the house property was placed in service prior to January 1, 1981, 13 and, as a result, that petitioners must recover their depreciable basis in the house property through depreciation deductions pursuant to section 167 and the regulations thereunder. Under section 167, depreciation deductions are available over the useful life of the property, which is the period over which the property is reasonably expected to be useful in the taxpayer's trade or business or for the production of income. Sec. 1.167(a)-1(b), Income Tax Regs. The house property's appropriate useful life is 45 years. See Rev. Proc. 72-10, 1 C.B. 721">1972-1 C.B. 721, 731716 (asset guideline Class 65.32 (Building Services for residential purposes, Dwellings)). On a straight line basis, a full year's depreciation rate is 2.2 percent. Because the house property was first used in a trade or business/income producing activity in July 1985, its 1985 depreciation deduction must be pro rated for the number of months in use. See sec. 1.167(b)-1(b), Income Tax Regs., Example (1). Accordingly, respondent determined that petitioners are entitled to only one-half year's depreciation (or 1.1 percent of $ 28,042.10 = $ 308.46) of the rental house for 1985. In conclusion, we sustain respondent's determinations that petitioners' allowable depreciation is $ 308 for the house property and zero for the church property for 1985, and $ 617 for the house property and zero for the church property for 1986. Respondent's recomputation of these deductions was reasonable, and petitioners failed to persuade us otherwise. Issue717 5. Gambling Losses for 1985The fifth issue is whether petitioners are entitled to claimed gambling losses of $ 9,870 for 1985. Respondent disallowed these losses for lack of substantiation. On petitioners' 1985 income tax return, they reported $ 117,896 as gambling income from one wager, and a $ 9,870 deduction, listed as "Loss & Expenses on American Express & Visa". Section 165(d) provides that "Losses from wagering transactions shall be allowed only to the extent of the gains from such transactions". See also sec. 1.165-10, Income Tax Regs. The burden of proof is on the taxpayers to establish the amount of their gambling losses. Rule 142(a); Norgaard v. Commissioner, 939 F.2d 874">939 F.2d 874 (9th Cir. 1991), affg. in part and revg. in part T.C. Memo. 1989-390; Stein v. Commissioner, 322 F.2d 78">322 F.2d 78, 82 (5th Cir. 1963), affg. T.C. Memo 1962-19">T.C. Memo. 1962-19; Schooler v. Commissioner, 68 T.C. 867">68 T.C. 867, 869 (1977). The issue is factual and must be decided on the evidence presented. Green v. Commissioner, 66 T.C. 538">66 T.C. 538, 544 (1976).718 Section 6001 requires taxpayers to keep adequate records to substantiate their income and deductions. See also sec. 1.6001-1(a), Income Tax Regs. However, there is no ironclad formula for determining what records should be deemed sufficient to prove losses under section 165(d). See Green v. Commissioner, supra at 548. Petitioners did not maintain any records of petitioner's 1985 gambling losses. At trial, petitioner stated that at one time he had racing programs but he did not save these forms. Petitioner did not present any racing tickets to show when or how much he wagered in 1985 and did not present any witnesses to corroborate the claimed losses. It appears from the record that petitioners intermingled petitioner's gambling expenses and claimed losses for 1985. Expenses of a casual gambler for temporary living accommodations, travel, and food are personal expenses, and therefore are not deductible. See sec. 262. There is no evidence in the record as to what portion of the claimed deduction constituted expenses as opposed to losses. Where a taxpayer fails to keep adequate records of winnings and losses, absent credible evidence otherwise, 719 claimed gambling losses have been held to be nondeductible. See, e.g., Norgaard v. Commissioner, supra; Stein v. Commissioner, supra.However, it is a truism that no one ever bets enough on winning horses, but too much on losing horses. In these circumstances we think that in order to win $ 117,896, petitioner must have had some gambling losses. Thus, we will invoke the rule of Cohan v. Commissioner, 39 F.2d 540">39 F.2d 540, 543-544 (2d Cir. 1930), affg. in part and revg. in part 11 B.T.A. 743">11 B.T.A. 743 (1928), and we will allow petitioners some gambling losses for 1985. See also Drews v. Commissioner, 25 T.C. 1354">25 T.C. 1354 (1956). Because petitioners' lack of adequate records and their intermingling of losses and expenses prevents us from determining the precise amount of these losses for 1985, we will bear heavily against petitioners for their inexactitude and make as close an approximation as we can. Consequently, we hold that they are entitled to a $ 2,000 deduction for gambling losses in that year and are not entitled to their remaining720 claimed losses. Issue 6. Gambling Income and Losses for 1986The sixth issue is whether petitioners received unreported gambling income of $ 49,140 in 1986 (and, as a result, are also entitled to $ 14,233 of additional gambling losses for that year). Petitioners argue that they reported all of their 1986 gambling income. Respondent, on the other hand, contends that petitioners underreported the gambling income on their 1986 return. Petitioners reported a total of $ 47,550.20 as gambling winnings on their 1986 income tax return from one racetrack, Louisiana Downs, Inc., and deducted $ 47,550.00 as gambling losses for the year. They attached four separate Forms W-2G to their 1986 return to evidence the winnings. A taxpayer is required to maintain adequate books and records in order to file a correct return. Sec. 1.6001-1(a), Income Tax Regs. The Commissioner is authorized to reconstruct a taxpayer's income if the taxpayer fails to maintain such records. Sec. 446(b). The method of reconstruction must be reasonable. The Commissioner's determination is presumed correct unless proved to be arbitrary and excessive. Helvering v. Taylor, 293 U.S. 507">293 U.S. 507 (1935).721 We think respondent's reconstruction of petitioners' 1986 gambling winnings was arbitrary and excessive. Despite petitioners' incomplete records, we hold that respondent's reconstruction of petitioners' gambling income for 1986 lacked a reasonable basis. As stated in the Findings of Fact, respondent determined that petitioner placed over 22,000 bets on 152 days in 1986 at five racetracks. Respondent recomputed petitioners' 1986 gambling income to account for additional winnings at the racetracks. Respondent made the computation by assuming that the ratio of wagering losses at Louisiana Downs, Inc., to income reported on the W-2G Forms from Louisiana Downs, Inc., reflected the same ratio of wagering losses to income received from all racetracks, including Louisiana Downs, Inc. (see supra note 6). Respondent thus projected and determined that petitioners had unreported gambling income of $ 49,140 for 1986 in addition to the $ 47,550.20 that they reported. Because the claimed wagering losses were used as a basis to recompute income, respondent also increased petitioners' allowable losses by $ 14,233. We do not sustain this recalculation. Respondent's reconstruction of petitioners' 722 1986 gambling income was simply conjectural, with no reasonable basis. It was also excessive. Accordingly, we hold that petitioners correctly stated their gambling income and losses on their 1986 return. Issue 7. Schedule W Married Couple DeductionThe seventh issue is whether petitioners are entitled to Schedule W married couple deductions for 1985 and 1986 in the respective amounts of $ 1,336 and $ 675. In 1985 and 1986, Carolyn J. Stafford earned wages from American Airlines, Inc., and petitioner received income from his gasoline stations and from other sources. During 1985 and 1986, section 221 allowed, in the case of a joint return, a deduction for two-earner married couples equal to 10 percent of the lesser of $ 30,000 or the "qualified earned income" of the spouse with the lower qualified earned income for the taxable year. Qualified earned income was further defined as an amount equal to the excess of (a) the earned income of the spouse for the taxable year, over (b) an amount equal to the sum of certain deductions allowable under section 62 and properly allocable to or chargeable against earned income. Sec. 221(b). In view of our holdings in issues 2 and 3, 723 petitioners' gasoline service station income is increased; thus, petitioners' qualified earned income is correspondingly affected. Because this issue is computational, it can be resolved in the Rule 155 computations. Issue 8. Investment CreditsThe eighth issue is whether petitioners are entitled to investment credits of $ 17,570 for 1985. Respondent contends that petitioners are not entitled to these credits. Petitioners contend otherwise. On their 1985 return, petitioners claimed $ 17,570 in investment credits with respect to buildings located on the church property, the house property, and the Dallas Phillips 66 Station property. Section 38 provides a credit against tax for investments in certain types of property, described as "section 38 property". In relevant part, section 48 defines section 38 property as follows: Sec. 48 Definitions; special rules. (a) SECTION 38 PROPERTY. -- (1) IN GENERAL. Except as provided in this subsection, the term "section 38 property" means - (A) tangible personal property (other than an air conditioning or heating unit), or (B) other tangible property (not including a building and its structural components) but only if such property724 -- * * (E) in the case of a qualified rehabilitated building, that portion of the basis which is attributable to qualified rehabilitation expenditures (within the meaning of subsection (g)), or * * * Buildings are generally not section 38 property and, therefore, do not qualify for the investment credit. See sec. 1.48-1(e), Income Tax Regs.; see also sec. 1.48-1(c), Income Tax Regs. ("tangible personal property" does not include "land and improvements thereto, such as buildings or other inherently permanent structures"). As a result, only "qualified rehabilitation" buildings are eligible for the investment credit. Petitioners have not submitted any evidence to show that the buildings on the three properties met the requirements of qualified rehabilitation buildings. We therefore sustain respondent on this issue. Issue 9. Self-Employment TaxThe ninth issue is whether petitioners are liable for increased self-employment taxes pursuant to section 1401 for 1985 and 1986 in the respective amounts of $ 4,563 and $ 3,816. Petitioners contend that they properly calculated their self-employment taxes on their returns. Respondent argues to the contrary. Section 1401725 imposes a tax upon net earnings from self-employment. The term "net earnings from self-employment" is defined as gross income derived by an individual from any trade or business carried on by such individual, less the deductions attributable to such trade or business. Sec. 1402(a). Petitioners bear the burden of proving that respondent's determination is erroneous. Rule 142(a). The self-employment income currently at issue was generated by the additional income (and decreased by the additional allowable expenses) from petitioners' gasoline service station businesses. In view of our conclusions with respect to issues 2 and 3, as well as petitioners' failure to offer any evidence on this issue, we hold that petitioners are liable for the additional self-employment taxes determined by respondent. Issue 10. Additions to Tax for NegligenceThe tenth issue is whether petitioners are liable for the additions to tax for negligence or intentional disregard of rules or regulations pursuant to section 6653(a)(1) and (2) for 1985, and section 6653(a)(1)(A) and (B) for 1986. Petitioners contest respondent's determination that they are liable for these additions to tax. Sections726 6653(a)(1) and 6653(a)(1)(A) impose an addition to tax if any part of an underpayment of tax is due to negligence or intentional disregard of rules or regulations. Sections 6653(a)(2) and 6653(a)(1)(B) impose an additional amount, but only with respect to the portion of the underpayment attributable to the negligence. Negligence is the lack of due care or failure to do what a reasonable and ordinarily prudent person would do under the circumstances. Neely v. Commissioner, 85 T.C. 934">85 T.C. 934, 947 (1985). Respondent's determination of negligence is presumed to be correct and petitioners have the burden of proving that it is erroneous. Rule 142(a); Luman v. Commissioner, 79 T.C. 846">79 T.C. 846, 860-861 (1982). It is clear from the record that petitioners were negligent in 1985 and 1986. They did not report all of their gross income from the gasoline service station businesses, and they also claimed a variety of unsubstantiated and erroneous deductions and credits. In addition, petitioners failed to maintain books and records of their income as required by section 6001 and section 1.6001-1, Income Tax Regs. See Schroeder v. Commissioner, 40 T.C. 30">40 T.C. 30, 34 (1963).727 Petitioner was aware of this obligation to make and keep records of his income-producing activities and expenses. He had operated gasoline stations since 1972 and prepared his own Federal income tax returns. Despite operating largely on a cash basis, he failed to keep receipts, cash register tapes, or other records regarding his cash sales. Similarly, petitioner did not maintain records of his gambling activities other than the totes from 1986. As a result, with the exception of the few issues where we have adjusted respondent's determinations, petitioners have failed to show that any part of their determined deficiencies was not due to negligence or intentional disregard of the rules. Accordingly, we hold that they are liable for the negligence additions to tax except, as to sections 6653(a)(2) and 6653(a)(1)(B), to the extent applicable to the 1985 and 1986 determinations that we have not upheld. Issue 11. Additions to Tax for Substantial UnderstatementsThe final issue is whether petitioners are liable for the section 6661 additions to tax for substantial understatements of tax for 1985 and 1986. Respondent determined that petitioners are liable for the additions728 to tax. Petitioners contest this determination. Section 6661(a) provides for an addition to tax if there is a substantial understatement of income tax. The amount of the section 6661 addition to tax for additions assessed after October 21, 1986, is equal to 25 percent of the amount of any underpayment attributable to a substantial understatement. Omnibus Budget Reconciliation Act of 1986, Pub. L. 99-509, sec. 8002, 100 Stat. 1951; Pallottini v. Commissioner, 90 T.C. 498">90 T.C. 498, 501-502 (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)(A). The understatement is reduced if it is based on substantial authority or is adequately disclosed on the return or in a statement attached to the return. Sec. 6661(b)(2)(B). It is clear that petitioners failed to report the minimal amount required by section 6661. Further, petitioners' understatements for 1985 and 1986 were neither based on substantial authority nor adequately disclosed on their returns or in a statement attached to their returns. We therefore sustain respondent's section 6661 determinations. 729 To reflect the parties' concessions and our conclusions on the disputed issues, Decision will be entered under Rule 155. Footnotes. On August 13, 1992, this Court filed its Memorandum Findings of Fact and Opinion (T.C. Memo. 1992-459) in this case. On October 16, 1992, respondent filed a motion requesting that the opinion be withdrawn and refiled because petitioner Clyde E. Stafford had filed on August 3, 1992, a Chapter 13 bankruptcy petition with the U.S. Bankruptcy Court, Northern District of Texas, Dallas Division. Consequently, pursuant to 11 U.S.C. sec. 362(a)(8) (1988), the proceedings in this Court with respect to petitioner Clyde E. Stafford were automatically stayed on August 3, 1992, thus nullifying our opinion filed August 13, 1992. An order was filed on September 28, 1992, dismissing the bankruptcy case, thus lifting the automatic stay of proceedings in this case. By order dated October 21, 1992, respondent's motion to withdraw T.C. Memo. 1992-459 was granted, and the opinion was withdrawn. Therefore our Memorandum Findings of Fact and Opinion is unchanged.↩1. For 1986, the additions to tax for fraud are codified under sec. 6653(b)(1)(A) and (B).↩1. Unless indicated otherwise, 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. Prior to trial, petitioners filed a second amendment to petition that raised the issue of whether the statute of limitations barred the assessment and collection of their 1985 deficiency and additions to tax. Respondent contested this issue in an answer to second amendment↩ to petition. This issue was properly raised pursuant to Rule 41(a), and we accordingly address it herein.1. Petitioners claimed a total of $ 3,880 in business expenses for utilities and telephone for 1985. This amount included charges for both business and personal use. Similarly, for 1986, petitioners claimed a total $ 6,768 business expense for utilities and telephone that also included business and personal use. The parties have agreed on a $ 3,394.50 expense for 1986. See infra↩.3. Respondent tested this amount for reasonableness by calculating the number of inspection stickers that petitioner purchased during 1985 ($ 1,127 total purchase price divided by $ 2.75 price per sticker) and then dividing this number into the projected income figure of $ 3,108. This resulted in an average income amount of $ 7.58 from each inspection sticker. For a regular State motor vehicle inspection, petitioners charged $ 7.50 for cars that used leaded fuel and $ 10.50 for cars that used unleaded fuel.↩4. Petitioner provided the markup percentages to respondent at a 1987 meeting.↩5. These amounts are relevant to our disposition of issue 1 supra↩ because in this context "gross receipts" is equated with "gross income".6. Respondent computed petitioners' additional gambling income as follows: respondent totaled petitioners' claimed losses of $ 30,838 from Louisiana Downs, Inc. (taken from the racing tickets petitioners provided), and divided that amount by the total Forms W-2G income of $ 47,550.20, to arrive at 63.898 percent. (Respondent incorrectly calculated this percentage: 30,838 divided by 47,550.20 actually yields 64.854 percent). Respondent then divided petitioners' $ 61,783 of claimed losses from all racetracks (as shown on petitioners' 1986 return) by 63.898 percent, to project income of $ 96,690 from all racetracks. Thus, according to respondent's computations, petitioners understated their 1986 gambling income by $ 49,140 ($ 96,690 total reconstructed income minus $ 47,550.20 reported income).↩7. Applying the sec. 6501(e)(1)(A) definition of gross income, petitioners reported gross income of $ 900,789 for 1985. Twenty-five percent of $ 900,789 is $ 225,197. Respondent reconstructed petitioners' 1985 gross income to be $ 1,132,409. Thus, petitioners omitted $ 231,620 of income from their 1985 return ($ 1,132,409 minus $ 900,789). This unreported, omitted income exceeds $ 225,197, which equals 25 percent of the gross income that petitioners reported on their 1985 return.↩8. We note that at trial, E.W. Switzer, owner of Switzer's Petroleum Products, testified on behalf of respondent regarding his sales of S & S Petroleum, Inc., to petitioner. Also, two revenue agents, Gaynelle Schroeder and Lynette Harms, who worked on petitioners' audit, testified as to their reconstruction of petitioners' Schedules C gross receipts. All three individuals were credible witnesses.↩9. For example, petitioner argued that he provided customers with a 4-cent discount for cash purchases and therefore his 1985 and 1986 gross receipts should be decreased due to the cash discounts. However, he was unable to produce any evidence to substantiate this contention. Also, we were not persuaded by the testimony of petitioner or his witness regarding the amount of the specialty repair income.↩10. The proper treatment of the funds petitioners paid with regard to the station's underground storage tanks is discussed infra↩.11. These expenses are listed in detail in our Findings of Fact.↩12. While we note that the building on the church property may have had some value at this time, the record provides no evidence to support any allowance. See Williams v. United States, 245 F.2d 559">245 F.2d 559, 560 (5th Cir. 1957); Vanicek v. Commissioner, 85 T.C. 731">85 T.C. 731, 742-743↩ (1985).13. Petitioners have offered no proof to contradict this determination.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623912/	Granite Construction Company, Petitioner, v. Commissioner of Internal Revenue, RespondentGranite Constr. Co. v. CommissionerDocket Nos. 26043, 30271United States Tax Court19 T.C. 163; 1952 U.S. Tax Ct. LEXIS 54; November 7, 1952, Promulgated 54 Decisions will be entered for the respondent. 1. Petitioner undertook large construction jobs in new and unfamiliar areas during the period 1932 to 1935. As a result of substantial losses incurred thereon, petitioner's capital and credit were impaired to the extent that it was allegedly unable to secure or undertake large construction contracts during the base period. Held: Petitioner's undertaking of contracts outside its normal field of operations does not constitute an event, during or immediately prior to the base period, of the sort contemplated by section 722 (b) (1), and petitioner is denied relief thereunder.2. Held: Relief sought under section 722 (b) (2) denied inasmuch as the alleged temporary and unusual economic depression of petitioner's business in base period years was primarily brought on by the managerial decision, internally determined, to undertake large contracts outside petitioner's normal sphere of operations. Held, further, since petitioner's average net profits were actually greater in the base period than in the 18-year period, 1922 to 1939, its business was, in fact, not depressed in the base period years within the purview of section55 722 (b) (2).3. Prior to 1931, petitioner had followed the policy of restricting its operations to the local surrounding areas. In 1931, the then majority stock control caused petitioner to go outside the local area to secure contracts. In 1936, the previous minority stockholders acquired all of petitioner's stock and caused it to revert generally to the old policy. Thereafter, petitioner began to show an increase in net profits. Held: Petitioner did not change the character of its business through a change in management to which an increase in net profits was directly attributable as contemplated by section 722 (b) (4), and relief thereunder is denied.4. Held: Relief sought under section 722 (b) (5) is denied since petitioner's claim for relief thereunder is based upon a combination of the factors separately considered and rejected as offering grounds for relief under section 722 (b) (1), (2) and (4), and to grant such relief would be violative of the statutory prohibition contained therein. Bayley Kohlmeier, Esq., George H. Koster, Esq., and Herbert F. Baker, C. P. A. for the petitioner.R. E. Maiden, Jr., Esq., and R. B. Sullivan, Esq., for the respondent. Van Fossan, Judge. VAN FOSSAN 163 These proceedings involve petitioner's claims for refund of excess profits tax under section 722 of the Internal Revenue Code for the calendar years 1940 to 1944, both inclusive. Respondent disallowed, in full, petitioner's claims for each of the years involved on the grounds that petitioner had not established its right to relief under any of the provisions of section 722.164 FINDINGS OF FACT.Petitioner is a corporation organized under the laws of the State of California on January 4, 1922. It maintains its principal place of business at Watsonville, California. The returns for the periods here involved were filed with the collector of internal revenue for the first district of California.Since its organization, petitioner has been engaged primarily in the business of57 paving streets, building highways and county roads, making fills, and constructing foundations, driveways, culverts, and bridges.During the period from 1922 to 1929, Arthur R. Wilson, Walter J. Wilkinson, and John E. Porter owned all of the stock of petitioner and served as petitioner's directors and officers. Wilson was president, Wilkinson was vice president and general manager, and Porter was secretary and treasurer. Wilson, Wilkinson, and Porter were men of extensive experience in construction work and were well known and highly regarded in the industry. Wilson was also manager of the Granite Rock Company and Porter was sales manager of that company. Wilkinson had been manager of the construction department of Granite Rock Company and had held high offices in state and local associations of general contractors. Wilkinson was responsible for the operation of petitioner's business. During this period, H. B. Scott, who has been president and general manager of petitioner since 1941, was also employed by petitioner, first as office manager and cost accountant, then as estimating engineer and later as assistant manager. In 1931 he