text:
    W. L. Honnold, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 55211.
    Promulgated May 23, 1934.

      E. C. Alvord, Esq., and Paul Armitage, Esq., for tho petitioner.

      J. A. Adams, Esq., for tlie respondent.
   OPINION.

Marquette :

The respondent has determined a deficiency in income tax for the year 1927 in the amount of $510,545.33. The petitioner asserts that the respondent has erred (1) in including in his gross income the income of “The Honnold Foundation,” including the income arising from the sales and exchanges of certain assets; (2) in computing the profit arising from such sales and exchanges; and (3) in denying him the right to deduct from his gross income donations made to the Foundation in the amount of $12,638.53. The second issue has been reserved for consideration until the first and third issues have been determined.

The facts have been stipulated and the stipulation is made a part hereof. The pertinent facts thus disclosed are: On June 24, 1926, at Los Angeles, California, the petitioner and his wife executed the following written instrument and accompanying declaration of policy, such declaration being the only one that had been executed up to the time of the hearing of this case:

This Indentobe made tbis 24tb day of .Tune, 1926, by tbe undersigned William L. Honnold and Caroline Honnold, of Los Angeles, California,
WITNESSETH :
Whereas, said William L. Honnold has created a certain trust fund or foundation which ho has designated and which is to be known as The Honnold Foundation, and has transferred to and vested in the undersigned William L. Honnold and Caroline Honnold as the trustees of said fund or foundation certain securities to be held by them in trust for the uses and purposes and subject to the terms, provisions, and conditions hereinafter set forth; and
Whereas, said trust fund so created and said securities so transferred and vested in trust now consist of seventy-four hundred ninety-five (7,495) shares of preferred stock of General and Mining Investments, Limited, a Canadian corporation,
Now, Therefore, This Indenture Further Witnesseth :
The trustees for themselves and their successors in office do hereby certify and declare that the creation of said trust fund and the assignment and vesting of said securities in the trustees was and is without consideration passing from the trustees as such; an'd that the trustees have received and accepted said securities, and they and their successors in office will hold said securities together with any additional moneys, securities, and properties that may be transferred to or vested in the trustees or their successors in office during the life of this trust pursuant to the provisions hereof, in trust for the uses and purposes herein stated and subject to the following terms, provisions, and conditions, to-wit:
1. Said trust fund and the trust hereby created shall be known as The Honnold Foundation.
2. In the event of the death of said William L. Honnold leaving said Caroline Honnold him surviving, said Caroline Honnold shall be entitled to an annuity for and during her natural life to be paid from or to be purchased with income and/or principal of the trust estate, such annuity to be payable to her at the rate of Fifty Thousand Dollars ($50,000) per annum in quarterly payments commencing three (8) months after the date of the death of said William L. Honnold and ending at the termination of the life of said Caroline Honnold. The trustees may pay said annuity from the income and/or principal of the trust estate or they may purchase said annuity from a life insurance company of good standing at such time, in such manner, and on such terms and conditions as they may consider convenient in the administration of the trust.
3. Subject to the provisions of the preceding paragraph, said trust or foundation is created and organized and shall be administered exclusively for religious, charitable, and educational purposes. Any and all funds of the trust estate and any and all income derived therefrom that shall be paid, applied, or set aside by the trustees pursuant to the provisions of subdivision (c) of division 4 hereof shall be used exclusively for religious, charitable, or educational purposes and no part thereof shall at any time be applied for or inure to the benefit of any private shareholder or individual.
4. Subject to the limitations and restrictions imposed by the provisions of the preceding paragraph, the trustees acting hereunder shall have full power and authority throughout the continuance in effect of said trust or foundation to do and perform the following things:
(a) To hold, maintain, and continue in trust said securities so transferred to and vested in them, together with any additional securities, moneys, and properties that may be transferred to or vested in them and become subject to the provisions hereof as herein provided; to sell, exchange, convert, and assign said securities and properties; to receive and collect all dividends, interest, issues, and profits that may accrue to or be paid respecting the trust estate; to invest and reinvest each and every part of the trust estate, including said dividends, interest, issues, and profits, in such securities, properties, and investments as the trustees may deem proper, without limitation or restriction of any hind as to the character or class of such securities, properties, and investments; and in all respects to manage, handle, and dispose of each and every part of the trust estate in such manner and upon such terms and conditions as the trustees may deem proper.
(b) To make, enter into, execute, and issue any and all contracts, agreements, obligations, and debentures of every kind and character, and to charge and encumber to such extent and in such manner as the trustees may deem advisable any and all of the properties and assets of the trust estate for the performance and discharge of any and all such contracts, agreements, obligations, and debentures; provided, however, that no such contract, agreement, obligation, or debenture shall obligate or shall be construed to obligate the trustees or either of them personally, but shall bind and shall be construed to bind only the properties and assets of the trust estate.
(e) To pay, apply, and/or set aside all or any part of the net income from the trust estate and any or all of the principal thereof, to or for the use or benefit of any person, corporation, association, or institution for the purpose or promoting, assisting, or carrying on any religious, charitable, or educational activity or object which the trustees acting in consonance with the declaration of policy hereinafter referred to, may consider deserving or worthy of encouragement or support.
(d) To maintain an office or offices, to employ any and all officers, agents, and assistants that the trustees may deem necessary or desirable for administering said trust or foundation or carrying, on the work thereof pursuant to the provisions hereof, and to carry on any work and to incur any expense that the trustees may consider necessary or desirable in the conduct of the affairs of the trust or foundation.
(e) To receive from the gross income of the trust estate reasonable compensation for their services as trustees in carrying on the work of the trust or foundation pursuant to the provisions hereof.
5. Said William L. Honnold and Caroline Honnold or their survivor shall have the right to designate from time to time persons, corporations, associations, and institutions that shall be or become beneficiaries of the trust hereby created and declared, and to determine from time to time any and all matters respecting the administration of said trust, provided such designation or such determination be made so as not to permit the use of any of the trust fund for any other than religious, charitable, or educational purposes, and so as not to permit any of the earnings of the trust fund to inure to the benefit of any private shareholder or individual. Such designation of beneficiaries and such determination shall be embodied in a declaration of policy which shall be in writing and shall be deposited with and held by the trustees. Said William L. Honnold and Caroline Honnold or their survivor may at any time amend in any respect whatever any declaration of policy then in effect hereunder or substitute a new declaration, of policy for the one then in effect. The trustees acting hereunder shall at all times conform to the provisions of said declaration of policy.
6. Said William L. Honnold and Caroline Honnold or either of them shall have the right at any time during the life of the trust or foundation hereby created to add or cause to be added to said trust fund and to transfer to and vest in or cause to be transferred to or vested in the trustees acting hereunder, by deed, will, or otherwise, any additional moneys, securities, and properties to become subject to the provisions of the trust hereby created. Such additions to the trust fund may be absolute and without limitation or condition, or may be made on such, terms and subject to such limitations, conditions, and provisions as the trustees may accept or impose.
7. Bach of the two trustees named herein shall have power and authority to designate his or her successor as trustee, and on making such designation may fix the compensation of such successor and may specify the manner of succession to the office of such successor. Said William L. Honnold may increase the number of trustees to three by appointing an additional trustee, may fix the compensation of said additional trustee and may specify the manner of succession to the office of such additional trustee. Such additional trustee shall hold office at the pleasure of said William L. Honnold. If on the death, renunciation, or discharge of any trustee acting hereunder, his or her successor shall not have been designated pursuant to the provisions hereof, the trust shall survive to the other trustee or trustees. If in the event of such survival there remains but one trustee, he or she may act alone or may appoint a eotrustee, and in the event of such appointment, may fix the compensation of such cotrustee and may specify the manner of succession to the office of such cotrustee. If there be no trustee named or qualified to act hereunder, a trustee shall be appointed by a court of competent jurisdiction on the application of any person or corporation for the benefit of which funds of the trust estate may theretofore have been paid or applied hereunder, or on the application of any person or corporation holding any funds or properties of the trust. If there be three trustees, the act of one or the act of two shall be effectual if the other or others shall have given the remaining trustee or trustees authority in writing to act for all; and if there be two trustees, the act of one shall be effectual if the other shall have given the remaining trustee authority in writing to act for both. The trustees named herein shall act as such without giving bond, but their successors and any trustee appointed as hereinabove provided and his or her successors may be required by the person or court making the appointment to give bond for the faithful discharge of their duties, which bond shall be of such character and in such amount as may be fixed by the person or court making the appointment. Any designation or appointment of trustee by an individual or any exercise of authority by an individual pursuant to the provisions of this paragraph shall be made by an instrument in writing-filed among the records of the trust.
8. At any time during the life of said William L. Honnold and Caroline Honnold or the survivor of them the trustee or trustees then acting hereunder may terminate the trust by transferring the entire trust fund then remaining to a corporation or corporations organized and operated exclusively for religious, charitable,, and/or educational purposes; and if the trust be not so terminated then on the demise of the survivor of said William L. Honnold and Caroline Honnold the trustee or trustees then acting hereunder shall terminate the trust by transferring the entire trust fund then remaining to such a corporation or to such corporations. Should the declaration of policy hereinabove referred to designate such corporation or corporations such transfer shall be made to the corporation or corporations so designated. Any such transfer terminating the trust shall be made conditional on the assumption by the transferee or transferees of such obligations then outstanding as may have been created or entered into pursuant to the provisions hereof. Any such transfer if made during the lifetime of said William L. Honnold or Caroline Honnold or the survivor of them shall be made on such terms and conditions and subject to such provisions as they or their survivor may specify; and if made after the demise of the survivor of them shall be made on such terms and conditions and subject to such provisions as the trustees acting pursuant to said declaration of policy may specify; provided however, that such terms, conditions, and provisions shall not permit the use of any of the trust fund for any other than religious, charitable, or educational purposes and shall not permit any of the earnings of the trust fund to inure to the benefit of any private shareholder or individual.
9. (a) Said William L. Honnold, acting in conjunction with said Caroline Honnold, shall have the power to amend this declaration of trust or any of the provisions hereof in any respect whatever or to terminate and revoke the trust in whole or in part by filing among the records of the trust a notice of such amendment or of such termination and revocation as the case may be.
(b) In the event of the death of said Caroline Honnold leaving said William L. Honnold her surviving, said William L. Honnold shall have the power, hi a year subsequent to the year in which the notice hereinafter described is filed as hereinafter provided, to amend this declaration of trust or any of the provisions hereof in any respect whatever or to terminate and revoke the trust in whole or in part, provided he shall file among the records of the trust a notice declaring that he will make such amendment or will terminate and revoke the trust in whole or in part in a year specified in said notice subsequent to the year in which said notice is so filed. Said amendment or said termination and revocation as the ease may be shall be made by filing among the records of the trust in the subsequent year specified in said notice an instrument in writing setting forth such amendment or declaring such termination or revocation to be effective.
(c) Harvey S. Mudd of Los Angeles, California, shall have the power individually at any time during the life of said William L. Honnold to amend this declaration of trust or any of the provisions hereof in any respect whatever or to terminate and revoke the trust in whole or in part by filing among the records of the trust a notice of such amendment or of such termination and revocation as the case may be; provided, however, that he shall not have the power to amend, terminate, or revoke any of the provisions of division 2 hereof or to amend, terminate, or revoke any of the powers conferred upon said William L. Honnold and Caroline Honnold or upon said William L. Honnold by the provisions of this division 9.
(d) In the event of the termination and revocation of the trust as provided in this division 9, the title to the trust property affected thereby shall revest in said William L. Honnold subject to such obligations of the trust then outstanding as may have been created or entered into pursuant to the provisions hereof.

