author: Mellott :

text:
      Julian Larcombe Schley, Mrs. Denise Vary Schley, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 99404.
    Promulgated July 31, 1940.

      J. Nelson Anderson, Esq., for the petitioners.

      Chester A. Gwinn, Esq., for the respondent.
   OPINION.

Mellott :

The Commissioner determined a deficiency in the income tax of petitioners for the calendar year 1936 in the amount of $781.50. All of the facts have been stipulated.

The petitioners are husband and wife, at present residing in Washington, D. C. They filed a joint return of income for the year 1936 with the collector of internal revenue for the district of Maryland and paid the tax shown to be due. They also filed Form 1040E, “Schedule for Citizen Entitled to Benefits of Section 251,” copy of which is attached to the stipulation.

Petitioner Julian Larcombe Schley for more than thirty-five years has been a commissioned officer of the United States Army and is now a Major General. By order of the War Department he was stationed in the Panama Canal Zone (Governor of the Panama Canal) for a period of more than three years prior to August 28, 1936. He was detached from duty in the Panama Canal Zone by order effective August 27, 1936, and was stationed in the United States, where he remained during the balance of the calendar year 1936.

Petitioners, being of the opinion that they were required to report as gross income for 1936 “only gross income from sources within the United States” because of the provisions of section 251 (a) of the Revenue Act of 1936, did not include therein $8,124, said amount being the income “from sources within a possession of the United States”, realized by them between January 1 and August 27,1936'.

For the calendar years 1934 and 1935, petitioners’ gross income from all sources was $9,190.93 and $12,707.21, respectively, of which $9,159.18 and $9,840.19, respectively, wras from sources within the Panama Canal Zone. From January 1 to and including August 27, 1936, petitioners’ gross income from all sources, exclusive of capital gains or losses, was $8,439.32, of which $7,392.15 was from sources within the Panama Canal Zone. For that period, petitioners realized a capital net loss of $1,068.94, of which $315.32 was recognizable loss. During the period from August 28 to December 31, 1936, inclusive, petitioners’ gross income, exclusive of capital gains or losses, was $2,591.19. For that period, petitioners had capital net gains of $10,876.72, of which $8,691.42 was taxable.

Respondent concedes that the term “possession of the United States” as used in section 251 (a), supra, includes the Panama Canal Zone; that General Schley’s salary, which was received as compensation paid by the United States to a commissioned officer for services rendered within a possession of the United States, represents income derived from the active conduct of a trade or business within a possession of the United States; and that petitioners have met the requirements of subsection (3) of section 251 (a). The sole question for determination therefore is whether or not petitioners have met the requirements of subsection (1) of section 251 (a), supra, the parties agreeing that both subsection (1) and subsection (3) must be met. John W. Hauserman, 23 B. T. A. 378; affd., 63 Fed. (2d) 124; certiorari denied, 289 U. S. 729.

Petitioners compute their net income for 1936 thus:

Period from Aug. 26, 1936, to Dee. 31, 1936, incl.:
Dross Income_ $2, 591.19
Taxable Capital Net Gains_ 8,691.42
$11,282.61

The $8,124 excluded by them under section 251 (a), supra, is the difference between the gross income derived from all sources during the period January 1 to August 27,1936 ($8,439.32), and the recognizable capital loss ($315.32) realized during that period. They apply subsection (1) of the statute as follows:

$26,391.52 being more than 80 percent of $30,022.14, they contend that the $8,124 was properly excluded.

The Commissioner applies subsection (1) as follows:

11,030.51
Taxable net gains, 8/28/36 to 12/31/36---....$8,691.42
Less recognizable losses 1/1/36 to 8/27/36... 315.32
- 8,376.10
19,406.61

$26,391.52 being less than 80 percent of $41,304.75, he contends that subsection (1) of section 251 (a) has not been met.

It is obvious that the issue may be resolved by correctly interpreting section 251 (a) (1), supra, and especially the parenthetical clause thereof reading “or for such part of such period immediately preceding the close of such taxable year as may be applicable.” This clause has formed a part of the section ever since it first appeared as section 262 of the Revenue Act of 1921. In 1924 the Commissioner published the following ruling- (I. T. 1973, III-l, C. B. 376):

If a taxpayer Ras been conducting a trade or business in a possession of tbe United States for a number of years preceding the close of his taxable year December 31, 1923, the three-year period applicable to his case is the period January 1, 1921, to December 31, 1923. If his income derived from! sources in the possession during that period satisfies the 80 per cent and the SO per cent conditions of section 262 he is entitled to the benefits of that section. If, however, the taxpayer has been conducting a business in this possession for less than three years, the period that is applicable to his case is the period preceding the close of his taxable year that he was engaged in conducting a business there. In such case the 80 per cent condition and the 50 per cent condition must be satisfied with respect to his income during this period.

Respondent contends that the ruling- is reasonable, is consistent with the statute, and should be followed in the instant proceeding. He argues that a three-year period beginning January 1, 1934, and ending December 31, 1936, must be taken into consideration notwithstanding the fact that petitioners returned to the United States four months earlier. Petitioners contend that such construction of the statute is clearly erroneous; that it in effect ignores some of the words deliberately used in the parenthetical clause, especially “such fart of such period as may be affliedble”; and that it is just as unreasonable to construe the section as requiring that the period terminate at the end of the taxable year as it would be to construe it as requiring that the period begin on the first of January. In connection with the last contention they call attention to the fact that the Commissioner’s regulations recognize that the affliedble feriod does not begin until the taxpayer begins “the active conduct of a trade or business within a possession of the United States.” (See example, art. 251-1, Regulations 94.)

The ruling relied upon by the respondent is somewhat ambiguous, being susceptible not only to the construction urged by him, but also to the interpretation placed upon it by petitioners. We are of the opinion that the construction urged by the petitioners is the more reasonable. We are also of the opinion that if the ruling was intended to be as now interpreted by the respondent, it is not a proper interpretation of the statute. In our opinion section 251 (a) was intended to apply to two classes of taxpayers, viz., (1) taxpayers who had derived income from a trade or business conducted within a possession of the United States for three years immediately preceding the close of the taxable year; and (2) taxpayers who had conducted a trade or business within a possession of the United States for only a fart of the three-year period immediately preceding the close of the taxable year. The parenthetical clause was intended to cover the second class of taxpayers. As we interpret it,-the words “for such fart of such period” refer to such part of “the three-year period” previously mentioned in section 251 (a) and the phrase “as may be applicable” refers to the portion of the “three-year period” preceding the close of the taxable year during- which income was derived from sources within a possession of the United States. It follows that any period immediately preceding the close of the taxable year during which no income was derived from sources within a possession of the United States is not a part of the applicable period and income received during such a period should not be included in determining whether or not the 80 percent requirement has been met. Cf. Arnold Bruckner, 42 B. T. A. 3.

Applying this interpretation of the statute to the facts before' us, we find that petitioners did not derive income from a source within a possession of the United States during the entire three-year period immediately preceding the close of the taxable year, December 31, 1936. It follows, therefore, that if they are entitled to any exclusion from gross income, it must be because of the provisions of the parenthetical clause. Inasmuch as it appears that for a part of the three-year period immediately preceding the close of the taxable year, viz., January 1, 1934, to August 27, 1936, inclusive, they did derive income from sources within a possession of the United States, which was more than 80 percent of their gross income from all sources for such part of the three-year period, they are entitled to exclude such part of this income as was received during the year 1936 in computing their taxable net income for that year.

Judgment will be entered for the petitioners.

       SEC. 253. INCOME FROM SOURCES WITHIN POSSESSIONS OP UNITED STATES.
      (a) General Edm. — In the case of citizens of the united States or domestic corporations, satisfying the following conditions, gross income means only gross income from sources within the United States—
      (1) If SO per centum or more of the gross income of such citizen or domestic corporation (computed without the benefit of this section), for the throe-year period immediately preceding the close of the taxable year (or for such part of such period immediately preceding the close of such taxable year as may be applicable) was derived from sources within a possession of the united States ; and
      (2) If, in the case of such corporation, 50 per centum or more of its gross income (computed without the benefit of this section) for such period or such part thereof was derived from the active conduct of a trade or business within a possession of the United States; or
      (3) If, in case of such citizen, 50 per centum or more of his gross income (computed without the benefit of this section) for such period or such part thereof was derived from the active conduct of a trade or business within a possession of the united States either on his own account or as an employee or agent of another.


source: Caselaw Access Project

author: Keen :

license: Public Domain

text:
    Allen H. Lamberth, Petitioner, v. Commissioner of Internal Revenue, Respondent. Suda J. Lamberth, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 95305, 95306.
    Promulgated July 31, 1940.

      Joseph D. Brady, Esq., an,d Ray J. Ooleman, Esq., for the petitioners.

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

Keen :

The basic question to be decided by us in these proceedings is whether the dividend declared by Interstate Cotton Industries, Inc., by the resolution of its board of directors of July 19, 1930, and paid pursuant thereto by the distribution to petitioners of the company’s preferred stock, is to be considered by us as a stock dividend or as a cash dividend.

If it was a stock dividend, then the basis for determining gain or loss would be zero and all of the proceeds derived by petitioners from their disposition of the stock in the taxable year would be taxable to them under the rule of Helvering v. Gowran, 302 U. S. 238. Pursuant to respondent’s later determination, set out in his amended answer, the proceeds would be taxable as a capital gain.