acquired a small stock interest, was elected58 to the board of directors and became secretary of petitioner.From 1922 to 1929, while petitioner was under the management and control of the above three men, the business operations of petitioner were confined largely to the central coastal counties of California, namely, the southern part of Santa Clara County, San Benito County, Monterey County, Santa Cruz County, and San Luis Obispo County. In that area petitioner could use to advantage the products of the quarry of Granite Rock Company which was located at Logan, California. The officers of petitioner were familiar with those materials and were able to do high class work which satisfied the engineers and the industries in that area. The officers also knew the terrain, the underground conditions, and the weather conditions in that area. Petitioner handled a large number of small jobs such as sidewalks, driveways, ranch roads, and parking areas and performed small and large city street paving contracts. Petitioner also did considerable county road construction and entered into one or two state highway contracts each year which ranged from $ 100,000 to $ 300,000. The 165 large contracts accounted for about one-half of59 petitioner's gross volume each year and the balance came from the smaller jobs. Generally the same profit margins were calculated on the small as on the large jobs.Petitioner was required to furnish a labor and material bond and a faithful performance bond on all public works jobs and on some private jobs. During the period prior to 1930 it was always able to secure the necessary bonds without collateral or other security. Petitioner financed its larger construction jobs through bank loans. The maximum amount borrowed at any one time was approximately $ 250,000. Petitioner was never required to furnish collateral or any other security in connection with such loans, and experienced no difficulty in thus obtaining all funds needed until the end of 1935. Wilkinson made advances of money to petitioner from time to time, and stood ready throughout the period 1936 to 1939 to render further substantial assistance had the company required it for sound business policies. All advances so made were later treated as additional contributions to capital.Arthur R. Wilson died in 1929. During the year 1930 his estate was in probate and in 1931 the stock of petitioner which had been owned60 by him passed to his widow, his son, Arthur Jeffrey Wilson, and several other children. The death of Wilson did not bring about any change in the business or business policies of petitioner in 1929 and 1930. In 1931 petitioner began to be affected by the depression and the majority of the stockholders decided that petitioner should go farther afield to secure contracts that it was not able to obtain in the old area of operations. This represented a modification of the previous policy and practice of petitioner and caused repeated discussions among the stockholders. Wilkinson and H. B. Scott preferred to curtail operations, stay in the central coastal counties, reduce personnel and endeavor to hold on until business conditions improved.In 1931 petitioner began investigating and bidding for contracts in other parts of California and in other states such as Nevada, Utah, Idaho, and Wyoming. In 1932 petitioner obtained three paving contracts in Utah, a grading and paving contract on the San Simeon Coast of California, and a road job in Yosemite National Park. In 1933 and 1934 petitioner secured two additional jobs in Yosemite National Park.Petitioner encountered unexpected difficulties61 in Utah due to the mountains and the different weather conditions. Frequent rains necessitated repetition of work in spreading asphaltum and substantially increased the costs over the estimated amounts with the result that petitioner lost considerable money on the contracts. Petitioner also encountered unforeseen and unexpected difficulties in the performance 166 of the San Simeon Highway contract which increased the costs with the result that petitioner sustained a loss on that job.In the performance of the contracts in Yosemite National Park, petitioner again encountered unexpected difficulties in the form of special requirements imposed by the park authorities, inefficient operation of equipment in the high altitude, unexpectedly hard rock formations, failure of the water supply and increased costs as the result of the enactment of the National Recovery Act. Petitioner managed to make a profit on the Yosemite job which it performed in 1933. It sustained serious losses on the jobs performed in 1934 and 1935.As the result of the losses which petitioner sustained on the above-mentioned work, petitioner's equity capital was reduced to $ 3,215 at the close of 1935. At that62 time petitioner owed over $ 130,000 to 69 creditors which it was unable to satisfy.About the end of 1935 the majority stockholders, namely, Porter and the heirs of Arthur R. Wilson, wanted to dispose of their stock in petitioner and after unsuccessful efforts to dispose of the stock to outside interests, in May of 1936 Wilkinson, on behalf of himself and Scott, made a contract to purchase the stock for $ 10,000. Wilkinson and Scott were willing to pay $ 10,000 for the stock because they had confidence in the corporation. There was still good will in the name and the company was still highly regarded by the engineers and city councils and other people in the surrounding area.After Wilkinson and Scott acquired all the stock of petitioner, agreements were made with the larger creditors and a considerable portion of the machinery and equipment was liquidated for the payment of creditors. Wilkinson and Scott also caused petitioner to return generally to its earlier policy of confining its business to the central coastal counties.During the years 1936, 1937, 1938, and 1939 petitioner performed the usual private jobs, small city street projects, and small maintenance and light surfacing63 jobs on state highways. Petitioner gradually improved its financial condition, its equipment, and its personnel. By the close of 1939 it had paid off all its creditors. Its accounts were current in all respects and it had regained a favorable economic position. Adequate financing was available for the undertaking of larger jobs. Petitioner also had the necessary equipment and personnel. In the period 1936 to 1939 the number and size of the larger jobs available were comparable to those of the earlier period 1922-1929. While the competition on smaller work was comparable to that earlier period, the competition on the larger jobs was not keen.For each of the years 1922 to 1939, inclusive, petitioner's gross revenue from jobs, gross profit on jobs, other income, total income, 167 expenses, net profit before taxes, and excess profits net income were as follows:GrossGrossNet profitYearrevenueprofit onOtherTotalExpensesbeforeExcess profitsfrom jobsjobsincomeincometaxesnet income1922$ 245,397$ 68,797 $ 1,278$ 70,075$ 34,332$ 35,743 $ 35,743.59 1923448,20295,960 2,73998,69865,58533,113 33,113.39 1924420,54391,547 2,07793,62487,0456,578 6,578.23 1925437,79787,563 4,09591,65877,15414,504 13,666.11 1926529,166104,443 8,474112,917107,8955,021 3,868.60 1927827,678125,683 16,728142,411127,22215,189 15,189.36 1928731,506177,589 19,434196,923154,79342,129 41,971.58 1929781,049193,105 18,067211,172163,28147,890 42,371.55 19301,293,358254,577 20,445275,022242,13332,888 24,987.83 1931822,660204,431 39,484243,915236,8377,077 (3,668.63)1932414,36921,697 22,35544,052186,176(142,123)(139,195.03)1933348,79584,003 20,028104,031108,112(4,081)(6,341.72)1934228,93521,849 22,33544,18480,589(36,405)(37,212.10)1935342,230(16,051)38,71222,66169,952(47,291)(70,031.71)1936274,28772,867 23,26496,13170,08626,045 7,859.70 1937342,15984,832 13,05097,88293,1394,743 (2,124.85)1938283,55460,548 7,21267,76068,266(506)(1,774.16)1939292,15176,025 3,54879,57376,1743,399 3,049.23 64 Petitioner is entitled to use excess profits tax credit based upon income pursuant to section 713 of the Internal Revenue Code.The following shows the petitioner's actual average excess profits net income for the base period years 1936 to 1939, inclusive; the long-term 18-year average for the years 1922 to 1939, inclusive; and the 10-year average for the years 1930 to 1939, inclusive: Base Period Average$ 1,752.48Long-term 18-Year AverageLoss of $ 1,77110-Year AverageLoss of $ 22,446Petitioner's excess profits credit, computed under the invested capital method, used in determining its excess profits tax liability for each of the taxable years, is as follows:Year endedDec. 31, 1940$ 8,778.61Dec. 31, 19419,243.62Dec. 31, 194211,456.55Dec. 31, 194312,410.78Dec. 31, 194413,948.31The comparative costs of highway construction in California, by weighted average contract price, for the years 1922 to 1939, inclusive, converted to a calendar year basis, are as follows:168 Comparative costs of highway construction in California converted to calendar year basisWeightedWeightedWeightedaverage contractaverage contractaverage contractYearpricepricepriceGrading perAsphalt perConcrete percu. yd.toncu. yd.1922$ 0.83$ 8.46$ 15.811923.737.8113.731924.757.6813.331925.676.8512.021926.515.7810.561927.475.4010.661928.535.1910.481929.504.6110.231930.434.499.461931.374.108.551932.303.457.791933.262.946.551934.252.946.631935.283.277.661936.363.368.261937.343.438.121938.334.077.861939.293.797.7965 OPINION.Petitioner alleges that its excess profits taxes for the calendar years 1940, 1941, 1942, 1943, and 1944 are excessive and discriminatory and here seeks relief under the provisions of section 722, Internal Revenue Code. 166 Specifically, petitioner invokes subparagraphs (1), (2), (4), and (5) of section 722 (b). 2As noted in the findings of fact, petitioner is entitled to compute its excess profits credit by using the average earnings method provided in section 713 of the Code. Its average net income in the base period, 1936 to 1939, inclusive, was $ 1,752.48. Petitioner asserts on brief that the fair and just amount representing normal earnings to be used as a constructive average base period net income is $ 33,220, or, in any event, not less than $ 26,552.48. The excess profits credit taken and allowed petitioner for each of the taxable years was computed under the invested capital method provided in section 714 in the amounts set out above.169 For petitioner to prevail in its claim for relief under section 722 (b) (1), 3 it is mandatory for petitioner to show that its normal production, output or operation was interrupted or diminished in the base period because of the occurrence, during or immediately67 prior thereto, of an event unusual and peculiar in the experience of the business. Petitioner contends that just such an event occurred when it undertook the large construction jobs in new and unfamiliar areas during the period from 1932 to 1935, as a result of which it incurred substantial losses and its credit and capital were impaired to the extent that it was unable during the base period to secure or undertake any contracts for large jobs. We are unable to agree.68 Petitioner's alleged inability to undertake the larger jobs during the base period, does not appear to have effected any substantial reduction in its physical volume of business. Moreover, the margin of profit realized upon the work undertaken was essentially the same as would have been realized upon larger projects.The Code section in question " * * is concerned primarily with physical rather than economic events or circumstances. * * " See S. Rept. No. 1631, 77th Cong., 2d sess. Such events include floods, fires, explosions, strikes, etc., but do not include " * * economic maladjustments * * ." Regulations 112, sec. 35.722-3 (a); S. Rept. No. 1631, supra; see, also, Matheson Co., 16 T.C. 478">16 T. C. 478. Petitioner agrees that the event, or chain of events, relied upon does not come within the realm of physical events or circumstances.Upon the basis of the evidence taken as a whole, we are of the opinion that petitioner has failed to show that it is entitled to the relief sought under section 722 (b) (1). Wherefore, its claims based thereon are denied.Petitioner's contention that it is qualified for relief under section 722 (b) (2)4 is predicated69 on the same grounds as were alleged 170 above. That is to say, petitioner's claim is that its capital and credit were temporarily so impaired, as a result of the substantial losses sustained on the large jobs undertaken by it from 1932 to 1935 in new and unfamiliar areas, that it was prevented from securing contracts for any large jobs in the base period. It is respondent's position that petitioner's business was not " * * depressed in the base period because of temporary economic circumstances * * " within the purview of the statute invoked.We feel respondent's70 position to be well taken. The alleged temporary and unusual economic depression of petitioner's business, that is here relied upon, was, in fact, self-imposed. Such depression was, in substance, primarily brought on by the managerial decision, internally determined, to undertake large construction jobs outside of petitioner's normal sphere of operations.In the Bulletin on Section 722 of the Internal Revenue Code, Part III, at page 16, issued by the Commissioner on November 2, 1944, the scope and intendment of section 722 (b) (2) and of the term "economic circumstances" used therein is explained as follows:The term "economic" includes any event or circumstance, general in its impact or externally caused with respect to a particular taxpayer, which has repercussions on the costs, expenses, selling prices, or volume of sales of either an individual taxpayer or an industry. Thus, not every event or circumstance which has an adverse effect on a taxpayer's profits may serve to qualify that taxpayer for relief under subsection (b) (2). First, the temporary and unusual character of the circumstance or event must be clearly established. Second, the cause of the temporary depression71 must be shown to be external to the taxpayer, in the sense that it was not brought about primarily by a managerial decision. A taxpayer cannot qualify for relief under subsection (b) (2) because its earnings were temporarily reduced in the base period in consequence of its own business policies, internally determined. * The foregoing provision which has heretofore been approved by this Court in Foskett & Bishop Co., 16 T. C. 456, and Toledo Stove & Range Co., 16 T. C. 1125, is applicable to the instant case, and alone would appear to dispose of petitioner's claims under section 722 (b) (2). The statute was not designed to counteract errors of business judgment or to underwrite unwise business policies.There exists, however, further reason for denial of the relief so sought. It is to be noted that petitioner's average net profits was actually greater in the base period than in the 18-year period, 1922 to 1939. In Foskett & Bishop Co., supra, where somewhat similar circumstances were involved, we said, in part: * * An examination of petitioner's earnings from 1922 through 1939, shows72 that for these years petitioner suffered an average net loss of $ 4,713.76, while for the base period years 1936 through 1939, petitioner showed an average profit of $ 704.45. It, therefore, seems that petitioner has not established its right to relief under section 722 (b) (2), for it would be ignoring the facts to 171 find that petitioner's business was depressed in the base period as compared to its earnings for the average long term period 1922 to 1939. Winter Paper Stock Co., 1312">14 T. C. 1312. Cf. Monarch Cap Screw & Manufacturing Co., 5 T.C. 1220">5 T. C. 1220.See, also, Industrial Yarn Corporation, 16 T. C. 681; Avey Drilling Machine Co., 16 T.C. 1281">16 T. C. 1281.We, therefore, hold that petitioner has not shown its business to have been depressed in the base period within the meaning of section 722 (b) (2).Petitioner next claims relief under section 722 (b) (4). 5 The substance of petitioner's claim is that prior to 1931 it had followed the policy of confining its business operations to the central coastal counties of California, an area with which its officers73 and employees were thoroughly acquainted. In 1931 the then owners of the majority stock control caused petitioner to abandon its former policy and go outside its normal area of operations to secure contracts. This expansion into new and unfamiliar areas resulted in substantial losses. Wilkinson and Scott, who had owned but one-third of petitioner's stock, acquired the remaining two-thirds thereof in 1936. Upon acquisition of control, these two men caused petitioner to revert to the policy of restricting its operations to the local area. Petitioner contends that the foregoing change in management and control constitutes a change in the character of its business from which an increase in profits directly resulted, and that its finances, personnel, and equipment were so affected by the disastrous policies of the preceding 5 years it was unable to reach full-scale, normal operations until the last year of the base period.74 Respondent has taken the position that petitioner did not change the character of its business during or immediately prior to the base period so as to qualify for relief under the statute relied upon.To be entitled to relief under section 722 (b) (4) as having changed the character of its business by a change in management, petitioner must show, first, that there was a change in its key-management of personnel or a change in its basic policy of operations by the existing management, and, second, that as a direct result thereof there were 172 increased earnings. " * * The mere fact that earnings for a period after the change are greater * * * than earnings for a period prior to the change is not conclusive as to whether or not there were increased earnings directly attributable to the change. * * ." See the Bulletin on Section 722 of the Internal Revenue Code, supra, wherein also appears the following, at p. 45:The type of qualifying change contemplated by the statute and the regulations is one which produces a marked, basic and lasting difference in the nature of the operations of the business and which results directly in a substantially higher level of normal earnings. 75 Accordingly, routine changes customarily made by businesses, changes temporary in character or changes which have no effect on the normal range of profits may not be considered to have produced a change in the character of the business within the intent and meaning of section 722 (b) (4).The foregoing appears consistent with Regulations 112, section 35.722-3 (d), in which it is stated:[Change in Character of Business]A change in the character of the business for the purposes of section 722 (b) (4) must be substantial in that the nature of the operations of the business affected by the change is regarded as being essentially different after the change from the nature of such operations prior to the change. No change which businesses in general are accustomed to make in the course of usual or routine operations shall be considered a change in the character of the business for the purposes of section 722 (b) (4). Trade custom and practice may be taken into account in determining whether an essential difference in the character of the business has occurred. A change in the character of the business, to be considered substantial, must be reflected in an increased level of earnings76 which is directly attributable to such change. * ** * * [Change in Operation or Management](1) A change in the operation or management of the business. The introduction of new or substantially different processes of manufacturing or of new or substantially different methods of distribution would constitute a change in the operation of a business; the hiring of new key managing personnel or the adoption of materially new basic management policies by the old management resulting in drastic changes from old policies would constitute a change in the operation or management of the business. However, ordinary technological improvements developed in the course of routine business operations or changes in operating or supervisory personnel normally experienced by business in general and having no effect upon basic business policies would not be considered a change in the operation or management of the business.We believe the above quoted excerpts, outlining general principles, are definitive of what constitutes a change of character of business through a change in operation or management as contemplated by the statute. See Wisconsin Farmer Co., 14 T. C. 1021.77 In the instant proceeding petitioner has argued in support of its claims under section 722 (b) (1) that the undertaking of contracts 173 outside of its normal field of operations was a temporary practice unusual and peculiar in its experience. On the other hand, in support of its section 722 (b) (4) claims, petitioner, in substance, now contends that its reversion from such abnormal policy to its normal policy of restricting operations to the local area, represents a substantial and permanent change in the character of its business, which change resulted in an increase in earnings. The inconsistency in petitioner's position is obvious. As a whole, the record made is entirely unconvincing, and in the aggregate fails to prove that there was a substantial and permanent change in the character of petitioner's business "immediately prior" to the base period years to which may be solely attributed the increase in profits realized in those years. For aught the evidence shows, portions of increased profits may very well have been, and in fact, probably were, due to other factors entirely unrelated to the shift in management control and the so called change in operating policy.In78 our opinion, petitioner has not shown itself to be entitled to the relief sought under section 722 (b) (4), and we so hold.There remains petitioner's contention that it is qualified for relief under section 722 (b) (5). 6 Such contention lacks merit inasmuch as it is based upon a combination of the factors heretofore separately considered and rejected as offering grounds for relief under section 722 (b) (1), (2), and (4). To grant the relief which petitioner here seeks, would manifestly violate the statutory prohibition that relief granted under section 722 (b) (5) be not "* * * inconsistent with the principles underlying the provisions of this subsection, and with the conditions and limitations enumerated therein." General Metalware Co., 17 T.C. 286">17 T. C. 286; Foskett & Bishop Co., supra; Roy Campbell, Wise & Wright, Inc., 15 T. C. 894; George Kemp Real Estate Co., 12 T. C. 943. Petitioner appears to agree with the above conclusion since it apparently abandoned the issue in its reply brief.79 Therefore, respondent did not err in his disallowance of petitioner's claims for relief under the provisions of section 722 (b) (5).Petitioner has failed to demonstrate that it qualifies for relief under section 722 (b) (1), (2), (4) or (5). Consequently, we need not discuss its reconstruction of base period income under those sections. Suffice it to say that petitioner has not shown that the amount advocated 174 as a fair and just amount representing normal earnings would result in a greater excess profits credit than that allowed and computed under the invested capital method. See D. L. Auld Co., 17 T.C. 1199">17 T. C. 1199.Decisions will be entered for the respondent. Footnotes1. SEC. 722. GENERAL RELIEF -- CONSTRUCTIVE AVERAGE BASE PERIOD NET INCOME.(a) General Rule. -- In any case in which the taxpayer establishes that the tax computed under this subchapter (without the benefit of this section) results in an excessive and discriminatory tax and establishes what would be a fair and just amount representing normal earnings to be used as a constructive average base period net income for the purposes of an excess profits tax based upon a comparison of normal earnings and earnings during an excess profits tax period, the tax shall be determined by using such constructive average base period net income in lieu of the average base period net income otherwise determined under this subchapter. In determining such constructive average base period net income, no regard shall be had to events or conditions affecting the taxpayer, the industry of which it is a member, or taxpayers generally occurring or existing after December 31, 1939, * * .↩2. While petitioner's claims for refund filed with the Commissioner and the pleadings herein contain claims based upon section 722 (b) (3)↩, such claims were withdrawn from controversy at the hearing.3. SEC. 722. GENERAL RELIEF -- CONSTRUCTIVE AVERAGE BASE PERIOD NET INCOME.(b) Taxpayers Using Average Earnings Method. -- The tax computed under this subchapter (without the benefit of this section) shall be considered to be excessive and discriminatory in the case of a taxpayer entitled to use the excess profits credit based on income pursuant to section 713, if its average base period net income is an inadequate standard of normal earnings because -- (1) in one or more taxable years in the base period normal production, output, or operation was interrupted or diminished because of the occurrence, either immediately prior to, or during the base period, of events unusual and peculiar in the experience of such taxpayer, * * ↩4. SEC. 722. GENERAL RELIEF -- CONSTRUCTIVE AVERAGE BASE PERIOD NET INCOME.