The said declaration of policy is as follows:

Pursuant to the provisions of division 5 of that certain declaration of trust dated the 24th day of June, 1926, which created The Honnold Foundation, we, William L. Honnold and Caroline Honnold, do hereby declare it to be our policy and desire that on the demise of the survivor of us, after the discharge of all obligations of the trust then outstanding including all authorized unpaid pledges recorded in the minute book of the foundation, the trust fund then held by the trustee or trustees acting under said declaration of trust, including all the accumulated and accrued income, shall be transferred by the trustee or trustees to Claremont College, a California corporation.

The petitioner was born in Illinois in 1866. His profession is that of mining engineer. After practicing his profession in various parts of the United States and Europe, South Africa, and other parts of the world, he first became a legal resident and inhabitant of California in 1924.

During the years 1926 and 1927 the above declaration of trust was not amended, modified, or revoked in any manner. No persons other than those named therein have acted or been appointed as trustee. The declaration of trust has been twice amended since 1927. One amendment dated December 31, 1931, among other things, provided that Caroline Honnold should be entitled to an annuity of $6,000 per annum on and after January 1, 1932. Certain other amendments were made on December 30, 1932, among which was one conferring on Caroline Honnold individually during her life the power to amend, administer, or revoke the trust. The Honnold Foundation was created for the purpose of enabling the petitioner and his wife, Caroline, to dispose of substantially their entire estate for religious, charitable, and educational purposes. It was conceived by them many years prior to 1926. The petitioner’s wife is the only person dependent upon him and they are without descendants. Their collateral relatives are well provided for. In accordance with this plan, which was conceived and developed by petitioner and his wife, they have provided by their wills that upon the death of the survivor the entire estate of such survivor shall pass to the Foundation after the satisfaction of certain personal pecuniary bequests. The petitioner has at no time received any part of the income of the Foundation. The power of revocation vested in the petitioner and his wife and in Mudd was the conception of the petitioner’s counsel. Mudd and the petitioner have been friends since 1924 and have offices in the same suite. They have had some common business interests but have never been partners. They are not related by blood or connected by marriage. On December 6, 1932, Mudd was first informed that the power of revocation had been vested in him.

During the calendar year 1927 the persons designated as trustees, acting in accordance with the powers and duties conferred upon them by the declaration of trust, sold and exchanged certain securities. Such securities had been received from the petitioner by such persons under and by virtue of the provisions of the declaration of trust. The petitioner and the respondent disagree on the amount of profit realized from such sales and exchanges, and this issue is reserved for a further hearing in case it is determined that the petitioner is taxable on the income of the Foundation.

During the calendar year 1927 the persons designated as trustees in the declaration of trust and acting under the powers therein conferred upon them received interest in the amount of $8,714.75, dividends in the amount of $22,912.50, incurred expenses amounting to $5,173.71, paid taxes in the amount of $332.50, and made contributions to corporations conducted solely for charitable, educational, or religious purposes, no part of the earnings of which inured to the benefit of any private shareholder, or individual, in the amount of $6,296.44. The above were the only expenditures or distributions made during the calendar year 1927, none of which were distributed to or received by the petitioner either directly or indirectly.

The petitioner did not report in his income tax return for the year 1927 any income received or distributions made by the persons designated as trustees in the declaration of trust. The respondent has determined that such income and distributions should be reported in the income tax return of the petitioner for that calendar year.

The petitioner transferred to himself and his wife, to hold as trustees for the Foundation, 7,495 shares of the preferred stock of the General & Mining Investments, Ltd., a Canadian corporation, on June 24, 1926, and 6,000 shares of the common stock of the above named corporation, on August 18,1927. The stock referred to above, both the 7,495 shares of preferred and 6,000 shares of common stock, was acquired by the petitioner between the dates of November 12, 1895, and 1922, from earnings of the petitioner during said period. The preferred and common stock of the General & Mining Investments, Ltd., referred to above was represented by “ share warrants ” which had been received on or after March 15, 1926, in exchange for 7,495 shares of preferred and 6,000 shares of common of the said General & Mining Investments, Ltd. Said “ share warrants ” were transferable by bearer. The stock referred to above, both preferred and common, was sold and/or exchanged during the year 1927, and the profits derived therefrom and from the sale of securities received in exchange therefor have been included by the respondent in petitioner’s gross income. None of the stock referred to above was in California either before or at the time of the creation of the Honnold Foundation, but on March 15,1926, and thereafter up to about March 15, 1927, such stock was in New York, in the custody of Nollin B. Burton, who was the petitioner’s confidential business agent from December 1, 1916, to January 1, 1928. On or about March 15, 1927, the share warrants covering the 6,000 shares of the common stock were forwarded to the petitioner in California. The 6,000 shares of common stock of the General & Mining Investments, Ltd., referred to above, were in California in the possession of the petitioner, William L. Honnold, on August 18, 1927, and shortly thereafter were forwarded to his confidential agent, Hollín B. Burton, in New York City.

On or about June 24, 1926, the petitioner advised Burton that he had transferred to the Honnold Foundation the above mentioned 7,495 shares of the preferred stock of the General & Mining Investments, Ltd., and on or about August 18, 1927, advised Burton that he had transferred to the Honnold Foundation the above-mentioned 6,000 shares of the common stock of the said corporation.

During the calendar year 1927 the petitioner- gave an amount not less than $12,638.58 to the persons designated as trustees in the declaration of trust for use by them pursuant to the provisions of such instrument, without receiving any consideration therefor. The petitioner claimed this amount as a charitable contribution to the Foundation and deducted it in his return for the year 1927. The respondent disallowed the deduction. In the event that the petitioner’s net income as finally determined is in excess of his net income as shown in his return, the petitioner, upon recomputation, will be entitled to deduction of his contributions or gifts made within the calendar year 1927 to the extent allowable under section 214 (a) (10) of the Revenue Act of 1926.

It was stipulated that should the Board hold the respondent erred in his determination that the petitioner is taxable on the income received by the persons designated as trustees in the declaration of trust, that is, on the profits arising from the sale or exchange of the securities above mentioned made in 1927, and the interest and dividends received by them less expenses and taxes paid or incurred, then the income as determined by the respondent, upon which the deficiency for the year 1927 was proposed by him, adjusted in accordance with the Board’s decision, should be increased by $14,221.72, which amount represents nontaxable dividends received, expenses incurred, and donations made, by the persons referred to above as trustees and allowed as deductions from the income of the petitioner for the year 1927 in the deficiency notice from which this appeal is taken, and that the Board may find accordingly.

