author: Kern :

text:
    Irving T. Bush, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 99364.
    Promulgated November 6, 1941.

      Arthu/r G. Hays, Esq., Alex M. Hamburg, Esq., Jamies A. Cherry, Esq., and Bernard, Tall, Esq., for tbe petitioner.

      Benjamin M. BrodsJcy, Esq., for the respondent.
   OPINION.

Kern :

As set forth above, there are three issues presented in this proceeding' for our determination. The first two issues pertain to the trust of 1930 described in the findings of fact; more specifically, as to whether (1) the income paid to petitioner’s wife in the years 1931, 1933, 1934, and 1935 from the trust should be included in petitioner’s taxable income, and (2) whether petitioner is taxable on a capital gain realized by the trust in 1935. The third issue, unrelated to these first two, demands our determination of whether petitioner received certain amounts as dividends from a personal holding company in the years 1933 and 1935, and is therefore taxable on those amounts. We shall consider the issues in the order presented.

Trust Issue.

Petitioner argues that he was never taxable on any income received by his wife from the 1923 trust and, inasmuch as the 1930 trust is no more than, a continuation of the 1923 trust, the corpus from which the wife’s income is derived merely having been segregated from the remainder of the corpus, that therefore petitioner is not taxable on the income received by the wife under the 1930 trust agreement either.

We can not agree with the basic hypothesis of this argument; that the 1930 trust was merely a continuation of the 1923 trust and that petitioner’s wife merely continued to be the equitable owner of property which she already equitably owned.

In the first place, the wife’s rights unde?- the 1930 agreement were different from those enjoyed under the 1923 agreement. Whereas under the first trust she had been entitled to receive only 60 percent of the income for life from 100 percent of the trust corpus, in 1930 under the second trust she became entitled to receive 100 percent of the income from the trust corpus, the value of which was 68 percent of the corpus of the 1923 trust, and which had produced, when it was a part of the corpus of the 1923 trust, approximately 66 percent of the entire trust income.

In the second place, the wife secured an important right under the 1930 trust which she had not had under the 1923 trust, i. e., the obligation on the part of petitioner to pay to the trustee an amount sufficient to make up any difference between the annual trust income and the amount of $60,000, the petitioner thereby in effect guaranteeing an annual income to his wife of $60,000, less certain deductions. The wife in return surrendered certain rights which she had not surrendered under the 1923 trust, i. e., any and all rights in and to the estate or property of petitioner, including dower and maintenance or support.

In addition it is obvious that the occasion and purpose of the two trusts were different. The first was merely for the purpose of providing an independence and security to petitioner’s wife and two daughters and was occasioned, we may assume, by his tender solicitude for their happiness and welfare. The second, negotiated during the pendency of the Eeno divorce proceedings, had as its purpose the adjustment of rights and obligations of the two adverse parties in a divorce action who were bargaining with each other at arm’s length.

An insuperable objection to petitioner’s hypothesis is that it ignores the legal steps taken in connection with the creation of the 1930 trust. The second trust does not purport to be merely a modification of the first trust. In the agreement pursuant to which this trust was created it is recited that the 1923 trust had been effectually revoked and that petitioner’s wife acknowledges it to have been revoked and no longer of any force or effect, and further that she disclaims any right or interest held thereunder. In the release signed by Rufus T. Bush, one of the beneficiaries under the 1923 trust, whereby he relinquished all rights thereunder, it was recited that the 1928 trust had been revoked. Petitioner believed at the time the 1930 trust was established that his two daughters had likewise consented to the termination of the 1923 trust. A question later arising as to whether they had in reality given their consent, proper ratifications of his actions in revoking the 1923 trust were obtained from them. We must consider, therefore, that the 1923 trust was terminated by consent of all the interested parties and the property of the trust in legal effect was restored to petitioner free from the burdens of the trust. For immediately thereafter the petitioner, according to the recitations of the trust agreement of 1930, assigned, transferred, set over, and delivered unto the trustee named therein the securities which were to be the corpus of the new trust and had been part of the corpus of the terminated trust of 1923. The fact that his friend and business associate, Simonds, who had been trustee under the 1923 trust and retained physical possession of the securities, was the one who actually handed them over to the corporate trustee under the 1930 trust, does not affect our conclusion that in contemplation of law the petitioner was at the time again the owner of these securities, free from the trust created in 1923, and as such owner granted them to another trust, of which he was the settlor and which had purposes and terms far different from those of the first trust.

The mere fact that the wife would not have consented to the termination of the first trust if the second trust had not been established does not make the second trust as a matter of law only a modification or continuation of the first trust.

Petitioner also contends that after the execution of the trust agreement of 1930 there was no obligation on his part which was or would be satisfied by the trust income, pointing out that the law of Nevada, as construed by the Supreme Court in Helvering v. Fuller, 310 U. S. 69, is to the effect that “the wife’s allowance once made is final” unless the court granting the divorce expressly reserves the power to modify it or approves a settlement which provides for its modification. In the instant proceeding the Nevada court granting the divorce approved the trust agreement as fair and reasonable and in lieu of support and maintenance, and reserved no power to modify it. It therefore appears that under the local law of Nevada there remained no obligation on petitioner which was discharged by the trust income.

But this is not enough. The petitioner must show not only that he had no obligation under local law which was satisfied by the trust income, but also that he had no obligation, even contingent, arising by reason of contract. This the petitioner has not done and can not do. The trust agreement itself imposes on him a contingent obligation in lieu of the preexisting obligation of supporting his wife. The obligation is to pay annually to the trustee of the trust under which his wife is beneficiary an amount sufficient to make up any difference between the annual trust income and $60,000, contingent upon such income not amounting to $60,000. Thus in effect petitioner guaranteed that the income from the trust available for distribution to his wife would be the sum of $60,000. The record shows that in one year at least the petitioner recognized this obligation by paying to the trustee an amount necessary to bring the income of the trust to $60,000. Because of this obligation, petitioner retained broad powers over the corpus of the trust and insisted on investments paying large returns, even though the trustee protested that they were not investments proper for a trust to make. In our opinion the situation here present falls squarely within the rule laid down by the Supreme Court in Helvering v. Leonard, 310 U. S. 80, and the income of the trust is taxable to petitioner under Douglas v. Willcuts, 296 U. S. 1. See also E. T. Weir, 39 B. T. A. 400; affirmed on this issue, 109 Fed. (2d) 996.

Petitioner has made some argument to the effect that such a decision would result in the short-sighted neglect of the public aspects of taxation. This is obviously an argument to be properly presented to the legislative branch of the Government. See Report of Senate Finance Committee on the Revenue Bill of 1941.

In view of our conclusion that the income of the 1930 trust was taxable to petitioner under the rule of Helvering v. Leonard, supra, we deem unnecessary an extended consideration of respondent’s argument that it is taxable under the rule of Helvering v. Clifford, 309 U. S. 331. In this proceeding the trust was irrevocable and petitioner retained not even the possibility of reversion either to himself or his estate. Under these circumstances we can not feel that the facts disclosed by the record bring this proceeding under the rule of the Clifford case. See Estate of William, Childs, 44 B. T. A. 1191; Frederick Ayer, 45 B. T. A. 146.

The second issue before us in connection with this 1930 trust is whether certain capital gains realized by the trust in 1935 should be taxable to petitioner. A determination of this point requires few words. The capital gains are not taxable to petitioner. Inasmuch as there was no reserved power of revocation, no reversion, and the re-maindermen are named in the agreement, we fail to see any theory under which respondent can earnestly urge his contention. Capital gains in New York State are added to corpus unless the trust instrument directs otherwise. Matter of Hagen’s Will, 262 N. Y. 301; 186 N. E. 792; Matter of Gerry, 103 N. Y. 445; 9 N. E. 235. In the instant case the trust instrument did not direct otherwise.

In the case of Reginald B. Parsons, 44 B. T. A. 1142, we held capital gains of a trust taxable to the settlor under section 22 (a) of the Revenue Acts of 1934 and 193,6, but there the settlor had the power to dispose ,o¡f the corpus by will. yVe s,a,id there .that the taxpayer jqusf he r,e-garded as in substance the owner of the trust corpus. In the instant case, where the petitioner retained no reversionary interest whatsoever, we can arrive at no such conclusion. We, therefore, resolve this issue in favor of the petitioner.

Holding Company Issue.

