author: Smith: Disney,

text:
    Harry T. Nicolai, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 93821, 98188.
    Promulgated October 9, 1940.

      George J. Perkins, Esq., for the petitioner.

      John E. Pigg, Esq., for the respondent.
   OPINION.

Smith:

The first question for our consideration is whether the petitioner is liable for income tax for 1935 in respect of the $2,475 income for 1935 of the trust which he created with the "West Coast National Bank on or about January 31, 1927, under his agreement with Bessie Nicolai on December 31, 1926, and on $9,735.30 of the income of the trust for 1936, which is the amount paid over by the trustee in 1936 to the beneficiary of the fund, Bessie O’Gorman. The respondent contends that the petitioner is liable for income tax upon the income of the fund under the provisions of section 167 of the Revenue Acts of 1934 and 1936. The material part of that section in each act provides as follows:

(a) Where any part of the income of a trust—
(1) is, or in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income may be, held or accumulated for future distribution to the grantor; or
(2) may, in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income, be distributed to the grantor; or
* * * # * * *
then such part of the income of the trust shall be included in computing the net income of the grantor.

The respondent also relies upon article 167-1 of Regulations 86 and 94, promulgated under the provisions of the Revenue Acts of 1934 and 1936, as amended by Treasury Decision 4860, Cumulative Bulletin 1938-2, p. 184, reading in part:

* * * If, for example, trust income is applied in satisfaction of the grantor’s legal obligation whether to pay a debt, to support dependents, to pay alimony, to furnish maintenance and support, or otherwise, such income is in all cases taxable to the grantor.

In his deficiency notice in Docket No. 93821 the respondent explains his reason for including in gross income of the petitioner for 1935 the $2,475 as follows:

* * * In Court Decision 1158 [Helvering v. Brooks (C. C. A., 2d Cir. 1936), 82 Fed. (2d) 173], cited in Cumulative Bulletin XV-2, page 242, it is held that where the taxpayer on June 4, 1930, created an irrevocable trust for the benefit of his wife who was suing for divorce, the trust instrument providing for payment to the wife during her life of a certain amount a year out of the trust income in settlement of their marital property rights, and the decree of divorce entered on June 5, contained no provision as to alimony or property rights, the trust income was used to discharge the legal obligation of the husband and hence was taxable to him. Accordingly, this trust income has been added to the income reported on your return.

Since these proceedings were heard the Supreme Court has handed down opinions in Helvering v. Fitch, 309 U. S. 149; Helvering v. Fuller, 310 U. S. 69; and Helvering v. Leonard, 310 U. S. 80. These cases elucidate the legal principle enunciated in Douglas v. Willcuts, 296 U. S. 1. In the Fitch case, the first to be decided, it was held that the income from a trust which the taxpayer had created for the benefit of his divorced wife was taxable to him under the doctrine of Douglas v. Willcuts, supra, in the absence of “clear, and convincing proof, * ⅛ * that the local law [Oregon] and the alimony trust have given the divorced husband a full discharge and leave no continuing obligation however contingent.”

The facts in Helvering v. Fuller, supra, in so far as the legal principle is concerned, are very similar to the facts in the proceedings at bar. Fuller transferred 60,380 shares of class A common stock of the Fuller Brush Co. on the books of the corporation from himself, personally, to himself as trustee; he retained personally an equal number of shares of the same class of stock. He delivered the certificate for the shares which had been transferred on the books to himself as trustee to a corporate trustee, together with a dividend order directing the corporation to pay the dividends to the corporate trustee and to be used for the maintenance and support of his wife, from whom a divorce was contemplated or, in case of her death, for her children. The trust was to continue for 10 years; at the expiration of the 10 years the stock was to be transferred to the wife outright. Fuller retained the right to vote the stock. In addition, he agreed to pay his wife $40 per week for a fixed period. During the trust period power to sell the stock was vested in Fuller, his wife, and the corporate trustee and could only be exercised in case the three agreed in writing. A divorce was granted in the State of Nevada; the settlement agreement was approved by the court, but the court retained no power to alter the decree or the settlement agreement. The husband was held liable for income tax upon the income of the trust fund to the extent of the $40 per week guaranteed but not upon the balance. The Supreme Court said:

* * * If respondent had not placed the shares of stock in trust but had transferred them outright to his wife as part of the property settlement, there seems to be no doubt that income subsequently accrued and paid thereon would be taxable to the wife, not to him. Under the present statutory scheme that case would be no different from one where any debtor, voluntarily or under the compulsion of a court decree, transfers securities, a farm, an office building, or the like, to his creditor in whole or partial payment of his debt. Certainly it could not be claimed that income thereafter accruing from the transferred property must be included in the debtor’s income tax return. If the debtor retained no right or interest in and to the property, he would cease to be the owner for purposes of the federal revenue acts. * * *

In Helvering v. Leonard, supra, the grantor of a so-called alimony trust, the husband, was held taxable on the trust income where the trust agreement imposed upon him a continuing obligation, although a contingent one, to support his wife, and where it was not shown by clear and convincing proof that the local law (New York) gave him a full discharge from such obligation. In its opinion the Court said:

Tlie trust agreement contains an express personal obligation of respondent in the form of a guarantee of payment of the principal and interest on $400,000 of the 6% bonds which were part of the trust corpus. To be sure, that personal obligation was contingent. But we do not deem that to be material. We recently stated in Helvering v. Fitch, supra, p. —, that under this statutory scheme escape from the rule of Douglas v. Willcuts, supra, may be had only on “clear and convincing proof” that “local law and the alimony trust have given the divorced husband a full discharge and leave no continuing obligation however contingent.” Whatever may be the correct view on the other aspects of the case, the guarantee was such a continuing obligation. The fact that the wife or other beneficiaries looked primarily to the trust and only secondarily to respondent for payment of $24,000 annually, the fact that respondent’s obligation might be enforceable by the trustee, the fact that respondent might never have to make good on his promise are beside the point. The existence of wholly contingent obligations, whether contractual or otherwise, is adequate to support the results reached in Douglas v. Willcuts, supra. * * *
* * * * * * $
* * * In Helvering v. Fitch, supra, we stated that where the divorced husband desires to avoid the general rule expressed in Douglas v. Willcuts, supra, he carries a distinct burden of establishing not by mere inference and conjecture but by “clear and convincing proof” that local law and the alimony trust have given him a full discharge. We do not think that respondent has sustained that burden.

The respondent submits that the trust income here in controversy was used to pay a legal obligation of the petitioner and is therefore taxable to petitioner, the grantor, under the rule of Douglas v. Willcuts, supra, in which it was held that the income of a trust created by the taxpayer providing for annual payments out of income to his wife in lieu of alimony, and any other interest in his property or estate, was taxable to the husband, the grantor, under the provisions of the Revenue Acts of 1926 and 1928. In that case the trust agreement was executed three days before the wife was granted a decree of absolute divorce in a District Court of the State of Minnesota, and the provisions of the trust agreement were approved by the court and incorporated in the decree. In holding that the trust income was used to pay a legal obligation of the taxpayer, the Supreme Court stated in part:

* * * The creation of a trust by tbe taxpayer as the channel for the application of the income to the discharge of his obligation leaves the nature of the transaction unaltered. Burnet v. Wells, supra. In the present case, the net income of the trust fund, which was paid to the wife under the decree, stands substantially on the same footing as though he had received the income personally and had been required by the decree to make the payment directly.

