author: Mellott : Smith,

text:
    Corn Exchange National Bank and Trust Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 100805.
    Promulgated May 12, 1942.

      Frederick E. S. Morrison, Esq., and John W. Bodine, Esq., for the petitioner.
    ■ Brooks Fullerton, Esq., for the respondent.
   OPINION.

Mellott :

This is a proceeding for redetermination of a deficiency in income tax for the year 1935 in the amount of $82,969.32. It was submitted upon the pleadings, a stipulation of the parties, and documents received in evidence either without objection or subject only to their competency and materiality. Objection was sustained to the reception in evidence of a preliminary, or 30-day letter, offered by the respondent. All of the facts are found to be as stipulated or admitted; but for present purposes they will be summarized.

The issues are: (1) Is petitioner entitled to deduct from gross income $694,421.77 either as a debt, worthless in whole or in part, under section 23 (k) of the Revenue Act of 1934, or as a loss sustained in carrying out a contract with Union Bank & Trust Co. under section 23 (e) of the same act? (2) Is petitioner entitled to deduct, as debts ascertained to be worthless and charged off, notes aggregating $176,314? (3) Is petitioner entitled to deduct, as debts ascertained to be worthless in whole or in part, or as a loss, its investment in bonds aggregating $182,401.57? and (4) Should petitioner be permitted to exclude from gross income $35,502.03 collected upon debts which had been charged off as worthless and deducted from gross income in prior years but which had not reduced its income tax for any of those years? The issues will be discussed in the order stated.

Issue I.

Petitioners Claim for Bad Debt Deduction of $691¡,f¡£1.7?.

Petitioner, hereinafter sometimes referred to as “Corn Exchange”, is a national bank duly organized under the laws of the United States. Its offices and place of business are located in Philadelphia, Pennsylvania. Its income tax returns for 1935 and prior years were filed with the collector of internal revenue at Philadelphia. Its books were kept and its returns were made upon an accrual basis. In 1929, Union Bank & Trust Co., hereinafter referred to as Union, was a Pennsylvania banking and trust company. Both banks were members of the Philadelphia Clearing House Association.

In March 1929 Union attempted to stop a run by borrowing heavily from other banks, and issuing to them its bills payable. Although it borrowed $8,366,000, it was unable to pay in cash the balances due by it on the clearings of March 27,1929, and the Pennsylvania Department of Banking threatened to close it. Other member banks of the Philadelphia Clearing House Association and the private banking firm of Drexel & Co., in order to protect their interests, urgently requested Corn Exchange to take over the assets and liabilities of Union and to liquidate it. Corn Exchange reluctantly agreed to do so, but only on condition and subject to tbe proviso that the clearing house banks, together with Drexel & Co. and the directors of Union, would make good any loss incurred up to a total of $4,000,000.

Under date of March 28, 1929, the following agreement was executed by petitioner and Union:

1. Union Bank hereby sells, assigns, transfers and sets over unto Corn Exchange Bank all its property and assets, real and personal, together with good will and all choses in action, and agrees to make, execute and deliver all such further instruments as may be necessary or desirable to vest title thereto in said Corn Exchange Bank.
2. In consideration of said conveyance and transfer, Corn Exchange Bank hereby agrees to pay all liabilities to creditors of Union Bank, not including, however, liability to stockholders by reason of their holdings of stock.
3. Corn Exchange Bank may at its option sell or otherwise liquidate any or all of the assets so received from Union Bank, or' may at any time prior to the sale or other liquidation of any such assets retain any or all thereof for its own use.
4. Corn Exchange Bank agrees to keep an accurate account of all moneys realized from the sale or other liquidation of the assets so received from Union Bank, and to account for the value of any such assets retained by it for its own use (such value to be determined as hereinafter set forth).
5. Corn Exchange Bank agrees to pay to the stockholders of Union Bank, in proportion to their several holdings, an amount equal to the net amount realized from the sale or other disposition of said assets and the value of such of said assets as shall be retained by Corn Exchange Bank for its own use, such payment to be made after the payment of all liabilities to creditors of Union Bank, as above provided, and of all expenses incurred by Corn Exchange Bank in connection with said liquidation, including interest at 6% per annum on all money advanced by Corn Exchange Bank for the payment of liabilities of Union Bank pursuant hereto.
6. The value at which Corn Exchange Bank shall account for any assets of Union Bank retained by Corn Exchange Bank for its own use shall be determined by a majority of a committee, consisting of three directors of Union Bank and three directors of Corn Exchange Bank to be appointed by the respective Boards, who, if they cannot agree, shall name a seventh member of said committee, who shall have the deciding vote. The decision of such committee shall be final and conclusive. Said committee shall, from time to time, as and when requested by Corn Exchange Bank, fix the value of such assets of Union Bank as Corn Exchange Bank may request, and report the same to Corn Exchange Bank within thirty days of any such request.
In the above-mentioned accounting no value whatever shall be placed upon any estate, trust, or other fiduciary matter which shall be taken over by Corn Exchange Bank for its own use and/or in which it shall be substituted as fiduciary for Union Bank, nor shall any credit be allowed to Union Bank upon any fees or commissions allowed in fiduciary matters representing services heretofore performed by Union Bank, unless the same shall have been due and payable upon the date of this agreement; no value whatever shall be placed upon any leases, contracts, good will, or other similar intangible assets taken over by Corn Exchange Bank for its own use.
7. The time and manner of the sale or other disposition of any of the assets taken over by Corn Exchange Bank and the price or other consideration for which same shall be sold or disposed of shall be determined by Corn Exchange Bank in. its uncontrolled discretion. Corn Exchange Bank is hereby authorized to adjust, settle, compromise, release, or. otherwise dispose oí any choses in action or claims of Union Bank against any person, partnership or corporation whatsoever (including claims against Corn Exchange Bank), as Corn Exchange Bank in its uncontrolled discretion may deem wise. Corn Exchange Bank shall be entitled to pay, settle, compromise or otherwise discharge any and all claims against or liabilities of Union Bank (including claims of or liabilities to Corn Exchange Bank) as Corn Exchange Bank in its uncontrolled discretion may deem wise.
8. Union Bank hereby constitutes and appoints Corn Exchange Bank its true and lawful attorney for and in the name and stead of Union Bank but for the use of Corn Exchange Bank, to demand, sue for, recover, collect, receive, acquit, release and discharge all claims and demands of Union Bank, as fully and effectually to all intents and purposes as Union Bank could or might have done, Union Bank hereby ratifying and confirming all that Corn Exchange Bank shall do or cause to be done in the premises.
9. Union Bank agrees to use its best efforts to have Corn Exchange Bank continued and/or substituted as the fiduciary in all estate, trusts and similar matters in which Union Bank is now the fiduciary and which Corn Exchange Bank desires to retain, and in every way to transfer to Corn Exchange Bank the good will of Union Bank.
10. The certificate of the President and Cashier of Corn Exchange Bank as to the amount payable to stockholders of Union Bank, pursuant to this agreement shall be final and conclusive, and the Corn Exchange Bank shall not be liable for anything whatever in connection with this agreement or in connection with its administration or liquidation of assets of Union Bank or the payment of liabilities of Union Bank, except only for its wilfull misconduct or gross neglect.
11. Corn Exchange Bank shall b'e under no duty or obligation to assert or enforce or take any action whatever in connection with any claim or demand whatsoever growing out of possible liability of stockholders, directors, or officers, for negligence, malfeasance or other misconduct.

Under date of April 11,1929, petitioner and Union executed a supplemental agreement reading in part as follows :

1. The property and assets included in the sale from Union Bank to Corn Exchange Bank do not include any claims or demands against stockholders, directors and/or officers of Union Bank as such stockholders, directors and/or officers.
*******
3. Corn Exchange Bank may carry upon its books the assets and liabilities of Union Bank at such figure as it may elect. Such book entries shall not be construed to:
(a) charge Corn Exchange Bank with the receipt of any assets which do not actually come into its hand;
(b) operate as an admission by Corn Exchange Bank as to the value of said assets;
(c) limit the property and assets sold and transferred by said agreement of March 28,1929, as amended by this agreement;
* * # # * * *

In an agreement dated March 28, 1929, the 24 directors of Union agreed to pay Corn Exchange, on demand, up to the amounts set opposite their respective names (total $1,500,000), “any and all- loss which, may be sustained in the liquidation of Union.” The agreement provided in part:

2. Loss shall conclusively be deemed to have been sustained under this agreement whenever and as often as it shall appear that the assets of Union; * * * remaining in the hands of the Corn Exchange Bank, at their fair valuation, * * * are less than the amount which has been paid out or assumed by Corn Exchange * * * in liquidation of the liabilities of Union * * *, and in payment of expenses, * * * plus interest at the rate of six percent per annum on moneys advanced by Corn Exchange Bank, after giving credit for the amount realized from the assets of said Union Bank * * *, which have been sold or otherwise disposed of, plus any amounts theretofore paid by Directors hereunder.
***•*••
Loss shall also be conclusively deemed to have been sustained under this agreement if, when all of the assets of Union Bank * * * shall have been solid or otherwise disposed' of, the amount paid out or assumed by Corn Exchange Bank in liquidation of the said liabilities of Union Bank * * * and in payment of expenses authorized by * * * agreements * * * plus interest at the rate of six per cent per annum on moneys advanced by Corn Exchange Bank, is in excess of the amount realized from said assets plus any amounts theretofore paid by Directors hereunder.

An agreement was entered into on April 25,1929, between Corn Exchange and 26 banks, in which the banks agreed to pay to Corn Exchange, up to the amounts set opposite their respective names (total $2,475,000), any loss sustained by it in excess of the amount paid by the directors of Union, such losses to be determined in the manner provided in the agreement with the directors. Corn Exchange assumed an obligation of $25,000 of a small bank which did not sign this agreement.