If, as petitioners contend, the transaction should be considered as a constructive receipt by them of cash as a dividend and then a reinvestment of such cash in the stock acquired, then it must be treated as a cash dividend, taxable in the year in which received, and the basis of the stock for determining gain or loss would be the amount of cash constructively received and reinvested in the stock. In support of this contention, petitioners cite L. Elmer Wood et al., Administrators, 29 B. T. A. 735; Joseph Paper, 29 B. T. A. 523; J. E. Brading, 17 B. T. A. 436; Commissioners of Inland Revenue v. Coke, 2 K. B. 246; 11 Tax Cases, 181; Harry Makransky, 35 B. T. A. 395; W. J. Hunt, 5 B. T. A. 356; Eugene E. Paul, 2 B. T. A. 150; Luthe Hardware Co., 6 B. T. A. 53; and Vogt Machine Co. v. United States, 39 Fed. (2d) 986.

We do not consider any of the cases cited by petitioners to be applicable to the facts present in the instant proceedings. In most of them there was the declaration of a cash dividend with an unlimited option to the stockholders to take either cash or stock. In some there was an actual credit entered in the books of the corporation to the accounts of stockholders in amounts later used for the purchase of stock. It is unnecessary to set out the facts involved in each of these cases; it is sufficient to say that in none of them was there a declaration of a stock dividend with a proviso that if a stockholder gave appropriate notice some days prior to the date set for the distribution of the dividend he might then and on condition of making such election be entitled to cash in lieu of stock, as was, in effect, provided by the resolution of the board of directors of the corporation in the instant proceedings dated July 19, 1930, which is set out in full in our findings. Petitioners did not give notice pursuant to paragraph three of the resolution by July 21 that they elected to receive dividends in cash. After that date they were, therefore, entitled only to a stock dividend, and on July 31 stock was distributed to them pursuant to the second paragraph of the resolution, which provided for a stock dividend.

Until and unless petitioners made an election on or before July 21 to receive cash, they were only entitled by the terms of the resolution of July 19 to receive a stock dividend on July 31. They made no such election. Therefore, on July 31, when the dividend was to be distributed, they could receive only a stock dividend and this they did receive.

Therefore, we conclude that the dividend was not taxable to petitioners in 1930, Koshland v. Helvering, 298 U. S. 441; and, further, that the proceeds from the disposition in 1933 of the stock received by them as dividends in 1930 were taxable to petitioners under the authority of Helvering v. Gowran, supra.

We also conclude under the authority of the latter case that the basis of the stock in the hands of petitioners for determining gain or loss upon its disposition was zero. It follows that all of the proceeds derive,d by petitioners from its disposition are taxable as capital gain.

Petitioners urge that if we hold, as we have held, on this basic issue, then we must necessarily question the constitutionality of section 115 (f) (2) of the Revenue Act of 1936. With this contention we do not agree. However, the question of the constitutionality of that section is not before us in these proceedings.

It is not necessary for us to consider the issue of estoppel raised by respondent.

Decision will be entered under Bule SO,


author: Him, :

text:
    Joseph H. McNabb, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 94310.
    Promulgated July 31, 1940.

      David. W. Kahane, Esq., and Fred S. Johnson, <7. P. A.., for the petitioner.

      F. B. Shearer, Esq., and E. G. Sievers, Esq., for the respondent.
   OPINION.

Him, :

The issue presents a question of fact as to whether the bank stocks actually became worthless in the taxable year 1936, which presupposes that they had value during the years 1933-1936, or, whether such stock became worthless in a taxable year prior to 1936.

A loss by reason of the worthlessness of stock must be deducted in the year in which the stock becomes worthless and the loss is thereby actually sustained. In Sterling Morton, 38 B. T. A. 1270, 1279, 1280, cited in James A. Connelly, 42 B. T. A. 237, the Board reviewed many types of “identifiable events” which have in the past been considered as establishing the worthlessness of stock. Applying the principles of these two cases to the facts in the instant case, it is the Board’s conclusion that the petitioner’s bank stocks actually became worthless during 1933 and thus prior to the taxable year here involved.

Here it is shown that the two banks were in an admittedly precarious position prior to the national bank holiday in March 1933. As was the condition in many other sections of the country, depositors were hastening to withdraw their accounts. The two banks had borrowed cash from the First National Bank in a sizable amount and in addition had converted a portion of their more easily liquidated assets. The directors, in view of this situation, called a special meeting and decided not to reopen, but to endeavor to pay off all the depositors if possible. The resolution adopted at that meeting showed only too clearly that they believed the banks could not reopen. The subsequent pledge of all the banks’ assets to the First National Bank in exchange for the further loan did not change the financial position of the banks, so far as the stockholders were concerned. The depositors were the only beneficiaries of this liquidation. It was only in view of the outside possibility of there being a surplus of collateral after the eventual pay-off of the creditors that the directors made a condition to the loan agreement that the First National would return to them all amounts received from liquidation more than sufficient to repay the loan. To avoid a determination that the. stock became worthless at that time, there must be a showing that, despite the loss of any surplus liquidating value, there still remained a real potential value until the year 1936 through the continued existence of a reasonable expectation that the stock would become valuable.

The banks did not continue to do any business after the bank holiday. Complete control of all their erstwhile assets was in the hands of the First National Bank, which assumed none of the liabilities of the banks. Further, all costs of liquidation were to be borne by the banks. The assets consisted of realty in and around Chicago; and it was common knowledge that values in realty had hit a new low at this time. The values of these assets as recorded on the books of the banks did not clearly and can not ever be said to reflect actual value. Cf. Smith v. United States (1936), 16 Fed. Supp. 393. As was later shown, by circular letter in 1936, the values per the books were grossly inflated. There was no basis for a reasonable expectation that the book values would ever clearly reflect the possible liquidating value of the assets. Hence, there was no reasonable expectation that the stockholders would ever realize anything on their shares, inasmuch as the depositors themselves would require all the cash on hand at the banks after the final loan from the First National.

Petitioner contends that a slow process of liquidation by the First National could be expected to realize a better price than an immediate liquidation in 1933 and that it therefore was not unreasonable to assume that a figure more nearly allied to that shown on the books of the banks might be realized.

“It is just conceivable that cases might arise in which some realization could be had by the stockholders in the long future. As a practical matter, however, the business world never remotely considers that contingency. * * *” In re Hoffman (1936), 16 Fed. Supp. 391; affirmed per curiam, 87 Fed. (2d) 200. Furthermore, the primary assumption of petitioner’s statement must be that the book figures reasonably reflected actual value; which assumption can not fairly be made.

Thus, from the time efforts to liquidate the assets commenced and up to and including the year 1936, the lack of any reasonable prospect of the petitioner ever recovering anything on his stock remained the same.

The element of notice, on which petitioner appears to rely, is of no materiality. Regardless of when the stockholders learn of the value of their stock, it is the date of worthlessness that is material. Admittedly, the rule is a harsh one. A fraudulently operated corporation might succeed in keeping the information from reasonably diligent shareholders for years, but this would not entitle them to a deduction in the year they discovered the fraud. The standard for judging worth under section 23 (e) of the Revenue Act of 1936 has been interpreted to be an objective one; not subjective. Hence, regardless of petitioner’s opinion as to tbe reasonable possibilities in 1933, the facts of the matter disallow the conclusion reached by him at that time. William E. Steinback, 30 B. T. A. 1252.

The Commissioner determined that worthlessness occurred in 1933. Not only has that determination not been refuted by the petitioner, but the evidence very strongly supports it. That determination and the evidence in the case entirely overcome any presumption of continuing worth of the stock through and after 1933. The disallowance of the claimed loss deduction is, therefore, sustained.

Decision will be entered for respondent.


author: Black :

text:
    Estate of Grace Adams Howard, Deceased, George Adams Howard and Samuel H. Kauffmann, Executors, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 99851.
    Promulgated July 31, 1940.

      H. Oeeil Kilpatrick, Esq., and Frederick M. Bradley, Esq., for the petitioners.

      E. L. Corbin, Esq., for the respondent.
   OPINION.

Black :

In his determination of the deficiency, respondent, in disallowing petitioners’ decedent a credit of $2,500 personal exemption as a head of a family, did not do so upon the ground that Kathryn Gwynn was not during the year dependent for support upon her aunt, Grace Adams Howard, petitioners’ decedent. The ground stated by respondent for disallowing the $2,500 personal exemption credit claimed was that since decedent did not maintain a common home for herself, and her dependent niece, the exemption claimed as head of a family was not allowable under the provisions of article 25-4 of Regulations 94, printed in the margin.

Petitioners, in support of their contention that decedent was entitled to $2,500 personal exemption as head of a family, rely upon the following points:

1. The decedent was supporting and maintaining and exercising family control over a dependent, which control was based on a moral obligation to support the dependent.
2. The circumstances in decedent’s home, coupled with the dependent’s infirmity, rendered it necessary that the dependent be maintained in a separate establishment.
3. The dependent was closely connected with the taxpayer by relationship by marriage.
4. The decedent was the “head of a family” within the meaning of section 25 (b) of the Revenue Act of 1936.

We think the facts in the record support petitioners on all four points.