The legal principle enunciated in Douglas v. Willcuts, supra, has been applied by the courts and by the Board in many cases which have come before them. In the light of the recent decisions of the Supreme Court it would appear that the principle has been misapplied in some cases. As elucidated by the Supreme Court, it appears clear that where a husband in contemplation of divorce makes an absolute transfer to his wife of securities in full settlement of all of his marital obligations, the income from the securities thereafter received by his divorced wife is taxable to her. This is under the general principle that each individual is liable to income tax upon his own income. The; situation is not different where the husband creates an irrevocable trust and transfers to a trustee securities the income of which is to be paid to the wife for life, with remainders over. It is only where the divorced husband has a continuing obligation to support the wife, either by virtue of local law or by the terms of the trust agreement, that the divorced husband is liable to income tax in respect of the income. Apparently the United States Circuit Court of Appeals for the Sixth Circuit, in Commissioner v. Tuttle, 89 Fed. (2d) 112, properly interpreted the decision of the Supreme Court in Douglas v. Willcuts, supra. Beferring to that case it said:

* * * The settlement there provided for a specified payment* in money through the trustee to the wife. Payment was secured by the transfer of securities in trust. The transfer was but for security, however, since deficiencies were to be made up by the settlor and excess income was to be paid to him. Finality was not achieved by the agreement. Here the transfer, so far as it operates, is absolute. There is no guaranty of return, no obligation to make up deficiency, no reservation of excess income, no right retained to change or substitute securities. The wife definitely and finally accepted the income from a certain amount of property, whatever it might prove to be, in settlement of her claims to dower and other rights. There remained no continuing obligation on the part of the respondent for support and maintenance, no debt to be paid out of his income, either actually or constructively. Upon the creation of the trust the trustor’s obligations; to his wife under both the contract and the decree were fully and finally liquidated.

We first consider the question whether under the laws of Oregon the petitioner had any obligation for the support of his wife after the divorce. The respondent argues that, since Bessie Nicolai in her complaint for divorce pleaded: “That all property rights between plaintiff and defendant have been settled and that the plaintiff asks for no alimony, temporary or permanent, different or beyond the provision made for her in said settlement”, and that the divorce decree stated that the court had “considered the pleadings in this case”, the property settlement agreement between the petitioner and Bessie Nicolai was incorporated as a part of the decree. We think it manifest that there is no basis for this contention. The whole purpose of the agreement between the petitioner and Bessie Nicolai was to settle tbeir property rights without the intervention of the court. Although under the laws of Oregon the court could have granted alimony, it did not do so. No alimony was asked, no alimony was granted. The decree was a decree of absolute divorce, without any reference being made to alimony or any property settlement between the spouses.

The decree of the court severed the bonds of matrimony. Thereafter plaintiff and defendant were in the same legal position as though no marriage had ever existed between them. It is true that under the laws of the State of Oregon the divorced wife was not permitted to remarry within a period of six months, but that provision had nothing to do with the effectiveness of the decree.

Section 6-915, Oregon Code 1930, provides:

* * * At any time after a decree is given, the court or judge thereof, upon the motion of either party, shall have the power to set aside, alter or modify so much of the decree [of divorce] as may provide for the appointment of trustees for the care and custody of minor children, or the rmrture and/or education thereof, or the maintenance of either party to the suit; * * *

In the decree granted by the court there was no part of the decree which provided for the appointment of trustees for the care of minor children or the nurture or education thereof, or the maintenance of either party to the suit. In Saurman v. Saurman, 131 Or. 117; 282 Pac. 111, it was held that, where an absolute divorce was granted and nothing was said in the decree about alimony, the court had no authority thereafter to amend its decree and grant alimony.

Section 1-907, Oregon Code 1930, so far as pertinent, reads:

* ⅞ * and [the court] may also, in its discretion, and upon such terms as may he just, at any time within one year after notice thereof, relieve a party from a judgment, order, or other proceeding taken against him through his mistake, inadvertence, surprise, or excusable neglect.

If no application for a modification of a judgment is made within the term of one year upon the ground stated, the decree becomes absolute and the court has no further jurisdiction to modify the decree. Clearly one year after the date of the decree of divorce (January 10, 1927), the decree of divorce entered in favor of Bessie Nicolai was not subject to any attack.

The years before us in these proceedings are the years 1935 and 1936. During those years both of the children of the petitioner and Bessie Nicolai were over the age of 21 years. Clearly, under the laws of Oregon petitioner was under no legal obligation to support his children after they became of age, absent any evidence that the children were incapable of support. We think it plain that the decree of divorce granted to Bessie Nicolai on January 10,1927, was not subject to any modification by reason of any obligation of the petitioner to support his adult children.

We conclude that the petitioner was absolutely discharged of all obligations to support his former wife, now Bessie O’Gorman, by the decree of divorce entered January 10, 1927.

We consider the question whether the agreement entered into between the petitioner and his then wife on December 31, 1926, or the indenture of trust to the West Coast National Bank executed January 31, 1927, imposed upon the petitioner a continuing obligation to support his divorced wife during the years 1935 and 1936, who was during those years the wife of J. Sherman O’Gorman. The petitioner fully performed the agreement which he made with his wife. The shares of stock of the Harry T. Nicolai Investment Co. were placed in trust with the West Coast National Bank, as provided in the agreement. The only income the former wife was to receive under the trust agreement was income from the trust fund not to exceed $500 per month after her remarriage. If the income of the trust fund was not sufficient to enable the trustee to pay out of the income, minus the trustee’s fee, $500 per month the petitioner was under no obligation to make up the deficit. His only obligation was to “continue ownership of a majority of the stock of the corporation” and to “cause it to declare and pay on or before the first day of each calendar month from its available net earnings dividends sufficient to enable said West Coast National Bank to pay said first party the monthly income provided for her.” These were not obligations on the part of the petitioner to contribute to the support of his divorced wife. When the Supreme Court in Helvering v. Fitch, supra, referred to a “continuing obligation however contingent” on the part of a divorced husband, the Court was speaking of an obligation to contribute to the support of the wife. We do not think that the language of the Court had reference to such obligations as the petitioner had in this case.

The Board is of the opinion that the decision of the Supreme Court in Helvering v. Fuller, supra, is controlling in these proceedings, and in accordance therewith we hold that the petitioner is not taxable upon the above stated amounts of trust income which the respondent has added to the petitioner’s net income for the years 1934 and 1935.