On April 12,1929, pursuant to the above agreements, Corn Exchange took over all of Union’s assets and also took possession of Union’s places of business and books of account. On the same date Corn Exchange entered on its books as liabilities all the known liabilities of Union, consisting of the following:

Bills payable to banks_$8, 366,000. 00
Christmas savings deposits_ 207, 621. 64
Other deposits_13,814,618.55
Total_ 22,388,240.19

All known creditors and depositors of Union were notified that Corn Exchange had taken over the business of Union and would pay, on demand, all of its liabilities with interest. Thereafter Corn Exchange paid these liabilities as demands were made. On its books the Union creditors were credited with the amounts owed to them, and an asset account was set up entitled “Union Bank and Trust Company, in Liquidation.” The initial entry in this account was a debit of $22,388,-240.19, which was equal to the total of the liabilities of Union assumed by Corn Exchange. The debit charge represented the right of Corn Exchange under the agreements to the proceeds from the assets of Union (as distinguished from the notes, bonds and other assets of Union) so taken over, to the extent of (1) all liabilities of Union assumed by Corn Exchange, plus (2) the expenses incurred by Corn Exchange in the liquidation, plus (3) interest at 6 percent on the money advanced by Corn Exchange for the payment of liabilities of Union. On the books of Union its liabilities were charged and closed out and a new liability account opened entitled “Corn Exchange National Bank and Trust Company”, to which credit was made in the sum of $22,388,240.19.

On April 12, 1929, Corn Exchange sent to each depositor of Union a letter stating: “You are now a depositor of Com Exchange National Bank.” Corn Exchange increased the reserve which it was required to carry against its deposit liabilities by an amount sufficient to cover the Union deposits, the payment of which it had assumed. Union’s depositors were treated in every particular and for every purpose the same as the depositors who had originally made their deposits in Corn Exchange.

The assets of Union, as shown by its books of account on April 12, 1929, consisted of the following:

Loans and discounts_$21, 772, 068.42
Bonds and securities, etc_ 4,413,598. 75
Miscellaneous assets_ 833,164. 35
Total_ 27,018,831.52

Subsequent transactions relating to these assets were recorded by Corn Exchange in the old books of Union. The only assets carried on the books of Corn Exchange were those retained for its own use pursuant to the agreements. As any asset was disposed of by Com Exchange, or as Corn Exchange elected to retain any asset for its own use, the proceeds or the determined value was credited to the proper asset account on Union’s books and charged to and in reduction of the account on Union’s books entitled “Corn Exchange National Bank and Trust Company.” Any difference between the book value of such assets on the old books of Union and the proceeds of the disposition or determined value was credited (if a loss) or charged (if a gain) solely to the proper asset account on Union’s books and charged (if a loss) or credited (if a gain) solely to the profit and loss account on Union’s books. After these and other charges (namely, interest at 6 percent and the expenses of liquidation) had exhausted the profit and loss account on Union’s books, such charges were made to and in reduction of Union’s surplus account, and after the exhaustion thereof, to and in reduction of Union’s capital account, which was exhausted in 1931 and ultimately became a large deficit. Any gains or losses arising from the disposition of, or the retention by, Com Exchange for its own use of any of the “Union assets” were reflected in the income tax returns of Union only, and not in the income tax returns of Corn Exchange. The returns of Union were executed and filed by the officers of Union Bank & Trust Co., in Liquidation.

Corn Exchange also took over from Union and administered trust, agency, stock transfer, corporate trust, and unfunded insurance trust accounts, for which it received commissions or compensation in the years 1929 to 1940, inclusive, aggregating $28,649.58. These commissions were not credited to Corn Exchange’s account “Union Bank and Trust Company, in Liquidation”, nor were the expenses incurred in connection therewith charged to this account.

After the initial entry of $22,388,240.19 as an asset in the account on petitioner’s books “Union Bank and Trust Company, in Liquidation”, the account was from time to time reduced by:

(1) the net amounts realized by sale of Union’s assets after April 12, 1929;
(2) the value, determined by the joint committee under the agreement, of assets acquired and retained by Com Exchange for its own use;

and increased by;

(1) the amounts of the expenses incurred by Corn Exchange in disposing of the Union assets; and
(2) interest at the rate of 6 percent per annum, calculated on the daily debit balance of the account, such interest charge being, however, credited with and reduced by the income actually earned on the remaining Union assets which were undisposed of and not retained by Corn Exchange for its own use.

At the same time that the 6 percent interest charges were made by Corn Exchange against Union, the latter’s profit and loss account was charged with identical sums, and these were deducted by Union in its income tax returns for the years 1929 to 1939, inclusive. So, also, the income from Union assets was credited to Union’s profit and loss account and reflected in Union’s income tax returns as income from assets of Union. Each month the excess of the 6 percent interest charge over the income from the Union assets was added to the amount shown on Union’s books as due to Corn Exchange.

On or before April If, 1929, Corn Exchange paid to various banks the $8,366,000 due from Union to them. On or shortly after December 1,1929, it paid to Christmas fund depositors the amounts of their deposits, aggregating $207,621.64. The other liabilities of Union assumed by Corn Exchange, consisting of general deposits, certificates of deposit, and savings fund accounts, were paid by the latter when and as demand was made by the depositors in the ordinary course of business. On April 12,1929, prior to taking over the deposit accounts of Union, the deposits of Corn Exchange were $87,365,828.18. On April 12, 1929, after taking over the deposit accounts of Union, the deposits of Corn Exchange were $103,726,860.24; on December 31, 1929, $92,993,603.65; and on December 31, 1930, $90,466,569.03.

In the Federal income tax returns of Corn Exchange for the years 1929 and 1930 the respective amounts of $613,370.67 and $521,183.74, being the 6 percent interest charges against Union during those years, were included in gross income. The taxable net incomes reported and the income taxes paid for those years were:

Ko Federal income taxes were paid by petitioner for the years 1931-1935, its returns for those years showing no taxable net income.

A part of the interest charges made during 1931, or $161,464.08, was included by Corn Exchange as taxable income in its return filed for that year. Interest charges of $238,406.31 made during 1981 were shown on this return as nontaxable income. The latter amount was not reported as taxable income because of the determination of the national bank examiner that it might not be received. Interest charges of $401,146.39 made during 1932 were shown on the return of Corn Exchange for that year as nontaxable income for the same reason.

On November 1,1932, Corn Exchange and the national bank examiner decided that the interest charges in excess of the income from “Union assets” were uncollectible and that such charges should not be placed on Corn Exchange’s own books of account as income but merely carried as memoranda. These memoranda interest charges upon direction of the national bank examiner were recorded, however, on the Union books of account to the credit of Union’s account entitled “Corn Exchange National Bank and Trust Company” so as to show the entire amount of the credit balance at any given time. These memoranda interest charges shown on Union’s books from November 1, 1932, through 1939, aggregated $1,573,366.30.

The expenses incurred by Corn Exchange in connection with the liquidation of Union were not deducted by it in its income tax returns inasmuch as they were charged by Corn Exchange to the account entitled “Union Bank and Trust Co. in Liquidation” and thereby increased the debit balance of said account.

By the end of 1931 the debit balance in “Union Bank and Trust Company, in Liquidation” exceeded the value of the remaining Union assets as appraised by the national bank examiner, by the sum of $723,432.07. By the end of 1933, this excess amounted to $3,255,-813.29. During 1931 through 1933, Corn Exchange notified the directors of Union and the banks of this situation and that they must pay under their agreements. The payments made by them were as follows:

1931- $30,837. 50 1935_ $115, 600. 00 1939_ $23, 912.61
1932_ 226,093. 75 1936_ 53,048. 66 1940._ 12, 500. 00
1933_ 2,468,193'. 35 1937_ 26, 911.18 -
1934_ 115,000. 00 1938_ 22,438.51 3,094,535.56

At the time of the hearing (October 24, 1940) Corn Exchange estimated that an additional $105,014.50 will be received from the directors of Union and from the banks.

From time to time a national bank examiner appraised the assets of Union which had been taken over by Corn Exchange and which had not been disposed of, and as a result of an examination reflected in a report dated March 8, 1934, the bank examiner required Corn Exchange to charge off on its books the difference between: (a) the appraised value which he put upon the remaining assets of Union ($2,672,114.35) plus the estimated recoveries from guarantees ($772,-'500) and (b) the debit balance in the “Union Bank and Trust Company, in Liquidation” ($4,095,5.83.85), or $650,969.58. After considering the bank examiner’s report, Com Exchange “charged off” that amount plus an additional amount of $99,509.57 which it determined was also nonrecoverable, by crediting the total of the two, i. e., $750,479.15 to the account “Union Bank and Trust Company, in Liquidation.” In its 1934 income tax return Corn Exchange deducted $750,479.15 as a partial bad debt. (This amount is not presently in issue.)

A national bank examiner made another examination in the summer of 1934. His report on this examination, dated September 6, 1934, was received by Corn Exchange on November 24, 1934. In this report, Corn Exchange was directed to charge off the difference between: (a) the appraised value put upon the remaining assets of Union ($2,186,540) plus the estimated recoveries from the guarantors ($374,105.40) and (b) the debit balance in the account “Union Bank and Trust Company, in Liquidation” ($2,910,822.71), or $350,177.31.

Following the usual procedure, the report of the bank examiner was referred to the board of directors of Corn Exchange on November 27,1934, which in turn referred it to the examining committee of the board. This committee considered the examiner’s report during December, and on December 28, completed its report and therein recommended a charge off of the $350,177.31. On January 2, 1935, the •next meeting of the Board, it considered the reports of the examiner and of the committee, and “having then ascertained that the said amount was to that extent non-recoverable and a partial bad debt”, directed its officers to make the charge-off. The charge-off was actually made on the books of Corn Exchange on January 4,1935, by crediting $350,117.31 to the account “Union Bank and Trust Company, in Liquidation.”