(b) Taxpayers Using Average Earnings Method. -- * * (2) the business of the taxpayer was depressed in the base period because of temporary economic circumstances unusual in the case of such taxpayer or because of the fact that an industry of which such taxpayer was a member was depressed by reason of temporary economic events unusual in the case of such industry, * * ↩5. SEC. 722. GENERAL RELIEF -- CONSTRUCTIVE AVERAGE BASE PERIOD NET INCOME.(b) Taxpayers Using Average Earnings Method. -- * * (4) the taxpayer, either during or immediately prior to the base period, commenced business or changed the character of the business and the average base period net income does not reflect the normal operation for the entire base period of the business. If the business of the taxpayer did not reach, by the end of the base period, the earning level which it would have reached if the taxpayer had commenced business or made the change in the character of the business two years before it did so, it shall be deemed to have commenced the business or made the change at such earlier time. For the purposes of this subparagraph, the term "change in the character of the business" includes a change in the operation or management of the business, * ↩6. SEC. 722. GENERAL RELIEF -- CONSTRUCTIVE AVERAGE BASE PERIOD NET INCOME.(b) Taxpayers Using Average Earnings Method. -- * * *(5) of any other factor affecting the taxpayer's business which may reasonably be considered as resulting in an inadequate standard of normal earnings during the base period and the application of this section to the taxpayer would not be inconsistent with the principles underlying the provisions of this subsection, and with the conditions and limitations enumerated therein.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623913/	KARL KIEFER MACHINE CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Karl Kiefer Machine Co. v. CommissionerDocket No. 8396.United States Board of Tax Appeals6 B.T.A. 348; 1927 BTA LEXIS 3539; February 28, 1927, Promulgated 3539 1. The action of the Commissioner in including in invested capital for the taxable year 1920 certain patents paid in to petitioner in 1908 and subsequent thereto for stock to the extent of 25 per cent of the par value of the capital stock outstanding on March 3, 1917, is approved. 2. In 1908 a mixed aggregate of assets, in which were included certain patents, were paid in to petitioner for $192,000 par value of stock. In 1914 the capital stock was reduced to $70,000 par value and $122,000 was credited to surplus. Petitioner claims that the patents paid in for stock had an actual cash value of $75,000 at the time they were paid in and that, in the circumstances, that amount should have been included in invested capital for 1920 as paid-in surplus, instead of the amount of $17,500 allowed by the Commissioner on the basis of 25 per cent of the stock outstanding on March 3, 1917. In the absence of competent evidence showing that the patents had an actual cash value at the time paid in greater than the amount determined by the Commissioner, it is unnecessary to decide the issue raised. 3. In the absence of competent evidence showing the amount of income, invested capital, and3540 the total tax for the taxable year, the Board can not determine whether the computation of the petitioner's profits tax under the provision of section 301 of the Revenue Act of 1918 works upon the corporation an exceptional hardship. F. L. Ratterman, Esq., and John A. Baumann, C.P.A., for the petitioner. J. L. Deveney, Esq., for the respondent. LITTLETON349 The Commissioner determined a deficiency in income and profits tax of $4,730.18 for the calendar year 1920. Petitioner claims that the Commissioner erred in applying the 25 per cent limitation specified in section 326(a)(4) of the Revenue Act of 1918 in his determination of the amount to be included in invested capital for the taxable year on account of patents paid in for stock prior to March 3, 1917. In the alternative, petitioner claims that if the Commissioner's action in respect to its invested capital is approved, it is entitled to have its profits tax determined under the provisions of section 328 of the Revenue Act of 1918. FINDINGS OF FACT. Petitioner is an Ohio corporation organized on September 2, 1908, to engage in the manufacture and sale of bottling and canning3541 machinery, filters, pumps, and supplies, with principal office and place of business at Cincinnati. Prior to November 2, 1908, Karl Kiefer had obtained ten or twelve United States patents covering certain machines invented by him. When petitioner was organized a mixed aggregate of assets, among which were included the patents owned by Kiefer and such other patents as he might thereafter obtain, were paid in to it for $192,000 par value of stock. One-half of this stock was issued to Kiefer and the remainder to a limited number of persons. In November, 1914, petitioner's stockholders concluded that the large outstanding capital stock was disadvantageous from a credit stand-point, whereupon the capital stock was reduced to $70,000, par value, and the difference between this amount and $192,000 was credited to surplus. The par value of the capital stock has at all times since remained in the amount of $70,000. None of the assets originally paid in for stock or subsequently acquired by the corporation were, at the time the capital stock was reduced, or at any time subsequent thereto, withdrawn or distributed to the stockholders. 350 Subsequent to 1908, Kiefer obtained3542 and turned over to the corporation 65 additional patents. Petitioner was also using certain inventions for which Kiefer had made application for patents. Petitioner carried on its balance sheet, as an asset at January 1, 1920, patents at $75,000. Since incorporation the major portion of petitioner's income has been attributable to patents which it owned. In years prior to 1920 petitioner earned as much as 10 per cent on $192,000. In determining petitioner's statutory invested capital for the taxable year the Commissioner included therein patents at $17,500, representing 25 per cent of the par value of the total stock of the corporation outstanding on March 3, 1917, and at January 1, 1920. OPINION. LITTLETON: For the purpose of the excess-profits tax the Commissioner determined that the amount which petitioner was entitled to have included in its statutory invested capital for the taxable year on account of patents was $17,500. His action in this regard was strictly in accordance with the provisions of section 326(a)(4) of the Revenue Act of 1918. Petitioner contends, however, that it is not the purpose of the statute to so limit the amount by which income shall be3543 reduced on account of property invested in business in determining the amount of such income to be subjected to the excess-profits tax, when such property has not been withdrawn or distributed, merely because the par value of the capital stock of the corporation was reduced prior to March 3, 1917, and that, therefore, it is entitled to include in its invested capital for the calendar year 1920 the actual cash value in patents at the time paid in, and that the excess of the actual cash value of all property, including patents originally paid in, in excess of the par value of the stock as reduced, should be included in invested capital for the year 1920 as a paid-in surplus. It is not necessary to consider whether there is merit in petitioner's contention that it is entitled to a paid-in surplus in respect of the patents for the year 1920, inasmuch as no competent evidence was introduced indicating that the patents and the contract rights to additional patents obtained by Kiefer had any value at the time paid in for stock in excess of that determined by the Commissioner. In respect to petitioner's alternative claim that it is entitled to have its profits tax determined under the3544 provisions of section 328 of the Revenue Act of 1918, we have no competent evidence showing the petitioner's income, invested capital, or the total tax for the year or that there were any abnormal conditions affecting either the capital or the income during 1920. Judgment will be entered for the Commissioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623915/	HARRIET A. LANGDON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Langdon v. CommissionerDocket No. 9842.United States Board of Tax Appeals7 B.T.A. 1142; 1927 BTA LEXIS 3019; August 22, 1927, Promulgated 3019 Under the Revenue Act of 1921, where the March 1, 1913, value of vacant land is established by expert opinion evidence as in excess of the selling price, no taxable gain results. Earl J. Bennett, Esq., for the petitioner. J. L. Deveney, Esq., for the respondent. MURDOCK 1142 This is an appeal from a proposed deficiency in income taxes for the year 1921, in the sum of $468.42, and the sole issue presented is the amount of gain, if any, resulting from the sale of real estate acquired prior to March 1, 1913. FINDINGS OF FACT. The petitioner, Harriet A. Langdon, is a resident of the village of Rockville Center, N.Y., and some time during the year 1894, purchased for the sum of $4,000 a tract of land in Rockville Center. fronting 200 feet on the northerly side of Observer Street and extending 1143 in depth 200 feet to a railroad track. On the westerly portion of this tract of land there was erected a building used for the storage of coal, lumber, and wood, and on the rear of the property, facing the railroad a siding had been built. No further improvements were made and in 1921, the petitioner sold for $14,000 a portion of this3020 property, being the easterly 70 feet on Observer Street, of which 50 feet extended 200 feet in depth to the railroad and the remaining 20 feet on the northwesterly side had a depth of 170 feet. No buildings had been erected upon this portion at any time. In filing her income-tax return for the year 1921, petitioner set forth that the March 1, 1913, value of the portion so sold amounted to $14,000. The Commissioner upon investigation found the value as of March 1, 1913, to be $7,000 and therefore found the gain realized from the sale to amount to $7,000. The March 1, 1913, value of the portion of the petitioner's property sold in 1921 was in excess of $14,000. OPINION. MURDOCK: The only question which we need decide is that of the March 1, 1913, value of property of the petitioner purchased in 1894 for less than the sale price and sold in 1921 for $14,000. The petitioner now contends and introduces testimony to show that that value was an amount substantially in excess of $14,000 and that therefore no gain resulted from the sale. The testimony furnished at the hearing consisted of the depositions of two experienced real estate men of the village wherein the property*3021 was situated, both of whom stated that they were familiar with the petitioner's property and had given testimony in the year 1909, in certain condemnation proceedings, as to the value of this particular property in 1908. We have no reason to question their honesty and we have some evidence of their ability as judges of value and of their reasons for arriving at the values they gave. It is true that on cross-examination the respondent brought out that values had increased from 1913 to 1921, but we decline to draw from this fact the inferences desired by the respondent. The testimony of these experts must therefore be given at least sufficient weight to overcome the presumption of the correctness of the Commissioner's unexplained determination. Judgment will be entered on notice of 15 days, under Rule 50.Considered by STERNHAGEN and ARUNDELL.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623921/	WAY ENGINEERING COMPANY, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentWay Engineering Co. v. CommissionerDocket No. 8249-72United States Tax CourtT.C. Memo 1975-32; 1975 Tax Ct. Memo LEXIS 340; 34 T.C.M. (CCH) 210; T.C.M. (RIA) 750032; February 25, 1975, Filed Harold A. Chamberlain, for the petitioner. Robert H. Jones, for the respondent. HALL MEMORANDUM FINDINGS OF FACT AND OPINION HALL, Judge: Respondent determined a deficiency in petitioner's Federal income tax of $43,292 for the fiscal year ended September 30, 1970. The single issue is whether the salary and bonus paid by petitioner to its president in the fiscal year ended September 30, 1970 constituted reasonable compensation deductible as a business expense. FINDINGS OF FACT Some of the facts have been stipulated and are so found. Petitioner, Way Engineering Company, Inc. ("Way Engineering"), a Texas corporation, does air conditioning contract and design work in the State of Texas. Petitioner had its principal office in Houston, Texas, when it filed its petition herein. It filed its 1970 corporate341 income tax return with the district director of internal revenue in Austin, Texas. Way Engineering is the 96th largest air conditioning contract firm in the United States. The business was originally conducted by William Jefferson Way in the early 1900's. His son, L. C. Way ("L. C.") soon joined him. L. C.'s sons, Norman and W. J. ("Bill") Way, II, became active in the business in the 1930's. L. C., Norman and Bill incorporated the family business in 1958 and constituted the original board of directors. The corporation adopted a fiscal year ending September 30, and uses the completed contract method of accounting. L. C., Norman and Bill each owned one-third of Way Engineering's common stock and they drew equal salaries for the year ended September 30, 1959. Bill died in 1959 and was replaced on the Board of Directors by one Boone. On December 7, 1960, Elizabeth Way Waterman, Bill's widow, replaced Boone. In 1964 L. C. died, Norman became president and chief executive of Way Engineering, and Norman's sons (Peter and David) replaced L. C. and Elizabeth Way Waterman as directors. The board members remained the same until Norman, Peter and David Way were joined by Kristen Way Bradford342 on May 19, 1970. On May 19, 1970, Way Engineering redeemed 875 of its outstanding shares from Bill's widow and a trust for the benefit of Bill's children. As a result, Norman's ownership of petitioner increased from 42 percent to 71 percent. After May 19, 1970, Peter Way, Norman's son, owned the other 29 percent of petitioner. Petitioner prospered after its incorporation in 1958. Its annual gross sales were over 4 million dollars in 1964 and reached 5.5 million dollars by 1968 and 6.3 million in 1971. Taxable income, retained earnings and cash on hand continued to increase through 1970. 1 Norman's compensation also increased, reaching its peak in 1970. 2343 Respondent determined that Norman's total 1970 compensation of $158,649 (including petitioner's $2,754 profit sharing plan contribution for his account) was excessive and that reasonable compensation for that period was $70,000, plus the $2,754 profit sharing plan contribution. 3Norman Way has been employed by Way Engineering for 38 years. He received his B.S. in general engineering from Iowa State University, and is a professional engineer licensed by the State of Texas. As president and chief executive of Way Engineering, Norman's duties included final responsibility for selecting jobs to be performed by petitioner, insuring that work was adequately financed and assigning personnel to various jobs. He also designed air conditioning systems. Norman maintained daily contact with Way Engineering's employees. He lunched with employees four days a week. The344 remaining noontime he attended the weekly Mechanical Contractors Association's meeting. Norman worked an average of 51 hours per week. He did not work weekends or evenings, except Wednesday evenings when he conducted staff meetings. While Norman was president, Way Engineering's employees increased from 20 in 1964 to 120 in 1970. The corporation had two sources of work: public jobs, which were awarded as a result of competitive bidding; and negotiated jobs, which depended on personal contacts. The profit realized on negotiated jobs exceeded that realized from bid jobs. Petitioner increased its negotiated business from 10 to 15 percent of its total business in 1964 to approximately 50 percent in 1970. Norman's reputation and personal contacts, and Way Engineering's policy of retaining cash accumulations were primarily responsible for the increase in negotiated business. Way Engineering followed the industry practice of retaining sufficient cash on hand to insure bills would be discounted by paying them promptly. Norman was also involved in soliciting public jobs. In 1970 Way Engineering completed four air conditioning contracts with Houston schools which were awarded through competitive345 bidding. Two of those jobs, which were started in the previous fiscal year, returned sizable profits. Under the completed contract method of accounting, petitioner reported the income from those jobs in 1970. Norman was personally responsible for submitting the bids that secured those four jobs, and he provided on site supervision as work progressed. Norman's duties and responsibilities as president demanded an acute awareness of business conditions in his geographic area, in addition to the experience necessary successfully to operate the corporation. However, his duties and responsibilities did not increase substantially in 1970 over what they had been in 1969. At the time of incorporation in 1958, Way Engineering established a compensation policy for shareholder-officers, which coupled a base salary with a bonus payment. The bonus was based on net earnings after the payment of salaries to the shareholder-officers, but before the payment of Federal income taxes. 4 The same bonus arrangement remained in effect throughout the corporation's history, first compensating Norman, Bill and L. C. until Bill's death in 1959, then Norman and L. C. until L. C.'s death in 1964, and finally346 Norman through 1970. In 1970, Norman's son Peter, in his capacity as vice-president, received a $13,708 base salary and a bonus of $40,000. The only other bonuses for 1970 were $7,000 paid to the secretary-treasurer, who was not a family member, and $1,000 spread among other employees. Norman and Peter Way were petitioner's only shareholder-officers after May 19, 1970. Compensation paid solely to shareholder-officers in 1970 was in approximately the same proportion as their stock holdings after the redemption of others' shares by petitioner on May 19, 1970. However, the board resolution authorizing Norman's salary and bonus for fiscal 1970 was347 passed in December 1969 when Norman owned only 42 percent of the stock of petitioner. In 1970 petitioner loaned Norman $70,000 at 7 percent interest. Way Engineering paid no dividends prior to 1970; in 1970 it paid $4,900 in dividends. ULTIMATE FINDINGS OF FACT Reasonable compensation for Norman for petitioner's fiscal year ended September 30, 1970 was $120,000, plus petitioner's contribution for Norman to the profit sharing plan. OPINION Petitioner claims that the salary and bonus of $155,895 paid during its fiscal year ended September 30, 1970 to its president and major shareholder was reasonable compensation for the services he rendered during that and prior years, and that it is entitled to deduct that amount under section 162.5 Respondent contends that only $70,000 (plus a $2,754 profit sharing plan contribution) represents reasonable compensation for petitioner's president. Whether amounts paid to shareholder-employees of a closely held corporation constitute reasonable compensation is a question of fact, and the burden of proving the reasonableness of the compensation is on the taxpayer. ; .348 Because the recipient of the contested compensation was a major shareholder and chief executive officer of the corporation we have closely scrutinized the facts and circumstances. (Ct. Cl., 1961); , affirmed percuriam (C.A. 5, 1973).We note that the corporation's business increased dramatically after Norman became its president in 1964. Employees under his supervision jumped from 20 in 1964 to 120 in 1970. The percentage of the business consisting of negotiated bids (on which the corporation made a higher profit than on competitive bids) increased from 10 to 15 percent in 1964 to 50 percent in 1970. Petitioner personally secured several large school air conditioning jobs which were completed and paid during petitioner's fiscal year ended September 30, 1970. He personally approved all petitioner's bids, and petitioner's construction business was fairly risky. It appears to the Court that a good349 part of petitioner's prosperity is directly related to Norman's services and skills and it is appropriate that his compensation reflect that fact. Norman's compensation was based on a formula established by the corporation in 1958: he was paid a modest salary plus a bonus based on petitioner's net earnings after salaries but before Federal income taxes. This formula remained unchanged through the years in issue. See ; cf. , on appeal (C.A. 10, May 16, 1974). The application of the formula for the fiscal year ended September 30, 1970 was approved by the board of directors in December 1969, at which time Norman held only 42 percent of the stock of petitioner. However, after May 19, 1970, Norman owned 71 percent of the stock, and the formula produced compensation to him for the fiscal year ended September 30, 1970 roughly proportional to his stockholding. Originally the formula had resulted in compensating the officer-shareholders in precise proportion to their stockholdings. We are not unmindful that it has long been recognized that contingent compensation350 may properly be higher than fixed and certain compensation. (C.A. 5, 1948), affirming a Memorandum Opinion of this Court. To be deductible as compensation, however, the payments made by petitioner to Norman must be for services rendered and not be a distribution with respect to his stock. . Here, the compensation paid Norman and Peter just about equaled petitioner's taxable income after subtracting their compensation. It represents, therefore, a very large inroad into petitioner's profits. We note that Norman appears to have been adequately compensated for all prior years' services. Petitioner presented the testimony of Norman and Peter Way. While they were not impartial witnesses, they were uncontradicted and not unworthy of belief. No reliable evidence of compensation paid by comparable companies was presented by either party, but such evidence is only one factor to consider along with all other facts and circumstances. . While we recognize351 that petitioner paid no dividends prior to 1970, we also recognize that it needed cash to expand, to represent itself as a reliable, stable and safe contractor for bidding purposes, and to take advantage of cash discounts on purchases. Petitioner's reluctance to pay dividends, however, was not matched by reluctance to pay Norman a salary which under all the circumstances appears to us to have included an element of disguised dividends, over and above reasonable compensation, though not an element as large as that claimed by respondent. Under all the circumstances, and having carefully considered all the above factors and the entire record, and using our best judgment, we hold that petitioner is entitled to deduct $120,000 of the compensation it paid to Norman for its fiscal year ended September 30, 1970, plus the $2,754 profit sharing plan contribution made for his account. Decision will be entered under Rule 155.Footnotes1. This chart reflects a limited financial history of petitioner. YearGross SalesTaxableRetained Ended 9/30in DollarsIncomeEarningsCash on Hand1964$ 4,307,968$ The record does not provide any information on these figures.↩$ 61,309$ 32,56119654,343,917104,560155,20619665,117,95977,817151,794166,26519674,193,77487,509204,265196,25 219685,505,261107,970264,791280,60719695,087,044112,828326,184339,08419704,976,853208,507431,484535,58319716,335,57162,236502,863549,2762. ↩ YearNorman'sNorman'sNorman's Total Ended 9/30SalaryBonusCompensation1967$ 24,200$ 33,397$ 57,597196829,03050,36379,393196926,95868,31095,268197026,570129,325155,8951971*91,2333. Respondent conceded that petitioner's profit sharing plan contribution of $2,754 is deductible by Way Engineering regardless of a redetermination of Norman Way's salary. The record does not reflect how contributions for each officer were computed.↩4. In 1958 the formula provided that L. C., Norman and Bill would be paid bonuses as additional compensation, based on net earnings of the corporation after payment of their salaries but before Federal income taxes. Each bonus equalled one-third of the sum computed as follows: On net earnings up to $50,000, an amount equal to 25 percent of such net earnings; on net earnings of $50,000 to $100,000, an amount equal to 30 percent of such net earnings; and on net earnings over $100,000, an amount equal to 35 percent of such net earnings.↩5. All section references are to the Internal Revenue Code of 1954, as in effect during the year in issue.