1. It is clear that the decedent actually supported her niece and that this niece was wholly dependent on her aunt for support. While there may have been no legal obligation on the part of decedent to support her niece, the facts show that there was a moral obligation on her part to do so. Prior to the death of her husband’s sister, decedent promised the sister to take her child into her home and treat her as one of her children. The keeping of this promise throughout her life, even to the point of making in her will the welfare of her niece the first charge against the residue of her estate, shows the strength of the decedent’s moral obligation to support the niece.

The facts in the instant case make it distinguishable from Charlotte Hoskins, 42 B. T. A. 117. In the Hoskins case we held that there was neither legal nor moral obligation on the part of the aunt to support the niece, who was an adult about thirty years of age, in good health, and employed for a part of the time as a stenographer in each of the taxable years. In that case, in ruling that the niece was not dependent for support upon her aunt, within the meaning of the applicable regulations, we said:

* * ⅜ Dependency under the definition goes further than economic convenience; it speaks in terms of people incapable of supporting themselves because of infancy, senility, mental incompetence, physical incompetence, and like or similar circumstances. Cf. Augustus S. Loyless, 40 B. T. A. 600. * * *

In the instant case it is clear that Kathryn was wholly dependent upon decedent for support throughout the taxable year, within the meaning of the Commissioner’s regulations, for she was totally blind, had no trade or occupation, and no income from any source except what her aunt gave her.

2. The circumstances in decedent’s home, coupled with the dependent’s infirmity, rendered it. necessary and advisable that thei niece be maintained in a separate establishment, the decedent being financially able to defray the expenses thereof.

Both the Board and the courts have recognized situations of such a character as to render it necessary for persons to maintain relatives elsewhere than in a common home. In Olive Ross, 37 B. T. A. 928, the Board said, of a situation in which a daughter supported an insane mother in a state institution:

The regulations recognize that there need not be continuous, actual residence together if circumstances justify the separation and there is a necessity for continuously maintaining the dependent elsewhere. The record here fully establishes the necessity for the mother’s absence from her daughter’s home. ⅜ ⅜ *

See also William Lee Tracy, 39 B. T. A. 578; Mackechney v. United States (U. S. Dist. Ct., N. Dist. Tex., April 5, 1926); Hassard Short, 39 B. T. A. 567.

3. The dependent in this case, Kathryn Gwynn, was the only surviving niece of the decedent’s husband, and was therefore a niece by marriage to decedent. The Board! has recognized that a dependent niece is closely connected with taxpayer by blood.

In William Lee Tracy, supra, the Board said:

This petitioner actually supported and maintained in one household two individuals who were closely connected with him, his mother and niece, and exercised a certain amount of family control over them. * * *

There is no question but that a niece is closely connected by blood relationship to her aunt or uncle. It follows then that a niece by marriage is just as closely connected by marriage as a niece by blood would be connected by blood. '■ For reasons already stated, there was such relationship by marriage between Kathryn Gwynn and petitioners’ decedent as to bring the case within the Commissioner’s applicable regulation.

4. From what we have said above, it seems clear that petitioners’ decedent was during the taxable year the head of a family within the meaning of section 25 (b) of the Revenue Act of 1936 and the Commissioner’s regulation promulgated thereunder. Therefore we reverse the action of the Commissioner in disallowing the personal exemption credit of $2,500.

Decision will be entered for the petitioners.

       All. 25-4. Personal exemption of head of family. — A head of a family is an individual who actually supports and maintains in one household one or more individuals who are closely connected with him by blood relationship, relationship by marriage, or by adoption, and whose right to exercise family control and provide for these dependent individuals is based upon some moral or legal obligation. In the absence of continuous actual residence together, whether or not a person with dependent relatives is a head of a family within the meaning of the Act must depend on the character of the separation. If a father is absent on business, or a child or other dependent is away at school or on a visit, the common home being still maintained, the additional exemption applies. If, moreover, through force of circumstances a parent is obliged to maintain his dependent children with relatives or in a boarding house while he lives elsewhere, the additional exemption may still apply. If, however, without necessity the dependent continuously makes his home elsewhere, his benefactor is not the head of a family, irrespective of the question of support. * * *


author: Murdock:

text:
    John D. Archbold, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97142.
    Promulgated July 31, 1940.

      Jesse B. Fiiknan, Esq., for the petitioner.

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

Murdock:

The Commissioner determined a deficiency of $10,382.38 in gift tax for the calendar year 1936. The parties have filed a stipulation of the facts which the Board hereby adopts as its findings of fact.

The petitioner and Elizabeth Brown were married on January 1, 1937. They and their attorneys had several conferences prior to that date in regard to two trusts which the petitioner was creating for Elizabeth. The petitioner created one trust on December 31, 1936, for the benefit of Elizabeth and transferred to it securities having a value of about $200,000. The tax on that transfer has been paid and is not in controversy. Later in the day on December 31, 1936, the petitioner created a second trust for the benefit of Elizabeth. That second trust, described as “Marriage Settlement Agreement”, is the one giving rise to the issues in this proceeding and is the one referred to hereinafter.

The second trust contained the following recital:

Whereas, the party of the first part [petitioner] and the party of the second part [Elizabeth Brown] contemplate entering into the marriage relation with each other and the party of the second part is already possessed of substantial properties in her own right and the party of the first part desires to waive and relinquish all interest in such property which may lawfully be waived and, in addition, to make definite provision for the party of the second part in lieu of her dower right or other rights or interest which she might otherwise have in his property or estate and which may lawfully be waived or in any common or community property which may be acquired during their marriage which may lawfully be waived,
Now, Therefore, in consideration of the mutual promises hereinafter set forth and of the marriage of the parties of the first and second parts, it is hereby covenanted and agreed as follows: ⅜ * *

The petitioner transferred securities having a value of $10,205.62 to that trust on December 31,1936. He also agreed in the deed of trust:

⅜ * * to assign and transfer to the said Trustees on the 31st day of December in each of the next nine consecutive years the sum of $10,000 or securities having a market value as of the date of transfer of $10,000 to be added to the said trust estate and administered as part of it pursuant to the provisions of this Indenture, provided, however, that if the mother of the said John D. Archbold or the said John D. Archbold should die prior to the expiration of nine years from the date of this agreement, the said John D. Archbold or his executor or administrator, as the case may be, shall assign and transfer to the Trustees within six months after the death of the said John D. Archbold or of his mother, as the case may be, cash or securities sufficient to bring the total of all cash or securities assigned or transferred to the said Trustees by the said John D. Archbold up to the sum of $100,000.

The deed provided that the petitioner waived all rights in the estate of Elizabeth and she agreed to waive all dower and other rights which she might otherwise have in his estate, in consideration of his transfers and waivers.

The petitioner paid $10,000 in cash to the trustees on December 31, 1937, and again on December 31,1938. The petitioner and the trustees considered the trust agreement terminated by the death of Elizabeth on June 23,1939. The trustees returned the corpus of the trust to the petitioner.

The petitioner filed a gift tax return for 1936 reporting the amounts actually transferred to the trusts on December 31,1936. The Commissioner, in determining the deficiency, held that the petitioner made an additional gift in 1936 of $74,353.30 representing the present value on December 31,1936, of an annuity of $10,000 per annum for nine years.

The petitioner filed gift tax returns for 1937 and 1938, reporting the transfers of $10,000, and paid the tax due thereon.

The petitioner contends that the agreement to add $10,000 to the trust annually for nine years was not a gift taxable in 1936 and, in any event, that promise had no ascertainable fair market value in 1936. He also contends that the entire trust was created by him for a full and adequate consideration and, consequently, was not a gift. He claims a refund of the tax paid on the $10,205.62.

The first argument of the petitioner is that a promise to make a gift in the future is not a present gift, even though the promise may be an enforceable one, citing G. C. M. 16460, XV-1 C. B. 369, and cases cited therein; Estate of John F. Dodge, 13 B. T. A. 201; Guaranty Trust Co. v. Commissioner, 98 Fed. (2d) 62; Snavely v. Henderson, 204 Fed. 978; Gannon v. McGuire, 160 N. Y. 476; 55 N. E. 7; City Bank Farmers Trust Co. v. Hoey, 101 Fed. (2d) 9; Lunsford Richardson, 39 B. T. A. 927; Estate of Charles Jefferson Miller, 40 B. T. A. 138; and particularly Johnson v. Commissioner, 86 Fed. (2d) 710. The respondent has not made any argument or cited any cases to rebut this contention of the petitioner or to show that it is not applicable to and decisive of the first issue. The Commissioner erred in determining a gift tax for 1936 upon $74,353.30 representing the then value of the promise or agreement of the petitioner to add to the trust thereafter. This being so, the alternative argument of the petitioner that the promise of an individual to make annual payments has no ascertainable fair market value and the cases cited in support require no discussion.

The petitioner argues that he is entitled to a refund of the tax paid upon the $10,205.62 transferred to the trust because the transaction, a marriage settlement agreement, was supported by a full and adequate consideration in the relinquishment by Elizabeth of her dower and other rights in his estate. Section 503 of the Revenue Act of 1932 provides:

Where property is transferred for less than an adequate and full consideration in money or money’s worth, then the amount by which the value of the property exceeded the value of the consideration shall, for the purpose of the tax imposed by this title, be deemed a gift, and shall be included in computing the amount of gifts made during the calendar year.