On March 21, 1935, the national bank examiner made another examination and report and directed the charge-off of $589,347.08. Corn Exchange, on April 26, 1935, following the same procedure taken in connection with report of November 24, 1934, “ascertained that out of the above $589,347.08 the amount of $344,244.46 was nonrecoverable and a partial bad debt” and charged off this amount against the account of “Union Bank and Trust Company, in Liquidation.”

In its income tax return for the year 1935, petitioner claimed as a deduction for “Bad debts” the amount of $1,321,995.57, listing in schedule G attached to the return the various items upon which the deduction was based. Included in this schedule were 52 items ranging in amount from $111 to $195,676, and totaling $694,421.27, which constituted part of the assets of Union taken over by petitioner under the circumstances shown above. Respondent disallowed the deduction of $694,421.27.

Exhibit 4 attached to the stipulation shows that on December 31, 1935, the amounts Corn Exchange was entitled to recover under its interpretation of the agreements, and the amounts realized or to be realized from various sources, were as follows:

Liabilities assumed by Corn Exchange_ $22, 388, 240.19
Expenses incurred under agreements_ 547,020.23
6 percent interest charged by Corn Exchange on daily debit balance in account “Union Bank and Trust
Company, in Liquidation”- $2, 233, 861.90 Less income from “Union assets” prior to their sale
or retention_ 971, 986. 85
-;- 1,261,875.05
Proceeds from “Union assets” sold or retained by Corn Ex-
change- $18,136,412. 81
“Union assets” remaining at end of year per appraisal of National Bank Examiner_ 1,323,872.54
Payments made by directors and banks under their agreements to indemnify Corn Exchange against loss_ 2, 955,724.60
Amount unpaid by directors and banks under their guaranties- 1,019,275, 40

Respondent disallowed the claimed bad debt deduction upon the theory and now contends that petitioner is not entitled to it because, after April 12, 1929, there was no obligation due from Union to Corn Exchange. Petitioner contends that the transaction between it and Union created the relationship of debtor and creditor, and urges that this relationship is conclusively shown by all the dealings between it and Union, by book entries, and by the uniform construction given to the transaction by the interested parties.

The courts and this Board have often given effect to the rule that where the language of a contract is ambiguous, the practical construction which the parties have placed upon it is entitled, to great weight in determining its proper interpretation. This rule has no application, however, where the parties have used language which clearly describes the relationship they intended to create. National Surety Co. v. McGreevy, 64 Fed. (2d) 899.

Under the agreement of March 28, 1929, Corn Exchange assumed an absolute liability to pay all of the debts of Union in consideration for the sale, assignment, and transfer to it of all the property and assets of Union. Union agreed to execute all instruments necessary to vest title to the assets in Corn Exchange. The supplemental agreement of April 11, 1929, between these two corporations contained the provision that the property and assets included in the “sale” from Union to Corn Exchange did not include any claims or demands against stockholders, directors, and/or officers of Union as such. Any surplus realized was to be turned over to the stockholders of Union. The Circuit Court of Appeals for the Eighth Circuit, in First National Bank v. Harris, 27 Fed. (2d) 117, described a similar transaction as “an out and out sale of assets in consideration of an assumption of liability with an accounting over for any surplus realized.” We think it is also quite significant that in Perlberg v. Union Bank & Trust Co., 6 Atl. (2d) 563 (May 25, 1939), involving an action for a writ of mandamus brought by a stockholder of Union to compel defendants (Union and Corn Exchange) to produce for examination all the books of Corn Exchange to determine whether there had been any mismanagement in liquidating the assets of Union, the Supreme Court of Pennsylvania, in reciting the facts, stated: “The assets of Union Bank were purchased by the Corn Exchange National Bank and Trust Company, pursuant to written agreements entered into between the two banks on March 28, 1929, and on April 11, 1929.” The agreements seem to justify such a finding.

Apparently realizing that the language of the agreements does not support its contention, petitioner stresses what it terms to be the practical construction of the parties. On brief it states that from the inception of the transaction down to the present date, all participants in it, including Corn Exchange and Union, the 24 directors of Union, and the 26 other participating banks, have uniformly construed it as immediately giving rise to a debt from Union to Corn Exchange, and have treated this debt as from time to time reduced by the amounts realized by Corn Exchange from tire sale of Union assets and by sums from time to time determined by the committee to be the fair value of the assets retained by Corn Exchange for its own use, increased by the expenses incurred by Corn Exchange, and by the agreed 6 percent interest charge on the daily debit balance of the account, less the income realized from the assets prior to such sale or retention.

Petitioner’s argument that the participants in the transaction have uniformly construed it as giving rise to a debt from Union to Corn Exchange is not persuasive. It is predicated largely upon entries made in the books of Corn Exchange and Union after April 12, 1929, and upon payments made by the directors and banks. In this connection, however, it should be borne in mind that Corn Exchange, on April 12, 1929, took over not only the assets of Union, but also its places of business and books of account. The accounts set up in those books and the entries made therein after that date are merely indicative of the method by which petitioner sought to record the transaction. They do not reflect any construction or interpretation on the part of Union, its directors, or the banks. The fact that Corn Exchange may have made entries or set up accounts reflecting a debtor-creditor relationship, when none in fact existed, does not alter the nature of the transaction. The directors and banks merely agreed to indemnify Corn Exchange against loss to the extent that the liabilities assumed, expenses incurred, and interest on moneys advanced for the payment of liabilities, exceeded the amount realized from the sale of assets taken over by Com Exchange and the value of any assets it decided to retain for its own use. They did not agree to pay any debt of Union. The fact that they made payments as agreed, when notified by Corn Exchange that it had sustained a loss, is no indication that they construed the transaction as petitioner contends. On the contrary, such payments indicate that they knew and realized that Union and its stockholders were relieved of all liability under the provisions of the agreements of March 28 and April 11, 1929, that no payments could be expected from this source, and hence that the loss would be substantially as set up by petitioner on its books; but there was no debt due from Union.

“The term debt denotes an obligation of the debtor to pay and a right of the creditor to receive and enforce payment.” Emil Weitzner, 12 B. T. A. 724, 725; Harry Lee Martin, 33 B. T. A. 340, 341. Under the stipulated facts all obligation of Union and its stockholders to Corn Exchange ceased when the latter took over Union’s assets and assumed its liabilities. That, it may be assumed, was the reason Corn Exchange took no action against Union or its stockholders when it became apparent that a loss would be sustained, but proceeded to collect from the directors and banks to the extent of their liability under the contracts. This conclusion accords with the view apparently taken by petitioner when its income tax returns for 1934 and 1935 were filed; for, while it claimed deductions for bad debts, it did not list any debt owing to it from Union.

Cases cited and relied upon by the petitioner, such as Hightower v. American National Bank of Macon, 263 U. S. 351, and Wyman v. Wallace, 201 U. S. 230, holding that under the facts a debtor-creditor relationship had been created when one bank took over the assets and assumed the liabilities of another, are distinguishable upon their facts. In Wyman v. Wallace the bank which assumed the liabilities of the other had accepted three nonnegotiable notes signed by it. The question was whether the stockholders were liable for the payment of the notes under what may be referred to as the “double-liability” section of the banking act. The Court held that they were, since the notes were valid obligations of the bank. In Hightower v. American National Bank of Macon the Court construed the contract signed by the two banks as creating the relationship of debtor and creditor and pledgor and pledgee, pointing out that the one bank was “to hold the assets ‘as security’ for ‘all advances’ made by it to pay liabilities and expenses; that it was to reduce the assets to cash with reasonable diligence and apply the proceeds in ‘repaying’ ‘all amounts advanced’ by it ‘with interest’ added, and that if, for any reason beyond its control, the liquidation should be discontinued, it should hold the assets ‘as security’ for its ‘advances’ up to that time.” Another significant provision of the contract was one directing that the surplus, if any, be paid over to the stockholders of the bank being liquidated, with a concomitant provision that the shareholders should not be relieved of their liability as such. In the instant proceeding, while petitioner had agreed to pay over to Union’s stockholders any surplus, the failure to incorporate in the contract a provision making Union or its stockholders liable for any deficiency and the execution of the supplemental contract specifically providing that petitioner should have no claim against Union’s stockholders, directors, or officers indicate quite clearly that it was intended that the relation of debtor and creditor should not exist. Nor was petitioner a mere pledgee of the assets. The whole contract, as exemplified in the various agreements, amounted to this and nothing more. Corn Exchange was given assets having a nominal value of $27,018,831.52 with which to liquidate liabilities of $22,388,240.19. Anticipating that the real value of the assets would not be equivalent to the nominal value, Union’s directors agreed to protect Corn Exchange against loss to the extent of $1,500,000 and the banks signing the other contract agreed to protect it against loss, in excess of the amount paid by the directors of Union, to the extent of an additional $2,475,000. It may be that petitioner sustained a loss in excess of the aggregate of these amounts; but that is not the question before us. Nor are we called upon to decide whether the amounts not paid by the directors were bad debts. Our question is the narrow one: Was Union a debtor of Corn Exchange? Being of the opinion that this question must be answered in the negative, petitioner’s claim for the deduction of the bad debt must be denied.

In reaching the conclusion set out above we have not overlooked other evidence relied upon by petitioner or points stressed by it upon brief. It places considerable reliance upon a letter received from a bank examiner a few days before the hearing in which it is stated that the examiners had always “viewed the asset carried on * * * [petitioner’s] books as an advance to the Union Bank and the assets pledged the same as collateral to any other loan.” In so far as the statement is a legal conclusion it is not binding upon us; and an examination of the action actually taken by the banking department supports the conclusion we have reached rather than petitioner’s present contention. In March of 1934 the examiners decided that the assets of Union yet remaining to be disposed of would yield $2,672,114.35 and that petitioner might reasonably expect to collect from the directors of Union and from other banks an additional $772,500. They therefore simply directed petitioner to include in its assets no more than the agrégate of these amounts. In November of the same year they appraised the assets again, determined that they would yield $2,186,540, estimated that additional collections from the directors and the banks in the amount of $374,105.40 would be made, and directed that henceforth there be carried as an asset no more than the aggregate of these two amounts. Begardless of how the bank examiner may characterize his action, we construe it as no more than an order to write down an asset from its nominal or carried value to its real value.