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623922/	VIRGINIA BOYLE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentBoyle v. CommissionerDocket No. 1838-92United States Tax CourtT.C. Memo 1994-438; 1994 Tax Ct. Memo LEXIS 446; 68 T.C.M. (CCH) 633; August 29, 1994, Filed 446 Decision will be entered under Rule 155. For petitioner: Leonard S. RothFor respondent: Andrew M. Tiktin. FAYFAYMEMORANDUM OPINION FAY, Judge: Respondent determined deficiencies in income tax, with additions to tax and increased interest, due from petitioner for the 1980, 1981, and 1982 taxable years as follows: IncreasedInterestAdditions to TaxSec.Sec.Sec.Sec.Sec.YearDeficiency6621(c) 6653(a) 6653(a)(1)6653(a)(2)66611980$ 43,2421$ 2,162.10-- --$ 10,810.50198144,8001-- $ 2,240211,200.001982139---- -- ---- 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, unless otherwise indicated. After concessions by the parties, 1 the sole issue 2448 for decision is whether petitioner is entitled to innocent spouse relief pursuant to section 6013(e) for the 1980 and 1981 taxable years. 3 We find that petitioner is447 entitled to innocent spouse relief for both years at issue. Some of the facts have been stipulated and are so found. The stipulation of facts, with the exhibits attached thereto, and the stipulation of settled issues are incorporated herein by this reference. Factual BackgroundAt the time the petition herein was filed, petitioner resided in Houston, Texas. Petitioner and her former husband, Frank G. Boyle (Mr. Boyle), married in August 1966 and were married for almost 21 years until their divorce in June 1987. Petitioner and Mr. Boyle separated and lived in separate homes from 1982 until their divorce. Joint tax returns were filed by petitioner and Mr. Boyle for the taxable years 1966 through 1986. Petitioner was employed in the banking business from 1964 through 1979. In January 1979 petitioner retired from banking because she and Mr. Boyle were going to attempt to have or adopt a child. Because of a strained marital relationship at 449 that time, however, petitioner and Mr. Boyle abandoned this plan. Petitioner began working part-time in July 1980 and accepted a full-time position as a lending officer for Capital National Bank (Capital Bank) in September 1980. 4 Petitioner was employed by Capital Bank throughout the period here at issue. Mr. Boyle graduated from Texas A & M University in 1961 with a bachelor's degree in agricultural economics. Mr. Boyle was a successful businessman throughout the period at issue, owning and operating his own home construction company, International Homes, Inc., and managing a diverse portfolio of investments during 1980 and 1981. Other than a brief stint working for International Homes, petitioner had no involvement in Mr. Boyle's business dealings, or his financial affairs. For the first 3 months that petitioner was married to Mr. Boyle, a joint checking account was maintained. Thereafter for the next 21 450 years, petitioner and Mr. Boyle kept their financial accounts and bank records completely independent of each other. In fact, every aspect of petitioner's and Mr. Boyle's financial lives was strictly segregated during their entire marriage, to wit: neither spouse had signatory authority over the other spouse's individual accounts; the salary income of each spouse was deposited into the account of the spouse who earned the income, with absolutely no intermingling of funds; each spouse was responsible for his or her own financial obligations; and household expenses were strictly divided up; for example, petitioner purchased groceries and paid utilities, whereas Mr. Boyle paid the mortgage, property taxes, and hazard insurance. During the course of their marriage, there existed only two joint investments involving petitioner and Mr. Boyle. 5451 Petitioner was, and is, a very conservative investor, placing her own money solely in savings accounts, certificates of deposit, and low risk stock. The joint Federal income tax return filed by the Boyles for the 1980 taxable year reflected a deduction 6 for $ 77,164 relating to an investment in Conveyor Products, Ltd. (Conveyor). Despite the Conveyor deduction, after adjustment for other various items and deductions, the Boyles' 1980 return reflected adjusted gross income of $ 103,628 on line 31. The joint return filed by the Boyles for the 1981 taxable year reflected a deduction 7 for $ 79,628 relating to an investment in JRK, Ltd. (JRK). Despite the JRK 8 deduction, after adjustments for other income items and deductions, the Boyles' 1981 return reflected adjusted gross income 452 of $ 81,015 on line 31. The 1980 and 1981 returns are lengthy documents, and are unusually complex individual returns that report many income and loss items involving partnerships, rental properties, and other investments. The funds for the initial investment in both Conveyor and JRK came from Mr. Boyle's personal bank account after Mr. Boyle was introduced to these investments by Mr. Kaps. Mr. Boyle solely executed all documents with respect to both Conveyor and JRK. Despite the conflicting testimony 9 concerning whether or not petitioner had knowledge of the Conveyor and JRK 10 investments, we find, in light of the record taken as a whole that petitioner did not know that these investments453 existed prior to 1984, the year in which petitioner executed the consent form to extend the statute of limitations. 454 From 1966 through 1980, Mr. Boyle and petitioner utilized a particular procedure each year for the preparation and filing of their joint Federal income tax returns. 11 Other than collecting and providing her tax information and making a perfunctory review of the return after its preparation, petitioner played no role in the preparation of the couple's returns, the returns being prepared instead by Mr. Kaps, the accountant. The above-mentioned return preparation procedure was followed with respect to the Boyles' 1980 return. Petitioner made a cursory review of the 1980 return prior to affixing her signature to it in April 1981. Petitioner noticed that the return was "a very thick, very complex, very complicated one"; however, she also noticed that Mr. Boyle and the accountant, Mr. Kaps, had already signed the return. With respect to the 1981 return, Mr. Boyle, some time in early 1982, delivered the pertinent tax information to his455 C.P.A., Mr. Kaps. After Mr. Kaps had prepared the Boyles' 1981 return, he caused it to be delivered, ready for filing, to Mr. Boyle. In April 1982, however, petitioner's absence from town caused the latter part of the process to break down. In early April 1982, before the 1981 return had been completed and delivered by Mr. Kaps to Mr. Boyle, petitioner was forced to leave town and travel to Wichita Falls, Texas, to attend to a sick parent. Petitioner was still absent on April 14 and, therefore, unable to personally read over and execute the 1981 return. Mr. Boyle affixed his signature to the 1981 return on April 14, 1982. During the evening of April 14, 1982, Mr. Boyle called petitioner at her parents' home in Wichita Falls and informed her that he was in possession of their completed 1981 return, and that, because a request for an extension had not been filed, the 1981 return needed to be executed by her and mailed. Petitioner made it clear to Mr. Boyle that she wanted to review the return, as she had done with respect to each of their returns for the prior 15 years, and that it was not possible for her to fly home in order to review and execute the return. Mr. Boyle, however, 456 refused to file an extension on petitioner's behalf, and reasserted that the 1981 return needed to be executed and submitted. Finally, after (1) being pressured by Mr. Boyle, (2) recalling that nothing significant had happened during the year, (3) being told by Mr. Boyle that Mr. Boyle and Mr. Kaps had already executed the return, (4) being distressed over her father's illness, and (5) believing that Mr. Boyle would have signed petitioner's name even without her consent, petitioner reluctantly authorized Mr. Boyle to execute and submit the 1981 return on her behalf. Mr. Boyle did not discuss the JRK deduction with petitioner during their phone conversation nor did he disclose the amount of the expected 1981 refund. On April 15, 1982, after the 1981 return was signed 12 on behalf of petitioner, it was then mailed to the proper I.R.S. Service Center. The457 joint returns filed by the Boyles in 1980 and 1981 claimed refunds in the amounts of $ 16,111 and $ 61,227, respectively. These refund checks were negotiated and cashed by Mr. Boyle. Petitioner did not authorize anyone to endorse her name to the 1980 or 1981 refund checks. Petitioner did not receive any amount of these refunds, nor did she receive or endorse the checks pertaining to these refunds. Mr. Boyle crossed out the Boyles' home address on the 1981 return and substituted his business address so that he would be the sole recipient of the 1981 refund check. Although petitioner and Mr. Boyle separated in 1982, they continued to file joint returns for all taxable years from 1982 through 1986 until they were divorced in 1987. The refund checks relating to these returns, however, were sent to Mr. Boyle's business address, and Mr. Boyle did not share the refunded amounts with petitioner. Instead, these amounts totaling $ 115,620, excluding any amounts received for the 1985 return, 13 were deposited directly into Mr. Boyle's separate account, over which petitioner did not have any signatory authority. 458 Petitioner initiated divorce proceedings in 1986, which were later withdrawn, and then reinitiated in 1987, in which year the divorce was finalized. The record reflects that, although Mr. Boyle prepared a list of assets to be divided between himself and petitioner as a result of the marriage, Mr. Boyle failed to list all the marital assets, and, in so doing, acted in a misleading manner. During the period between the time when petitioner initiated the first divorce proceeding in 1986 and the second proceeding in 1987, Mr. Boyle knowingly depleted certain assets thereby reducing the property settlement to which petitioner would otherwise have been entitled. DiscussionAs a preliminary matter, we note that the outcome of this case turned mainly on the credibility and demeanor of the witnesses at trial. As mentioned above, the Court did not find Mr. Boyle nor respondent's two other witnesses, both close friends of Mr. Boyle, to be entirely believable, whereas petitioner and her witnesses testified in a reasonable, credible, and consistent manner. Petitioner argues that she is entitled to innocent spouse relief pursuant to section 6013(e). Respondent argues that petitioner459 is not entitled to innocent spouse relief for the years in issue. We agree with petitioner. Section 6013(e), provides: (1) In General. Under regulations prescribed by the Secretary, if -- (A) a joint return has been made under this section for a taxable year, (B) on such return there is a substantial understatement of tax attributable to grossly erroneous items of one spouse, (C) the other spouse establishes that in signing the return he or she did not know, and had no reason to know, that there was such substantial understatement, and (D) taking into account all the facts and circumstances, it is inequitable to hold the other spouse liable for the deficiency in tax for such taxable year attributable to such substantial understatement, then the other spouse shall be relieved of liability for tax (including interest, penalties, and other amounts) for such taxable year to the extent such liability is attributable to such substantial understatement.All of the statutory requirements must be met for the taxpayer to be afforded relief. 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).460 The burden of proof is on petitioner to prove that she satisfies each of the requirements of section 6013(e)(1). Rule 142(a); Bokum v. Commissioner, 94 T.C. 126">94 T.C. 126 (1990), affd. 992 F.2d 1132">992 F.2d 1132 (11th Cir. 1993). The first requirement petitioner must meet is that she filed joint returns for the years in issue. As mentioned above, petitioner filed joint returns with Mr. Boyle; consequently, petitioner meets this requirement. The second requirement is that there be a substantial understatement of tax attributable to grossly erroneous items of Mr. Boyle. The parties agree that this requirement has been met. 14The two remaining requirements, then, are (1) whether petitioner knew or had reason to know of the substantial understatements, and (2) whether it would be inequitable to hold petitioner liable for the deficiency 461 attributable to the substantial understatements. The Court concludes that, with respect to the 1980 and 1981 taxable years, petitioner did not know or have reason to know that there was a substantial understatement of tax, nor did petitioner benefit (beyond normal support) from the substantial understatements, and it would be inequitable to hold petitioner liable for the deficiencies in tax attributable to such substantial understatements. Consequently, petitioner qualifies for innocent spouse relief for the 1980 and 1981 taxable years. A. Knowledge of the Substantial UnderstatementsPetitioner must demonstrate that, in signing the returns for the years in issue, she did not know, and had no reason to know, of the substantial understatements attributable to her husband's investments. Sec. 6013(e)(1)(C). The knowledge contemplated by section 6013(e)(1)(C) is knowledge of the underlying transaction, not knowledge of the tax consequences of the transaction. Purcell v. Commissioner, supra at 473-474; Quinn v. Commissioner, 524 F.2d 617">524 F.2d 617, 626 (7th Cir. 1975), affg. 62 T.C. 223">62 T.C. 223 (1974);462 Bokum v. Commissioner, supra at 145-146. The transactions at issue are the Conveyor and JRK investments. 1. Knowledge of the UnderstatementPetitioner testified that she did not know about the investments at issue. Respondent argues that the petitioner knew about the investments at issue and that petitioner's testimony is not believable. We disagree. Petitioner's testimony was reasonable, credible, and consistent. Furthermore, as stated above, we did not find respondent's witnesses believable. 15After consideration of the entire record, we find that463 petitioner did not know of the Conveyor or JRK investments. Therefore, we conclude that petitioner did not know of the substantial understatement of tax on the 1980 and 1981 returns. 2. Reason to Know of the UnderstatementWe next decide whether petitioner had reason to know of the substantial understatement of tax for each year. The Court of Appeals for the Fifth Circuit, in a recent decision, wherein the standards as applied by the Tax Court and the Ninth Circuit in Bokum v. Commissioner, supra, and Price v. Commissioner, 887 F.2d 959">887 F.2d 959 (9th Cir. 1989), revg. an Oral Opinion of this Court, respectively, were discussed, stated: Moreover, the general standard of inquiry in either approach is that which we stated in Sanders [v. United States], 509 F.2d [162] at 167 [(5th Cir. 1975)]: a spouse has "reason to know" of the substantial understatement if, at the time the tax return was signed, a reasonably prudent taxpayer in his or her position could be expected to know that the stated tax liability was erroneous or that further investigation was warranted. [Citations omitted.]464 Park v. Commissioner, 25 F.3d 1289">25 F.3d 1289, 1298 (5th Cir. 1994), affg. T.C. Memo 1993-252">T.C. Memo. 1993-252. Significant factors in this decision are the taxpayer's intelligence, the taxpayer's level of involvement in the financial transactions which gave rise to the deductions, the "guilty" spouse's openness concerning these transactions, and the presence of lavish or unusual expenditures compared to the taxpayer's past standard of living. Price v. Commissioner, supra at 965; Sanders v. United States, 509 F.2d 162">509 F.2d 162, 167 (5th Cir. 1975). Respondent, in essence, argues, inter alia, that the size of the deductions here involved, $ 77,164 and $ 79,628 for 1980 and 1981, respectively, was large enough to put petitioner on notice and cause her to question such deductions. We disagree and find that petitioner lacked reason to know of the understatements. Petitioner has a high school education. Petitioner did not attend college. Although the record reflects that petitioner held a job with a banking institution during the years at issue, petitioner was not required to have any tax, 465 bookkeeping, or accounting experience for purposes of her position at Capital Bank. At trial, petitioner's supervisor testified that petitioner was not required or trained to give tax advice and might have been fired if she had done so. Moreover, petitioner had no knowledge of Mr. Boyle's investments at issue here, and, as stated above, petitioner and Mr. Boyle led very separate financial lives, petitioner's sole involvement in the couple's financial affairs being limited to paying certain household expenses for which she provided the funds. While petitioner was the recipient of several gifts from Mr. Boyle during the years at issue, these gifts certainly were not extraordinary as compared with the taxable income reported on the 1980 and 1981 returns. Rather, petitioner and Mr. Boyle maintained a standard of living commensurate with their reported taxable income and did not live a lavish or extraordinary lifestyle. Furthermore, after consideration of the entire record, we believe that an obligation to inquire did not arise in this case because (1) the specific deductions involved herein, while included in a larger deduction 16 on the first page of each return, were hidden in466 the recesses of their respective returns; (2) the returns in question were lengthy and complex, 17 and, as such, it would require some expertise in tax preparation to make sense of the information being reported; and (3) petitioner was aware that Mr. Kaps, the accountant, signed the 1980 and 1981 returns (thus indicating that the accountant was standing behind his preparation of the returns) prior to her execution of the 1980 return and prior to her authorizing Mr. Boyle to execute the 1981 return on her behalf. Chucas v. Commissioner, T.C. Memo 1993-147">T.C. Memo. 1993-147. Additionally, Mr. Boyle had already executed the returns, and petitioner respected Mr. Boyle's business acumen.467 B. Equity of Holding Petitioner LiableLastly, we consider, under all of the facts and circumstances of this case, whether it would be inequitable to hold petitioner liable for the deficiency in tax for the years at issue. Sec. 6013(e)(1)(D). In deciding whether it is inequitable to hold a spouse liable for a deficiency, whether the spouse in fact had received substantial benefits, directly or indirectly, from the understatement of tax is taken into account. Purcell v. Commissioner, 86 T.C. 228 (1986), affd. 826 F.2d 470">826 F.2d 470 (6th Cir. 1987). We note that such benefit may be found from transfers of property in later years but not to the extent that funds or property transferred constitute reasonable support. Terzian v. Commissioner, 72 T.C. 1164">72 T.C. 1164, 1172 (1979). Petitioner did not receive any of the proceeds of the 1980 and 1981 tax refunds, which were received and misappropriated by Mr. Boyle. We have carefully considered the record herein, including the property petitioner received in the property settlement, payments made to or on behalf of petitioner after her separation from Mr. Boyle, *468 and petitioner's standard of living while married to Mr. Boyle, and, under all the facts and circumstances of this case, we conclude that it would be inequitable to hold petitioner liable for the underpayment of tax for the years 1980 and 1981. As to those years, petitioner was an innocent spouse. To reflect the foregoing, Decision will be entered under Rule 155. Footnotes1. Interest payable due to substantial underpayment attributable to tax motivated transactions.↩2. 50 percent of the interest due on the deficiency.↩1. Respondent and petitioner have agreed that, in the event petitioner is not entitled to innocent spouse relief pursuant to sec. 6013(e), and, as to 1981, is found to have filed a joint return with Frank G. Boyle (Mr. Boyle), see infra↩ note 2, petitioner will be liable for income tax deficiencies for the 1980 and 1981 taxable years in the amounts of $ 23,784 and $ 35,952.67, respectively. These amounts are based on respondent's determination that the deductions taken with respect to certain tax shelters, $ 77,164 relating to Mr. Boyle's investment in Conveyor Products, Ltd., in 1980 and $ 79,628 relating to Mr. Boyle's investment in JRK, Ltd., in 1981, should be disallowed.2. The following was contained in the parties' stipulation: 80. Petitioner and Gordon [petitioner's husband, Mr. Boyle] filed a joint tax return for the taxable year 1981. However, if this Court determines in Frank G. Boyle v. Commissioner, Docket No. 1837-92, that Gordon and Virginia Boyle did not file a joint return for the taxable year 1981, then the petitioner and respondent do not stipulate that a joint tax return was filed for the taxable year 1981.In Boyle v. Commissioner, T.C. Memo. 1994-294↩, we found that a joint return was filed by Mr. Boyle and petitioner herein.3. The parties have stipulated that petitioner is not entitled to innocent spouse relief for the 1982 taxable year based on petitioner's failure to meet the percentage income requirement of sec. 6013(e)(4)↩.4. Petitioner was hired as the vice president and manager of the facility located at Two Allen Center.↩5. The first of these investments was a joint purchase of Allied Bancshares stock in 1968, and the second was a 1981 "couples" investment in a California winery named Wild Bunch Vineyards. Reference to these two investments, however, is only relevant, we find, to illustrate that the Boyles' financial lives were otherwise absolutely separate from each other. The facts surrounding this observation are illustrative: the Allied Bank investment was made 2 years into the marriage, and a joint investment did not occur again throughout the course of the marriage until the Wild Bunch Vineyards investment. The Wild Bunch Vineyards investment was a "couples" only investment opportunity, and we find that Mr. Boyle would not have included petitioner had this not been the case; furthermore, petitioner did not attend any informational meetings for this investment and instead was forced initially to rely on Mr. Boyle for information, the extent of her involvement being to sign a promissory note proffered to her by Mr. Boyle. Additionally, the funds used for this investment came solely from Mr. Boyle's personal bank account.↩6. The deduction for the Conveyor Products, Ltd., investment, while included in a larger deduction on page 1, line 18, of the Boyles' 1980 Federal income tax return, was specifically set forth on the 25th page of a 32-page return.↩7. The deduction for JRK, while included as part of a larger deduction on page 1, line 17, of the Boyles' 1981 return, was specifically set forth on the 34th page of a 43-page return.↩8. The initials "JRK" stand for Jess R. Kaps (Mr. Kaps), Mr. Boyle's personal investment adviser and accountant during the years here at issue.↩9. The record is replete with instances from the commencement of this case, of Mr. Boyle and his counsel refusing to cooperate with petitioner during her attempt to assemble and present her case. At trial, Mr. Boyle and respondent's two other witnesses, who happen to be close friends of Mr. Boyle, lacked credibility. Under cross-examination, these witnesses became hesitant and less certain about the specifics of their direct testimony. Therefore, we choose not to believe respondent's witnesses' inexact and incredible testimony.↩10. While petitioner was aware Mr. Boyle took a trip to Colorado in 1981 to look at a gold mine, prior to his departure she had expressed disapproval of any such investment. We find that it was Mr. Boyle's tendency to keep his financial matters separate from petitioner, coupled with petitioner's expression of disapproval, that caused Mr. Boyle to hide his investment in the gold mine from petitioner. Furthermore, respondent asserts that a piece of fool's gold that Mr. Boyle brought back from this trip for petitioner, and which petitioner has to this day, should allow us to impute knowledge of this investment to petitioner. We refuse, in this instance, to find that an innocent souvenir from one spouse to another is sufficient to constitute actual or constructive knowledge of an investment that the recipient spouse did not otherwise know about.↩11. See Boyle v. Commissioner, T.C. Memo. 1994-294↩.12. See Boyle v. Commissioner, T.C. Memo. 1994-294↩, for the events leading up to and surrounding the execution of the 1981 return.13. The record was unclear as to whether a refund was received at all in 1985.↩14. The parties agree also that petitioner meets the statutory income requirements as specified by sec. 6013(e)(4)↩ for the years in question.15. See Sturm v. Commissioner, T.C. Memo. 1993-172↩, wherein the Court afforded taxpayer-wife innocent spouse relief finding, inter alia, that taxpayer did not have actual knowledge of husband's investments, despite husband's and tax shelter promoter's testimony that taxpayer was privy to the investment, because the testimony of the husband and the promoter to that effect was not credible.16. Numerous unchallenged deductions were claimed on the returns, including depreciation and depletion items, together with investment tax credits.