The determination of the Commissioner carries a presumption of correctness. The Board held in Bennet B. Bristol, 42 B. T. A. 263, that the release by an intended wife of all of the rights which she was to acquire by marriage in the property of her husband might be adequate and full consideration in money or money’s worth for a transfer of property so that no gift tax would be due upon tbe transfer, but the adequacy of such, consideration in a given case is a question of fact.

Elizabeth Brown had no property of any substantial value on December 30,1936. Her husband first established the $200,000 trust for her and thereafter they entered into the marriage settlement agreement. He still had property consisting of cash and securities of a value of perhaps $600,000. The record shows the ages of Archbold, his intended wife, and his mother. The record does not show or give data from which may be computed the value in money or money’s worth on December 31, 1936, or immediately after the marriage, of Elizabeth’s rights in Archbold’s estate which she agreed to surrender. Fish v. Helvering, 75 Fed. (2d) 769, affirming 27 B. T. A. 1002. It might be reasonable to assume that those rights had a value in excess of $10,205.62, the amount transferred in trust at that time pursuant to the agreement, but she did not surrender those rights in consideration of that transfer alone. The surrender was for his agreement to make the nine future annual transfers of $10,000 each. We have no idea of and no way of measuring the value on December 31, 1936, or thereabouts of such surrender as she made in consideration of the transfer of the $10,205.62. We can not say that the petitioner erred in paying the gift tax on the transfer of the $10,205,62.

Decision will be entered wider Bule 50.


author: Hill:

text:
    Harry P. Kishner, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 93434.
    Promulgated July 31, 1940.

      Harry P. Kishner, Esq., pro se.

      David Altmm, Esq,, for the respondent.
   OPINION.

Hill:

The question for decision is whether or not petitioner is entitled to a personal exemption of $2,500 as the head of a family during the taxable year. The deficiency in controversy results from respondent’s disallowance of such exemption. Section 25 (b) (1) of the Revenue Act of 1936, the statute applicable here, provides, among other things, that a personal exemption of $2,500 shall be allowed as a credit against net income “in the case of a head of a family”, but does not define the term “head of a family.” Respondent has defined such term in his Regulations 94, article 25-4, quoted in the margin below.

The quoted provisions of Regulations 94 are substantially the same as those contained in regulations issued under prior revenue acts, and we have repeatedly approved the language used as being a fair interpretation of the statutes and having the force and effect of law. Alfred E. Fuhlage, 32 B. T. A. 222; Mary H. Walton, 37 B. T. A. 620; Annette Loughran, 40 B. T. A. 252.

That petitioner in some respects meets the essential requirements of respondent’s definition is at once apparent. By the allowance of the credits for dependents in the sum of $800 respondent concedes that petitioner’s parents derived their principal support from him. Aside from their home (rental value $30 per month), undoubtedly petitioner was the principal if not sole support of his parents during the taxable! year, and, of course, the dependents were “closely connected with him by blood relationship.” However, respondent contends that petitioner does not qualify as the “head of a family” within the meaning of the statute and regulations, principally for the reason that he did not support and maintain his parents in one household with himself, but that without necessity the parents continuously made their home in Philadelphia while petitioner resided in Chicago. We think respondent’s contention must be sustained.

The quoted regulation does not require absolutely and under all conditions that a taxpayer and his dependents reside continuously in one household, but if separate homes are maintained, reasonable necessity therefor must appear in order to entitle the taxpayer to the personal exemption allowable to the “head of a family.” That petitioner does not come within any of the exceptions mentioned in respondent’s regulations is too obvious to require discussion, but the examples stated do not purport to be all-inclusive. We have had occasion to allow the exemption in other circumstances, where reasonable necessity appeared for the maintenance of separate homes.

In Olive Ross, 37 B. T. A. 928, the petitioner’s dependent mother was adjudged insane and committed to a state hospital by a court of competent jurisdiction. The state furnished the mother with food and medical treatment, but petitioner supplied all other necessities. We held petitioner entitled to the personal exemption allowable to the head of a family, saying:

The regulations recognize that there need not be continuous, actual residence together if circumstances justify the separation and there is a necessity for continuously maintaining the dependent elsewhere.

On substantially the same ground, we held in Meier S. Block, 37 B. T. A. 945, that the taxpayer was the head of a family. There the petitioner, voluntarily separated from his wife, maintained two homes, living in one alone while supporting and maintaining in the other his dependent wife and daughter, over whom he exercised family control. We concluded that the taxpayer was obliged through force of circumstances to maintain his dependent daughter with her mother, and thus came within the Commissioner’s regulations.

Hassard Short, 39 B. T. A. 567, is on principle a similar decision. There we held the taxpayer, a resident alien, was the head of a family where he maintained his aged mother in their home in England, notwithstanding he also maintained a residence in New York and spent about one-half of his time on business in this country.

In Estate of Grace Adams Howard, 42 B. T. A. 449, the decedent was supporting, maintaining and exercising family control over her niece by marriage, who was blind and wholly dependent on decedent for support. Because of the dependent’s infirmity and the circumstances in decedent’s home the dependent was of necessity maintained in a separate establishment provided by decedent. We held on the facts in that case that decedent was the head of a family within the meaning of section 25 (b) of the Revenue Act of 1936 and entitled to a personal exemption of $2,500.

The instant proceeding is distinguishable from the decisions above cited. Petitioner resided in Chicago and contributed money to the support of his parents in their own home in Philadelphia. It was more convenient and less expensive to do this than to establish and maintain his parents in a common home with himself in Chicago. Obviously, during the taxable year, when petitioner received a salary of $5,000, he was financially able to maintain a home for himself and his parents in Chicago commensurate with their standard of living, if he had desired to do so. And it is shown that the parents were mentally and physically able to move to Chicago. In our opinion, petitioner’s desire to minimize expenses does not under the facts here constitute reasonable necessity within the meaning of article 25-4, supra, for supporting his parents in' a home separate from his own. Moreover, it is not shown that petitioner exercised family control over his parents or their household. He did not even provide the home in which they lived. The evidence is clear that what he did, and all that he did, was to send money to his parents or pay their bills for living expenses. He was not in the taxable year the “head of a family” within the meaning of the statute and regulations; he merely contributed to the support of his dependent parents.

Respondent’s determination is approved.

Decision will he entered for respondent.

       Art. 25-4. Personal Exemption of Head of Family. — A head of a family is an individual who actually supports and maintains in one household one or more individuals who are closely connected with him by blood relationship, relationship by marriage, or by adoption, and whose right to exercise family control and provide for these dependent individuals is based upon some moral or legal obligation. In the absence of continuous actual residence together, whether or not a person with dependent relatives is a head of a family within the meaning of the Act must depend on the character of the separation. If a father is absent on business, or a child or other dependent is away at school or on a visit, the common home being maintained, the additional exemption applies. If, moreover, through force of circumstances a parent is obliged to maintain his dependent children with relatives or in a boarding house while he lives elsewhere, the additional exemption may still apply. If, however, without necessity the dependent continuously makes his home elsewhere, his benefactor is not the head of a family, irrespective of the question of support. * * *


author: Leeoii :

text:
    Max Silver, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 100186.
    Promulgated August 6, 1940.

      Ea'i'ry Friedman, Esq., and Joseph A. Bonehi, Esq.., for the petitioner.

      Charles P. Reilly, Esq., and John M. Kennedy, Esq., for the respondent.
   OPINION.

Leeoii :

The principal issue in this case is one of fact: Did Carey give the ticket to petitioner and Mrs. Silver, or to petitioner alone? Although there is some conflict in the evidence, namely, that petitioner and Mrs. Silver both stated in their separate returns that the winning ticket was “purchased” by both of them and that a revenue agent testified that petitioner stated on one occasion he had acquired the ticket himself, we are inclined to believe the testimony of petitioner and Mrs. Silver, which is supported by the evidence of Carey, a disinterested third party. We think it is also sufficiently demonstrated by the evidence that petitioner and Mrs. Silver treated the prize money as belonging one-half to each. It is shown that $34,163.13, plus smaller sums of undisclosed amount, was spent for Mrs. Silver’s benefit. The fact that some of the stock was not in her name is plausibly explained. The fact that she gave the income on her securities to petitioner to use 'for insurance premiums does not contradict her ownership of the securities themselves.

Since the winning ticket belonged to both petitioner and his wife, one-half of the prize money, less one-half the cost of the ticket, is taxable to each. Christian H. Droge, 35 B. T. A. 829; Samuel L. Huntington, 35 B. T. A. 835.

Petitioner makes the somewhat novel contention that, since the tickets were acquired by gift, the prize money is exempt from taxation also. He quotes the definition of income contained in Eisner v. Macomber, 252 U. S. 189, in support of Ms position. The Court there said:

* ⅜ ⅜ “Income may be defined as the gain derived from capital, from labor, or from both combined,” provided it be understood to include profit gained through a sale or conversion of capital assets * * ⅜.

Petitioner argues that the receipt of the prize money in the premises does not fall within that definition.

