author: Marquette:

text:
    L. C. Mitchell, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 41610.
    Promulgated July 27, 1933.

      Joseph, Nievinski, Esq., for the petitioner. '

      George S. Adams, Esq., for the respondent.
   OPINION.

Marquette:

Shortly after their marriage and on the eve of acquiring the bakery business in McMinnville, Oregon, the petitioner and his wife entered into the contract of June 25, 1909. Respondent contends that this contract related only to the capital invested in and the income derived from this particular business. The petitioner asserts that this contract was in the nature of a marriage settlement which fixed the proportions in which the petitioner and his wife were to own all property acquired by either during the marriage.

The contract contains no provisions which in terms show that it applied only to the baking business. On the other hand it speaks of “ all ” mutual property and income — a very general term. In this state of case the mutual understanding of the parties should be given consideration. Both testify that it was their understanding that it was to continue in effect so long as they were married. This contemporaneous construction by the parties interested in our opinion resolves the doubt in favor of their construction.

When we come to the question of what property was embraced by the contract we find that the words property ” and “ income ” are modified by the adjective “mutual.” This adjective is used twice and evidently for a definite purpose and that purpose was, we think, one of restriction. Not all property and all income were to be owned by the husband and wife in the proportions stated but only such property as was mutual. The primary meaning of this word is reciprocal. It also imports the idea of common or joint, Webster’s New International Dictionary. Robison v. Wolf, 27 Ind. App. 683; 62 N.E. 74; Modern Order of Praetorians v. Bloom (Okla.), 171 Pac. 917. Here the parties were about to invest their capital and contribute their labor to a common or joint enterprise. The capital of each was to be jointly used and the income which was to be shared was that derived from the joint use of their capital and the common contribution of their labors. Giving to the word “ mutual ” the only meaning which is applicable to the situation and construing it in the light of the enterprise about to be begun, it seems clear that the word as used imports the idea of common or joint. Thus, it certainly could not be successfully contended that property acquired by either from sources that were not mutual was to be owned by both, as, for instance, property acquired by devise or bequest. By the same token we think that this word does not cover the earnings of either which were not derived from a mutual source.

This contract was valid in Oregon (Oregon Laws, secs. 9743, 9744, 9745; Grubbe v. Grubbe, 26 Ore. 363; 38 Pac. 182) and being intended to cover after-acquired property to the extent we have indicated, it was valid in California and Utah. Kleb v. Kleb, 70 N.J.Eq. 305; 62 Atl. 396, and authorities cited..

Under this construction all the income derived from the school in Portland and the laboratory in Los Angeles was mutual. On the other hand, the petitioner’s earnings from his employment in the mill in Oregon became his separate property and his earnings from his position in Los Angeles were community income, which under the laws of California were his income. Pedder v. Commissioner, 60 Fed. 866. But when the petitioner deposited his earnings in the joint bank account in Oregon they at once became mutual and were owned in the proportions fixed by the contract of 1909. The same is true of the deposits made in the bank in California. Pedder v. Commissioner, supra, and cases cited. By virtue of the agreement of 1909 the interest of each in the joint deposit was in the ratio of three to four.

The purchase in 1919 of 5,500 shares of the stock of the Oregon Baking Co. was made with money drawn from the joint bank account in which Mrs. Mitchell had an undivided four-sevenths interest, with the result that she became the equitable owner of four sevenths of the stock then purchased. John H. Flach, 13 B.T.A. 383; Carrie E. Molter, 19 B.T.A. 911; affd., 60 Fed. 498; Paul F. Hill et al., Executors, 24 B.T.A. 1144. The petitioner owned the other three sevenths.

In 1920 the petitioner purchased 29,000 shares from Wright and 5,500 shares from Wishart. On this purchase a down payment amounting to $4,000 was made in Liberty bonds which had been purchased with money drawn from the joint bank account. Although it is not clear whether an indefinite number of these bonds belonged to Mrs. Mitchell, it would seem that the only effect of such a transaction would be to increase her share. Not being informed as to the amount, if any, of the bonds which she may have separately owned, we find that she was the equitable owner of the stock then purchased to the extent of her four-sevenths interest in the bonds used in the acquisition of this stock. For the remainder of the purchase price the petitioner executed his personal notes which according to the understanding between him and Wright, were to be paid out of his salary and from the dividends. This agreement was carried out. None of this money came from a mutual source but all from the earnings and property of the petitioner. The stock so purchased, except to the extent of Mrs. Mitchell’s interest in the Liberty bonds, was the petitioner’s stock.

What we have said with reference to this stock applied equally to that purchased in 1924 and 1925 in order to effect the sale to the Continental Baking Corporation. All of this stock belonged to petitioner.

As against this conclusion the petitioner makes two contentions. The first is that when he purchased the stock from Wright it was his desire that four sevenths of it be placed in the name of his wife, a request with which Wright refused to comply. We attach little importance to this for two reasons. First, the petitioner agreed to it and, second, if he was in fact in earnest about this being done, he could easily have placed four sevenths of the 5,500 shares purchased in 1919 in his wife’s name. Wright could not have objected to this since that stock was paid for in cash and Wright or whoever owned it would not have been compelled to sue Mrs. Mitchell. Besides, 250 shares of this stock were placed in her name in order that she might qualify as a director. The second contention of petitioner is that the division in 1925 of the proceeds of the sale was made in accordance with the contract of 1909. We are unable to find that any such division was made. The testimony on this question is quite hazy. We do not know what became of the $100,000 fund that was set aside. We do not know how or in whose name it was invested. We are informed that $30,000 was turned over to Mrs. Mitchell, but this amount was to be and was placed in trust for the education of their daughter, a duty which rested just as much on him as on her. The petitioner retained between $31,000 and $33,000. It is true that Mrs. Mitchell received between $7,000 and $8,000, but this came not from the proceeds of the sale of the stock but from a sale of land which stood in the petitioner’s name. The record does not disclose that Mrs. Mitchell then or thereafter received four sevenths of the proceeds of the sale.

The respondent’s determination is sustained except to the extent of the gain arising from the sale of Mrs. Mitchell’s equitable interest in the stock of the Ogden Baking Co. by-reason of the investment therein of her four-sevenths interest in the joint bank account and in the Liberty bonds.

Judgment will be entered under Rule 50.


source: Caselaw Access Project

author: Leech:

license: Public Domain

text:
    Shelby H. Curlee, Trustee, Virgil P. Randolph Trust, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 48833, 54335.
    Promulgated July 27, 1933.

      F. M. Curlee, Esq., Stanley S. Waite, Esq., and Abraham Lower haupt, Esq., for the petitioner.

      C. H. Curl, Esq., for the respondent.
   OPINION.

Leech:

These two proceedings were not formally consolidated for hearing and decision, but were heard together. The facts were stipulated in one stipulation covering both cases. Accordingly, they will be disposed of together.

Petitioners seek redetermination of deficiencies in income tax of the Yirgil P. Randolph Trust for the calendar year 1926 in the amount of $10,280.39 under Docket No. 48833, and for the calendar year 1927 in the amount of $47,769.61 under Docket No. 54355.

We find the facts as set out in the formal stipulation filed by the parties in this proceeding, which is incorporated herein by reference. Briefly, Yirgil P. Randolph transferred on February 1, 1922, to the petitioner Shelby H. Curlee, as trustee, 865 shares of common stock of the Curlee Clothing Co. By the terms of the trust inden-' ture the trustor reserved no right to revoke the trust, which provided for the payment by the trustee to the trustor of “ all the income from said trust ” during the latter’s life and after his death to' his wife, son, and cousin. The interest of the son in the corpus was to be paid over to him, one half when he attained 30 years of age and the balance at 35 years of age.

The March 1, 1913, fair market value of the stock of the Curlee Clothing Co. so received by this petitioner was $200 per share. Of the 865 shares received, 852 had been acquired by Yirgil P. Randolph prior to March 1, 1913, and 13 shares were acquired by him in 1919 at a cost of $2,925. This last transaction involved only the stockholders of the Curlee Clothing Co. It was a ratable distribution of stock, and the price at which acquired bore no relation to the market value of the stock at that time.