↩17. Mr. Boyle was involved in no less than 13 individual investments in 1980 and 19 investments in 1981. These included, inter alia, bank deposits, stock, rental properties, and partnerships, the majority of which were not challenged by respondent.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4623923/	Consolidated Freightways, Inc. & Affiliates, Petitioner v. Commissioner of Internal Revenue, RespondentConsolidated Freightways, Inc. & Affiliates v. CommissionerDocket No. 8066-76United States Tax Court74 T.C. 768; 1980 U.S. Tax Ct. LEXIS 97; July 22, 1980, Filed 97 Decision will be entered under Rule 155. Petitioner, through its various subsidiaries, is engaged in the transportation by truck of general commodities freight. As part of this business, petitioner invested in truck dock facilities. Petitioner also made deposits of security with a surety company under a contract whereby the surety agreed to file surety bonds with the various jurisdictions in which petitioner operates. These bonds were necessary so that petitioner could meet the financial responsibility requirements for operating in the various jurisdictions. Petitioner claimed an investment tax credit for the docking facilities and deducted its deposits of security with the surety under sec. 461(f), I.R.C. 1954. Held, the docking facilities are buildings and therefore fail to qualify for the investment tax credit. Held, further, various lighting fixtures, truck bay doors, and fences qualify for the credit. Held, further, the deposits with the surety are not deductible as money transferred to provide for the satisfaction of a contested liability under sec. 461(f). James E. Merritt, for the petitioner.Bryce A. Kranzthor, for the respondent. Sterrett, Judge. STERRETT768 By letter dated June 2, 1976, respondent determined deficiencies in income taxes due from petitioner 1 for the following taxable years and amounts: 769 TYE Dec. 31 --Deficiency1966$ 84,3951967152,6641968181,4281969493,076197041,661Total953,224After concessions, the primary issues for our decision are (1) whether petitioner's investments in100 certain truck docks qualify for the investment credit, and (2) whether petitioner's payments to a surety are deductible within the meaning of section 461(f).101 FINDINGS OF FACTSome of the facts were stipulated and are so found. The stipulation of facts, and first, third, fourth, and fifth supplemental stipulations of facts, and the exhibits attached thereto, are incorporated herein by this reference. 2Petitioner timely filed its accrual basis consolidated Federal income tax returns for the taxable years in issue with either the 770 District Director of Internal Revenue, San Francisco, Calif., or the Director, Internal Revenue Service Center, Ogden, Utah.On April 23, 1979, petitioner filed a motion for leave to amend petition to state two additional issues: (1) That respondent is estopped to deny that petitioner's terminal facilities qualify under section 38, and (2) that petitioner is entitled to an award of attorney's fees under 42 U.S.C. sec. 1988. Also, on April 23, 1979, petitioner filed a motion to sever and for a separate hearing wherein it moved 102 to sever the attorney's-fees issue pending the outcome of the main case. Petitioner's motion for leave to file an amendment to its petition was granted on April 25, 1979. On that same date, petitioner's amendment to petition was filed. Petitioner's motion to sever was granted by order of the Court dated April 30, 1979.Petitioner is a corporation duly organized and existing under and by virtue of the laws of the State of Delaware, with its principal place of business in San Francisco, Calif. Based on either the total amount of gross revenue or the number of route miles operated, petitioner, principally due to the operations of its subsidiary Consolidated Freightways Corp. of Delaware (CFCD), was one of the five largest motor common carriers of freight in the United States in each of the years 1966 through 1970. CFCD, the subsidiary corporation principally involved in this case, was at all times pertinent hereto a motor common carrier engaged in the transportation of general commodities freight. CFCD is a Delaware corporation. Either CFCD or its predecessors have been continuously engaged in the motor common carriage of freight since 1929.Petitioner is, and was at all times 103 relevant hereto, engaged in the common carriage of freight in 45 of the 48 contiguous States, Alaska, Canada, and the District of Columbia. Petitioner operated pursuant to licenses issued by the Interstate Commerce Commission (ICC) and appropriate State or local agencies. During the years 1966 through 1970 petitioner, principally through CFCD, operated between 159 million and 253 million route miles per year. Petitioner's gross revenues from the motor carriage of freight was $ 177,920,669 in 1966; $ 198,279,321 in 1967; $ 241,534,633 in 1968; $ 274,789,197 in 1969; and $ 261,444,920 in 1970. During each of the years 1966 through 1970, petitioner employed from 4,612 to 6,672 linehaul and local services drivers.CFCD is principally a carrier of general commodities, as 771 opposed to a bulk carrier of special products. A bulk carrier of special products normally is involved in transportation of one material or one type of material requiring specially designed equipment particularly suited to the requirements of transporting that material in bulk. Examples would be oil and gasoline carriers and lumber carriers. A carrier of general commodities is involved in transportation104 of a wide variety of commodities. "General commodities" consist of more than 200,000 different categories of goods which can be shipped in a standard trailer.During the period from 1966 through 1970, inclusive, CFCD owned or operated approximately 145 trucking terminals or other facilities through which a customer could engage the services of CFCD to pick up general commodities freight for shipment. During the period from 1966 to 1970, inclusive, CFCD operated a fleet of equipment including from 7,852 to 13,371 tractors (the motorized unit of tractor-trailer combinations) and trailers.The transportation services furnished by petitioner during all periods relevant to this case involved the pickup of general commodities freight from a customer, carriage by a motor carrier unit consisting of a tractor and one or more trailers, and delivery to the recipient designated by the customer. The operations generally involved in such a shipment are local pickups of the freight shipments from customers, transfer from the local unit at an origination terminal, shipment on a linehaul unit to the dock facilities at a destinational terminal, transfer to a local delivery unit, and delivery by 105 a local delivery unit to the designated recipient.In many instances, a single linehaul trailer will not carry the freight from origination to destination terminal facilities without an intermediate transfer or reshipment. To make such a transfer, the linehaul unit will deliver the freight to one of several terminal facilities which provide break bulk operations (also referred to as "reship" operations). In break bulk operations, freight shipments to be delivered to various destinations will be unloaded at the break bulk terminal, and shipments for each destination will be consolidated with shipments from other trailers for the same destination and loaded into other linehaul trailer units which will carry the shipments to the destination terminals or to another break bulk terminal. Occasionally, a shipment may be involved in break bulk operations at more than 772 one interim terminal facility. In instances in which the contents of an entire trailer constitute a shipment to one consignee, delivery will be made by the linehaul unit without the use of the dock facilities at the destination terminal. Break bulk services are provided only at certain terminal facilities, and are106 separately recorded by the terminal facility. Break bulk services do not require the use of local pickup and delivery personnel or equipment. However, most of petitioner's break bulk terminals also provide inbound, outbound, and local delivery services from a portion of the same dock facility used for the break bulk operations.Petitioner also provided local pickup and delivery services. Local units are often smaller than linehaul units to allow easier access to city streets. Local pickup and delivery drivers operate along regular routes generally organized by reference to the ZIP codes or commercial zones. The routes and sequence of deliveries, pickups, and loadings are planned in offices located at the terminal facilities. At the customer's designated point for pickup of the freight shipment, the driver will place the shipment in the trailer unit. Shipments may be picked up at the customers' docks at the same level as the trailer. In other situations, shipments are picked up from ground level and placed into the trailer. Some of the local pickup units are equipped with automatic lifts to assist the driver when it is necessary to load a shipment from ground level into the107 trailer of the local pickup unit. A shipment may consist of one or more of the various "general commodity" categories. Upon completing his pickup of freight shipments, the driver returns to the origination terminal.The origination terminal is the freight terminal at which shipments are transferred from local pickup units into linehaul units for transportation to destination terminals. At the origination terminal, the local pickup trailer unit will be removed from the tractor and taken to the dock facilities where the shipment will be removed from the trailer and moved across the dock to the appropriate linehaul trailer unit. The operations performed at the dock facilities in the local pickup of freight and movement from the local pickup unit to the linehaul unit are referred to as "outbound services" because, from the point of view of the origination terminal, the freight shipments are moving out from the point of origin.At the destination terminal, freight shipments are removed 773 from the linehaul unit and moved across the dock to a local delivery trailer unit and loaded in a sequence for local delivery. The local delivery unit then delivers the freight shipment to108 the recipient designated by the customer. The operations performed at the destination terminal facilities are referred to as "inbound services" because, from the point of view of the destination terminal, the freight is coming into the point of destination.Thus, "linehaul services" consist of the long distance carrying of freight shipments. Petitioner may carry goods across the country, e.g., from Los Angeles to Boston. Linehaul services are provided in tractor and trailer units which are similar in appearance to many of the local pickup and delivery units, but which, because of original construction, usage, or capacity, are in condition to perform the more demanding linehaul services. For example, a linehaul tractor generally travels approximately 150,000 miles per year. The linehaul equipment is segregated from the local pickup and delivery equipment, and linehaul drivers are different individuals from the local pickup and delivery drivers. The linehaul drivers normally do not make continuous coast-to-coast trips. Instead, they operate on a relay system. Each driver is assigned to a particular terminal. From that terminal, the driver will drive the tractor and trailer 109 unit approximately 8 to 10 hours to a relay point. At the relay point, another driver will replace the original driver. The original driver will rest for 8 hours. He will then drive another tractor and trailer unit back to the terminal to which he is assigned. The original trailer and shipments will be driven by one or more other drivers to the destination terminal or to a break bulk terminal.During the taxable years 1966 through 1970, CFCD placed in service trucking terminal facilities or maintenance facilities or improvements to existing facilities 3 at each of the following locations: 774 Year placedLocationin serviceDescription of projectSouth Plainfield, N.J.1966New terminal facilitySanta Fe Springs, Calif.1966New terminal facilityLong Beach, Calif.1966Warehouse facilityPhoenix, Ariz.1966Extension of dockSheboygan, Wis.1966New terminal facilityButte, Mont.1966New terminal facilityEugene, Oreg.1966New terminal facilityColumbus, Ohio1966Extension of dockNewark, N.J.1966New terminal facilityChicago, Ill.1966New maintenance shopPortland, Oreg.1966New maintenance shopAlbany, N.Y.1966Improvements to yardand dockDetroit, Mich.1967New maintenance shopYork, Pa.1967Extension of dockMansfield, Ohio1967New terminal facilityRock Island, Ill.1967New terminal facilityHartford-Springfield, Conn.1967New terminal facilityDayton, Ohio1967New terminal facilityKansas City, Mo.1967Extension of dockWichita, Kans.1967New terminal facilityBuffalo, N.Y.1967Extension of dockHayward, Calif.1967New terminal facilityBoston, Mass.1967Extension of dockOrange, Calif.1967Extension of dockCincinnati, Ohio1967Extension of dockNewark, N.J.1967Extension of dockWarren, Ohio1968New terminal facilitySan Diego, Calif.1968New terminal facilityRochester, N.Y.1968New terminal facilityWilmington, Del.1968New terminal facilitySan Jose, Calif.1968Extension of dockSacramento, Calif.1968Extension of dockLas Vegas, Nev.1968New terminal facilityBoston, Mass.1968New maintenance shopBaltimore, Md.1968Extension of dockColumbus, Ohio1968Extension of dockYork, Pa.1969Maintenance shopadditionSyracuse, N.Y.1969Extension of dockSt. Louis, Mo.1969New terminal facilityPatterson, N.J.1969New terminal facilitySouth Plainfield, N.J.1969Extension of dockSalt Lake City, Utah1969New terminal facilityOrange, Calif.1969New terminal facilityAkron-Canton, Ohio1969Improvements to yardEast Providence, R.I.1969New terminal facilityAurora, Ill.1969New terminal facilityCincinnati, Ohio1969New terminal facilityToledo, Ohio1969New terminal facilityMemphis, Tenn.1970New terminal facilityHouston, Tex.1970New terminal facilityBuffalo, N.Y.1970New terminal facility110 775 No part of the investments listed above is "suspension period property" as defined in section 48(h) of the Code, and all investments in projects or facilities listed above are "pretermination property" as defined in section 49(b) of the Code. All the facilities listed above are tangible property which were constructed, erected, or placed in service by petitioner after December 31, 1961, and with respect to which depreciation deductions are allowable.111 At the time placed in service, each of the freight transshipment docks and other facilities listed above had a useful life of 8 years or more for the purpose of computing the allowance for depreciation under section 167 of the Code. All the above facilities were used by petitioner at all times relevant to this proceeding as integral parts of petitioner's business of furnishing transportation services.The dispute with respect to the correct amount of investment tax credit to which petitioner is entitled is limited to the issue of whether the following items of property at petitioner's terminal facilities constitute "section 38 property": freight transshipment 776 docks; mercury-vapor dock lights; overhead dock doors; terminal yard fences; mercury-vapor shop lights. The amount of investment in these items in each of the taxable years at issue is described below:19661967196819691970Freighttransshipment docks$ 934,833$ 1,132,441$ 883,677$ 2,437,964$ 801,125Mercury-vapordock lights8,19312,53179,87735,045Overheaddock doors45,81764,10865,18792,14047,526Terminalyard fences53,15940,06645,91873,80529,341Mercury-vaporshop lights17,2214,59844916,5068,070Total1,051,0301,249,4061,007,7622,700,292921,107Sec. 38 credit at 7%73,57287,45970,543189,02064,477112 The following 43 freight transshipment dock projects are in issue in this proceeding:Year placedLocationin serviceDescription of projectSouth Plainfield, N.J.1966New terminal facilitySanta Fe Springs, Calif.1966New terminal facilityPhoenix, Ariz.1966Extension of dockSheboygan, Wis.1966New terminal facilityButte, Mont.1966New terminal facilityEugene, Oreg.1966New terminal facilityColumbus, Ohio1966Extension of dockNewark, N.J.1966New terminal facilityYork, Pa.1967Extension of dockMansfield, Ohio1967New terminal facilityRock Island, Ill.1967New terminal facilityHartford-Springfield, Conn.1967New terminal facilityDayton, Ohio1967New terminal facilityKansas City, Mo.1967Extension of dockWichita, Kans.1967New terminal facilityBuffalo, N.Y.1967Extension of dockHayward, Calif.1967New terminal facilityBoston, Mass.1967Extension of dockOrange, Calif.1967Extension of dockCincinnati, Ohio1967Extension of dockNewark, N.J.1967Extension of dockWarren, Ohio1968New terminal facilitySan Diego, Calif.1968New terminal facilityRochester, N.Y.1968New terminal facilityWilmington, Del.1968New terminal facilitySan Jose, Calif.1968Extension of dockSacramento, Calif.1968Extension of dockLas Vegas, Nev.1968New terminal facilityBaltimore, Md.1968Extension of dockColumbus, Ohio1968Extension of dockSyracuse, N.Y.1969Extension of dockSt. Louis, Mo.1969New terminal facilityPatterson, N.J.1969New terminal facilitySouth Plainfield, N.J.1969Extension of dockSalt Lake City, Utah1969New terminal facilityOrange, Calif.1969New terminal facilityEast Providence, R.I.1969New terminal facilityAurora, Ill.1969New terminal facilityCincinnati, Ohio1969New terminal facilityToledo, Ohio1969New terminal facilityMemphis, Tenn.1970New terminal facilityHouston, Tex.1970New terminal facilityBuffalo, N.Y.1970New Terminal facility113 777 The following terminals at issue in this proceeding are constructed without overhead dock doors, i.e., without doors which may be raised to close off a truck loading space: Santa Fe Springs, Calif.; Phoenix, Ariz.; Hayward, Calif.; Orange, Calif.; Cincinnati, Ohio; St. Louis, Mo.; and Memphis, Tenn.The following terminals are equipped with "towveyor" conveyor systems: Santa Fe Springs, Calif.; Hayward, Calif.; Aurora, Ill.; Salt Lake City, Utah; Cincinnati, Ohio; St. Louis, Mo.; Buffalo, N.Y.; and Kansas City, Mo. "Towveyors" are motorized chains usually set in the floor and around the perimeter of the dock. The chain is accessible through a slit in the floor and is kept in continuous motion by a small motor. Towveyors are used to move freight carts around the perimeter of the dock.The towveyor in the St. Louis, Mo., terminal is designed to operate through an overhead chain rather than by a chain set into the concrete dock platform. The towveyor installed in the Kansas City, Mo., terminal, which was installed when that 778 terminal's dock extension was constructed, is an overhead-drive towveyor. 4 Each terminal yard is enclosed by a chain link fence. The terminal114 yard fences surrounding the facilities before us are used as integral parts of petitioner's business of providing transportation services.During the years 1966 through 1970, petitioner placed into service the following 16 additions to existing docks. The location, year placed in service, number of trailer positions, and dimensions of the dock addition for each of the dock extensions at issue are set forth below:DockYearNumber ofDockextensionplacednew trailerextensionlocationin servicepositionsdimensionsBaltimore, Md.196832170' x 60'Boston, Mass.196736170' x 75'Buffalo, N.Y.19672460' x 105'Cincinnati, Ohio19672480' x 120'Columbus, Ohio1966654' x 36'Columbus, Ohio19682460' x 123'East Providence, R.I.19691460' x 80'Kansas City, Mo.19675780' x 340'Newark, N.J.196825100' x 168'Orange, Calif.19671650' x 88'Phoenix, Ariz.19661255' x 71'Sacramento, Calif.19681160' x 72'San Jose, Calif.19682054' x 96'South Plainfield, N.J.19693260' x 198'115 Construction of the raised concrete platform portion of a freight transshipment dock is fundamentally the same for all the docks in issue. A mound of engineered fill is formed in the shape of the dock and partially compacted. The edges are then cut away to provide a space for construction of the perimeter of the dock. Heavy concrete footings are poured around the entire perimeter of the dock. The footings are normally 2 feet wide and 18 inches thick and form the foundation for the retaining wall. After the footings are hardened, wooden or metal forms are constructed into which cement is poured to mould a 12-inch-thick 779 continuous concrete retaining wall which forms the perimeter of the dock. The perimeter dock wall is thicker at the corners and at those locations (generally every 22 feet) where metal uprights are subsequently bolted to the dock platform. Before concrete is poured into the forms, reinforcing rods are placed at 8- to 12-inch intervals both vertically and horizontally. Concrete is poured to a level of 42 to 44 inches above ground level. Reinforcing rods placed vertically in the walls extend 6 inches above the retaining wall. After the perimeter concrete116 dock wall is hardened, the forms are removed and the space between the perimeter dock wall and the compacted mound is filled with engineered fill, and the mound is further compacted.At the same time the dock is being filled, wooden forms are set in the correct positions to form any pits needed to install equipment such as a towveyor or dock scales. Before the concrete platform is poured, a continuously welded edge angle is welded to the reinforcing rods protruding from the retaining walls. The edge angle is made from two strips of from 5- to 6-inch-wide steel plate continuously welded to each other at a 90-degree angle. After welding the edge angle to the vertical reinforcing rods, additional "anchors" made from reinforcing rod shaped into a hook are welded into the inside of the angle at approximately 18-inch intervals around the entire dock perimeter. Long sections of reinforcing rod are then laid into the anchors. When the concrete for the platform is poured, the anchors are firmly embedded in the dock. Once the edge angle is complete, 6 inches of concrete are poured over a reinforcing rod and steel mesh matrix for added strength, thus forming a platform 48 to 50 inches 117 above ground level.Each of the freight transshipment docks in issue is covered by a metal roof including a canopy which extends beyond the edge of the raised concrete platform. The metal roof consists of structural steel members and sheet metal for roofing or siding. Vertical steel columns, of sufficient height (usually 12 to 14 feet) to allow a clearance between the dock platform and cover ranging from 11 to 12 feet, are bolted to the concrete platform at 22-foot intervals on the sides of the dock. Crossbeams consisting of steel I-beams extend across the vertical columns without any additional support columns in the center of the dock. Additional roof framing members consisting of 6-inch-deep steel purlins run longitudinally across the crossbeams at 5- to 6-foot 780 spacings. Roof sheathing, consisting of enamelled sheet metal panels, is attached to the tops of the roof-framing members. At some terminals, skylights of translucent material are inserted in place of some metal panels to provide light. Each of the intervals of 22 feet is referred to as a bay and within each bay are two 11-foot-wide trailer positions. The canopy is designed to provide a 10-foot overhang 118 on all sides.While various persons were employed by petitioner to perform services at its terminal facilities during the years before us, the employee most substantially involved in the movement of freight at the dock was the "dockman." The dockman's principal activity is to load and unload freight from one trailer to another. This activity may be performed in a variety of ways. The most common method of loading and unloading is by hand. The boxes or packages of freight are removed from a trailer and placed on a four-wheel dock cart which has been pulled inside the trailer for easy loading. Large, bulky, or heavy materials are frequently moved by using a forklift operated by a dockman or a forklift operator. The forklift may be driven directly into a trailer to remove a load. A variety of other special equipment in addition to dock carts and forklifts, such as "handtrucks" and aluminum conveyor rollers, may be used in unloading a trailer. Once a dock cart or handtruck is loaded, the dockman will move the dock cart or handtruck out of the trailer and across the dock. At a terminal with a towveyor, the dockman will move the cart directly to the towveyor track, usually a distance119 of 20 feet, and attach the cart to the track. The dockman then returns to the trailer for further unloading. The loading process is the reverse of the unloading process.Freight is sometimes "staged." The staging area is in the center of the dock. Staging is a term which describes the transitory or short-term storage of freight. Normally, there are two reasons for staging freight. First, shipments must be loaded into trailers in a proper sequence so that weight is distributed correctly and shipments to a given destination are kept together. Staging of freight facilitates this process. Secondly, freight may be staged for a short time to await arrival of the trailer on which the freight will ultimately be shipped. A dockman will therefore stage freight and remove freight from the staging area in the course of his duties. A dockman spends the predominate amount 781 of his time inside the trailers he is loading or unloading, rather than on the dock.The following employees are normally never required to be present on the dock during the performance of their jobs: leadman, parts room; leadman, tire and lube; partsman; tire lube man; washer; shop clerk; transport operator; 120 linehaul secretary; personnel manager; secretary; bill clerk; bill pusher; cashier interline; and payroll clerk. However, a secretary, bill clerk, or bill pusher may, in rare circumstances, go onto the dock. A shop manager, assistant shop manager, mechanic, mechanic's helper, shop foreman, leadman shop foreman, or inspector would be on the dock only in the rare circumstance of a breakdown of equipment on the dock.Petitioner's docks and shops are equipped with high-intensity mercury-vapor lamps. These lamps are manufactured by the Holophane Lighting Co. and are designed to provide high-intensity, broad-beam illumination. The lamps are self-contained units and are installed by their being hung from a hook in the roof. The lamp is connected to a power source by inserting a standard plug into a standard power socket. Installation or removal of the mercury-vapor lamps requires no tools or equipment other than a ladder, and each lamp can be installed or removed in less than 30 seconds. At terminals placed in service after 1967, the mercury-vapor lamps serve as the only source of light during night hours, while at terminals placed in service prior to 1967, the mercury-vapor lamps121 are installed in addition to standard florescent fixtures. Of the terminals placed in service during 1967, those in Cincinnati, Ohio; Orange, Calif.; and Buffalo, N.Y., were equipped with both standard florescent lights and mercury-vapor lights. Mercury-vapor lamps installed in shops are designed with a double light fixture.Several of the terminal facilities in issue herein were later sold by petitioner to third parties. In each case, the purchaser used the facility as a motor common carrier freight transshipment terminal.During the normal course of its operation of motor vehicles as a common carrier, petitioner's employees and equipment are involved in traffic accidents which cause damage to its vehicles and cargo carried therein, as well as personal injuries to petitioner's employees and to the property and persons of third parties. Throughout the period 1961 to the present, and for a 782 substantial period prior to 1961, motor common carriers were required by Federal and State statutes and regulations to provide insurance coverage or to make other satisfactory arrangements to provide for the payment of claims which may arise against the carrier from such vehicular accidents. 