author: Haeeon :

text:
    Camille R. Gump, Executrix, and Edwin Letts Oliver, Executor of the Estate of Alfred S. Gump, Deceased, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 90656.
    Promulgated June 25, 1940.

      Ohas. A. Ohrislin, Esqand Myrtile Oerf, O. P. A., lor the petitioners.

      T. M. Mather, Esq., and Alva O. Baird, Esq., for the respondent.
   OPINION.

Haeeon :

The first question to be determined is whether the respondent erred in including in the gross estate of decedent the value of all the community property. The petitioners contend that at the time of his death in 1934 the decedent had no interest in the wife’s share of the community property. They rely upon the provisions of section 1401 of the Civil Code of California, later section 201 of the Probate Code of California. It is argued that under that statute one-half of the community estate “belongs to” the wife. It is further argued that, since the husband’s power of testamentary disposition of community property is limited to one-half thereof, he has no interest in the other half.

This question has been considered many times by the Board and courts. It has been repeatedly held that the interest of a surviving wife in community property acquired prior to July 29,1927, is under the laws of California no more than a mere expectancy, although her interest may be more definite than that of an ordinary heir, and that her share in the community property passes to her by succession and, therefore, is includable in the gross estate of the deceased husband and subject to the Federal estate tax. Estate of Philip McRae, 30 B. T. A. 1087; Mary M. Buck et al., Executors, 25 B. T. A. 780; Alexander T. Sokolow et al., Executors, 22 B. T. A. 349; Lulu Vance Baumgartner, 21 B. T. A. 623; L. G. Wolfe, Administrator, 20 B. T. A. 1065; Eleanor Jane Zeile, Executrix, 20 B. T. A. 1039; Mercantile Trust Co. of California, Administrator, 20 B. T. A. 927; Elizabeth W. Driver, Executrix, 20 B. T. A. 910; Mattie Belle Wallace, Administratrix, 20 B. T. A. 862; Henrietta Biewener, Executrix, 20 B. T. A. 808; Helena Liebes, Executrix, 20 B. T. A. 731; Agnes Silverberg, Executrix, 20 B. T. A. 716; Lillian M. Wheeler, Executrix, 20 B. T. A. 695; American Trust Co. et al., Executors, 20 B. T. A. 666; Joseph P. Levy et al., Executors, 18 B. T. A. 337; Katherina Richter, Executrix, 16 B. T. A. 936; Griffith Henshaw, Executor, 12 B. T. A. 1441; affd., 31 Fed. (2d) 946; certiorari denied, 280 U. S. 565; Mary Brent, Executrix, 6 B. T. A. 143; Talcott v. United States, 23 Fed. (2d) 897; certiorari denied, 277 U. S. 604; Title Insurance & Trust Co. v. Goodcell, 60 Fed. (2d) 803; certiorari denied, 288 U. S. 613; United States v. Robbins, 269 U. S. 315; Mark v. Title Guarantee & Trust Co., 122 Cal. App. 301; 9 Pac. (2d) 839.

The petitioner’s contention that a part of the gross estate as determined by the respondent constitutes property in which the surviving wife had an interest of a tenant in common is wholly without merit.

Exhibit 5 introduced in evidence by the petitioners is a schedule listing assets of a value of $714,884.05 included in the gross estate of the decedent which it is claimed were acquired as the proceeds of, or with the moneys received from Abraham L. Gump under the contracts of February 9 and December 23, 1929. This amount of $714,-884.05 includes the unpaid installments under the contracts of $384,-994.45. It is the contention of the petitioners that the difference between $714,884.05 and $384,994.45, or $329,889.60 constitutes property held as tenants in common and that therefore one-half thereof, or $164,944.80, in addition to the one-half of the value of the unpaid installment obligations, should be excluded from the gross estate of decedent.

It is stated on brief that by the terms of the contracts of February 9 and December 23,1929, the entire consideration of $1,184,994.45 was payable to the decedent and his wife, that there was a complete merger of their interests for a single consideration, and that they took the consideration in undivided and unallocated equal interests. It is argued that therefore the property to the value of $714,884.05 was held as tenants in common under section 164 of the Civil Code of California 1929. In other words, petitioners claim in effect that the contracts of sale made in 1929 converted community property into property held as tenants in common.

The above statement of petitioners pertaining to the terms of the contracts is erroneous in fact. The total consideration under the contracts, although the stock sold included 46 shares of stock of the Gump Co. therein stated to be owned by Camille B. Gump, was expressly made payable to the decedent. The seven notes were made payable to the order of the decedent. It is reasonable to infer from the entire record that decedent’s wife merely joined in the agreements to evince her consent to the sale of her 46 shares by the decedent as well as the sale of the other stock involved in which she had a community interest, although the contracts expressly state that the decedent was the owner thereof. See Riley v. Gordon, 30 Pac. (2d) 617 (Cal., 1934), wherein it is held that previous to 1927 title to community property was vested in the husband subject to the statutory restraints upon his power to alienate or encumber the same without the wife’s consent and the power given her to devise a portion thereof, and that a wife’s joinder in a deed covering community property acquired prior to 1927 was in legal effect but an expression of her assent to the transfer by her husband. Furthermore, the court in the probate of the estate found that the entire estate of decedent, as inventoried by the executors, in which the property now claimed to be held as tenant in common was included, was community property, excepting $18,688.16, which amount was ordered to be paid to decedent’s wife for the 46 shares of Gump Co. stock held in trust and sold by decedent under the contracts made in 1929. State law creates legal interests and is controlling as to the rights of legatees and beneficiaries and in the administration of estates and testamentary trusts. Burnet v. Harmel, 287 U. S. 103; Blair v. Commissioner, 300 U. S. 5; Freuler v. Helvering, 291 U. S. 35; Susan B. Armstrong, 38 B. T. A. 658.

The decedent acquired the stock sold under the contracts executed in 1929 prior to July 29,1927. Assets of the value of $714,884.05 out of the total gross estate of $802,737.41 were admittedly acquired as the proceeds of or with moneys received under such contracts. The character of the stock sold determines the character of the property acquired with the consideration received for the stock sold in 1929. McKay’s Community Property § 518; Hannah v. Swift, 61 Fed. (2d) 307.

We conclude that the gross estate of decedent constituted the community property of decedent and his wife, which, so far as the record shows, had all been acquired prior to July 29, 1927. Upon the authority above cited, such property is includable in its entirety in the gross estate of decedent for the purpose of Federal estate taxation.

We will now consider the question as to the value to be included in decedent’s gross estate of the notes of Abraham L. Gump, in the aggregate face value of $384,994.45, which represent the unpaid installments under the contracts made in 1929.

It is petitioners’ contention that the value of the installment, obligations to be included in the gross estate of decedent should not be in excess of $49,961.12, or one-half of the cost basis of $99,992.23 determined by the respondent for computing the gain or taxable income to the estate and beneficiaries upon payments made on such obligations. We have determined that the notes constituted community property of decedent and his wife acquired prior to July 29, 1927. Whatever value is determined is, therefore, includable in the gross estate of decedent in its entirety.

The basis of petitioners’ contention is that any amount in excess of $99,992.23, the cost basis for the determination of gain, represents 'imrealized gain and hence can not be regarded as an asset or capital of decedent’s estate for Federal estate tax purpose.

The petitioners overlook the fact that the sale of the stock was made in 1929 and that the sale gave rise to taxable income in 1929. The entire gain was then realized and taxable to decedent. However, under section 44 of the Revenue Act of 1928, the decedent was given an option to pay income tax on only a part of the realized gain. The exercise of the option merely deferred taxation. Nuckolls v. United States, 76 Fed. (2d) 357; Alexander M. Crane et al., Executors, 30 B. T. A. 29; affd., 76 Fed. (2d) 99. As stated in the Report of the Committee on Ways and Means, No. 2, p. 16, and the Report of the Committee on Finance, No. 960, p. 24, “The installment basis accords the taxpayer the privilege of deferring the reporting at the time of sale of the gain realized until such time as the deferred cash payments are made.”

Subsection (d) of section 44,1928 Act, was enacted to prevent evasion of income, taxes in connection with the transmission by death or other disposition of installment obligations. Section 302 of the Revenue Act of 1926 provides that the “value of the gross estate of decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated.” Upon transmission of installment obligations by death, this permitted the estate, legatee, or beneficiai'y of decedent to obtain a greatly increased basis in reporting gain on payments received subsequent to the time of death. All gain, except as to the gain reported on installments paid before decedent’s death, would thereby escape income tax. Crane v. Helvering, 76 Fed. (2d) 99.

Considerable hardship was experienced in cases of decedents who died possessed of substantial amounts of installment obligations on account of the provisions of subsection (d), supra, which required the reporting as income in the final income tax return of decedent of all profits theretofore not reported. Therefore a provision was added to that subsection in the Bevenue Act of 1932. This provision permitted the return as income by the person receiving any payment on such obligations of the amount which would have been returnable by the decedent had he lived and received the payment instead of reporting all the profits in the final income tax return of decedent. No change, however, was made in section 302, supra, pertaining to estate taxes, and the value of decedent’s estate to be included in gross estate for estate tax purposes remained the “value at the time of death.” Installment obligations were not excepted from that rule.

The individual and his estate after his death are two separate entities. Nichols v. United States, 64 Ct. Cls. 241; certiorari denied, 277 U. S. 584. The estate tax and the income tax are wholly different in concept and theory and “may impinge upon each other in ultimate incidence by striking at the beneficiary so as to diminish first his inheritance and then his income therefrom.” George D. Widener, 8 B. T. A. 651; affd., 33 Fed. (2d) 833. It may be pointed out that section 44 is included in the revenue acts under the title “Income Tax”, whereas section 302 is included under the title “Estate Tax.”