Respondent has included the net income of the Honnold Foundation for the year 1927 in the gross income of the petitioner. In his deficiency notice he grounded his determination on section 219 (g) and (h) of the Revenue Act of 1926. He now makes the further contention that the Honnold Foundation is not a valid trust, for the reason that its beneficiaries, if in fact there be any, are so indefinite that the trust can not be enforced.

The material parts of section 219 (g) and (h) of the Revenue Act of 1926 are as follows:

(g) Where the grantor of a trust has, at any time during the taxable year, either alone or in conjunction with any person not a beneficiary of the trust, the power to revest in himself title to any part of the corpus of the trust, then the income of such part of the trust for such taxable year shall be included in computing the net income of the grantor.
(fi) Where any part of the income of a trust may, in the discretion of the grantor of the trust, either alone or in conjunction with any person not a beneficiary of the trust, be distributed to the grantor or be held or accumulated for future distribution to him, * * * such part of the income of the trust shall be included in computing the net income of the grantor.

In our opinion subdivision (h) has no application to this proceeding. The trust here involved could have been revoked in the year before us only by the petitioner in conjunction with his wife, or by Mudd, acting alone. The right of the petitioner, acting alone, to revoke the trust after the death of his wife has no bearing on issues before us, since this power was in abeyance during 1927. Lewis v. White, 56 Fed. (2d) 390; Langley v. Commissioner, 61 Fed. (2d) 796; Faber v. United States, 1 Fed. Supp. 859; Mabel A. Ashforth et al., Executors, 26 B.T.A. 1188; Francis J. Stokes, 28 B.T.A. 1243.

The respondent asserts that, since in 1927 the interest of the petitioner’s wife in the trust fund was contingent upon her surviving the petitioner, she was not a beneficiary within the meaning of section 219 (g). This contention must be denied on the authority of Bessie R. Jones, 27 B.T.A. 171; Smith v. Commissioner, 59 Fed. (2d) 631; Iola Wise Stetson, 27 B.T.A. 173; Edmund O. Schweitzer, 30 B.T.A. 155. Nor is this rule defeated by reason of the fact that the power is vested jointly in a husband and wife. Edmund O. Schweitzer, supra, Cf. Bessie R. Jones, supra, and Margaret A. Holmes, 27 B.T.A. 660.

The situation, in our opinion, is not altered by- the fact that the wife joined in the declaration of trust. She did not purpose to convey anything. The declaration recites that the petitioner had created a trust fund and transferred it to himself and wife as trustees and that they, as trustees, had received the fund. The respondent attempts to show that these recitals are untrue. He asserts that the trust fund or at least a part of it, when assigned, was community property. It is stipulated that both the common and preferred stocks assigned to the trustees were acquired by the petitioner prior to 1923 and paid for from his own earnings. It appears to be admitted that until he became domiciled in California in 1924, these stocks constituted his separate property. The respondent invites our attention to section 164 of the Civil Code of California as amended in 1917, which in effect provides that personal property acquired elsewhere than in California, wherever situated, is community property, if it would not have been separate property if acquired while domiciled in that state. In In re Thornton's Estate, 19 Pac. (2d) 778, the Supreme, Court of California held that the above section was constitutional in so far as it affected personal property acquired elsewhere and brought into the state by spouses domiciled there after the section was amended in 1917. The court refused to pass on the validity of the act in so far as it affected personal property which had not been brought into the state, for the reason that at the time of his death Thornton owned no personal property situated outside the state. A rehearing was granted in that case on March 1, 1933, and we are not informed what further action the court has taken. The respondent urges us to hold not only that the 6,000 shares of common stock which were brought into California in 1927 and remained there for a short time, but also the 7,495 shares of preferred stock which were never brought into California, constituted commuunity property.

Even if it were necessary, we would hesitate to pass upon the constitutionality of this state statute, especially since the decision of the Supreme Court of California does not appear to be final and also because it has refused to pass upon the validity of the act in so far as it affects personal property not brought into the state. However, we do not think that it is material to this proceeding whether the stock was the separate property of the petitioner or the property of the community, and for the purpose of this opinion, we will assume that the whole corpus of the trust, when assigned to the trustees, was community property.

The various California acts affecting this character of property prior to the amendment of section 161 of the Civil Code in 1927 are set forth in John W. Preston, 21 B.T.A. 840, and need not be restated. In Stewart v. Stewart, 269 Pac. 439, the Supreme Court of California, referring to and approving its opinion on the former appeal in the same case (199 Cal. 318; 249 Pac. 197) rendered in 1926, said:

* * * In that opinion we held that the long-established doctrine of this state was, as reiterated and confirmed by this court in Spreckels v. Spreckels, 172 Cal. 775, 158 P. 537, that the husband was during marriage “ the sole and exclusive owner of all of the community property, and that the wife had no title thereto, nor interest or estate therein, other than a mere expectancy as heir, if she survived him.” We further pointed out, what was declared in more recent decisions of this court, that legislation enacted subsequent to the rendition of said last-mentioned decision had not in any manner changed or modified said doctrine as to the wife’s right in community property acquired in, or prior to, the year 1918, the year the parties purchased the real property described in the complaint herein. We saw no escape from that conclusion at the time of the rendition of that opinion, and nothing has since been brought to our attention to cause us to doubt the correctness of our views as thus expressed. The opinion as then rendered must now stand as a correct embodiment of the views of this court upon the questions therein considered and determined.

On the second appeal the attention of the court was called to the amendment of 1927 (161 a) to section 161 of the Civil Code which, in effect, declares that the interests of husband and wife in community property are “present, existing and equal interests” under the management and control of the husband, and in response the court said:

* * * This section of the Code, whatever effect it may have upon community property acquired subsequent to its effective date, cannot in any manner relate to or govern the ownership of property acquired prior thereto.

To the same effect see Ososke v. Kalinowsky, 285 Pac. 318. See also Hirsch v. United States, 62 Fed. (2d) 128; certiorari denied, 298 U.S. 735.

The respondent, however, insists that the provision of section 172 of the Civil Code to the effect that a husband may not make a gift of community property “ without the written consent of the wife ” is demonstrative of the fact that the petitioner’s wife had at least a present interest in such property. This contention is at .variance with the decision of the Supreme Court of California in Lahaney v. Lahaney, 281 Pac. 67, and the cases there cited. In that case Joseph F. Lahaney, just prior to his death, conveyed four parcels of land, by way of a gift, to his wife and sister, each to have an undivided one-half interest therein. His wife brought suit to have her interest in the lots determined, and for partition. In passing on these questions the court said:

At the time of his aforesaid conveyances of said four parcels of land in equal undivided interests to the two grantees named therein, Joseph F. Lahaney was the sole owner of the entire vested estate and interest in said parcels of land. Being community property, the interest of his wife therein at the time of such conveyance was “ a mere expectancy, and [possessed] none of the attributes of an estate, either at law or in equity.” Stewart v. Stewart, 199 Cal. 318, 335, 249 P. 197, 201, and eases cited.
* * * This deed of Joseph F. Lahaney was not as to any portion thereof void. This the respondents also concede to be the law as particularly laid down in the case of Spreckels v. Spreckels, 172 Cal. 775, 158 P. 537, 539. The language of this latter decision is instructive as having particular reference to the effect of the amendment to section 172 of the Civil Code made in the year 1891 (St. 1891, p. 425), requiring the consent in writing of the wife to the husband’s gift or conveyance without a valuable consideration of the community property, and with respect to which it is stated in said decision, written by Mr. Justice Shaw and concurred in by Mr. Justice Sloss, as follows : “ We are satisfied that the proviso' of 1891 does not render a gift of community property by the husband without the consent of the wife void as to' him, nor confer upon him, in his lifetime, or upon his personal representative after his death, any right or power to revoke the gift or recover the property. There is nothing in the language to express the idea that the title does not, as before, remain wholly in him. * * * Neither does the proviso purport to vest in the wife * * * any present interest or estate in the community property given away by the husband without her written consent.” It thus follows that the aforesaid deed of Joseph F. Lahaney was not a void, but was a valid deed, subject only to the right in the wife to institute, seasonably, in equity an action to revoke said deed and reinstate the property as “ community property, with the title vested in the husband and subject to sale by him, as before.” Spreckels v. Spreckels, supra. * * *

The court then held that, the husband having died, the widow was entitled only to a half interest in the community property and, having received this, she had no cause to complain. From the above authorities we reach the conclusion that at the time of the execution of the declaration of trust the petitioner was the sole and exclusive owner of the stock assigned to the trustees; that his wife had no title thereto or interest or estate therein other than a mere expectancy as heir, if she survived him, and that her veto power on his making gifts vested in her no present interest or estate in the stocks. It thus appearing that she conveyed- no property right, we do not think that she was a “ grantor ” within the meaning of section 219 (g). On the other hand, it is clear that she is a beneficiary, and, as such, we think her interest was adverse to the petitioner. If the trust had been revoked the title would “ revest ” in him. Still assuming that the stocks were community property, we find that the wife had consented in writing to the assignment of the corpus to the trust and that upon revocation it was to revest in the husband. Under these circumstances, upon revocation the property revested was either the separate property of the petitioner (Carter v. McQuade, 83 Cal. 274; 23 Pac. 348; Yoakam v. Kingery, 126 Cal. 30; 58 Pac. 324; Perkins v. Sunset Telephone & Telegraph Co., 155 Cal. 712; 103 Pac. 190), or it remained community property subject to such rights in the wife as the laws of California provide. The petitioner’s wife being a beneficiary, the case is within the letter of the section and, her interest being adverse to him, it falls within its spirit. Reinecke v. Northern Trust Co., 278 U.S. 339.