122 In 1961, petitioners began a program of self-insurance designed to satisfy these Federal and State statutes and to provide for payment of damages caused by the operation of its motor vehicles in the common carriage of freight. In order to pursue its purpose of self-insurance, petitioner was required by the ICC and various State agencies to provide proof of financial responsibility. Petitioner provided the required proof of financial responsibility by entering into surety agreements with Seaboard Surety Co. (Seaboard) and causing bonds to be filed with the appropriate agencies.On February 9, 1961, petitioner filed an Application for Surety Bond -- Miscellaneous Form with Seaboard. This application read in pertinent part as follows:THE UNDERSIGNED [petitioner] HEREBY AGREES: * * 3rd. To indemnify and keep indemnified the Surety and hold and save it harmless from and against any and all liability, losses, costs, damages, attorneys' and counsel fees, and disbursements, and expenses of whatever kind or nature which the Surety may sustain or incur by reason or in consequence of having executed or procured the execution of the bond or bonds hereinabove applied for and renewal(s), 123 continuation(s), extension(s) or successor(s) thereof and all other bonds heretofore or hereafter executed or procured for or at the request of the undersigned, and which the Surety may sustain or incur in taking any steps it may deem necessary, in making any investigation, in defending or prosecuting any actions, suits, or other proceedings which may be brought under or in connection therewith, and recovering or in attempting to recover salvage or any unpaid bond premium, in obtaining or attempting to obtain release from liability, or in enforcing any of the covenants of this agreement; and to pay over, reimburse and make good to the Surety, its successors or assigns, all money which the Surety or its representatives shall pay, or cause to be paid or become liable to pay, by reason of the execution of the bond or bonds * * ** * * 5th. If for any reason the Surety shall be required or shall deem it necessary to set up a reserve in any amount to cover any contingent claim or claims, loss, costs, attorneys' fees and disbursements and/or expenses in connection with said bond or bonds by reason of default of the undersigned for any reason whatsoever, and regardless of any proceedings124 contemplated or taken by the principal or pendency of any appeal, the undersigned jointly and severally 783 hereby covenant and agree immediately upon demand to deposit with the Surety, in current funds, an amount sufficient to cover such reserve and any increase thereof, such funds to be held by the Surety as collateral, in addition to the indemnity afforded by this instrument, with the right to use such funds or any part thereof, at any time, in payment or compromise of any judgment, claims, liability, loss, damage, attorneys' fees and disbursements or other expenses; and if the Surety is required to enforce performance of this covenant by action at law or in equity, the costs, charges and expenses, including counsel or attorneys' fees which it may thereby incur, shall be included in such action and paid by the undersigned. * ** * * 11th. In the event that it becomes necessary or advisable in the judgment of the Surety to control, administer, operate or manage any or all matters connected with the performance of any obligation or obligations which are the subject of its suretyship, for the purpose of minimizing any possible loss or ultimate loss to the undersigned and125 the Surety, the undersigned hereby expressly covenants and agrees that such action on the part of the Surety shall be entirely within its rights and remedies under the terms of this agreement and as Surety, and does hereby fully release and discharge the Surety, in this connection, from liability or all actions taken by it or for its omissions to act, except for deliberate and willful malfeasance.* * * 13th. It is understood and agreed that, as the execution of this agreement is an essential part of the consideration for the execution by the Surety of a bond or bonds, the failure to execute this instrument or, in the case the execution may be defective or invalid for any reason, such failure, defect or invalidity, shall not in any manner affect the validity of this instrument or the liability hereunder, and that this instrument shall be in full force and effect to the same extent as if such failure, defect or invalidity had not existed. This agreement, although executed subsequent to the issuance of any instrument referred to herein, has the same force and effect as though executed prior to the issuance of such instrument.On March 1, 1961, petitioner entered into an agreement126 with Seaboard entitled the "Indemnity Agreement." This agreement read in pertinent part as follows:1. The Indemnitors will pay when due all premiums for each of such bonds and shall at all times indemnify and keep indemnified the Surety and hold and save it harmless from and against any and all liability, losses, costs, and damages, attorneys' fees and counsel fees, and disbursements, and expenses of whatever kind or nature which the surety may sustain or incur by reason or in consequence of having executed or procured the execution of such bond or bonds and any renewal, hereafter executed or procured for or at the request of the Principal, and which the Surety may sustain or incur in taking any steps it may deem necessary in making any investigations, in defending or prosecuting any actions, suits or other proceedings which may be brought under or in connection therewith, or in recovering or attempting to recover salvage or any 784 unpaid bond premium, in obtaining or attempting to obtain release from liability, or in enforcing any of the covenants of this agreement; to pay over, reimburse and make good to the Surety, its successors or assigns, all money which the Surety or127 its representatives shall pay or cause to be paid or become liable to pay, by reason of the execution of such bond or bonds, and any renewal, continuance, extension or successor thereof, and all other bonds heretofore or hereafter executed or procured for or at the request of the Principal; and such payment to be made to the Surety as soon as it shall become liable therefore, whether the Surety shall have paid out such sum or any part thereof, or not.* * * 4. It is understood and agreed that as the execution of this agreement is an essential part of the consideration for the execution by the Surety of such bond or bonds, the failure to execute this instrument, or, in case the execution may be defective or invalid for any reason, such failure, defect or invalidity, shall not in any manner affect the validity of this instrument or the liability hereunder, and this instrument shall be in full force and effect to the same extent as if such failure, defect or invalidity had not existed. This agreement, although executed subsequent to the issuance of any instrument referred to herein, is of the same force and effect as though executed prior to the issuance of such instrument. * * 128 6. It is expressly understood and agreed that the liability of the Indemnitors for premium payments shall be limited to the premium charged by the Surety for the period in which the Surety under its bond accepts additional liability. Upon cancellation of the bond, the liability of the Indemnitors for premiums arising after cancellation shall cease.Also, on March 1, 1961, petitioner entered into an agreement with Seaboard entitled the "Collateral Agreement." The relevant terms of the Collateral Agreement provide:Whereas, application has been and may hereafter be made to the Surety to execute or procure execution of a bond or bonds or policies on behalf of Principals or any of them, andWhereas, the Surety has made it a condition precedent to executing any such bond or policy that its exposure at all times be adequately collateralized, upon the terms and conditions of the Agreement.Now, Therefore, in consideration of the premises and of the execution of any such bond or policy and of the mutual agreements herein contained, it is agreed that:A. Principals shall forthwith deposit or cause to be deposited with Surety, as collateral, cash or securities acceptable to Surety, or both, 129 having a total current value of not less than 100 percent of the aggregate of the reserves set up by the principals on claims for which Surety is or may be responsible under such bond or bonds or policies as security (a) against any and all liability, loss, costs, damages, expenses, and attorneys' fees arising or incurred in connection with any such bond or policy heretofore or hereafter procured by the Surety at 785 the instance or inquest [sic] of the Principal [sic] or any of them, and (b) for the performance of every agreement made by the Principals in connection with such bond or policy (including but not limited to Principals Indemnity Agreement in favor of Surety).Principals shall promptly after the last day of each month furnish to the Surety full information concerning claims and claim reserves, on forms provided by the Surety. If at any time the value of the collateral on deposit with Surety shall be less than 100 percent of reserves on pending claims, Principals shall deposit or cause to be deposited as much additional collateral as may be required to bring the value of the collateral to such 100 percent.At any time and without notice or legal process, in order130 to pay out of such collateral to itself or otherwise any amounts due or to become due, or in the event Principals or any of them, or any other owner of any such collateral, shall breach any of the terms of this or any other agreement relating to any of the bonds or policies aforesaid, the Surety may, but shall not be obliged to, sell any of said collateral at public or private sale to itself or others, or deposit, invest, convert, cash, exchange, renew or dispose of said collateral or the proceeds thereof in any other manner, as it may deem proper.B. Within a reasonable time after receipt of written request of the Principals, Surety shall release such collateral as may be in excess of 100 percent of the then outstanding claim reserves.C. At least quarterly each Principal shall regularly furnish the Surety with a signed financial statement as of the quarterly date and its operating statements for the previous quarter. The Surety shall have the right of access at all times during business hours to the records and books of account of the Principals with respect to all matters covered by any such bond or bonds, or policies.D. Upon termination or cancellation of such bond or bonds 131 or policies, all or any part of the collateral shall at the option of the Surety be held by it until its liability has been extinguished and the statutory period for filing claims thereunder has terminated.Pursuant to the March 1, 1961, agreements between petitioner and Seaboard, Seaboard filed bonds on behalf of petitioner with the various State and Federal agencies, including the ICC, governing the areas within which petitioner operated. 5Pursuant to the March 1, 1961, agreements with Seaboard, petitioner deposited the following amounts with Seaboard in each of the years 1966 through 1970: 786 YearAmount1966$ 174,078 1967128,336 1968199,000 1969$ 530,746 1970(81,855)In addition to the above deposits, petitioner paid annual premiums to Seaboard of approximately $ 50,000 to $ 60,000. As of December 31 of each of the following years, petitioner had the following132 amounts on deposit with Seaboard:YearAmount1965$ 784,3951966958,47319671,086,8091968$ 1,285,80919691,816,55519701,734,700The amounts petitioner transferred to Seaboard as deposits pursuant to the March 1, 1961, agreements were equal to the full amount of the increase in petitioner's estimated liability to third parties for claims by such third parties against petitioner for damages arising from traffic accidents for the year of the transfer; but in no event did petitioner's transfers, in respect of any one claim, exceed 100 percent of Seaboard's potential liability therefor under the various bonds. In turn, Seaboard's liability as surety did not exceed the limits stated in the bonds. 6 The timing and amount of petitioner's transfers to Seaboard were as were specified in the collateral agreement and were not subject to the discretion of petitioner. Under the various agreements for filing the surety bonds, in the event of petitioner's default, Seaboard would have used the amounts transferred to Seaboard to pay claims. Seaboard posted bonds with respect to bodily injury and property damage to third parties or their property and damage to freight133 shipments carried by petitioner resulting from, e.g., vehicular accidents.Each claim against petitioner with respect to which petitioner transferred an amount to Seaboard pursuant to the March 1, 1961, agreements was processed by the Insurance & Claims 787 Division of Consolidated Freightways, Inc. (claims division), in Portland, Ore.The claims division prepared a file for each such claim which contained all the correspondence, reports, agreements, and other documents pertinent to each claim (referred to hereinafter as the134 claim file). On the cover of each claim file, the amount which it was estimated that petitioner would be required to pay and the amount of all payments made were entered. The amount on deposit with Seaboard at the end of each year, 1965 through 1970, was the total of the amounts of estimated liability for each claim set forth on the claim file cover at that date, up to the limits set by the various bonds involved.In the usual case, upon the occurrence of a vehicular accident, petitioner's driver would prepare a report of the accident which would then be submitted to the terminal manager and to the claims division. The claims division would then determine the amount of petitioner's estimated liability for each claim based upon the driver's report, police reports, appraisals from adjusters, medical reports, and reports from attorneys, copies of which were placed in each claim file. The amount of estimated liability would then be entered on the cover of each claim file. As the claims were evaluated and settlements negotiated, petitioner's claims division would make payments directly to the claimants or their representatives. As payments were made, each payment would be entered135 on the cover of the claim file and the amount of petitioner's remaining estimated liability (sometimes referred to as a "reserve" or "unpaid claim") would be reduced to reflect the payment. Payments of claims were made directly by the claims division. Adjustments were also made to increase or decrease the amount of petitioner's estimated liability based upon subsequent developments and additional information. Upon satisfaction of a claim in full, expiration of the statute of limitations, or other similar event which terminated petitioner's liability for a claim, the claim file would be marked "closed" and the amount of petitioner's estimated liability on that claim reduced to zero.Petitioner's claims division regularly reviewed the reserve outstanding on each of the open claim files. The aggregate amount of the outstanding open claim reserves was compared to the balance held by Seaboard. If the total outstanding reserve amount was higher than the total amount held by Seaboard, a transfer was made to raise the amount to 100 percent of the 788 outstanding claim reserves. If the total reserve amount was less than petitioner's deposits with Seaboard, petitioner would request136 the return of the excess. In every instance in which petitioner's insurance and claims division determined that the balance of outstanding open claim reserves was greater than the total balance of deposits, petitioner increased the deposits accordingly. Seaboard regularly audited the amount of petitioner's estimated liabilities on outstanding claims, based upon petitioner's reports or accountings, to determine if petitioner had transferred adequate deposits to Seaboard under the March 1, 1961, agreements. Petitioner's claims division was usually very accurate in estimating petitioner's liabilities.During the years in issue, petitioner borrowed funds from the Bank of America under a revolving credit agreement. Petitioner also borrowed from other banks, referred to herein as "participating banks," pursuant to that same agreement. Petitioner had an oral understanding with the Bank of America, and thereby with each participating bank, that petitioner would maintain funds in non-interest-bearing accounts at such banks in amounts equal to a certain percentage of each bank's average loan to petitioner for some prior period of time. The amounts required to be placed in non-interest-bearing137 accounts with the participating banks pursuant to the oral understanding are referred to as "compensating balance requirements."From time to time during the years 1966 through 1970, amounts on deposit with Seaboard were transferred from one bank to another or from a bank account into an investment. On occasion, petitioner would request Seaboard to transfer amounts on deposit with Seaboard from one bank to another in order for such amounts to be available to meet petitioner's "compensating balance requirements" at various banks. In each such instance, a request for transfer was sent by petitioner to Seaboard for Seaboard's consideration and approval. If petitioner's request was approved by Seaboard, Seaboard made the transfer of the deposits. All amounts transferred to the accounts established by Seaboard were under the absolute control of Seaboard. Only Seaboard officers had authority to make withdrawals or transfers of amounts from those accounts. During the years 1966 through 1970, Seaboard approved each of petitioner's written requests and made the requested transfers of the deposits. The amounts deposited by petitioner with Seaboard, and by Seaboard 789 with various138 banks, earned income. This income was reported by petitioner and served to reduce petitioner's collateral obligations.The relationship between petitioner and Seaboard terminated on August 1, 1977. Subsequent to the termination of the arrangement between petitioner and Seaboard, Seaboard continued to maintain deposits made by petitioner in accounts in Seaboard's name. In February 1978, petitioner, through John C. Miller, vice president and manager of petitioner's Insurance & Claim Division, requested a release of $ 1,500,000 of the deposits held by Seaboard because the outstanding reserves on claims covered by surety bonds issued by Seaboard had been reduced by that amount. This request was refused.Petitioner has consistently, since 1961, claimed deductions for deposits paid to Seaboard and has reported deposits returned to petitioner by Seaboard as income, with the exception of 1965 when deposits paid to Seaboard were not deducted due to inadvertence. Deductions and income from deposits paid or refunded were shown on Schedule M-1 of petitioner's returns for each of the years 1966 through 1970.OPINIONThe first issue with which we must deal is petitioner's claim that respondent139 should be "estopped" to deny that petitioner's docks qualify for the investment credit. 7 Petitioner would, apparently, raise estoppel on the basis of (1) Rev. Rul. 68-1, 1 C.B. 8">1968-1 C.B. 8, and (2) a Form 870 petitioner executed with respect to its taxable years 1961 through 1964. Separately, petitioner contends that respondent abused his discretion in not making Rev. Rul. 71-203, 1 C.B. 7">1971-1 C.B. 7, purely prospective in operation.The gravamen of petitioner's argument with respect to Rev. Rul. 68-1 is that:respondent published Revenue Ruling 68-1 * * * in early 1968 and that during 1968 the Internal Revenue Service applied that Revenue Ruling to the facts in this case to determine that under that Revenue Ruling petitioner's docks qualified as Section140 38 property. After publication of Revenue Ruling 68-1 petitioner placed in service 22 of the 43 docks in issue. Only after those docks 790 were constructed and after publication of Revenue Ruling 71-203 * * , in 1971 did respondent seek to change its position and contend Revenue Ruling 68-1 did not apply to such docks and that such docks were not Section 38 property.Further, petitioner argues that it has been greviously injured by respondent's alleged change in position because petitioner could have constructed its docks in a different manner.Respondent argues that petitioner must fail because it has not established any of the elements of estoppel or abuse of discretion. Respondent argues that he never made a determination that Rev. Rul. 68-1 applied to petitioner's docks and that, therefore, there was no representation upon which petitioner could rely. Respondent argues that the Form 870 waiver petitioner signed was not a determination and, by its terms, cannot bind the Commissioner. Further, respondent141 points out that the Form 870 covered taxable years not before the Court. Respondent also argues that Rev. Rul. 71-203 did not modify or revoke Rev. Rul. 68-1 because the two rulings dealt with completely different topics. Finally, respondent argues that petitioner has failed to show reasonable reliance and detriment.Rev. Rul. 68-1 dealt with the qualification for the investment tax credit of certain improvements made to a trucking terminal, viz, "paved yard, concrete aprons, concrete pads, yard bumpers, yard lighting, and a fence surrounding the terminal." The ruling concluded that:in this case the improvements consisting of a paved yard, concrete aprons, concrete pads, yard bumpers, and yard lighting made to the trucking terminal by the taxpayer, which is engaged in the business of furnishing transportation services, are "section 38 property" for investment credit purposes. However, the fence surrounding the terminal does not qualify as "section 38 property." [Rev. Rul. 68-1, 1 C.B. 8">1968-1 C.B. 8, 9.]Rev. Rul. 71-203142 dealt with the qualification under section 38 of a "docking facility" identical in all operable aspects with the docks before us. That ruling concluded that the docking facility was a "building." The Form 870 mentioned by petitioner was dated October 24, 1968, and dealt with petitioner's taxable years 1961 through 1964. It would appear from petitioner's protest made on March 28, 1968, with respect to its taxable years 1962, 1963, and 1964, that the primary issue with respect to those years was the useful life of the assets involved for section 38 purposes, not their original qualification as section 38 property.791 The elements of estoppel are well known. 