In its amended petition, petitioner makes the alternative contention that if the bad debt deduction is denied, then it is entitled to deduct the amount of $694,421.77 as a loss. This contention, though mentioned by petitioner in its briefs, is not discussed. Respondent, however, discusses it at length. He urges that no loss deduction should be allowed for 1935 because the transaction was not completed and closed before the end of that year. He points out that assets having an appraised value of $1,323,872.54 then remained unsold and that the interest item constituted all, and more, than the claimed loss. He also argues that the interest was not computed correctly by the petitioner because it included in the computation interest upon sums not actually paid out until months after April 12, 1929; that since a correct computation of the interest was not made it was impossible to ascertain, on December 31, 1935, that a loss had been sustained or that there ever will be a loss; that the deposit-accounts of more than $13,800,000 and the trustee accounts acquired by petitioner had some value, and, because of the failure of petitioner to prove their value or to prove that they had none, the amount of any loss sustained can not be determined.

Petitioner’s failure to discuss its alternative contention may be due to the fact that it realizes a loss must be evidenced by a closed transaction — a situation not present here. At the end of the year 1935 petitioner could only guess at the amount of loss, if any, which would actually be sustained. At that time it had Union assets having an appraised value, as pointed out by respondent, of $1,323,872.54 which had not been sold, and it could not then determine the amount which would eventually be realized from their sale. It did not know what the total expense of liquidating the assets would be, nor what amount would eventually be paid by the directors and banks under their contracts of indemnity. Obviously the transaction had not reached that stage of completion which would enable petitioner to state definitely the exact amount of its total loss. There is no statutory authority for the allowance of a partial loss.

While the amount in issue may not be allowed as a deduction from gross income in 1935 either as a bad debt or as a loss, we pass without decision the question whether petitioner ultimately sustained a loss and, if so, how it should be computed. We hold only that respondent committed no error in disallowing the claimed deduction in the year before us.

Issues II and III.

Bad Debt Deduction, $176,311/, Bills Receivable, and $182,1/01.57 Bonds.

The present issues are not connected with, nor do they arise from, the Union transaction. They involve claimed bad debt deductions aggregating $358,715.57 for bills receivable and bonds in the amounts shown in the subheading and may be considered together as one issue. The facts (exclusive of the steps taken as set out in paragraph 5 (f) which will be summarized) are shown in paragraphs 9 to 13, inclusive of the stipulation, as follows:

9. During the years 1934 and 1935, Corn Exchange owned bills receivable due from Albert Company, C. Albert Kuehnle, Bryn Bella Land Company, and Pennsylvania Carpet Company. As a result of an examination begun in September, 1934, and' in respect of which a report was received by Corn Exchange on November 24, 1934, the National Bank Examiner ordered the charging off of the above mentioned accounts in the amounts as follows:
Albert Company-$100, 000
O. Albert Kuehnle_ 30, 000
Bryn Bella Land Company_ 16,314
Pennsylvania Carpet Company- 30, 000
176, 314
Of this amount of $176,314, the said Examiner ordered the charging off of the $30,000 due from C. Albert Kuehnle as wholly worthless, and ordered the charging off of the amounts shown from the three other accounts, respectively, because they were partially non-reeoverable in the respective amounts shown above.
10. During the years 1934 and 1935 Corn Exchange owned certain bonds. As a result of an examination begun in September, 1934, and in respect of which a report was received by Corn Exchange on November 24, 1934, the National Bank Examiner ordered the charging off of said bonds to the extent of $182,401.57. Of this amount the said Examiner ordered the charging off of certain of these assets as partially non-recoverable in the amount of $50,150.50, and ordered the charging off of the balance of these assets as wholly worthless in the amount of $132,251.07.
11. Pursuant to Corn Exchange’s usual procedure, the same steps were taken by Corn Exchange (to ascertain and charge off the bad debts of $176,314 and $182,401.57 aforesaid) as are set forth in paragraph 5 (f) on pages 20 and 21 supra. Accordingly, Corn Exchange, having ascertained said bills receivable and said bonds to be worthless in whole or in part as noted above, charged the same off in 1935 on its books of account to the extent of the amounts ordered to be charged off by the National Bank Examiner’s report, as aforesaid.
12. On April 14, 1935, Corn Exchange filed its Federal corporation income and excess-profits tax return for the calendar year 1934 with the Collector of Internal Revenue for the First District of Pennsylvania at Philadelphia, Pennsylvania, disclosing a net loss of $211,786.61, which was further increased, by the deduction of tax exempt income, to a loss of $512,842.08. On said return Corn Exchange deducted from gross income, as bad debts, the amount of $1,145,613.82. Neither the sum of $176,314 nor the sum of $182,401.57, nor any part of either of these sums, was included in the deductions reported as bad debts on Corn Exchange’s return for the calendar year 1934. On its said 1934 income tax return Corn Exchange deducted $750,479.15 as a partial bad debt in respect of the liquidation of the Union Bank and Trust Company as set out in paragraph 5 (e) supra.
13. On March 14, 1936, Corn Exchange filed its Federal corporation income and excess-profits tax return for the calendar year 1935 with the Collector of Internal Revenue for the First District of Pennsylvania at Philadelphia, Pennsylvania, disclosing net income of $201,026.27, which was reduced, by the deduction of tax exempt income, to a net loss of $122,343.54. On said return Corn Exchange deducted as bad debts the amount of $1,312,995.57. Said deduction of $1,312,995.57 reported on Corn Exchange’s return for the year 1935 included said sums of $176,314 and $182,401.57.

Summarizing the steps taken, after the report of the bank examiner was received, by petitioner on November 24,1934, it was submitted to the board of directors then in meeting and by it referred to an examining committee. The committee met from time to time in December and on December 28,1934, prepared a recommendation that the charge-off be made. This was referred to the Board at its next meeting, January 2,1935. On that date the committee’s report and the examiner’s report were considered by the board, which directed that the amount be charged off. On January 4, 1935, petitioner, having then ascertained that the said amounts were not recoverable or were recoverable (as to some of the items) only in part, charged them off upon its books.

Under section 23 (k) of the Revenue Act of 1934 debts ascertained to be worthless and charged off within the taxable year are to be allowed as deductions from gross income. “In order to secure a deduction of a debt as worthless, a taxpayer must ascertain its worthlessness, charge it off on his books, and take his deduction all during the same taxable year.” American Cigar Co. v. Commissioner, 66 Fed. (2d) 425; certiorari denied, 290 U. S. 699. Cf. Mayer Tank Manufacturing Co. v. Commissioner, 126 Fed. (2d) 588.

Respondent concedes that petitioner charged off the debts in question on its books during the year 1935. He argues that it is not entitled to the claimed deductions because ascertainment of worthlessness occurred in 1934 rather than in 1935. We do not agree. While the order of the bank examiner indicates that the debts were probably worthless in the latter part of 1934, petitioner is entitled to make a reasonable investigation to ascertain whether they are in fact worthless. Quinn v. Commissioner, 111 Fed. (2d) 372. Its board of directors decided to make such an investigation, and, in accordance with its usual procedure, referred the bank examiner’s report to its examining committee for recommendation. This committee considered the report and recommended that the debts be charged off. The recommendation of the committee and the report of the bank examiner were considered by the board at its next meeting on January 2, 1935, the recommendation was approved, and the charge-off was made. All of these acts occurred in 1935. Under similar circumstances it was held in Sonora Bank & Trust Co., 7 B. T. A. 66, that the deduction should be allowed. We accordingly sustain the petitioner upon this issue and hold that the respondent erred in denying the claimed deduction.

Issue IV.

Inclusion in Gross Income of Amou/nt Collected on Debts Charged Off in Earlier Tears.

The final question is whether petitioner is entitled to exclude from its gross income for 1935 $35,522.03 representing recoveries in that year on debts which had been ascertained to be worthless and charged off during the years 1931 to 1934, inclusive. The stipulation on this issue is as follows:

15. During the year 1935 Corn Exchange received recoveries on account of various debts owing to Corn Exchange, which debts had been ascertained to be worthless and had been charged oft its books of account in prior years, as follows:
Year of ascertainment of worth- Amount charged off (and sub-
lessness and charge-off sequently recovered in 1935)
1931_'_ $8, 716. 41
1932_ 12, 829. 37
1933_ 11,192. 07
1934_^_ 2, 794.18
35, 532.03'
These bad debts were claimed as deductions on Corn Exchange’s income tax returns as filed for said respective years of charge-off, but no reduction in income tax for those years resulted from such deductions because Corn Exchange’s returns for those years show no net income but rather net losses substantially in excess of the amounts so charged off, respectively. Said total amount of $35,632.03 so recovered in 1935 was included by Corn Exchange in its taxable income as reported on its income tax return for 1935, and respondent has made no adjustment with respect thereto.

Petitioner is sustained upon this issue on the authority of and for the reasons stated in Central Loan & Investment Co., 39 B. T. A. 981; National Bank of Commerce of Seattle, 40 B. T. A. 72; affd., 115 Fed. (2d) 875; Estate of Charles H. Robinson, 46 B. T. A. 943 and cases cited therein.

Reviewed by the Board.

Decision will be entered wider Rule 50.