The final issue for our determination herein is whether certain amounts allegedly borrowed by petitioner in 1933 and 1935 from Shore Bungalows, Inc., all of whose stock was then held by petitioner, should be treated as dividends instead of loans and therefore be added to petitioner’s taxable income for those years. This is a question of fact and, as we have indicated in our findings of fact, we believe that these amounts were actually considered by both the petitioner and the corporation as loans, to be repaid in the future. The books of the corporation so treat these amounts. Respondent points out that bookkeeping entries, though in some circumstances of evidential value, are not determinative of tax liability, citing Helvering v. Midland Mutual Life Insurance Co., 300 U. S. 216, 223; and also that lack of formal declaration of dividends is not controlling, citing Waggaman v. Helvering, 78 Fed. (2d) 721, 723; certiorari denied, 296 U. S. 618. While we agree with respondent on these points, we must point out that complementary evidence, whether oral or documentary, may serve to bolster the weight to be given bookkeeping entries and the lack of dividend declarations.

In the instant case we are convinced by the oral testimony and documentary evidence in the record that the sums charged to petitioner by the corporation in the taxable years were truly considered by him and all other parties concerned as loans, to be repaid. The fact that no interest was ever charged by the corporation on these loans is understandable, inasmuch as the stock of the corporation was wholly owned by petitioner. Cf. Moses W. Faitoute, 38 B. T. A. 32. That there were no formal authorizations of loans is evidence, at most, here of loose corporate procedure. But the evidence shows that the loans were not made without the knowledge and consent of the corporate officers. Respondent points out that repayment was made only after petitioner had become apprised of the Government’s position in this matter. That is a fact which is of weight only circumstantially. We have found that the weight of the evidence favors petitioner’s contention.

Petitioner claims that the pro forma balance sheets show a deficit in each of the years 1933 and 1935, and that under New York law no dividends could be paid while a deficit existed. Because of our disposal of this issue on the facts set forth above, we need not go into this contention. Petitioner is not taxable, as determined by respondent, on those amounts claimed to have been received as dividends in 1933 and 1935.

Decision toill be entered wnder Bule 50,


source: Caselaw Access Project

author: Hill :

license: Public Domain

text:
    Emil Peterson, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 103375.
    Promulgated November 7, 1941.

      Reeves Aybnore, Esq., and Thomas U. Fowler, Esq., for the petitioner.

      B. H. Neblett, Esq., for the respondent.
   OPINION.

Hill :

The first issue concerns the liability of petitioner for income taxes for the years 1918, 1919, and 1920. Petitioner contends that respondent is barred by limitation from asserting deficiencies as to the years 1918,1919, and 1920, maintaining that the applicable statute of limitations is contained in section 250 (d) of the Revenue Act of 1918. That section provides that except in the case of a false or fraudulent return the tax must be determined and assessed within five years from the date the return was due or made. Therefore, petitioner claims, the statute began to run with respect to each of the years 1918, 1919, and 1920 on the date the respective returns were due to be filed. Respondent argues that the statute of limitations applicable is section 250 (d) of the Revenue Act of 1921.

Petitioner’s contention might have validity if the applicable statute were section 250 (d) of the Revenue Act of 1918. The applicable statute, however, is section 250 (d) of the Revenue Act of 1921, which provides that with respect to income taxes imposed under prior acts the tax should be determined and assessed within five years after the return was filed; provided that in the case of a false or fraudulent return with intent to evade tax or “failure to file a required return,” the tax might be determined, assessed and collected and a suit or proceeding for collection begun at any time after it becomes due.

We have previously considered the question of the applicability of section 250 (d) of the Revenue Act of 1918 to taxes imposed by the Revenue Act of 1918 where no return was filed. Helmuth Heyl, 34 B. T. A. 223; Eli Kirk Price, Executor, 23 B. T. A. 1192. In the Heyl case we applied section 276 (a) of the Revenue- Act of 1934 (which is similar to section 250 (d) of the Revenue Act of 1921) to hold that the statute never began to run. In the Price case we held, that no statute of limitations became effective as to the year 19.18 where the required return was not filed, applying section 277 (a) (3) of the Revenue Act of 1926 which provides “the amount of income * * * taxes imposed by * * * the Revenue Act of 1918 * * * shall be assessed within five years after the return was filed, and no proceeding in court without assessment for the collection of such taxes shall be begun after the expiration of such period.” The 1921 Act is specifically applicable to income taxes imposed under prior acts. We see no constitutional objection to such application. Accordingly, we hold that the statute of limitations never began to run with respect to petitioner’s Federal income tax for the years 1918, 1919, and 1920.

'Petitioner next maintains that the Revenue Act of 1918 was not in force with respect to citizens of the United States residing in the Philippines in either of the years 1918, 1919, and 1920. He maintains that since section 1400 (b) of the Revenue Act of 1918 provided that the Revenue Act of 1916 as amended should remain in force for assessment and collection of income tax in the Philippine Islands, the Revenue Act of 1916 as amended and not the Revenue Act of 1918 controls as to the taxable years 1918, 1919, and 1920. He also relies on article 1131 of respondent’s Regulations 45, which states: “the Revenue Act of 1918 is not in force in Porto Rico and (he Philippine Islands. See also section 1400 of the statute.” Respondent argues that petitioner is taxable under the Revenue Act of 1918, placing his reliance on the case of Lawrence v. Wardell, 273 Fed. 405.

In Lawrence v. Wardell, supra, the Circuit Court of Appeals for the Ninth Circuit held that a citizen of the United States residing in the Philippines in 1918 was subject to tax under the Revenue Act of 1918 despite the provisions of section 1400 of the Revenue Act of 1918. The court stated:

In the repealing clauses of the act of 1918, as quoted in the statement of i he case, the act of 1916, as .amended by the act of 1917, in force in the Philippines, was continued in force, except as might be otherwise provided by the local Legislature. As a general statute of the United States there was clear repeal, but as to the Philippines the act of 1916 was kept alive, as direct legislation by Congress with respect to the local affairs of the island, and not as a general statute of the United States.
A citizen of the United States residing in the Philippines becomes subject to the Income Tax Law under the act of 1918. By section 261, supra, of that act, the tax shall be levied, collected, and paid in accordance with the act of 1916, as amended, returns to be made and taxes to be paid under title I of the act by “every individual who is a citizen or resident” of the island; the local Legislature having power as already defined. The citizen of the United States residing in the island is in much the same position as is a citizen of a state, where there is a state income tax. The fact of residence in the Philippines avails him no more than would the fact of residence in a state.
****** *

We are of the opinion that the Lawrence case was correctly decided and that United States citizens residents of the Philippines in 1918, 1919, and 1920 were subject to the taxes imposed by the Revenue Act of 1918. It should be noted that article 1181 of respondent’s Regulations 45, upon which petitioner relies, is immediately followed by a provision in article 1132 of the same regulations which states that a citizen of the United States residing in the Philippine Islands is taxable in both the United States and the Philippines. Thus, respondent’s regulations under the Revenue Act of 1918 interpreted the Revenue Act of 1916 to be applicable to residents in the Philippines in 1918 solely as a local revenue act. Respondent is sustained on this issue.

The second question for our determination is whether or not petitioner is taxable in the years 1921,1922, and 1923 under the provisions of the Revenue Act of 1921. Petitioner contends that he was not required to file his return and was not taxable under the Revenue Act of 1921, since he had no gross income from sources within the United States and was exempt from tax on income from sources within the Philippines by virtue of section 262 (a) of the Revenue Act of 1921.

Both parties agree that the 80 percent requirement relating to income from sources within a possession of the United States has been satisfied. Disposition of this issue hinges on our resolution of the parties’ different interpretations of the provision requiring at least 50 percent of the taxpayer’s gross income for the three-year period immediately preceding the close of the taxable year to be derived from the active conduct of a trade or business within a possession of the United States. Respondent concedes that petitioner’s wages and salary for all taxable years were derived from active conduct of a trade or business. Petitioner concedes that the dividends received in the taxable years were not derived from the conduct of a business. The controversy concerns items of interest which petitioner contends were derived from the active conduct of his business, while respondent argues that they are in the same category as dividends.

We are of the opinion that the interest items were not derived from the active conduct of a trade or business. While the interest items relate to interest on unpaid salary, it can not be said that such interest is derived from petitioner’s business as a candy maker. There has been no proof that petitioner was in the business of loaning money and we are unable to make such a finding. Excluding interest from gross income derived from the active conduct of a trade or business, the gross income of petitioner from the conduct of a trade or business in the three-year period immediately preceding the close of each of the taxable years 1921, 1922, and 1923 was less than 50 percent of the total gross income received by petitioner in those periods. The statute of limitations with regard, to the years 1921, 1922, and 1923 has not run because of petitioner’s failure to file returns of tax under the 1921 Act. Section 250 (d). Accordingly, we hold for respondent on this issue.

