text:
    George W. Williams, Executor, Estate of Francis Williams, Deceased, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 54087.
    Promulgated July 31, 1934.

      Ferdinand Tarmenbavmi, Esq., for the petitioner.

      L. W. Oreason, Esq., for the respondent.
   OPINION.

Leech:

This proceeding seeks redetermination of a deficiency in income tax of $7,906.02 for the period from January 1 to September 3, 1928. The only error assigned is upon respondent’s action in increasing the income of petitioner’s decedent for the period in question by the sum of $62,163.34, as the taxable profit represented in the transmission of an installment obligation of $118,466.64 belonging to petitioner’s decedent at the time of his death on September 3, 1928.

Petitioner is executor of the estate of Francis Williams, deceased, who died September 3, 1928. The decedent on February 18, 1926, sold 353 shares of the capital stock of the Broad & Market National Bank & Trust Co. of Newark, New Jersey, for the sum of $211,800. The cost price of the shares of stock sold by decedent was $100,750, and the gain to be realized on the sale was $111,070. The sale in question was upon the installment basis and decedent elected to return the income on such basis by including in income for each year the proportion of the installment payments actually received in that year which the total profit to be realized bore to the total contract price. There was included in each of the following years 52.4 percent of the amounts received by the decedent during such years as follows:

On September 3, 1928, when the death of decedent occurred, there was unpaid the sum of $118,466.64. The obligation to pay this balance was secured by the deposit of collateral with a market value' in excess of the total obligation and the fair market value of this unpaid installment obligation at the date of decedent’s death was its face value of $118,466.64.

Eespondent in determining the deficiency here in question treated the profit of $63,163.34, included in the unpaid installment obligation, as taxable for the period January 1 to September 3, 1928, under section 44 (d) of the Revenue Act of 1928, and included this amount in income for that period.

Section 44 (d) of the Revenue Act of 1928 provides:

Seo. 44. (d) GtaAn or loss upon Msposition of installment obligations. — If an installment obligation is satisfied at other than its face value or distributed, transmitted, sold, or otherwise disposed of, gain or loss shall result to the extent of the difference between the basis of the obligation and (1) in the case of satisfaction at other than face value or a sale or exchange — the amount realized, or (2) in case of a distribution, transmission, or disposition otherwise than by sale or exchange — the fair market value of the obligation at the time of such distribution, transmission, or disposition. The basis of the obligation shall be the excess of the face value of the obligation over an amount equal to the income which would be returnable were the obligation satisfied in full.

We think there is no donbt of the intent of Congress in the enactment of the above quoted section to tax the profit represented in an unliquidated installment obligation where it has been transmitted, as in the present case, under the will of the holder. Alexander M. Crane et al., Executors, 30 B.T.A. 29; Provident Trust Co. of Philadelphia, Executor, 29 B.T.A. 374; Estate of Erskine M. Ross, 29 B.T.A. 227.

Petitioner contends (a) that this section has application only to unpaid installments upon sales made subsequent to the enactment of the act, (b) that if applicable to sales made prior to the effective date of the act such section is unconstitutional and, (c) that if this section is applicable and constitutional the fair market value of the installment obligation in question at the time of death was not in excess of $63,000.

The questions presented under the first two issues were decided adversely to petitioner’s contentions by us in Estate of Erskine M. Ross, supra. Petitioner insists that to apply section 44 (d) of the .Revenue Act of 1928 to installment obligations due under sales made prior to the effective date of that act is to give this provision retroactive effect, in violation of the rule laid down in United States v. Magnolia Petroleum Co., 276 U.S. 160, that no such effect is to be given unless the legislative purpose so to do plainly appears.

We can not see a retroactive application of section 44 (d) under the conditions here disclosed. The sale occurred in 1926 and the total profit thereon was subject to taxation in that year. However, by section 212 (d) of the 1926 Act Congress permitted the taxpayer the privilege of deferring the payment of tax upon the profit included in the deferred payments to the year in which such payments were made. By section 44 (d) of the 1928 Act Congress placed an additional limitation upon unpaid installment obligations by providing that upon the disposition of such obligations by distribution, transmission, or sale the profit represented therein, in respect of which the taxpayer was enjoying the privilege of deferred taxation, would be subject to tax for the period in which such sale, transmission, or other disposition occurred.

The period before us is the taxable year 1928 and the application of section 44 (d) is the taxing for that year of the profit included in the deferred payment of $118,466.64. The allocation to such period is by reason of its transmission in that year. The purpose of section 212 (d) of the 1926 Act was not to permit income to escape taxation, but merely to accord the taxpayer the privilege of deferring the payment of the tax until a later period. The purpose of section 44 (d) of the 1928 Act was to prevent the avoidance of tax on the gain included in unpaid obligations by the disposition, either by sale, gift, or transmission at death, of such obligations prior to their collection.

We see no reason why Congress, having granted the taxpayer the privilege of deferring the tax, should not in a later year qualify such privilege by providing for the payment of the deferred liability upon the transpiring of certain events. In the present case the provisions of the 1928 Act are being applied to occurrences talcing place after its enactment.

By the application of section 44 (d) to the situation here the taxpayer is being denied no privilege which it was intended by the prior act that he should enjoy. By that act he was permitted to defer the payment of his tax until the liquidation in his hands of the installment obligation. In the situations to which section 44 (d) has application, such liquidation is no longer possible, due to the happening of one of the events specified in that section. In no case can it be said that section 44 (d), when applied to a sale made prior to its enactment, results in the taxation in one year of a profit which, under the prior law, would not have been taxed to this same taxpayer until a later year.

The taxpayer has accepted the benefits accruing from the deferment of tax to some future year and, consequently, in respect to this deferred income, must accept the burden imposed by the taxing law in effect in such future year. Cf. Taft v. Bowers, 278 U.S. 470; Newman-Saunders & Co. v. United States, 36 Fed. (2d) 1009; Walker v. Alamo Foods Co., 16 Fed. (2d) 694.

In reference to the contention that section 44 (d), if applied to installment obligations due under sales made prior to its enactment, is unconstitutional, petitioner argues that such application has the effect of creating, by legislative enactment, income from an occurrence which in fact cannot give rise to gain or loss. It is argued that the mere disposition of an installment obligation without consideration cannot constitute income and accordingly a decedent can derive no income merely by the transmittal of property by will or intestacy.

It must be readily admitted that the provisions of subdivision (d) of section 44 can not serve to create income unless there is in fact actual income which is taxable under the Sixteenth Amendment to the Constitution. Petitioner’s argument, however, overlooks the fact that this is not a question of the creation of income, but merely the taxing of income already received. The application of section 44 (d) does not have the effect of creating income. Its effect is merely to determine the period in which that portion of the taxable gain which accrued to decedent upon the sale in 1926 and is yet untaxed shall be reported for tax. The transmission of the installment obligation by the death of petitioner’s decedent did not create income, but merely terminated the period of deferment of the tax.

The remaining issue is disposed of by our findings of fact that the installment obligation had a fair market value of $118,466.64 bn the date of the death of petitioner’s decedent. This conclusion of fact was, we think, amply supported by the evidence. Petitioner included this obligation at this value in the returns for both Federal estate tax and state inheritance tax and the evidence convinces us that the collateral securing its payment had a market value at the time of death substantially in excess of the liabilities the payment of which it secured.

Judgment will be entered for the respondent.


source: Caselaw Access Project

author: Trammell: Black, Seawell,

license: Public Domain

text:
    Elizabeth S. Vale, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 53041.
    Promulgated July 31, 1934.

      Henry Braeh, G.P.A., Alfred Ely, Esq., and N. Norman Mayer, Esq., for the petitioner.

      Nathan Gammon, Esq., and W. W. Kerr, Esq., for the respondent,
   OPINION.