The second question for consideration is whether the petitioner is entitled to deduct from gross income of 1935 a bad debt charged off in the amount of $13,225. The respondent disallowed the deduction upon the ground stated in his deficiency notice as follows:

It appears from the information at hand that the advances made by the stockholders represented an additional investment by them in connection with their holdings in stock of the Kiddy Kage Company. For this reason the loss, if any, was sustained not later than June 30, 1934, the date on which the corporation was dissolved.
From the above information it appears that the loss, if any, should have been determined and allowed not later than the year 1934 when dissolution was effected and stockholders were entitled to have a valuation of the assets macle. The deduction has, therefore, been eliminated as not sufficiently substantiated as of the year 1935.

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

In computing net income there shall be allowed as deductions:
*******
(k) Bad Debts. — Debts ascertained to be worthless and charged off within the taxable year (or, in the discretion of the Commissioner, a reasonable addition to a reserve for bad debts) ; and when satisfied that a debt is recoverable only in part, the Commissioner may allow such debt, in an amount not in excess of the part charged off within the taxable year, as a deduction.

The $13,225 in question in this issue was claimed in the petitioner’s income tax return for 1935 as a bad debt deduction, not as a loss. The respondent disallowed the deduction in the determination of the deficiency and the petition alleges error on the part of the respondent in so doing.

It is the theory of the respondent that the advances made by the petitioner and Woodard to the Kiddy Kage Co. constituted additional investments in the shares of stock of that corporation. The evidence shows, however, that this was not the case. Both the petitioner and Woodard paid to the corporation par value of the shares subscribed for by them. The petitioner was not obligated to pay and did not pay to the corporation any additional amount for the stock subscribed for by him. The question as to whether the petitioner sustained a loss upon his investment in the stock of the corporation is not before us. The only question is whether the petitioner is entitled to deduct as a bad debt $13,225 of his loans to the corporation.

In Spring City Foundry Co. v. Commissioner, 292 U. S. 182, the Supreme Court said:

Petitiouer also claims tbe right of deduction under section 234 (a) (4) of tbe Revenue Act of 1918 providing for tbe deduction of “losses sustained during tbe taxable year and not compensated for by insurance or otherwise.” We agree with the decision below that this subdivision and tbe following subdivision (5) relating to debts are mutually exclusive. We so assumed, without deciding the point, in Lewellyn v. Electric Reduction Co., 275 U. S. 243, 246, * * *

We think that the respondent erred in treating the claimed bad debt deduction as a loss on an investment in the stock of the corporation.

It is manifestly true that a stockholder of a corporation may also be a creditor of the corporation. In Daniel Gimbel, 36 B. T. A. 539, we held that where a stockholder of a corporation, pursuant to prior endorsements and guaranties of the corporation’s notes and obligations, pays the corporation’s obligations and thus becomes its creditor and the debt is immediately ascertained to be worthless and charged off, the stockholder is entitled to take credit for the bad debt.

We conclude that the petitioner was a creditor of the Kiddy Kage Co. to the extent of his advances on open account to that corporation. As such creditor he was entitled to receive the full amount of his advances before there was any distribution of assets to stockholders.

The dissolution of the corporation did not make his claim to recover on his advances worthless. Under the laws of: the State of Oregon a corporation is continued in existence for a period of five years after the date of dissolution for the purpose of winding up its affairs. G. M. Standifer Construction Corporation v. Commissioner, 78 Fed. (2d) 285; Nibley-Mimnaugh Lumber Co., 37 B. T. A. 617. Manifestly, if the assets of the corporation had been sufficient to return to the petitioner his claim against it for advances, he would not be entitled to deduct from the gross income of any taxable year any portion of the amount of his advances as a bad debt.

The evidence does not show the financial standing of the Kiddy Kage Co. at the beginning of 1985. It had on hand certain assets. During the year 1935 it sold a portion of those assets and there appeared to be a prospect that it could sell its remaining assets for a considerable amount. By the end of 1935 negotiations for the sale of these assets had fallen through. As the result of an appraisal the petitioner and Woodard determined that the fair market value of the remaining assets was not in excess of $6,050 and that $13,225 of the petitioner’s claim as a creditor of the corporation was worthless. This amount was charged off the petitioner’s books of account in 1935 and claimed as a deduction in his income tax return. The evidence before us does not show that the debt was worthless either in whole or in part prior to 1935. It does show that the debt wa3 worthless to the extent of $13,225 at the end of 1935.

We conclude that the petitioner is entitled to the deduction from the gross income of 1935 of the $13,225 here in question.

Beviewed by the Board.

Decisions will be entered under Rule 50.

Van Fossan dissents.

Disney,

dissenting: In my opinion, the husband, in entering into the agreement with his wife, placed upon himself a contingent obligation such as to render him taxable upon the income involved, under the thought of Helvering v. Leonard, 310 U. S. 80. In the Leonard case the husband agreed that “on notice of any fault in the payment of any interest on or principal of them [the bonds placed in trust]”, he would substitute cash or securities equal to the principal and cash sufficient to cover interest. Herein he agreed that he would remain the owner of a majority of the stock of the corporation, the stock of which he placed in trust, and would cause it to declare dividends immediately “out of available net earnings” sufficient to make the payments to the wife. Obviously, he did retain an obligation; equally obviously, it was contingent upon the fact of “available net earnings” determined by the corporation. Yet, if he had received notice, as in the Leonard case from the wife, that the corporation, though having available net earnings, had failed to declare and pay dividends sufficient to pay her the amount agreed upon, their agreement would have compelled him, if in fact the necessary dividends had not been declared from available net earnings, to make good to the wife the default, to the extent of such net earnings. It is entirely conceivable that through neglect or intent he might have failed to cause the corporation to pay the necessary dividends. For example, the corporation might have used its “available net earnings” to accumulate funds, or might have paid them out on redeeming preferred stock, when it was not necessary so to do, thus leaving itself unable to pay dividends sufficient to meet the payments to the wife. If this contingency occurred, either through the neglect or intent of the husband, or because he had not, in compliance with his agreement, retained such control over the corporation as to be able to compel it to carry out the terms of his agreement, obviously the wife would have recourse against him to the extent of the “available net earnings”, and the amounts payable, for the simple reason that he had violated his agreement. Such liability on his part is, in my opinion, a good example of the continuing obligation mentioned in the Leonard case. The petitioner had the burden of showing himself freed therefrom. Helvering v. Fitch, 309 U. S. 149. I do not think that such showing was made by the petitioner. I, therefore, respectfully dissent.

Qppek agrees with this dissent.


source: Caselaw Access Project

author: Leech : VaN Foss AN,

license: Public Domain

text:
    Pacific Grape Products Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97116.
    Promulgated October 9, 1940.

      T. B. Scott, Esg., and L. L. Dennett, Esq., for the petitioner.

      Harry B. Borrow, Esq., for the respondent.
   OPINION.

Leech :

The question at issue is whether or not the petitioner is entitled to a credit for dividends paid under the provisions of section 27 (a) of the Revenue Act of 1936, in ascertaining its undistributed net income upon which a surtax is imposed pursuant to section 14 (b) of that act. The term “undistributed net income” is defined in section 14 (a) (2).