In this we think petitioner is in error. All that he and his wife received by way of gift was a ticket costing approximately $2.50⅜ It thereupon became part of their capital. When the race was run, prize money was realized on a capital asset acquired by gift, and it constituted income taxable not only under the rule of the Macomber case and the cited authorities, but also under the express language of section 22 (b) (8) of the Revenue Act of 1936, which reads as follows:

SEO. 22. GROSS INCOME.
* ⅛ * * * * *
(b) Exclusion's from Gross Income. — The following items shall not be included in gross income and shall be exempt from taxation under this title: *******
(3) Guns, bequests, and devises. — The value of property acquired by gift, bequest, devise, or inheritance (but the income from such property shall be included in gross income).

See also Dulin v. Commissioner, 70 Fed. (2d) 828; sec. 111, Revenue Act of 1936.

Finally, petitioner may not deduct the expenses incurred in the collection of the prize money. Assuming without deciding that they were ordinary and necessary, they were not incurred in carrying on any trade or business and hence are not allowable. Sec. 23 (a), Revenue Act of 1936; Kane v. Commissioner, 100 Fed. (2d) 382.

Decision will be entered under Rule SO.


author: Tyson:

text:
    Paul Plunkett & Co., Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 91741.
    Promulgated August 6, 1940.

      Marie Eisner, Esq., for the petitioner.

      Allen T. Ahin, Esq., for the respondent.
   OPINION.

Tyson:

Two issues are presented for our decision: (1) Were commissions in the amount of $456,626.50, earned by petitioner in connection with the sale of Southern California Gas Co. and Midway Gas Co. stock and paid by check to Westchester, income to petitioner in the taxable year? and (2) Did the petitioner file a false and fraudulent l’eturn with intent to evade tax for the taxable year ending February 29, 1928?

On the first issue petitioner contends that it did not receive any part of the commissions in question, but had assigned and transferred its right to such commissions prior to the time they were due and payable.

There is no question but that $456,626.50 was paid to Westchester on November 17, 1927, by the vendors of the Southern California Gas Co. and Midway Gas Co. stock, as commissions for services rendered by petitioner in bringing about the sale of that stock. Obviously, petitioner sought, by various assignments and transfers to nominees and its controlled corporations, to so camouflage the transaction as to conceal its own identity as the recipient of the commissions. In its income tax return it even went so far as to treat as a bona fide sale the transfer of its right to receive the $456,-626.50 commissions to its employee and nominee, Booth, by including in that return, as income, the $15,000 which it furnished Booth to pay for the transfer. It also disguised as a “loan” $450,000 of the commissions turned over to it by Westchester, its wholly controlled Canadian corporation, immediately upon its receipt by Westchester. In fact, it appears from the record that on November 15, 1927, two days before the check for $456,626.50 for commissions was given by Meyer to Westchester, and three days before it was deposited to Westchester’s account, petitioner executed its debenture bond to Westchester for the “loan” and on November 18, 1927, the same day the check was deposited in the Bank of Montreal to the account of Westchester, petitioner received Westchester’s check for $450,000 and petitioner’s books showed a credit of that amount to Westchester. Subsequently, petitioner took up its debenture, without the payment of interest, by issuing 450 shares of its class B stock therefor, which stock was thereafter transferred to the Bryan Corporation, obviously organized for that purpose, and all the stock of Bryan was transferred to Anchorage, which owned all the Westchester stock, as petitioner’s nominee, and, in turn, was owned by the same interests which owned all the stock of petitioner.

The commissions here in question were, at all times, subject to the unfettered control of petitioner. Petitioner concedes, and we have so found, that Booth was but an agent or conduit of petitioner to transfer the contract to Westchester. Petitioner, through its nominee, Anchorage, owned Westchester. The so-called loan- of $450,000 was but a subterfuge and a sham by which petitioner took over that amount of the commissions from Westchester. No real consideration was given for the loan. The debenture executed in favor of Westchester was, at all times, under the control of petitioner and the class B stock for which it was exchanged eventually found its way back to the Bryan Corporation, whose stock was all issued to petitioner’s nominee, Anchorage. Under the facts, petitioner must be regarded as the recipient of the entire amount of $456,626.50, which was at all times subject to its absolute command and disposition. Westchester was nothing more than petitioner’s agent, whose sole function was to receive the commissions and pass them on to petitioner. Kaspare Cohn Co., Ltd., 35 B. T. A. 646, and authorities cited therein. It is true that petitioner had, through its agent, Booth, assigned the contract to Westchester, but all of Westchester’s stock was held by Anchorage, petitioner’s nominee, and Westchester had no ownership in the commissions which it could exercise independently of petitioner. “Taxation is not so much concerned with the refinements of title as it is with actual command over the property taxed — the actual benefit for which the tax is paid.” Corliss v. Bowers, 281 U. S. 376. It is the command of income and its benefits which mark the real ownership of property. Higgins v. Smith, 308 U. S. 473; and Griffiths v. Commissioner, 308 U. S. 355.

In matters of taxation substance rather than form will be regarded, United States v. Phellis, 257 U. S. 156, and where, as here, wholly controlled corporations of the taxpayer are used by it as mere agencies for the purpose of concealing the real nature of its transactions, such “fictional corporate camouflage cannot be made the device to escape taxation”, North Jersey Title Insurance Co. v. Commissioner, 84 Fed. (2d) 898. This Board and the courts have, in looking only to the substance of the transaction involved, disregarded corporate entities. In Kaspare Cohn Co., Ltd., supra, this Board quoted the language of the Supreme Court in Chicago, M. & St. P. Ry. Co. v. Minneapolis Civic & Commerce Association, 247 U. S. 490, as follows:

Where stock ownership has been resorted to, not for the purpose of participating in the affairs of a corporation in the normal and usual manner, but for the purpose * * * of controlling a subsidiary company so that it may be used as a mere agency or instrumentality of the owning company or companies. * * * In such a case the courts will not permit themselves to be blinded or deceived by mere forms of law but, regardless of fictions, will deal with the substance of the transaction involved as if the corporate agency did not exist and as the justice of the case may require.

and observed that “The rule above quoted is of peculiar importance in tax cases. Western Maryland Ry. Co. v. Commissioner (C. C. A., 4th Cir.), 33 Fed. (2d) 695.” See also, United States v. Lehigh Valley Railroad Co., 220 U. S. 257; Gregory v. Helvering, 293 U. S. 465; Kaspare Cohn Co., Ltd., supra, and authorities cited therein. Cf. Higgins v. Smith, supra, where the Supreme Court said:

“A taxpayer is free to adopt such organization for his affairs as he may choose * * but “the Government may not be required to acquiesce in the taxpayer’s election of that form for doing business which is most advantageous to him. The Government may look at actualities and upon determination that the form employed for doing business or carrying out the challenged tax event is unreal or a sham may sustain or disregard the effect of the fiction * * * ”.

Of the commissions here in question, $450,000 was turned over to petitioner upon1 its receipt by Westchester, camouflaged as a loan. The balance of $6,626.50, remaining in the hands of Westchester, its corporate agent, was subject to petitioner’s unfettered command. It follows that the entire commissions paid, in the amount of $456,-626.50, should be included in petitioner’s gross income for the fiscal year ended February 29,1928, and this decides the first issue against petitioner.

Under the second issue, petitioner contends that its return for the fiscal year ended February 29,1928, was not false and fraudulent with the intent to evade tax, but that the various transfers in evi-dente, and particularly the assignment to Booth, were made upon the advice of counsel.

The evidence indicates that the various transactions involved were made in pursuance of a plan to conceal the real transaction, which was the receipt by petitioner of the commissions paid by Meyer. Petitioner’s failure to include these commissions in its income tax return was but a part of the plan.

' It appears that petitioner did have the advice of counsel in making the transfer to Booth, but for what purpose such advice was given is not disclosed. However, petitioner was itself informed as to income tax law and, in fact, on occasions it advised on income tax questions. It may not now hide behind the advice of counsel and be heard to say that its failure to return the commissions as a part of its gross income was due to advice of counsel. Cf. Charles E. Mitchell, 32 B. T. A. 1093; affd., Helvering v. Mitchell, 303 U. S. 391, and D. C. Clarke, 22 B. T. A. 314, especially where, as here, the advice is not shown to have been given with reference to the tax-ability of the commissions involved. Louis Ginsburg, 13 B. T. A. 417. This is particularly true where, as here, the facts, taken as a whole, indicate that the taxpayer did not intend to turn square corners in dealing with the Government. It is well settled that there is nothing illegal in an honest effort to reduce taxes to the minimum inquired by law. Cf. United States v. Isham, 17 Wall. 496; Superior Oil Co. v. State of Mississippi, 280 U. S. 390; Rogers Recreation Co. of Connecticut v. Commissioner, 103 Fed. (2d) 780; Helvering v. Mitchell, supra, 1129; and in such event the purpose to avoid taxation by the transaction is in itself “legally neutral.” Chisholm v. Commissioner, 79 Fed. (2d) 14; certiorari denied, 296 U. S. 641. But where a taxpayer, under cover of corporate fiction and transfers to nominees, retains the unfettered control and disposition of its property, it can neither escape the tax on the income therefrom or the obligation to report such income in its tax return. Helvering v. Mitchell, supra; cf. Higgins v. Smith, supra; Griffiths v. Commissioner, supra; Helvering v. Gordon, 87 Fed. (2d) 663; and Groves v. Commissioner, 99 Fed. (2d) 179.