It is our conclusion that the notes of Abraham L. Gump represented capital or corpus of the estate of decedent. Since there is no evidence that the value of the notes at the time of death of decedent was less than their face value, the inclusion of the notes in gross estate at their face value must be approved.

The petitioners next contend that, if the installment obligations are held to be a part of the decedent’s gross estate, then they ai’e entitled to a credit of the amount of the income tax which would have been payable on the unreported profit of $285,072.22 as represented by the unpaid notes at the time of his death if the executors had not availed themselves of the privilege granted in section 44 (d). This contention is wholly without merit. The executors availed themselves of the privilege granted in section 44 (d) and filed the bond required therein, so that they were not required to report in the final return of the decedent the gain on the transaction in 1929 not theretofore reported by the decedent. They did not include such gain as income in the final return for the period from January 1 to January 23, 1934, and no tax was paid by them in behalf of decedent on such gain. They are claiming credit for taxes which they never paid or intended to pay by availing themselves of the privilege granted in section 44 (d), supra. No statutory provision for the allowance of such a credit has been brought to our attention. The case of Bull v. United States, 295 U. S. 247, relied upon by petitioners, is not controlling here. It is distinguishable on the facts. In that case the Commissioner treated profits received by the estate of a decedent as taxable income for income tax purposes and also as capital of the estate for estate tax purposes. The profits involved were profits realized by the estate after the death of decedent and not profits realized by decedent prior to his death, as here involved. Furthermore, in the Bull case, the estate taxes allowed as a credit or recoupment against income taxes of the estate had been assessed and paid. See Edmonds v. Commissioner, 90 Fed. (2d) 14.

The action of respondent in refusing to allow the amount of $25,877.59, representing taxes not assessed or paid, either as a credit or deduction, is approved.

The respondent disallowed as a deduction a pledge of $200 made by decedent to the Community Chest of San Francisco which was paid by his executors. The facts are not in dispute. The Board has consistently held that monetary pledges of others constituted an “adequate and full consideration in money or money’s worth” within the meaning of section 303 (a) (1) of the Revenue Act of 1926. Jeptha H. Wade, Jr., et al., Executors, 21 B. T. A. 339; David A. Reed et al., Executors, 24 B. T. A. 166; Robert A. Taft, Executor, 33 B. T. A. 671; affd., 92 Fed. (2d) 667; Maude L. Porter et al., Executors, 34 B. T. A. 798; affd., 92 Fed. (2d) 426; Edna F. Hays et al., Executors, 34 B. T. A. 808; Florence Scofield Stone et al., Executrices, 38 B. T. A. 51; Commissioner v. Bryn Mawr Trust Co., 87 Fed. (2d) 607. It is held that the petitioners are entitled to the claimed deduction in the amount of $200.

It was stipulated that petitioners are entitled to a deduction of the amount of $1,635.06 for additional income taxes of decedent for 1933. Effect will be given to this stipulation on recomputation of the estate tax under Rule 50.

Decision will be entered under Rule 50.

       Sec. 1401. Community property on death of spouse. TTpon the death of either husband or wife, one-half of the community property belongs to the surviving spouse; the other half is subject to the testamentary disposition of the decedent, and in the absence thereof goes to the surviving spouse, subject to the provisions of section one thousand four hundred two of this code.

       Sec. 164. Property acquired after marriage. All other property acquired after marriage by either husband or wife, or both, including real property situated in this state, and personal property wherever situated, heretofore or hereafter acquired while domiciled elsewhere, which would not have been separate property of either if acquired while domiciled in this state is community property; but whenever any real or personal property, or any interest therein or encumbrance thereon, is acquired by a married woman by an instrument in writing the presumption is that the same is her separate property, and If acquired by stich married woman and her husband, or by her and any other person, the presumption is that she takes the part acquired by her, as tenant in common, unless a different intention is expressed in the instrument; and the presumptions in this section mentioned are conclusive in favor of a purchaser, encumbrancer, payor, or any other person dealing with such married woman, in good faith and for a valuable consideration. [Emphasis supplied.]

       SEC. 44. INSTALLMENT BASIS.
      * * * * * * *
      (d) * * * This subsection shall not apply to the transmission at deatn of installment obligations if there is filed with the Commissioner, at such time as he may by regulation prescribe, a bond in such amount and with such sureties as he may deem necessary, conditioned upon the return as income, by the person receiving any payment on such obligations, of the same proportion of such payment as would be returnable as income by the decedent if he had lived and had received such payment.

       Report of Committee on Finance, No. 665, 726 Cong., 1st sess., p. 21.


source: Caselaw Access Project

author: Murdock:

license: Public Domain

text:
    Charles J. Fay and Emily I. Fay, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97377.
    Promulgated June 25, 1940.

      William E. Matthews, Esq., for petitioners.

      J. Richard Riggles, Jr., Esq., for the respondent.
   OPINION.

Murdock:

The Commissioner determined a deficiency of $1,740.29 in the income tax of the petitioners for the calendar year 1935. The only issue for decision is whether or not a loss resulting from damage to the residence of the petitioners caused by termites is deductible under section 23 (e) (3) of the Kevenue Act of 1934. The Board adopts the stipulation of the parties as its findings of fact.

The petitioners reside at Dongan Hills, Staten Island, New York. They completed the construction of their residence there about December 10, 1913. Two frame porches were attached to the residence. The petitioners discovered in September 1935 that termites had destroyed the columns and horizontal beams which supported the roofs of the porches. This damage rendered the porches unsafe and all material forming a part of the porches had to be burned. The amount of the loss has been stipulated. The parties have included in their stipulation two bulletins issued by the Department of Agriculture on the subject of damage by termites.

Section 23 (e) (3) of the Revenue Act of 1934 allows a deduction for losses sustained during the taxable year and not compensated for by insurance or otherwise of property not connected with the trade or business, “if the loss arises from fire, storms, shipwreck, or other casualty, or from theft.” The petitioners contend that the rule of ejusdem generis should not be applied. The Board has held otherwise. Fred J. Hughes, 1 B. T. A. 944; Daniel F. Ebbert, 9 B. T. A. 1402. The petitioners further contend that their loss was sudden, unusual, and unexpected, and was in nowise the result of conscious human design. They argue that the possibility of prevention is no more important here than it would be in the case of a fire or a shipwreck. The purpose of Congress, they say, was to permit deductions for damage to property due to any serious accident from causes external to the owner. The respondent contends that the word casualty, as used in the above provision, means something which happened suddenly and by accident, not to be forseen or guarded against.

The only case directly in point which has come to our attention is that of Betty Rogers et al., Executors of the Estate of Will Rogers, Dec'd v. United States. The oral opinion (Sept. 20, 1939), and the findings of fact and conclusions of law in that case (Oct. 9, 1939, U. S. Dist. Ct., S. Dist. Calif., Central Division), are reported at paragraph 9792,1939 C. C. H. Federal Tax Service. The court there pointed out that the destructive process of termites is slow and has no element of casualty about it. Damage from a frozen water pipe is not due to casualty. Samuel Greenbaum, 8 B. T. A. 75. Another case somewhat analogous is that of William J. Matheson, 18 B. T. A. 674; affd., 54 Fed. (2d) 537. Matheson contended that the concrete casing of piles supporting his residence was washed away by unusual storms and tides, the piles became exposed, eaten by worms, and weakened, and the resulting damage to his house was a loss from casualty. The Board discussed various definitions of the word casualty and concluded that casualty “connotes the effect of some sudden and destructive force resulting in loss.” The Board held that the petitioner was not entitled to a deduction for loss from casualty because the damage was due to the rusting and corroding of improperly protected reinforced steel used in the construction of the building. The following definitions of casualty are given in Funk and Wagnalls New Standard Dictionary, 1935 Edition:

1. A fatal or serious accident or disaster; accidental death or disablement; as, a casualty at a fire. 3. That which occurs by chance; chance. 4. Law. Inevitable accident; an event not to be foreseen or guarded against.

The synonyms given are accident and hazard.

The contention of the petitioner does not fail to find some support in the definitions and authorities on the meaning of this word. The element of chance is present. The attack was unexpected and somewhat unusual. No human agency contributed to it. The pamphlets issued by the Department of Agriculture indicate, however, that damage by termites may be prevented by proper construction. Cf. William J. Matheson, supra. The attack was not in the nature of an inevitable accident which could not be foreseen or guarded against successfully. The destructive process was slow. We conclude, but not without some doubt, that the loss here in question did not result from a casualty within the meaning of that term as used by Congress in section 23 (e) (3).

Decision will be entered for the respondent,.


author: Hakeon :

text:
    Elston Company, Limited, Petitioner, v. Commissioner of Internal Revenue, Respondent. Gadian Company, Limited, Petitioner, v. Commissioner of Internal Revenue, Respondent. Stanart Company, Limited, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 96604, 96605, 96606.
    Promulgated June 25, 1940.

      Daniel B. Driest, Esq., for the petitioners.

      W. Frank Gibbs, Esq., for the respondent.
   OPINION.

Hakeon :

The first question is whether the gains realized by petitioners during the taxable year from sales of American and Japanese bonds were gross income from sources within the United States, under section 119 of the Revenue Act of 1934. As foreign corporations, petitioners were taxable only on gross income from sources within the United States, under section 231 (a) of the Revenue Act of 1934, the provisions of which are set forth in the margin.

In their income tax returns for the taxable year petitioners reported the gains realized during the taxable year from sales of American and Japanese bonds as gross income from sources without the United States and did not include the gains in taxable gross income. Respondent determined that the gains were gross income from sources within the United States and included the gains in taxable gross income.

The provisions of section 119 of the Revenue Act of 19S4, insofar as they are pertinent to the question here presented, are as follows:

SEO. 119. INCOME EROM SOURCES WITHIN UNITED STATES.
(а) Gross Income from Sources in United States. — The following items of gross income shall be treated as income from sources within the United States:
* * * ⅛ $ * *
(б) Sale of personal property. — For gains, profits, anci income from the sale of personal property, see subsection (e).
(e) Income from Sources Partly Within and Partly Without United States. — * * * Gains, profits, and income derived from the purchase of personal property within and its sale without the United States or from the purchase of personal property without and its sale within the United States, shall be treated as derived entirely from sources within the country in which sold * * *.