At the date of the creation of the trust the common stock of the company consisted of 5,370 shares of the par value of $100 each. The preferred stock consisted of 2,500 shares of the par value of $100 each, which preferred stock was entitled to dividends at the rate of 7 percent per annum and no more, cumulative if not paid in any year. The surplus of the company amounted to $1,727,705.85 on September 30, 1921, the closing of its fiscal year preceding the date of the creation of the trust. The surplus of the company was $2,514,173.96 on September 30, 1922.

During the times hereinbefore mentioned and up to June 16, 1925, the Curlee Clothing Co. was operating as a Missouri corporation. On June 16, 1925, the authorized capital stock was 6,000 shares of common stock of the par value of $100 per share, of which 5,370 shares were issued and outstanding. On the last named date the capital stock of the company was $537,000, and its surplus was $4,605,118.51. All of this surplus was earned subsequent to March 1, 1913.

On June 16, 1925, the Curlee Clothing Co. was reorganized as a Delaware corporation. The reorganization was effected in the following manner and form: The Delaware corporation was organized under the name of Curlee Clothing Co., with an authorized capital stock of 6,000 shares of common stock without par value. On June 16, 1925, the Missouri corporation transferred to the Delaware corporation all of its assets. In consideration therefor the Delaware corporation assumed all of the obligations of the Missouri corporation and issued ratably to the stockholders of the Missouri corporation, share for share, the capital stock of the Delaware corporátion, aggregating 5,370 shares. The Missouri corporation was immediately dissolved. The Delaware corporation still exists and operates as Curlee Clothing Co. In the reorganization all of the net worth of the company, amounting to $5,142,118.51, was capitalized and was represented by the 5,370 shares of common stock without par value issued by the Delaware corporation. No surplus was entered on the books of the Delaware corporation, the net value of the assets received for its capital stock being reflected in the capital account, pursuant to the resolution of its board. As provided by the reorganization plan there were issued to Shelby H. Curlee, as trustee for Virgil P. Randolph, 865 shares of the capital stock of the Delaware corporation.

In January 1926, the Delaware corporation reorganized, reduced its capital stock and readjusted its capital structure under authority of a vote of its stockholders. By this reorganization the no par value common stock was retired and replaced by an issue of the same number of shares of common stock of a par value of $100 a share and 25,000 shares of preferred stock of a par value of $100 per share. As a result of this reorganization petitioner received in place of the 865 shares of no par value common stock held by him 865 shares of the newly authorized common stock and 4,026 shares of the newly authorized preferred stock and $57.50 in cash in lieu of a fractional share. The value of the newly authorized preferred stock when received by petitioner was $100 per share and the value of the common stock was $491.50 per share.

On January 1, 1927, the Curlee Clothing Co. redeemed one half the preferred stock outstanding, amounting to 12,500 shares, at the fixed redemption price of $105 per share and charged $100 per share to the capital account and the premium of $5 per share to surplus. On July 1, 1927, the company redeemed the remainder of its outstanding preferred stock at the same redemption price, which was similarly charged to capital and surplus.

The net income of the Delaware corporation from the date of its organization to September 30, 1926, amounted to $716,263.85, as shown by its books. It paid a dividend January 15, 1926, on the no par value common stock amounting to $107,400 and dividends on the new issue of preferred stock as follows: on April 1, 1926, in the sum of $43,645.75; on July 1, 1926, in the sum of $43,599.50; on October 1,1926, in the sum of $42,918.75; from November 1926, to January 3, 1927, amounts totaling $41,519.43; and from January 3, 1927, to and including July 1, 1927, amounts totaling $38,724.32. Its net income for the year ending September 30, 1927, as shown by its books, amounted to $551,615.35. On September 30, 1927, it credited to surplus the sum of $4,439.39, excess reserve and excess expenses charged in its accounts.

Tmmp.rlia.tp.ly after the reorganization and readjustment of capital in January 1926, the petitioner as trustee sold 225 shares of the new issue of common stock held by him for a cash consideration of $491.50 per share, and 240 shares of the new common stock he exchanged for 1,179 shares of the new preferred stock and $60 in cash. At the time of the redemption of this preferred stock in January 1927, petitioner as trustee held 400 shares of the common stock and 4,026 shares of the preferred stock of the Delaware corporation, which, with the 465 shares of common stock previously sold or exchanged by him, had been acquired in an exchange for the stock of the Missouri corporation through the reorganization above described. At that time he also owned 1,179 shares of preferred stock-acquired in exchange for common stock making his total holdings of preferred stock 5,205 shares. On January 3, 1927, 2,603 shares of this preferred stock were redeemed and on July 1, 1927, the remaining 2,602 shares were redeemed at $105 per share.

In determining the deficiency for 1926 respondent computed gain to petitioner upon disposition in that year of 465 shares of common stock of the Curlee Clothing Co., held by him in trust, upon the basis of the trustor, Virgil P. Randolph, fixing a March 1, 1913, value of $139,543 per share. Petitioner assigns error upon this determination, contending that the value of the stock on February 1, 1922, the date acquired by him under the trust instrument, is the proper basis for computing gain, but that in any event the March 1, 1913, value of the stock was in excess of $139,543 per share.

Respondent has treated the situation as one controlled by section 204 (a) (3) of the Revenue Act of 1926. It is petitioner’s contention that this section can not control as to a trust created prior to the effective date of the Revenue Act of 1924, because, he insists, the latter act, and not the Revenue Act of 1921, was the first enactment providing that the basis of the trustee for loss or gain under such facts as here exist should be that of the trustor.

This position is untenable, since section 202 (a) (2) of the Revenue Act of 1921 requires that upon the present facts the basis for the trustee shall be the same as for the trustor.

It is argued by petitioner that the transfer here in question was not a gift but a transfer in trust. We fail to see in the present ease a distinction. A gift effected by a transfer in trust is none the less a gift. Burnet v. Guggenheim,, 287 U.S. 587. The transfer here is without actual consideration in money or money’s worth to a trustee to hold for beneficiaries. To the beneficiaries it assuredly represented a gift within the purview of section 202 (a) (2) of the Revenue Act of 1921 and the holding of such gift in trust does not change its character or give to the trustee a different basis for computing gain or loss from that imposed upon the donee. In this case we can say, as did the court in Brewster v. Gage, 280 U.S. 327, that there is nothing in the act to indicate a purpose to establish different bases for the trustee and the beneficiary for computing gain or loss. In the present situation such interpretation would be more strained than the one there rejected, as it would assume a cost basis in the trustee of the value at the time received and force the beneficiary, upon distribution, to revert to the cost basis of the donor. New York Trust Co., Trustee, 27 B.T.A. 1127.

The retroactive provision of section 204 (a) (3) of the Revenue Act of 1926 to include transactions of this character subsequent to December 31, 1920, was therefore within the power of Congress to enact, since the rights under such transfers accrued with notice of the obligation assumed under existing law. Taft v. Bowers, 278 U.S. 470; United States v. Phellis, 257 U.S. 156.

Petitioner argues further that section 204 (a) (3) does not control as the last sentence of that paragraph excludes the present situation from its operation. The sentence in question reads:

* * * The provisions of this paragraph shall not apply to the acquisition of such property interests as are specified in subdivision (c) or (e) of section 402 of the Revenue Act of 1921, or in subdivision (c) or (f) of section 302 of the Revenue Act of 1924, or in subdivision (c) or (f) of section 302 of this Act.

The sections of the three revenue acts referred to in the quoted sentence are those defining the gross estate of a decedent for purposes of estate tax and the particular paragraphs mentioned are those including in the estate, interests which the decedent has transferred in trust, or otherwise, to take effect in possession or enjoyment at or after death, and property passing under general powers of appointment exercised by the decedent by will or deed executed in Contemplation of or to take effect in possession or enjoyment at or after death.

The present trust was irrevocable and the interests passing thereunder vested. No interest created was postponed or will take effect in possession or enjoyment at or after the trustor’s death and thus be subject to inclusion in his estate for purposes of estate tax. Burnet v. Northern Trust Co., 283 U.S. 782; May v. Heiner, 281 U.S. 238. Nor is there any fact or circumstance shown indicating the transfer to be one made in contemplation of death. The interests conveyed by the trust instrument are clearly not such as are excluded from the operation of section 204 (a) (3) by the last sentence of that paragraph.