Trammell:

This proceeding is for the redetermination of deficiencies in income tax of $6,888.36, $539.72, and $296173 for 1925, 1926, and 1927, respectively. The matters put in controversy by the petition as amended are the correctness of the respondent’s action (1) in using the March 1, 1913, value in determining the amount of a loss sustained in 1925 on the sale of bonds of Manitou & Pikes Peak Railway Co.; (2) in refusing to allow as deductions for 1925 as losses the amounts of $5,234.50 and $4,478.41 alleged to have been sustained on tbe sale of shares of stock and of notes, respectively, of Simmons Sugar, Ltd.; and (3) in determining the cost to petitioner of certain shares of stock in the Simmons Co. sold during 1925, 1926, and 1927. In an amended answer the respondent alleged that in computing the loss on the sale in 1925 of the bonds of Maniton & Pikes Peak Railway Co. he erred in not using the value of such bonds on February 11, 1920, instead of the value on March 1, 1913. He also alleged that in determining the deficiency for 1925 he erred in allowing a capital loss in the amount of $33,847.10 on the sale in that year of 814 shares of stock in the Manitou & Pikes Peak Railway Co., instead of a capital loss in the amount of $3,663 as a result of his using the March 1, 1913, value of such stock instead of its value on February 11, 1920. He also asked that the deficiency for 1925 be increased accordingly.

The petitioner is a resident of Princeton, New Jersey. Her name prior to her marriage to Harry M. Yale, which took place subsequent to January 29, 1903, was Elizabeth C. Simmons. She is a granddaughter of Z. G. Simmons, deceased, of Kenosha, Wisconsin, who died testate on February 11, 1910, leaving a will made January 29, 1903. The will was duly probated after his death. The petitioner was one of the residuary beneficiaries of the trust created by the will.

Pertinent provisions of the will are as follows:

Second:
After the payment of my just debts and funeral expenses and the charges and expenses of settling and administering my estate, I hereby give, devise and bequeath all and singular the rest, residue and remainder of my estate of every name, nature and description, and both real and personal and mixed and wherever situate, unto my Executor and Trustee hereinafter named, In Trust, however, upon the following terms and conditions and for the following uses and purposes, viz:
1: To hold, manage, prosecute, conduct and carry on with my estate and property, either all or any of the lines of business in which I shall or may be engaged at the time of my decease, for a period of ten years from and after my decease, and I hereby authorize and empower my said Executor and Trustee to hold, manage, prosecute, conduct and carry on the said lines of business as fully in all respects as I could or might do were I living, * * *
2: From the net income and profits of my said estate, business and property, and in case of the failure of income and profits from my said estate, then out of the principal thereof to pay to my sister Esther Stebbins of the City of Kenosha, Wisconsin, the sum of Thirty (30) Dollars per week, payable weekly, for and during the term of the natural life of my said sister Esther Stebbins.
And to pay to Miss Charity Robeson, the sister of my deceased wife, the sum of Forty (40) Dollars per month, payable monthly, for and during the term and period of the natural life of the said Miss Charity Robeson. And in the event of the division and distribution of my estate as hereinafter provided before the death of my said sister and the said sister of my deceased wife, then and in sueh case the payment of the sums aforesaid to my said sister and to tlie said sister of my deceased wife shall be a lien and charge upon each of the shares of my said estate in the hands of my son and daughters and grand-daughter hereinafter named, their heirs or assigns respectively, and shall be paid by them at the times and in the manner hereinbefore provided, in proportion to their respective shares in my estate.
3: To divide, in the discretion of my said Executor and Trustee, and at such time or times as he may deem proper during said period, the whole or any part of the surplus income and profits, if any, of my said property and estate, after the payment of the said sums to my said sister and to the said sister of my deceased wife, hereinbefore provided for, one-sixth to my grand-daughter Elizabeth O. Simmons and the balance and remainder equally between my son Z. G. Simmons, Jr., and my daughter Minnie S. Towne and my daughter Belle S. Lance, share and share alike, one-third to each.
4: It is my will and desire and I hereby direct that at the end of said period of ten years after my decease, my said Executor and Trustee shall pay or deliver to my said grand-daughter Elizabeth 0. Simmons one-sixth of my estate and property then remaining and shall then divide all and singular the rest, residue and remainder of my estate and the increment thereof into three equal shares or portions, and that one such share or portion be paid and conveyed to my said son Z. G. Simmons, Jr. and one such share or portion to my said daughter Minnie S. Towne and one such share or portion to my said daughter Belle S. Lanoe, or their respective heirs, executors or administrators; Provided, However, that if at any time before the expiration of said period of ten years my said son Z. G. Simmons, Jr. and my said daughters Minnie S. Towne and Belle S. Lance, or their respective heirs, executors or administrators, shall all agree in writing to divide said estate, that then and in that case my said executor and trustee shall forthwith and as soon as practicable without loss to my said estate, pay or deliver to my said grand-daughter Elizabeth O. Simmons one-sixth of my estate and property then remaining, and shall then divide the rest, residue and remainder of my estate and property into three equal portions and pay and convey one such share or portion to my said son Z. G. Simmons, Jr. : on'e such share or portion to my said daughter Minnie S. Towne, and one such share or portion to my said daughter Belle S. Lanoe, or to their respective heirs or legal representatives; Provided, However, that nothing herein contained shall prevent my said son and daughters from continuing said Trust beyond said period of ten years if a majority of them, or the survivors of them, shall elect in writing so to do; but in any event the one-sixth share of my said grand-daughter shall be paid or delivered to her at the end of said period of ten years.

In July 1921 petitioner, the daughters, and the son of the decedent, all being beneficiaries under the will of Z. G. Simmons, deceased, hereinafter referred to as the decedent, entered into the following agreement respecting a continuation of the trust for an additional period of 10 years:

Whereas, the last will and testament of Zalmon G. Simmons, deceased, provides for a trusteeship of his estate for a period of ten (10) years from the date of his death, and further provides that said trust may be continued beyond said period of ten (10) years by the written application of a majority of his heirs, or the survivors of them; and
Whereas, the said Zalmon G. Simmons, deceased, died at Kenosha, Wisconsin, on the 11th day of February, A.D. 1910:
Now, Theeeeoee, It Is Hereby Ageeed that tlie trusteeship created under said last will and testament be, and the same is hereby, continued for a period of ten (10) years from and after the 11th day of February, A.D. 1920.

8took and Bonds of Manitou <& Pikes Peak Railway Co.

At the time of his death on February 11, 1910, the decedent was the owner of certain shares of stock and bonds of the Manitou and Pikes Peak Eailway Co. On or subsequent to February 11,1920, the petitioner received as a part of the distribution made out of the trust created by the will of the decedent 814 shares of stock in that company and 70 of its bonds, such bonds having a face or par value of $1,000 each. The value of these securities on the dates indicated was as follows:

During 1925 the petitioner sold these securities, receiving $407 for the stock and $16,331.46 for the bonds. In her income tax return for that year she reported the transaction as follows:

In determining the deficiency for 1925 the respondent accepted the loss on the sale as returned by the petitioner, except that he treated it as a capital loss, whereas in her return the petitioner had deducted the amount of the loss from other income.

In an amended answer filed in September 1933 the respondent contended that the loss on the sale of the stock and bonds should be computed as follows:

The petitioner contends that the cost basis for computing the loss on the transaction is the value of the securities at the date of death of the decedent, February 11,1910, or their value on March 1, 1913, whichever is greater; that the loss on the stock is $33,847.10 as reported in her return; and that the loss on the bonds is $53,669.54 or an amount $4,924.17 in excess of that reported in her return. This excess results from the use of the value on February 11, 1910, which was greater than the value on March 1, 1913, which was used in the return.

In a stipulation of facts filed by the parties at the hearing the position of the respondent with respect to the computation of the amount of the capital loss on the sale of the stock and bonds is stated to be that advanced in his amended answer filed in September 1933, that is, by using as a cost basis the value of the securities on February 11, 1920. His position is further stated in the stipulation to be that “ in any event, the petitioner did not acquire, at the death of Z. G. Simmons on February 11, 1910, anything more than a future beneficial one-sixth interest in the residuary estate of Z. G. Simmons remaining after the payment by the trust created by the will of said Z. G. Simmons of the legacies bequeathed to Esther Stebbins and to Charity Eobeson as provided for in paragraph numbered 2 of the aforesaid will, and after the distribution of certain surplus income and profits during the period of said trust to various legatees as provided for in paragraph numbered 3 of the aforesaid will; and that, in determining petitioner’s capital gain or capital loss upon the sale of said stock and bonds, the cost basis thereof should be the value of said future beneficial one-sixth interest in the residuary estate of Z. G. Simmons rather than the value of said stock and bonds of Manitou & Pikes Peak Ky. Co. on February 11, 1910 (or March 1,1913).” At the hearing counsel for the respondent, after referring to decisions on the point and to a study of the statutes of Wisconsin, stated that the respondent was not now contending that the value on February 11, 1920, as advanced in the amended answer filed in September 1933, was the proper cost basis to be used, but the value of such securities at the time of the decedent’s death or on March 1, 1913, subject, however, to the charge upon them resulting from the provisions of the will for the payment of the amounts weekly and monthly to Esther Stebbins and Charity Eobeson, respectively. This is the position taken by him in his brief.