The words “the country in which sold”, as used in subsection (e) mean the country in which title to the personal property passes from the vendor to the vendee. East Coast Oil Co., S. A., 31 B. T. A. 558; affd., 85 Fed. (2d) 322; certiorari denied, 299 U. S. 608; Hazleton Corporation, 36 B. T. A. 908; Ardbern Co., Ltd., 41 B. T. A. 910. Here, the personal property was ordinary coupon bonds payable to bearer, and title to the bonds passed where the bonds were delivered from the vendors to the vendees. Gruntal v. National Surety Co., 254 N. Y. 468; 173 N. E. 682, 684; Pratt v. Higginson, 230 Mass. 256; 119 N. E. 661, 663.

Petitioners concede that the bonds which they sold during the period from April 30 to October 30, 1934, inclusive, were sold and delivered to vendees in the United States through O’Brien & Williams and Laidlaw & Co., as brokers, and that the gains realized therefrom were income from sources within the United States. Therefore, respondent correctly included in each petitioner’s taxable gross income for the taxable year the gains realized by it from sales of bonds during the period from April 30 to October 30, 1934, inclusive.

Petitioners contend that the bonds which they sold during the period from October 30, 1934, to April 30, 1935, inclusive, were sold and delivered in Canada to O’Brien & Williams, Craig, Ballantyne & Co., the Monetary Bond Corporation, and the Bank of Montreal, as dealers, and that, thus, the gains realized from the bonds sold during that period were income from sources outside the United States. On the other hand, respondent contends that the bonds which petitioners sold during that period were sold and delivered to vendees in the United States through O’Brien & Williams, Craig, Ballantyne & Co., the Monetary Bond Corporation, and the Bank of Montreal, as J)rohers, and that, thus the gains realized from the bonds sold during that period were income from sources within the United States. Therefore, the basic question is whether the relationship between petitioners, on the one hand, and- O’Brien & Williams, Craig, Bal-lantyne & Co., the Monetary Bond Corporation, and the Bank of Montreal with respect to the sales of bonds during the period from October 30, 1934, to April 30, 1935, inclusive, was that of customer and dealer or that of customer and broker. There is little dispute as to the facts. Since the facts underlying the sales of American bonds are somewhat different from the facts underlying the sales of Japanese bonds, the relationship between petitioners and O’Brien & Williams, Craig, Ballantyne & Co., and the Monetary Bond Corporation with respect to the sales of American bonds, and the relationship between petitioners and the Bank of Montreal with respect to the sales of Japanese bonds will be considered separately.

The facts clearly show that with respect to the sales of American bonds during the period from October 30, 1934, to April 30, 1936, inclusive, the relationship between petitioners, on the one hand, and O’Brien & Williams, the Monetary Bond Corporation, and Craig, Ballantyne & Co., on the other hand, was that of customer and dealer, or, in other words, that of vendor and vendee. O’Brien & Williams, Craig, Ballantyne & Co., and the Monetary Bond Corporation used the language “we have * * * Bought from you” in the confirmation notices sent to petitioners; they charged no commission to petitioners; and they bought from petitioners at a lower price than that at which they resold to Wood, Struthers & Co. These particular facts are strong evidence that the relationship was that of customer and dealer, rather than that of customer and broker. Furthermore, the fact that O’Brien & Williams, Craig, Ballantyne & Co., and the Monetary Bond Corporation paid for the bonds by accepted checks before receiving delivery of the bonds from petitioners, and before being paid for the bonds by Wood, Struthers & Co., shows that the relationship was that of customer and dealer.

The conclusion that the relationship was that of customer and dealer is established conclusively by the testimony of officers of the dealers to the effect that the parties intended that the relationship was to be that of customer and dealer and that after delivery of the bonds to the dealers they understood that the risk of loss was to fall on them and not on petitioners. In the last analysis, the nature of the relationship is governed by the intention of the parties.

There is little evidence in the record to support respondent’s contention that the relationship between petitioners, on the one hand, and O’Brien & Williams, Craig, Ballantyne & Co., and the Monetary Bond Corporation, on the other hand, was that of customer and broker with respect to the sales of American bonds during the period from October 30, 1934, to April 30, 1935, inclusive. The mere fact that prior to October 30, 1934, O’Brien & Williams acted as brokers with respect to the sales of the American bonds does not compel the conclusion that subsequent to October 30, 1934, the relationship of customer and broker continued. It should be noted that the Monetary Bond Corporation never acted as broker, but always as dealer, and that there is no evidence that Craig, Ballantyne & Co. ever acted as brokers for petitioners either prior to or subsequent to October 30, 1934. Nor does the mere fact that O’Brien & Williams, Craig, Ballantyne & Co., and the Monetary Bond Corporation contracted to resell the bonds before they purchased the bonds from petitioners tend to show that the relationship between petitioners and the dealers was that of customer and broker. There is no evidence to show that the sales fio the dealers were colored by any secret understanding between the parties or that petitioners knowingly were connected in any way with the resales by the dealers to Wood, Struthers & Co.

There is little merit to the arguments urged by respondent in support of the contention that the relationship between petitioners, on the one hand, and O’Brien & Williams, Craig, Ballantyne & Co., and the Monetary Bond Corporation, on the other hand, was that of customer and broker. Respondent’s main argument is that the manner in which each of the dealers computed the price at which it offered to purchase a block of bonds from the respective petitioner shows that the relationship was that of customer and broker. Respondent points, first, to the fact that each dealer converted into Canadian funds the net amount to be received from Wood, Struthers & Co. for a block of bonds and then subtracted from the result the amount of a stamp tax due the Province of Quebec on the resale of the block of bonds to Wood, Struthers & Co. and the cost of transmitting the block of bonds to Wood, Struthers <& Co. These computations were necessary in order to enable the dealer to offer the respective petitioner a price for the block of bonds at which the dealer could realize a profit, and clearly do not support respondent’s contention that the relationship was that of customer and broker. Respondent points, next, to the fact that the dealer also subtracted from the net amount to be received from Wood, Struthers & Co. for the block of bonds a profit at the rate of $2.50 per thousand dollar bond, which rate of profit was 50 cents less than the normal rate of commission and was the same as the rate of commission charged by O’Brien & Williams with respect to the sales of bonds from April 30 to October 30, 1984, inclusive. The mere fact that the dealers’ rate of profit was approximately the same as the normal rate of commission and the same as the rate of commission charged by O’Brien & Williams when it acted as broker for petitioners does not warrant an inference that the relationship was that of customer and broker. See Adams v. Thayer, 86 N. H. 555; 171 Atl. 771. It should be pointed out that the record shows that the dealers each decided that a profit at the rate of $2.50 per thousand dollar bond was a reasonable profit in view of the large quantity of transactions, and that petitioners had no knowledge as to the rate of profit realized by the dealers. Respondent points with special emphasis to the fact that although petitioners delivered the bonds to, and received payment from, the dealers prior to the settlement date provided in the confirmation notices sent by Wood, Struthers & Co. to the dealers, petitioners received from the dealers the interest on the bonds from the last coupon date up to the settlement date provided in the confirmation notices sent by Wood, Struthers & Co. to the dealers. However, the confirmation notices sent by the dealers to petitioners also contained the same settlement date which was contained in the confirmation notices sent by Wood, Struthers & Co. to the dealers, and thus, the fact that petitioners received from the dealers the interest on the bonds from the last coupon date up to the settlement date provided in the confirmation notices sent by Wood, Struthers & Co. to the dealers does not give rise, 'per se, to any inference that the relationship was that of customer and broker.

Likewise, the facts clearly show that with respect to the sales of Japanese bonds during the period from January 4 to April 30, 1935, inclusive, the relationship between petitioners and the Bank of Montreal was that of customer and dealer, or, in other words, that of vendor and vendee. The Bank of Montreal used the language “Confirmation of: — Purchase from the Royal Trust Company” in the confirmation notices sent to the Royal Trust Co. which acted as petitioners’ broker; and though the Royal Trust Co. charged a commission to petitioners, there is no evidence to show that the Bank of Montreal charged a commission to petitioners. Furthermore, an officer of the Royal Trust Co. testified that it was understood and intended that the relationship between petitioners and the Bank of Montreal was to be that of customer and dealer. Even if the relationship between petitioners and the Bank of Montreal were that of customer and broker, there is no evidence to show that the Japanese bonds were sold in the United States either in the taxable year or at any other time.

Respondent concedes that there is no direct evidence which tends to show that the relationship between petitioners and the Bank of Montreal was that of customer and broker or that the Japanese bonds were sold by the Bank of Montreal in the United States. However, respondent points to the fact that the Japanese bonds were not listed on any Montreal exchange and to the fact; that the Bank of Montreal paid slightly different prices for lots contained in each block of Japanese bonds purchased from petitioners. From these, facts respondent attempts to draw the inference that the Bank of Montreal, as broker, sold the Japanese bonds in the United States for petitioners’ respective accounts. The inference is too strained to warrant further consideration.

Since the American and Japanese bonds which petitioners sold during the period from October 30, 1934, to April 30, 1935, inclusive, were sold and delivered to dealers in Canada, the gains realized therefrom were income from sources outside the United States, and respondent erred in including such gains in petitioners’ taxable gross income for the taxable year.

The second question is whether the gains realized by petitioners during the taxable year from the redemption of bonds of the New York Central & Hudson River Railroad were gross income from sources within the United States within the meaning of section 119 of the Revenue Act of 1934. In their income tax returns for the taxable year petitioners reported the gains realized from the redemption of the bonds as gross income from sources outside the United States and did not include the gains in taxable gross income. Respondent determined that the gains realized from the redemption of the bonds were gross income from sources within the United States and included the gains in taxable gross income.