The final issue concerns the 25 percent penalties which respondent has asserted against petitioner for the years 1921, 1922, and 1923 for failure to file returns in those years. Since petitioner has not shown that he came within the exemptive provisions of section 262 of the Revenue Act of 1921, the total gross income of petitioner is gross income for purposes of the income tax and for determining the necessity of filing returns. Section 223 (a) of the Revenue Act of 1921 provides that returns should be filed by individuals having net incomes in excess of their personal exemptions. Since petitioner’s net income in each of the years 1921,1922, and 1923 was in excess of his personal exemption, he was under a duty to file returns for those years. His returns to the Philippine Government were not the returns contemplated by the 1921 Act. Because of petitioner’s failure to file the required returns imposition of the 25 percent penalty is mandatory. Vahram Chimchirian, 42 B. T. A. 1437.

Decision will be entered for the respondent.

       (d) Except in the case of false or fraudulent returns with intent to evade the tax, the amount of tax due under any return shall be determined and assessed by the Commissioner within five years after the return was due or was made, and no suit or proceeding for the collection of any tax shall be begun after the expiration of five years after the date when the return was due or was made. In the case of such false or fraudulent returns, the amount of tax due may be determined at any time after the return is filed, and the tax may be collected at any time after it becomes due.

       (d) The amount of income, excess-profits, or war-profits taxes due under any return made under this Act for the taxable year 1921 or succeeding taxable years shall be determined and assessed by the Commissioner within four years after the return was filed, and the amount of any such taxes due under any return made under this Act for prior taxable years or under prior income, excess-profits, or war-profits tax Acts, or under section 38 of the Act entitled “An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes,” approved August 5, 1909, shall be determined and assessed within five years after the return was filed, unless both the Commissioner and the taxpayer consent in writing to a later determination, assessment, and collection of the tax; and no suit or proceeding- for the collection of any such taxes due under this Act or under prior income, excess-profits, or war-profits tax Acts, or of any taxes due under section 38 of such Act of August 5, 1909, shall be begun, after the expiration of five years after the date when such return was filed, but this shall not affect suits or proceedings begun at the time of ihe passage of this Act: * * * Provided further, That in the case of a false’or fraudulent return with intent to evade tax. or of a failure to file a required return, the amount of tax due may be determined, assessed, and collected, and a suit or proceeding for the collection of such amount may be begun, at any time after it becomes due: * * *

       Title I of the Revenue Act of 1916 as amended by the Revenue Act of 1917 shall remain in force for the assessment and collection of the income tax in Porto Rico and the Philippine Islands, except as may be otherwise provided by their respective legislatures.

       Sue. 262 (a) That in the case of citizens of the United States or domestic corporations, satisfying the following conditions, gross income means only gross income from sources within the United States—
      (1) If 80 per centum or more of the gross income of such citizen or domestic corporation (computed without the benefit of this section) for the three-year period immediately preceding the close of the taxable year (or for such part of such period immediately preceding the close of such taxable year as may be applicable) was derived from sources within a possession of the United States; and
      *******
      (3) If, in the case of such citizens, 50 per centum or more of his gross income (computed without the benefit of this section) for such period or such part thereof was derived from the active conduct of a trade or business within a possession of the United States either on his own account or as an employee or agent of another.


author: Van Fossan:

text:
    State-Planters Bank & Trust Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105254.
    Promulgated November 7, 1941.

      Robert J. Heberle, Esq., and Guy M. Scott, C. P. A., for the petitioner.

      Chester A. Gwirm, Esq., and L. W. Greason, Esq., for the respondent.
   OPINION.

Van Fossan:

The respondent determined deficiencies in the income and excess profits taxes of petitioner for the taxable year 1939 in the respective amounts of $13,040.34 and $2,479.93. Petitioner contends that respondent erred in incJuding in its income amounts recovered on bad debts charged off during the taxable years 1931 to 1938, inclusive.

Petitioner is a corporation, duly organized and existing under the laws of the State of Virginia, with its principal office at 900 East Main Street, Richmond, Virginia. The taxes in question are income and excess profits taxes for the calendar year 1939.

The following facts were stipulated:

1. The issue raised by the pleadings in this case is whether or not the sum of $75,667.89 should be included in the petitioner’s taxable income for the calendar year 1939.

2. The petitioner concedes that $120 of said amount should be included in petitioner’s taxable income for the calendar year 1939.

3. The balance of $75,547.89 constitutes recoveries made in 1939 on debts charged off and deducted by the petitioner on its income tax returns for and during the years 1931 to 1938, inclusive, as shown by the following schedule:

4; The amounts shown as adjusted net income (or loss) for the years 1937 and 1938 in column No. 2 above do not include recoveries in 1937 and 1938 in the amounts of $42,898.32 and $31,946.21, respectively, of bad debts which were charged off and deducted by the petitioner on its income tax returns for years prior thereto. Also the amounts appearing in said column No. 2 above for the years 1936, 1937, and 1938 were determined after applying credits in the amounts of $51,899.09 and $11,280.99 for dividends received during the years 1936 and 1937, respectively, and in the amounts of $11,-092.18, $4,403.69, and $73,420.90 on account of interest received on United States Treasury bonds in excess of $5,000 during the years 1936, 1937, and 1938, respectively.

The only question for decision is the taxability of amounts recovered on items charged off and deducted during prior years as debts ascertained to be worthless. We have held that amounts so recovered must be included in income during the year of recovery only to the extent that the taxpayer received a tax benefit from the prior deduction. National Bank of Commerce of Seattle, 40 B. T. A. 72; affirmed on another issue, 115 Fed. (2d) 875; see Hurd Millwork Corporation, 44 B. T. A. 786; Amsco-Wire Products Corporation, 44 B. T. A. 717; Walter M. Marston, 41 B. T. A. 847; Central Loan & Investment Co., 39 B. T. A. 981.

The chief difficulty in this case occurs by reason of the stipulation that of the bad debt deductions taken in earlier years, $42,898.32 was recovered in 1.937 and $31,946.21 was recovered in 1938. The years in which these amounts had been deducted are not shown. The losses sustained in the years 1931, 1932, 1933, and 1934 were so great, however, that the total of $74,844.53 recovered in 1937 and 1938 could not have equaled the deductions taken in any of the four years. Thus no tax benefit could have been received. As to these years we conclude petitioner has shown it received no tax benefit.

As to the years 1935, 1936, and 1937, the converse is true. The amounts shown as losses were smaller than the recoveries in 1937 and 1938. If the recoveries relate in part to these years, petitioner received a tax benefit in some amount. At any rate it has not proven the contrary. To the extent of the amounts charged off and deducted in these years respondent correctly added the same to income. While the recoveries in 1938 were larger than the deductions, we can not assume that these recoveries in 1938 related to bad debt deductions of the same year.

Decision will he entered under Rule 50.


author: Oppek:

text:
    Lee H. Marshall Heirs, et al., Fidelity Trust Company, Trustee, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 102013.
    Promulgated November 7, 1941.

      Oharles Denby, Esq., for the petitioner.

      Bernard D. Daniels, Esq., for the respondent.
   OPINION.

Oppek:

The present case raises a comparatively narrow phase of the aggravated question presented when a trust taxable as an association has failed to file a timely capital stock tax return in the belief that none was required. In this ease, as in Del Mar Addition v. Commissioner (C. C. A., 5th Cir.), 113 Fed. (2d) 410, and Jordan Creek Placers, 43 B. T. A. 131, the matter of petitioner’s liability to tax as a corporation was in dispute at the time when capital stock tax returns became due. Unlike those cases, however, a capital stock tax return was filed for petitioner by the collector, after he had satisfied himself that none would be forthcoming from petitioner. Not until after the matter of petitioner’s liability to tax as a corporation had been determined by the Board in Lee H. Marshall Heirs, 39 B. T. A. 101 (two Members dissenting), the determination had been affirmed by the Circuit Court of Appeals for the Third Circuit, 111 Fed. (2d) 935, on April 26, 1940 (one judge: dissenting), and a petition for certiorari had been denied by the United States Supreme Court, 311 U. S. 658, on October 14, 1940; and in fact after the original petition herein had been filed April 6, 1940, and answered June 5, 1940, did petitioner attempt to file capital stock tax returns for the years in question. This was long after expiration of the time fixed for the filing of an original return.

The parties are now in agreement that petitioner was taxable as a corporation; that capital stock tax returns were accordingly due from it under the law; that the time for amending a valid return under the statute had expired; and that, therefore, if respondent’s action in filing returns for petitioner constituted the filing of original returns, it is conclusive and petitioner’s returns filed after the period of amendment are invalid and ineffectual. William B. Scaife & Sons Co., 41 B. T. A. 278; affd. (C. C. A., 3d Cir.), 117 Fed. (2d) 572; certiorari granted, 314 U. S. 459; cf. Haggar Co. v. Helvering, 308 U. S. 389. The issue here is limited to petitioner’s assertion that respondent failed to take the action which would render the returns filed by him effective under R. S. 3176, as reenacted and amended by section 1103, Revenue Act of 1926; that, therefore, this action was a nullity, there was in fact no earlier return, cf. Flomot Gin Co., 40 B. T. A. 689, and accordingly filing by petitioner, even though late, was permissible. See Jordan Creek Placers, supra.