We sustain respondent’s action in computing gain upon the disposition of common stock in 1926 upon the basis applicable to the trustor. Upon the issue as to the March 1,1913, fair market value of the stock, the parties have stipulated that such value was $200 a share. This value should be used in recomputing the deficiency for that year.

The issue raised in respect to the deficiency determined for 1927 is upon respondent’s action in treating the redemption of preferred stock in that year by the corporation as equivalent to the payment of a dividend within the meaning of section 201 (g) of the Revenue Act of 1926.

The facts are that petitioner in that year held 3,205 shares of the Curlee Clothing Co. Of this, 4,026 shares had been received, together with 865 shares of common stock of a par value of $100 per share, in exchange upon a recapitalization of the corporation, for 865 shares of no par value common stock. The balance of the preferred stock, or 1,179 shares, had been acquired in 1926 by petitioner in exchange for 240 of the 86’5 shares of common stock received by him in the aforesaid recapitalization. All of this preferred stock was redeemed by the corporation in 1927 at the fixed redemption price of $105 per share.

In applying section 201 (g), supra), one.test to be deduced from the decided cases is — where, from the time, manner and other circumstances of both the distribution of a stock dividend and its later redemption or cancellation, a relation between these events is found evidencing a continuing preconceived plan, the intent of which is to effect a distribution of corporate earnings accumulated since February 28,1918, freed from tax upon ordinary dividends, such distribution is to be “ treated as a taxable dividend ” and taxed as such. Henry B. Babson, 27 B.T.A. 859; Louis Rorimer, 27 B.T.A. 871; T. Pierre Ohampion, 27 B.T.A. 1312; Robert R. Meyer, 27 B.T.A. 4.4; Pearl B. Brown, Executrix, 26 B.T.A. 901; Annie Watts Hill, 27 B.T.A. 73; affd. 66 Fed. (2d) 45.

Let us apply this test to the facts disclosed by the present record, keeping in mind that the burden of proof is upon petitioner to establish an absence of design or artifice in the issuance of the preferred stock and its later redemption.

The record shows that in 1926 the corporation had a very large surplus accumulated subsequent to March 1, 1913. Early in the year 1926 it capitalized this by issuance of preferred stock. This issuance was effected by redemption of all of the no par value common stock and issuance in its place of the same number of shares of new common stock of a par value of $100 per share and 25,000 shares of preferred stock, distributed ratably to holders of common stock. The preferred stock so received represented a stock dividend. Pearl B. Brown, Executrix, supra. Twelve months later half of this preferred stock was redeemed at $105 per share, and the balance was similarly redeemed at the end of the next six months. The interval of time was comparatively short between the issuance and redemption of the stock dividend and its redemption was at the full redemption price, effecting a liquidation and distribution of the total amount of earnings allocated to this stock and $125,000 of additional earnings. In the absence of a reasonable explanation as to why this stock was so promptly redeemed, or facts tending to show an absence of connection between the issuance and redemption, petitioner failed, we think, to rebut the presumption of correctness with respect to the respondent’s determination. Annie Watts Hill, supra; Henry B. Babson, supra; Pearl B. Brown, Executrix, supra.

It is evident that if this issuance and later redemption were entirely disconnected transactions and there was no design on the part of the corporation in paying the stock dividend to liquidate it later and avoid tax liability for its stockholders, then the stock dividend was either issued through an error of business judgment, later realized, or conditions facing the corporation changed materially during the short period between issuance and redemption, making it unnecessary to retain in the business earnings which had been thought necessary to its operation twelve months before. If either of these conditions were responsible for the redemption, the necessary proof thereof was available to this petitioner. The facts must have been within his knowledge, as he was president of the corporation and occupied this position both at the time the stock was issued and later when it was redeemed.

However, on this question of the intent or purpose of the corporation the record is silent. There is no disclaimer on the part of corporate officers of design or artifice in the issuance or redemption of this stock to effect the distribution of earnings to the stockholders. There is no attempt on the part of petitioner to explain the reason for the prompt redemption.

It is true that petitioner has proved that subsequent to the issuance of the stock dividend certain of the large stockholders disposed of the issued stock and others, including petitioner, disposed of common stock. It is argued that this action is inconsistent with a plan on the part of the corporation conceived at the time of the issuance of the preferred stock later to redeem it. Aside from the fact that little weight could be attached to the acts of corporate stockholders as determining the matter of intent on the part of the corporation, we can not agree that these facts are necessarily inconsistent with a design on the part of the corporation in the issuance of this stock to redeem it the following year. We are not advised as to the price realized for the stock disposed of and, as far as we know, such sales may have been made with full knowledge on the part of the stockholder that the stock would be redeemed and the full redemption value then realized by him.

It is further contended by petitioner that, irrespective of the intent of the corporation in the issuance of the stock in question, its later liquidation can not be equivalent to the distribution of a dividend and consequently within section 201 (g), for to be a dividend it must be such both as to the corporation and to each stockholder. It is emphasized that in the present case at the time of liquidation many of the owners of common stock had sold their holdings and consequently the cash distributed to them on liquidation of their preferred stock could not represent a dividend on common stock which they no longer owned.

In the imposition of the tax by this section, as under its prototypes in varying refinements and limitations, occasioned by necessities of administration, constitutional restrictions and legislative desires, Congress imposed a tax upon certain corporate earnings, distributed by a redemption or cancellation of stock dividends by which these earnings had been capitalized. Cf. Henry B. Babson, supra; Pearl B. Brown, Exeawtrix, supra; Annie Watts Hill, supra. Although, certainly, the taxes are imposed upon' amounts so distributed in the hands of recipient stockholders, the distribution when thus effected is of corporate earnings, which can be and are distributed only by the corporation and not the stockholders, who are separate entities. Cf. Burnet v. Commonwealth Improvement Co., 287 U.S. 415. The taxable status of these distributions under the act, therefore, is fixed by the executed purpose of the corporation, in the determination of which the identity of the stockholders is in no way material. Under petitioner’s theory, a corporation with deliberate intent to distribute surplus, could issue a stock dividend, cause the holder of one share of common stock to sell it, then liquidate the stock dividend and be held outside the provisions of section 201 (g), a result in distinct opposition to the purpose of the questioned section. Cf. Henry B. Babson, supra. Furthermore, this theory assumes that the distribution must in fact meet the legal test of a dividend to fall within section 201 (g). If this were sound, that provision of the statute would be surplusage, as such a dividend would be taxable under other provisions. Cf. United States v. Katz, 271 U.S. 354. The purpose of this section is to tax distributions which effect a cash distribution of surplus otherwise than in the form of a legal dividend. Cf. Henry B. Babson, supra.

Upon the record, in so far as the redemption of 4,026 shares of preferred stock by petitioner in 1927 is concerned, we conclude the amount received for such shares is taxable as a dividend under section 201 (g), supra. Avery v. Commissioner, 22 Fed. (2d) 6; Bishoff v. Commissioner, 27 Fed. (2d) 6. As to the amount received upon redemption of the balance of 1,179 shares a different situation exists, as this stock was acquired by petitioner in 1926 in a transaction giving rise to gain or loss and the basis for computing the gain on this stock upon its redemption is its cost to petitioner when acquired, or $100 per share.

It follows that in redetermining the deficiency for 1926, the computation of gain upon the disposition in that year of common stock of the Curlee Clothing Co. by petitioner should be made without diminishing the cost of such stock by allocation of a proportionate amount to the preferred stock issued. Súch issuance was only an incident to the distribution of earnings. This stock can not be treated as capital for 1926 and distributed earnings for 1927. True, the circumstances attending the redemption or cancellation, as well as the distribution of the redeemed or canceled stock dividends, must satisfy the disputed provision, as stated. But when so satisfied, amounts thus received are impressed with the character and for the purposes therein specified as of the date of its distribution in the form of a stock dividend, although not taxable thereunder until the year of’ redemption. Cf. W. E. Guild, 19 B.T.A. 1186; James P. Gossett, 22 B.T.A. 1279. To hold otherwise would not only prevent petitioner’s recovery of capital but would throw wide the door to tax evasion, by permitting a corporation, with intent to distribute earnings, to issue a stock dividend which.is thereupon sold by the recipients to a third party for the anticipated redemption price, immediately redeem it and pay the proceeds to the stockholder as the purchase price of the stock. This result would likewise be repugnant to the purposes of the enactment. Cf. Henry B. Babson, supra.