Obviously, petitioner, having earned commissions in the amount of $456,626.50, did not intend to sell its right and interest therein to Booth for $15,000. Nor did it intend to part with the power to take them at any time. What it obviously did intend was to avoid the necessity of including them in its gross income and thus evade the payment of income tax thereon. To this end it assigned its contract to Westchester for all of Westchester’s stock; to this end it camouflaged as a loan the $450,000 turned over to it by West-chester; to this end it treated as bona fide the assignment to Booth and included in gross income the $15,000 it furnished Booth with which to “buy” all its right, title, and interest in the contract; and to this end it failed to include the commissions in its gross income for the taxable year, knowing that it had actually received $450,000 of the commissions and that the balance of $6,626.50 was always subject to its unfettered command and disposition.

On the second issue we hold that respondent has sustained his burden of proof and that the petitioner filed a false and fraudulent return with intent to evade tax for the taxable year ending February 29, 1928. In this situation the assessment and collection of the tax is not barred by the statute of limitations. Inasmuch as part of the deficiency is due to fraud with intent to evade tax, the imposition of the 50 percent penalty is sustained.

The determination of the respondent is approved. However, in computing the deficiency under Rule 50, credit should be allowed for any tax paid on the $15,000 purported to have been received from Booth and included in petitioner’s gross income in its return.

Reviewed by the Board.

Decision will be entered under Rule 50.


author: HakRON :

text:
    James Q. Newton Trust, Petitioner, v. Commissioner of Internal Revenue, Respondent. James Q. Newton, Jr., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 97324, 97325.
    Promulgated August 6, 1940.

      Bichard M. Davis, Esq., and Quigg Newton, Jr., Esq., for the petitioners.

      Angus R. Shannon, Jr., Esq., and Carroll Walker, Esq., for the respondent.
   OPINION.

HakRON :

The petitioners contend that the reorganization of Fuel & Iron and Industrial under section 77B of the Bankruptcy Act, which resulted in an exchange of bonds of Industrial for bonds and stock of the new company, constituted a reorganization as defined in either provision (A) or (0) of section 112 (g) (1) of the Bevenue Act of 1936, so that recognition of gain or loss is precluded under section 112 (a) and (b) (3) of the same act. The petitioners further contend that, if the transaction did not constitute a “reorganization” within the meaning of the above sections, nevertheless any gain resulting therefrom is nontaxable under section 112 (b) (5) of the Revenue Act of 1936.

The respondent contends that there was not a “statutory merger or consolidation” within (A) of section 112 (g) (1), since the facts fail to show that the plan of reorganization under section 77B was executed by a merger or consolidation in pursuance of the laws of Colorado or Federal law. Respondent relies upon the statement in article 112 (g)-2 of Regulations 94 that, “The words ‘statutory merger or consolidation’ refer to a merger or a consolidation effected in pursuance of the corporation laws of the United States or a State or Territory or the District of Columbia.” The respondent also contends that the reorganization under section 77B of the Bankruptcy Act does not come within the definition of a reorganization in the applicable revenue act, within (C) of section 112 (g) (1). Respondent argues that the bondholders of Industrial may not be considered as the “stockholders of the transferor.” He relies on the fact that stockholders of Fuel & Iron were given warrants to buy stock in the new company. But, conceding for purposes of argument, that the stockholders of the transferor lost their equity in the properties transferred to the new company and that this case comes within the rule of Commissioner v. Kitselman, 89 Fed. (2d) 458; certiorari denied, 302 U. S. 709, respondent argues that the opinion in LeTulle v. Scofield, 308 U. S. 415, strongly indicates that the Kitselman case was wrongly decided. Respondent concedes that the facts in the LeTuTle case differ from and are not analogous to the facts in the Kitselman case or in this case.

Petitioner urges at length that there was a “statutory” consolidation of Industrial 'and Fuel & Iron under a Federal statute, namely, subsection (b) (9) of section 77B of the Bankruptcy Act. See United States Statutes at Large, 73d Cong., vol. 48-1, pp. 912-914. We do not agree with this contention. First, in our opinion the Commissioner’s statement in article 112 (g)-2 of Regulations 94, quoted above, appears to be correct and a statement of the obvious. Second, the power to effect a consolidation of corporations “must be derived from the law of the sovereignty or state which creates the corporation seeking to exercise it”, Fletcher, Cyclopedia of Corporations, vol. 15, ch. 61, sec. 7048, and the steps and proceedings to effect a consolidation are formal and must be in accordance with the law of the jurisdiction. Fletcher, Cyclopedia of Corporations, supra, secs. 7066-7074. While a corporation formed to carry out steps in a plan of reorganization under section 77B of the Bankruptcy Act may be under the control of the Federal District Court having jurisdiction, a new corporation can come into existence only in compliance with state authority. Old Fort Improvement Co. v. Lea, 89 Fed. (2d) 286. In the proceedings involved here, the charter of the new company was obtained from the State of Colorado. The statutes of Colorado prescribe the way in which a consolidation may be consummated. Comp. Laws of Colorado, 1921, ch. 38 D., p. 754, sec. 2287; 1935 Colorado Stats. Ann., ch. 41, sec. 54. So far as the facts show, no articles'of consolidation or merger were filed in the proper state office. The plan of reorganization approved by the District Court does not refer to a consolidation as the means of executing the plan. The provisions of subsection (b) (9) of section 77B of the Bankruptcy Act provide for several permisswe methods of executing a plan of reorganization, among which are a merger or consolidation. But it may not be assumed that a “statutory merger or consolidation” was effected merely from the general facts relating to the way in which a reorganization under section 77B is executed. It is a matter to be proved whether such a plan of reorganization was executed by a statutory merger or consolidation, and, in our opinion, petitioner has not so proved in this case. See also Report of Committee on Ways and Means, No. 704, 73d Cong., 2d sess., p. 14, for the reasons for inserting the word “statutory” before “merger or consolidation” in section 112 (g) (1) (A) of the Revenue Act of 1934.

However, we are of the opinion that the reorganization under section 77B of the Bankruptcy 'Act constituted a reorganization under section 112 (b) (3) of the Revenue Act of 1936, within (C) of section 112 (g) (1). In our opinion the situation here is very much like the situation in the Kitselman case, supra, and the question is controlled by that case. In the Kitselman case, after the various steps had been taken the bondholders of the old company were in control of the new company, and this somewhat unusual situation presented difficulty because section 112 (g) (1) (C) predicates a reorganization on the requirement that the transferor or the stockholders of the transferor be in control of the new company. The court reasoned that where the old company is insolvent and its assets are transferred to a new company formed by the bondholders’ representatives, the bondholders occupy a status somewhat akin to that of preferred stockholders, for all practical purposes. The court stated the following:

Bondholders ordinarily are viewed as creditors, but when the assets of the corporation are less than its obligations, the bondholders are in actuality and for all practical purposes pretty much the corporation. * * *
It is clear that the bondholders were the moving spirit and were treated as the owners in fact, and it follows that they must be viewed as a class of “stockholders” somewhat akin to preferred stockholders with cumulative dividend rights. * * * Where the assets of the corporation fall far below the amount required to pay the bondholders in full, the bondholders in bankruptcy reorganization supersede the stockholders. They acquire the stockholders’ rights to manage the corporate affairs. There is a difference between the position of stockholders in a case like the present one and stockholders of a corporation in bankruptcy proceeding under section 77B (U. S. C. A. § 207) to a reorganization, but the analogies are sufficient to justify a study of the decisions in the latter field.

The above reference in the quotation to a reorganization under Section 77B of the Bankruptcy Act is significant here. In our opinion the situation in this case is as favorable, if not more favorable, to petitioner’s contention than was the situation in the Kitselman case, because here there was a reorganization under section 77B of the Bankruptcy Act.

As in the Kitselman case, the difficulty is that of determining whether the holders of the Industrial bonds were the “transferor or its stockholders” within that clause in (C) of section 112 (g) (1). The situation is somewhat more complex here because there were two transferors, Industrial and Fuel & Iron, albeit they were subsidiary and parent corporations, and the holders of the Industrial bonds were creditors of both companies, Fuel & Iron having acquired substantially all the assets, securing the bonds under a first mortgage, and having unconditionally guaranteed the interest and principal of the bonds of Industrial. However, this complexity is not important, in our opinion. Neither the bondholders nor the stockholders of either of the old companies received any profit from the reorganization. The old companies transferred all their assets to the new company and immediately thereafter the old companies, through the bondholders, were in control of the corporation to which the assets Avere transferred. The holders of Industrial bonds were creditors having claims aggregating $27,633,000 for principal due, and $2,763,-300 for interest due. They were the creditors with prior claims, secured by a first mortgage on assets in the hands of Fuel & Iron, and they were treated as the owners in fact of the assets transferred to the new company. It must follow here, as in the Kitselman, case, that the holders of the Industrial bonds be viewed as a class of “stockholders.” So viewed, they come within (C) of section. 112 (g) (1).