Subsection (a) of section 119 provides that the following items of gross income shall be treated as gross income from sources within the United States: (1) Interests; (2) dividends; (3) compensation for personal services; (4) rentals and royalties; (5) gains, profits, and income from the sale of real property; (6) and gains, profits, and income from the sale of personal property. In subsection (f) of section 119 it is provided that the word “sale” as used in section 119 includes the word “exchange.” Subsection (e) of section 119 provides in part that items of gross income other than those specified in subsection (a) shall be allocated or apportioned to sources within or without the United States, under rules and regulations prescribed by the Commissioner with the approval of the Secretary.

Petitioners contend that the gains from the redemption of bonds were not gross income from sources within the United States because gross income from sources within the United States is limited to the six items of gross income specifically mentioned in subsection (a) and because such gains were not gains from the sale or “exchange” of personal property within the scope of item sixth, subsection (a). On the other hand, respondent contends that the gains from the redemption of the bonds were gross income from sources within the United States because gross income from sources within the United States is not limited to the six items of gross income specifically mentioned in subsection (a) and because such gains were gains from the “exchange” of personal property, as provided by section 117 (f J of the Eevenue Act of 1934, the pertinent provisions of which are set forth in the margin.

Gross income from sources within the United States is not limited to the six items of gross income specifically mentioned in subsection (a). Helvering v. Suffolk Co., Ltd., 104 Fed. (2d) 505, in which the Circuit Court stated that the comprehensive language of subsection (e) shows that Congress intended “to cover items of income other than those specifically mentioned in the previous subsections” and “to include in taxable income all income derived from sources within the United States.” Moreover, the Board has held that gains from the redemption of bonds in the United States constitute gross income from sources within the United States. Hubert De Stuers, 26 B. T. A. 201, in which the Board stated with reference to section 217 of the Eevenue Act of 1926, which corresponds to section 119 of the Eevenue Act of 1934, in part as follows:

Counsel for the petitioner argues, * * * that the profits arising from these transactions are not taxable to the petitioner under the provisions of section 217 (a) of the Revenue Act of 1926, which defines income from sources within the United States, but does not include profits such as arose in this ease. However, the provisions of section 217 (a) are not an all inclusive definition of income from sources within the United States for the purpose of determining the net income of nonresident alien individuals. This is apparent from section 217 (e), which provides that items of gross income, other than those specified in subdivision (a), shall be allocated or apportioned to sources within or without the United States, under rules and regulations prescribed by the Commissioner, with the approval of the Secretary. Subdivision (e) contains also some specific provisions in regard to gains from the purchase and sale of personal property. When section 217 is read as a whole and the rules and regulations prescribed by the Commissioner with the approval of the Secretary considered, articles 324 and 328 of Regulations 69, it is apparent that the profit from the transactions in question in this case must be considered to be income from sources within the United States.

Since the New York Central & Hudson River Railroad bonds were redeemed in the United States, the De Stuers case is controlling. Thus, the gains realized from the redemption of the bonds were gross income from soux-ces within the United States, and respondent correctly included such gains' in petitioners’ taxable gross income for the taxable year. In view of this conclusion, it is not necessary to pass upon respondent’s contention that the gains from the redemption of the bonds were gains from the “exchange” of personal property, as provided in subsection (f) of section 117 of the Bevenue Act of 1934.

The final question is whether petitioners are subject to the surtax on personal holding companies imposed by section 351 of the Bevenue Act of 1934. Petitioners filed personal holding company returns for the taxable year. As the result of the credit of 20 percent of adjusted net income and the credit for dividends paid during the taxable year, which credits are allowed by section 351, the returns each disclosed no undistributed adjusted net income and tints no liability for surtax under section 351. Respondent determined deficiencies in surtax under section 351 as the result of including in petitioners’ taxable gross income for the taxable year the gains realized from the sales of American and Japanese bonds and from the redemption of the bonds of the New York Central & Hudson River Railroad Co. In an amended petition each petitioner alleges that during the taxable year it was a foreign corporation, having no office and transacting no business in the United States, and that during the taxable year all of its stock was owned by nonresident aliens; that Congress did not intend that a foreign corporation whose stock was owned entirely by nonresident aliens was to be subject to the surtax imposed by section 351; and that, therefore, the Commissioner erred in determining that it was subject to the surtax imposed by section 351.

In view of the conclusion that the gains realized by petitioners from the sales of American and Japanese bonds during the period from October 30, 1934, to April 30, 1935, inclusive, were not income from sources within the United States, it is not necessary to pass upon the question as to whether Congress intended that a foreign corporation whose stock was owned entirely by nonresident aliens was to be subject to the surtax imposed by section 351. Even if Congress intended, as respondent contends, that a foreign corporation whose stock was owned entirely by nonresident aliens was to be subject to the surtax imposed by section 351, the credit of 20 percent of adjusted net income and the credit for dividends paid during the taxable year would exceed the adjusted net income of each petitioner, and would result in no undistributed adjusted net income subject to surtax, under section 351, and thus, in no surtax liability. This was conceded by respondent at the hearing and is pointed out by petitioners in their reply brief.

During the taxable year petitioners each incurred certain ordinary and necessary expenses in the conduct of their businesses, a ratable part of which expenses were deductible under section 232 of the Revenue Act of 1934 and article 119-10 of Regulations 86, the pertinent provisions of which are set forth in the margin. None of the petitioners took a deduction for a ratable part of its expenses in its income tax return for the taxable year. In determining the deficiencies respondent allowed each petitioner a deduction for a ratable part of its expenses, and in computing the ratable part of expenses respondent included the gains realized from the sales of the American and Japanese bonds during the period from October 30, 1934, to April 3'0, 1935, inclusive, as gross income from sources within the United States. In view of the conclusion that the gains realized from the sale of the American and Japanese bonds during the period from October 30, 1934, to April 30,1935, inclusive, were not gross income from sources within the United States, the ratable part of expenses allowed each petitioner as a deduction should be recomputed, as requested by respondent in an amended answer and also urged by petitioners in their briefs.

Decision will be entered under Rule 60.

       SEC. 2S1. GROSS INCOME.
      (a) General Rule. — In the case o£ a foreign corporation gross income includes only the gross income from sources within the United States.

       See Meyer, The Law of Stockbrokers and Stock Exchanges, 1933 Cumulative Supplement, see. 43-a, pp. 33-35. See also Geo. S. Bates and Wm. O. Douglas, Stock “Brokers” As Agents and Dealers, 43 Tale Law Journal, pp. 46, 59-61.

         See Meyer, The Law of Stockbrokers and Stock Exchanges, 1933 Cumulative Supplement, sec. 43-a, p. 35.

       See Meyer, The Law of Stockbrokers and Stock Exchanges, 1933 Cumulative Supplement, sec. 4.3-a, p. 33.

       See Meyer, The Law of Stockbrokers and Stock Exchanges, 1933 Cumulative Supplement, see. 43-a, p. 34.

       SRC. 117. CAPITAL GAINS AND LOSSES.

      (f) Retiebment ov Bonds, Etc. — For the purposes oí this title, amounts received by the holder upon the retirement of bonds * * * shall be considered as amounts received in exchange therefor.

       SBC. 351. SURTAX ON PERSONAL HOLDING COMPANIES.
      (a) Imposition os’ Tax, — There shall be levied, collected, and paid, for each taxable year, upon the undistributed adjusted net income of every personal holding company a surtax * * *

      (b) Definitions. — As used in this title—
      *******
      (2) The term “undistributed adjusted net income” means the adjusted net income minus the sum of:
      (A) 20 per centum of the excess of the adjusted net income over the amount of dividends received from personal holding companies which are allowable as a deduction for the purposes of the tax imposed by section 13 or 204;
      * * # * * I» *
      (C) Dividends paid during the taxable year.

       SEC. 232. DEDUCTIONS.
      In the ease of a foreign corporation the deductions shall be allowed only if and to the extent that they are connected with Income from sources within the United States; and the proper apportionment and allocation of the deductions with respect to sources within and without the United States shall be determined as provided in section 119, tinder rules and regulations prescribed by the Commissioner with the approval of the Secretary.
      Abt. 119-10. Apportionment of deductions. — From the items specified in articles 119-1 to 119-6 as being derived specifically from sources within the United States there shall be deducted the expenses, losses, and other deductions properly apportioned or allocated thereto and a ratable part of any other expenses, losses, or deductions which can not definitely be allocated to some item or class of gross income. The remainder shall be included in full as net income from sources within the United States. The ratable part is based upon the ratio of gross income from sources within the United States to the total gross income.


author: TTtt.t, :

text:
    Hollywood Building and Loan Association, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 93878.
    Promulgated June 26, 1940.

      Scott darter, Esq., for the petitioner.

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

TTtt.t, :

The issue before us is whether the subordinate obligations outstanding against the realty described above were worthless during the taxable year and thus give basis to the deduction by petitioner, their owner, of appropriate amounts for bad debts.

Prior to a consideration of this issue we must dispose of the motion of the respondent for dismissal of so much of the petition as purports to relate to 1935. The basis for the motion is that the Commissioner has not determined a deficiency for 1935 but has only found an overassessment. In these circumstances we have repeatedly adhered to the position that the Board is without jurisdiction where no deficiency has been determined. Marie Pederson, 14 B. T. A. 1089; American Bond & Mortgage Co., 15 B. T. A. 264. Accordingly the motion of the respondent to dismiss so much of the petition as purports to relate to the year 1935 is granted.

In support of its position on the principal issue here presented the petitioner has shown that the properties involved in the refinancing in each case had a value above the first mortgage indebtedness insufficient in the opinion of petitioner’s witness to give any market value to the junior obligations. The petitioner argues further that the second mortgage debts were worthless for the additional reason that under California law they were not valid obligations.