8 Petitioner must fail on this claim because it cannot show a primary element of its case, i.e., "representation." We think it clear that the two revenue rulings at issue dealt with completely different questions of law and fact. See Consolidated Freightways, Inc. v. United States, docket No. 168-69, Opinion of Trial Judge ( Ct. Cl. 1979, 44 AFTR 2d 79-5230, 79-2 USTC par. 9440). This being the case, and in the absence of a relevant private letter ruling or other indication143 that respondent had made any sort of binding representation to petitioner, there can be no estoppel, of either sort, and no abuse of discretion. See Automobile Club of Michigan v. Commissioner, 353 U.S. 180">353 U.S. 180, 184 (1957); Malinowski v. Commissioner, 71 T.C. 1120">71 T.C. 1120, 1128-1129 (1979).We now turn to the merits. The first substantive issue with which we must deal is the allowability of144 certain claimed investment credits taken with respect to petitioner's freight transshipment docks, mercury-vapor dock and shop lights, overhead dock doors, and terminal yard fences.The relevant law remained unchanged during the taxable years before us. Section 38 provided as follows:SEC. 38. INVESTMENT IN CERTAIN DEPRECIABLE PROPERTY.(a) General Rule. -- There shall be allowed, as a credit against the tax imposed by this chapter, the amount determined under subpart B of this part.(b) Regulations. -- The Secretary or his delegate shall prescribe such regulations as may be necessary to carry out the purposes of this section and subpart B.Section 48, which is part of "subpart B," provided in relevant part as follows:SEC. 48. DEFINITIONS: SPECIAL RULES.(a) Section 38 Property. -- (1) In General. -- Except as provided in this subsection, the term "section 38 property" means -- (A) tangible personal property, or(B) other tangible property (not including a building and its structural components) but only if such property --(i) is used as an integral part of manufacturing, production, or 792 extraction or of furnishing transportation, communications, electrical145 energy, gas, water, or sewage disposal services, or(ii) constitutes a research or storage facility used in connection with any of the activities referred to in clause (i), or* * * Such term includes only property with respect to which depreciation (or amortization in lieu of depreciation) is allowable and having a useful life (determined as of the time such property is placed in service) of 4 years or more.Petitioner does not contend that the docks are "tangible personal property." Our inquiry, therefore, is limited to whether the docks are "other tangible property." The parties are in agreement that the docks will qualify as other tangible property unless they are "buildings" within the meaning of section 48. During all the taxable years in issue, the regulations 9 defined "building" as follows:Sec. 1.48-1 Definition of section 38 property.(e) Definition of building and structural components. (1) Buildings and structural components thereof do not qualify as section 38 property. The term "building" generally means any structure or edifice enclosing a space within its walls, and usually covered by a roof, the purpose of which is, for example, to provide shelter146 or housing, or to provide working, office, parking, display, or sales space. The term includes, for example, structures such as apartment houses, factory and office buildings, warehouses, barns, garages, railway or bus stations, and stores. * * * Such term does not include (i) a structure which is essentially an item of machinery or equipment, or (ii) an enclosure which is so closely combined with the machinery or equipment which it supports, houses, or serves that it must be replaced, retired, or abandoned contemporaneously with such machinery or equipment, and which is depreciated over the life of such machinery or equipment. Thus, the term "building" does not include such structures as oil and gas storage tanks, grain storage bins, silos, fractionating towers, blast furnaces, coke ovens, brick kilns, and coal tipples.147 793 These regulations have been interpreted to present a bifurcated test, i.e., the "appearance" test and the "purpose" or "function" test. Congress intended that the term "building" be given its commonly accepted meaning. Technical Explanation of the Bill, 3 C.B. 841">1962-3 C.B. 841, 858. Because the regulation is a reasonable interpretation of Congress' intent on this point, it must be given great respect and may not be overruled except for weighty reasons. Fawcus Machine Co. v. United States, 282 U.S. 375">282 U.S. 375, 378 (1931); Commissioner v. South Texas Lumber Co., 333 U.S. 496">333 U.S. 496, 501 (1948). As the regulations before us are "legislative," i.e., promulgated pursuant to an express congressional mandate, they are binding upon this Court, and are second only to the statute itself. Yellow Freight System, Inc. v. United States, 538 F.2d 790">538 F.2d 790, 796 (8th Cir. 1976), revg. and remanding 413 F. Supp. 357">413 F. Supp. 357 (W.D. Mo. 1975); Kramertown Co. v. Commissioner, 488 F.2d 728">488 F.2d 728, 730 (5th Cir. 1974). See Joseph Weidenhoff, Inc. v. Commissioner, 32 T.C. 1222">32 T.C. 1222, 1241-1242 (1959).148 Petitioner argues both the "appearance" and "functional" tests. Thus it argues that its docks are not buildings because they do not enclose space within "normal" walls and therefore do not "appear" to be buildings. Second, it argues that the docks are not buildings under the "functional" test because they function as specially designed and constructed equipment used as an integral part of petitioner's business of providing transportation services and do not function to provide a working space for employees. Further, petitioner argues that, even if we do not view the entire dock structure as "equipment," the raised concrete platform is certainly "equipment" which the dock roof merely houses. Under this argument, the platform would not be a building because it would be "equipment" and the roof would qualify for the credit because it is a structure which houses property, i.e., the platform, used as an integral part of the business of providing transportation services, which can clearly be expected to be replaced if the dock platform into which it is set is replaced.Respondent argues, on the other hand, that the dock facilities are "buildings" within the meaning of section 1.48-1(e)(1), 149 Income Tax Regs., under both the appearance and purpose tests, and that they do not qualify under either the "equipment" or "integral part" exclusions.As mentioned, the regulations state a bifurcated test which 794 focuses upon (1) the "appearance" and (2) the "purpose" or "function" of the structure. See Catron v. Commissioner, 50 T.C. 306">50 T.C. 306, 310-311 (1968); Consolidated Freightways, Inc. v. United States, 223 Ct. Cl. 432">223 Ct. Cl. 432, 620 F.2d 862">620 F.2d 862 (1980); Yellow Freight System, Inc. v. United States, supra at 796; Sunnyside Nurseries v. Commissioner, 59 T.C. 113">59 T.C. 113, 119 (1972). Recently, this Court has tended, however, to focus initially upon the "functional" test as the primary means of determining building status (see Valmont Industries, Inc. v. Commissioner, 73 T.C. 1059">73 T.C. 1059, 1072 (1980)), although not always to the exclusion of the perhaps less precise and more visceral "appearance" test. See Lesher v. Commissioner, 73 T.C. 340">73 T.C. 340, 366 (1979); Scott Paper Co. v. Commissioner, 74 T.C. 137">74 T.C. 137 (1980).150 But see Moore v. Commissioner, 58 T.C. 1045">58 T.C. 1045, 1052-1053 (1972). The problem arises because several cases have found structures which obviously appear to be buildings, not to be buildings for section 38 purposes. See Brown & Williamson Tobacco Corp. v. United States, 369 F. Supp. 1283">369 F. Supp. 1283 (W.D. Ky. 1973), affd. per curiam 491 F.2d 1258">491 F.2d 1258 (6th Cir. 1974) (tobacco sheds); Brown-Forman Distillers Corp. v. United States, 205 Ct. Cl. 402">205 Ct. Cl. 402, 499 F.2d 1263">499 F.2d 1263, 1270-1271 (1974) (whiskey maturation facilities); Thirup v. Commissioner, 508 F.2d 915 (9th Cir. 1974), revg. 59 T.C. 122">59 T.C. 122 (1972) (greenhouses).Substantially identical investment credit issues as are presently before us were dealt with in Yellow Freight System, Inc. v. United States, supra (Yellow Freight), and Consolidated Freightways, Inc. v. United States, supra (involving petitioner's taxable years 1962, 1963, and 1964). In Yellow Freight, the Eighth Circuit applied both the "appearance" and "function" tests in determining whether truck151 transshipment docks substantially identical to those before us qualified for the investment tax credit. Applying, and perhaps emphasizing, the appearance test, the court found that "The docks at issue clearly resemble buildings in their design and structural appearance." Yellow Freight System, Inc. v. United States, supra at 796. The court then found that the docks were buildings. 538 F.2d at 798. The Court of Claims in Consolidated Freightways, Inc. v. United States, 223 Ct. Cl. at , 620 F.2d at 871, also applied both tests. The court found that petitioner's docks both "appeared" to be buildings, despite the lack of traditional walls, and "functioned" as buildings.In applying the latter test, the court focused on the question 795 of "'whether the structures provide working space for employees that is more than merely incidental to the principal function or use of the structure.'" Consolidated Freightways, Inc. v. United States, 223 Ct. Cl. at , 620 F.2d at 871, quoting Brown-Forman Distillers Corp. v. United States, supra at 1271. In reaching its conclusion that petitioner's docks were "buildings," 152 the Court of Claims examined both the quantity and quality of human activity on the docks. 223 Ct. Cl. at , 620 F.2d at 873.We agree with both the Eighth Circuit and Court of Claims that docks such as those before us are "buildings," and hence, fail to qualify for the investment credit. Because, however, we believe that the functional test is dispositive, at least on the facts of this case, we shall not reach the appearance test.The functional test inquires whether "the purpose" of the structure at issue is a purpose ejusdem generis to the purposes described by example in the regulations, i.e., "to provide shelter or housing, or to provide working, office, parking, display, or sales space." Sec. 1.48-1(e)(1), Income Tax Regs. The regulations ask whether the docks perform a function similar to "apartment houses, factory and office buildings, warehouses, barns, garages, railway or bus stations, and stores." Sec. 1.48-1(e)(1), Income Tax Regs. We think it clear that they do. In making this determination an important, but not the sole, point of inquiry is the quantity and quality of human activity in the structure. Consolidated Freightways, Inc. v. United States, 223 Ct. 153 Cl. at , 620 F.2d at 873. See Thirup v. Commissioner, 59 T.C. at 128; Sunnyside Nurseries v. Commissioner, 59 T.C. at 121. As we do not believe this test different in effect from that announced by the Ninth Circuit in Thirup, which focuses on the "nature" of the human activity, 10 we apply our test. Golsen v. Commissioner, 54 T.C. 742">54 T.C. 742 (1970).We think it obvious from the record that a substantial purpose of the docks is to provide a working space154 in which the dockworkers can efficiently move freight. A great deal of evidence was included in the record with respect to what percent 796 of which sort of worker's time was spent on the docks. It is unnecessary to replicate all this evidence, here. Suffice it to say that the purpose of the dock, to move freight, is accomplished primarily by the efforts of those who work on the dock. The purpose of the dock is far more than "incidentally" to provide working space for the employees of petitioner. Human activities inside the docks were essential to the function of the docks. Both the quantity and quality ("nature") of work performed on the docks is sufficient, in our minds, to qualify them as buildings. Compare Brown-Forman Distillers Corp. v. United States, supra, and Satrum v. Commissioner, 62 T.C. 413">62 T.C. 413, 417 (1974) (reviewed by the Court), with Valmont Industries, Inc. v. Commissioner, supra.11155 Petitioner argues that the docks are excepted from the definition of building by the regulations because the docks are either (1) essentially items of machinery or equipment or (2) structures which house property used as an integral part of providing transportation services. Certainly, a structure otherwise qualifying for the credit will not be classified as a building if it is a structure which is essentially an item of machinery or equipment. See Scott Paper Co. v. Commissioner, 74 T.C. 137">74 T.C. 137 (1980). Both contentions, however, must fail in this case.As was just indicated, the docks here at issue do no more than provide a working space in which the dock workers, utilizing a variety of pieces of equipment, move freight. The docks provide the setting in which freight is moved, they are not of themselves the medium through which the men act to move freight. They are no more an item of machinery to move freight than the building in which the Tax Court is housed is an item of equipment to produce our opinions.As the dock, as a whole, is not an item of machinery or equipment, we are of the view that the dock platform cannot be isolated and deemed to be156 an item of machinery or equipment. Thus, it follows that the roof, considered alone, cannot be said to "house" property used as an integral part of providing transportation services. There is no item of machinery in issue, in or on 797 the docks, separate from the dock itself. The dock roof "houses" the dock floor only to the same extent that any building's roof "houses" the building's floor. Similarly, the dock's floor is just as much an item of machinery as is any building's floor. We conclude that the docks are "buildings" and not section 38 property.The overhead doors and mercury-vapor lamps may be dealt with as a unit. The issue here is whether these items are structural components of the docks or are "personal property." Petitioner argues that these items are not structural components of the docks because they are not permanently affixed to the docks. Respondent applies a "functional use" test and argues that, while the doors and lamps can be removed from the dock facility, removability is not the sole criterion. Rather, argues respondent, as the doors and lights at issue functioned the same as doors and lights permanently installed, which would be structural 157 components, petitioner's doors and lights should be treated as if they were permanently installed.The relevant regulations read as follows:Sec. 1.48-1(e)Definition of building and structural components. * * (2) The term "structural components" includes such parts of a building as walls, partitions, floors, and ceilings, as well as any permanent coverings therefor such as panelling or tiling; windows and doors; all components (whether in, on, or adjacent to the building) of a central air conditioning or heating system, including motors, compressors, pipes and ducts; plumbing and plumbing fixtures, such as sinks and bathtubs; electric wiring and lighting fixtures; chimneys; stairs, escalators, and elevators, including all components thereof; sprinkler systems; fire escapes; and other components relating to the operation or maintenance of a building.The thrust of this regulation is that an item will be a "structural component" of a building if it is an integral and permanent part of the structure, the removal of which will affect the essential structure of the building. However, this regulation must be interpreted in light of the Senate report which says:Tangible personal158 property is not intended to be defined narrowly here, nor to necessarily follow the rules of State law. It is intended that assets accessory to a business such as grocery store counters, printing presses, individual air-conditioning units, etc., even though fixtures under local law, are to qualify for the credit. Similarly, assets of a mechanical nature, even though located outside a building, such as gasoline pumps, are to qualify for the credit. [S. Rept. 1881, 87th Cong., 2d Sess. (1962), 3 C.B. 707">1962-3 C.B. 707, 722.]We believe that the rule applicable to this question was 798 properly stated by the Eighth Circuit in the case of Minot Federal Savings & Loan Assn. v. United States, 435 F.2d 1368">435 F.2d 1368 (8th Cir. 1970). There, the issue was whether certain movable wall partitions were personal property or structural improvements. The Commissioner advocated a functional use test, i.e., as the partitions were used as walls, and as walls are, in general, structural components of buildings, the partitions should be treated as "structural components." The court said at page 1371:We do not construe the Treasury Regulation as suggesting159 or requiring any functional or equivalent test. The regulation in discussing the structural components speaks of a building or other inherently permanent structure as being considered tangible personal property. Again, a building is defined in the regulation as meaning a structure or edifice enclosing a space within its walls usually covered by a roof. Here, the building was constructed and completed without the movable partitions and certainly does not include a wall divider any more than it would an individual window air-conditioning unit.See, e.g., Moore v. Commissioner, 58 T.C. 1045">58 T.C. 1045, 1052 (1972).Respondent's argument in this case remains unchanged from that rejected by the Minot and Moore decisions. Essentially, respondent argues that, if items which are not permanently installed are intended to remain in place for the foreseeable future, then these items should be treated identically with items that are permanently installed. Since the lamps and doors herein serve the same function or use as permanently installed lamps and doors, which would clearly be "structural components," we should treat them as structural components which160 fail to qualify for the investment credit.We are unpersuaded. The facts clearly show that the doors and lights are temporary attachments to the docks and are clearly not structural components thereof. They can be easily and quickly removed. A door can be hung in one truck bay one day and the next day be removed or moved to another bay. The lights can be hung from any hook and plugged into any regular socket. These items, therefore, are not structural components and do not "relate to the operation or maintenance" of the docks within the meaning of section 1.48-1(e)(2), Income Tax Regs. They qualify for the credit.We recognize that the Court of Claims has recently held that doors apparently identical to those before us failed to qualify for the credit. This finding was, however, based at least in part upon that court's finding that "Plaintiff has failed to demonstrate, by 799 citation of authority or otherwise, any basis for concluding that the overhead doors * * * were not structural components of a building." Consolidated Freightways, Inc. v. United States, docket No. 168-69, Opinion of Trial Judge ( Ct. Cl. 1979, 44 AFTR 2d 79-5230, 79-2 USTC par. 9440).161 Petitioner has remedied this failure in its proof in this Court.The final investment credit issue before us deals with the petitioner's claim for the fences it installs around its dock facilities. The fences are installed around only the dock facility, itself, and do not protect, for example, the dockworkers' cars. The fences are used to provide security for the freight in petitioner's possession. Indeed, it would appear that the United States requires this added security before petitioner can carry bonded merchandise in its "Sea Vans."While the fences are clearly depreciable assets, they cannot qualify for the credit as "tangible personal property" because of the explicit exclusion of the regulations. Sec. 1.48-1(c), Income Tax Regs. If at all, therefore, the fences must qualify as "other tangible property." In this connection, the issue is whether the fences are used as an integral part of furnishing transportation services within the meaning of section 48(a)(1)(B)(i). The regulation provided that:Sec. 1.48-1(d)(4)Integral part. * * Property is used as an integral part of one of the specified activities if it is used directly in the activity and is essential to 162 the completeness of the activity. Thus, for example, in determining whether property is used as an integral part of manufacturing, all properties used by the taxpayer in acquiring or transporting raw materials or supplies to the point where the actual processing commences (such as docks, railroad tracks and bridges), or in processing raw materials into the taxpayer's final product, would be considered as property used as an integral part of manufacturing.We believe that petitioner's fences are used directly in its business of providing transportation services and are essential to that activity. Indeed, it is doubtful if petitioner could sucessfully operate as a freight mover at all if it could not provide reliable, including theftproof, transportation services. The fences, therefore, qualify for the credit.Our holding on this point is supported by our case in Spalding v. Commissioner, 66 T.C. 1017">66 T.C. 1017 (1976). There we dealt with a fence around a vehicle-wrecking yard. We held that the fence qualified as an item used as an integral part of "manufacturing" or "production." Before us, respondent explicitly did "not 800 contend that the instant case163 is distinguishable from Spalding" but asked the Court to reconsider our holding therein. We have reconsidered our holding and affirm it. Further, this identical issue was presented to the District Court in Yellow Freight System, Inc. v. United States, 413 F. Supp. 357">413 F. Supp. 357, 371 (W.D. Mo. 1975), revd. and remanded on other grounds 538 F.2d 790">538 F.2d 790 (8th Cir. 1976). There, the court reached the same conclusion we have here.Finally, we must decide the correctness of petitioner's claimed deductions with respect to its payments to Seaboard. Four documents are relevant to this consideration -- the application form, the indemnity agreement, the collateral agreement, and the bonds filed by Seaboard with the various jurisdictions requiring them, samples of which were included in the record. By the indemnity agreement, petitioner bound itself to indemnify Seaboard against any loss Seaboard might incur as a result of its execution of the bonds Seaboard was to file. 12 By the bonds, Seaboard, as surety, bound itself to make good any damages for which petitioner was liable, within the limits set by law. By the collateral agreement, petitioner164 bound itself to deposit with Seaboard 100 percent of any claim reserve established by petitioner's claim division with respect to any claim against petitioner for which Seaboard might be liable. 13 The application form repeated all these provisions.165 Both parties agree that the claimed deductions are not allowable except to the extent described in section 461(f). Further, both sides agree that the operative provision of section 461(f), for purposes of this case, is section 461(f)(2). Respondent 801 specifically concedes that the transfers were beyond petitioner's control within the meaning of section 1.461-2(c)(1), Income Tax Regs., and that the deposits meet the requirements of section 461(f)(4). Section 461(f) provided as follows during the taxable years in issue:SEC. 461(f). Contested Liabilities. -- If -- (1) the taxpayer contests an asserted liability,(2) the taxpayer transfers money or other property to provide for the satisfaction of the asserted liability,(3) the contest with respect to the asserted liability exists after the time of the transfer, and(4) but for the fact that the asserted liability is contested, a deduction would be allowed for the taxable year of the transfer (or for an earlier taxable year),then the deduction shall be allowed for the taxable year of the transfer * * The section of the regulations relevant to our discussion herein is as follows:Sec. 1.461-2 Timing of deductions166 in certain cases where asserted liabilities are contested.