Smith,

dissenting: I can not agree with the result reached in the majority opinion that the bad debt deduction of $694,421.27 claimed by the petitioner in 1935 is not a legal deduction from gross income. The basis for the disallowance is that no debtor-creditor relationship existed between petitioner, Corn Exchange, and Union in respect of the account in which the charge-off was made. Of course, the existence of a valid enforceable debt is essential to a bad debt deduction. It is my opinion that the account which petitioner carried in its books in 1934 and 1935 as an account receivable from “Union Bank and Trust Company, in Liquidation” and against which petitioner charged off the respective amounts of $750,479.15 and $694,421.27 in those years, at the direction of the national bank examiner, constituted a valid debt. The charge-off made in the taxable year 1935, I think, was fully justified, since it was ordered by the national bank examiner.


source: Caselaw Access Project

author: Murdock:

license: Public Domain

text:
    Woodside Acres, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 104702.
    Promulgated May 12, 1942.

      A. F. Sehaeffner, Esq., for the petitioner.

      Allen T. Akin, Esq., and Thomas R. Charshee, Esq., for the respondent.
   OPINION.

Murdock:

The Commissioner has determined that the petitioner is a personal holding company. The petitioner, apparently conceding that it meets the definition in other respects, claims that it is not a personal holding company because more than 20 percent of its gross income was other than personal holding company income. Sec. 351 (b) (1) (A), Eevenue Act of 1936, as amended by sec. 1, Eevenue Act of 1937. Its personal holding company income amounted to $67,212.08 and the question is thus narrowed to whether the petitioner had more than one-fourth of that amount, or $16,803.03, of gross income from other sources. It had gross receipts from its farm and dairy of $24,663.09, from which it subtracted $2,056.78 as cost of operation and reported $22,606.31 as “gross profit where inventories are not an income-determining factor.” The $2,056.78 subtracted as cost of operation apparently consisted of $1,790.13, the cost of milk and cream purchased for resale, and $266.65 paid for seeds and plants. The petitioner now concedes that about $1,200 paid for pasteurizing should also be subtracted to determine gross income from the dairy business. The Commissioner contends that additional amounts must be subtracted from the gross receipts mentioned above in order to arrive at gross income from the dairy. The operation of the farm was collateral to the operation of the dairy and the gross income from the farm is so small that it need not be separately considered.

The Commissioner starts with the amount of $23,954.51 as gross receipts from the sale of milk, cream, and butter. He first subtracts the amount subtracted by the petitioner on the return, $2,056.78, and he also subtracts $5,860.92 paid for feed and $5,973.13, the amount paid for dairy labor after excluding the amount paid for clerical help and delivery men. He thus determines that the gross income from the farm was $10,063.68, an amount less than 20 percent of the petitioner’s gross income for the taxable year.

The petitioner contends that those items should not be subtracted, except that part of the wages paid for pasteurizing. One of its arguments is that the amounts which the Commissioner would thus subtract in determining gross income from the dairy are deductible under section 23 (a) as ordinary and necessary expenses. The same might be said for the wages paid for pasteurizing and the cost of milk, seeds, and plants purchased. Congress, as a matter of grace, has allowed some specific deductions under section 23. If it has allowed a deduction for some item which is in fact a part of the cost of production, the allowance of the deduction would not change the character of the item and the amount should, nevertheless, be subtracted from gross receipts in determining gross income from the business operation. The petitioner cites no authority to the contrary.

The petitioner also contends that the method of computing gross income from the dairy business used by the Commissioner violates the provisions of article 22 (a) (7) of Regulations 94. That article defines a farm as including a dairy farm and it defines a farmer as including a corporation which owns and operates a farm for gain. The petitioner qualifies as a farmer under the definition. The article is entitled “Gross Income of Farmers.” The first paragraph provides what shall be included in the gross income of “a farmer reporting on the basis of receipts and disbursements (in which no inventory to determine profits is used).” The second paragraph provides what shall be included in gross income “in the case of a farmer reporting on the accrual basis (in which an inventory is used to determine profits).” It might be argued that these two paragraphs were intended to be all-inclusive and to exclude the use of any other method in reporting income from a farm. But it should be noted in this connection that the petitioner did not report its income in accordance with either paragraph. It used an accrual method of accounting, but it did not compute its gross income in accordance with the second paragraph of the article, which involves the use of an opening and closing inventory. The petitioner did not use inventories in computing its gross income from the dairy business or the farm. The Commissioner made no change in the income .as reported by the petitioner and, thus, he did not make the computation in accordance with the second paragraph of this article. Perhaps the regulation does not exclude other methods of reporting farm income.

Neither in the first paragraph nor in the second paragraph of article 22 (a) (7) is there any indication that costs of production are to be subtracted from gross receipts in arriving at gross income of farmers. A similar provision has been in effect for many years for income tax purposes. The petitioner argues that the regulation has the force and effect of law. It also contends that gross income for personal holding company surtax purposes is the same as gross income for income tax purposes. Net income under section 21 for income tax purposes is the same amount regardless of whether certain costs are deducted as ordinary and necessary expenses or are subtracted from gross receipts in computing gross income. But the difference is vital for personal holding company surtax purposes.

Article 22 (a) (5), entitled “Gross Income From Business,” provides that the cost of goods sold must be subtracted from total sales in arriving at gross income from a manufacturing, merchandising, or mining business. The Commissioner contends that similar subtractions must be made here. But the petitioner replies that since article 22 (a) (5) does not include a dairy business, gross income from that business must be computed in some other way, particularly the way prescribed in the second paragraph of article 22 (a) (7).

The personal holding company surtax appeared for the first time in the Bevenue Act of 1934. Obviously, the provisions of article 22 (a) (7), which originated many years previously, were not written by anyone who had in mind the personal holding company surtax provisions or the problems which would arise under that new tax. Therefore, in arriving at the correct answer to the present controversy, the provisions of article 22 (a) (7) should not be followed blindly. It would seem just as reasonable to subtract the cost of production and the cost of goods sold in the dairy business to arrive at gross income as it would to make similar subtractions in any other business.

Products of this dairy business were sold. They consisted of milk, cream, and butter. The process was not entirely analogous to that of a manufacturing plant where raw materials are purchased and then changed by human hands or by machines into a salable finished product. The petitioner argues that its cows produced milk and cream without aid. Writers on the subject recognize that there are certain direct costs of producing milk. These include the cost of feed, the cost of labor, and various other expenses such as bedding, depreciation on buildings, equipment, and the cows themselves, bull service, and other items. See Milk Production Cost Accounts, by Carl W. Larson, Columbia University Press 1916; Calculating the Cost of Milk Production, by E. G. Misner, published at Cornell University, February 1919 as lesson 142, Farm Management Series; Accounting, Theory and Practice, by Roy B. Kester, vol. 3, ch. 7; Ranch Cost Accounting, by Clem W. Collins. Expenditures included in the cost of production of the milk certainly include the cost of feed for the cows and the wages of the men who took care of the animals and milked them. The milk then had to be separated from the cream and had to be pasteurized. The butter had to be churned. The wages of the men who put the product through these processes are properly a part of the cost of production. It is unnecessary to consider other items. The amount left after subtracting these costs from the gross receipts is less than $16,000. Therefore, more than 80 percent of the gross income of the petitioner for the year is personal holding company income as defined in section 351 (b) (1) (A).

The Commissioner did not err in taxing this petitioner as a personal holding company. No independent contention is made in regard to the penalty and in this case it follows the tax, since no return was filed.

Decision will Toe entered for the respondent.


author: Smith:

text:
    Estate of Eva Wasserman, Deceased, Nathan A. Wasserman, Executor, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 106184.
    Promulgated May 12, 1942.

      Frank J. Maguire, Esq., for the petitioner.

      Dmis Raskin, Esq., for the respondent.
   OPINION.

Smith:

The principal question for our determination in this proceeding is whether the amounts standing in the above described bank accounts which decedent established for the benefit of her husband and children are includable in the value of her gross estate for estate tax purposes. The respondent has determined that they are, on the grounds, first, that there was no completed conveyance of the accounts by the decedent during her lifetime, and that if there was they were trust conveyances made in contemplation of death, or to take effect in use and enjoyment at or after death. Respondent further contends that the trusts, if such they were, were revocable and for that reason includable in the gross estate.

On the evidence of record we find little difficulty in agreeing with the respondent that there were no completed ijiter vivos gifts by the decedent of any of the funds in the accounts in question during her lifetime. It is essential to the validity of such gifts that the donor not only have a manifest intention to make the gift but that the subject matter of the gift, or something symbolic thereof, be delivered to the donee, or some one acting for the donee, so that it is put definitely and irrevocably beyond the ownership and control of the donor.

It is clear that the decedent did not divest herself of either the ownership or control of any of the accounts. She merely deposited the funds in her own name as “trustee” for the children or her husband without releasing any of her control over them. There is no evidence of any agreement between the decedent and the banks where she made the deposits which would have authorized any one other than herself to withdraw any of the funds at any time. In Hogarth-Swann v. Steele (1936), 294 Mass. 396; 2 N. E. (2d) 446, it was said that:

It is settled in this commonwealth that the mere fact that a person puts money belonging to him in a savings bank account in his name as trustee for another does not create a valid trust. Brabrook v. Boston Five Cents Savings Bank, 104 Mass. 228, 6 Am. Rep. 222; Robertson v. Parker, 287 Mass. 361, 355, 191 N. E. 645, and cases cited. “Unless there is something more than the words that one is trustee for another, to show that a present creation of an equitable interest is intended and that the settlor has ceased to have full dominion, the nominal cestui has no rights.” Murray v. O’Hara (Mass.) 195 N. E. 909, 911. The facts in the present case do not show such an intention or relinquishment of full dominion over the deposit.

However, in Scanzo v. Morano, 284 Mass. 188; 187 N. E. 552, the court determined that where a wife deposited in a savings account the earnings of herself, her husband, and her son,' as trustee for the son, and handed the bank book to the son, who returned it to her so that she could get the interest on the account, there was a valid trust created for the son. See McCaffrey v. North Adams Savings Bank, 244 Mass. 396; 138 N. E. 393; Supple v. Norfolk Savings Bank for Seamen, 198 Mass. 393; 84 N. E. 432; Mulloy v. Charlestown Five Cents Savings Bank, 285 Mass. 101; 188 N. E. 608; Robertson v. Parker, 287 Mass. 351; 191 N. E. 645; and Buteau v. Lavalle, 284 Mass. 276; 187 N. E. 628.