The only remaining power of revocation which could have been exercised during the year before us is the one residing in Mudd. In view of the fact that this power could be exercised by Mudd alone and not in conjunction with the petitioner, this issue must be resolved against respondent. Valentine Bliss, 26 B.T.A. 731, and Sidney R. Bliss, 26 B.T.A. 962.

Lastly, the respondent assails the validity of the trust on the ground that its provisions as to charities are so indefinite, the selection of them being left to the discretion of the trustees, that no court could enforce them and therefore there are in fact no beneficiaries of the trust. In support of this contention he relies on Levy v. Levy, 33 N.Y. 107; Prichard v. Thompson, 95 N.Y. 76; and Tilden v. Green, 130 N.Y. 29; 28 N.E. 880. These cases sustain the respondent, but they are not in harmony with the decisions of the courts of many of the other states. It may be stated in passing that the rule in New York has been materially changed by section 113 of the Beal Property Law of that state.

The question for our decision is not whether the trust here involved would be valid under the laws of New York, but whether it would be sustained in California. The Supreme Court of that state has declared that instead of indefiniteness as to beneficiaries being a defect, it is an essential element of a valid charitable trust. Estate of Hinckley, 58 Cal. 457; People v. Coggswell, 113 Cal. 129; In re Upham's Estate, 127 Cal. 90; 59 Pac. 315; Fay v. Howe, 136 Cal. 599; 69 Pac. 423; Collier v. Lindley, 266 Pac. 526. In the Fay case the court said:

In tile case of a private trust there must be certainty as to the beneficiaries, but in charitable trusts individuals are not named, for the reason that, if named, the gift becomes a donation to individuals, and, losing the character of indefiniteness as to persons (which is of the essence of a charitable trust) it is no longer a charitable trust. Inherent in every charitable trust is the very characteristic against which appellants’ argument points, namely, indefiniteness of beneficiaries.

The leading case of Estate of Hinckley, supra, involved a trust created by the will of Hinckley. That will contained a devise of what was termed the California Theatre property to certain trustees upon trust to pay certain bequests and then provided:

After the payment of these bequests as herein provided, the remaining part of the California Theatre property, either under the lease, or in capital amount paid by the lessees, as the case may be, shall be devoted to the establishment of a perpetual fund, to be called “ The William and Alice Hinckley Fund,” the income of this fund to be devoted perpetually to Human Beneficence and Charity. And while I do not wish to set arbitrary limits to the wisdom, faithfulness, and discretion of my trustees, desiring, as I do, to foster Religion, Learning and Charity, I wish to call their attention to the trials and afflictions of the industrious, striving, unfortunate, poor, and especially to the aged, the infirm and the lonely. I wish also to show my interest in good learning, and my sympathy with honorable and striving young men, to set apart from the income of this fund the sum of Three Hundred Dollars per annum, to be known and designated as “ The Hinckley Scholarship ”, to be given to some worthy, talented, industrious, and needy young man, who is pursuing liberal studies, either in the University of the State, or in any other school, as the trustees shall name.

The above trust was sustained. In reaching the conclusion that the Hinckley trust was valid, the Supreme Court of California is in line with the courts of last resort of many of the states. In the following cases the courts have found valid testamentary charitable trusts where the trustees were vested with discretion to choose the character or class of charities to be benefited: Minot v. Baker, 147 Mass. 348; 17 N.E. 839; Quinn v. Shields, 62 Ia. 129; 17 N.W. 437; Miller v. Teachout, 24 Ohio St. 525; In re Creighton's Estate, 60 Neb. 796; 84 N.W. 273; Haynes v. Carr, 70 N.H. 463; 49 Atl. 638; Fox v. Gibbs, 86 Me. 87; 29 Atl. 940; Pritchett v. Edwards, 26 Wash. 32; 66 Pac. 148; Selleck v. Thompson, 28 R.I. 350; 67 Atl. 425; In re Dulles Estate, 218 Pa. 162; 67 Atl. 49. See Perry on Trusts, 6 ed., sec. 720. Cf. St. Louis Union Trust Co. v. Burnet, 59 Fed. (2d) 922. We find no merit in this contention.

We do not think the fact that the trust might be revoked in the manner pointed out affects its validity. It remained unrevoked during the whole of the year 1927, and was during that period a valid and subsisting trust for all its charitable purposes. Reinecke v. Northern Trust Co., supra. Cf. Security First Nat. Bank of Los Angeles et al., Executors, 28 B.T.A. 289, and Langley v. Commissioner, supra.

The last issue is whether petitioner should be permitted to deduct his contributions to the Foundation under the provisions of and subject to the limitations in section 214 (a) (10) of the Revenue Act of 1928, the material part of which provides:

Contributions or gifts made within the taxable year to or for the use of: * * *
(B) any corporation, or trust, * * * organized and operated exclusively for religious, charitable, scientific, literary, or educational purposes, * * * no part of the net earnings of which inures to the benefit of any private shareholder or individual; * * *

This deduction should be denied, since the wife of the petitioner has an interest in such earnings, contingent though it be, and for the further reason that the income, which may be accumulated, may by the joint action of the petitioner and his wife or by the action of Mudd alone, revert to the petitioner. This right to accumulate has been exercised in the year before us. In that year donations made by the Foundation were less than one fourth of the income of the trust (excluding profits on sales or exchanges of the corpus) and were also less than one half of the donations made to it by the petitioner. Here we are not concerned with the fact that the petitioner alone does not possess the right to revoke the trust, but are concerned with the question whether the trust itself was “ organized and operated exclusively ” for charitable purposes, “ no part ” of the net earnings of which may inure to the benefit of the petitioner. We can not hold that it was so organized or is so operated where under the provisions of the trust instrument at least a part of the income may be appropriated to the private use of the very individual who made the so-called donations. Cf. First Nat. Bank of Boston, Administrator, 25 B.T.A. 252, and Security First Nat. Bank of Los Angeles et al., Executors, supra.

Having determined that the petitioner is not taxable on the income of the Foundation, it becomes unnecessary for us to pass on issue (2).

Reviewed by the Board.

Judgment will be entered under Rule 60.

Van Fossan, Matthews, and Adams dissent.


source: Caselaw Access Project

author: Sea well:

license: Public Domain

text:
    George Washington, Petitioner, v. Commissioner of Internar Revenue, Respondent.
    Docket No. 43408.
    Promulgated May 23, 1934.

      Bernhard Knollenberg, Esq., for the petitioner.

      Bruce A. Low, Esq., for the respondent.
   OPINION.

Sea well:

1. With respect to the first issue, petitioner contends that by his letter of December 30, 1918, he gave to his wife and three children not only a four-fifths interest in the royalties to become due and payable to him, but a four-fifths interest in the contract with the G. Washington Coffee Refining Co., from which the income was to be derived. Respondent says and contends that the letter was a temporary expression of intention of petitioner expressly limited in duration until petitioner should “ in the near future, cause a formal document to be prepared and executed,” and that when the formal documents were prepared and executed on March 3, 1919, the letter’s purpose and intent was at an end. There ivas no suggestion in the letter or in the oral evidence that the letter was to be temporary or to be replaced by the family contracts, except as the quotation copied might import. The letter was in force, certainly, until a more formal conveyance of the property it conveyed was delivered. While the letter purports to convey a four-fifths interest in the contract of petitioner with the corporation to his wife and children, the formal family contracts purport to convey only a four-fifths “ interest in and to any and all royalties or other sums of money which may, at any time hereafter become due and payable ” to petitioner under said contract. If, as the letter purports, an interest in the contract was conveyed, income accruing from that interest — their own property — would be taxable to the wife and children and not to petitioner; but if, as the family contracts purport, only interest in the income from the contract is conveyed, the income would first belong to the petitioner — as the owner of the property from which the income is derived — and would be taxable to him and not to the wife and children. Lucas v. Earle, 281 U.S. 111. So we have as a preliminary question to decide whether the letter or the family contracts control the income in controversy. The four instruments of March 3, 1919, were made pursuant to the last sentence of the letter of December 30, 1918, which reads: “ Realizing that this may not be the best form of an Assignment I will, in the near future, cause a formal document to be prepared and executed.” It will be observed that the promised “ formal documents ”, the contracts of March 3, 1919, nowhere purport to annul the previous letter. It would require very express terms unequivocally assented to and accepted by the grantees to do so. If the letter makes a conveyance of property not mentioned in the contract, the contract would not, by that circumstance, reconvey such property to the original owner. Title vested in the wife and children by operation of the letter required a conveyance by them to place the title back in the writer of that letter. Kenniff v. Caulfield, 140 Cal. 34.