Respondent determined the deficiency on the following ground:

*******
It is held that by these devices no dividend was paid in the year 1936. Since an actual payment of dividends to stockholders within the year 1936 was required by Section 27 (a) of the Revenue Act of 1936 in order to secure credit in computing surtax on undistributed profits for the year 1936, and since no such payment was made as to the $94,870.80, it is held that you are not entitled to a dividend paid credit for the said $94,870.80.

The petitioner contends that it has complied strictly with the requirements of the statute by passing a resolution authorizing unequivocally the declaration of a 95 percent dividend within the taxable year and by issuing and delivering to its stockholders its checks covering such dividend. It affirms that its stockholders accepted such checks as a dividend payment and used them in making a voluntary contribution to the company’s surplus by endorsing and delivering them to the company for that purpose. It argues that what the stockholders chose to do with their checks was their own affair and had nothing to do with the petitioner’s payment of its dividend and its arrangement to pay the dividend checks if and when presented.

Since petitioner is asking not only for a credit but also for a credit sought to be secured by a scheme admittedly adopted for the purpose of avoiding taxes, its transactions in the year before us, 1936, are subject to severe scrutiny. New Colonial Ice Co. v. Helvering, 292 U. S. 435; Rands, Inc., 34 B. T. A. 1094; appeal dismissed, 101 Fed. (2d) 1018. The vital premise upon which petitioner’s right to the credit under section 27 (a) depends is that the dividends shall have been “paid during the taxable year.” Sanford Corporation v. Commissioner, 106 Fed. (2d) 882. The only issue before us is whether petitioner has carried its burden of proving this essential point.

The facts are that, prior to the directors’ meeting at which the so-called dividend was declared, an understanding was reached that the director-stockholders would endorse their dividend checks and return them uncashed to the corporation and that they would persuade other stockholders to do the same. The meeting was held on December 30,1936, and the checks were drawn on that day. On December 28 at least 30 stockholders had been notified to call at petitioner’s offices and endorse their checks back to petitioner, and had complied with this request “prior to December 31.” On December 30, the director-stockholders, who owned the bulk of the stock of petitioner, received their checks at the meeting and endorsed them back to petitioner immediately. Eight other stockholders, whose holdings were small, returned their endorsed, uncashed checks to petitioner during the first three months of 1937, and petitioner retained the checks of five others because their addresses were unknown.

The dividend was declared on December 30, 1936, on stock of that record date, to be paid December 31, 1936. But the minutes of the meeting were dated December 31, 1936. The checks were also dated December 31,1936.

The inescapable significance of these facts is that the liability oi petitioner on all but $1,097.25 worth of dividend checks, or almost 99 percent of that liability, was released and canceled prior to its accrual. Civil Code of California, sec. 3200 (5); Bailes v. Keck, 200 Cal. 697; 254 Pac. 573. Thus, even if petitioner were on the accrual basis (a fact which is not proven here) it can not be heard to say that this still-born liability represents an accruable item that would found a right either to a deduction or to a credit. Lucas v. American Code Co., 280 U. S. 445. The same holds true a fortiori if petitioner is on the cash basis. Sanford Corporation v. Commissioner, supra; Eagleton v. Commissioner, 97 Fed. (2d) 62.

The arguments of petitioner, that the stockholders could have enforced payment of the dividends to them and that they had a free choice as to whether they would cash the checks or endorse them back to petitioner, are devoid of merit. The minutes of the directors’ meeting at which the dividend was declared were deliberately mis-dated December 31, 1936, the meeting actually having been held on the preceding day. It was thus petitioner’s intention to become liable for payment of the dividends on December 31, the date which the checks therefor bore. Wabash Railway Co. v. Barclay, 280 U. S. 197; In re Wolfe’s Estate, 279 N. Y. S. 605. But petitioner was released from 99 percent of that liability the day before it arose. The checks purporting to pay that liability thus became nullities because they were returned to petitioner before they were payable. The proceeds of these checks were never available to these stockholders. Cf. Appeal of A. H. Stange, 1 B. T. A. 810; Saenger, Inc. v. Commissioner, 84 Fed. (2d) 23.

That the stockholders reported the dividends received in their individual returns as income and paid a tax thereon has likewise not been proved. Cf. Valley Tractor & Equipment Co., 42 B. T. A. 311. We can not indulge a presumption in favor of petitioner in this regard.

Thus, not only has petitioner failed to meet its burden of proving payment of the greater bulk of the dividend in 1936, but also the facts show unmistakably and affirmatively that no such payment was ever made.

Inasmuch as the evidence shows that certain stockholders did not endorse their dividend checks back to petitioner until after the close of the taxable year, we hold that petitioner must be allowed a dividends paid credit equal to the face amount of those checks, $968.05. In the case of these checks, the liability of petitioner thereon was not extinguished before it arose and accrued, the stockholders could have kept and cashed them, and the case is pro tanto indistinguishable from Valley Tractor & Equipment Co., supra.

We hold, therefore, that petitioner is entitled to a credit in the amount of only $968.05.

Reviewed by the Board.

Decision will be entered under Bule 50.

Disney dissents.

VaN Foss AN,

dissenting: Being unable to agree with the action of the Board in disallowing in part the claimed dividend credit, I respectfully dissent.

       SBC. 27. CORPORATION CREDIT FOR DIVIDENDS PAID.
      (a) Dividends Paid Credit in General. — For tlie purposes of this title, the dividends paid credit shall be the amount of dividends paid during the taxable year.

       SEC. 14. SURTAX ON UNDISTRIBUTED PROFITS.
      *******
      (b) Imposition of Tax. — There shall be levied, collected, and paid for each taxable year upon the net income of every corporation a surtax equal to the sum of the following, subject to the application of the specific credit as provided in subsection (c) :
      7 per centum of the portion of the undistributed net income which is not in excess of 10 per centum of the adjusted net income.
      * * * * ‘ * * *

       (a) Definitions. — As used in this title—
      * * * * * ' * *
      (2) The term “undistributed net income” means the adjusted net income minus the sum of the dividends paid credit provided in section 27 and the credit provided in section 26 (c), relating to contracts restricting dividends.

         Cheeks returned to petitioner with endorsements after December 31, 1936, i. e., in first three months of 1937, totaled $968.05. The cheeks which petitioner retained because the addresses of the payees were unknown totaled $129.20. This latter figure is not contested by respondent as an allowable credit, but the former figure is included in the total amount disallowed by him, $94,870.80.


author: HaRRON :

text:
    John H. S. Lee, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97617.
    Promulgated October 9, 1940.

      John H. S. Lee, Esq., pro se.

      F. B. Shearer, Esq., and David Altman, Esq., for the respondent.
   OPINION.

HaRRON :

Petitioner in 1931 was given a note for $40,000 by a client in payment for legal services. The note bore interest and interest notes were also given to petitioner by the client. In 1936 $40,000 was due on the underlying note and about $10,000 was due on the other notes for interest. Being unable to collect the sums due on the notes from the maker, Erna Zeddies, petitioner took steps to enforce collection by means of instituting foreclosure of the mortgage given by the maker to secure the notes. So much of the facts is without any doubt. There is conflict of opinion between petitioner and respondent in their respective briefs about other evidence and it will be necessary, therefore, to discuss the evidence. But before discussing the evidence and concluding what petitioner has proved or failed to prove, the question and the applicable rules of law should be set forth.