The contention is that respondent failed to take the pains necessary to determine an actual or at least a reasonable value for petitioner’s capital stock and since he was bound to do this, the return resulting was arbitrary and unreasonable and may be disregarded. This position seems to us to overlook significant factors which arise from the peculiar operation of the capital stock tax provision and its interplay with the excess profits tax, deficiency in which concerns us here. Even assuming that the collector failed to make as complete an examination as was required of him, a conclusion the record by no means supports, and even assuming this to be a consideration from which petitioner can take an advantage, cf. Bailey v. Railroad, Co., 89 U. S. 604, there yet remain these distinctions between an ordinary return and the capital stock tax return involved in this proceeding.

“Sec. 3176. If any person, corporation, company, or association fails to make and flip a return or list at the time prescribed by law or by regulation made Tinder authority of law, or makes, willfully or otherwise, a false or fraudulent return or list, the collector or deputy collector shall make the return or list from his own knowledge and from such information as he can obtain through testimony or otherwise. In any such case the Commissioner of Internal Revenue may, from his own knowledge and from such information as he can obtain through testimony or otherwise, make a return or amend any return made by a collector or deputy collector. Any return or list so made and subscribed by the Commissioner, or by a collector or deputy collector and approved by the Commissioner, shall be prima facie good and sufficient for all legal purposes, * * *”

Speaking of the capital stock and excess profits tax provisions, the Supreme Court said in Haggar Co. v. Helvering, supra:

* * * Here the purpose of the statute is unmistakable. It is to allow the taxpayer to fix for itself the amount of the taxable base for purposes of computation of the capital stock tax, but with the proviso that the amount thus fixed for the first taxable year shall be accepted, * * * for the purpose of computing the capital stock and excess profits taxes in later years. Congress thus avoided the necessity of prescribing a formula for arriving at the actual value of capital for the purpose of computing excess profits taxes * * *. At the same time it guarded against loss of revenue to the Government through understatements of capital * * *.

There is therefore no requirement that a capital stock tax return shall record the actual, or even a reasonably computed, value of any taxpayer’s capital stock. If the taxpayer elects to do so it may impute for capital stock tax purposes a completely arbitrary and unfounded value to its capital and though this may result in the payment of a smaller tax or none at all, no one is in a position to complain. Selection of a declared value of the taxpayer’s capital is consequently a pure matter of election with no reference whatever to any fact other than the taxpayer’s state of mind. Under such circumstances, if a taxpayer fails to make the election required, the Commissioner may do it for him and the taxpayer will be bound. Joe Goldberg, 14 B. T. A. 465; Sarah Briarly, 29 B. T. A. 256; see Blenheim Co., Ltd., 42 B. T. A. 1248. We think it can hardly lie in the mouth of the taxpayer to object to the collector’s action as arbitrary when the statute permits the taxpayer himself, in taking the same action, to be as arbitrary as he chooses.

Petitioner’s' contention can be summarized in its own words as one “that the statute requires that the Collector shall file a return which * * * shall represent a bona fide estimate of the taxpayer’s true liability.” Although the deficiency here involves excess profits taxes, the return creating the controversy was a capital stock tax return. The value disclosed by such a return may have a secondary effect in that it controls the excess profits tax which will be due on a specified quantum of corporate income. But it has a primary function by which in its own right it may be the occasion for the separate though connected capital stock tax. This is demonstrated in the present case by the necessity, complied with here by petitioner, of paying a delinquent capital stock tax when it filed the returns which respondent contends were of no effect. We do not suggest that petitioner might not have been bound if the return filed by the collector had imposed a declared value which would have resulted in some capital stock tax liability. Cf. Joe Goldberg, supra; Sarah Briarly, supra. Nevertheless, it can not be successfully asserted that the return which the collector did file was not a bona fide estimate of the taxpayer’s true liability, merely because it was as favorable to the taxpayer as possible. The taxpayer itself could, without restraint or evasion, have filed an exactly identical return showing the same liability as the one resulting from that filed by the collector, which it could not be contended did not truly represent the taxpayer’s liability.

It is abundantly evident that one of the purposes of the provisions here under review was to preclude the benefit of hindsight to a taxpayer in selecting the amounts of capital stock and excess profits taxes it chooses to make itself liable for. Haggar Co. v. Helvering, supra. Cf. Lerner Stores Corporation v. Commissioner (C. C. A., 2d Cir.), 118 Fed. (2d) 455. It has been held that there are circumstances where the sequence of events may maneuver the taxpayer into that position, notwithstanding the manifest statutory purpose. Del Mar Addition, supra; Jordan Creek Placers, supra. But that result was conditioned upon and in a sense due to the opportunity afforded the Government’s tax officers to protect the revenue by a return filed on the taxpayer’s behalf, which would have the effect of preventing the delay and consequent benefit of a knowledge of after-events. While in this case the action ultimately resorted to by petitioner might have been no different in substance by reason of that after-acquired information, we can not say that would be true in every case. In order to accomplish the clear legislative purpose and to avoid inequitable discrimination between taxpayers, we think it necessary to conclude that the collector acted properly in filing the returns as he did; that they were petitioner’s first returns; that the later filing by the petitioner was untimely under the statute; that it is bound by the earlier returns; and that, therefore, the deficiences were properly determined.

Decision will be entered for the respondent.

       Sec. 1103. Section 3176 of the Revised Statutes, as amended, is amended to read as follows:

       E. g., Revenue Act of 1935—
      SEC. 105. CAPITAL STOCK TAX.
      (a) For each year ending June 30, beginning -with the year ending June 30, 1936, there is hereby imposed upon every domestic corporation with respect to carrying on or doing business for any part of such year an excise tax of $1.40 for each $1,000 of the adjusted declared value of its capital stock.
      ****** *
      (f) For the first year ending June 30 in respect of which a tax is imposed by this section upon any corporation, the adjusted declared value shall be the value, as declared by the
      corporation in its first return under this section (which declaration of value cannot be amended) * * *.
      [See to same effect Revenue Act of 1934, sec. 701.]

       SEC. 106. EXCESS-PROFITS TAX.
      (a) There is hereby imposed upon the net income of every corporation for each income-tax taxable year ending after the close of the first year in respect of which it is taxable under section 105, an excess-profits tax equal to the sum of the following:
      6 per centum of such portion of its net income for such income-tax taxable year as is in excess of 10 per centum and not in excess of 15 per centum of the 'adjusted declared value;
      12 per centum of such portion of its net income for such income-tax taxable year as is in excess of 15 per centum of the adjusted declared value.
      (b) The adjusted declared value shall be determined as provided in section 105 as of the close of the preceding income-tax taxable year * * *.
      [See to same effect Revenue Act of 1934, sec. 702.)

       “* * * the powers there given the assessor were conferred for the benefit' of the United States. Taxpayers, if they make the required return, will have no cause to complain that the assessor did not issue a summons to them or those representing such taxpayer to appear and give evidence upon the subject, or that the assessor did not enter the place where the taxpayer resides and make the examination of his books and papers as authorized by that section of the act. Doubtless he may do so if he deems it necessary, but the tax is not rendered illegal if the assessor omits to procure the necessary information in that way, Steps of the kind may be taken by the assessor or they may be omitted * *

       “On the contrary, we think that Congress deliberately created this right to cover delinquencies arising from reasonable causes, and, having so created it, safeguarded it against abuses by authorizing the collector to make binding returns where none were filed by the taxpayer * * Del Mar Addition v. Commissioner, supra.


author: ARNOLD:

text:
    Norwood-White Coal Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 102069.
    Promulgated November 7, 1941.

      A. F. Schaetzle, Esq., and C. P. M. Allen, C. P. A., for the petitioner.

      William V. Crosswhite, Esq., for the respondent.
   OPINION.

ARNOLD:

The issue presented is controlled by section 501 of the Revenue Act of 1936, the pertinent portions of which are set forth in the margin. The tax imposed by section 501 (a) was designed to reach net incomes unjustly derived from excise taxes passed on to others but not paid to the Government. Section 501 (a) deals with three kinds of unjust enrichment (1) excise taxes shifted to vendees but not paid, (2) reimbursement by vendors where tax was in turn shifted to vend-ees, and (3) refunds or credits by the Government where tax had been shifted to others. This taxpayer clearly falls within the first classification as it received no reimbursements of excise taxes from its vendors, and no refunds or credits from the Government.