Petitioner insists that the necessary result of a determination that the distribution of the stock dividend and its later redemption was equivalent to payment of a cash dividend is that the amount thereof would not be taxable to this petitioner, as it would then represent distributable income of the trust, taxable to the beneficiary, Yirgil P. Randolph, under section 219 (b) of the Revenue Act of 1926.

Income of the trust within contemplation of the trust instrument and taxable income are not one and the same. The income of the trust subject to distribution to the beneficiary is the current return upon the corpus received by the trustee and not the gains and profits realized upon a disposition of such corpus, although the latter constitute income of the trust subject to tax. We have decided, not that the liquidation of the stock dividend was income and therefore distributable under the terms of the trust agreement, but that, for the special purposes, only, of section 201 (g), supra, this stock dividend and liquidation shall be “ treated as a taxable dividend ” to the trust and therefore taxed as such. Cf. Pearl B. Brown, Executrix, supra. Its permissible deduction in computing the taxable net income of the trust depends, not upon its taxable status attaching by reason of 201 (g), but upon its character as “ income * * * which is to be currently distributed ” under the trust instrument authorizing the distributions. Hartford-Connecticut Trust Co. v. Eaton, 29 Fed. (2d) 840; affd., 36 Fed. (2d) 710; State Savings Loan & Trust Co., Trustee, 25 B.T.A. 228; affd., 63 Fed. (2d) 482. Without the interposition of section 201 (g), no serious argument could be made that this stock dividend, so received, constituted income and was therefore distributable as such under the trust. Robert v. Mercantile Trust Co. (Mo., 1929), 23 S.W. (2d) 32; Hayes v. St. Louis Union Trust Co. (Mo., 1927), 298 S.W. 91; 56 A.L.R. 1276. But this statutory provision in no wise changed the trust agreement or the intention of the trustor evidenced thereby. Cf. Butterworth v. Commissioner, 63 Fed. (2d) 944. There is no indication that the amount for which deduction is here claimed was considered or treated by the parties in interest as distributable income. So far as the purposes of the trust are concerned, the distribution represents merely what it was in fact, the distribution of a stock dividend and the subsequent redemption of such stock. Cf. Annie Watts Hill, supra. We conclude that petitioner is not entitled to deduct the taxable amount of the distribution under section 219 (b) .of the Revenue Act of 1926 in computing the net income of the trust for the calendar year 1927. Reviewed by the Board.

Judgment will be entered under Rule 50.,

Arundell dissents.

       Sec. 204 (a) (3). If the property was acquired after December 31, 1920, by a transfer in trust (other than by a transfer in trust by bequest or devise) the basis stíall be the same as it would be in the hands of the grantor, increased in the amount of gain or decreased in the amount of loss recognized to the grantor upon such transfer under the law applicable to the year in which the transfer was made. The provisions of the paragraph shall not apply to the acquisition of such property interests as are specified in subdivision (c) or (e) of section 402 of the Revenue Act of 1921, or in subdivision (c) or (f) of section 302 of the Revenue Act of 1924, or in subdivision (c) or (f) of section 302 of this Act.

       Sec. 202 (a) (2). In the case of such property, acquired by gift after December 31, 1920, the basis shall be the same as that which it would have in the hands of the donor or the last preceding owner by whom it was not acquired by gift. If the facts necessary to determine such basis are unknown to the donee, the Commissioner shall, if possible, obtain such facts from such donor or last preceding owner, or any other person cognizant thereof. If the Commissioner finds it impossible to obtain such facts, the basis shall be the value of such property as found by the Commissioner' as of the date or approximate date at which, according to the best information the Commissioner is able to obtain, such property was acquired by such donor or last preceding owner. In the case of such property acquired by gift on or before December 31, 1920, the basis for ascertaining gain or loss from a sale or other disposition thereof shall be the fair market price or value of such property at the time of such acquisition.

       Sec. 201 (g). If a corporation cancels or redeems its stock (whether or not such stock was issued as a stock dividend) at such time and in such manner as to' make the distribution and cancellation or redemption in whole or in part essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock, to the extent that it represents a distribution of earnings or profits accumulated after February 28, 1913, shall be treated as a taxable dividend. In the case of the cancellation or redemption of stock not issued as a stock dividend this subdivision shall apply only if the cancellation or redemption is made after

       Sec. 219 (b). Except as otherwise provided in subdivisions (g) and (h), the tax shall be computed upon the net income of the estate or trust, and shall be paid by the fiduciary. The net income of the estate or trust shall be computed in the same manner and on the same basis as provided in sec. 212, except that—
      v * • * * * * *
      (2) There shall be allowed as an additional deduction in computing the net income of the estate or trust the amount of the income of the estate or trust for its taxable year which is to be distributed currently by the fiduciary to the beneficiaries. * * *


author: Goodrich :

text:
    Vonnegut Hardware Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 44940.
    Promulgated July 28, 1933.

      H. A. Mihills, C.P.A., for the petitioner.

      R. W. Wilson, Esq., and S. B. Anderson, Esq., for the respondent.
   OPINION.

Goodrich :

Respondent has disallowed as a deduction from income for 1925 the amount of $48,123.26, claimed by petitioner as a loss sustained upon the liquidation of the Lilly Hardware Co., the stock of which petitioner purchased at the initial price of $230,000, which was later reduced by cash refunds from the vendors totaling $31,867.83, and the transfer of various securities valued on the Lilly Co.’s books at $10,150. As counsel for respondent presented no evidence, made no statement of his case and filed no brief, the record makes no disclosure respecting the reason for respondent’s action nor the ground of his defense, beyond a brief statement in the deficiency notice that he relies upon article 292 of Regulations 69. In our opinion, the cited authority is not applicable to the case.

It seems clear that this transaction — the purchase of the stock of the Lilly Co., immediately followed by liquidation and distribution of the corporate assets — is one upon which gain or loss is to be recognized. Burnet v. Aluminum Goods Mfg. Co., 287 U.S. 544; Riggs Nat. Bank, 17 B.T.A. 615; affd., 57 Fed. (2d) 981: Gamed- Commercial Nat. Bank, 22 B.T.A. 541; affd., 63 Fed. (2d) 619; Warner Co., 26 B.T.A. 1225.

Section 201 (c), Revenue Act of 1926, provides that amounts distributed in complete liquidation of a corporation shall be treated as in full payment in exchange for the stock. Cf. Henry B. Babson, 27 B.T.A. 859. Where, as here, property is received in such a disti'ibution, under the provisions of section 202 (e) of the same act-, the amount realized upon the distribution is the fair market value of the property. Robert Jemison, Jr., 3 B.T.A. 780; George Theis, Jr., 3 B.T.A. 1030; Joseph Joseph, 6 B.T.A. 595; Alice M. Hastings, 8 B.T.A. 670; M. S. Engleman, 8 B.T.A. 1289; R. A. Patout, 10 B.T.A. 1357; H. E. Bullock, 12 B.T.A. 51; Ben Stocker, 12 B.T.A. 1348; Romie C. Jacks, 19 B.T.A. 559; G.C.M. 621, V-2 C.B. 5. While it is true that the Lilly Co. was not immediately dissolved, that fact did not prevent its liquidation, for after its stock was purchased by petitioner its regular business terminated and its existence was continued for the restricted necessity of proceedings for the collection of its outstanding accounts. Fred T. Wood, 27 B.T.A. 162, and cases there cited. The question then becomes, What was the fair market value of the assets of the Lilly Co. at the time acquired by the petitioner through liquidation?

We are satisfied that this value is accurately reflected by petitioner’s records. The proof is that the values placed on various items of equipment and merchandise inventory were determined by men competent to adjudge thereof after examination of the assets, and reference to price lists, and that the value placed on the accounts receivable was determined cooperatively by the credit managers of the two concerns, who were informed as to the details of the accounts and the financial circumstances of the customers. Petitioner has .met the burden of substantiating its determination of the fair market value of the assets received by it in the liquidation and they should be used in determining' the loss sustained therefrom. Moreover, we are convinced that no part of the consideration for the stock of the Lilly Co. may be assigned to the purchase of good will, or to effecting the elimination of a competitor. The evidence concerning the operations of the Lilly Co. discloses that it had no good will of value; that because of the divergence in the character of the business of the two concerns the Lilly Co. did not seriously compete with petitioner; and that very little additional business was gained by petitioner as a result of the cessation of the Lilly Co.’s operations.