Petitioner contends that he sold the notes at the meeting held on November 25, 1936, at which he received $44,000. In his petition petitioner claimed that he sold the notes to the maker. In his brief petitioner wavers from the original contention that the alleged purchaser was the maker of the notes and indicates that his claim now is that the note was sold to the First National Bank of Chicago, to be held in escrow for the maker. Finally, petitioner argues in his brief that it is immaterial whether the alleged purchaser of the notes was the maker or the bank, because it was his intention to sell the notes. Petitioner claims that the alleged sale of the notes resulted in gain to him and that such gain is taxable only to the extent indicated by the terms of section 117 of the Revenue Act of 1936. Petitioner develops his computation of a capital gain from the alleged sale upon the premise that the note for $40,000 had a fair market value in 1931, when he received it, of $16,000; that he received in 1936 for that one note $40,000; and that his costs of collection were $650.95, the difference being $23,349.05, which petitioner reported in his income tax return as a capital gain on a capital asset held for more than 5 years. Petitioner, in his brief, passes over the additional $4,000 he received, presumably in compromise of the sum due for interest in excess of $8,820, having reported the $4,000 as interest, on his income tax return, and not having claimed any deduction for loss upon the interest notes. Petitioner leaves out of the picture the notes for interest. He, somewhat inconsistently, alleges, howrever, that he sold a note for $40,000 plus accrued interest for $44,000. (This serves to indicate some of the difficulty .in this case as to the facts and the petitioner’s contentions.)

Respondent contends that, under the facts, petitioner received from the maker of the notes $44,000 under an agreement to settle the full indebtedness for principal and interest due, for that sum; that the payment to petitioner was made by or on behalf of the maker of the notes in extinguishment of the maker’s indebtedness; and that, consequently, there was no sale of the notes. Respondent has determined that the payment resulted in petitioner’s realization of ordinary income, the net. amount taxable in 1936 being $23,349.05, petitioner having reported as ordinary income in 1931 the amount of $16,000 and having paid collection expenses in 1936 of $650.95.

Since petitioner held the note or notes for more than two years, there seems to be no real dispute as to their character as a capital asset. The only question is whether there was a sale of the note or notes in 1936.

Respondent contends that the question is controlled by the rule of the following cases: Bingham v. Commissioner, 105 Fed. (2d) 971; Hale v. Helvering, 85 Fed. (2d) 819; James R. Stewart, 39 B. T. A. 87; Ralph Perklins, 41 B. T. A. 1225.

The compromise of an obligation on a note by the maker is not a sale. The surrender of a note to its maker for cash due is not a sale to him, and whatever may have been property in the hands of the holder of notes simply vanishes when they are surrendered to the maker. Bingham v. Commissioner, supra. “If the full satisfaction of an obligation does not constitute a sale or exchange, neither does a partial satisfaction.” Hale v. Helvering, supra. As for a sale: “A sale is a contract whereby one acquires a property in the thing sold and the other parts with it for a valuable consideration.” Words and Phrases, Second Series, vol. 4, p. 437. But, where a note is surrendered to the maker upon his payment in full or in part of his obligation on the note, there is “no acquisition of property by the debtor, no transfer of property to him.” Hale v. Helvering, supra. And, also, under Illinois statute, a negotiable instrument is discharged by payment in due course by or on behalf of the principal debtor, or when the principal debtor becomes the holder of the instrument at or after maturity in his own right. Art. VIII, ch. 98, Illinois Revised Statutes (1937), sec. 140 (1), (4).

The above are general rules of law.

The question here involves, therefore, these specific questions: Was the $44,000 paid to petitioner by or on behalf of Erna Zeddies in order to discharge partially her indebtedness on the principal note and the interest notes ? Were the notes surrendered for cancellation to Erna Zeddies or to her agent? If the evidence shows that the transaction which was carried out on November 25, 1936, was a compromise with the maker of the notes for less than their face value by payment by or on behalf of the maker, and that the notes were returned to the maker or to her agent for eventual surrender to her, then it must be held that there was no sale and respondent must be sustained. In any event the question should be determined here by considering the term “sale” in the ordinary meaning of that term. Hale v. Helvering, supra.

Petitioner admits that his position throughout has been motivated solely by his desire to “save money in taxes”, which he conceives he may do by his treatment of the notes in question as a capital asset and by his interpretation of his surrender of the notes as a sale. Petitioner stresses greatly the factor that his expressed intent was to sell the note or notes. However, that is a question of fact. Petitioner has been exceedingly vague in his testimony on certain crucial facts, as the following indicates.

From the record it appears, not too clearly, however, that Erna Zeddies for several years had some dispute with the Lake Shore Country Club, which occupied the land in which she had a one-third interest that she mortgaged to secure her notes. The club leased the property under an option to purchase it. Over the period of the dispute Erna Zeddies was either unwilling to accept rents from the lessee or unable to collect them. Of this background no more is known. It appears that petitioner’s threatened foreclosure aroused concern and Erna Zeddies wanted the suit dismissed. According to testimony of her attorney in this case (Schein), she instructed him to pay $44,000 to petitioner on her behalf, to obtain from him her notes, and to arrange for dismissal of the foreclosure on a stipulation. All of this strongly leads to the conclusion that there was a compromise of Erna Zeddies’ outstanding indebtedness for $44,000, which was brought about because petitioner had begun enforced collection of the debt by instituting foreclosure of the mortgage given to secure the notes. It is reasonable to believe that petitioner must have had some negotiations concerning settlement for $44,000 prior to the meeting of November 25, but he professes complete ignorance of all details, such as how the sum of $44,000 was agreed to, on whose behalf the sum was paid, and what ultimate disposition was to be made of the notes which he agreed to surrender to the First National Bank. Petitioner’s rather bald attitude at the hearing was that all he knew was that he was to receive $44,000, surrender the notes, and release the trustee. He told Schein and others that he would insist that the transaction be a “sale” of the notes by him, but Schein told petitioner at the meeting that he was not interested in petitioner’s “bookkeeping” processes. At the hearing Schein, who was a witness for respondent, testified that he did not “purchase” Erna Zeddies’ notes for her. Petitioner has not proved that Erna Zeddies agreed to buy the notes, or that she instructed any party to buy the notes for her. When petitioner was asked on cross-examination whether the First National Bank bought Erna Zeddies’ notes, he could not testify affirmatively that the bank had purchased the notes, but testified that he did not know whether the bank bought the notes and mortgage to hold until Erna Zeddies made a deal with the club, or whether she had borrowed some money from the bank and the bank was acting as her agent. On the other hand, Schein testified that it was his recollection that Erna Zeddies was to get the money by means not disclosed to him and that the notes and mortgage were to be deposited with the bank until the ultimate release of the mortgage was obtained. He was of the opinion that there may have been some temporary “escrow” deposit of the notes and mortgage in order to satisfy the club that the mortgage would be “released.”