We find it unnecessary to pass on petitioner’s first contention. Whether or not the margins indicated in the table set out above were sufficient to give any value to the second mortgages, the petitioner has not shown that the debtors individually were unable to pay their obligations. The record contains some evidence of failure of the petitioner to make collections but does not establish the inability of the debtors to pay. In these circumstances we can not hold that the debts were worthless when charged off in 1934. See Baxter D. Whitney & Son, Inc., 20 B. T. A. 380; Frank B. Essex, 21 B. T. A. 270. Cf. Ardis & Co., 12 B. T. A. 679; Waters F. Burrows, 38 B. T. A. 236.

On his second argument we think petitioner must also fail. The case of McAllister v. Drapeau, 14 Cal. (2d) 102; 92 Pac. (2d) 911, has held, it is true as pointed out, in a situation similar to those here involved, that a second mortgage in the amount of the difference between the Home Owners’ Loan Corporation bonds received and the face of the first mortgage, executed by the mortgagor, without the knowledge of the Home Owners’ Loan Corporation, as the price of consent to the refinancing, is invalid as against public policy. See also Woods v. Kern County Mutual Building & Loan Association, 34 Cal. App. (2d) 468; 93 Pac. (2d) 837; Adams Co. v. Pacific States’ Savings & Loan Co., 34 Cal. App. (2d) 723; 94 Pac. (2d) 370.

These cases, however, leave open the question of the validity of such mortgages executed with the knowledge and consent of the Home Owners’ Loan Corporation. In those instances where, as here, the Home Owners’ Loan Corporation has knowledge of the second mortgages executed in the refinancing and follows a practice allowing them in a certain specified percentage of the bonds involved in each case, it can scarcely be said that these transactions cross public policy. See McAllister v. Drapeau, supra, p. 916; Bay City Bank v. White, 283 Mich. 267; 277 N. W. 888; Sirman v. Sloss Realty Co., 129 S. W. (2d) 602 (Ark., 1939).

An additional reason for refusing to enforce the second mortgage debt assumed in McAllister v. Drapeau, supra, was assigned by the court there as resting on the terms of the refinancing agreement by which, the original debt was fully discharged. This holding does not alter our conclusion here. The debtors, whether or not released by the terms of the refinancing from the entire first mortgage debts, nevertheless agreed to pay the deficiencies. Whether or not they offer or succeed with the defense of accord and satisfaction, the possible existence of this defense does not warrant us here in holding these debts worthless. See Leo Stein, 4 B. T. A. 1016; G. M. Standifer Construction Corporation, 30 B. T. A. 184; Alfred K. Nippert et al., Executors, 32 B. T. A. 892, 897, and cases there cited.

Decision will be entered for the respondent.


author: Leech : Melloxt,

text:
    Mary E. Wenger, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 92245.
    Promulgated June 26, 1940.

      A. W. Wenger, Esq., for the petitioner.

      A. B. Ca/mduff, Esq., for the respondent.

       SEC. 166. REVOCABLE TRUSTS.
      Where at any time the power to revest in the grantor title to any part of the corpus of 'the trust is vested—
      (1) in the grantor, either alone or in conjunction with any person not having a substantial adverse interest in the disposition of such part of the corpus or the income therefrom, or
      (2) in any person not having a substantial adverse interest in the disposition of such part of the corpus or the income therefrom,
      then the income of such part of the trust shall be included in computing the net income of the grantor.
      SEC. 167. INCOME POR BENEFIT OP GRANTOR.
      (a) Whore any part of the income of a trust—
      (1) is, or in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income may he, held or accumulated for future distribution to the grantor; or

        (2) may, in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income, be distributed to the grantor; or
      (3) is, or in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income may be, applied to the payment of premiums upon policies of insurance on the life of the grantor (except policies of insurance irrevocably payable for the purposes and in the manner specified in section 23 (o), relating to the so-called “charitable contribution” deduction);
      then such part of the income of the trust shall be included in computing the net income of the grantor.
      (b) As used in this section, the term “in the discretion of the grantor” means “in the discretion of the grantor, either alone or in conjunction with any person not having a substantial adverse interest in the disposition of the part of the income in question.”

   OPINION-.

Leech :

Respondent contends that the income of the trust is taxable to the petitioner under the provisions of sections 166 and 167 of the Revenue Act of 1934.

On brief petitioner contends that respondent has raised new issues in his brief because no mention was made of section 166 and section 167 (a) (1) of the 1934 Act in the notice of deficiency, or in respondent’s answer. A similar contention was made and decided against the petitioner in Raoul H. Fleischmann, 40 B. T. A. 672, 681. It was there said:

⅜ ⅜ * The Board has said many times that the real question for decision is the correctness of the action of the Commissioner and not the correctness of the reason which he assigned in his notice of deficiency. * * 4 [Citing cases.] Here he included the income of the trust in the income of the petitioner and still insists that that income was properly included in the income of the petitioner. He merely assigns a new reason for his action. The burden of proof does not shift under such circumstances although such a delayed reversal of reasoning is unfortunate and might justify a further hearing if the petitioner claimed surprise and desired to introduce further proof to meet the change. * ⅜ *

In our opinion the issues framed by the pleadings in the instant proceeding are broad enough to raise the question of whether the income of the trust is or is not taxable to petitioner under the provisions of either section 166 or 167. In the petition the following errors on the part of the Commissioner, among others, are set out:

(a) In determining, • as a matter of law, that said trust instrument of .fanuary 3, 1932, created merely a revocable trust, and that the entire income from the trust property was lawfully chargeable to the petitioner for the several years in controversy.
(b) In determining, as a matter of law and fact, that under the provisions of said trust instrument the petitioner is to be regarded as having remained, in substance, the owner of the entire corpus of the trust property by reason of the fact that she had retained power to revest the entire corpus in herself.
(c) In determining, as a matter of law and fact, that the petitioner is chargeable with all the net income from said trust estate, although the trustee and his successors is vested with the discretion of determining the time and amount of any distribution of income, and that only upon the occurrence of an act of God or the visit of a calamity, causing serious damage or injury to the petitioner, could she receive under said trust agreement more than one-half of the net income of the trust.

In the answer of tbe respondent it is admitted that he held the entire income from the property covered by the trust instrument to be taxable to petitioner for the taxable years. The allegations of error set forth in paragraphs (a), (b), and (c) above were denied. Thus the issues, as framed, are in substance whether the income of the trust may be included in petitioner’s income under either of the sections.

It is quite clear, we think, that one-half of the income of the trust for each of the two years is taxable to petitioner under section 167 in view of the provisions of paragraph G (3) of the trust instrument empowering the trustee in any year to distribute to her that proportion of the trust income if in his judgment it would be advisable to make such distribution. It is shown that since the creation of the trust the income has been accumulated and added to corpus and the trust estate is enhanced by these accumulations. It is thought too clear to necessitate discussion that in both of these years the trustee, who is without adverse interest (Reinecke v. Smith, 289 U. S. 172), possessed the power to make such distribution and consequently to that extent the trust income is taxable to petitioner.

■ However, respondent contends that the provisions of paragraphs G (1) and (2) of the trust instrument, under which the trustee possesses, under certain conditions, the power to distribute to petitioner both the current and accumulated income and corpus of the trust, require the taxing to petitioner under both sections 166 and 167 of all of the trust income in each year before us.

Paragraph G of the trust instrument gives the trustee the power to distribute to petitioner the income of the trust and, if necessary, the corpus to the extent required to meet and relieve the situation if:

(1) Any accident, sickness, calamity, misfortune, adversity, bereavement or loss, financially or otherwise, shall visit, overtake or befall her, and

(2) She makes a written l’equest upon him for relief.

Petitioner contends that these provisions constitute substantial conditions precedent to the exercise of a power by the trustee to distribute income or, if necessary, the corpus to petitioner and that until these contingencies arise no such power exists. Henry A. B. Dunning, 41 B. T. A. 1101.

Clearly, the second condition, a mere necessity for a written demand from petitioner for payment, is not such a condition. The power to effect the distribution under that condlition would be wholly within the control of the grantor and the trustee and the latter is without adverse interest. Reinecke v. Smith, supra. If a request by the grantor was all that was required to give rise to the trustee’s power to distribute, then the trust would, we think, obviously fall literally within the provisions of both sections 16G and 167.

It remains to be considered whether the first condition presents substantial, definite contingencies the occurrence of which are beyond the control of petitioner or the trustee. See Henry A. B. Dunning, supra. In this connection it may be said that, if it be admitted that the occurrence of one of the various contingencies there set out is necessary to the exercise of the power, petitioner has not established the fact that no one of them has occurred during each of the years before us. One condition only is established by the record, that petitioner in neither year made a written request to the trustee for distribution. This fact alone does not give rise to the presumption that none of the specified events occurred. Petitioner is a woman with a large estate. For all we know, she may have had losses in her investments in each year exceeding the current income of the trust, which she had the right to recoup by a request for distribution by the trustee but has voluntarily refrained from doing so. The burden of proof is upon petitioner and under identically similar conditions we held in Lewis Hunt Mills, Administrator, 39 B. T. A. 798, that the petitioner there had failed to show error in respondent’s determination.