The comparative table of petitioner’s operations for 1935 and for the six years prior thereto shows that petitioner’s 1935 margin increased over its six-year average margin by $0.09386 per ton. Accordingly, under section 501 (e) a presumption arises that petitioner shifted the burden of the Bituminous Coal Conservation Act tax to its customers. However, section 501 (i) permits petitioner to rebut the presumption by proof of the actual extent to which it shifted to others the burden of the tax.

Petitioner’s proof to rebut the presumption consists of a showing that its sole price increase during the taxable year was to offset an increase in wages granted to coal miners. Both the wage increase and the price increase became effective October 1, 1935. The proof shows that petitioner’s price increase amounted to $0.07683 per ton, while its wage increase or additional labor costs amounted to $0.08715 per ton. In other words petitioner’s operations for 1935 would have shown a larger profit if both increases were eliminated from consideration. Petitioner’s witnesses testified unequivocally that the burden of the tax was not shifted and that the price increase was for the purpose of partially compensating petitioner for additional labor costs. Their testimony is uncontradicted, and must be considered together with the other proof offered by petitioner.

In our opinion the petitioner has established that the burden of the tax was not shifted to its vendees. The evidence shows that neither the imposition of the excise tax nor its invalidation affected petitioner’s billings, its contracts or its dealings with its customers. Respondent’s contention that the price increase of October 1, 1935, made due allowance for the tax to be imposed on November 1, 1935, is overcome by the obvious fact that the price increase of .that date did not even cover increased production costs, i. e., sales increased after October 1, 1935, by $14,482.06; but labor costs increased after October 1, 1935, by $16,428.19. Under such circumstances we do not believe it can reasonably be said that a portion of the price increase of October 1, 1935, represented the shifting of the burden of the excise tax to petitioner’s vendees. The price increase was to partially compensate petitioner for increased labor costs. Petitioner was not, therefore, unjustly enriched within the meaning of section 501, Revenue Act of 1936.

We are not persuaded that Honorbilt Products, Inc. v. Commissioner, 119 Fed. (2d) 797, cited and relied on by respondent, controls our decision. In that case the Circuit Court of Appeals for the Third Circuit affirmed a decision of the Processing Tax Board of Review, which found that the taxpayer had shifted the burden of the tay. The court held that substantial evjdenpe existed to support the findings of the Board of Review. However, the court carefully pointed out that “There is nothing in the record to show that the increase in price was due to any increase in the cost of raw materials, of labor or of manufacture generally.” Here, we have found as a fact that the price increase was due to an increase in labor costs. To the same effect is Poindexter & Sons Merchandise Co. v. United States, 40 Fed. Supp. 787; Ney v. United States, 33 Fed. Supp. 554; Hutzler Brothers Co. v. United States, 33 Fed. Supp. 801.

In Vennell v. United States, 36 Fed. Supp. 646, and C. M. McClung & Co. v. United States, 35 Fed. Supp. 464, the taxpayers were held liable for a failure of proof. In E. W. Stockton, 44 B. T. A. 514, the proof established that the taxpayer shifted part of the tax and bore a portion thereof and the Board allocated the reimbursements of taxpayer’s vendors accordingly.

The authorities cited establish that the unjust enrichment tax imposed by section 501 (a) will not apply if the taxpayer’s proof demonstrates that it bore the burden of the excise tax and did not shift that burden to its vendees. Since the proof here demonstrates that petitioner bore the burden of the tax,

Decision will he entered for the petitioner.

       SEC. 501. tax; on net income from certain sources.
      (a) The following taxes shall be levied, collected, and paid for each taxable year (in addition to any other tax on net income), upon the net income of every person which arises from the sources specified below:
      (1) A tax equal to 80 per centum of that portion of the net income from the sale of articles with respect to which a Federal excise tax was imposed on such person but not paid which is attributable to shifting to others to any extent the burden of such Federal excise tax and which does not exceed such person’s net income for the entire taxable year from the sale of articles with respect to which such Federal excise tax was imposed.

      (e) For the purposes of subsection (a) (1), (2), and (3), the extent to which the taxpayer shifted to others the burden of a Federal excise tax shall be presumed to be an amount computed as follows:
      (1) From the selling price of the articles there shall be deducted the sum of (A) the cost of such articles plus (B) the average margin with respect to the quantity involved; or
      (2) If the taxpaper so elects by filing his return on such basis, from the aggregate selling price of all articles with respect to which such Federal excise tax was imposed and which were sold by him during the taxable year (computed without deduction of reimbursement to purchasers with respect to such Federal excise tax) there shall be deducted the aggregate cost of such articles, and the difference shall be reduced to a margin per unit in terms of the basis on which the Federal excise tax was imposed. The excess of such margin per unit over the average margin (computed for the same unit) shall be multiplied by the number of such units represented by the articles with respect to which the computation is being made; but * * *
      *##****
      (f) As used in this section—
      (1) The term ‘'margin” means the difference between the selling price of articles and the cost thereof, and the term “average margin” means the average difference between the selling price and the cost of similar articles sold by the taxpayer during his six taxable years preceding the initial imposition of the Federal excise tax in question, except that if during any part of such six-year period the taxpayer was not in business, or if his records for any part of such period are so inadequate as not to furnish satisfactory data, the average margin of the taxpayer for such part of such period shall, when necessary for a fair comparison, be deemed to be the average margin, as determined by the Commissioner, of representative concerns engaged in a similar business and similarly circumstanced.
      (2) The term “cost” means, in the case of articles manufactured or produced by the taxpayer, the cost to the taxpayer of materials entering into the articles ; * * *
      *******
      (i) Either the taxpayer or the Commissioner may rebut the presumption established by subsection (e) by proof of the actual extent to which ihe taxpayer shifted to others the burden of the Federal excise tax. Such proof may include, but shall not be limited to:
      (1) Proof that the change or lack of change in the margin was due to changes in factors other than the tax. Such factors shall include any clearly shown change (A) in the type or grade of article or materials, or (B) in costs of production. If the taxpayer asserts that the burden of the tax was borne by him while the burden of any other Increased cost was shifted to others, the Commissioner shall determine, from the respective effective dates of the tax and of the other increase in cost as compared .with the date of the change in .mai-gin, and from the general experience of the industry, whether the tax-or the increase in other cost was shifted to others. If the Commissioner determines that the change in margin was due in part to the tax and in part to the increase in other cost, he shall apportion the change in margin between them.
      (2) Proof that the taxpayer modified contracts of sale, or adopted a new contract of sale, to reflect the initiation, termination, or change in amount of the Federal excise tax, or at any such time changed the sale price of the article (including the effect oí a change in size, package, discount terms, or any other merchandising practice) by substantially the amount of the tax or change therein, or at any time billed the tax as a separate item to any vendee or indicated by any writing that the sale price included the amount of the tax, or contracted to refund any part of the sale price in the event of recovery of the tax or decision of its invalidity; but the taxpayer may establish that such acts were caused by factors other than the tax. or that they do not represent his practice during the period in which the articles in question were sold. '


author: Sternhagen :

text:
    David Keith, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105618.
    Promulgated November 7, 1941.

      Frank A. Johnson, Esq., for the petitioner.

      T. M. Mather, Esq., for the respondent.
   OPINION.

Sternhagen :

The Commissioner determined an income tax deficiency of $1,163.95 for 1936, $6,257.19 for 1937, and $87.18 for 1938. Petitioner assails the inclusion in his income of portions of the income of a trust created by him. The facts are all stipulated.

Petitioner is a resident of Salt Lake City, Utah, where he' filed his income tax returns. On August 17, 1926, he and his wife made an irrevocable trust agreement of which he and Walker Brothers Bankers were trustees. Petitioner and his wife were separated. To make a property settlement for the benefit of themselves and a minor son they had conveyed to the trustees practically all their assets. Out of the whole trust estate the trustees were to pay the expenses of the property settlement, of $46,000, and of any divorce proceedings that might follow, to pay all of petitioner’s indebtedness then amounting to $130,000, and that of his wife of $2,000, and to purchase and furnish a home for his wife at a cost not to exceed $25,000.

(2) The Trustees may in their discretion borrow money for the purpose of paying and/or discharging the said indebtedness, costs, charges and/or expenses, or any part thereof, and may subject the whole or any part of said trust estate to mortgages, pledges and/or other suitable forms of encumbrance for securing the payment of such indebtedness,’ costs, charges and/or expenses, or any part thereof, or any renewal or renewals thereof; and the trustees may in their discretion sell any portion or portions of the trust estate for said purpose. * * *
(3) The Trustees shall establish and create a sinking fund in which shall be deposited and/or set aside not to exceed 33% per cent of the net income from the trust estate, which said sinking fund shall be devoted to paying and discharging the indebtedness, costs, charges and/or expenses mentioned in Section B hereof, or any indebtedness incurred to discharge the same. In the event of a sale of any portion or portions of the trust estate, as provided in Section B hereof, the said sinking fund shall be devoted to restoring to the said trust estate the amount of the proceeds of said sale. If at the time of said sale the sinking fund has not accumulated a sufficient amount so to restore to the estate the amount of the proceeds of said sale, the trustees shall continue to accumulate said sinking fund until it shall effect said restoration. * * *
(4) No distribution of the principal of the trust estate shall be made until after the discharge of all of the indebtedness, costs, charges and/or expenses described in Section B hereof, or until a sinking fund shall have been accumulated sufficient in amount to discharge all of said indebtedness, costs, charges and/or expenses.