In view of the foregoing there appears to be no controversy between the parties with respect to whatever rights the petitioner acquired under the will of the decedent having vested in petitioner upon the death of the decedent in 1910. The controversy is as to whether in determining the amount of the loss on the stock and bonds the full value on February 11, 1910, or the full value on March 1, 1913, whichever is greater, is to be used, or whether such value is to be reduced on account of the payments to be made under the will to the legatees.

In William, Huggett, 24 B.T.A. 669, a grandmother of the taxpayer’s wife died testate in 1912, giving her daughter a life interest in half the income from certain securities, with a part of the remainder over to the taxpayer’s wife. In 1925 and in 1926 the taxpayer’s wife sold stock which had been distributed to her as a remainder-man. We there held that the basis for determining gain or loss was the value of the remainderman’s interest on the basic date as distinguished from the value of the stock itself on that date. On appeal in Huggett v. Burnet, 64 Fed. (2d) 705, our holding in this respect was held to be erroneous. With all due respect to the court, we think our decision is sound and should be followed by us in cases arising from the jurisdiction of other courts of review, at least until some of such courts have spoken in the matter. In our opinion the fair market value on a particular date of a share of stock or a bond, the possession of which and the complete enjoyment of the income from which are postponed or deferred until some later date or period, is not as great as a share of the same kind of stock or the same kind of a bond not subject to such restriction. Especially is this true in the instant case, where not only was the possession by the petitioner of the securities in question deferred for a period of 10 years, but such securities were charged proportionately with the payment of certain amounts weekly and monthly for indefinite periods, namely, during the lives of Esther Stebbins and Charity Eobeson, respectively.

With the exception that Esther Stebbins was about 75 years of age at the time of the death of the decedent, that she died in 1919 or 1920, and that at some time after 1920 the petitioner made provision for taking care of the payments to Charity Eobeson, we know nothing as to the value on February 11, 1910, or on any other date of the legacy payments that were to be made to these parties. Nor are we informed as to the portion of the petitioner’s proportional part of the value of the legacy payments on February 10, 1911, or on March 1,1913, that is applicable to the shares of stock and bonds here under consideration. While counsel for the petitioner discusses in his brief the amount of the adjustment to be made to the value of the stock and bonds on the basic dates on account of the legacies and reaches the conclusion that such adjustment would be less than one percent of the value of the securities on such dates, his conclusion is based in part upon mere assumptions unsupported by the record.

Since the rule laid down by us in the Ruggett case is applicable here and as the evidence submitted by petitioner is not complete enough to enable us to make any change in the amount of the losses on the sale of the stock and the bonds as reported by the petitioner in her return for 1925 and as accepted by the respondent in making his determination, the contention of the petitioner as to an increase in the amount of the allowance for a loss on the bonds must be denied. In view of the foregoing as well as the present position of the respondent with respect to the use of the value on February 11, 1920, in determining the amount of the loss on the stock and the bonds his request for an increase in the amount of the deficiency must be denied.

StocJc and Notes of Simmons Suywr, Ltd,.

At the time of his death the decedent owned 205 shares of the capital stock of the Simmons Sugar Co. Subsequent to the death of the decedent one Roberts made a claim against the estate for 25% shares of the stock under an option that he held. The claim was allowed, leaving 179% shares of the stock still owned by the estate. The company had been formed in 1908 or 1909 to prosecute the development of a new process, hereinafter referred to as the Simmons process, for the extraction of sugar from sugar cane. Prior to July 1911 it was found that a part of the process would not work as speedily as had been anticipated. However, this was considered only a minor disappointment.

In January 1910 one tenth or 100 shares of the outstanding stock of the Simmons Sugar Co. were purchased from the decedent and one McMullen by the United Fruit Co. at $2,500 per share. In 1910, subsequent to the death of the decedent, his son and McMullen purchased four shares of stock in the company at $2,500 per share. These two parties also in 1910 purchased a 90-day option at $250 a share to buy 100 shares of stock in the company at $2,500 a share. This option was extended for some undisclosed period, but was not exercised. About the same time two other options were given for the purchase of the stock at $2,500 per share. One option was for 30 shares and the other was for 8 shares. The consideration paid for these options, the period for which they extended, and whether they were ever exercised, is not disclosed.

About July 1, 1911, Simmons Sugar, Ltd., was formed and thereafter the 179% shares of stock owned by the estate of the decedent in the Simmons Sugar Co. were exchanged solely for 1,795 shares of stock in the newly formed organization. Thereafter the estate received 449 shares of stock in Simmons Sugar, Ltd., apparently as a bonus with the purchase of certain gold notes, to be referred to immediately. In 1911, in order to obtain funds for development and other purposes, Simmons Sugar, Ltd., offered its gold notes for sale to its stockholders in proportion to their stockholdings. In that year the estate of the decedent purchased between $45,000 and $46,000 face value of the notes for a like amount of cash. Having exhausted its own funds in attempting to develop the Simmons process, Simmons Sugar, Ltd., in 1912 entered into an agreement with the United Fruit Co., pursuant to which that company furnished such money as was spent thereafter. Under the agreement the United Fruit Co. was to obtain an interest in the patents of Simmons Sugar, Ltd., because of expenditures which it might make in developing those patents. Efforts to perfect the Simmons process were continued until 1922 when, after the expenditure of approximately $500,000 between 1910 and that year, it was abandoned because it had been found to be unsuccessful.

In 1922, when the Simmons process was abandoned, the only other asset that Simmons Sugar, Ltd., had was an application for a patent known as the Trindler application, which was for a process to make decolorization of carbon. The application had been filed on June 11, 1920, in the name of one Trindler and had thereafter on some undisclosed date been assigned to Simmons Sugar, Ltd. On June 18, 1920, one Chandler filed an application for a patent on the same or a similar process. Interference proceedings were begun by Chandler on February 27, 1925. Chandler took testimony respecting his application and proved that he had introduced the process into this country prior to the filing date of Trindler’s application. No testimony was taken with respect to the Trindler application. On some undisclosed date in 1926 the Trindler application was rejected by the Patent Office. Bills of an attorney for his services in prosecuting the Trindler application before the Patent Office were rendered to Simmons Sugar, Ltd., in 1924, 1925, and 1926, but were paid by the United Fruit Co.

On November 30, 1925, the petitioner received in distribution from the trust estate as created by the decedent’s will and as extended by the agreement in July 1921, 374 shares of stock in Simmons Sugar, Ltd., and $7,616.72 face value of its gold notes. The securities thus distributed to the petitioner represented her one-sixth interest in the total of such securities then held by the estate.

While the record does not disclose exactly what amount or amounts the petitioner deducted in her 1925 return as losses on the stock and notes of Simmons Sugar, Ltd., the deficiency notice discloses that the respondent disallowed a loss of $5,234.50 with respect to the shares of stock and $4,478.41 with respect to the notes, such amounts apparently having been taken as deductions for losses sustained on the sale of the securities.

The petitioner contends that these securities were sold on December 31, 1925, for 75 cents; that she sustained a deductible loss on account of such sale; that the cost basis for determining the amount of her loss is $74,625 for the 374 shares of stock (% of the total value of 179% shares of stock in the Simmons Sugar Co. at $2,500 per share, the value urged at July 1, 1911); and that the cost basis for determining the amount of the loss on the notes is $7,616.72 (the amount paid therefor by the trustee in 1911). The petitioner further contends that, if a deduction is not allowed in 1925 as a loss sustained on the sale of the securities in that year, she is entitled to a deduction in 1926 as a loss sustained as a result of the securities having become worthless in that year. The respondent denies that a bona fide sale of. the securities was made in 1925 and further denies that they became worthless in 1926. He contends that the value of the securities when acquired or on March 1, 1913, has not been shown, and, further, that there is no showing that the securities had not become worthless by December 31, 1924.