The following is pointed out in support of the above conclusion. Industrial and Fuel & Iron had been placed in receivership and had petitioned for a reorganization under section 77B of the Bankruptcy Act. The stockholders of both of the companies had lost their equity. This was recognized by the plan of reorganization, under which the entire ownership of the new company was turned over to the holders of Industrial bonds, and the stockholders were given, merely, warrants entitling them, to purchase stock in the new company at a price considerably above the then market value. The treatment accorded various security holders of the old companies is described in the plan of reorganization as follows:

Under the Plan, the Industrial Bondholders are to receive for each $1,000 principal amount of Bonds (together with the unpaid interest thereon which amounted to 10% to February 1, 1935) : (a) $400 principal amount of new 5% Income Mortgage Bonds and (b) 20 shares of new Common Stock. The Industrial Bondholders are to receive all of the new Income Mortgage Bonds and all of the new Common Stock of the New Company to ho presently issued in the reorganization. The entire issue of Industrial Bonds outstanding in the aggregate principal amount of $27,633,000 is in default. Interest on the Industrial Bonds accrued and unpaid to February 1, 1935 amounts to $2,763,300. Accordingly, in the first instance, the Plan gives to the holders of the Industrial Bonds the entire ownership and control of the New Company, subject to $4,500,000 of Fuel Bonds which are undisturbed in the reorganization.
The Plan, however, does not in its efireet on stockholders operate as a strict foreclosure, since the stockholders are to receive Warrants entitling them at their option to purchase, at any time until February 1, 1950, a stock equity in the New Company at $35 per share. The price at which stockholders, under the terms of such Warrants, may regain an equity position in the enterprise, takes into consideration the basis upon which the Industrial Bondholders are to receive shares of new Common Stock in exchange for that part of their debt not covered by new Income Mortgage bonds. [Emphasis supplied.]

The assets of the old companies were transferred to the new company, and immediately thereafter the bondholders were in control of the new company by virtue of the immediate transfer of 552,66Q shares of stock of the new company to the reorganization managers, who were the agents of the bondholders. The holders of warrants to purchase new stock in the new company had no control. Control relates to issued, not to authorized, stock. Louangel Holding Corporation v. Anderson, 9 Fed. Supp. 550; C. T. Investment Co. v. Commissioner, 88 Fed. (2d) 582. Clearly there was an exchange of securities in one corporation a party to a reorganization, in pursuance of a plan of reorganization, solely for securities in another corporation a party to the reorganization. (Sec. 112 (b) (3).) All three corporations were parties to the reorganization. (Sec. 112 (g) (2).) The bondholders of Industrial retained a substantial stake or proprietary interest in the enterprise. There was a continuity of interest of the transferors in the transferee, evidenced by stocks and bonds of the new company. The holders of Industrial bonds acquired the stockholders’ rights to manage the corporate affairs.

With respect to the argument of respondent that the opinion in the LeTulle case indicates that the decision in the Kitselman case is wrong, and that Helvering v. Tyng, 308 U. S. 527, also points that way, we believe the argument without merit. The fact that the bondholders herein retained a proprietary interest in the enterprise is a material difference between the factual situation in this case and the factual situation in either the LeTulle case or the Tyng case. Such cases are therefore clearly distinguishable and not applicable here. In the LeTulle case when a stockholder of the transferor received bonds and cash of the transferee in exchange for his stocks, there was no continuity of interest. In the Tyng case, where the stockholders of the transferors received cash and long term indebtedness of the transferee in exchange for their stock, there was no continuity of interest. In both the LeTulle case and the Tyng case stockholders of the transferor became mere creditors of the transferee, whereas in this case creditors (the Industrial bondholders) became stockholders of the transferee, and after the transfer they were in control of the corporation to which the assets were transferred. Also, we believe that E. P. Raymond, 37 B. T. A. 423, cited by respondent, is not applicable here. The point in this case is that the bondholders received all the presently issued stock of the new company, thereby gaining control thereof.

It is held that the reorganization under section 77B of the Bankruptcy Act was executed so as to constitute a reorganization as defined in section 112 (g) (1) (C), and the gain or loss resulting therefrom is not recognizable under section 112 (b) (3). See also Commissioner v. Newberry Lumber & Chemical Co., 94 Fed. (2d) 447; Marlborough House, Inc., 40 B. T. A. 882; Edith M. Greenwood, 41 B. T. A. 664; Alabama Asphaltic Limestone Co., 41 B. T. A. 324.

In view of the foregoing it is not necessary to consider whether or not the transactions come within section 112 (b) (5).

Reviewed by the Board.

Decision will Toe entered wnd&r Bule 50.

Van Fossan, Leeoi-i, TorneR, and Disney dissent.

Murdoch dissents for reasons expressed in his dissent in Alabama Asphaltic Limestone Co., 41 B. T. A. 324.

       SEC. 112. RECOGNITION OF GAIN OR LOSS.
      ««*$***
      (g) Definition OF REORGANIZATION. — As used in this section and section 113—
      (1) The term “reorganization” means (A) a statutory merger or consolidation, * * * or (C) a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its stockholders or both are in control of the corporation to which the assets are transferred, or (D) a recapitalization, or (E) a mere change in identity, form or place of organization, however effected.

       SEC. 112. RECOGNITION OF GAIN OR LOSS.
      (a) General Rule. — Upon the sale or exchange oí property the entire amount oí the gain or loss, determined under section 111, shall be recognized, except as hereinafter provided in this section.
      (b) Exchanges Solely in Kind.—
      * ***** *
      (3) Stock foe Stock on Reorganization. — No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization.

       SEC. 112. RECOGNITION OF GAIN OR LOSS.
      *«**«*«
      (b) Exchanges Solely in Kind.—
      «*»#***
      (5) Teansfee to Corporation Conteolled by Transferor. — No gain or loss shall he recognized if property is transferred to a corporation by one or more persons solely in exchange for stock or securities in such corporation, and immediately after the exchange such person or persons are in control of the corporation; but in the case of an exchange to two or more persons this paragraph shall apply only if the amount of the stock and securities received by each is substantially in proportion to his interest in the property prior to the exchange.

       Sec. 77B. Compokate beoegamizations— * * *
      (b) A plan of reorganization within the meaning of this section * ⅞ * (9) shall provide adequate means for the execution of the plan, -which may include the transfer of all or any part of the property of the debtor to another corporation or to other corporations, or the consolidation of the properties of the debtor with those of another corporation, or the merger or consolidation of the debtor into or with another corporation or corporations, or * * *.


author: Smith:

text:
    John M. Keister, Petitioner,
      v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 98452, 98564-98568.
    Promulgated August 6, 1940.

      Charles E. McCulloch, Esq., tad Thomas B. Stoel, Jr., Esq., for the petitioners.

      John H. Pigg, Ésq., for the respondent.

       Proceedings of the folldwihg petitioners are ddnsolidated herewith: Trust of John A. Sprouse, United States National Bank of Portland (Oregon) Trustee; R. A. Sprouse; J. A. Sprouse; Jennie G. Sprouse; and Carrie S. Sprouse.

   OPINION.

Smith:

The questions for our determination in these proceedings are whether the distributions which the Sprouse-Reitz Co. made in 1936 of its nonvoting common stock to holders of voting common stock, and of its nonvoting 7 percent preferred stock to holders of its voting common stock and its nonvoting common stock were taxable dividends within the meaning of section 115 (f) of the Revenue Act of 1936.

Section 115 of the Revenue Act of 1936 provides in part:

SEO. 115. DISTRIBUTIONS BY CORPORATIONS.
(a) Definition of Dividend. — The term “dividend” when used in this title (except in section 203 (a) (3) and section 207 (c) (1), relating to insurance companies) means any distribution made by a corporation to its shareholders, whether in money or in other property, (1) out of its earnings or profits accumulated after February 28, 1913, or (2) out of the earnings or profits of the taxable year (computed as of the close of the taxable year without diminution by reason of any distributions made during the taxable year), without regard to the amount of the earnings and profits at the time the distribution was made.
⅜: ⅜ * ⅜ # ⅜ *
(f) Stock Dividends.—
(1) General rule. — A distribution made by a corporation to its shareholders in its stock or in rights to acquire its stock shall not be treated as a dividend to the extent that it does not constitute income to the shareholder within the meaning of the Sixteenth Amendment to the Constitution.

In Eisner v. Macomber, 252 U. S. 189, it was held that a distribution of common stock as a dividend on common stock did not constitute income within the meaning of the Sixteenth Amendment and that an income tax law attempting to tax such a stock dividend was invalid. In Koshland v. Helvering, 298 U. S. 441, it was held that common voting stock issued as a dividend on cumulative nonvoting preferred stock constituted income to the recipients and not return of capital. In its opinion the Court said:

Although Eisner v. Macomber affected only the taxation of dividends declared in the same stock as that presently held by the taxpayer, the Treasury gave the decision a broader interpretation which Congress followed in the act of 1921. Soon after the passage of that act, this court pointed out the distinction between a stock dividend wbicb worked no change in the corporate entity, the same interest in the same corporation being represented after the distribution by more shares of precisely the same character, and such a dividend where there had either been changes of corporate identity or a change in the nature of the shares issued as dividends whereby the proportional interest of the stockholder after the distribution was essentially different from his former interest.* * * [Citing United States v. Phellis, 257 U. S. 156; Rockefeller v. United States, 257 U. S. 176; Cullinan v. Walker, 262 U. S. 134; Marr v. United States, 268 U. S. 536.]
* * * Under our decisions the payment of a dividend of new common shares, conferring no different rights or interests than did the old, the new certificates, plus the old, representing the same proportionate interest in the net assets of the corporation as did the old, does not constitute the receipt of income by the stockholder. On the other hand, where a stock dividend gives the stockholder an interest different from that which his former stock holdings represented he receives income. The latter type of dividend is taxable as income under the Sixteenth Amendment. * * *

At the time the corporation here made the dividend distribution of its nonvoting common stock on February 13, 1936, there were outstanding only two classes of stock, voting common shares and nonvoting common shares. The holders of both classes of stock shared alike in the distribution. The Commissioner treated the distribution as a taxable dividend to the voting common stockholders but not to the nonvoting common stockholders.