However, in our opinion, it is unnecessary to resolve the issue here upon the ground of failure of proof. The so-called contingencies, “any accident, sickness, calamity, misfortune, adversity, bereavement or loss, financially or otherwise”, the occurrence of one of which gives rise to the right to call for distributions from the trust, are so broad and all-embracing that the use and enjoyment of the income and, if necessary, the corpus by petitioner, is, for practical purposes, almost as complete as if she had retained title to the property. Petitioner has merely set aside in the hands of a trustee an amount of her excess capital to be held and accumulated as a protection to herself and her children against a “rainy day.” These named contingencies permit her, if she cares to do so, and secures the acquiescence of the trustee, to cause the expenditure of the income, and if necessary the corpus, for the needs for which she would normally have used and expended the property had no trust been created. The income and, if necessary, the corpus are subject to use upon her call, within the discretion of the disinterested trustee, for payment of her doctors’ and hospital bills, the recoupment of any personal loss sustained in her investments or to relieve and compensate for practically any happening adverse to her interest which might occur. Its use is in no wise limited to compensation for losses or deprivations which her own personal resources are unable to meet, nor limited to financial losses. Personal bereavements or misfortunes of any kind throw the door open to calls by petitioner for distributions and leave no obstacle between her and the enjoyment of both income and corpus except the exercise of discretion by a trustee without adverse interest.

Conditions as broad and all-embracing as those set out in paragraph G do not constitute, in our opinion, definite events which may or may not occur. Experience convinces us that the normal life of any individual, no matter how protected, sheltered, and circumstanced, contains in every year some occurrence or event which would fall within one of the conditions described. And this is especially true of one in the position of this petitioner, possessing large private means and with the responsibilities and activities which this condition entails. Thus, whether petitioner actually calls upon the trustee for distribution to her, we can not conceive of any year in which the right to make such a call would not exist and there be, consequently, the power in her in conjunction with the trustee to cause the distribution to her of all of the income and corpus.

We conclude that the income of the trust for the two years before us is taxable to petitioner under both sections 166 and 167.

The remaining issue is whether the losses shown in our findings may be deducted from the income of the trust in determining the amount which the trustee might have distributed to petitioner.

Eespondent contends that they were “corpus losses” which merely reduce the amount of corpus which will ultimately go to the re-maindermen and therefore are not deductible in computing the income taxable to petitioner. We think he is concluded in this contention by Blanche G. Penn, 39 B. T. A. 787, the decision in which was predicated on the applicability of section 166. This conclusion, of course, permits the deduction of a loss of $2,970 in connection with the worthlessness of preferred stock which, we have found, became worthless in that year.

The two losses on the properties at 1260 and 1400 West Winchester Avenue were treated by the trust as capital losses sustained upon a sale or exchange. Petitioner now contends that these were ordinary losses in that they were bad debts then ascertained as worthless and charged off and were thus deductible in their full amount. The loss on the property at 1400 West Winchester Avenue was sustained in a transaction in which the trust accepted, in settlement of its mortgage debt, Home Owners’ Loan Corporation bonds in a lesser amount. We think the resulting loss is ordinary and thus deductible in full in the return for 1934. Hale v. Helvering, 85 Fed. (2d) 819; James R. Stewart, 39 B. T. A. 87; Charles T. Carlson, 39 B. T. A. 185. As to the other loss, no exchange was involved. The trust held a second mortgage and land contract, The first mortgagee foreclosed and took the property. The trust released nothing and received nothing. The mortgage debt upon the happening of this event became worthless in its hands. We agree with petitioner that this was also an ordinary loss as a bad debt then ascertained to be worthless and charged off and deductible in its full amount. J. C. Hawkins, 34 B. T. A. 918; affd., 91 Fed. (2d) 354.

[Reviewed by the Board.

Decision will be entered under Bule 50.

TysoN and Hill dissent.

Melloxt,

dissenting: I agree that one-half of the income of the trust, less any capital or ordinary losses sustained, is taxable to petitioner under section 167 of the Revenue Act of 1934. It is difficult to reconcile the holding of the majority, that all of it is taxable to her under section 166 of the same act, with the holdings made in such cases as Corning v. Commissioner, 104 Fed. (2d) 329; John Edward Rovensky, 37 B. T. A. 702; Helvering v. Wood, 309 U. S. 344 (Feb. 26, 1940); Daisy Christine Patterson, Executrix, 36 B. T. A. 407; Henry A. B. Dunning, 41 B. T. A. 1101; and Edna B. Elias, 41 B. T. A. 1109.

But even if the majority be correct in holding that the power to effect a distribution is wholly within the control of the grantor, a view which I do not share since I think the restrictions upon the exercise of it have real substance, still the conclusion that the income is taxable to the grantor under section 166 seems to be erroneous. She is taxable with the income of the trust under that section only when the “power to revest in * ⅜ ⅛ [herself] title to any part of the corpus is vested” in her alone, in her in conjunction with any person not having a substantial adverse interest, or in any person not having a substantial adverse interest. The provision of the trust instrument relied upon by the majority authorizes only “Distributions from the income of the Trust Estate.” When this provision is read in conjunction with sections B and C of the trust instrument, shown in the stipulation of facts but not set out in the findings above, it is difficult to understand how the majority can spell out a power in the grantor to revest the corpus in herself. The holding of the majority seems to be predicated upon the assumption that a subservient trustee would distribute corpus to her whenever requested. It may be pointed out, however, that, /no matter how subservient he be, he could only encroach upon the corpus when the income of the trust should be insufficient “for the purposes set forth and the gravity of the situation demands that the aid be furnished” — a situation which did not exist during the taxable years, when the income of the trust was $11,323.98 and $15,395.70, respectively.

Being of the opinion that petitioner is taxable upon but one-half of the income of the trust for the taxable years, I respectfully note my dissent.


author: Steknhagen :

text:
    The H. W. Gossard Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 96564.
    Promulgated June 27, 1940.

      Herbert A. Friedlieh, Esq., and Benjamin A. Ragir, Esq., for the petitioner.

      Franklin F. Korell, Esq., and Milton E. Carter, Esq., for the respondent.
   OPINION.

Steknhagen :

The petitioner, a domestic corporation which owns the majority of the voting stock of a foreign corporation, viz., the Canadian corporation, from which in May 1935 it received a dividend of $1,270,000, seeks, under section 31 of the Revenue Act of 1934, to use as a credit the amount which represents the portion of the British 22½ percent tax ($186,497.17) paid by the British corporation which by the Canadian statute the Canadian corporation is entitled to deduct from the 13½ percent Canadian tax that would otherwise be payable by the Canadian corporation.

We think the Commissioner correctly held that no part of the amount paid by the British corporation to the British Government which served to reduce the amount received as dividend by the Canadian corporation may be regarded under section 131 (f) as paid by the petitioner’s subsidiary, the Canadian corporation. This view is required by Biddle v. Commissioner, 302 U. S. 573. That case held that the British tax paid by a British corporation upon a dividend declared by it could not, under the United States conception of payment inherent in section 131, be said to have been paid by a United States individual shareholder. No more, we think, can it, under the same conception, be said here that the Canadian shareholder paid the British tax. See Woolworth Co. v. United States, 91 Fed. (2d) 973. And, since the United States conception controls, it is not significant that the Canadian Government for its tax purposes treats the Canadian corporation as if in fact it did pay the British tax, thus reducing the amount which the Canadian corporation is required to pay as its tax to the Canadian Government. Hence it can not be recoginzed under section 131 (f), as to the amount paid by the British corporation to the British Government, that it was “any income, war-profits, or excess-profits taxes paid by” the Canadian corporation “to any foreign country”, and hence there is no proportion thereof which the petitioner “shall be deemed to have paid.”

There is no decision since the Biddle decision which is at variance with this view. See Otis Elevator Co., 37 B. T. A. 335. The decision in Queen Insurance Co. of America, 40 B. T. A. 484, now on review, C. C. A., 2d Cir., is entirely harmonious. There the taxpayer’s Canadian subsidiary paid to Canada a tax which had a dual character, and the Board held it to be a tax paid on income, war profits or excess profits, even though it also satisfied a coordinate excise tax on premiums. It was paid by the Canadian corporation to Canada and actually served as a payment of income, war profits, or excess profits tax. There is a plain distinction between such a tax and an amount paid to another part of the British Empire not by the Canadian corporation but by another corporation which amount Canada permits to be deducted from the Canadian corporation’s tax as if it had been paid by the Canadian corporation.

Extensive arguments are submitted by both parties, which have been given consideration, but they must either yield or stand aside before the pi'incipal proposition established by the Biddle case, i. e., that the tax paid by the British corporation is not to be treated as paid by its shareholders.

Decision will be entered, under Rule SO.

       SEC. 31. TAXES OP FOREIGN COUNTRIES AND POSSESSIONS OP UNITED STATES.
      The amount of Income, war-profits, and excess-profits taxes imposed by foreign countries or possessions of the united States shall be allowed as a credit against the tax, to the extent provided in section lSl.
      SEC. 131. TAXES OP FOREIGN COUNTRIES AND POSSESSIONS OP UNITED STATES.
      (a) Allowance os' Credit. — If the taxpayer signifies in his return his desire to have the benefits of this section, the tax imposed by this title shall be credited with:
      (1) Citizen and Domestic Corporation. — In the case of a citizen of the United States and of a domestic corporation, the amount of any income, war-profits, and excess-profits taxes paid or accrued during the taxable year to any foreign country or to any possession of the United States; and
      * * * * * * *
      (f) Taxes op Foreign Subsidiary. — For for the purposes of this section a domestic corporation which owns a majority of the voting stock of a foreign corporation from which it receives dividends in any taxable year shall be deemed to have paid the same proportion of any income, war-profits, or excess-profits taxes paid by such foreign corporation to any foreign country or to any possession of the United States, upon or with respect to the accumulated profits of such foreign corporation from which such dividends were paid, which the amount of such dividends bears to the amount of such accumulated profits: Provided, That the amount of tax deemed to have been paid under this subsection shall in no case exceed the same proportion of the tax against which credit is taken which the amount of such dividends bears to the amount of the entire net income of the domestic corporation in which such dividends are included. The term “accumulated profits” when used in this subsection in reference to a foreign corporation, means the amount of its gains, profits, or income in excess of the ineome, war-profits, and excess-profits taxes imposed upon or with respect to such profits or income; and the Commissioner with the approval of the Secretary shall have full power to determine from the accumulated profits of what year or years such dividends were paid; treating dividends paid in the first sixty days of any .year as having been paid from the accumulated profits of the preceding year or years (unless to his satisfaction shown otherwise), and in other respects treating dividends as having been paid from the most recently accumulated gains, profits, or earnings. In the case of a foreign corporation, the income, war-profits, and excess-profits taxes of which are determined on the basis of an accounting period of less than one year, the word “year” as used in this subsection shall be construed to mean such accounting period.


author:
Tyson :
      Murdock,

text:
    James A. Connelly, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 90873.
    Promulgated June 27, 1940.