In order to establish the sale of the 374 shares of stock and the $7,616.72 face value of the notes for 75 cents on December 31, 1925, counsel for the petitioner offered in evidence at the hearing certain written, ex parte, and unsworn statements of deceased persons alleged to have been participants in the transaction. Some of the statements counsel attempted to identify by purely hearsay testimony. Certain other written but inconclusive data, such as canceled checks, sheets from brokers’ records, etc., which were dependent for their probative value upon the statements just referred to, were also offered. Objection to the admission of the statements and other data was made by counsel for the respondent and ruling was reserved. The testimony of the petitioner with respect to the transaction was not offered, notwithstanding the fact that it was available, at least by deposition. Upon consideration of the statements and other data offered in evidence by petitioner’s counsel we hold that they are not admissible. At most all that they purport to show is that the securities were sold by one Ahrens, who was an agent of the petitioner and who is now deceased, to one Bruck, who is also deceased, for a consideration of 75 cents. They disclose nothing as to whether the purported transaction was one at arm’s length, nor do they disclose anything as to any other matter relating to its genuineness. A purported sale of notes of a face value of $7,616.72 for 75 cents presents a serious question as to its genuineness, but when it is considered that a consideration of only 75 cents was paid for notes of a face value of $7,616.72 and 374 shares of stock, the question of genuineness becomes more serious. Especially is this true when it is considered that the stamp transfer tax payable by the petitioner on a sale of 374 shares of stock was practically 10 times the consideration alleged to have been received for both the notes and the stock. This would be more consistent with the idea of a gift than a genuine sale. Under the foregoing circumstances we think it is particularly significant that the testimony of the petition as to the alleged sale was withheld and the statements and data referred to above were offered. There being no evidence in the record as to a sale of the stock and the notes having been made in 1925, the petitioner’s contention as to the allowance of a loss on a sale thereof must be denied.

In support of the contention that the stock and notes became worthless in 1926 the petitioner relies on the fact that the application for a patent, which was the only asset owned by Simmons Sugar, Ltd., was denied in that year. The record shows that this was the only asset that that company had owned since some time in 1922. Aside from the statement of an attorney, who was handling the application before the Patent Office, that the application was not a frivolous one, we know nothing as to its merits or its value in 1925 or any other year prior to 1926. We know, however, that when interference proceedings were pending in 1925 those in charge of handling the application took no testimony to sustain it as against another who was contesting it while the party who was contesting it prevailed on the ground of the testimony he took. There is nothing in the recoi*d to indicate that if a patent had been granted Simmons Sugar, Ltd., it would have had any substantial practical or market value.

Aside from the amount of the notes of Simmons Sugar, Ltd., held by the decedent’s estate, which had been acquired in 1911, we are not informed as to the amount of that company’s notes that were outstanding in 1922 or in any other year. We are not informed as to when they were due, or whether anything had ever been paid on them either as principal or as interest. We know nothing as to the amount of any other outstanding indebtedness of that company in 1922 or at any other time. So far as the record shows it may well have been in 1922 that the amount of the secured indebtedness of the company was many times the value of the application for a patent and that it was definitely ascertainable in that year that not only the notes of the company but also its stock was worthless. The mere fact that the application for a patent was rejected in 1926 does not standing alone establish that the stock and notes became worthless in that year. Inasmuch as the record fails to furnish a basis for determining in what year the stock and notes became worthless the contention of the petitioner that they became worthless in 1926 must be denied.

Being unable to find that there was a sale of the stock and notes in 1925 or that they became worthless in 1926, it becomes unnecessary to determine what their cost basis for determining loss was to the petitioner.

Simmons Co. StoeJc.

The parties have stipulated as follows with respect to shares of stock in the Simmons Co. which were sold by the petitioner in 1925, 1926, and 1927:

The cost of 3,000 shares of common stock of Simmons Company sold by petitioner in 1925 for $109,180.00 is stipulated to be $13.53898 per share or $40,616.94 instead of $42,000.00 as reported in Schedule D of petitioner’s income tax return for 1925 and instead of $33,457.47 as determined by the Commissioner * * * and the capital net gain or loss upon the sale of said stock is to be computed on the basis of such stipulated cost.
The cost of 1,000 shares of common stock of Simmons Company sold by petitioner in 1926 for $49,875.00 is stipulated to be $13.53898 per share or $13,538.98, instead of $15,220.00 as reported in Schedule D of petitioner’s income tax return for 1926 and instead of $11,152.49 as determined by the respondent * * * and the capital net gain or loss upon the sale of said stock
is to be computed on the basis of such stipulated cost.
The cost of 500 shares of common stock of Simmons Company sold by petitioner in 1927 for $24,405.00 is stipulated to be $13.53898 per share or $6,769.49, instead of $7,910.00 as reported in Schedule D of petitioner’s income tax return for 1927 and instead of $5,576.25 as determined by the Commissioner * * * and the capital net gain or loss upon the sale of said stock is to be computed on the basis of such stipulated cost.

In a redetermination of the deficiencies for the respective years effect will be given to the foregoing stipulation of the parties.

Beviewed by the Board.

Judgment will he entered wader Rule 50.

Black,

dissenting: I dissent from the conclusion reached by the majority on the first point.

I believe we were in error in the rule which we laid down in William Huggett, 24 B.T.A. 669, and that case should no longer be followed. I think the Court of Appeals of the District of Columbia, in Huggett v. Commissioner, 64 Fed. (2d) 705, was right wherein it held in substance that the basis of property acquired by a remainder interest under a will, upon the death of the life tenant, is the value of the property at the date of the death of the testator or where death of the testator occurred prior to March 1, 1913, the value on that date may be used; and that the Board of Tax Appeals was in error in holding that the value of the property on March 1, 1913, should be reduced by the value of the estate of the life tenant.

It may be stated also in support of this view that the Board, in Farley Hopkins, 27 B.T.A. 845, and in Isabel Richardson Molter, 27 B.T.A. 442, held that under the provisions of the testator’s will the taxpayer received a vested remainder interest and that the date of acquisition of the property sold in the tax years was the date of the death of the testator and that the basis for gain or loss was the value of the property at the time of the testator’s death.

We said nothing in either case about reducing the value of the property by the life estate which was imposed upon it. Apparently that issue was not raised in either case. We followed the same rule laid down in Rodman E. Griscom, 22 B.T.A. 979. Our decisions in both of these latter cases have been affirmed and in affirming us in Hopkins v. Commissioner, 69 Fed. (2d) 11, the court cited with approval the opinion of the Court of Appeals of the District of Columbia in Huggett v. Commissioner, supra, reversing the Board.

So in view of these facts I think the weight of authority is that, in such facts as we have in the instant case, the basis for gain or loss is the value of stock at the time of the testator’s death, and if this event occurred prior to March 1, 1913, and the value at the time of the testator’s death is greater than the value on March 1, 1913, then the former figure becomes the basis for figuring gain or loss on a sale. Such seems to be the contention of the petitioner in the instant case as to the bonds of the Manitou & Pikes Peak Railway Co. They were of greater value at the time of testator’s death than on March 1, 1913.

It seems to me that petitioner is right in her contention as to the basis of loss on these bonds and should be sustained on that point.

MaRquette, Matthews, and Leech agree with this dissent.

Seawell,

dissenting: I dissent upon the grounds stated in my dissent to William Huggett, 24 B.T.A. 669, page 676, part of which is in agreement with the Circuit Court of Appeals on appeal of that case, 64 Fed. (2d) 705.


author: Teammell :

text:
    Greensboro Gas Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 73708.
    Promulgated July 31, 1934.

      Hoyt A. Moore, Esq., Dowqlas M. Moffat, Esq., and Joseph 0. White, Esq., for the petitioner.

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

Teammell :

The sole issue in this case is the amount of the deduction to which the petitioner is entitled on account of depletion of its natural gas properties, but in that connection two specific questions arise with respect to which the parties are in disagreement. The first question is whether the gross income from the properties, within the meaning of section 204 (c) (2) of the Eevenue Act of 1926, is the total proceeds of sales of gas after transportation through petitioner’s distribution system of pipe lines, compression stations, and meters, or whether such gross income comprehends only that portion of the total proceeds of sales which properly represents the amount received for the gas at the wells, commonly referred to as the market or field price. The second question is whether or not in computing gross income from the properties an amount equal to rents and royalties should be excluded or deducted from the total proceeds of sales.