However, the loss upon this transaction as computed and claimed by petitioner must be reduced in the amount of $10,150, representing the book value of the securities transferred to it by the Lilly Co.’s stockholders in reduction of the purchase price, for, while there is some indication that these securities were not worth that amount, there is no evidence from which we can determine what their correct value was at that time and, perforce, we must accept the value reflected by the records of the Lilly Co. and recited in the memorandum of final settlement between the parties. These securities were not included in petitioner’s account of the transaction. They should be so included, with the result that the cost of the stock is further reduced in the amount of $10,150 and the loss sustained upon the liquidation is reduced to $37,973.26, which should be. deducted from petitioner’s income for the year 1925.

Our conclusion respecting the value of the securities in the transaction necessarily disposes of petitioner’s contention that $4,000 realized upon sale of a part of them in 1926 should not be included in income for that year, in accordance with its return. Perhaps' a part of the sum so realized is a return of capital, but there is no evidence of record from which we can make such a determination. Therefore, for failure of proof, we hold that respondent was not in error in including in petitioner’s income for 1926 the full amount realized of $4,000.

Judgment will be entered under Rule 50.


author: Seawell:

text:
    E. G. Robinson, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 50302.
    Promulgated July 28, 1933.

      Robert T. Jacob, Esq., for the petitioner.

      Owen W. Swecker, Esq., for the respondent.
   OPINION.

Seawell:

The respondent determined a deficiency in income tax of $3,597.28 against the petitioner for the year 1927. In an amended answer be prays to have petitioner’s taxable income for tbat year increased in tlie amount of $3,638.27, due to the petitioner’s alleged failure to report the entire proceeds from the sale of the stock of the Molalla Electric Co. during the year 1927.

The petitioner assigned two errors: (1) That the respondent failed or refused to compute the tax upon the profit realized from the sale of aforesaid stock upon the installment basis, and (2) that the respondent further erred in not giving petitioner “ credit as a part of the cost in the form of paid-in surplus and for salary credited to this petitioner and' not drawn by him.”

The petitioner, a resident of Portland, Oregon, acquired in 1917 all the stock of the Molalla Electric Co. at a cost of $45,000 and shortly thereafter took full control of the corporation, being made president and general manager of the same at an authorized salary of $250 per month, which in 1921 was increased to $300 per month. In none of the years from 1917 to 1926, inclusive, with the exception of 1925, did the petitioner draw all the salary to which he was entitled. During the years following he withdrew on salary account as follows: in 1917, $1,918.95; 1918, $1,535.16; 1919, $903.90; 1920, $1,286.53; 1921, $2,830.85; 1922, $2,800; 1923, $2,785.87; 1924, $2,931.26; 1925, $3,979.60; and 1926, $3,325.08. During 1917 to 1921, inclusive the petitioner filed no income tax returns.

The boobs of the Molalla Electric Co. are lost. What additional light might be thrown on the issues herein by such books, if in evidence, is not fully disclosed by the record. No dividends were ever paid by the Molalla Electric Co. During the year 1923 the petitioner sold certain real estate for $1,400, and he testified that the amount was paid into the Molalla Electric Co. and used as its funds. Life insurance money ” in the amount of $1,598.22, owned by petitioner, was similarly used for and by said company, but in what year is not shown.

Before 1926 the petitioner kept no special account for himself, Money was put in bank and drawn out to pay the company accounts, the petitioner treating the company as his individual holding and not as a corporation.

In February 1927, petitioner sold the stock of the Molalla Electric Co. to the Portland Electric Power Co. for $87,500, and received $17,500 cash; four notes totaling $17,500, due March 1, 1928; four notes totaling $17,500, due March 1,1929; four notes totaling $17,500, due March 1, 1930; and four notes totaling $17,500, due March 1, 1931. During the year 1927 petitioner purchased some real estate and traded the eight notes due March 1, 1928, and March 1, 1929, in the amount of $35,000, in on the property, which had a value at the time of $45,000. The parties who accepted the notes on a $35,000 valuation insisted that petitioner endorse them as follows:

Por value received I hereby guarantee payment of the within note, consent to any extension of time granted the maker, and waive protest, demand and notice of non-payment thereof, and in case suit or action is instituted upon this guaranty for the collection of the within note I promise to pay such sum as the court may adjudge reasonable as attorney’s fees in such suit or action.

The notes were so endorsed.

The first error assigned — the failure of the respondent to compute the tax upon the profit realized from the sale of aforesaid stock upon the installment basis — the petitioner admits appears to be concluded against him by the Board’s decision in E. E. Chapman, 19 B.T.A. 878, unless the determination therein is erroneous, which petitioner earnestly insists is a fact.

The facts and circumstances in the Chapman case, supra, and the instant case are so similar that there is not, in our opinion, any important or material difference that would make inoperative the principle applied in the Chapman case. The determination therein, being in our opinion correct and sound, is controlling herein on the issue now being considered and there is therefore no occasion or necessity for fully discussing the question and reviewing the authorities cited by petitioner’s counsel.

The record shows that when the petitioner disposed of his- Molalla Electric Co. stock in 1927 for $87,500, he received therefor $17,500 in cash and notes in the amount of $70,000. It is further shown that the petitioner within the same year or taxable period purchased real estate of the value of $45,000 and in part payment for said property transferred eight of aforesaid notes, which were accepted by the seller at their face value as $35,000 cash, with the result that petitioner received in that taxable period the aforesaid $17,500 in cash and real estate or interest therein of the value of $35,000, the two constituting an “ initial payment ” within the meaning of section 212 (d) of the Revenue.Act of 1926.

The petitioner, having in said taxable period received in cash and property as initial payment more than one fourth the price at which he sold his Molalla Electric Co. stock, is not entitled, in our opinion and we so determine, to have his tax on the profit computed on the installment basis, as contended by him.

We are further of the opinion and hold that the refusal of several banks to purchase or discount the notes received by petitioner in part payment for his stock and the refusal of the seller of the real estate to petitioner to accept any of said notes at their face value as so much cash unless they were endorsed and their payment guaranteed by petitioner does not show that the notes were not worth their face value. The petitioner testified he. thought the notes were good and would be paid at their maturity, otherwise he would not have accepted them. There is no evidence indicating they were not paid at maturity. . ■

When a taxpayer endorses with recourse and guarantees payment of a note, he is not thereby relieved from reporting the full amount received in exchange for the note. Packard, Cleveland Motor Co., 14 B.T.A. 118.

The petitioner’s second and only other assignment of error is that the respondent did not give petitioner credit, as a part of the cost- of his Molalla Electric Co. stock, in the form of paid-in surplus and for salary credited to but not drawn by him.

In the brief filed in petitioner’s behalf it is insisted that, as he owned the Molalla Electric Co., the $1,400 which he received from the sale in 1923 of certain property and the $1,598.22 which he received from a life insurance policy, both sums being paid or contributed to that company from his personal funds and not returned to him in dividends or otherwise, the total amount thereof, $2,998.22, should be added to and considered a part of the original cost of his aforesaid stock. The petitioner likewise contends that undrawn portions of his salary, covering approximately 1917 to 1927, inclusive, and amounting to $10,202.80, should also be treated as a part of the cost ($45,000) of the stock and the aggregate amount, $58,201.02, should in the circumstances of the case constitute the correct cost of said stock, which was sold in 1927 for $87,500. The record, however, does not, in our opinion, justify the claims made by the petitioner.

The petitioner admitted he filed no income tax returns for 1917 to 1921, inclusive, and thereafter his personal income was reported on the basis of actual receipts and disbursements and did not include the undrawn portions of his salary.

The petitioner was required to make and did make reports for the Molalla Electric Co. to the Public Utilities Commission of Oregon, and the same are in evidence but do not show that the $1,400 received by the petitioner from the sale of certain real estate in 1923 or the $1,598.22 which he received from a life insurance policy were invested in the business of the Molalla Electric Co. The evidence also fails, as before stated, to disclose the year in which the petitioner received the $1,598.22 from a life insurance policy or paid same to the Molalla Electric Co. An analysis of the surplus of the Molalla Electric Co., based on reports made to the public utilities commission and other available evidence in the case, while not as satisfactory as might be desired, does indicate that instead of the petitioner furnishing additional capital to the Molalla Electric Co. during the years 1922 to 1926, inclusive, there was for such period an actual withdrawal from the capital of the company.