The property or property right conveyed by the letter, which is not conveyed by the family contracts, is the corpus from which the income sought to be taxed to petitioner is derived. The letter, therefore, is the all important document and controlling here. Separated into its parts we find: (1) The letter conveys a four-fifths interest in the corporation contract; but (2) it reserves the right to the grantor — petitioner—(a) to alter or modify the contract with the corporation; (b) to change the amount of royalties payable thereunder; (c) to use the income from the four-fifths interest in tire corporation contract assigned to liquidate the grantor’s financial obligations; (d) to use the income from the four-fifths interest in the assigned corporation contract in paying the family expenses so long as they lived together; and (3) only that part of the proceeds of the four-fifths interest in the contract assigned, or of any modified contract, which remained after paying grantor’s obligations and said family expenses was to become the property of and subject “ absolutely ” to the use of the beneficiaries — the wife and children.

The provision of the letter which purports to “sell and assign” an interest in real estate falls short of the requirements of the common law or of any modification thereof in regard to modern conveyances of land. There is, in the first place, no description of the land, the instrument is not under seal, and there are no words of conveyance or of inheritance. None of the income in controversy was derived from the land, and whether the letter could be construed as a deed sufficient to convey title would be immaterial, except for the fact that care, upkeep, and improvement of the town house and country house were considered by the parties at the time as part of the family expense and much of the income in controversy was used for that purpose. We conclude for the purposes of this phase of the case that title to the real estate was not conveyed by the letter, and remained the property of the petitioner, and the expenses for its repair and upkeep inured directly to petitioner’s personal benefit. Further visualizing the picture of this matter created by the testimony of the witness — the petitioner was the only witness— we note that at about the time the letter and the family contracts were executed or shortly thereafter, a “ trust account ” or “ trust fund ” was established by petitioner with the Corn Exchange Bank, into which all the royalty payments of the corporation to petitioner under his contract with it, including the four-fifths interest assigned to his wife and three children as well as his own reserved one fifth, were placed. In his brief petitioner denies that this fund was a trust except in name only. It does not contain all the earmarks of the usual deed of trust, but no express words are necessary to create a trust. Hibbard, Spencer, Bartlett & Co., 5 B.T.A. 464. Considering all the circumstances surrounding the establishment of the “ trust fund ” in the Corn Exchange Bank, the conclusion seems inescapable that the letter formed a trust for the specific purposes therein set forth and that the bank account was set up in pursuance of the plan of the trust. Petitioner was, in effect, and apparently by tacit consent, the trustee. A trust, however, does not fail because there is no trustee named. All the funds which went into the account were from the royalties; all disbursements from the account were by petitioner’s checks, and apparently no other had the right to check on the account; the funds were used, as provided in the letter, to pay petitioner’s liabilities and the family expenses. How much were petitioner’s financial obligations at the time and what part of them, if any, had been discharged before the taxable years here involved, and what part, if any, were discharged during said years, or thereafter, the evidence failed to disclose. Most of the evidence had reference to years prior to 1925, but the situation created and existing before that year was not shown by petitioner, on whom the burden rested, to have been changed at any time before or during the taxable years. In 1918 petitioner estimated his expenses for one child in school and keeping up the home to have been $25,000 or $80,000 per year, all of which was borne out of said fund. The improvements on the two residences, petitioner stated without reference to time, were quite extensive and quite expensive, and all paid out of the trust fund. It appears from his position as president and in charge of the corporation, his large ownership of its stock, and the acquiescent attitude of his wife and children, the other stockholders, as well as by reason of his reserved rights and powers with reference to the income to be derived from the corporate contract, that the petitioner was effectually in charge and able to handle the royalty contract in practically any manner he desired.

The situation, in short, seems to be that petitioner assigned to his wife and children an interest in his contract with the G. Washington Coffee Refining Co., the income from which, with their acquiesence, ho placed in a fund to be used in paying his family expenses, his debts, and the improvement of his real estate. It does not appear that these benefits to himself personally might not have absorbed the entire income from the four-fifths interest in the royalty contract. He had power to so modify and change the corpus of the trust that a part, if not the whole thereof, might be revested in himself. Under such circumstances the income of the trust is taxable to the trustor. Section 219 (g) of the Revenue Acts of 1924 and 1926. Edmund, O. Schweitzer, 30 B.T.A. 155. We sustain the Commissioner on this issue.

2. Petitioner contends that the payments of $2,000 per month to W. J. Arkell are deductible expenses under section 214 (a) of the Revenue Act of 1926, which provides that “In computing net income there shall be allowed as deductions: (1) All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business.”

During the taxable years petitioner appears not to have been engaged in business. The services rendered by Arkell were in years before the taxable years; and the services were not for petitioner, but for the G. Washington Coffee Refining Co. Moreover, even if these things were not true, there is no attempt to show that the expense for the services were ordinary and reasonable as provided by the statute. On this issue we also find for the respondent.

Reviewed by the Board.

Judgment will he entered for the respondent.

Makquette, Smith, McMaiioN, Matthews, Leech, and Adams concur in the result.


author: Mukdocb: :

text:
    Cape Henry Syndicate, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 69834.
    Promulgated May 23, 1934.

      J. Gilmer Komer, Jr., Esq., for the petitioner.

      O. W. SweoJcer, Esq., for the respondent.
   OPINION.

Mukdocb: :

The taxpayer, on its return for the fiscal year ended November 30, 1930, claimed a deduction of $8,863.25 representing depletion of its sand property consisting of three large dunes of wind-blown sand situated on property purchased in 1902. The Commissioner allowed a deduction for depletion of $2,447.77 and determined a deficiency in tax of $329.32. He denied the taxpayer’s contention for a greater March 1, 1913, value for its sand deposits and, in computing the deduction which he allowed, used $97,212.19 as the value on March 1, 1913, of the petitioner’s property subject to depletion, 128,000 cars as the mineral reserve, $0.75947 as the rate of depletion per car recovered, and 3,223 as the number of cars recovered during the taxable year. The parties stipulated at the hearing that the mineral reserves at March 1, 1913, consisted of 162,637 cars and they also agree that 3,223 cars were recovered in the taxable year.

The petitioner’s assignment of error is as follows:

The Commissioner has erroneously determined the valuation of certain sand deposits as a basis for deductible depletion and in so doing respondent has ignored the value found by him to be actual value at March 1, 1913 (under which valuation prior years have been settled) and in the instant case has adopted a theoretical valuation not based upon actual facts, conditions or examinations.

It made under this assignment two distinct contentions. The first was that the value of its property at the basic date had been determined and approved by the Commissioner before the notice of deficiency was mailed, there had been no change of ownership, and article 228 of Regulations 74 prohibited any revaluation either by the Commissioner or by the Board except on a showing of misrepresentation or fraud or gross error as to a fact determinable on the basic date. The petitioner was limited to a formal offer of proof on this point and the evidence was rejected, following which the petitioner’s motion to require the Commissioner to assume the burden of proof and to limit the proof to a showing that there had been a change of ownership, or fraud or misrepresentation in the determination was denied. Subsequently, all of the proof offered on this point came in for a different purpose.

Section 28 of the Revenue Act of 1928 provides for various deductions, including:

(1) In the case of * * * natural deposits, * * * a reasonable allowance for depletion * * * according to the peculiar conditions in each case; such reasonable allowance in all cases to be made under rules and regulations to be prescribed by the Commissioner * * *.

Subsection (m) fixes the basis for depletion, in this case the value of the property on March 1, 1913. Sections 23’ (m), 114 (b) (1), 113 (b). The March 1,1913, value of the property is the only factor for computing the deduction for depletion which is now in dispute. The petitioner contends for a higher value than the Commissioner has allowed in determining the deficiency. In such cases the statute provides for an appeal to the Board where the petitioner can establish the correct deficiency by proof and the Board is charged with the duty of hearing the evidence and redetermining the deficiency in accordance with the statute and the evidence. The statute gives every petitioner the right to prove the correct basis for depletion and to have its tax liability redetermined before the Board after deducting a reasonable allowance for depletion computed by the use of that basis.

This petitioner contended that the question before the Board was a wholly different one, dependent upon proof of a wholly different-kind. He relied upon article 228 of Regulations 74, one of many articles promulgated by the Commissioner relating to subsections (1) and (m) of section 23. Regulations 74, arts. 221 to 257, inclusive. The part of article 228 relied upon is as follows:

Art. 228. Revaluation of mineral deposits not allowed. — No revaluation of a property whose value as of the basic date has been determined and approved will be made or allowed during the continuance of the ownership under which the value was so determined and approved, except in the case » * * of misrepresentation or fraud or gross error as to any facts determinable on the basic date. Revaluation on account of misrepresentation or fraud or such gross error will be made only with the written approval of the Commissioner. * * *

The petitioner contended at the hearing that the Commissioner had, prior to the determination of this deficiency, determined and approved the value of its property as of March 1, 1913, in an amount exceeding the value used in determining the deficiency and was hound thereafter by his original valuation unless he proved misrepresentation or fraud, i.e., that the Commissioner and the taxpayer were mutually hound by the original determination of value by the Commissioner and before proof of the real value on March 1, 1913, could be heard by the Board and a deficiency fixed on the basis proved, the Commissioner must first show misrepresentation or fraud or gross error as to a fact determinable on March 1, 1913. Although this taxpayer argued for this construction, many, if not most, taxpayers would find it objectionable. It would inject into the proceeding before the Board a purely collateral matter, the determination of which would not be determinative of the real issue before the Board, and would not only complicate the hearing unnecessarily, but might effectually prevent the determination of the deficiency in accordance with the statute. Cf. Clicquot Club Co. v. United States, 13 Fed. (2d) 655.