Section 204 (c) (2) of the Eevenue Act of 1926 provides as follows:

(2) In the case of oil and gas wells the allowance for depletion shall' be 27% per centum of the gross income from the property during the taxable year. Such allowance shall not exceed 50 per centum of the net income of -the taxpayer (computed without allowance for depletion) from the property, except that in no case shall the depletion allowance be less than it would be if computed without reference to this paragraph.

Aside from the production and sale of oil, the sole business of the petitioner was the purchase, production, transportation, and sale of raw or natural gas to consumers. During the taxable period..the petitioner produced from wells on its properties 1,164,328 thousand cubic feet of gas, for which, less losses in transit, it received $466,-244.46. Petitioner contends that this amount, actually received from the sale of the gas, constitutes the gross income from the property ” under section 204 (c) (2), swpra, for the purpose of determining the allowable deduction for depletion.

Eespondent determined a total gross income from the petitioner’s properties of $251,650.95 for purposes of depletion, this amount being arrived at by first computing separately the gross income from each of the several properties in question and adding together the gross incomes so computed, using as a basis the market or field price of the gas before transportation from the properties, which market or field price respondent determined to be 23 cents per. thousand cubic feet, and deducting certain rents and royalties.

The stipulated facts show that the distance between the various points of production and consumption of the gas varied from one to twenty-five miles, and that the petitioner’s depreciated investment in gas mains, compression stations, pipes, and general equipment used in the transportation of gas to consumers amounted to more than $1,300,000 as of January 1, 1926. During the taxable period the petitioner paid or incurred expenses and sustained depreciation in the aggregate amount of $106,677.54 in the production of gas, and paid or incurred expenses and sustained depreciation in the aggregate amount of $116,485.12 in the transmission and sale of the gas so produced.

These facts, we think, very clearly indicate that a substantial part of the petitioner’s total gross income of $466,244.46 is attributable directly to the transportation and distribution of the gas, and can not fairly be said to be income from the gas-producing properties. The language of the statute is plain and unambiguous; the allowance for depletion is measured by the specified percentage “ of the gross income from the property during the taxable year.” This language can only be construed as referring to the property with respect to which the depletion allowance is sought. Income from all other sources must be excluded in computing the depletion allowance.

The expenses paid or incurred by the petitioner in connection with its business of transporting and distributing the gas exceed the expenses of producing the gas. If the total gross income was in fact derived from the respective businesses of production and distribution in proportion to the expenses incurred in each, then slightly less than half of the petitioner’s total gross income may be allocated to production and classified as “ the gross income from the property ” which is the subject of the depletion allowance. Respondent, however, determined the “ gross income from the propérty ” of the petitioner to be the amount of $251,650.95, or in excess of 50 percent.

It seems obvious that the prieé at which petitioner sold its gas to ultimate consumers included a charge for, and petitioner derived income thereby from, its services in transporting and distributing the gas and the use of properties for that purpose, in which properties the petitioner had the very substantial investment of more than $1,300,000. Such income, in our opinion, can not be said to be “ gross income from the property ” which produced the gas and in respect of which petitioner claims an allowance for depletion.

This conclusion is supported by the fact, stipulated by the parties, that during the taxable period petitioner purchased 52,344 thousand cubic feet of gas at a cost of approximately 21 cents per thousand cubic feet, transported the same through its gas mains and sold the gas to consumers at a price of approximately 40 cents per thousand cubic feet. The difference between the purchase and sale prices, to the extent that it exceeded cost of transportation, represented income derived by the petitioner from its services and investment in the properties used in transportation, and it would hardly be contended that such income constituted “ gross income from the property ” (in this instance not owned by the petitioner) which produced the gas. So also, if the petitioner had sold its gas at the wells and the same had been transported and distributed by others the increased price for distribution would not constitute gross income from the property ” of the petitioner, which produced the gas.

It is immaterial, we think, that petitioner transported and distributed the gas produced from its own properties. The income derived from the business of transportation and distribution, whether conducted by the petitioner or another, is not “ gross income from the property ” which produced the gas, within the meaning of th'e statute providing an allowance for depletion. , Only that portion of the petitioner’s total gross receipts which represents gross income from the operation of its gas-producing properties may be used as the basis for computing depletion. If 27% per cent of the total gross income of the petitioner were allowed as a deduction for depletion it would in effect amount to an allowance for depletion not only on the depletable property, but would also include an allowance for depletion on the transportation equipment, which is not subject to depletion Hut only to depreciation. Clearly Congress had no intention of allowing the percentage depletion on anything except a natural resource itself. Cf. Brea Canon Oil Co., 29 B.T.A. 1134, and Darby-Lynde Co. v. Alexander, 51 Fed. (2d) 56.

The respondent has determined the amount of petitioner’s “ gross income from the property ” on the basis of a market or field price of 23 cents per thousand cubic feet before transportation from the properties, and the petitioner does not attack respondent’s computation, nor does it offer evidence to show that the market or field price so determined by the respondent is not correct. Respondent’s determination of the fair market or field price is further supported by the fact that .during the taxable period the petitioner purchased gas at a price, before transportation, - only slightly in excess of 21 cents per thousand cubic feet. On the first point, respondent’s action is approved.

The second question is whether or not an- amount equal to rents and royalties should be excluded from the total gross receipts from sales of gas in computing “ the gross income from the property ” under section 204 (c) (2), supra. In considering this question it should be remembered that section 234 (a) (8) of the 1926 Act authorizes the deduction for depletion, and that section 204 (c) (2) merely provides the method or basis for the computation of the allowance. Therefore, section 204 (c) (2), quoted above, must be interpreted in the light of the provisions of section 234, which reads in material part as follows:

Sec. 234. (a) In computing the net income of a corporation * * * 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, including * * * rentals or other payments required to be made as a condition to the continued use or possession of property to which the corporation has not taken or is not taking title, or in which it has no equity;
* * * * * * *
(8) In the case of mines, oil and gas wells * * * a reasonable allowance for depletion and the depreciation of improvements, according to the peculiar conditions in each case; * * * In the ease of leases the deductions allowed by this paragraph shall be equitably apportioned between the lessor and lessee.

The petitioner urges that the last provision of subdivision (8), which requires that deductions for depletion and depreciation in the case of leases shall be equitably apportioned between the lessor and lessee,.has no application to oil and gas wells. We can find no support for such contention.

In Twin Bell Oil Syndicate, 26 B.T.A. 172, 177, after quoting sections 234 (a) (8) and 204 (c) (2) of the 1926 Act, supra, we said:

The above provision (Sec. 234 (a)(8)) is mandatory in two respects; first, that there shall be allowed as a deduction a reasonable allowance for depletion, and, second, that such deduction shall, in the case of leases, be equitably apportioned between the lessor and the lessee.
* * Hs * % * *
Reading the two sections together, that is, the one authorizing a deduction for depletion (234 (a)(8)) and the oilier prescribing the basis (204 (c)(2)), it is clear that the reasonable allowance for depletion in the case of oil and gas wells on leased property, which is to be equitably apportioned between the lessor and the lessee, is 27% per cent of the gross income from the property during the taxable year. * * *
The. petitioner, as lessee, had a three-fourths interest in the oil produced from the wells, the other one-fourth interest being in Batson, the lessor, and Andrews, the original lessee. The depletion allowance with respect to the oil and gas wells is 27% per cent of the gross income from the wells, equitably apportioned between petitioner, Batson and Andrews.
The depletion allowance determined by the Commissioner is 27% per cent of the petitioner’s share of the gross income from the oil and gas wells, which amount is exactly the same as would have been determined if the Commissioner had taken 27% per cent of th,e total gross income from the property and apportioned three-fourths of such amount to the petitioner.

It may be noted that the respondent has pursued the same method of computation in the instant case, that is to say, he deducted the amount of the rents and royalties from the gross proceeds of sales of gas from properties, and computed petitioner’s allowance for depletion on the remainder representing its share of the gross income, which produces exactly the same result as if the total allowance for depletion had been first computed and then apportioned between the lessors and the petitioner, the lessee.

Petitioner concedes that such procedure is proper in the case of those leases which provided for the payment of a portion of the gas as rents and royalties, but in respect of the other leases which provided for the payment of rents and royalties in money, the petitioner contends that the amount so paid should not be excluded or deducted from gross receipts in determining gross income from the properties.