A full discussion of this question is found in Eschen v. Steers (C. C. A., 8th Cir.), 10 Fed. (2d) 739, where it was held that there was no gift or trust where the intended donor wrote a letter to the bank directing the transfer of funds to another’s account.

The most recent case from the Massachusetts courts to come to our attention is Greeley v. Flynn, 310 Mass. 23; 36 N. E. (2d) 394 (Sept. 10, 1941). The facts in that case bear a close resemblance in many important respects to those in the instant case. The donor deposited funds in a savings account in her own name as “trustee” for her nephew, telling the nephew that she had given him the account and giving him possession of the account book, and from time to time, at his request, withdrawing funds from the account for him. It was held that there was no completed inter vivos gift, but that a valid trust was created for the nephew. In its opinion the court said:

In the case at bar the only findings of the master bearing on the question of delivery of the book with the intention of making a gift thereof are that in November, 1933, Miss Conway gave the book to the defendant’s mother who in turn gave it to him; that Miss Conway intended to retain control of the account and that “she alone controlled the account and she alone eou.ld make' withdrawals”; that subsequent withdrawals were made by her and the sums withdrawn given by her to the defendant; and that she intended that the account should become payable to the defendant upon her death. It seems obvious that these findings of the master would not warrant a finding by the judge that there was any delivery of the book by Miss Conway to the defendant or to anyone for him, with an intent on her part to pass title and thus transfer ownership to him.

While in the circumstances here present there may be some question as to whether the accounts which petitioner set up in the various banks were valid trusts for the benefit of the husband and children, there is little doubt that under the authoritative cases they were not completed inter vivos gifts. Greeley v. Flynn, supra. The funds so deposited were decedent’s own funds. In depositing them as “trustee” she dispossessed herself of no interest whatever in the funds. Although the bank books were left in possession of the alleged donees for a short time, these bank books themselves carried no rights of possession or enjoyment of the funds. They could be reached 'only by the decedent in person. There is no indication that the banks would have complied with the request of any of the beneficiaries for the payment to them of either the interest or principal of any of the accounts. In fact the evidence is that they would not have and that all withdrawals had to be made by the decedent in person.

Substantial withdrawals were made by the decedent from all of the accounts from time to time. While the testimony of petitioner’s witnesses was that the withdrawals, or most of them, were made with the consent of the beneficiaries themselves, their consent was not necessary. At least one withdrawal was made without the beneficiary’s consent when $4,000 was withdrawn from Jeannette’s account when she was only 11 years old and loaned or given to the decedent’s brother for use in his business. The business went into bankruptcy in the same year and the funds were lost.

But even if the accounts were validly created trusts, we think that they were transfers intended to take effect in possession and enjoyment at or after death within the meaning of section 302 (c) of the 1926 Act, as amended. This conclusion seems inescapable in view of the established facts that the decedent intended to and did retain complete and unlimited control over the funds, not just as a fiduciary but to the detriment of at least one beneficiary. The evidence shows beyond much doubt that it was not the decedent’s intention that any beneficial interest in the funds should vest irrevocably in the beneficiaries until after her death. It is significant that in the first paragraph of her will decedent bequeathed to each of the beneficiaries the balance then standing in their respective accounts. This clause was put in the will at the suggestion of decedent’s attorney. The provision would have been unnecessary, however, if the accounts had been previously conveyed to the beneficiaries either as inter vivos gifts or trusts.

We think, too, that the trusts, if such they were, were revocable trusts, as the respondent further contends. See Greeley v. Flynn, supra. The decedent had the unrestricted right to withdraw the funds and thus destroy the trusts.

There is some evidence to support the respondent’s further determination that the transfers which the decedent made to the accounts in 1936 and 1937 were made in contemplation of death, but we do not need to pass upon this question.

As to the remaining issues, the respondent concedes that petitioner is entitled to a deduction of $1,674.08 in addition to that already allowed on account of administration expenses, including the fee of the attorney representing petitioner in this proceeding.

It is alleged in the amended petition that the respondent further erred “in failing to allow credit for estate taxes due the Commonwealth of Massachusetts.” Counsel for the petitioner stated at the hearing:

* * * The estate will be liable for Massachusetts taxes which have not been paid and the Petitioner claims an allowance should be made for those, that, of course is a saving of his right to the credit.

Credit for the Massachusetts estate tax actually paid will be allowed as provided in section 813, Internal Revenue Code.

It is further alleged in the amended petition that the respondent erred in including in the gross estate the amount of $4,206.91 representing income of the estate for the period from the date of decedent’s death to the optional valuation date one year later. It is stipulated that of the amount of $4,206.91, $1,696.26 represented interest credited to the above 25 accounts after the date of decedent’s death. A portion of that amount, $451.96, had accrued on February 21, 1931, the date of decedent’s death. A further portion of the $4,206.91, '$2,530.71, represented income from real estate, stocks, bonds, and notes received between February 21, 1937, and February 21, 1938. The executor included this latter amount in the value of the gross estate in the estate tax return.

Respondent concedes in his brief that his determination of the deficiency herein with respect to “interim income” is not in accordance with Maass v. Higgins, 312 U. S. 443, or article 11 of Regulations 80 as amended by Treasury Decision 5047. Respondent further states in his brief that the stipulation of facts will provide the basis for a final adjustment of this issue under Rule 50.

Decision will Toe entered wider Rule 50.


author: Smith :

text:
    Lenore S. Robinette, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 104200.
    Promulgated May 13, 1942.

      T. Gr. Thompson, Esg., for the petitioner.

      W. W. Kerr, Esg., for the respondent.
   OPINION.

Smith :

The respondent contends that the taxpayer, Charles C. Cole, formerly Charles C. Cohn, failed to file any income tax and excess profits tax returns as a citizen of the United States in 1917 and 1918 and has determined deficiencies for those years. He proposes to assess and collect the taxes from the petitioner as transferee of a transferee of the taxpayer, who is now deceased. The petitioner’s primary contention is that Charles C. Cole filed all the returns which he was required to file and paid all taxes which he was required to pay in the years in question. Second, the petitioner argues that the returns which Cole did file started the running of the statute of limitations in his favor and that no tax liability of his may now be assessed against the petitioner. The respondent claims that the statute of limitations was tolled by the failure of Cole to file the required returns and that the jSling of returns with the Philippine Government is immaterial.

With respect to the taxable year 1918 it is clear that the respondent’s determination must be approved, upon the authority of Lawrence v. Wardell, 273 Fed. 405. The Revenue Act of 1918 imposed an income tax for the calendar year 1918 upon the income of every citizen of the United States. Section 1400 of the 1918 Act expressly repealed the Revenue Act of 1916, as amended by the Revenue Act of 1917, except with respect to any taxes which became due thereunder on or before December 31, 1917, and except with respect to the Philippine Islands. Section 1400 (b) of the 1918 Act provides in part as follows:

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

In addition to the above exception to the repeal provisions of section 1400, section 261 of the 1918 Act specifically provides in part:

That in Porto Rico and the Philippine Islands the income tax shall be levied, assessed, collected, and paid in accordance with the provisions of the Revenue Act of 1916 as amended.
*
The Porto Rican or Philippine Legislature shall have power by due enactment to amend, alter, modify, or repeal the income tax laws in force in Porto Rico or the Philippine Islands, respectively.

Thus, the 1916 Act as amended remained effective in the Philippine Islands as a local income tax law similar to the income tax law enacted by any one of the states in order to tax its citizens or residents, or those having income received from sources within the state. The only return filed by the taxpayer for the calendar year 1918 was that filed under the Revenue Act of 1916 as amended by the 1917 Act and in accordance with the provisions of section 261 of the 1918 Act. The taxpayer was required to file this return because he was a resident of the Philippine Islands. The filing of the return with, and the payment of a tax to, the Philippine Government, however, did not relieve him of his liability under the 1918 Act as a citizen of the United States to pay a tax to the United States Government. Lawrence v. Wardell, supra; Emil Peterson, 45 B. T. A. 624.

In the Lawrence case the taxpayer was a United States citizen residing in the Philippine Islands during the taxable years in question. He filed a return for the year 1918 with the Philippine Government in accordance with the provisions of the Revenue Act of 1916, as amended, and as required by section 261 of the 1918 Act, and paid the tax to that Government. This return was similar to the one filed by the taxpayer in the instant case. The court held that the payment of the tax to the Philippine Government was a payment made under a local law equivalent to the income tax law of any state and that a tax was also due to the United States Government, against which tax a credit was allowable for the amount paid in the Islands. We followed the Lcmrence case in the Peterson case, which involved precisely parallel facts. ' The taxpayer in the instant case did not file an income tax return with or pay a tax to the United States Government for the year 1918.

No return having been filed for 1918, the Commissioner would nevertheless be prohibited from attempting to assess and collect the tax if the period of limitation provided in the 1918 Act were effective here. Section 250 (d) of the 1918 Act provides that no suit or proceeding for the collection of any tax shall be begun after the expiration of five years after the date the return was due. Section 250 (d) of the Bevenue Act of 1921, however, contains the period of limitation which is applicable in the instant case. Emil Peterson, supra; Helmuth Heyl, 34 B. T. A. 223; Eli Kirk Price, Executor and Trustee, 23 B. T. A. 1192. In the Peterson case it was held that the filing of the return with the Philippine Government did not start the running of the statute of limitations on assessment and collection of the tax due to the United States Government because the limitation period provided in the 1921 Act was applicable. Section 250 (d) of the 1921 Act provides in material part as follows:

(d) The amount of income, excess-profits, or war-profits taxes due under any return made under this Act for * * * prior taxable years or under prior income, excess-profits, or war-profits tax Acts, * * * shall be determined and assessed within five years after the return was filed, * * * and no suit or proceeding for the collection of any such taxes due under this Act or under prior income, excess-profits, or war-profits tax Acts, * * * shall be begun, after the expiration of five years after the date when such return was filed, * * * That in the case of a false or fradulent return with intent to evade tax, or of a failure to file a required return, the amount of tax due may be determined, assessed, and collected, and a suit or proceeding for the collection of such amount may be begun, at any time after it becomes due * * *

The respondent’s determination with respect to the year 1918 is therefore approved.