The Commissioner was both authorized and directed to make rules and regulations for making the allowance under section 23 (1). Some rules and regulations of the Commissioner have the force and effect of law, as, for example, reasonable regulations to make explicit what is general and to clear up uncertainties and ambiguities in the act. United States v. Dakota-Montana Oil Co., 288 U.S. 459. Cf. art. 231. But he may not alter, amend, modify, or change the provisions of the act by regulations, Morrill v. Jones, 106 U.S. 466; Ramsey v. Commissioner, 66 Fed. (2d) 316; Wilson v. Anderson, 60 Fed. (2d) 52, nor can he narrow, limit, deny, or destroy by regulation rights given to taxpayers by the act. Sawyer v. United States, 10 Fed. (2d) 416; South Carolina Produce Assn., 19 B.T.A. 1028; Waynesboro Manufacturers Assn., 1 B.T.A. 911, 915. Article 228 was probably intended to be only an administrative rule for the guidance of subordinates of the Commissioner and of taxpayers in their negotiations with the Commissioner. The construction of this article which this taxpayer contended for would make a value once determined by the Commissioner res judicata, not only in the office of the Commissioner, but also in the Board and the courts, would prevent review of the Commissioner’s determination by the Board and the courts except upon a showing of misrepresentation or fraud or gross error as to a fact determinable on the basic date, and would permit the Commissioner to completely emasculate the provisions granting to taxpayers the right of appeal to the Board. If the Commissioner ever intended article 228 to have any such effect, then he has attempted to exceed his power and to go beyond the purpose of a regulation in a vain attempt to repeal the provision of the act, Merritt v. Cameron, 187 U.S. 551, and to substitute for it a different provision of his own. Therefore we refused to consider that question on its merits, Boyne City Lumber Co., 7 B.T.A. 36. Cf. Grace Scripps Clark, 1 B.T.A. 491; B. B. Todd, Inc., 1 B.T.A. 762, 764.

The Board referred to article 228 of Regulations 74 in the case of James B. McCahill, 29 B.T.A. 1080, and it likewise referred to article 230 of Regulations 69, containing a similar provision, in the case of Rust-Owen Lumber Co., 29 B.T.A. 922. The petitioner in each of those cases failed to prove a larger value as of the basic date than the value used by the Commissioner in determining the deficiency, and no reliance upon the regulation was necessary to reach the result in either case. Consequently, neither case can be regarded as authority for the contention of the petitioner in this case or as an indication that the Board felt bound by the provision of the regulations. The District Court, in deciding Boyne City Lumber Co. v. Doyle, 47 Fed. (2d) 772, did not follow article 230 of Regulations 45, prohibiting the revaluation of stumpage, but established a different rule of its own, namely, that a value, once determined, may not be reopened except for fraud, misrepresentation, or gross error. With all due respect to that court, we do not agree with the rule thus stated. James Couzens, 11 B.T.A. 1040.

The petitioner’s second contention is that the value of its property on March 1, 1913, was $447,251.75 (162,637, the cars in reserve, times $2.75 the price then payable as each carload was removed). It called two witnesses to express opinions of value. Knowledge of the mineral reserves in the properties on March 1, 1913, was not used by either of these witnesses in forming his opinion of value. One stated that although there was more sand there than he could ever remove, still he had no idea of the actual amount available. Each knew that shortly before March 1, 1913, the petitioner had entered into an agreement granting to another the exclusive privilege for five years to remove sand from these dunes upon payment of $2.75 per carload as removed. Neither mentioned $447,251.75, or any other figure, as representing his opinion of the fair market value of the property as a whole on March 1, 1913. Instead each was asked on direct examination to give his opinion of value only in terms of the value of a carload. Their testimony shows that they believed .$2.75 a fair amount to pay for sand as it was removed. This is probably all that either one meant to say. One stated, in answer .to a question from the presiding Member, that he had no idea what the sand piles were worth as a whole. Yet petitioner’s counsel would draw the conclusion from their testimony that because one carload would bring $2.75, the value of the dunes on March 1, 1913, was $447,251.75 (162,637 times $2.75). If either witness intended that such a conclusion should be drawn from his testimony, then his testimony when weighed with the other evidence is not .persuasive as to the value of the depletable property as a whole.

Value has been defined as the price at which property would pass from a seller to a buyer where each was willing but not forced to deal. This price must be expressed in terms of cash or its present equivalent. Where the property to be valued is a large reserve of sand, its value as a whole is not shown to be $2.75 times the total carloads by a fair contract providing that the one party for five years shall have the exclusive right to remove sand upon payment of $2.75 per carload for the amount removed, when it is known that in all probability the amount removed each year will be less than one fiftieth of the whole. Bennett Gravel Co., 10 B.T.A. 513. Since the petitioner was willing to make such a contract, probably it would have taken and could only have gotten much less than $447,251.75 in cash, or its then equivalent, for its property. Certainly payments later to be made under the contract without interest from March 1, 1913, were not the equivalent of cash on March 1, 1913. Cf. Ithaca Trust Co. v. United States, 279 U.S. 151. The truth of this last statement is obvious upon an examination of the contract and is otherwise shown by the evidence. It is fatal to the petitioner’s case. While a formula might be helpful if the future payments had to be reduced to present cash equivalent, yet common sense alone tells that payments later to be made under that contract were less valuable on March 1, 1913, than their total in cash on that date. Thus the cases cited by the petitioner condemning the use of formulae in certain circumstances are not apposite at this point.

The petitioner’s evidence does not show that the Commissioner erred. The testimony of the respondent’s witness is entitled to weight and indicates that the value determined by the Commissioner was not too low. There was other evidence introduced. Upon all of the evidence we find as a fact that the value on March 1,1913, of the petitioner’s depletable property was not more than $97,212.19 and a reasonable allowance for depletion of that property for the taxable year does not exceed $2,447.77. Since the Commissioner makes no claim for an increased deficiency, these findings are sufficient.

Reviewed by the Board.

Decision will be entered under Rule 50.

Lansdon and Mokkis concur in the result, and dissent on that part of the opinion which discusses the regulations.


author: Leech:

text:
    Arthur Letts, Jr., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 62106.
    Promulgated May 25, 1934.

      Thomas R. Dempsey, Esq., and A. Galder Mackay, Esq., for the petitioner.

      Elden McFarland, Esq., for the respondent.
   OPINION.

Leech:

This proceeding seeks redetermination of a deficiency of $92,721.18 in income tax determined by respondent for the calendar year 1927.

The respondent confesses error under the following assignments of petitioner: (a) The inclusion of $353,791.74 in ordinary income of petitioner after having included this same amount in computing capital net gain, (b) including in ordinary income $1,756.43 as dividends received and including the same item in computing capital gain, and (c) including $20,491.47 in income subject to normal tax where such income was reported as dividends received. Effect will be given to these admissions of error by respondent in the recompu-tation of the pending deficiency under Rule 50.

There remain for consideration two issues — (d) the taxability of certain distributions received by petitioner in the taxable year as liquidating dividends upon stock owned by him, and (e) petitioner’s taxability upon certain amounts distributed to him as beneficiary of a trust, representing liquidating distributions made in the taxable year to the trustees by a corporation upon stock belonging to the trust.

The facts are stipulated. Briefly stated, in respect to issue (d) they are that petitioner was in the taxable year owner of 101 shares of stock of the Holmby Corporation, having a cost basis in his hands of $5,000. This corporation had been in liquidation since May 18, 1923. All distributions by it to stockholders since that date were made in process of its liquidation. Prior to the calendar year 1927, this corporation had distributed liquidating dividends in the amount of $2,408.85 to petitioner, and, during the year 1927, distributed to petitioner $10,086.43. Of this latter sum, $1,736.43 was distributed as from corporate earnings and profits, and $8,300 in redemption of 83 shares of petitioner’s stock. Petitioner included in his return for that year only the sum of $1,736.43 as ordinary dividends.

Respondent, in determining the deficiency, included the total distribution of $10,036.43 in income, but now admits that this is in error and that the taxable gain to petitioner is the excess of the total distributions of $10,036.43 and $2,408.85 over $5,000, petitioner’s cost basis for the stock. This excess is $7,445.28.