We think there is no merit in this contention. It is unimportant whether the lessors were to receive a portion of the gas produced as rents and royalties or whether the contracts provided for the payment of fixed amounts in money. Where the rent reserved is a specified portion of the gas produced, the entire production is sold and the proceeds from the sale of the lessor’s portion paid over to him. In this situation the petitioner does not contend that the lessor’s portion of the gas should be included in the gross income of the lessee. Where the rents and royalties are payable in money the lessee sells the entire production and pays over to the lessor the amount specified, and thus in either case the lessee’s share of “ the gross income from the property ” is the total gross receipts less rents and royalties.

In whatever form rents and royalties may be payable, the lessor, as well as the lessee, has an economic interest in the property, and is entitled to depletion computed on such basis, which right does not depend upon the lessor’s retention of ownership or any other particular form of legal interest in the mineral content of the land. Palmer v. Bender, 287 U.S. 551. And see also Murphy Oil Co. v. Burnet, 287 U.S. 299. The lessor is entitled to depletion allowance on bonus and royalties, even though by the local law ownership of the minerals in place passed from the lessor upon the execution of the lease. Burnet v. Harmel, 287 U.S. 103.

Section 234 (a) (1) of the statute, supra, permits the deduction of rental or like payments in computing net income only where the lessee corporation has not taken and is not taking title to the property and has no equity therein. In the case of oil and gas wells, a lessee corporation acquires an equity in the property by the payment of rents and royalties. It thereby acquires the right to extract the oil and gas for its own profit. It is more' than the mere right of occupancy and use of the premises. It is a right to reduce to possession the oil and gas for the lessee’s use, and the lessee at least acquires an equity in the leased property. Under Pennsylvania law, the lessee acquires an interest in the realty. See Brown v. Beacher, 120 Pa. St. 590; 15 Atl. 608; McElwaine’s Appeal (Pa.), 11 Atl. 453.

Rents and royalties paid by a lessee in the case of oil and gas wells are fundamentally in the nature of capital expenditures; they represent to the lessee the cost of the oil or gas sold. Hence an amount equal to such payments must be deducted from gross receipts to determine the lessee’s gross income from the property, or the deduction for depletion must be computed on gross receipts and then apportioned between the lessor and lessee. ' Otherwise there would be included in the lessee’s gross income, which is the basis for computing the net taxable income, that which is not true income, ¡but the return of the cost of that which was sold. Gross income from a business in which sales of property are involved does not include the cost of the property sold. The capital outlay for the •cost must be subtracted from gross receipts. We must keep in mind the distinction between gross receipts and gross income. The depletion deduction is based on gross income and not gross receipts. The situation presented here is analogous to that of a merchant who is required to deduct from his gross receipts the cost of goods sold in determining gross income. It is only the latter which is the basis for computing depletion in the case before us.

. A lease involving natural resources, including oil and gas wells, is essentially different from a lease of other kinds of property, such us a house, for example. In the case of a natural resource, both the lessor and lessee have an economic interest in the property, which is exhausted or depleted by production, hence each is entitled to a deduction for depletion, according to the extent of his interest or investment. In all other cases the lessor is the owner of the whole property, in which the lessee has no investment or economic interest; the lessee merely acquires a right to the possession and use of the property in accordance with the terms of his contract, and is, therefore, not entitled to any allowance for exhaustion of the property, but may deduct from gross income under section 234 (a) (1) supra, as a business expense the amount of the rental paid.

It is because of these basic facts that Congress has provided in section 234 (a) (1) for the deduction as business expenses of rentals only where the lessee has not taken or is not taking title to the property, “ or in which it has no equity.” In harmony with the same principles and for the same basic reasons, Congress has further provided in subdivision (8) of section 234 (a) that in the case of leases •of natural resources, including oil and gas wells, the deduction •allowed for depletion shall be equitably apportioned between the lessor and lessee. It is significant that the provision does not apply to leases of any kind of property except natural resources. It is the same consideration, in our opinion, which led Congress to adopt a qualifying amendment in the Revenue Act of 1934, which will be further discussed hereinbelow, making mandatory the exclusion from the lessee’s gross income of an amount equal to any rents or royalties paid in respect of oil and gas wells.

The principles above referred to have been recognized by the Supreme Court of the United States in numerous cases. In Lynch v. Alworth-Stephens Co., 267 U.S. 364, the interests of the lessor and lessee in mining property were defined by the Court as follows:

It is said that the depletion allowance applies to the physical exhaustion of the ore deposits, and since the title thereto is in the lessor, he alone is entitled to make the deduction. But the fallacy in the syllogism is plain. The dednntion for depletion in the ease of mines is a special application of the general rule of the statute allowing a deduction for the exhaustion of property. While respondent does not own the ore deposits, its right to mine and remove the ore and reduce it to possession and ownership is property within the meaning of the general provision. Obviously, as the process goes on, this property interest of the lessee in the mines is lessened from year to year, as the owner’s property interest in the same mines is likewise lessened. There is an exhaustion of property in the one case as in the other; and the extent of it, with the consequent deduction to be made, in each case is to be arrived at in the same way, namely, by determining the aggregate amount of the depletion of the mines in which the several interests inhere, based upon the known value of the property, and allocating that amount in the proportion to the interest of each severally considered.

And again in Palmer v. Bender, supra, the Court said:

The language of the statute is broad enough to provide, at least, for every case in which the taxpayer has acquired, by investment, any interest in the oil in place, and secures, by any form of legal relationship, income derived from* the extraction of the oil, to which he must look for a return of his capital.
That the allowance for depletion is not made dependent upon the particular legal form of the taxpayer’s interest in the property to be depleted was recognized by this court in Lynch v. Alworth-Stephens Co. * * * There a depletion allowance under section 12 (a) of the 1916 Act * * * was claimed by a lessee of a mining lease, in the computation of tax on income from the proceeds of ore mined. The statute made no specific reference to lessees, and the government argued that, as the lessee acquired no ownership of the ore until the severance from the soil, * * * the lease gave him no depletable interest in the ore in place. But this Court held that, regardless of the technical ownership of the ore before severance, the taxpayer by his lease, had acquired legal control of a valuable economic interest in the ore capable of realization as gross income by the exercise of his mining rights under the lease. Depletion was therefore allowed.
Similarly, the lessor’s right to a depletion allowance does not depend upon his retention of ownership or any other particular form of legal interest in the mineral content of the land. It is enough if by virtue of the leasing transaction he has retained a right to share in the oil produced. If so, he has an economic interest in the oil, in place, which is depleted by production. Thus we have recently held that the lessor is entitled to a depletion allowance on bonus and royalties, although by the local law ownership of the minerals in place passed from the lessor upon the execution of the lease. * * *
In the present case the two partnerships acquired by the leases to them, complete legal control of the oil in place. Even though legal ownership of it, in a technical sense, remained in their lessor, they, as lessees, nevertheless acquired an economic interest in it which represented their capital investment and was subject to depletion under the statute.

For tbe reasons indicated we are impelled to the conclusion that both the lessor and lessee in the case of an oil or gas lease have an economic interest in the depletable property where taxable income is derived by production, and that each is entitled to an allowance for depletion according to his interest; that the total allowable deduction is required by the statute to be equitably apportioned between the lessor and lessee, which apportionment may be accomplished by alio-eating to each party his proportionate part of the total deduction computed upon the basis of the gross receipts from the property, or the lessee’s deduction may be determined on the basis of his share of the gross income from the property, arrived at by deducting from gross receipts, and thus excluding from the total gross income, an amount equal to the rents and royalties paid or incurred by the lessee in respect of the property.

In reaching the conclusion above indicated, we have carefully considered the recent opinion of the United States Circuit Court of Appeals for the Ninth Circuit, reversing our decision on this point in Twin Bell Oil Syndicate v. Helvering, 70 Fed. (2d) 402, but with all due deference to the court, we are unable to concur in its views.

Section 204 (c) (2) of the Revenue Act of 1926, hereinabove quoted, which authorized for the first time the percentage deduction for depletion in the case of oil and gas wells, was reenacted in identically the same language as section 114 (b) (3) of the Revenue Act of 1928. The respondent construed this section as requiring the exclusion from gross income of rents and royalties in computing the 27% per cent deduction for depletion under both the 1926 and 1928 Acts. Thereafter, the same provisions were again reenacted as section 114 (b)(3) of the Revenue Act of 1932, with an amendment which added the words “ excluding from such gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect of the property.” Thus, Congress incorporated into the statute the prior practice of the respondent.