The respondent seeks through an amended answer to have petitioner’s net income for 1927 increased $8,638.27 because of the alleged failure of the petitioner to report the entire proceeds from the sale of his Molalla Electric Co. stock. To sustain such allegation respondent adduced certain evidence tending to show that in addition to the $87,500 aforesaid the petitioner received as "a part consideration for the sale of his stock various amounts aggregating more than $3,000. The evidence relative to such allegation of respondent, however, is confusing and conflicting and upon the whole does not, in our opinion, sufficiently sustain respondent’s assertion.

After carefully considering the entire record, we find and hold that the net sale price of petitioner’s Molalla Electric Co. stock' was $87,500, and that the petitioner realized a profit or gain of the difference between that amount and what we find and hold was the cost of such stock; viz., $45’,000.

We are, therefore, of the opinion that the respondent did not err in his original determination of the deficiency and the same is approved.

Judgment will he entered for the respondent.


author: McMahon : Adams,

text:
    Highway Trailer Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 44568.
    Promulgated August 1, 1933.

      R. M. Stroud, Esq., for the petitioner.

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

       See see. 234 (a) (4), Revenue Acts of 1921, 1924 and 1926; sec. 200, Revenue Acts of 1924 and 1926; Rept. 276, 67th Cong., 1st sess., Senate Committee on Finance, pp. 14 — 16, 19; Rept. 398, 68th Cong., 1st sess., Senate Committee on Finance, pp. 10 — 11; Regulations 62, 65 and 69, arts. 141 and 561; and Douglas County Light & Water Co. v. Commissioner, 43 Fed. (2d) 904.

   OPINION.

McMahon :

The only question to be determined is in what taxable year or years is the petitioner’s loss deductible under the provisions of the applicable statutes which provide for the allowance of deductions in the computation of net income, of corporations for “losses sustained during the taxable year and not compensated for by insurance or otherwise.”

In reading this language of the statutes and in its application, the scope and purpose of the revenue acts must be borne in mind. As stated in Lucas v. American Code Co., 280 U.S. 445, relied upon by petitioner: “ Generally speaking, the income tax law is concerned only with realized losses, as with realized gains.”

Such being the case, the statute applicable here refers to realized losses not compensated for by insurance or otherwise.

The respondent contends that a loss is deductible during the taxable period when the event occurs which gives rise to the loss. But the occurrence of the event merely initiates or gives rise to the loss. Something more is necessary. A loss cannot be said to be sustained by the mere happening of an event which eventually may or may not result in a loss. Upon the happening of such event there is merely a possibility of a loss. Since taxes can only be computed in dollars and cents, the extent or amount in dollars and. cents of the loss, and whether such amount is compensated for in whole or in part must be determined with reasonable certainty before the loss is completely established so as to permit its deduction.

The Board in Pike County Coal Corp., 4 B.T.A. 625, determined that a loss resulting from a fire occurring in 1918 was deductible in 1919 where the taxpayer, believing that the property would not be a total loss, proceeded in good faith to determine the loss which it had actually sustained by returning it for repair to those who were in a position to best judge the extent of the damage. The Board, in its opinion, stated:

The statute [sec. 234 (a) (4) Bev. Act, 1918] contemplates that a deduction shall be allowed when a loss has in fact and in truth been sustained, and the establishment of the loss is a question of fact in each case and may not always depend upon the happening of any particular event. In order to have been .in a position to claim a deduction in 1918, the taxpayer- would have been required to Justify, with at least some degree of accuracy, the amount of the loss; otherwise the deduction from gross income for 1918 would have represented a, mere guess, in all probability, unjust either to the Government or to .itself. [Italics supplied.]

In Allied Furriers Corp., 24 B.T.A. 457, relied on by petitioner, the question presented for determination was whether the taxpayer was entitled to deduct from income in 1928 the amount of a loss resulting from a theft of goods in 1925, where the taxpayer was protected by burglary insurance and where the Supreme Court of the State of New York decided in 1928 that taxpayer was not entitled to recover the loss from the insurer. The Board stated in its opinion as follows:

This Board and the courts have held that where fire, embezzlement or other casualty occurs and is covered by insurance or otherwise, no deduction can be claimed for the year of the casualty, but that it is allowable for the year when the claim for compensation thereof is settled.
;|s >* * ' 4: * * *
The facts in the instant case show that in 1925 the petitioner was protected by an insurance policy against any loss from burglary. It could not reasonably have claimed any loss in its 1925 return from burglary. From its standpoint it was covered by insurance. When the insurer refuséd to pay the loss, the petitioner in good faith brought suit against it for the recovery of the loss. Lhe loss was sustained when the court held that the insurance company was not liable for the amount thereof. In a very practical sense the loss was sustained in 1928.- [Italics supplied.]

See Allied Furriers Corp., supra, for other, supporting authority and discussion.

Furthermore, the United States Supreme Court in Lucas v. American Code Co., supra, stated that:

* * * The general requirement that losses be deducted in the year in which they are sustained calls for a practical, not a, legal, test. [Italics supplied.]

The above principle was reiterated by the United States Supreme Court in Burnet v. Huff, 288 U.S. 156, as follows:

* - * * * 4c 4c 4c
We find it unnecessary to discuss the question whether Huff was bound to make good .the amount taken from the funds of the association by his co-partner. We may assume that he was. But the mere existence of liability is not enough to establish a deductible loss. * * * And whether a taxpayer will actually sustain a loss through embezzlement of trust funds of which he is trustee will depend upon a variety of circumstances. If there is liability on his part for the misappropriation, it does not create a certainty of loss, as the defalcation may be made good by the one who caused it, or the liability of the taxpayer may be enforced only to a limited extent or not at all. The requirement that losses be deducted in the year in which they are sustained calls for a practical test. The loss “ must be actual and present.” Weiss v. Wiener, 279 U.S. 333, 335; Lucas v. American Code Company, supra; Eckert v. Burnet, 283 U.S. 140, 141, 142.

In the instant proceeding a fire occurred in the fiscal year 1921. During the fire the electric power was shut off for forty five minutes and during that time the fire gained such headway that it destroyed considerable properly. The petitioner believed that the shutting off of the power was due to the negligence of an employee of the Electric Co. and that as a result of such negligence it suffered a-greater loss from the fire than it would have had it not been for such' negligent acts. It believed that it was entitled to recover damages from such company to recompense it for all or part of the loss not compensated for by insurance. Petitioner did not accrue the net loss,- or the loss not compensated for by insurance, on its books of account, but carried it as an asset, which account was in the nature of -an account receivable, the amount of which was not determinable or certain at the time, but which it set up in the amount of the loss not compensated for by insurance. Such amount could not.be determined with any degree of certainty of accuracy until the cause of action was disposed of by final judgment or compromise and settlement. The petitioner brought suit against the Electric Co. When the lower court sustained the demurrer to its complaint interposed by the Electric Co.,- the petitioner appealed to the state supreme court, the court of last resort. The course of events show that, although it was finally unsuccessful, there was some justification .for its belief that it had a cause of action against the Electric Co., as- the state supreme court reversed the order of the lower court sustaining the demurrer of the Electric Co., and, upon trial of the action, judgment, in the amount of $47,703.48, was rendered in favor of the petitioner.

The respondent argues that if the petitioner is allowed to take deduction in 1924 and 1925, the effect will be to give parties a latitude as to the years in which they will take deductions and that a taxpayer might institute a tort action and abandon the same in a year when it would be most advantageous to take the deduction, or such action might be instituted in the absence of hope of recovery to keep from being compelled to take the loss in the year of its occurrence. However, we are not concerned with suppositions and hypothetical questions. No question of fraud has been raised, in fact no question has been raised as to lack of good faith on the part of the petitioner in bringing suit or otherwise. The bringing of a tort action to recover damages to determine a deductible loss affords no greater “ opportunity for juggling so facile and so obvious ” than an action for damages on breach of contract. Allied Furriers Corp., supra. See Douglas County Light & Water Co. v. Commissioner, supra.