Upon this issue we sustain the present position of the respondent. The distributions in liquidation by the Holmby Corporation, whether made as from surplus or capital, are all chargeable against the cost basis of the stock in the hands of the recipient. Holmby Corp., 28 B.T.A. 1092; Garrett v. Commissioner, 59 Fed. (2d) 315; Canal -Commercial Trust & Savings Bank v. Commissioner, 63 Fed. (2d) 619. Petitioner had recovered, prior to the taxable year, $2,408.85 of his capital cost, and the distributions made to him in the taxable year exceeded the unrecovered cost of such stock by $7,445.28. As petitioner had acquired this stock in 1923, this gain is subject to the capital gain provisions of the applicable taxing act. Sec. 208 (a) and (b), Revenue Act of 1926.

In reference to the remaining issue the facts are that petitioner’s father died May 18,1923, leaving a will in which a trust was created with respect to certain of his property, for a period of 10 years, the income of the trust estate during that time to be paid in certain proportions to the beneficiaries of the trust. Petitioner’s interest as a beneficiary was 30 percent of the income payments and corpus upon distribution. Included in the assets of this trust estate were 69,168 shares of the capital stock of Holmby Corporation, the fair market value of which, at the time of the decease of petitioner’s father, was $7,215,605.76.

During the period from May 18, 1923, to December 31, 1926, the Holmby Corporation, in the process of complete liquidation, distributed to the trustees $1,649,656.80. All of this sum was distributed as from earnings and profits of the corporation. During the year 1927, the Holmby Corporation, continuing the process of complete liquidation, made additional distributions of $6,995,885.24. Of this sum, $1,185,088.24 was distributed as from earnings and profits and the balance, $5,813,800, was paid as in redemption of 58,138 shares of the total of 69,168 shares of stock belonging to the trust.

Included in the $1,185,088.24 received by the trustees in 1927 as distributed from earnings and profits was the sum of $353,791.74, which was distributed by the trustees to petitioner during that year as his beneficial share of the distributable trust income for that year, This latter amount was reported by petitioner on his return for such year as ordinary dividends.

In. determining the present deficiency, respondent treated the liquidating distributions received by petitioner from the Holmby Corporation and his proportionate share of the distributions to the trustees, in the following manner:

Per Return:
Distributions from earnings and profits on own stock reported as “ dividends ”_ $1, 736.43
Distributions by ITolmby Corporation from earnings and profits to Trustees and in turn distributed to petitioner, reported as “ dividends ”- 853, 791,74
Total reported on return_ 355, 528.17
Added in Deficiency Letter:
Distributions on own stock above reported as dividends_ 3, 736.43
Amount distributed from capital_ 8, 500. 00
Distribution from trust as above- 353, 791. 74
Additional gain on liquidating distributions to trustees- 78, 397.78
Total addition to income in deficiency letter on account of Holmby Corporation distributions_ 442, 425.95
Total amount of income included in “ net income ” in deficiency letter on account of above items_ 797, 954.12

The sum, $355,528.11, included in the above total, was treated by the respondent as ordinary income subject to both normal and surtax and the remainder was treated as capital gain by the respondent.

The determination of petitioner’s tax liability in reference to distributions received by the trustees, requires a determination of the gross taxable income received by the trustees included in such distributions, and the total credit against such income to which the trustees are entitled under section 219 (b) (2) of the Eevenue Act of 1926, as that portion distributable to petitioner upon which he is liable for the tax. The first factor, the taxable income received by the trustees, is ascertained by application of the same rule by which the preceding issue was concluded. The Holmby Corporation was in process of complete liquidation from May 18, 1923. All distributions subsequent to that date, whether made as from accumulated earnings or capital, are, for purposes of the taxing act, considered as received by the stockholder in exchange for his stock under the provisions of section 201 (c) of the Revenue Act of 1926. Holmby Corp., supra; Garrett v. Commissioner, supra; Canal-Commercial Trust & Savings Bank v. Commissioner, supra.

Applying this rule, we find that the cost basis of 69,168 shares of stock, stipulated to be $7,215,605.76, had been recovered to the extent of $1,649,656.80 by liquidating distributions received by the trustees prior to the taxable year, leaving an unrecovered cost of $5,565,948.96, against which must be applied the liquidating distributions of $6,998,888.24 received in 1927. It follows that the excess of these latter distributions over the unrecovered cost, or $1,432,939.28, is the gain, subject to Federal income tax, received by the trustees in 1927.

Having determined the net taxable gain received, there remains to be determined the prgportion of such gain taxable to this petitioner. Under section 219 (b)(2), above cited, such gain is that portion of the income in question which was, under the terms of the trust, distributable to petitioner. In determining this gain, we must look to the law of the State of California, which controls the administration of the trust. The determination of that state’s courts as to the distributable or nondistributable character of the gain realized by the trustees, is binding upon us. Freuler v. Helvering, 291 U.S. 35. There is included in the formal stipulation filed, the decree of the Superior Court of California approving the distribution to the beneficiaries as current income, those amounts distributed in liquidation by the Holmby Corporation from accumulated earnings and profits of the corporation, and likewise approving the retention by the trustees as corpus, the total amounts distributed to them in redemption of stock. We accept this decree as final in determining that the only amount distributable, and therefore taxable, to petitioner, was the sum of $353,791.94 actually distributed to him by authority of that court. From the tabulation heretofore set out, it is noted that respondent, in determining the deficiency, included in petitioner’s income as distributable to him, $78,397.78, representing the proportionate interest in the gain realized by the trustees in liquidating distributions made to them in redemption of stock, which was retained by them, with approval of the court, as nondistributable increase in the corpus. The trustees, in computing the trust income subject to Federal income tax, are permitted to take credit for distributions of such income, only, as is held, to be distributable by the state court controlling the same. The item of $78,397.78 was not within that category and, therefore, upon this sum, they, and not petitioner, are liable for the tax. Canal Bank & Trust Co., 30 B.T.A. 390.

Although the law of California, which controls the administration of this trust, concludes us as to the amount of the trust income distributable to this petitioner, Freuler v. Helvering, supra, its character for Federal income tax purposes and the resulting tax thereon, in the absence here of other intention expressed therein, is controlled by the Federal revenue act basing the present disputed tax. Burnet v. Harmel, 287 U.S. 103; Forrest Anderson, 30 B.T.A. 597.

Under the provisions of section 201 (c). of the Revenue Act of 1926, the total gain included in the distributions made by the Holmby Corporation to the trustees in the year 1927, must be treated as having been received in exchange for stock. And, pursuant to sections 208 (a) (8) and (b) and 219 (a) of the same revenue act, the gain resulting from such distributions was capital gain since the stock exchanged had been held by the trust for more than two years. That portion of such gain distributable to petitioner and consequently taxable to him, as determined by us, does not lose its character of capital gain, we think, upon distribution to him.

Section 208 (e) of the Revenue Act of 1926 provides:

In the case of * * * the beneficiary of an estate or trust, the proper part of each share of the net income which consists, respectively, of ordinary net income, capital net gain, or capital net loss, shall be determined under rules and regulations to be prescribed by the Commissioner with the approval of the Secretary and shall be separately shown in the return of the * * * estate or trust and shall be taxed to the * * * beneficiary or to the estate or trust as provided in sections 218 and 219, but at the rates and in the manner provided in subdivision (b) or (c) of this section.

It necessarily follows that the portion of the capital gain realized by the trust which was distributable to petitioner and consequently taxable to him is, in computing his tax thereon, subject to the capital gain provisions of the statute.

Judgment will be entered under Rule 50.

       Sec. 219. (I>) Except as otherwise provided in subdivisions (g) and (h), the tax shall be computed upon the net income of the estate or trust, and shall be paid by the fiduciary. The net income of the estate or trust shall be computed in the same manner and on the same basis as provided in section 212, except that—
      *******
      (2) There shall be allowed as an additional deduction in computing the net income of the estate or trust the amount of the income of the estate or trust for its taxable year which is to be distributed currently by the fiduciary to the beneficiaries, and the amount of the income collected by a guardian of an infant which is to he held or distributed as the court may direct, but the amount so allowed as a deduction shall be Included in computing the net income of the beneficiaries whether distributed to them or not. * * *

       Sec. 201. (c) Amounts distributed in complete liquidation of a corporation shall be treated as in full payment in exchange for the stock, and amounts distributed in partial liquidation of a corporation, shall be treated as in par-t or full payment in exchange for the stock. The gain or loss to the distributee resulting from such exchange shall he determined under section 202, but shall be recognized only to the extent provided in section 203. In the case of amounts distributed in partial liquidation (other than a distribution within the provisions of subdivision (g) of section 203 of stock or securities in connection with a reorganization) the part of such distribution which is properly chargeable to capital account shall not be considered a distribution of earnings or profits within the meaning of subdivision (b) of this section for the purpose of determining the taxability of subsequent distributions by the corporation.


author: MaRquette:

text:
    George H. Harlan, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 60500.
    Promulgated May 25, 1934.

      Edgar T. Zook, Esq., for the petitioner.