The trustees were given the power to sell and pledge trust property and to borrow money. They were directed to collect trust income, to pay expenses, and to distribute specified portions of the income to petitioner, his wife, their son, or their appointees, and to distribute corpus. Petitioner was entitled for life to the distributable income from three of the six equal parts into which the trust corpus was divided for administration, but in no event to less than $900 a month. Distributable income was defined as net income “diminished by the amount.of income set aside for sinking funds”; the trustees were prohibited from withholding its distribution. Concurrence of the corporate trustee was necessary for every act of the individual trustee.

Between August 17, 1926, and December 31, 1930, the trustees expended $232,405.84 in the discharge of indebtedness, interest, costs, charges, and expenses. To obtain these funds they sold a portion of trust corpus, receiving proceeds of $57,405.84, and borrowed $175,000, securing payment by a mortgage on trust real estate. They created the sinking fund, depositing in it $148,380.68, which was paid out upon indebtedness incurred by them, and they sold additional portions of the trust estate for $26,619.37 (making total sale proceeds $84,025.21), which was used to discharge the balance of the indebtedness incurred by them. After December 31, 1930, nothing remained unpaid on any indebtedness which the trustees were directed to pay or which they had incurred.

In 1931 and each year thereafter the trustees deposited a portion of the trust’s net income in the sinking fund, applying it toward the restoration to the trust estate of the amount of the proceeds received by them from sales of portions of the trust estate. The amount so deposited was $3,493.19 in 1936, $15,354.53 in 1937, and $100 in 1938. The trustees reported and paid tax on the net income retained. On December- 31, 1938, the amounts deposited in the sinking fund and restored to the trust estate aggregated $20,687.51 and the trustees’ books showed that $63,337.70 remained to be restored.

The Commissioner included in petitioner’s income for 1936, 1937, and 1938 the trust income deposited in the sinking fund for the reason that it was “held by the trust in a so-called trust sinking fund created to pay your debts. * * * See Section 167, Revenue Acts of 1936 and 1938.”

Section 167 is the only statutory authority upon which the Commissioner relies. That section provides for the inclusion in the income of the grantor of such part of the trust income as may be held for future distribution to him, or may be currently distributed to him, or may be used for the payment of premiums on policies insuring his life. As to the amount iii question in any of the three years in question, the trust did not provide for or permit such accumulation, distribution, or use of the income. Some of the trust income was distributed to the grantor as the trust expressly prescribed, but that was returned by petitioner as his taxable income, and it is not the subject of this proceeding. The Commissioner has included in the grantor’s income the additional part of trust income which was added by the trustees to the sinking fund which they had set up to restore to corpus the amount which had been used in 1926-1930 to pay the grantor’s debt. This amount the Commissioner treats as if it were being currently used to discharge the grantor’s debts, and thus, as in Douglas v. Willcuts, 293 U. S. 626, taxable to him as if he had received it and used it to pay such debts.

The determination can not be sustained. Whatever may have been said in 1926-1930 as to the propriety of attributing to petitioner the trust income used to discharge his debts, there is no theory upon which the income of succeeding years may be attributed to him. It was not subject to his control or demand and was not used for his benefit to discharge any of his obligations. His obligations had been paid in 1930 and no continuing obligation was left upon him. Thereafter, except as to the distributable shares, the trust income was taxable to the trust.

Decision will l)e entered under Rule 50.


author: Arundell :

text:
    Moline Properties, Inc., a Florida Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 103862.
    Promulgated November 7, 1941.

      Douglas D. Felix, Esq., for the petitioner.

      F. L. Van Haaften, Esq., for the respondent.
   OPINION.

Arundell :

The petitioner here seeks to be relieved from reporting gain on the sale of real property to which it held title, and to have that gain taxed to its sole stockholder. It argues that the purpose for which it was established and the limited scope of its function render it so unsubstantial as to require us to disregard it in fixing tax liability. ....

The answer to this argument, the respondent contends, is that the original limited purpose for which the petitioner was organized was terminated in 1933 and that during the taxable years it must be regarded as an ordinary taxable- corporation, especially in view of its activities in renting and selling its realty holdings.

There is some- substance in the latter contentions and in the presence of evidence of additional activity on the petitioner’s part in 1935 and 1936 we-should perhaps incline to'the respondent’s view. However, as we regard the issue, it reduces to a question of whether limited activities involving the sale of vacant property and the rental of a portion of it during a part of the interim, carried through by a corporation of the type we have consistently disregarded, after the reasons for its organization have lapsed, can convert the petitioner into a substantial concern which must be taxed separately. The answer is to be found in the facts. The organization of the petitioner was undertaken at the suggestion of Thompson’s creditors as a means of protecting their investments and of saving his equity in certain Florida real estate. Control of the corporation was placed in the bank. It had no activities from that time until 1933 except one transaction of somewhat dubious character whereby the bank apparently sought to charge the petitioner with an additional debt of Thompson. During the year 1933 the creditors instigating its organization were paid by Thompson and control of the petitioner was returned to him. Settlement of the indebtedness was made with borrowings from other sources. The corporation continued to exist down through the taxable years, sales of its holdings being made in each of the intervening years. No other activities were carried on by it except rental of a portion of the property in 1931 for use as a parking lot. It maintained none of the equipment or paraphernalia ordinarily associated with the corporate form, including offices, employees, books, or other records.

From this review of the circumstances before us it must be apparent that the petitioner existed for very limited purposes. The primary purpose, the protection of the stockholders’ creditors, was one which we have considered before. Abrams Sons' Realty Corporation, 40 B. T. A. 653. There we held that a corporation, organized to hold title to mortgaged property, to protect the mortgagees and to secure an equitable distribution of the proceeds when the land was condemned, should be disregarded in taxing any gain resultant on the condemnation. See also Thrift Realty Co., 29 B. T. A. 545.

The limited activities for which it was maintained thereafter do not alter its essential nature. 'It continued merely as a holder of title. Full beneficial ownership was in Thompson, who continued to manage and regard the property as his own individually. We have frequently held that a corporation which existed merely to facilitate the passage of title to real estate, where its stockholders acted without regard for the corporate entity, was a mere figmentary agent which should be disregarded in the assessment of taxes. Mark A. Mayer, 36 B. T. A. 117; J. L. MeInerney, 29 B. T. A. 1; affd., 82 Fed. (2d) 665; Stewart Forshay, 20 B. T. A. 537.

These cases give adequate answer to the respondent’s chief contentions. It is true that the petitioner was not organized originally for the purpose for which it was maintained during the taxable years. Both purposes, however, fall within the holdings wherein we have disregarded tbe corporate entity to effect a more realistic assessment of tases. Tbe final circumstance of rentals collected in 1934 falls in the category of a limited incidental operation which was undertaken without disturbing the essential functioning of the petitioner. Its minor character renders it of no effect on our conclusion.

The case of Fleming G. Railey, 36 B. T. A. 543, relied on by the respondent, is not applicable here, where it is plain that Thompson did not organize the petitioner as a “shield against judgment creditors.” Cf. also Sheldon Building Corporation v. Commissioner, 118 Fed. (2d) 835.

The petitioner must accordingly be sustained.

Decision will be entered for the petitioner.


author: Disney:

text:
    Panhandle Refining Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 103637.
    Promulgated November 12, 1941.

      Harry O. Weeks, Esq., and R. B. Gannon, Esq., for the petitioner.

      John E. Marshall, Esq., for the respondent.
   OPINION.

Disney:

The question for our determination here is whether amounts accrued on its books by the petitioner, which is on the accrual basis of accounting, as interest for 1936 and 1937 constitute allowable deductions under section 23 (b), Revenue Act of 1936. The petitioner contends that the situation is squarely covered by the statute. The deductions when, claimed on the returns for the taxable years were disallowed, with the explanation that it had not been shown that there was any liability or intention to pay interest on the advances made by petitioner’s parent company to it. Upon brief the respondent’s position is in substance that the parent company was holder of 100 percent of the stock of the subsidiary; that no actual payment of interest was ever proven; that the parent company charged off as a partial bad debt deduction a part of the principal upon which the petitioner calculated the interest in each of the taxable years, and that the parent included in its income the interest accrued by the petitioner, both of which deductions by the parent were disallowed by the respondent; that the interest accrued in past years having been at the end of the year added to principal upon which interest was calculated for the succeeding year, the amounts now claimed as deductions by the petitioner constitute compound interest and are therefore not allowable.