In Lucas v. American Code Co., supra, taxpayer also made claim for a refund of taxes based upon its failure to deduct from its 1919 gross income the amount for which judgment was recovered against it in 1922, on a contested liability for a breach of contract in 1919. The court held that the loss was not deductible in 1919 when the breach occurred, in view of the fact that the liability for breach was denied-and strenuously contested and the amount of damages, if any, was wholly unpredictable.

See also Lewellyn v. Electric Reduction Co., 275 U.S. 248, in which case the United States Supreme Court held that a loss was not deductible in 1918, in which year the terms of a contract were breached by the seller, where it appeared that the taxpayer did not charge off the loss on its books in 1918 and continued to carry such item in a bills receivable ” account, did not claim any loss in 1918 on its return for that year, and instituted three suits, (1). against the seller, in which judgment was secured in 1919, which remains unsatisfied; (2) against a certain broker, wherein judgment was rendered in favor of the broker in 1922; and (8) against certain bankers, which was discontinued in 1921 as useless as such bankers had been adjudicated bankrupt.

In Lucas v. American Code Co., supra, the Court, referring to the Lewellyn case, stated that “ The case at bar is in principle more like Lewellyn v. Electric Co. * * * ”

The respondent cites Lewellyn v. Electric Reduction Co., supra; Lucas v. American Code Co., supra, and Dresser v. United States, 55 Fed. (2d) 499. However, those cases, in our opinion, do not support the position taken by the respondent here. In each of these cases the deduction of the loss was not allowed in the year in which the event occurred which gave rise to the loss. In Lucas v. American Code Co., supra, the breach of the contract occurred in 1919. The breaking of the contract was the act which gave rise to the loss claimed. The Court stated:

Obviously, tbe mere refusal to perform a contract does not justify the deduction, as a loss, of the anticipated damages. For, even an unquestionable breach does not result in loss, if’the injured party forgives or refrains from prosecuting his claim. And, when liability is contested, the institution of -a suit does not, of itself, create certainty of loss.

In Lewellyn v. Electric Reduction Co., supra, a breach of contract in 1918 gave rise to the claimed loss,- but the Court stated:

But we do not think that á loss resulting from a buyer’s prepayment to a seller- who proves to be irresponsible is necessarily sustained, in the statutory meaning, as soon as the money is paid. The statute was intended to apply ndt only to losses resulting from the physical destruction of articles of value but to those occuring in the operations of trade and business, where the business man has ventured on a course of action in the reasonable expectation that the promised conduct of another will come to pass. Not only the future success of the business but its present solvency depends on the probable accuracy of his prophecy. Only when events prove the prophecy to have been false can it he said that he has suffered.

In Dresser v. United States, supra, taxpayer claimed á loss in 1919 on certain stock of a corporation, which was in -the process of liquidation. The expiration of the corporation’s charter, which made necessary its liquidation, was- the event- which gave rise to the loss claimed. However the court stated

The statute allows the deduction of a loss when it has been sustained, and we thinlc it is the olear purpose of the act to allow the deckiction in the year in which it may appear that the taxpayer received from the property all that it is possible for him to receive. * * * [Italics supplied.]

As in most, if not all, general rules, there is an exception. In Lucas v. American Code Co., supra, the Court called attention to the exception to the general rule applicable in the deduction of losses, as follows:

Exception is made, however, in the case of losses which are so reasonably certain in fact and ascertainable iml amount as to justify their deduction in certain circumstances, before they .are absolutely realized.

Such exception to the general rule is well illustrated in Martin Veneer Co., 5 B.T.A. 207. In that case the fire occurred on December 30, 1919, and the building and merchandise were destroyed before midnight of December 31,1919. The insurance was paid on January 28, 1920. The taxpayer claimed that it sustained the loss in 1920, but the Board held that the loss was not deductible in 1920. In this Martin Veneer Co. case there was no controversy with the insurance company or anyone else as to the right to be compensated “ by insurance or otherwise.” No claim; for compensation was made against anyone except the insurance company and no litigation was instituted against anyone. Obviously that case is distinguishable from the instant proceeding.

Apparently in citing Lucas v. American Code Co., supra, it was the purpose of the respondent to show that this proceeding is within the exception to the general rule. However, the facts as established in this proceeding bring it within the general rule and not within the exception.

In this proceeding it appears that the petitioner did not appeal from the judgment of the trial court. Such court rendered a judgment in the amount of $47,403.48 in favor of the petitioner. The total loss not compensated for by insurance was $165,739.74. However, the Electric Co. appealed from the judgment of the trial court on the ground that on the facts as found by the jury and as established by the evidence no cause of action had been established against it. The appeal on such ground could only result in an affirmation of the judgment of the trial court by the state supreme court, the court of last resort, or a reversal of the judgment of the trial court and the dismissal of the action. Therefore the loss to the extent of the judgment of the trial court in the amount of $47,403.48 remained uncertain and. undetermined until the decision of the supreme court on the appeal. However, since the petitioner did not appeal from the decision of the trial court, the loss to the- extent of the difference between the amount of the loss, not compensated for by insurance, of $165,739.74 and the amount of. the judgment rendered in the lower court of $47,403.48, or $118,036.26, was made certain and established in the fiscal year 1924 when the trial court rendered judgment and the petitioner did not appeal therefrom. Since the loss in the instant proceeding was made certain, definite and final to the extent of $118,036.26 in the fiscal year 1924, that portion of the loss should be deducted from gross income in such fiscal year. The state supreme court reversed the trial court and remanded the case with instructions to dismiss the complaint in the fiscal year 1925. Since by such decision the ^petitioner was unable to recover the $47,403.48, the amount of the judgment rendered by the trial court in its favor, and such decision was final and conclusive as to this item, the amount of $47,403.48 should be deducted from gross income in the fiscal year 1925. Allied Furriers Corp., supra; Missouri Valley Bridge & Iron Co., 14 B.T.A. 1162; Lucas v. American Code Co., supra; Lehigh & Hudson River Ry. Co., 13 B.T.A. 1154; affd., Lehigh & Hudson River Ry. Co. v. Commissioner, 38 Fed. (2d) 1015; certiorari denied, 281 U.S. 748; Consolidated Tea Co. v. Bowers, 19 Fed., (2d) 382; Central Trust Co., 13 B.T.A. 924; affd., Central Trust Co. v. Burnet, 45 Fed. (2d) 922.

In Missouri Valley Bridge & Iron Co., supra, the Board stated as follows:

When the Court of Claims rendered its judgment adverse to the petitioner and the petitioner declined to appeal therefrom, its claim for any further compensation or payment under the contract became completely and finally adjudicated and foreclosed and the loss on the contract became final and complete at that time, if not before.

In Consolidated Tea Co. v. Bowers, supra, where it appeared that an appeal, decided in 1921, was taken from the judgment of the trial court rendered in 1919, the court stated:

From a tax income standpoint, both logical and practical, reasons seem to me to support the conclusion that a loss should be deductible, not in the year when the judgment was rendered, but in the year when the claim was adjudicated to be final and definite, or possibly, under certain circumstances, in the year when the. claim originated.

In Lucas v. American Code Co., supra, it was held that the loss was not realized or sustained in the year in which the decision of the court of original jurisdiction was rendered, where an appeal

was taken to an intermediate court and from there to the court of last resort.

Keviewed by the Board.

Decision will Toe entered under Bule 50.

Morris, Murdock, and Matthews dissent.

Adams,

dissenting: I am unable to agree with the opinion of the majority of the Board, and therefore file this, my

The facts were stipulated and are set out in detail in the majority opinion, to which reference is made.

Petitioner, a Wisconsin corporation, during the year 1921 had certain of its properties destroyed by fire. Petitioner contended that the Janesville Electric Co. was responsible for a great part of the loss by reason of ,its acts of negligence, and in the year 1921. brought an action in the circuit court against that company for damages. A demurrer was sustained by the court to plaintiff’s petition, from which ruling plaintiff, petitioner herein, appealed to the Supreme Court of Wisconsin, where the order sustaining the demurrer was reversed in 1922.

Afterwards, the case was tried before a jury in the circuit court, the trial resulting in a verdict and judgment for petitioner in the sum of $47,703.48. Judgment was entered in 1924.