As for the source of the funds paid to petitioner, petitioner testified on direct examination that he received $40,000 from the bank and $4,000 by a check or draft from Erna Zeddies endorsed by her over to him. Petitioner was asked if it was not true that the club had been paying rents on the Lake Shore property in escrow during pendency of the dispute between Erna Zeddies and her father and uncle with the club. Petitioner testified that he did not know what the club had done with rents, but that they may have deposited them in escrow.

Petitioner has rested his case primarily upon his intent to make a sale of Erna Zeddies’ note or notes. He called a witness who testified that he advised petitioner that he could sell the notes to the maker and report the transaction for income tax purposes as a sale of a capital asset. But petitioner has failed to prove conclusively that he sold the notes to anyone. Petitioner became exceedingly evasive under cross-examination, professing ignorance of all details. It is prerequisite to a sale that there be a buyer as well as a seller and that there be a meeting of minds as to the terms of the sale between seller and buyer. Matteis v. United States, 57 Fed. (2d) 999, 1001. The mere desire of petitioner to effect a sale does not make the transaction a sale. We are not concerned with the general question of whether petitioner could have made a sale of the note or notes to the maker under the laws of Illinois. The evidence strongly indicates that the $40,000 was paid on Erna Zeddies’ behalf in satisfaction of her obligation on her note for $40,000, and that the bank received her notes and the mortgage as a custodian or depository for ultimate surrender to her.

It is concluded that the sum paid to petitioner was paid on behalf of Erna Zeddies in full satisfaction of her indebtedness to petitioner and it is held that there was no sale of her note or notes. Hale v. Helvering, supra; Bingham v. Commissioner, supra. Petitioner realized net income from the transaction of $23,349.05, which is taxable as ordinary income.

Decision will he entered for the respondent.


author: Van Fossan :

text:
    W. A. Bechtel Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 96286.
    Promulgated October 9, 1940.

      jRobert L. Bridges, Esq., for the petitioner.

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

Van Fossan :

The first issue presents the question whether or not 80 percent or more of the petitioner’s gross income for the fiscal year ending June 30, 1935, was derived from royalties, dividends, interest, annuities, or gains from the sale of stocks or securities, the petitioner not being a regular dealer therein, and thus brought it within the definition of a personal holding company contained in section 351 of the Revenue Act of 1934. It is stipulated that more than 50 percent in value of its outstanding stock was owned by not more than five individuals.

As will appear later in the opinion, the specific item which determines the qualifying percentage is the transaction with the Standard Oil Co. of California, covered by its contract with the petitioner and the Kaiser Co. dated August 25, 1934. The completion of that contract resulted in the payment of $133,622.16 to the petitioner for the work described therein.

The petitioner secured a subcontractor (Nevada corporation) to perform the work and paid it $123,532.60. It also paid $11,500 to the Kaiser Co. for the assignment of the company’s interest in the contract. In its income tax return for the taxable year the petitioner included in its gross income the amount received from the oil company and claims that it rightfully belongs there, since it was derived from the operation of its business.

The petitioner insists that it is essentially an operating company engaged in construction work. We think that the record supports its contention. In its income tax return, it stated its business to be “construction contractors.” Its return showed profits or losses from three “joint ventures” in construction enterprises, the net income or loss from which was reported on partnership returns. The petitioner received “fees from other companies” and made substantial sales of salvage materials. Its schedules showed large sums representing construction and warehouse equipment, lands and buildings, track, etc. Its listed expenditures included the cost of estimating and bidding, traveling charges, and equipment maintenance, etc. From these facts and figures, garnered from the petitioner’s return, we have no reason to doubt that it was actively engaged in the business of construction contracting.

The respondent asserts that the petitioner’s gross income consists of the following items:

Interest- $859. 45
Rental_ 7, 788. 59
Capital gain- 8, 717.14
Dividends_ 891,169. 00
Other income- 32,415. 33
“Gross Income”_ 440, 949. 51

He excludes the controversial item of $133,622.16 because, as he says, the transaction resulted in a loss of $1,410.44. He argues that gross income may be derived from two sources, services and capital, and that the amount received from the oil company was from neither.

The petitioner contends that the contract with the oil company was entered into in the usual course of its normal business, that the entire amount received therefrom was properly included in its gross income, and that the cost of performing the contract was duly and properly deducted.

As we view the record, the question is a comparatively simple one. The petitioner and the Kaiser Co. agreed with the oil company to remove and haul away about 110 miles of 12-inch pipe. The petitioner later bought out the Kaiser Co.’s interest in the contract. It then subcontracted the work to the Nevada corporation, by which it was completed. The entire transaction resulted in a small loss, due, doubtless to the fact that the pipe mileage was reduced from 110 miles to less than 96 miles. It is immaterial whether the contract produced a loss or a gain. Obviously, it was entered into for profit.

The Nevada corporation, as a subcontractor (and so designated in the contract of October 4, 1934), was the agent of the petitioner to perform a special and designated task. The petitioner received from the oil company the contract price for producing the work specified in the agreement of August 25,1934. Pursuant to the contract of October 4,1934, the petitioner paid to the Nevada corporation the agreed price for accomplishing the purpose of the former contract. There was no assignment to the Nevada corporation of the petitioner’s rights under its contract with the oil company, whose assent to any assignment was required and was, in fact, secured when the petitioner purchased the Kaiser Co.’s interest. On the contrary, the oil company continued to look to the petitioner to render the specified services and the petitioner, in turn, held the Nevada corporation responsible for completing the actual work. In its dealings with the petitioner-, the oil company in no way recognized the Nevada corporation as having any interest or rights in the contract between the petitioner and the oil company.

It would scarcely be contended that, if the petitioner had contracted with different persons to execute various parts of the contract, e. g., with one, to remove the pipe, with another to clean it, and with a third, to haul it away, and had employed an expert to supervise the entire project, the amounts paid under the prime contract would not be included in the petitioner’s gross income and the amounts paid to subcontractors and employees would not be listed in the petitioner’s deductions.

The respondent, on brief, also charges that the transaction was “designed and calculated as a device by means of which the petitioner sought to escape its just burden of taxation.” We find in the record no suggestion of such a motive. As we have said heretofore, the subject matter of the contract was completely in accord with the petitioner’s business. The total amounts paid by the oil company, therefore, were properly included in the petitioner’s gross income derived from that business. It follows that the petitioner is not subject to the statutory penalty imposed by the respondent for failure to file a return on Form 1120H as prescribed by article 351-8 of Regulations 86.

In view of our holding on the above issue, it becomes unnecessary to discuss the second, or alternative, issue.

Decision will be entered under Rule 50.