The parties seem to agree that there was indebtedness from the petitioner to its parent, that extensive payments were made thereon during prior years and in small amounts in the taxable years, and that there was agreement to pay interest thereon, although the loans and advancements were on open account. Is the petitioner entitled to accrue the amounts in question ?

Petitioner contends in effect that the respondent denies the deduction of interest because of the bad financial condition of the petitioner and that so to do would be to add an element which does not appear in the statute.

Although the respondent suggests that the subsidiary and the parent company were not dealing at arm’s length, it is not suggested that the corporate entity of the two corporations should not be recognized. The entities appear to have been recognized throughout by the Commissioner. We therefore do not consider it important to the question at hand that we have here a transaction between parent and subsidiary. Nor does it appear to us controlling that the parent during the taxable years had charged off $400,000 in 1936 and $500,000 in 1937 as partial bad debt deductions. The amounts in comparison with the total amount of the debt represent only a small fraction of the whole. The question before us is whether the subsidiary comes within the statute as to deducting accrued interest. Likewise, we are of the opinion that the fact of addition of accrued interest in prior years to principal so that in the taxable years the amounts accrued are calculated to some extent upon an indebtedness including past interest, does not deprive the petitioner of the benefits of section 23 (b), Kevenue Act of 1936, giving it a right to the allowance of deduction of interest accrued upon indebtedness. In our opinion the fact that there has been some compounding of interest does not mean that the deductions here claimed are not interest in the sense that they constitute compensation for the use of money. Petitioner had the use of the parent company’s money and recognized and accrued on its books its liability therefor at a rate required both by its records and by the law of Texas. We find nothing in Old Colony Railroad Co. v. Commissioner, 284 U. S. 552; Deputy v. du Pont, 308 U. S. 488; United States v. Collier, 104 Fed. (2d) 420; or Agnes I. Fox, 43 B. T. A. 895, to indicate that the petitioner herein was not accruing interest within the meaning of the statute. Agnes I. Fox did not involve interest paid upon interest which had been added to principal, the question there being whether the petitioner could claim deduction as interest of amounts which had been interest but had been added to the principal by the creditor. Here there is involved only the amount accrued in the taxable years, upon the indebtedness existing at the beginning of such years.

We think that the prime question here is the one suggested in the deficiency notice to the parent company, and the revenue agent’s report upon which the deficiency herein was based, that is, whether the petitioner may be deprived of the deduction of accrued interest because of its precarious financial condition and the possibility, which in no event can be said to be more than a probability, and is obviously not a certainty, that the petitioner will never be able to pay such interest. We agree with the petitioner that so to hold would be to add to the statute. Though long in a bad financial condition, petitioner owned property of a value of several million dollars, was widely engaged in business, and had a large income from producing and refining of oil. It was endeavoring to pay the interest. We may well take judicial notice of the fact that the oil business is subject to great variation and that petitioner’s extensive properties, which were more valuable in 1937 than in 1936 (although it is true that its net debt to the parent had increased), might become sufficient to pay interest and principal. We find ourselves unable to conclude from the record before us that interest should not be accrued upon the petitioner’s indebtedness. Ours is but to construe the statute, not to add to it. That the creditor is not required to accrue items about which there is strong contingency as to payment, does not, we think, indicate that the debtor is not entitled to and required to accrue interest items in the year when they constitute a liability, notwithstanding the fact that the debtor’s assets may not prove sufficient to discharge such liability accrued. Obviously, the accrual is not allowable in any other year. We conclude and hold that the petitioner was'entitled to deduct the items accrued as interest in the taxable years. It is unnecessary in the light of this conclusion to discuss the payments actually made within the taxable years.

Reviewed by the Board.

Decision will be entered under Rule 50.

Smith, TueNee, Mellott, and OppeR dissent.'

       SEC. 23. deductions EEOM GROSS INCOME.
      In computing net income there shall be allowed as deductions:
      ****** *
      (b) Interest. — All interest paid or accrued within the taxable year on indebtedness, except on Indebtedness incurred or continued to purchase or carry obligations (other than obligations of the United States issued after September 24, 1917, and originally subscribed for by the taxpayer) the interest upon which is wholly exempt from the taxes imposed by this title.


author: Black:

text:
    Atlantic Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105340.
    Promulgated November 12, 1941.

      Pope F. Brock, Esq., for the petitioner.

      F. L. Van Haaften, Esq., for the respondent.
   OPINION.

Black:

We are asked to reverse the respondent’s determination of liabilities for surtax on undistributed profits under section 14 of the Revenue Act of 1936 of $38,225.87 for 1936 and $38,306.38 for 1937 on the ground that the respondent erred in not allowing petitioner a credit under section 26 (c) (1) relating to contracts prohibiting the payment of dividends. The provisions of section 26 (c) material to this proceeding are set forth in the margin. Petitioner contends that the letters which passed between it and the First National Bank of Atlanta on October 10 and 17, 1935, followed by loans made by the bank to petitioner in pursuance thereof, constituted such a contract as is contemplated by section 26 (c) (1) of the Revenue Act of 1936 for reasons as follows:

(1) The letters between the bank and petitioner constitute a contract;

(2) This contract is in writing;

(3) It was executed by petitioner prior to May 1, 1936;

(4) The provisions thereof deal expressly with the payment of dividends;

(5) It would have been a violation of this contract for petitioner to pay more than $2.50 per share semiannually on its preferred stock, or to have paid any other dividend in any amount or in any form on any of its other stock.

On the other hand, the respondent contends that the above mentioned letters are not such a contract as is contemplated by the statute; that the letter of October 10 does not prohibit or restrict the payment of dividends by petitioner; and that petitioner could have paid dividends when and as it saw fit to do so “without violating a provision” of the alleged contract, for the reason that the only consequence of so doing would have been the possibility of the bank exercising its option to declare any note of petitioner held by the bank at once due and payable.

We think that undoubtedly all the conditions contained in section 26 (c) (1) as contended by petitioner are met except that described in (5) of petitioner’s contentions above noted. As to that contention, we think respondent must be sustained in his position that the contract, as evidenced by the writings, did not operate as a legal restriction upon petitioner as to the amounts which it could distribute within the taxable years as dividends.

In Helvering v. Northwest Steel Rolling Mills, Inc., 311 U. S. 46, the Supreme Court ruled that section 26 (c) (1) of the Revenue Act of 1936 must be “strictly construed” and that in enacting this section of the statute “Congress indicated that any exempted prohibition against dividend payments must be expressly written in the executed contract.” See also Monroe Abstract Corporation, 41 B. T. A. 5, 10; Davison-Joseph Campan Realty Co., 41 B. T. A. 675, 677; Boeckeler Lumber Co., 43 B. T. A. 804, 808.

Article 26-2 (a) of Regulations 94 provides that the credit provided for in section 26 (c) “is not available under every contract which might operate to restrict the payment of dividends, but only with respect to those provisions of written contracts executed by the corporation prior to May 1, 1936, which satisfy the conditions prescribed in the Act.” Article 26-2 (b) provides:

(b) Prohibition on payment of dividends. — The credit provided in section 26 (c) (1) is allowable only with respect to a written contract executed by the corporation prior to May 1, 1936, which expressly deals with the payment of dividends and operates as a legal restriction upon the corporation as to the amounts which it can distribute within the taxable year as dividends. * * *

We have held that the above regulations are reasonable and correctly interpret the statute. Honokaa Sugar Co., 43 B. T. A. 151, 157; Henry Mill & Timber Co., 43 B. T. A. 1073, 1077.

In Belle-Vue Manufacturing Co., 43 B. T. A. 12, in denying a credit under section 26 (c) (1), we said:

To support the statutory credit, a contract is to be construed according to its legal effect rather than in the light of an assumed business policy.

And in Thibaut & Walker Co., 42 B. T. A. 29, in holding that section 26 (c) (1) did not apply, we said that “Congress intended to give a credit to a corporation only where the corporation had bound itself not to pay a dividend.”