The Janesville Electric Co. appealed from this judgment and in 1925 such judgment was reversed by the Supreme Court- of Wisconsin and the action was dismissed.

On March 16, 1929, the Commissioner issued a deficiency notice addressed to the petitioner, and in a statement attached thereto, said: “It is held that a deduction of loss by fire is allowable in the year during which the property was destroyed. * * * ”

The Commissioner found a deficiency for the years 1924, 1925, and 1926 in the sum of $16,184.72. Prom this finding, petitioner filed with the Board of Tax Appeals its petition for a redetermination of the deficiency, and as a basis for its proceeding, alleged, among other things:

The Commissioner of Internal Revenue erred in holding that the uninsured fire loss amounting to $166,739.74 growing out. of a fire which occurred in the taxpayer’s manufacturing plant on July- 4, 1921, could be deducted only in the year 1921, and might not be taken as a deduction in subsequent years when the liability for such loss was determined by the courts.

In his answer, the Commissioner denied the above allegation in petitioner’s pleading, and thus, this issue was joined.

The single question to be determined is, In what year did the deductible loss to petitioner occur ?

The Revenue Act of 1921 provides:

Sec. 234 (a) (4).'Losses sustained during the taxable year and not compensated for by insurance or otherwise; unless, in order to clearly reflect the income, the loss should in the opinión of the Commissioner be accounted for as of a different period. * * * [Italics supplied.]

The proper determination of this case depends upon the construction of the language of the act itself, and it turns upon the proper definition of-the word “compensated” and the proper application of the words “ compensated for ” as used in the act.

The rule of statutory construction is that words in ordinary use found in a statute should be construed according to their usual and ordinary meaning, and as commonly understood.

The Century Dictionary, a standard authority, gives, among other definitions of the word “ compensate ”, the following :

To make suitable return to or for, as for services, loss, etc.; give an equivalent or recompense to or for; requite;'remunerate, as, to compensate one for his services; to compensate one’s services.

It defines the word “ compensate ” as follows:

The act of compensating, the state of being compensated, or that which compensates; whatever makes good loss or lack, or counterbalances variation; payment; amends; especially, an equivalent in value or the like. [Italics supplied.]

Can it be said that one has been compensated for loss or injury who only has a claim against the one whom he asserts is responsible for his loss and such claim is denied ?

Can it be said that one is compensated for loss by having the right to litigate with his adversary, in which litigation he seeks to recover for his loss ?

Can it be said that one who enters into a contract by which another agrees to indemnify him for a loss, is compensated for such loss by such contract, when the other party repudiates it, claims that the same is. void for any reason and that no liability is on him ?

Can it be said that a disputed claim is such compensation as Congress intended when it used that word in the statute? I do not think so.

It seems to me entirely illogical to say that such a claim as the petitioner in this case had against the Janesville Electric Co. is such compensation as was contemplated by the Congress in passing this act.

If the rule laid down in the majority opinion is to control, then it becomes optional with the taxpayer to say in what year it will take its deductible loss. It was optional with the taxpayer as to whether it would prosecute its claim for damages against the Janesville Electric Co. Had it not done so,- then of course the loss would have been deductible in 1921. Having elected to file its suit in the circuit court, and the demurrer having been sustained by that court, it was optional with the petitioner then to appeal or not to prosecute its claim further. If it had not appealed, then the deductible loss would have accrued on that date.

The proceeding was appealed to the state supreme court, which court in 1922 reversed the decision of the circuit court and petitioner, at that time, might have abandoned the proceeding, in which event its deductible loss would have occurred in 1922. Afterwards, in 1924, trial of the case was had in the circuit court, as a result of which petitioner obtained judgment against the Janesville Electric Co. in the sum of $41,703.48. Had the Janesville Electric Co. been satisfied with this judgment, then the deductible loss would haye occurred during the year 1924, but being dissatisfied, the company appealed and the judgment was reversed by the Supreme Court of Wisconsin in 1925, after which the case was dismissed and the litigation ended.

Under the holding in the majority opinion, a part of the loss, amounting to $118,036.26-, was deductible in the year 1924 when the trial court rendered judgment and the petitioner did not appeal therefrom, and the remaining portion of the loss, $47,703.48, is held to be deductible in the year 1925, the supreme court having reversed judgment of the circuit court during that year.

It seems to me that the test applied in this case by the majority opinion is not a practical one. Taxation is a very practical matter, and in my judgment, problems of taxation should be solved with this in mind, looking always and being guided by not only the letter, but the spirit of the law.

If I may illustrate: The taxpayer has valuable property destroyed, for which loss he believes that he should recover from another. He says to the Government: My property has been destroyed; I wish to deduct that loss during the taxable year.” The Government says to him: “ No, you must pay the tax; you must litigate and when your litigation has been finally determined, then and not until then, may you take a deductible loss.” This, it seems to me, is the height of impracticability. In many instances, such a rule would result in injustice to the taxpayer and, in many instances, in injustice to the Government. I cannot believe that such result was. ever anticipated or intended by the Congress when the revenue acts were passed.

The majority opinion and the petitioner’s brief cite numerous cases, most of which I believe to be clearly distinguishable from the instant case. American Code Co., supra, is a case where the taxpayer, a corporation, had discharged one of its employees whose contract with the company provided for compensation on a commission basis over a long period of years. The company undertook to deduct as loss, for the year in which it discharged the employee, its speculative and prospective loss by reason of its liability growing out of the transaction. This was not permitted. It seems to me that this case has no reasonable application to the situation with which we are dealing.

The same can be said of many of the other cases cited in the majority opinion. The doctrine laid down in Allied Furriers Corp., supra, I believe to be erroneous.

In my judgment the reasoning of the cases from the United States Supreme Court cited in the majority opinion leads to the conclusion which I have reached here.

It is the object of the law to establish, as nearly as possible, rules by which rights and duties may be determined with certainty.

The purpose of the adoption of the Sixteenth Amendment to the Constitution is discussed by Mr. Justice Stone in the case of Burnet v. Sanford & Brooks Co., 282 U.S. 359, the applicable portion of the opinion being as follows:

The Sixteenth Amendment was adopted to enable the government to raise revenue by taxation. It is the essence of any system of taxation that it should produce revenue ascertainable, and payable to the government, at regular intervals. Only by such a system is it practicable to produce a regular flow of income and apply methods of accounting, assessment, and collection capable of practical operation. It is not suggested that there has ever been any general scheme for taxing income on any other basis. The computation of income annually as the net result of all transactions within the year was a familiar practice, and taxes upon income so arrived at were not unknown, before the Sixteenth Amendment. * * * It is not to be supposed that the amendment did not contemplate that Congress might make income so ascertained the basis of a scheme of taxation such as had been in actual operation within the United States before its adoption. While, conceivably, a different system might be devised by which the tax could be assessed, wholly or in part, on the basis of the finally ascertained results of particular transactions, Congress is not required by the amendment to adopt such a system in preference to the more familiar method, even if it were practicable. It would not necessarily obviate the kind of inequalities of which respondent complains. If losses from particular transactions were to be set off against gains in others, there would still be the practical necessity of computing the tax on the basis of annual or other fixed taxable periods, which might result in the taxpayer being required to pay a tax on income in one period exceeded by net losses in another. [Italics supplied.]

I construe this opinion to hold that the general scheme was that at the end of each taxable year the Government should be advised by the taxpayer as to the net result of his business for that year, thus forming a basis for the computation of income tax.

In my opinion, the proper construction of the statute and the regulations thereunder is that, where the taxpayer sustains a loss during the taxable year for which he does not receive payment or accept other character of settlement for his loss, he has not been compensated therefor during the taxable year; that he is entitled to such loss as deductible during that year, even though he has a claim against another which may either wholly or partially indemnify him for his loss.

In my opinion, revenue acts should not be rigidly or technically construed, but should receive a liberal construction which will do equity both to the taxpayer and the Government. However, when the language of the act is plain and is not susceptible of more than one construction, then it is the duty of those charged with the responsibility of construing such acts and applying them to construe and apply them as they are written. If such construction and application results in injustice, then it is for the Congress to determine whether the law should be changed.

I conclude that petitioner’s loss should have been deducted in 1921.

Van Fossan and Leech agree with this dissent.