       SEC. 351. surtax ON PERSONAL HOLDING COMPANIES.
      (a) Imposition op Tax. — There shall he levied, collected, and paid, for each taxable year, upon the undistributed adjusted net income .of every personal holding company a surtax equal to the * * *
      *******
      (b) Definitions. — As used in this title—
      (1) The term “personal holding company” means any corporation (other than a corporation exempt from taxation under section 101, and other than a bank or trust company incorporated under the laws of the united States or of any State or Territory, a substantial part of whose business is the receipt of deposits and other than a life-insurance company or surety company) if — (A) at least 80 per centum of its gross income for the taxable year is derived from royalties, dividends, interest, annuities, and (except in the case of regular dealers in stock or securities) gains from the sale of stock or securities, and (B) at any time during the last half of the taxable year more than 50 per centum in value of its outstanding stock is owned, directly or indirectly, by or for not more than five individuals. * * *


author: Mellott :

text:
    L. W. Mesta, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 96531.
    Promulgated October 10, 1940.

      W. A. Seifert, Esq., W. W. Booth, Esq., and A. G. Wallerstedt, G. P. A. for the petitioner.

      J. Harrison Miller, Esq., for the respondent.
   OPINION.

Mellott :

The Commissioner determined a deficiency in petitioner’s income tax for the year 1935 in the amount of $31,163.18. The facts are found to be as stipulated. For present purposes the following summary will suffice.

Petitioner, a resident of Pittsburgh, Pennsylvania, duly filed his return of income for the taxable year with the collector for the twenty-third collection district of Pennsylvania. The tax shown to be due was paid. He had been married on August 19,1921, and he and his wife lived together until October 12, 1934, on which date they separated. There was no issue as a result of the marriage.

On February 14, 1935, petitioner’s then wife, Cora Jane Mesta, filed a libel in divorce, praying for a decree divorcing her and petitioner “from bed and board and such alimony as her husband’s circumstances will admit of.” On March 8, 1935, her petition to amend the libel to ask for an absolute divorce was granted. Bill of particulars and answer thereto were duly filed. On April 12, 1935, hearing was had and on April 15, 1935, a final decree granting the wife an absolute divorce was entered.

On March 22, 1935, petitioner signed and acknowledged, in duplicate, an agreement attached to the stipulation of facts filed herein. It was delivered to counsel representing the wife in the libel action. She signed and acknowledged both copies on April 13, 1935, and one of the duplicate originals was delivered to counsel for petitioner herein on April 17, 1935.

The agreement provided that Mesta should deliver to Cora Jane Mesta certificates for 5,200 shares of the common stock of the Mesta Machine Co., endorsed in blank, a diamond ring, title certificate for a Cadillac automobile, a set of golf clubs and bag, all household furnishings in their home and all dividends on the 5,200 shares of stock, declared or paid after March 6,1935. Mesta gave up any claims which he might have against her or her property or estate growing out of the relationship of husband and wife. Cora Jane Mesta agreed that the home, which was owned by her and Mesta as tenants by the entirety, should vest in him through the intermediation of a “straw man”, and that the delivery of the securities and property mentioned above by him was “in full settlement and satisfaction of all claims and demands on the part of Mrs. Mesta for her maintenance and support, and in lieu of all rights which she may now have, or hereafter acquire, against the property of Mr. Mesta, as wife, widow, or in any manner arising out of or resulting from the relationship of husband and wife * * She also released Mesta, his heirs, executors, administrators and assigns, from all claims for support and maintenance and from all rights, interests, claims, demands or preferences in or against Mm or bis estate that sbe might have as wife, widow, or otherwise.

On April 17, 1935, petitioner, in accordance with the terms of the agreement, delivered to Cora Jane Mesta 5,200 shares of the Mesta Machine Co. stock and on April 25, 1935, deeds for the purpose of vesting title to the home in petitioner were recorded.

As of April 13, 1935, petitioner was possessed of an estate in personalty of approximately $1,150,000 and the value of the real estate (home) was approximately $35,000. The household furnishings had a value of $28,000 and Cora Jane Mesta claimed them and the other property referred to in the agreement.

Petitioner was 45 years of age and his wife was 57 years of age on April 17, 1935. The present worth of $1 payable to a woman 57 years of age at the death of her husband, aged 45, assuming she outlives him, is $0,187.

The fair market value of 5,200 shares of Mesta Machine Co. stock on April 17, 1935, was $156,975. The said 5,200 shares had a cost or base to petitioner of $7,574.56, as set out in the notice of deficiency.

On March 9, 1936, petitioner filed a gift tax return, listing as a gift to his wife 5,200 shares of Mesta Machine Co. stock valued at $142,350. He computed the gift tax to be $3,346.13 and this amount was duly paid to the collector. On November 26, 1937, petitioner filed a claim for refund of the amount paid as a gift tax and on December 21, 1938, the Commissioner issued a certificate of over-assessment for the full amount. Check for the gift tax and interest thereon was duly issued by the Treasurer of the United States on February 8, 1939. It was transmitted by the collector to petitioner on or about March 31, 1939, petitioner’s counsel having written the collector, “placing him on notice that this case was pending in the United States Board of Tax Appeals and advising him that the acceptance of the aforementioned check in no way prejudiced petitioner’s rights or contentions that no taxable profit resulted from the aforesaid 1935 transaction.” This position was reiterated in a letter written by petitioner’s counsel to the collector on or about April 1, 1939, acknowledging receipt of the check.

The respondent determined that petitioner had “realized taxable income in the transaction whereby * * * [he] transferred 5,200 shares of * * * Mesta Machine Co. * * * [stock] to Mrs. Cora Jane Mesta in accordance with a formal separation agreement dated April 13, 1935.” He computed it as follows:

It is alleged in the petition that the Commissioner erroneously determined that petitioner realized taxable income in the transaction whereby he transferred the shares of stock to his former wife. At the hearing and upon brief petitioner denies that he received “gains, profits, or income” within the meaning of section 22 (a) or (e) of the Revenue Act of 1934, or that the transaction was taxable under section 111 of the same act. In the alternative he urges that section 22 (b) (3) of the Revenue Act of 1934 and article 22 (b) (3)-l of Regulations 86, promulgated under it, negative any suggestion of tax to him. The sections and article cited are shown in the margin. The alternative contention will first be considered briefly.

The section cited by petitioner in this connection (22 (b) (3), supra) excludes from gross income “the value of property acquired by gift, bequest, devise, or inheritance * * His theory seems to be that, since he made a “gift” of the property to his wife, the section in question would preclude the Commissioner from including in his income the value of the property given away. Both parties agree that we are not charged with the responsibility of determining in this proceeding whether he made a taxable gift to his wife or not. The question is the much narrower one: Did petitioner give the property to his wife; and, if so, does the cited section preclude its inclusion in his income?

Respondent points out that the section “relates to the treatment by taxpayers of receipts by them of gifts, bequests, devises or inherit-anees, and has no relation whatever to the issue here involved.” This is so obvious from an examination of the act that we do not deem it necessary to engage in any extended discussion. The act excludes from gross income the value of property acquired by gift.” If anyone acquired the property in question by gift, it was the wife. But she is not before us, and, since we are not required to determine whether petitioner made a taxable gift or not, we think the whole question may be passed. It may not be amiss to point out, however, that the Circuit Court of Appeals for the Second Circuit, in Commissioner v. Hyde, 82 Fed. (2d) 174, in answer to a husband’s argument that a trust established for the benefit of a wife, under circumstances quite similar to those before us, was a “voluntary gift”, said that “to hold that the trust was established as a voluntary gift * * * would be to close one’s eyes to the realities.”