      E. A. Tonjes, Esq., for the respondent.
   OPINION.

MaRquette:

The respondent has determined a deficiency in income tax for the year 1929 of $259.43. In his petition the petitioner asserts that respondent erred in including in gross income (1) his compensation as attorney for the Marin Municipal Water District; and (2) his compensation as attorney for the Golden Gate Bridge and Highway District, hereinafter referred to as the District. At the hearing counsel for the petitioner stated that he would not press the first issue for the reason that the Board had determined it against petitioner in so far as it involved his compensation for previous years. No evidence was introduced on this issue and it is now determined in favor of the respondent'. This leaves for consideration the question whether the petitioner’s compensation as attorney for the District is exempt from Federal income tax.

The District was finally organized in January 1929, under the Act of May 25, 1923, as amended by the Act of May 23, 1925, General Laws of California, Deering (1923), Act 936, and Codes and General Laws of California, Deering (1925), Act 936.

The sole purpose of the District is to construct a bridge over San Francisco Bay at a cost of approximately $35,000,000. The bridge is a part of the highway system of the State of California.

By a resolution of the directors of the District of January 23, 1929, the petitioner was appointed attorney for the District. He qualified by taking oath of office, and in accordance with a resolution of the directors of November 6, 1929, he gave bond in the sum of $5,000. He was appointed for no specified term and could be discharged by the appointing power at any time. By a resolution of August 15, 1929, the directors fixed the petitioner’s duties. For regular duties he was to receive $7,200, payable $600 a month. These duties were to advise the board of directors and the officers of the District respecting their duties; to attend all meetings of the directors; to prepare resolutions; to prepare all proceedings for the levy and collection of taxes; to prepare contracts, bonds, and agreements; and to do other things incidental to the foregoing. For extraordinary duties such as attending to suits in the courts of the state and the United States, attending hearings before any board, tribunal or officer wherein the District was a party, preparing all proceedings for the holding of elections, the issuance of bonds, and proceedings based on the result of such elections, he was entitled to receive the reasonable value of his services, to be allowed as a claim against the District. The provision for fees for extraordinary services has been abolished and the attorney now receives a salary as compensation for all his services.

The petitioner performed his prescribed duties. The District and its organization had no funds and its only source of revenue was at first from taxes and then from bonds. No taxes were collected in 1929 until November. Up until that time the District officers carried on as best they could. The petitioner used his own office and supplied his own stenographer. Afterward the District acquired offices; the petitioner had an office in its building and was furnished a stenographer and most of his stationery.

In 1929 petitioner was attorney for the Marin Municipal District and also had a small law practice, consisting of matters held over from his practice in previous years. In that year he gave about two thirds of his time to the performance of his duties as attorney for the District. The respondent has included in the petitioner’s gross income for 1929 the sum of $6,600, that amount representing his salary for the first 11 months of 1929.

The Acts of May 25, 1923, and May 23, 1925, provide for the incorporation and organization of bridge and highway districts. These districts may be composed of one or more counties or parts of a county or counties, including a city. The districts are governed by directors appointed by the boards of supervisors of the component counties. The number of directors varies with the districts. The number for the District is eleven. The board of directors is required to appoint a general manager, auditor, and a secretary. Section 8 provides: “ The Board of Directors' shall appoint an attorney and all subordinate officers not provided to be appointed by the general manager and shall fix their salaries, such subordinate officers to serve at the pleasure of the board.” Section 10 enumerates the powers of the District. Among them are:

1. Succession. To have perpetual succession.
2. Suits. To sue and be sued, except as otherwise provided herein, by law, in all actions and proceedings in all courts and tribunals of competent jurisdiction.
3. Seal. To adopt a seal and alter it at pleasure. *******
5. Operative property. To acquire, or contract to acquire; to construct under contract, or by its own employees, bridges, abutments, rights of way, roads, tunnels, railroads, streetcar lines, interurban lines, telephone and telegraph lines, foot paths, viaducts, toll gates, toll houses, subways, and all other forms of property necessary or proper to the construction, operation, maintenance or supervision of its works, and to construct, maintain and operate, or construct or operate any of the foregoing classes of property, and all machinery or other property useful or necessary to construct, maintain, operate or otherwise make use of toll bridges and highways for the benefit of the district, and to complete, add to, repair or otherwise improve any of such property acquired by it as herein authorized.
6. Rights of way. Charges. To acquire by purchase, gift or condemnation, or to lease of and from the government of the United States, from this state, or from any person, firm or public or private corporation, with the privilege of purchasing or otherwise, lands, rights of way, or rights in, over or ¿cross lands or waters necessary or proper for the construction or operation of bridges, and the approaches thereto, as herein provided; also to fix and collect tolls, charges, rentals and other rates of income for the purpose of meeting the obligations of the district and repaying the same, and disposing of the surplus to the various counties within the district, as hereinafter provided.
7. Eminent domain. To have and exercise the right of eminent domain and in the manner provided by law for the condemnation of private property for public use, to take any property necessary for the construction of such bridges, or the approaches thereto, or the highways leading thereto, whether such property be already devoted to the same use or another public use, or otherwise, and may condemn any existing highway, right of way or any portion thereof by whomsoever owned. In any proceeding relative to the exercise of such right the district shall have the same rights, powers and privileges as the state of California. In the case of condemnation or [sic] property by the district, the district may take possession and use said property as provided by section one thousand two hundred fifty-four of the Code of Civil Procedure.
* * * * * * #
9. Levy of tames. To cause taxes to be levied for the purpose of paying running expenses, the organization expenses and the investigation expenses of the district before the issuance of bonds, and after the issuance of the bonds, to cause taxes to be levied for the purpose of paying any obligation of the district. Any of said taxes shall be levied and collected in the manner hereinafter provided.
10. Contracts. To make contracts, to employ labor, and all kinds of employees, whether skilled or unskilled, for the purpose of carrying on the business of the district, and to do all acts necessary for the full exercise of the foregoing powers.

Certain officers, including the attorney, are required to give bond in the amount to be prescribed by the directors.

The compensation of the petitioner as attorney for the District is exempt only if the District is a political subdivision of the State of California engaged in the performance of a governmental function, and if he was an officer or employee of such subdivision. That the District is a political subdivision of the State of California seems clear. It is governed by directors appointed by the board or boards of supervisors of the county or counties which comprise it. Its purpose is to construct a bridge over the Golden Gate. In order to effect this purpose it was authorized to levy taxes to pay running, organization, and investigation expenses, and after the issuance of bonds to pay any deficit which might arise from lack of revenue from tolls or other sources of income and to fix and collect tolls. Here the District' was organized and is engaged in the construction of a bridge which, when constructed, is to be a part of the highway system of the State of California. In Leon S. Moisseiff, 21 B.T.A. 515, we had occasion to review the authorities on the question of whether the construction of a bridge by two states involved the exercise of a governmental function. We there held that the Delaware River Bridge Joint Commission was a governmental instrumentality of the Commonwealth of Pennsylvania and the State of New Jersey, and said among other things: “ The construction of bridges has always been regarded as an essentially governmental function.” This case was followed in Ralph Modjeski, 28 B.T.A. 1051. The fact that the Joint Commission was an instrumentality of two states does not serve to distinguish that case from this, for whether a function is governmental depends on the nature of the function and not whether it is exercised by one state or more than one state. Nor is it controlling here that bridges may be built by others than the state. The rule is not so rigid. Everett B. Sherman, 27 B.T.A. 1169; aff'd., Commissioner v. Sherman, 69 Fed. (2d) 755, and cases cited. But this proceeding-presents a stronger case than bridge construction alone.

The District is endowed with the power to fix tolls to be charged and to levy taxes, both of which are purely governmental functions. Powers v. Commissioner, 68 Fed. (2d) 634. When we consider that the District possesses all these powers and that the bridge is a part of the highway system of California, we reach the conclusion that the District is a political subdivision of the State of California, which is engaged in the performance of essential governmental functions.

We think that the petitioner was an officer as that term is defined in Metcalf & Eddy v. Mitchell, 269 U.S. 514. The office of attorney was created by the statute under which the District wag organized. The petitioner was appointed by the board of directors pursuant to statutory authority enacted under Article XX, section 4, of the Constitution of California. He took office and gave bond. He held during the pleasure of the appointing power. Section 16 of Article XX of the Constitution of California in effect provides that where no term of office is declared the officer shall hold during the pleasure of the appointing power. His duties were fixed by the directors as was his salary. If it be objected that the petitioner may be paid fees in addition to his salary, it may be replied that the compensation of officers is often paid in the way of fees (Hugh W. Ogden, 24 B.T.A. 1239; aff'd., 62 Fed. (2d) 334; Bettman v. Warwick, 108 Fed. 46), and, further, that the compensation included by the respondent in the petitioner’s income consisted only of the petitioner’s regular salary. Nor is it material, since we hold that the petitioner was an officer, that he retained a small law practice. Hugh W. Ogden, supra; Rosalie C. Rand, Executrix, 27 B.T.A. 182.

We are of opinion that during 1929 the petitioner was an officer of a political subdivision of the State of California which was engaged in the performance of governmental functions and that his salary as attorney of the District is not subject to Federal income tax.

Judgment will be entered under Rule 50.