(c) Transfer to provide for the satisfaction of an asserted liability -- (1) In general. A taxpayer may provide for the satisfaction of an asserted liability by transferring money or other property beyond his control (i) to the person who is asserting the liability, (ii) to an escrowee or trustee pursuant to a written agreement (among the escrowee or trustee, the taxpayer, and the person who is asserting the liability) that the money or other property be delivered in accordance with the settlement of the contest, or (iii) to an escrowee or trustee pursuant to an order of the United States, any State or political subdivision thereof, or any agency or instrumentality of the foregoing, or a court that the money or other property be delivered in accordance with the settlement of the contest. A taxpayer may also provide for the satisfaction of an asserted liability by transferring money or other property beyond his control to a court with jurisdiction over the contest. Purchasing a bond to guarantee payment of the asserted liability, an entry on the taxpayer's books of account, and a transfer to an account which is within167 the control of the taxpayer are not transfers to provide for the satisfaction of an asserted liability. In order for money or other property to be beyond the control of a taxpayer, the taxpayer must relinquish all authority over such money or other property.Respondent argues that, as the transfers in issue were not made directly to the person asserting liability, the deposits herein could qualify for deduction only if they were "to an escrowee or trustee pursuant to a written agreement (among the escrowee or trustee, the taxpayer, and the person who is asserting the liability) that the money or other property be 802 delivered in accordance with the settlement of the contest." Sec. 1.461-2(c)(1)(ii), Income Tax Regs. Respondent goes on to argue that the transfers herein fail because (1) as none of the various documents referred to above are signed by the persons asserting the liability against petitioner, the various agreements are not "among the escrowee or trustee, the taxpayer, and the person who is asserting the liability," (2) none of the papers satisfy the requirement that money deposited with Seaboard "be delivered [to the person asserting the liability] in accordance168 with the settlement of the contest," and (3) the deposits do not qualify as transfers "for the satisfaction of an asserted liability." Thus, respondent argues that petitioner is not entitled to the deductions at issue because the deposits were not made to "provide for the satisfaction of the contested liabilities because the transfer of money or other property was not made pursuant to the required written agreement or to an allowable person." Finally, respondent argues that while a transfer deductible under section 461(f) may be to the claimant, or to an escrowee or a trustee, the payments to Seaboard were mere pledges and therefore fail, once again, to qualify for deduction.Petitioner, on the other hand, makes a variety of arguments and alternative arguments; some ingenious, some not. Thus petitioner argues that section 1.461-2(c)(1), Income Tax Regs., is invalid because "On its face, the regulation is more technical and specific in its requirements than the statute." In the alternative, petitioner argues that, if this Court should find against it on the regulation, the regulation would still be invalid as an impermissible restriction of the scope of section 641(f). Next, petitioner169 argues that we should apply our opinion in Poirier & McLane Corp. v. Commissioner, 63 T.C. 570">63 T.C. 570 (1975), revd. 547 F.2d 161">547 F.2d 161 (2d Cir. 1976), to the facts before us to find the transfers made by it to Seaboard fall within the requirements of section 461(f)(2). 14 Petitioner also argues that the Second Circuit's opinion in Poirier & McLane was erroneous because it was actually concerned with principles applicable to section 461(f)(4), i.e., whether the payments made to the trust in that case qualified for deduction under the "all events test" or whether they were merely tax motivated and substanceless transfers. On another 803 front, petitioner argues that its various agreements with Seaboard established a trust of which Seaboard was trustee, petitioner was settlor, and petitioner's claimants or judgment creditors were beneficiaries. The arrangement between Seaboard and petitioner is a trust, argues petitioner, because the "arrangement is a classic example of a pledge placed in the pledgee's hands as security in the event of default on an obligation." Suffice it to say, and understandably enough, that petitioner makes170 every possible argument imaginable. To the extent that petitioner makes arguments which are not described above, they will be elucidated if and when relevant.Our decision in Poirier & McLane involved the question of whether the transfer to what has been called a "secret" trust, i.e., a trust formed and funded without the benefit of notice to the trust beneficiaries, was valid where the transfer was, in respect of certain contested claims, against the settlor. In Poirier & McLane, the parties presented us with two questions: (1) Whether the transfer therein put the trust corpus beyond the control of the transferor/settlor, and (2) whether the trust instrument was defective because it was not signed by persons asserting liability. We held that the transfer was one which put the trust res beyond the taxpayer's control. We also held that there was no requirement in the regulations171 that the trust agreement be signed by the claimant. In sum, therefore, we found that, on the facts of that case, there had been a valid "transfer" within the meaning of section 461(f). The Second Circuit disagreed with this ultimate conclusion and we were reversed. Poirier & McLane Corp. v. Commissioner, 547 F.2d 161">547 F.2d 161 (2d Cir. 1976).The Poirier & McLane case is, we believe, inapposite. The "control" issue is conceded with respect to the case before us. Respondent's assertion that, in order to qualify as the medium of a valid section 461(f) "transfer," the trust or escrow papers must be actually "signed" by the claimants, has been rejected for good and sufficient reasons by this Court ( Poirier & McLane Corp. v. Commissioner, 63 T.C. at 579), and possibly by the Second Circuit ( Poirier & McLane Corp. v. Commissioner, 547 F.2d at 167). We need not here take a second turn around that bush. Finally, and most importantly, however, is that the Poirier & McLane case involves radically different facts, and hence, legal principles. It was obvious, both to this Court and the Second 804 172 Circuit, that the taxpayer in Poirier & McLane actually made a beneficial transfer of funds beyond its control, and that the intent and purpose behind these transfers was to provide for the satisfaction of potentially successful claimants. In Poirier & McLane we found that it was the clear intent of the petitioner therein and the trustee that, should the petitioner therein be deemed liable, the very dollars in the trustee's hands would be the ones disbursed to the prevailing claimants. We are not faced with the same unbroken chain in this case. Rather, while Seaboard would have, no doubt, used the funds deposited with it to discharge any liability it might have incurred as surety of petitioner's obligations, neither Seaboard nor petitioner anticipated that this was a likely possibility. Neither Seaboard nor petitioner intended that the dollars petitioner deposited with Seaboard would ever be used to pay a single claim. In fact, they never were so used. The dollars that went to Seaboard, which were admittedly put beyond the control of petitioner and for which it seeks a deduction, were not, and were never intended to be, the same dollars that went to the claimant in settlement173 of his claim. These latter funds came directly from petitioner and were paid as the result of the independent (from Seaboard) negotiations between petitioner and the claimant.The purpose of the transfers herein was to make a deposit of collateral with Seaboard with a view to protecting Seaboard against unforeseen loss and thereby inducing Seaboard to file the bonds required of petitioner in order that petitioner could operate in commerce and yet still be, in effect, self-insured. There was no intent that the amounts deposited would ever be paid over to any claimant, regardless of the outcome of any claim against petitioner. All parties anticipated that the deposits would be returned to petitioner upon the settlement of the claim -- and all such payments actually were returned to petitioner. 15 Clearly, then, as the payments before us were made to provide for Seaboard's security and not "to provide for the satisfaction of the asserted liability," as is required by section 461(f)(2), they are not deductible under section 461(f).174 Implied in our conclusion that the payments before us were 805 not made to provide for the satisfaction of the asserted liability, and therefore fail the test of section 461(f)(2), is our conclusion that the payments to Seaboard were not paid pursuant to a written agreement that the deposits be paid in accordance with the outcome of the litigation and, therefore, fail to meet that part of the requirements of section 1.461-2(c)(1)(ii), Income Tax Regs. Whether the various agreements between Seaboard and petitioner, and the bonds, are taken individually or as a whole, there is no requirement anywhere in them, either explicit or implicit, that the deposits be delivered in accordance with the outcome of the contest. Rather, it is clear that the various agreements were entered into solely to protect Seaboard, so that petitioner could continue to operate as self-insured. The regulations are a clear and reasonable interpretation of the law and Congress' intent behind it. The regulation states the rule that the payment described in section 461(f) must be transferred under a written agreement "that the money * * * be delivered in accordance with the settlement." (Emphasis added.) 175 There is no option implied in the regulation that a contract, like the collateral agreement, will satisfy this requirement. We refuse to create one.Finally, the parties have pointed out still another reason why the payments to Seaboard are not deductible under section 461(f). The legislative history behind section 461(f) indicates that Congress viewed section 461(f)(2) as authorizing a deduction for payments made to the claimant or to an escrowee. S. Rept. 830 (Part 2), Technical Explanation of the Bill, 88th Cong., 2d Sess. (1964), 1964-1 C.B. (Part 2) 701, 746. The regulations authorized a third type of payment, one to a trust set up like an escrow, i.e., a trust among all the parties thereto. Neither party has raised the argument that the suretyship arrangement before us could qualify as an escrow, and we think it clear that it does not. The question remains, therefore, whether the arrangement qualifies as a trust. Petitioner argues (1) that the arrangement does qualify as a trust, and (2) if it does not qualify as a trust, the regulation is invalid to the extent that it requires a trust arrangement.We have already described our view of the regulation176 as a reasonable interpretation of the law which must be upheld. See Commissioner v. South Texas Lumber Co., 333 U.S. 496">333 U.S. 496, 501 (1948). The question, therefore, arises: Is the suretyship arrangement 806 a trust within the meaning of the regulation? We refer once again to section 1.461-2(c)(1)(ii), Income Tax Regs. That paragraph requires (1) a trust, and (2) a written agreement among the taxpayer, trustee, and the "person who is asserting the liability."Petitioner argues that a trust is present which is a "classic example of a pledge." A trust is clearly not a pledge. A trust has been defined as "a fiduciary relationship with respect to property, subjecting the person by whom the title to property is held to equitable duties to deal with the property for the benefit of another person, which arises as a result of a manifestation of an intention to create it." 1 A. Scott, Trusts, sec. 2.3, pp. 37-38 (3d ed. 1967). A pledge, on the other hand, has been defined as a "security interest in a chattel * * created by a bailment for the purpose of securing the * * * performance of some other duty." Restatement, Security, sec. 1 (1941). See In re R & L Engineering Co. v. Commissioner, 182 F. Supp. 317">182 F. Supp. 317, 319 (S.D. Cal. 1960).177 Thus, for example, title does not pass to a pledgee. See Mount Tivy Winery v. Lewis, 134 F.2d 120">134 F.2d 120, 124 (9th Cir. 1943). Although a pledge is sometimes spoken of as in the nature of a trust, it is not a trust and has not the legal consequences of a trust. The pledgee does not owe the pledgor the fiduciary duties owing by a trustee to a beneficiary. 1 A. Scott, Trusts, sec. 9, p. 84 (3d ed. 1967).In pressing its theory upon us that petitioner's deposits of money with Seaboard are a "pledge" of the money and therefore "a trust," petitioner cites us to the case of Wade v. Markwell & Co., 118 Cal. App. 2d 410">118 Cal. App. 2d 410, 258 P.2d 497">258 P.2d 497 (1953). That case involved the conversion of a mink coat pawned to the corporate defendant. The pledge agreement there in issue, which contract was apparently what might be currently referred to as an "adhesion contract," provided that the pledgee could sell the pledge without notice and at public or private sale. Wade v. Markwell & Co., 258 P.2d at 500. These rights, which were not granted pledgors at common law (258 P.2d at 506),178 were no doubt a large consideration when the court said:Defendant contends that the court's finding that the pledgee's sale was a fictitious proceeding is contrary to the undisputed evidence. It is argued that defendant complied fully with all the technical requirements of the law in selling plaintiff's coat at "public auction, in the manner and upon the notice of sale of personal property under execution" as prescribed in the applicable statutes. Yet however much there may be external, literal compliance with the 807 formalities of the law, and however comprehensive may be the power of sale vested in a pledgee, the circumstances attending such a sale are subject to strictest scrutiny by the courts. For the relation between pledgor and pledgee, wherein the latter is empowered to sell a pledge placed in his hands as security for a debt in the event of default, is in the nature of a trust. Occupying a status akin to that of a fiduciary, and being accorded by the code powers in derogation of the common law such as the right himself to become a purchaser at a sale wherein the pledge may be disposed of without notice to the debtor, if so agreed upon, there is all the more reason179 why the pledgee is held to the utmost good faith in his transactions both with the pledged property and the pledgor. Though the pledgor has waived virtually all the protection afforded him at common law, he has not waived the right to have his collateral sold at an honest sale to the highest bidder. For it has been held that even where a contract waives notice and permits a sale to himself, the pledgee is still a "'trustee to sell,' not to buy, though with the privilege of buying, if fairly sold." [Citations omitted.]In the same vein, and perhaps a better case for petitioner, is the case of Ferro v. Citizens National Trust & Savings Bank, 44 Cal. 2d 401">44 Cal. 2d 401, 282 P.2d 849">282 P.2d 849 (1955). There, the court dealt with an action for damages against a bank which had mishandled the proceeds of insurance on wine which had been destroyed by fire. There, the Supreme Court of California said at pages 852-853:Ferro pledged the warehouse receipts for his wine as collateral security for the payment of his debt to defendant. A pledgee of collateral security for the payment of a debt is a trustee of the pledgor. After the wine was destroyed, the insurance180 proceeds took the place of the wine and when those proceeds came into defendant's possession they likewise became subject to the trust established by the pledge. Defendant could properly apply those proceeds to discharge the obligation secured by the pledge, but upon satisfaction thereof, it was obliged to return any surplus that remained to the pledgor, Ferro. Its failure to do so was a breach of trust. [Citations omitted.]We believe that the California Court of Appeal in Wade v. Markwell & Co., supra, used the word "trust," not in the technical sense, but to emphasize the fiduciary duties which had been violated in the case before it. By the same token, the Ferro court did not, we believe, intend to create a new type of trust/pledge, thereby confusing those two concepts. Rather, again, it spoke loosely when it referred to "trusts." These cases do not, therefore, help petitioner in its quest to render water into wine. On the other hand, if the rule in California is that a "pledgee of collateral security * * is a trustee to the pledgor" then, again, petitioner must fail because the pledgor in such a case must occupy both the181 status of settlor and of beneficiary -- as opposed to the regulations' requirement of transfer for the 808 benefit of claimant. See Cal. Com. Code secs. 1201(37), 9305 (West).With respect to the second requirement of the regulations, i.e., for a written agreement between the taxpayer, trustee, and the person asserting the liability, we have already concluded that petitioner's claimants were not at all involved in the suretyship arrangement. The beneficiary of the indemnity and collateral agreements was Seaboard, not petitioner's claimants. In sum, petitioner has confused its relations with Seaboard. Petitioner stood in two disparate capacities with respect to Seaboard. It was the principal in a suretyship relationship between itself and Seaboard. To induce Seaboard to undertake this obligation, it also was a pledgor of collateral to Seaboard. Petitioner never parted with ownership of the transferred sums, just their possession. It reported the income earned thereon and treated the amounts paid as prepaid expenses. While Seaboard clearly had certain fiduciary obligations toward petitioner, these obligations did not constitute trust obligations. As no trust was present, 182 the arrangement before us fails the requirements of the regulations that a trust be used. 16Decision will be entered under Rule 155. Footnotes1. At all times relevant hereto, petitioner Consolidated Freightways, Inc., was the common parent of an affiliated group which included the following corporations:Affiliated corporationTaxable yearsAetna Freight Lines, Inc.1969-70, incl.Alaska Consolidated Freightways Corp.1966-68, incl.CF Air Freight, Inc.1966-70, incl.C. F. Tank Lines, Inc.1970CF Temp Control, Inc.1970Consolidated Freightways Corp. of Delaware1966-70, incl.Consolidated Metco, Inc.1966-70, incl.Consoldiated Pacific Express, Inc.1966-68, incl.Consoldiated Warehouse Co. of California1966-70, incl.Freightliner Corp.1966-70, incl.Freightliner Corp.(an Alabama corporation)1968-70, incl.Freightliner Corp.(a Maine corporation)1968-70, incl.Freightliner Corp.(a Nevada corporation)1968-70, incl.Freightliner Corp.(a Tennessee corporation)1968-70, incl.Freightliner Corp.(a West Virginia corporation)1968-70, incl.Freightways Terminal Co.1966-70, incl.General Aluminum Corp.1968-70, incl.Transicold Corp.1966-69, incl.Transportation Equipment Rentals, Inc.1966-68, incl.Westfab Manufacturing Co.1966-70, incl.As common parent, petitioner Consolidated Freightways, Inc., is authorized to act in its own name on behalf of all its subsidiaries. Sec. 1.1502-77(a), Income Tax Regs.↩2. No second supplemental stipulation of facts was filed by the parties.↩3. The parties have stipulated that, for purposes of this proceeding, investments in maintenance shops, office structures, and other items previously claimed by petitioner in its petition as investments in "Section 38 property," in the amounts specified below, do not qualify as "Section 38 property":Amount of investmentsNon-sec. 38property19661967196819691970Maintenanceshops$ 598,884$ 142,326$ 19,703$ 864,523$ 182,558Officestructures$ 319,954$ 750,652$ 451,057$ 1,934,352$ 635,986Other3,08228,03113,56237,90911,153Total921,920921,009484,3222,836,784829,697The term "maintenance shops" includes costs for site preparation, floors, siding, roofs, structural elements, standard electrical wiring, sprinkler system, waterproofing, as well as certain other items. The term "office structures" includes all the components and contents of petitioner's office structure, unless an investment tax credit was allowed for such items in the statutory notice of deficiency. The term "other" includes the costs of various items such as customer identification signs, flagpoles, and small work buildings only in those locations in which investment tax credit was not allowed for such items in the statutory notice of deficiency.↩4. The towveyor originally installed in the Kansas City terminal, constructed prior to taxable year 1966, was of the conventional type pulled by a chain installed under the concrete dock platform. When the dock extension at that dock was placed in service in 1967, the entire towveyor was converted to the overhead type.↩5. Petitioner was not required to file bonds in Ohio, South Dakota, South Carolina, and the District of Columbia.↩6. A copy of a bond Seaboard filed with the United States effective Jan. 1, 1969, provides, for example, that:"The Surety shall not be liable for an amount in excess of $ 2,500 in respect of the loss of or damage to property belonging to shippers or consignees carried on any one motor vehicle at any one time, nor in any event for an amount in excess of $ 5,000 in respect of any loss of or damage to or aggregate of losses or damages of or to such property occurring at any time and place."↩7. "Estoppel," as used by petitioner, no doubt includes both "estoppel in pais" and "equitable estoppel."↩8. They are: "(1) conduct constituting a representation of material fact; (2) actual or imputed knowledge of such fact by the representor; (3) ignorance of the fact by the representee; (4) actual or imputed expectation by the representor that the representee will act in reliance upon the representation; (5) actual reliance thereon; and (6) detriment." T. Lynn & M. Gerson, "Quasi-Estoppel and Abuse of Discretion as Applied Against the United States in Federal Tax Controversies." 19 Tax L. Rev. 487">19 Tax L. Rev. 487, 488↩ (1963-64). Emphasis added.9. This subparagraph was amended by T.D. 7203, 2 C.B. 12">1972-2 C.B. 12, 24 (effective Aug. 25, 1972) to read as follows:"(e) Definition of building and structural components↩. (1) * * Such term does not include (i) a structure which is essentially an item of machinery or equipment, or (ii) a structure which houses property used as an integral part of an activity specified in section 48(a)(1)(B)(i) if the use of the structure is so closely related to the use of such property that the structure clearly can be expected to be replaced when the property it initially houses is replaced. Factors which indicate that a structure is closely related to the use of the property it houses include the fact that the structure is specifically designed to provide for the stress and other demands of such property and the fact that the structure could not be economically used for other purposes. Thus, the term "building" does not include such structures as oil and gas storage tanks, grain storage bins, silos, fractionating towers, blast furnaces, basic oxygen furnaces, coke ovens, brick kilns, and coal tipples."10. "We find the distinction based on the amount of human activity unpersuasive. The proper inquiry, which goes to the nature of the employee activity inside the structures, is 'whether the structures provide working space for employees that is more than merely incidental to the principal function or use of the structure.' [Thirup v. Commissioner, 508 F.2d 915">508 F.2d 915, 919 (9th Cir. 1974), revg. 59 T.C. 122">59 T.C. 122↩ (1972).]"11. In passing, we note that the docks, here, also "appear" to be buildings. While many have doors on all sides, this cannot void the fact that the doors are hung on walls which enclose space -- whether or not the doors are open. The petitioner does not fare any better under this test.↩12. The indemnity agreement stated in pertinent part as follows:"1. The Indemnitors will * * * indemnify and keep indemnified the Surety and hold and save it harmless * * * ; to pay over, reimburse and make good to the Surety, its successors or assigns, all money which the Surety or its representatives shall pay, or cause to be paid or become liable to pay * * * , by reason of the execution of such bond or bonds * * "↩13. The collateral agreement stated in pertinent part as follows:"A. * * deposit or cause to be deposited with Surety, as collateral, cash or securities acceptable to Surety, or both, having a total current value of not less than 100% of the aggregate of the reserves set up by the principals on claims for which Surety is or may be responsible under such bond or bonds or policies as security (a) against any and all liability, loss, costs, damages, expenses, and attorneys' fees arising or incurred in connection with any such bond or policy heretofore or hereafter procured by the Surety at the instance or inquest [sic] of the Principal [sic] or any of them, and (b) for the performance of every agreement made by the Principals in connection with such bond or policy (including but not limited to Principals Indemnity Agreement in favor of Surety)."↩14. At the same time, petitioner argues that the "facts in the instant case are materially different from those in Poirier & McLane↩."15. While Seaboard continued to hold a large amount of deposits after the surety arrangements here at issue were terminated, it is clear that these will be returned when Seaboard no longer perceives any risk of loss out of its contracts with petitioner.↩16. Here, we note in passing that, while petitioner stipulated that the "amounts petitioner transferred to Seaboard as 'deposits' pursuant to the March 1, 1961 agreement were equal to the full amount↩ of petitioner's estimated liability to third parties," we have interpreted these stipulations, beneficially for petitioner, to mean "full amount up to Seaboard's liability limits."	01-04-2023	11-21-2020

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