The legislative history of the enactment, we think, indicates that the purpose of the amendment was to clarify the existing law— not to change it and declare a new rule. The amendment in question originated in the Senate, and was offered in the following circumstances:

Mr. Smoot: * * * I may also say that I have 10 or 11 other amendments of a clarifying nature which I want to offer following the one now offered.
Mr. Kiítg : I think my colleague should state that the amendments which he is about to offer were all presented to the committee, considered by the committee, and unanimously agreed to by it.
Mr. Smoot: Tes; and they were all prepared by the Treasury Department. [Congressional Record, vol. 76, part 10, pp. 11629, 11630.]

The amendment to section 114 (b) (3) (numbered 53) was one of the clarifying amendments so offered by Senator Smoot and was adopted by the Senate. In conference the amendment was accepted by the House, and in the Conference Report, at page 14, it was stated:

Amendment No. 58: This amendment makes it clear that in computing the gross income from the property, for the purpose of determining the allowance for percentage depletion in the case of oil and gas wells, there shall be excluded from such gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect of the property; and the House recedes.

It is obvious, we think, that amendment No. 53 was not prepared by the Treasury Department, and was not enacted by the Congress, for the purpose of changing the prior law and establishing a new rule, but to recognize the prior practice under the 1926 and 1928 Acts and “ crystallize it into statute law.”

In Commissioner v. Liberty National Co., 58 Fed. (2d) 57, it was held that the enactment of a provision in the Revenue Act of 1928, relating to transactions between affiliated corporations, did not demonstrate that such was not the law prior to 1928. The court said:

Tlio conclusion does not follow. In Luckenbach S. S. Co. v. United States, 280 U. S. 173, * * * the court held a statute was enacted not to change the prior practice, but to recognize it and crystallize it into statute law. So here.

Fire Companies Building Corp., 23 B.T.A. 550, 554, involved a situation somewhat similar in principle to the present case. The question there was whether an insurance company might be included in a consolidated return with an ordinary corporation not engaged in the insurance business, within the meaning of section 240 of the 1926 Act, which provided that affiliated corporations might make consolidated returns. The" section did not specifically exclude insurance companies. By a Senate amendment to section 141 (e) of the 1928 Act it was provided that insurance companies should not be included in the same consolidated return with other corporations. In reference to this provision, the Conference Committee reported that “ The House recedes with a clarifying amendment to subdivision (e) of the Senate amendment providing specifically that an insurance company * * * shall not be included in the same consolidated return with a corporation subject to tax imposed in section 13.” In considering the effect of the amended provision in the 1928 Act, we said:

The Committee referred to the change contained in the Revenue Act of 1928 excluding insurance companies from a consolidated return with other corporations as being a clarifying provision. In other words, they expressed the view that this was put in the 1928 Act for the purpose of clarifying what had been contained in the 1926 Act.
From what we have said above, we think that it was the intention of the 1926 Act that insurance companies should not be included in a consolidated return with other corporations, and that the 1928 Act made that intention perfectly clear.
The Circuit Court of Appeals for the Second Circuit, in the case of Merle-Smith v. Commissioner, 42 Fed. (2d) 837, has recently held that a subsequent statute may be construed as a clarification of a previous act rather than as a change in the law.

On appeal, our reasoning in the above case was substantially approved, and our decision affirmed, by the United States Circuit •Court of Appeals for the Second Circuit at 54 Fed. (2d) 488.

Application of the same reasoning here leads us to conclude that the proper construction of section 204 (c) (2) of the 1926 Act requires that in computing gross income from the property, for the purpose of determining the allowance for percentage depletion in the case of oil and gas wells, there must be excluded from gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect of the property, and that the clarifying amendment to section 114 (b) (3) of the 1928 Act makes clear that such was the law under the 1926 Act.

Respondent’s determination on the second point is approved.

Reviewed by the Board.

Judgment will be entered wider Rule 50.

Sternhagen, Murdock, McMahon, Goodrich, and Leech concur in the result.


author: Van Fossan:

text:
    George F. Krug, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 46713.
    Promulgated July 31, 1934.

      Claude I. Parker, Esq., and George H. Poster, Esq., for the petitioner.

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

Van Fossan:

Respondent proposes to assess against and collect from the petitioner the sum of $17,127.60 as his liability as transferee of the property of the Krug Baking Co., a corporation, such amount having been assessed against that company for the year 1918.

The sole issue is whether or not the various statutes of limitation prevent such assessment and collection.

The material facts were stipulated substantially as follows:

The petitioner is an individual, residing in Los Angeles, California. During the year 1918 he was the principal stockholder of the Krug Baking Co. (hereinafter referred to as the Ohio Co.). The Ohio Co. was organized under the laws of the State of Ohio in 1915 and was engaged in the baking business at 13 Joe Street, Dayton, Ohio. It was dissolved on March 21, 1921.

On the first day of July 1918 the Ohio Co. entered into a written agreement with William B. Ward by which the company agreed to sell and convey to Ward or his assignee all of the company’s property of every kind whatsoever, real, personal, and mixed, for the consideration of $325,000, to be paid by the purchaser as follows: $25,000 in cash on the closing of title, five promissory notes of $20,000 each, bearing interest at the rate of 7 percent per annum, and the balance of $200,000 by executing a purchase-money mortgage for that amount to secure the payment of an issue of bonds payable in yearly amounts of $20,000 each, beginning January 1, 1925, and bearing interest at the rate of 6 percent per annum, payable semiannually. The seller agreed not to engage directly or indirectly in the baking business for a period of 10 years within a radius of 50 miles from the plant at Dayton, Ohio.

The agreement also provided, among other things, that:.

Tlie purchaser shall also assume and pay all of the debts and obligations of said company of every kind and description including its United States income taxes since January 1, 1918, with the understanding that such debts and obligations, but not including any excess profits or income tax as aforesaid, shall not be in excess of $10,000 over its bills and accounts receivable.

In accordance with the terms of the contract between Ward and the Ohio Co., Ward assigned all his rights and obligations under the contract to the Krug Baking Co., a corporation organized under the laws of the State of Delaware (hereinafter called the Delaware Co.). The Delaware Co. was thereupon substituted in place of Ward as purchaser of all the assets of the Ohio Co.

The consideration of $325,000 referred to in the aforesaid contract between the Ohio Co. and William B. Ward was paid to the Ohio Co. by the Delaware Co. The $325,000 was, upon dissolution of the Ohio Co., distributed to George F. Krug, principal stockholder. William B. Ward was not a stockholder of the Ohio Co., nor was any stockholder of that company a stockholder of the Delaware Co.

From July 1, 1918, until December 31, 1922, the Delaware Co. was engaged in the baking business at 13 Joe Street, Dayton, Ohio. On October 1,1919, the Ward Brothers Co., a corporation organized under the laws of the State of New York, acquired all of the capital stock of the Delaware Co. On December 31,1922, the Ward Brothers Co. succeeded to the assets and assumed all the liabilities of the Delaware Co. The assets succeeded to had a net value in excess of the amount of $13,254.34. The transfer of assets from the Delaware Co. to the Ward Brothers Co. was in liquidation of the capital stock of the Delaware Co. owned by the Ward Brothers Co. The baking business formerly conducted by the Delaware Co. was conducted at the same location by the Ward Brothers Co. on and after December 81, 1922.

On June 16, 1919, there was filed with the collector of internal revenue for the first district of Ohio, Form 1120, final Federal income tax return of the Krug Baking Co. (Ohio) for the year 1918. The portion of the return (put in evidence at the hearing) on which the signature of the president and treasurer of the corporation should appear has been tom out. The return is not sworn to, the form prescribed for that purpose having been left blank.

The Commissioner of Internal Revenue caused an audit and investigation to' be made of the Ohio Co.’s income tax return for 1918 and as a result of such audit and investigation the Commissioner assessed additional income and profits taxes for the year 1918 in the amount of $17,127.60 against the Ohio Co. The assessment was made on the Commissioner’s June 1922 list', page 22, line 1, under date of July 19, 1922.