Two deficiencies are asserted for the year 1917. One is the deficiency in excess profits tax which was imposed by Title II of the Bevenue Act of 1917. The second is the deficiency in income tax for the year 1917.

The taxpayer admittedly did not file an excess profits tax return for the year 1917. Section 250 (d) of the Bevenue Act of 1921, discussed above, also contains the period of limitation applicable to the excess profits tax of 1917 and, no such return having been filed by the taxpayer, the respondent is not barred by lapse of time from assessing and collecting such tax. The only questions to be considered are whether the taxpayer was liable for the tax and, if so, whether the amount of the tas: has been properly computed by the respondent.

Partnerships and individuals were subject to the excess profits tax upon their net incomes under section 201 of the Eevenue Act of 1917. Members of partnerships, although perhaps otherwise taxable as individuals, were not required to include in their excess profits tax net incomes their distributive shares of the partnership income. William Hamilton Lawrence, 44 B. T. A. 128; art. 41, Regulations 41. Therefore the taxpayer’s distributive share of partnership income should be excluded from his net income in computing the excess profits tax for 1917. His distributive share of the income of the partnership of Cohn & Fisher of which he was a member in 1917 was $17,322.51.

The taxpayer had income during the taxable year in addition to his partnership income, some of which was derived from his individtíal law practice after the partnership terminated in November 1917 and the balance of which consisted of dividends and interest. The respondent has properly not attempted to include the taxpayer’s income from dividends and interest in his excess profits tax net income. Such income was not derived from a trade or business and the tax does not apply to it. Income in the amount of $6,040.13 was received by the taxpayer from his individual law practice in 1917. Since the taxpayer had only a nominal amount of invested capital in this business and since he was a citizen of the United States, the excess profits tax is to be imposed in accordance with the provisions of section 209 of the 1917 Act at the rate of 8 percent of the net income in excess of $6,000, the latter amount being the exemption to which the taxpayer was entitled under that section. The petitioner’s argument that no tax is due because the act did not extend to the Philippine Islands is without merit. The taxpayer’s liability is predicated upon his United States citizenship and not upon his place of business or residence. The excess profits tax deficiency will be recomputed in accordance with the views set forth above.

The final questions are with respect to the taxpayer’s liability for income tax for the year 1917 and whether the assessment and collection of any income tax which was due for that year is now barred by the statute of limitations. The questions are apparently ones of first impression here. The respondent treats the problem as being analogous to the question of liability for taxes in the year 1918 and relies upon Lawrence v. Wardell, supra, and Emil Peterson, supra, to support his contention that the taxpayer was required to file a return with and pay a tax to the United States Government for the year 1917. Neither of those cases involved taxes of the year 1917 or any of the revenue acts effective in 1917. Whether or not the reasoning of those cases is pertinent here will depend upon the existence of a parallel between the 1917 and 1918 statutory provisions. We therefore turn to an analysis of the applicable statutes.

Title I of the Revenue Act of 1916 imposed an income tax upon the net income of every individual a citizen or resident of the United States. Both a normal tax of two percentum and an “additional tax” at graduated rates were provided. Section 8 (b) of the 1916 Act provides that each citizen of the United States having a net income of over $8,000 and having no legal residence in the United States shall make a return for each taxable year to the collector of internal revenue at Baltimore, Maryland. Section 23 of the Revenue Act of 1916 provides in part as follows:

Seo. 23. That the provisions of this title shall extend to Porto Rico and the Philippine Islands: Provided,, That the administration of the law and the collection of the taxes imposed in Porto Rico and the Philippine Islands shall be by the appropriate internal-revenue officers of those governments, and all revenues collected in Porto Rico and the Philippine Islands thereunder shall accrue intact to the general Governments thereof, respectively: * * *

Title I of the Revenue Act of 1917 provides increased rates for the normal and additional taxes set forth in the 1916 Act. The 1917 Act also provides that the taxes imposed by it shall be “computed, levied, assessed, collected and paid” upon the same basis as the taxes under the 1916 Act, except that the personal exemptions are lowered and that the minimum amount of income on which returns were required is also reduced. Section 5 of the 1917 Act provides:

Seo. 5. That the provisions of this title shall not extend to Porto Rico or the Philippine Islands, and the Porto Rican or Philippine Legislature shall have power by due enactment to amend, alter, modify, or repeal the income tax laws in force in Porto Rico or the Philippine Islands, respectively.

These statutory provisions make it clear that the income tax liability of a United States citizen residing in the Philippine Islands in 1917 was entirely unlike his liability in 1918, as explained in Lawrence v. Wardell, supra, and Emil Peterson, supra. Those cases are therefore not in point. The taxpayer in the instant case filed a return and paid a tax for the year 1917 as required by the 1916 Act. The narrow question here is: Was the taxpayer required to file a second return and pay a second tax under the provisions of the Revenue Act of 1917 ? We hold that he was not required to do so. To reach any other conclusion would be judicially to legislate an exception into the relief provision (section 5) of the 1917 Act so that that section would prohibit the application of Title I of the 1917 Act in the Philippine Islands except against United States citizens residing there.

The 1916 Act, although it generally requires citizens residing abroad to file the returns and pay the tax in Baltimore, Maryland, specifically excepts citizens residing in the Philippine Islands from that requirement. Such citizens were required to file returns and pay taxes in the Islands. Title I of the 1917 Act also imposes taxes upon citizens generally but makes no changes which are now material as to the manner of filing returns and paying the taxes, and, furthermore, specifically provides that its provisions shall not extend to the Philippines. It is perfectly plain that Congress did not intend that a person such as the taxpayer should be liable to taxation under Title I of the Revenue Act of 1917. The respondent’s determination with respect to the income tax liability for 1917 is therefore disapproved. It is not necessary for us to discuss the effect of the statute of limitations. It is pertinent, however, to call attention to section 813 (a) of the Revenue Act of 1938 which remits the delinquency penalty and all interest accrued prior to July 1, 1939, in such cases as the present.

Decision will be entered, wnder Rule 50.


author: Disney: Kern,

text:
    Marvin L. Levy and Wilhelmina F. Levy, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 102708.
    Promulgated May 13, 1942.

      Samuel Grub erg, G. P. A., for the petitioners.

      H. D. Thomas, Esq., for the respondent.
   OPINION.

Disney:

Upon the authority of Spreckels v. Helvering, 315 U. S. 626, we decide in favor of respondent on the first issue herein, involving the treatment of commissions on the sale of securities, and hold that such commissions are not deductible as business expense.

The second issue is raised by respondent’s amended answer, in which he alleges that he erred in allowing capital loss deductions aggregating $3,477.87, consisting of $2,000 deduction by the wife, who had capital losses in excess of $2,000, and a $1,477.87 deduction by the husband, whose capital losses were in that amount. Respondent now contends that only one deduction of $2,000 is permissible. The petitioners contend that if each spouse has capital losses of $2,000 or more, each should be allowed a deduction of $2,000. They do not argue for an aggregate deduction of $4,000 in the sense that a spouse with losses exceeding $2,000 should be allowed full deduction, if addition of those of the other spouse did not make an aggregate of more than $4,000. Petitioners and respondent both rely on language used by the Supreme Court in its opinions in the recent cases of Helvering v. Janney, 311 U. S. 189, and Taft v. Helvering, 311 U. S. 195.

In our opinion, those cases bear out the view of the respondent. The Jarmey case lays down the rule that in the computation of income in case of a joint return by husband and wife the expression “aggregate income”, used by the statute, Revenue Act of 1934, section 51 (b), means the aggregate net income of the two spouses, arrived at by offsetting the capital losses under section 117 (d) of each spouse against the capital gain of the other. In so holding, the Court said that the statute could not be changed by Treasury Regulations 86, article 117-5. That regulation reads:

Aut. 117-5. Application of section 117 in the case of hushanú, am.& wife. — In the application of section 117, a husband and wife, regardless of whether a joint return or separate returns are made, are considered to be separate taxpayers. Accordingly, the limitation under section 117 (d) on the allowance of losses of one spouse from sales or exchanges of capital assets is in all cases to be computed without regard to gains and losses of the other spouse upon sales or exchanges of capital assets.

Yet the petitioners’ contention herein necessarily requires adoption of the view advocated by the regulation, and refused recognition by the Court — for essentially the petitioners urge us to consider each spouse separately, without regard to the gains or losses of the other, and to allow each a deduction of $2,000 for capital loss, if in fact that much loss, above capital gains, has been suffered.

Furthermore, the Court points out that “Section 117 (d) merely limited the amount of losses which could be deducted.” The Court plainly, approved the idea expressed in a “Solicitor’s Opinion” that the return “is treated as the return of a taxable unit * * * as though the return were that of a single individual.” Petitioners’ desire is directly to the contrary — they wish, with reference to capital losses, to treat the return as that of two individuals. If we treat the return, as commanded by the Supreme Court, as that of a “taxable unit” and as if filed by a “single individual” obviously the limitation of $2,000 above capital gains, upon capital losses, can be applied only once— to the aggregate net capital loss ascertained. In the Taft case a limit was set upon deduction of charitable donations, analogous to the limit which section 117 (d) sets upon capital losses. The Court held that “The principle of a joint return permitted aggregation of income and deductions and thus overrode the limitations incident to separate returns.” [Italics supplied.] The opinion commented upon Eegulations 62, article 401, which provides that “in a single joint return, the tax is computed on the aggregate income and all deductions and credits to which either is entitled shall be taken from such aggregate income.” That article is particularly relied upon by the petitioners here. The Court pointed out that “The argument stresses the words ‘to which either is entitled’ ” (as do the petitioners herein), called it “an inadmissible construction of the statute”, and refused to apply it as against the view that the joint return was that of a taxable unit and treated as that of a single individual.