      J. S. Seidmam., G. P. A., and Benjamin Grwnd, G. P. A., for the petitioner.

      Frank M. Thompson, Jr., Esq., for the respondent.
   OPINION.

Tyson :

The issue presents a question of fact as to whether the old bank stock actually became worthless in the taxable year 1934, which presupposes that it had value during 1933, or, whether such stock became worthless during 1933.

A loss by reason of the worthlessness of stock must be deducted in the year in which the stock becomes worthless and the loss is thereby actually sustained. In Sterling Morton, 38 B. T. A. 1270, 1279-1280, the Board, after citing numerous cases, reviewed many types of “identifiable events” under varying factual circumstances which have been considered as establishing the worthlessness of stock. Applying the principles there announced to the facts in the instant case, we conclude, and have so found, that the petitioner’s stock in the old bank actually became worthless during 1933 and thus prior to the taxable year here involved.

Here it is shown that the old bank was insolvent to the extent of approximately $570,000 in April 1933, and remained in that condition throughout the balance of that year and through 1934. Thus, it is also necessarily shown that during 1933 petitioner’s old bank stock lost any liquidating value. To avoid a determination that the stock became worthless at that time, there must be a showing that despite the loss of any liquidating value there still remained throughout 1833 a real potential value through the continued existence of a reasonable expectation that the stock would become valuable. Mark D. Eagleton, 35 B. T. A. 551; affd., 97 Fed. (2d) 62; John J. Flynn, 35 B. T. A. 1064; and William E. Steinback, 30 B. T. A. 1252. Cf. Robert Barbour, 39 B. T. A. 553; Sterling Morton, supra.

The record shows that, while the old bank was permitted to reopen after the national bank holiday in March 1933, and was permitted to remain open during the remainder of 1933 and up to February 1934, the restrictions imposed caused the old bank to really cease doing its regular banking business and commence the liquidation of its assets, with the sole exception of merely acting as a depository for new deposits, which were required to be segregated. From April to December 1933, efforts were made to rehabilitate the old bank under its charter pursuant to a proposed plan to readjust its capital structure by a required minimum of $768,304 new capital. However, such plan was abandoned shortly prior to December 15, 1933, and a plan for a new bank and the liquidation of the old bank was inaugurated. That event definitely extinguished any potential value the old bank stock may have had from April to December 1933.

The formulation of the plan to organize a new bank and liquidate the old bank, dated December 15, 1933, did not provide a basis for a eontinued reasonable expectation that the old bank stock would become valuable through the consummation of that plan. The plan contemplated the organization óf a new bank to take over all' of the old bank’s acceptable assets in consideration for its assumption of an equal amount of the old bank’s deposit liability; the liquidation o-f the old bank’s remaining unacceptable assets by a trustee to pay ©if,, as far as possible, its remaining, liabilities, which greatly exceeded the value of such remaining assets; and the issuance of liquidating trust certificates C to the stockholders of the old bank in exchange for their stock in that bank. Upon the formulation of that plan on December 15, 1933, it was as evident as it was on February 9, 1934, when the plan was consummated, that the class C liquidating certificates would be worthless when issued because of the great excess of liabilities, amounting to approximately $570,000, over the value of the assets, resulting in the insolvency of the old bank. Cf. Foster v. Commissioner, 112 Fed. (2d) 109; Darling v. Commissioner, 49 Fed. (2d) 111; certiorari denied, 283 U. S. 866; and Simon Jankowsky, 18 B. T. A. 1039; affd., Jankowsky v. Commissioner, 56 Fed. (2d) 1465. Thus,, from the time efforts to rehabilitate the old bank were abandoned and the plan for the new bank was formulated in December 1933, and up to the consummation of the plan in February 1934, the total lack of any prospect of the petitioner ever recovering anything on his old bank stock remained the same.

The petitioner’s position is that the old bank stock became worthless in February 1934, upon the consummation of the plan for the new bank, but the facts show that it- was equally worthless in December 1933. Accordingly, the consummation of the plan in February 1934 had no effect, as an identifiable event, in establishing, worthlessness of the old bank stock, as contended by petitioner, for such stock had definitely become worthless in December 1933.

Tie fact that petitioner in February 1934 for the first time lost all hope of recovering anything on his stock in the old bank “does not form a basis” for holding that the stock became worthless at that time. William E. Steinback, supra.

The petitioner’s old, bank stock having become worthless prior to the taxable year 1934, we- hold that respondent did not err in disallowing the claimed loss' deduction of $78,700.

Reviewed by the Board.

Decision will be entered, for the respondent.

Murdock,

dissenting: The Commissioner disallowed the deduction for 1934 on the ground that the stock was not worthless even at the end of that year. The statement which his counsel made at the hearing was entirely consistent with the determination and did not put the petitioner upon notice that the Commissioner was changing his ground in any respect. An examination of the notice of deficiency and of the pleadings would naturally lead one to believe that the only difference between the parties was whether the stock had lost all of its value by the end of 1934 or whether it still retained some value at that time. The petitioner introduced evidence showing that the stock was worthless at the end of 1934 and the respondent no longer contends that the stock had any value at that time. The petitioner has thus established that the basis upon which the Commissioner made his determination was incorrect. Counsel for the Commissioner now argues that the stock was worthless prior to 1934. Not only is this argument entirely inconsistent with the ground upon which the deficiency was determined, but it is made for the first time in the Commissioner’s brief.

Furthermore, the facts do not support the argument of the Commissioner that the stock became absolutely worthless in 1933. An appraisal of the assets of the bank indicated that it was insolvent in April 1933. A similar appraisal at that time of the assets of many other corporations might have shown that they too were insolvent, yet many of those institutions recovered from that period of depression and went on to new success. The bank was still in possession of its properties and was still in operation, although to a limited extent. This situation continued up to February 1934. The prevailing opinion holds that a plan to rehabilitate the bank “was abandoned shortly prior to December 15, 1933, and a plan for a new bank and the liquidation of the old bank was inaugurated. That event definitely extinguished any potential value the old bank stock may have had from April to December 1933.” It is true that one plan was abandoned about that time and a new plan was suggested, but no plan was adopted until February 9, 1934. Thus any potential value the old bank stock may have had from April to December 1933, was not definitely extinguished until a plan was actually adopted. The plan finally adopted was one under which the old stockholders could hope to benefit only from the liquidation of the assets rather than from the continuation of a bank which had once been successful and might again be successful.

AruNdell, Smith, Yak Fossah, Black, and Mellott agree with this dissent.


author: Kern :

text:
    Mary E. Evans, Petitioner, v. Commissioner of Internal Revenue, Respondent. Helen Evans Wheeler, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 95527, 95528.
    Promulgated June 27, 1940.

      Todd W. Johnson, Esq., for the petitioners.

      Byron M. Goon, Esq., and Frank T. Horner, Esq., for the respondent.
   OPINION.

Kern :

The respondent determined that each of the petitioners received taxable gain in the amount of $37,500 upon the forfeiture and cancellation of the lease May 12,1936. This gain is attributable to the value of the improvements placed upon the property by the lessee and taken over by the lessor upon cancellation of the lease. In their second amended petitions the petitioners each claim this determination to be in error to the extent of $36,914.

The question of whether the lessor realizes taxable gain to the extent of the added value to the property upon the forfeiture of a long term lease and the repossession of the property, including building and improvements erected thereon by the lessee at its own cost, has been decided by the Supreme Court adversely to the petitioner’s contention in Helvering v. Bruun, 309 U. S. 461; and the petitioners in supplemental brief admit the decisive application of this case. The petitioners still contend, however, that the building and improvements erected by the lessee and taken over by them upon forfeiture of the lease did not increase the value of the property, but, on the other hand, were really an encumbrance on the land which entailed additional expenditures by way of taxes, maintenance, insurance, and repairs, without materially increasing the net income from the property.

On first impression this contention seems untenable, since the building in question was only six years old and erected by the lessees at a cost in excess of $100,000. But after carefully considering and evaluating all of the evidence, we agree with the petitioners.

The land upon which the building and improvements were erected cost petitioners $150,000. Its value in the taxable year, as established by the sale to the city of the lot directly across the street, was substantially the same.

The building erected on the property was a garage of concrete construction, low ceilings, and staggered floors connected by ramps and used for automobile parking. There is some evidence that it could be used for a few other purposes if remodeled, but there is no evidence that such use would produce a larger income than its use as a. garage and the decision of the committee for the bondholders, who, after making an extensive survey of its adaptability to other- uses, decided that its only practical use was- that of a garage, is persuasive of that point in view of the fact that the bondholders were faced with the loss of their entire investment and were tremendously interested in making the building pay. The architectural construction of the building is a strong argument that its only practical use was that for which it was built.

Various valuations were placed on the property by local read estate dealers. After considering this testimony, we are of the opinion that the respondent’s- experts valued the property too high. The value of $195,000 by respondent’s witnesses- was based on a theoretical computation of the value of the- braiding and had no foundation in practical fact. The respondent’s value- assumed two forms — one based on the “replacement cost” method-, and the other based on the income method. The replacement eost of a building alone, as is clearly shown by the facts before us, does not determine its fair market value at a given time. The President Hotel, directly across the street from the garage property, sold in 1937 for approximately one-third of its cost. The Main Street Theatre building, which adjoins the garage property, eost in excess of $1,000,000, and now both land and building are being offered for $250,000. Nor is the market value of a braiding determined’ by a hypothetical showing of its-, possible- income. The respondent’s witnesses determined the value of the building on an income basis by assuming that its 300 ear stalls would he filled all the time at a rental of $15 per month, but the respondent has. failed to show that the 300' stalls were, or could be filled all the time in the taxable year at a price of $15 per month. In fact there is evidence that some stall's rented for $8 per month in the taxable year, and1 the lessees, unable to keep up the payments of rent and taxes, forfeited their lease and surrendered property that cost them over $100,000, rather than continue to operate the property.