• Subsequently there were filed in the Treasury Department certain documents (waivers) dated, respectively, February 28, 1924, April 1, 1925, and November 3, 1925. The document dated February 28, 1924, was signed by the Commissioner of Internal Revenue and by G. G. Barber as treasurer and William B. Ward as president of the Krug Baking Co. G. G. Barber and William B. Ward were at no time officers, directors, stockholders, or agents of the Ohio Co. The documents dated, respectively, April 1, 1925, and November 3, 1925, were signed by the Commissioner of Internal Revenue and by “ Ward Bros. Co. (successors to The Krug Baking Company Inc. by Brayton Campbell Sec’y and Treas.).” The three documents were the only documents filed which purported to extend the time within which taxes for the year 1918 might be assessed against the Ohio Co.

No part of the additional taxes assessed against the Ohio Co. on July 19, 1922, in the amount of $17,127.60 for the year 1918, has been paid.

The correct deficiency in tax of the Ohio Co. for the year 1918 is $13,254.34. The amount assessable or collectible from the petitioner as transferee of the Ohio Co. is not in excess of $13,254.34 for the year 1918.

On December 20, 1926, the Commissioner of Internal Revenue mailed by registered mail to the Krug Baking Co., 13 Joe Street, Dayton, Ohio, a notice of deficiency in tax in the amount of $27,825.55 for the calendar year 1918.

On February 18, 1927, there was filed with the Board of Tax Appeals by the Ward Brothers Co. a petition appealing from the notice of deficiency dated December 20, 1926, directed to the Krug Baking Co. On July 5, 1927, the Commissioner filed his answer to the petition filed by Ward Brothers Co., which petition had been given Docket No. 24445 by the Board. On January 22, 1931, the Ward Brothers Co. filed a motion to dismiss the petition of February 18, 1927.

The motion to dismiss came on for hearing before the Board on February 4, 1931, and on February 10, 1931, the Board entered an order dismissing said appeal of the Ward Brothers Co. for lack of jurisdiction.

On July 18, 1927, the Commissioner mailed by registered mail a 60-day letter to the Ward Brothers Co., proposing against the Ward Brothers Co. a liability of $17,983.98 as transferee of the assets of the Krug Baking Co. of Ohio. A petition was filed with the Board by the Ward Brothers Co. on September 3, 1927, and given Docket No. 30992. In the petition the Ward Brothers Co. denied that it was a transferee of the assets of the Krug Baking Co. of Ohio. Subsequently the matter came on for hearing and was made the subject of a decision by the Board in Ward Brothers Co., Docket No. 30992, promulgated November 30, 1931, and appearing at 24 B.T.A. 989. (A decision of no transferee liability was entered.)

On October 28, 1929, there was mailed to George F. Krug, the petitioner herein, 975 Westchester Place, Los Angeles, California, a 60-day letter proposing an assessment of $17,127.60 against Krug as transferee of the Krug Baking Co., Dayton, Ohio, under section 280 of the Kevenue Act of 1926. The proposed liability of $17,127.60 has never been assessed against the petitioner and no proceedings in court have been taken by the Commissioner against Krug to enforce collection of the proposed liability in the amount of $17,127.60. No waiver or waivers of the statute of limitations for assessment and/or collection of additional taxes or liabilities for the year 1918 have ever been executed or filed by the petitioner.

The respondent seeks to hold the petitioner liable for the taxes of his transferor, pursuant to the provisions of section 280 (b) of the Kevenue Act of 1926. He also cites section 504 of the Kevenue Act of 1928, amending section 277 (b) of the Revenue Act of 1926.

The petitioner contends that the assessment of the proposed transferee liability against him is barred by the statute of limitations, citing United States v. Updike, 281 U.S. 489; Caroline J. Shaw, Executrix, 21 B.T.A. 400, and similar cases.

We believe this case is controlled by the holding of the Supreme Court in United States v. Updike, supra. In that case the Court held that notwithstanding the failure of the taxpayer to make a return as required by law, thereby giving the Government the right to sue for collection at any time, if the Government chose to assess the tax against the corporation, such assessment started the running of the statute of limitations and a proceeding to collect from the stockholder must be brought within six years. The Court brushed aside the contention that in view of section 280 of the Revenue Act of 1926 a proceeding against the stockholders was not a proceeding to collect the tax, holding that it was “ in every sense a proceeding to collect a tax ” regardless of the fact that section 280 refers to the .same as “ the liability at law or in equity, of a transferee of property of a taxpayer, in respect of the tax * * * imposed on the taxpayer.” Under the Court’s opinion no distinction is to be drawn between the “ tax ” of the transferor and the “ liability ” of the transferee.

The Court pursued its reasoning further, by observing that:

The clear intent of section 278, as applied to the facts of the present case, was to designate the extent of time for the, enforcement of the tax liability. Where,'in a “no return” case, an. assessment, which, under paragraph (a), may be made at any time, has in fact been made, a proceeding to collect must be begun within six years thereafter; but, where there has been no assessment, the proceeding may be begun at any time. In the present case there was an assessment, and it would not be doubted that the suit was barred at the expiration of tire six-year period of limitation, unless for the presence of the words italicized above. Have these words the effect of averting the bar? We think not. An actual assessment having been made, it must be assumed that the government was in possession of the facts which gave rise to the liability upon which the assessment was predicated. In such case to allow an indefinite time for proceeding to collect the tax would be out of harmony with the obvious policy of the act to promote repose by fixing a definite period after assessment within which suits and proceedings for the collection of taxes must be brought.

The reasoning of the Supreme Court would seem to be equally applicable to the case at bar, although the Updike case was'initiated under the provisions of section 278 of the 1926 Act, while the procedure here is under section 280 of that Act. Here no return as prescribed by law was filed. See Lucas v. Pilliod Lumber Co., 281 U.S. 245. An assessment, however, was made in 1922 against the transferor. If an assessment invoked the statute of limitations in a case under section 278, it would seem to follow that it would have had similar effect under section 280. Respondent had six years in which to proceed against the transferee. Gasoline J. Shaw, Executrix, supra. The notice of liability to the petitioner did not issue until 1929, or more than six years after the assessment was made. We are of the opinion that it came too late. See Caroline J. Shaw, Executrix, supra; Frank L. Roche, 21 B.T.A. 1139.

The respondent cites American Equitable Assurance Co. v. Helvering, 68 Fed. (2d) 46, to sustain his position that the statute did not run during the time a proceeding was pending before the Board.

The notice of liability was mailed to petitioner October 28, 1929. No assessment was ever made against him and no waivers were ever given by him. No proceeding had ever been filed by him or in his behalf. This proceeding was docketed December 24, 1929. The facts are very different in American, Equitable Assurance Co. v. Helvering. There the preceding petition, which was dismissed for lack of jurisdiction, was filed by the same taxpayer who filed the later petition. Furthermore, an assessment was made against the taxpayer which the court held good as a jeopardy assessment. By the terms of the contract in that case, the petitioner agreed to pay the taxes of the predecessor company and the court held the Government could enforce this provision. We do not find the American Equitable Assurance Co. case to be authority in the present situation.

Reviewed by the Board.

Decision of no transferee liability will be entered.

       Sec. 280. (b) The period of limitation for assessment of any such liability of a transferee or fiduciary shall be as follows:
      (1) Within one year after the expiration of the period of limitation for assessment against the taxpayer; or
      (2) If the period of limitation for assessment against the taxpayer expired before the enactment of this Act but assessment against the taxpayer was made within such period, — then within six years after the making of such assessment against the taxpayer, but in no case later than' one year after the enactment of this Act.
      (3) If a court proceeding against the taxpayer for the collection of the tax has been begun within either of the above periods, — then within one year after return of execution in such proceeding.

       SEC. 504. suspension OE RUNNING OE STATUTE OE LIMITATIONS.
      (a) Section 277 (b) of the Revenue Act of 1926 is amended to read as follows:
      “(b) The running of the statute of limitations provided in this section or in section 278 on the mating of assessments and the beginning of distraint or a proceeding in oourt for collection, in respect of any deficiency, shall (after the mailing of a notice under subdivision (a) of section 274) be suspended for the period during which the Commissioner is prohibited from making the assessment or beginning distraint or a proceeding in court (and in any event, if a proceeding in respect of the deficiency is placed on the docket of the Board, until the decision of the Board becomes final), and for 60 days thereafter.