The reason for filing a joint return is to amalgamate the items of income, losses, etc., of the two spouses, so that there may be offsets unavailable in individual returns. Thus it appears that there are no longer two individuals, with their own rights to deductions, but an impersonalized return of items of income, losses, deductions, etc., which, though originating in the affairs of two people, are no longer so viewed, because all are merged and integrated into a whole. By exercising the option to obtain the benefit of such merger, the spouses are seen logically to lose their identity, and the right to claim individual deductions, which have become those of the integrated returner of income. It would be peculiar illogic to permit the “joint” return to give the benefit of offset of gains and losses not available to the individual by merging all items, including capital gains and losses of the spouses, yet to say that in one very particular respect, the limitation on capital losses, there is no such merger, and that the identity of the taxpayer is preserved, so that each can individually take a deduction of $2,000 capital losses. More accurate consideration- indicates that capital losses and gains, like all other items returned, are by virtue of such return no longer those of either party, but of one entity, the returner of income, that all items are, as indicated in the Janney case, added together, or put into hotchpotch, and that the aggregate result, and not the result in the case of each individual, is the subject of tax computation. It follows that if capital losses add up to more than capital gains plus $2,000, there can be, under section 117 (d), no allowance above that limit. The limitation, like the offsetting of gains and losses, is not separate, but a part of the method of computation of the income under the integrated return. That there is such impersonality is well indicated by the fact that the resultant tax is less than that of both individuals considered separately — such result being the practical reason for filing a joint return.

In George W. Schoenhut, 45 B. T. A. 812, we construed the Janney case to require us to follow our prior view in Frida Heilman Cole, Executrix, 29 B. T. A. 602, that in case of a joint return there is joint and several liability and not “according to the net income attributable to each.” Recently in Halbert P. Gillette, 46 B. T. A. 573, we followed the Schoenhut case. Moore v. United States, 37 Fed. Supp. 136, by the Court of Claims, held that a spouse was liable for the full amount of tax shown upon a joint return. The “taxable unit” theory was followed. Frank B. Gummey, 26 B. T. A. 894, we do not consider to be to the contrary, for there the question was merely whether where within thirty days after sale of stock by a spouse the other spouse purchased substantially identical stock the two transactions comprised a purchase and sale by the same taxpayer within the language of section 118, Kevenue Act of 1928. We had already in William M. Fleitmann, Jr., et ad., Executors, 22 B. T. A. 1291, allowed as a deduction a loss sustained by a husband in a transaction with his wife, and, following the theory of that case, we held that for purposes of section 118 the two transactions were between different taxpayers. It does not follow that the separate identity remains in filing a return as a “taxable unit” under the Taft and Jarmey cases. The respondent erred in allowing the deduction of more than $2,000 capital losses above capital gains.

Reviewed by the Board.

Decision will be entered wnder Rule 50.

Kern,

dissenting: I dissent from the conclusion reached by the majority.

Section 23 (e) of the Revenue Act of 1934 provides:

In computing net income there shall be allowed as deductions:
*******
(e) Losses by Individuals. — In the case of an individual, losses sustained during the taxable year * * *
****.***
(2) if incurred in any transaction entered into for profit * * *.

Section 117 (a) provides that “in the case of a taxpayer, other than a corporation” only certain percentages of capital losses “shall be taken into account in computing net income”, and section 117 (d) provides that “Losses from the sales or exchanges of capital assets shall be allowed only to the extent of $2,000 plus the gains from such sales or exchanges.”

Section 51 (a) provides that “every individual having a net income for the taxable year of $2,500 or over, if married and living with husband or wife” shall make a return stating the items of gross income “and the deductions and credits allowed under this title”; while section 51 (b) provides that if a husband and wife have a certain “aggregate net income” or a certain “aggregate gross income” “ (1) each shall make such a return, or (2) the income of each shall be included in a single joint return, in which case the tax shall he computed on the aggregate income.” [Italics supplied.]

Section 801 (a) (1) provides that “the term ‘person’ means an individual, a trust or estate, a partnership, or a corporation”, while 801 (a) (14) provides “The term ‘taxpayer’ means any person subject to a tax imposed by this Act.”

Section 51 (b) of the Revenue Act of 1938, which was held in Moore v. United States, 37 Fed. Supp. 136, to clarify the similar provision in the 1934 Act, provides that the liability with respect to the tax of husband and wife filing a joint return is joint and several.

Working from these statutory provisions in a consideration of the problem presented by this proceeding, I would reach the following conclusions:

(1) The husband and wife filing a joint return are persons who are jointly and severally subject to a tax, and therefore, each is a taxpayer within the meaning of the act.

(2) This tax is to be computed on the aggregate net income shown on the joint return, which will be considered for tax purposes as the joint and several income of the two spouses.

(3) The aggregate net income of husband and wife is to be computed by adding together the separate items of gross income of each, then adding together the separate items of deductions to which each is entitled and subtracting the aggregate of such deductions from the aggregate of such gross income.

(4) Each spouse is entitled to loss deductions pursuant to section 23 te).

(5) The limitation of section 117 (d) applies to the loss deductions of each spouse, since each is a taxpayer within the definition of the statute even though one with a joint and several tax liability calculated upon joint as well as several income.

(6) In return for the advantages to be gained by filing a joint return, e. g., the deduction by one spouse of capital losses from the joint aggregate income even though such income was made up solely by the income of the other spouse, the disadvantages resulting are the computations of taxes and surtaxes upon the aggregate net income, and the joint and several liability upon each spouse for the payment of such tax, and not the elimination of any deduction to which either might be otherwise entitled.

However, the majority opinion, reasoning from certain language used by the Supreme Court in the cases of Helvering v. Janney, 311 U. S. 189, and Taft v. Helvering, 311 U. S. 195, has reached the conclusion that where husband and wife file a joint return a union results even more complete than the union created by the marriage ceremony in that “there are no longer two individuals, with their own rights to deductions, but an impersonalized return of income. losses, deductions, etc., which, though originating in the affairs of two people, are no longer so viewed, because all are merged and integrated into a whole”, and that capital losses “are by virtue of such return no longer those of either party, but of one entity, the returner of income * * *” and thus are limited by section 117 (d) to $2,000 plus capital gains.

I can find no justification in the statute for this view and nothing in the Janney case or Taft case which compels this conclusion.

While both of those cases had to do with tax problems arising from the use by husband and wife of a joint return authorized by section 51 (b) of the Revenue Act of 1936, they did not have to do with the particular tax problem here involved, which, as we have already indicated, is whether a husband and a wife, who have each suffered capital losses and who file a joint return, are each permitted to take a capital loss deduction as limited by section 117 (d), (limited to $2,000 for each), or are permitted to take one deduction limited to $2,000 for both.

In Helvering v. Janney, supra, the decision of the Supreme Court gave effect to a deduction of the husband on account of capital losses by offsetting it against capital gains of the wife. In that case the husband had no capital gains and if each of the spouses had filed a separate return the husband would have been entitled to a loss deduction of only $2,000 and the wife to none.

Article 51 (1), Regulations 94, provides in part:

If the income of each [spouse] is included in a single joint return, the tax is computed on the aggregate income and all deductions and credits to which either is entitled shall he taken from such aggregate income. [Emphasis supplied.]

The Supreme Court, in Helvering v. Janney, supra, quoted a similar regulation (Regulations 62, article 401). Later, in its opinion, it said:

The Revenue Act of 1934 continued the prior statutory provisions as to joint returns of husband and wife, and Section 117 (d) of that Act, as to capital losses, did not purport to alter the rule as to the right of the spouses to deductions in their joint return. Section 117 (d) merely limited the amount of losses which could be deducted * * *. [Italics supplied.]

It will be noted that the Court uses the words “spouses” and “deductions” in the plural.

In Taft v. Helvering, supra, the taxpayers, who, as husband and wife, had filed a joint return, took deductions of their combined charitable contributions. Respondent ruled that the deductions of each spouse properly allowable therefor were limited to 15 percent of his or her income. The Court held that the percentage should be calculated on the aggregate income shown by the joint return. The Court said, inter alia, “The principle of a joint return permitted aggregation of income and deductions and thus overrode the limitations incident to separate returns.” The “aggregation * * * of deductions” referred to by the Court does not mean the elimination of any deduction.

In the Janney case the Court held that in cases where joint returns were filed effect should be given to the right to deductions of each spouse even where it was necessary to refer to the aggregate income subject to tax in order to find a type of income from which the deduction could be taken. In the Taft case it was held that both spouses, in the case of a joint return, were entitled to “combined deductions” on account of charitable contributions which each had made, but that reference should be made to the aggregate income in determining the percentage limiting such “combined deductions.” The rule to be taken from a careful reading of these cases is that, in ascertaining the aggregate income subject to tax reported by a joint return, the proper deductions of each spouse may be combined and taken from their combined gross income, but that in order to give effect to such deductions, as in Janney's case, or to calculate the amount of the deductions in terms of percentage of income, as in Taft's case, reference is to be made to the aggregate income shown in the joint return.

       SEC. 51. INDIVIDUAL RETURNS.
      *******
      (b) Husband and Wipe. — If a husband and wife living together have an aggregate net income for the taxable year of $2,500 or over, or an aggregate gross income for such year of $5,000 or over—
      (1) Each shall make such a return, or
      (2) The income of each shall be included in a single Joint return, in which ease the tax shall be computed on the aggregate income.