The respondent makes the argument that the voting shares and the nonvoting shares represented different property rights and that the holders of the nonvoting shares might have transferred them without in any way disturbing the voting control, citing Frank J. and Hubert Kelly Trust, 38 B. T. A. 1014. In that case there was a stock dividend of preferred shares on common shares, only common shares being outstanding at the time. The question at issue was whether in determining the profit upon the sale of the preferred shares they should be given a cost basis of an allocable portion of the cost of the common shares. We held that although by specific statute the dividend in the preferred shares was exempt from income tax as a stock dividend, such preferred shares were nevertheless income under the Sixteenth Amendment, and the decisions of the Supreme Court, and that the entire amount received from their subsequent sale constituted taxable income. The situation there was the converse of that in the Koshland case, where common voting shares were issued as a stock dividend on preferred nonvoting shares. In its opinion the Board said;

* * * But entirely apart from tbis, tbe undeniable difference in tbe situation of tbe stockholders is that tbeir interest, after tbe dividend, became to some extent transferable in parts where before it could be disposed of only as a whole. Before tbe dividend, it is true, a stockholder could have sold a portion of his common shares. But, as pointed out in the Macomber case, supra, p. 212, it is “in the nature of things impossible for one to dispose of any part of such an issue without a proportionate disturbance of the distribution of the entire capital stock.” After the preferred stock was issued this was no longer true. Petitioner’s donors, by transferring the preferred stock, as in fact they did, could then dispose of a part of their interest in the earnings and assets of the corporation without in any way disturbing the distribution of voting control. Or they could retain the preferred stock as representing a property interest and divest themselves of the powers of management. We find it Impossible to conclude that this situation did not result in a substantial alteration of the interest of the stockholders. * * *

The portion of the Court’s opinion in Eisner v. Macomber, supra, from which the above quotation was taken, reads as follows:

It is said that a stockholder may sell the new shares acquired in the stock dividend; and so he may, if he can find a buyer. It is equally true that if he does sell, and in doing so realizes a profit, such profit, like any other, is income, and so far as it may have arisen since the Sixteenth Amendment is taxable by Congress without apportionment. The same would be true were he to sell some of his original shares at a profit. But if a shareholder sells dividend stock he necessarily disposes .of a part of his capital interest, just as if he should sell a part of his eld stock, either before or after the dividend. What he retains no longer entitles him to the same proportion of future dividends as before the sale. His part in the control of the company likewise is dijninished. Thus, if one holding $60,000 out of a total $100,000 of the capital stock of a corporation should receive in common with other stockholders a 50 per cent, stock dividend, and should sell his part, he thereby would be reduced from a majority to a minority stockholder, having six-fifteenths instead of six-tenths of the total stock outstanding. A corresponding and proportionate ¡decrease in capital interest and in voting power would befall a minority holder should he sell dividend stock; it being in the nature of things impossible for one to dispose of any part of such an issue without a proportionate disturbance of the distribution of the entire capital stock, and a like diminution of the seller’s comparative voting power — that “right preservative of rights” in the control of a corporation. Yet, without selling, the shareholder, unless possessed of other resources, has not the wherewithal to pay an income tax upon the dividend stock. Nothing could more clearly show that to tax a stock dividend is to tax a capital increase, and not income, than this demonstration that in the nature of things it requires conversion of capital in order to pay the tax.

In Chapman v. United States, 63 Ct. Cls. 106, it was beld under the doctrine of Eisner v. Macomber, supra, a distribution of nonvoting common stock as a dividend on voting common stock was a nontaxable stock dividend. Certiorari was denied by the Supreme Court, 275 U. S. 524. Denial of certiorari was, however, prior to the decision of the Supreme Court in Koshland v. Helvering, supra. As many times pointed out by the Supreme Court, denial of a writ of certiorari in a given case is not tantamount to the affirmance of the decision of the court below.

We think that under the opinion of the Supreme Court in the Koshland case the petitioners who received on their voting common stock a dividend of nonvoting common shares received a taxable dividend. The nonvoting common stock was not “of precisely the same character” as the stock previously held by them. By the receipt of the dividend each holder of voting common stock received an “interest different from that which its former stockholdings represented.” In making this observation we do not overlook the fact that the value of the additional nonvoting common shares received was presumably no greater than a like number of voting common shares which would not be subject to income tax under the opinion in Eisner v. Macomber, supra. Probably the shares had a less value. But the interest was different, and we think that is all that is required to make the dividend taxable to the holders of voting common stock.

The dividend of the 1 percent nonvoting preferred stock on the voting and nonvoting common stock, which was distributed December 15, 1936, presents a situation even more favorable to the respondent. This stock was entitled to I percent annual dividends before any dividends could be paid on the common voting or nonvoting shares. It was redeemable at par after three years from the date of issue in the discretion of the directors and after payment of all accrued dividends. These features gave it an entirely different character from the voting and nonvoting common shares. It clearly represented a different interest in the corporation. It is true, as petitioners point out, that the preferred shares were not to be favored in case of liquidation or dissolution and it is to be noted further that their issuance did not in any way affect the voting control of the corporation, but nevertheless, under the authoritative cases, they represented a new and different interest in the corporation and therefore constituted taxable income. Koshland v. Helvering, supra; Frank J. and Hubert Kelly Trust, supra; Albert E. Smith, 39 B. T. A. 80.

Reviewed by the Board.

Decisions will be entered for the respondent in Docket Nos. 98458, 98564, 98565, 98566, and 98567, and u/nder Rude 50 in Docket No. 98568.


author: ARUndell:

text:
    Kate J. Crichton, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97025.
    Promulgated August 7, 1940.

      T. A. Dubourg, O. P. A., for the petitioner.

      D. D. Smith, Esq., for the respondent.
   OPINION.

ARUndell:

Our decision is asked on the question of whether the petitioner is taxable on the exchange of properties made between herself and her three children in the taxable year. The petitioner claims that no gain from the exchange is cognizable under section 112 (b) (1) of tbe Reverme Act of 1936, which, provides as follows:

SEO. 112. RECOGNITION OF GAIN OR LOSS.
*******
(b) Exchanges Solely in Kind.—
(1) Property held eor productive use op investment. — No gain or loss shall be recognized if property held for productive use in trade or business or for investment (not including stock in trade or other property held primarily for sale, nor stocks, bonds, notes, choses in action, certificates of trust or beneficial interest, or other securities or evidences of indebtedness or interest) is exchanged solely for property of a like kind to be held either for productive use in trade or business or for investment.

The contention of the respondent by which the issue is joined, is that the properties exchanged were not “of a like kind” as required by the statute and that the gain is therefore to be recognized and taxed as provided in section 117 of the Revenue Act of 1936.

The words “like kind” are stated by the regulations to refer to the “class”, “nature or character” of the property and not to its “grade or quality.” The meaning of the words is further particularized there by examples of nontaxable exchanges, including the transfer of unimproved for improved realty or the assignment óf a 30-year lease in return for the conveyance of a parcel of realty. See Regulations 94, art. 112 (b) (1). Similar interpretations have appeared in all of the regulations beginning with Regulations 62 issued under the Revenue Act of 1921. In E. R. Braley, 14 B. T. A. 1153, involving an exchange of improved urban realty for a ranch, we held that article 1566 of Regulations 62 correctly interpreted the statute. We have followed the similar, currently applicable, regulations in later cases. See Biscayne Trust Co., Executor, 18 B. T. A. 1015; Connecticut Power Co., 28 B. T. A. 38.

The respondent relies on Midfield Oil Co., 39 B. T. A. 1154. In that case there was an exchange of an oil payment for an overriding royalty and we held that the properties were not of like kind within the meaning of the statute. One of the material elements that prompted our conclusion was that under the oil payment given in exchange there was a limitation on the amount that the taxpayer was to receive, whereas its rights under the overriding royalty were to continue as long as oil or gas might be produced from the property. No such difference in facts exists in the present case and, therefore, the Midfield Oil decision is not controlling here.

The regulations and the above cited cases establish certain fairly broad classes of property within which nontaxable exchanges may occur. The properties which were transferred reciprocally in the present case seem to us to fall together within a single one of the classes which are thus plotted. Both were interests in realty; under either the general law or the law of the State of Louisiana the interest which the petitioner’s transferee in the exchange received was a real right in the land. Shaw v. Watson, 151 La. 893; 92 So. 375; Gulf Refining Co. of Louisiana v. Glassell, 186 La. 190; 171 So. 846; Texas Co. v. Daugherty, 107 Tex. 226; 176 S.W. 717; Decatur Coal Co. v. Clokey, 322 Ill. 253; 163 N.E. 702; 1 Thornton, Law of Oil and Gas, sec. 20 (b). The respective natures of the properties exchanged in this case, therefore, may be seen to coincide and accordingly our decision must be for the petitioner.

Decision will he entered under Bule 50.