The record shows that for the period beginning August 1, 1932, and ending May 1, 193'5, the petitioners agreed with the lessors to reduce the rent $2,000 per year and defer to August 1, 1935, the further sum of $3,000 per year. But, even with these concessions, it appears that on March 9-, 1936, the lessees were in default in unpaid rent in the amount of $27,750, and taxes in excess of $7,500', or a total of’ $35,-000 in the period of approximately three and one-half years. At the end of that period the bondholders, after a thorough investigation, of the possibilities of the property, including. other uses, surrendered their lease and took a total loss on their investment. Obviously the lessees would, if possible, have kept up the rent and taxes to protect their investment. That they did not do so convinces us that the business was not sufficient to pay the rent and that the value of the property as computed by the respondent did not reflect its fair market value May 12,1936. In the light of the evidence it is extremely doubtful if the garage property had sufficient business to pay one-half the rent it was obligated to pay. As a matter of fact it did not do so in the three and one-half years prior to the surrender of the lease.

The petitioners’ witnesses valued the property as of May 12, 1936, at $125,000. The entire value was allocated to the land, on the theory that the building was in fact an encumbrance which could not be removed without a cost of $5,000 in excess of its salvage value, and that it did not yield enough additional income over the income from the land as a parking lot to meet the increased expenditures which it entailed, such as taxes, maintenance, and insurance.

The record discloses that the garage property was over three blocks from the main business center of the city, that it was uphill from the business section, and that there were four parking lots in the same block and approximately fifteen parking lots and two garages in the adjacent blocks, besides numerous other parking lots and garages located nearer to the business district than the garage property here in question.

Considering all the facts in the record, we find that the fair market value of the land with building and improvements was not in excess of its fair market value without such building and improvements as of May 12,1936, when the lease was forfeited and the property taken over by the petitioners. The Commissioner erred in determining that petitioners received taxable income upon the forfeiture of the lease to the extent of $36,914 each.

In the taxable year petitioners expended, in connection with the cancellation of the lease and the recovery of the property, attorney fees in the amount of $1,500, fees for the abstract of title $25.50, and sums apparently paid in connection with the personal property in the amount of $33.60. Petitioners claim that these expenditures, totaling $1,559.10, should be allowed as a deduction in computing their net taxable income for 1936 as ordinary and necessary business expenses. The Commissioner argues that the items of $1,500 and $25.50 are capital expenses, which would serve only to reduce the net gain to the petitioners attributable to the value of the building at the time of acquisition, and that the other items do not enter into the situation.

We think the attorney fees and the title abstract fee in the total amount of $1,525.50, while occasioned on account of the cancellation of the lease and the repossession of the property, were in the nature of unavoidable expenditures incident to the forfeiture and termination of the contract of lease and are to be distinguished from Henry B. Miller, 10 B. T. A. 383, and related cases, cited by the respondent, where payments made by the lessor for the cancellation of the lease were held to be capital expenditures, recoverable through deductions spread over the unexpired term of the lease. Here the lease was forfeited by the fault of the lessee and the resulting expenditures by the lessor were a loss incident to such default and are deductible as such from gross income in the taxable year.

Petitioner has failed to show that it is entitled to deduct expenditures in the amount of $33.60, apparently made in connection with the personal property and a mortgage.

Neither of the petitioners claimed any deduction for income taxes paid by them to the State of California in the taxable year. Petitioner Mai-y E. Evans paid $643.60, and petitioner Plelen Evans Wheeler paid $1,015.89. There is no question but that the amount of income taxes paid was the personal liability of the respective petitioners. We hold that they are entitled to a deduction from gross income in the respective amounts under section 23 (c) of the Revenue Act of 1936.

Petitioners in 1936 paid special assessments against the property that had become due prior to the forfeiture of the lease in the amount of $5,410.86, allocable to the condemnation bonds and $676.36 interest due on such bonds. There is no evidence in the record that the improvements for which the assessment was levied were not a benefit to the property. The assessment paid in the amount of $5,410.86 is therefore not deductible in the taxable year under section 23 (c) (4), Internal Revenue Code; P. J. Hiatt, 35 B. T. A. 292; F. M. Hubbell Son & Co., 19 B. T. A. 612; affd., 51 Fed. (2d) 644; certiorari denied, 284 U. S. 644. The interest paid, however, has a different status and is deductible as interest paid in the taxable year, one-half or $338.18, being deductible by each petitioner. Sec. 23 (c) (4), Internal Revenue Code. Evens & Howard Fire Brick Co., 8 B. T. A. 867; Andrew Little, 21 B. T. A. 911; Lee Wilson & Co., 25 B. T. A. 840; Chapman & Dewey Lumber Co., 25 B. T. A. 1166.

In the taxable year the petitioners, after repossession of the property, paid state, county, and city taxes on the property in the total amount of $9,867.69. Of this amount $5,386.18 was in default for the years 1934 and 1935, and $3,835.27 became a lien on the property after it was repossessed in 1936. They also paid interest on the amount in default in the sum of $646.29. The respondent contends that the amount in default was an obligation of the lessee to be paid as rent and that the petitioners merely paid the obligation of another and can not claim as deductions such payments from gross income in the taxable year. The petitioners contend that these amounts were not included as deductions from gross income in the income tax returns of petitioners for the taxable year, and are properly deductible.

Regulations 94, article 23 (a)-10, interpreting the Revenue Act of 1936, which was in force in the taxable year, provides, among other things, that: “Taxes paid by a tenant to or for a landlord for business property are additional rent and constitute a deductible item to the tenant and taxable income to the landlord, the amount of the tax being deductible by the latter.” The same language has been continued in subsequent regulations. Obviously the regulations regard the owner of the fee as having the obligation to pay the taxes, which, if unpaid become a lien on the property. The fact that the lessee defaults on the payment of taxes does not change the situation. The landlord on a cash basis is entitled to deduct the amount of the taxes which should have been paid by the lessee but are paid by the landlord, in the year in which he pays them. We hold, therefore, that the petitioners are entitled to a deduction from gross income of the taxes paid during the taxable year which had become a lien against the property, together with the interest paid on the taxes in arrears and such deductions will be allocated one-half to each of the petitioners.

Reviewed by the Board.

Decision will be entered umder Bule 50.

Mellott dissents.


author: Opper:

text:
    W. Morgan Shuster, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 94869.
    Promulgated June 28, 1940.

      Howe P. Goehr an, Esq., for the petitioner.

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

Opper:

It will greatly simplify consideration of the contested issue if it is emphasized at the outset that the transaction whereby petitioner received the sums in controversy was one between himself, the original and continuing obligee, and his employer, the original and continuing obligor. Thus, cases which consider arrangements whereby income has been assigned to third persons and received by them are not controlling. Cf. Lucas v. Earl, 281 U. S. 111; Burnet v. Leininger, 285 U. S. 136; Commissioner v. Ross, 83 Fed. (2d) 18; Shanley v. Bowers, 81 Fed. (2d) 13. These payments came directly into the hands of petitioner, were never assigned by him to any one else, and were in payment of obligations incurred in his favor because of services rendered by him. Such vexed questions as the effect of assignments to others of future or past earnings, or of property rights based thereon, need, therefore, not concern us.

Similarly, the payments in question constituted a settlement by petitioner directly with his obligor. It follows that cases holding that the disposition of obligations to third persons are sales or exchanges thereof and the gains resulting are capital gains, are equally inapplicable. Cf. Thurlow E. McFall, 34 B. T. A. 108; Josephine C. Bowen, 37 B. T. A. 412; Gladstone Co., Ltd., 35 B. T. A. 764; Harold S. Denniston, 37 B. T. A. 834; James R. Stewart, 39 B. T. A. 87; Ralph Perkins, 41 B. T. A. 1225. Settlement with an obligor and payment by him of all or a part of the amount due under the obligation is not a sale or exchange thereof. Hale v. Helvering, 85 Fed. (2d) 819; Fairbanks v. United States, 306 U. S. 436.

The result is that whether or not petitioner’s original claim fox-services rendered was converted into a capital asset by the 1928 contract, a point we need not decide, the payments received thereunder by petitioner from the obligor in 1933 were not the result of a sale or exchange and the capital gains provisions are inapplicable. Revenue Act of 1932, sec. 101 (c) (1). The payments resulted in the receipt of ordinary income and, since petitioner was on a cash basis and the contract cost him nothing, the entire amount was income in the year of receipt.

This factor disposes also of petitioner’s alternative contention that the payments were income in the year when they were contracted for. If petitioner had been on an accrual basis it may be that the determination in 1928 of the amount of his previously disputed earnings and the creation of a definite obligation therefor might have constituted income in that year, even though payment was still dependent on the receipt of sufficient earnings by the corporation. But to conclude that the settlement of the dispute in 1928 with no accompanying cash payment made the petitioner taxable in that year on the cash receipts theory is to eliminate all distinction between that method and the accrual basis. Schlemmer v. United States, 94 Fed. (2d) 77 (C. C. A., 2d Cir.). That petitioner himself recognized this is demonstrated by his failure to return as income any amount not received by him in cash. If more were needed, that alone would be sufficient to defeat his claim. Commissioner v. Moore, 48 Fed. (2d) 526; certiorari denied, 284 U. S. 620.

Decision will be entered under Rule 50.