In view of the authorities cited above, we do not think the letters relied upon by petitioner and the performance under those letters amounted to such a contract as is contemplated by the statute. We do not think it can be said that petitioner, prior to May 1, 1936, ever bound itself not to pay any dividends in addition to the semiannual dividend of $2.50 a share on its preferred stock. The contract as construed by the parties may have operated to have that effect, but that is not enough. The contract itself, by its very terms, must operate as a legal restriction upon petitioner as to the amounts which it can distribute within the taxable year as dividends. Petitioner did not agree with the bank that it would not declare any dividends other than the semiannual dividend of $2.50 a share on its preferred stock. It merely agreed that if it did do so, then, in that event, the bank was to have the right, at its option, to declare any note of petitioner held by the bank at once due and payable. With that understanding it may well be that petitioner would adopt a business policy and did in fact adopt a business policy of not declaring dividends except $2.50 semiannually on its preferred stock, but that falls short of being in the position of having legally obligated itself not to declare dividends in excess of a specified amount. If during the taxable years petitioner had declared dividends in excess of the semiannual dividend of $2.50 a share on its preferred stock, it seems certain that the bank could not have enjoined petitioner from paying such dividends. All that it could have done in such a case would have been to exercise its option to declare any note of petitioner held by it to be at once due and payable. Cf. Honokaa Sugar Co., supra, p. 158. In the instant case, as we have already said, the facts undoubtedly show that petitioner construed its understanding with the bank as restricting it from the payment of any dividends except on its preferred stock, but this we attribute to a business policy adopted by petitioner pursuant to what it conceived to be its obligation to the bank, rather than any legal restriction imposed upon it by any written contract executed by petitioner prior to May 1, 1936. That being the case, petitioner is not entitled to a credit under section 26 (c) (1). Belle-Vue Manufacturing Co., supra. This may seem to be a narrow ground upon which to deny petitioner the credit which it claims, but nevertheless it is a statute of Congress which we have to construe and the Supreme Court has said in Helvering v. Northwest Steel Rolling Mills, Inc., supra, that the statute must be strictly construed.

Petitioner contends that Page Oil Co., 41 B. T. A. 952, and Sutcliffe Co., 41 B. T. A. 1009, are in point and resolve the present issue in its favor. These cases are readily distinguishable from the case at bar. The agreement in the Page Oil Co. case, among other things, provided:

The party of the first part [Page Oil Co.] agrees that until said loans (i. e„ the development notes) shall have been paid in full with interest, no dividend of any kind or nature will be declared by it; * * *

Likewise in the Sutcliffe Co. case the agreement there provided in part as follows: “11. During such time as the applicant [Sutcliffe Co.] * * * may be indebted to the Bank, it will not pay any dividends * *

If the taxpayers in the two preceding cases had paid dividends, they would have violated an express written contract not to do so. In the instant case, as we have endeavored to point out, petitioner could have paid dividends in excess of the semiannual dividend of $2.50 a share on its preferred stock without violating a provision of a written contract.

That is the controlling difference as we view it between the facts of the instant case and those present in Page Oil Co., supra, and Sutcliffe Co., supra.

For the reasons stated, we sustain the determination of respondent.

Reviewed by the Board.

Decision will be entered for respondent.

Offer concurs only in the result.

AruNdell and Mellott dissent.

       SEC. 26. CREDITS OP CORPORATIONS.
      In the case of a corporation the following credits shall be allowed to the extent provided in the various sections imposing tax—
      ♦ * * * * * *
      (c) Contracts Restricting Payment op Dividends.—
      (1) Prohibition on payment of dividends. — An amount equal to the excess of the adjusted net income over the aggregate of the amounts which can be distributed within the taxable year as dividends without violating a provision of a written contract executed by the corporation prior to May 1, 1936, which provision expressly deals with the payment of dividends. * * *


author: Smith :

text:
    Alpena Savings Bank, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 89273.
    Promulgated November 12, 1941.

      John G. Bills, Esq., for the petitioner.

      De Witt M. Evans, Esq., and Paul A. Sebastian, Esq., for the respondent.
   OPINION.

Smith :

The respondent has determined deficiencies in income and excess profits taxes against petitioner for 1934. To the extent that the taxes are attributable to income in respect of its unsegregated assets, the petitioner now concedes liability; in other words, it concedes that it is liable for deficiencies in income and excess profits taxes for 1934 in the respective amounts of $310.33 and $112.85, which it claims already to halve paid.

The sole question in issue is whether the petitioner is liable to income tax for 1934 in respect of the income of a trust of segregated assets which were held by three trustees for the benefit of its depositors. The petitioner claims that it is exempt from tax upon such income under the provisions of section 3798 of the Internal Revenue Code, as amended by section 406 of the Revenue Act of 1939. That section, as amended, provides, so far as material, as follows:

(b) Whenever any bank or trust company, a substantial portion of the business of which consists of receiving deposits and making loans and discounts, has been released or discharged from its liability to its depositors for any part of their claims against it, and such depositors have accepted, in lieu thereof, a lien upon subsequent earnings of such bank or trust company, or claims against assets segregated by such bank or trust company or against assets transferred from it to an individual or corporate trustee or agent, no tax shall be assessed or collected, or paid into the Treasury of the United States on account of such bank, or trust company, such individual or corporate trustee or such agent, which shall diminish the assets thereof which are available for the payment of such depositor claims and which are necessary for the full payment thereof.
(c) (1) Any such tax collected, whether collected before, on, or after the date of enactment of the Revenue Act of 1938, shall be deemed to be erroneously collected, and shall be refunded subject to all provisions and limitations of law, so far as applicable, relating to the refunding of taxes.
(2) Any tax, the assessment, collection, or payment of which is barred under subsection (a) of this section, or any such tax which has been abated or remitted after May 28, 1938, shall be assessed or reassessed whenever it shall appear that payment of the tax will not diminish the assets as aforesaid.
(3) Any tax, the assessment, collection, or payment of which is barred under subsection (b) of this section or any such tax which has been refunded after May 28, 1938, shall be assessed or reassessed after full payment of such claims of depositors to the extent of the remaining assets segregated or tranferred as described in subsection (b).

The respondent contends that the trust set up in 1933, principally out of the segregated assets of the petitioner, is not a separate taxable entity, but that the gains and losses and net income of the trust must be incorporated in the petitioner’s income tax return for 1934. The petitioner, although not having any control over the trust, and although its assets are not the assets of the petitioner and its liabilities are hot the liabilities of the petitioner, and although its bookkeeping is not reflected in the petitioner’s books of account, does not combat the contention of the respondent that the trust is not a separate tax entity. It contends, nevertheless, that it is not liable to income tax in respect of any net income of the trust for 1934 by reason of the fact that the payment of the tax would reduce the assets of the trust available for the payment of claims of depositors.

At the hearing of this case counsel for the respondent stated:

In this case, in the year 1934, the bank made a profit of some fifty-five thousand dollars and the profits from what he called the segregated assets, amounted to about fifty-nine thousand dollars. There is one taxable entity, and the deficiency is asserted against the Alpena Savings Bahk, which is a going concern, making money each year, and has plenty of free assets and also sufficient income to pay these taxes, which would not in any way, diminish the amount that the depositors would be entitled to. That is really the issue in this case. * * *

He further stated:

Naturally, if the taxes are paid out of these segregated assets, it would diminish the assets, so that there would not be as much available for the depositors, as you can see, but, on the other hand, if we collect the taxes from whom the deficiency is asserted, there is no harm done to the depositors in any way, shape, or form, except what they have done by their own legal arrangement.

The respondent further contends that the Board has no jurisdiction in the determination of the deficiency to consider the effect of section 3798 of the Internal Revenue Code, which relates to “Exemption of Insolvent Banks from Tax.” The respondent asserts that it is the function of the Board merely to determine the deficiency and that section 3798 of the Internal Revenue Code pertains only to the collection. ■

This contention of the respondent must be denied upon the authority of West Town State Bank, 32 B. T. A. 531; Republic Bank & Trust Co., 36 B. T. A. 680; Valuation Service Co., 41 B. T. A. 811.

By the trust agreement of September 19, 1933, in accordance with the terms of which the trust was set up, it is provided that the trust shall pay all of its own expenses, including taxes. The trust fund was managed in accordance with the instructions of the state banking commissioner. He has ruled that if the bank is subjected to any Federal income tax in respect of the income of the trust the trust shall pay it. Since the respondent admits that the payment of the tax by the trust would reduce the assets necessary for the payment of claims of the depositors, both the assessment and collection of the tax are clearly prohibited by section 3798 of the Internal Revenue Code.

In Valuation, Service Co., supra, which is cited herein for comparison, we stated:

As respondent points out, it is not the purpose of the relevant legislation to relieve those having a proprietary interest in the bank from their appropriate tax liability. Jackson v. United States, 20 Ct. Cls. 298. But even if there were a possibility under the facts here that such a result might eventuate, the danger is eliminated by the provisions of the 1938 Amendment, leaving open the ultimate liability of those governed by the statute until the outcome of liquidation is apparent.

The same is true here.

Reviewed by the Board.

Decision will he entered wruLer Bule 50.