Nor is petitioner upon sound ground in contending that the amount was a “marriage settlement” within the purview of article 22 (b) (3) — 1, supra, and hence a gift. The term appears to have been used in its ordinary and generally accepted meaning as having-reference to a contract between a man and a woman under which the title to certain property is changed in contemplation of, or contemporaneously with, their marriage. The transfer in question was made in connection with a dissolution of a marital relation and because the parties realized that it would “no longer be possible for them to live as husband and wife.” That it was not a gift within the purview of the article cited accords with petitioner’s view, as reflected in his claim for refund, and with the view of the respondent as set out in his certificate of overassessment. We think it is also in accord with the rationale of such cases as Douglas v. Willcuts, 296 U. S. 1; Commissioner v. Hyde, supra; Helvering v. Fuller, 310 U. S. 69; and Helvering v. Leonard, 310 U. S. 80. It follows that, if the respondent’s determination is to be overturned, it must be upon some theory other than that set out in petitioner’s alternative contention.

The question discussed at length by each of the parties is whether or not petitioner made a disposition of the stock which resulted in gain or profit to him. The respondent contends that he did, stating his position thus: “The * * * shares * * * were transferred by the petitioner to his estranged wife [who was suing him for divorce] as payment pro tanto in obtaining a full discharge from his duty to support her. Under this agreement there was no continuing obligation, contingent or otherwise. * ⅛ * The amount included as income taxable to the petitioner represents only the increment in value of said securities during the period they were held by him.” In other words, he contends that the increment in value was as effect-ively realized by the petitioner as it would have been if he had sold the stock and used the cash to pay his obligation to his wife. Cf. Sunflower Packing Corporation, 2 B. T. A. 1104. He argues that the inclusion of said amount in petitioner’s gross income is justified under Suisman v. Eaton, 15 Fed. Supp. 113; affirmed per curiam, 83 Fed (2d) 1019; certiorari denied, 299 U. S. 573; William R. Kenan, Jr., et al., Trustees, 40 B. T. A. 824; affd., 114 Fed. (2d) 217; Sherman Ewing, 40 B. T. A. 912; Anheuser Busch, Inc., 40 B. T. A. 1100 (on appeal C. C. A., 8th Cir.); by the reasoning of the Supreme Court in Helvering v. Fuller, supra; and by analogy to the reasoning of the court in Glendinning v. Commissioner, 97 Fed. (2d) 51, which was followed in Dixon v. Commissioner, 109 Fed. (2d) 984, and other cases.

The cited cases have been examined; but it is not believed that they, individually or collectively, justify the position taken by the respondent. Those in the first group hold that an estate realizes gain through the distribution of securities at their market value, when such distribution discharges an obligation to make a cash payment, if the value at which they are distributed exceeds the cost basis. This is merely an application of the familiar rule that the liquidation of an indebtedness by the transfer of property at its market value results in gain or loss equivalent to the difference between the indebtedness liquidated and the cost or basis of the property given up. Cf. Twin Ports Bridge Co., 27 B. T. A. 346; United States v. Kirby Lumber Co., 284 U. S. 1; Carlisle Packing Co., 29 B. T. A. 514. Each of the other cases cited involved the taxability of a husband upon the income of a trust set up by him for the benefit of his divorced wife.

It is true that some of the language used by the Supreme Court in Helvering v. Fuller, supra, if considered apart from its setting, gives support to respondent’s contention. In this category is the statement by the Court that a transfer of securities' by a husband to a wife is not “different from one where any debtor, voluntarily or under the compulsion of a court decree, transfers securities, a farm, an office building or the like, to his creditor in whole or partial payment of his debt.” It must be kept in mind, however, that the Court was not considering the incidence of income tax upon the disposition of such property, but was concerned only with the question; whether the husband or the wife would be taxable upon the “income subsequently accrued and paid” upon the property transferred. Its holding to the effect that the wife, rather than the husband, was taxable upon the income of the trust is not determinative of the question before us.

Petitioner argues (1) that he realized no “gains, profits and income” as such terms are used in the revenue act; (2) that section 111 can be applied only where it is possible to evaluate “the property (other than money) received”; (3) that he received nothing which could be sold or disposed of, the rights given up by the wife not being susceptible of valuation and any benefit to him being of a purely negative character; and (4) that if he did not make a gift or a marriage settlement (as discussed in his alternative contention) he merely made a division of his property with his wife.

It is a cardinal principle that in interpreting tax-imposing statutes, in case of doubt, “they are construed most strongly against the Government and in favor of the citizen.” Gould v. Gould, 245 U. S. 151. The statute imposes a tax upon “net income” — “gross income” less certain specified deductions. Gross income includes “gains, profits, and income derived from * * * sales, or dealings in property” “growing out of the ownership or use or interest of such property”; “gains or profits and income derived from any source whatever.” The basic concept embodied in the words “gains, profits, and income” is that the recipient is richer, better off, than he was before; that he has received something of exchangeable value. The Supreme Court so interpreted the language of the statute in the oft cited case of Eisner v. Macomber, 252 U. S. 189, 207: * * something of exchangeable value proceeding from the property, severed from the capital however invested or employed, and coming in, being ‘derived’, that is, received or drawn by the recipient [the taxpayer] for his separate use, benefit and disposal * * The section of the revenue act necessarily relied upon by the respondent to support his determination — section 111 (b), supra — presupposes that there has been a “disposition of property” resulting in the receipt of money, property having a “fair market value”, or both. If neither has been received by the petitioner, the asserted tax can not be sustained.

The stipulated facts show that there was a “disposition of property” by petitioner. The shares were transferred and delivered to his wife. He received no money; so section 22 (b) can be applied only in the event the fair market value of the property (other than money) received by him exceeds the basis of the property given up. Cf. Frank C. Deering, 40 B. T. A. 984. The basis of the property given up was $7,574.56. Respondent contends that the parties themselves — i. e., the petitioner and his wife, both of whom were represented by counsel — fixed the fair market value of the property received by the husband at $156,975 and that “their valuation, in the absence of other evidence, should control.” Petitioner argues that such valuation is not controlling; that it was merely the agreed value of the stock given up; that he received nothing which he could sell or dispose of; and that, even if it be held that his right to dispose of his property free of any claim on the part of his divorced wife and to be relieved from his obligation to provide for her support and maintenance constituted “property”, as used in section 111, supra, still it had no “fair market value” and therefore could not constitute income to him.

The question is not free from doubt, but we are of the opinion that on the whole, petitioner’s contentions are the more tenable. The value agreed upon by the husband and wife is not controlling. It is doubtful if the respondent would so contend1 if, peradventure, petitioner were claiming a loss, the shares having an agreed fair market value of $7,574.56 when given up and a cost basis of $156,975. But however that may be, there is substantial merit in petitioner’s contention that it is impossible to evaluate the rights received by him. What is the measure of the value of the wife’s right to maintenance and support ? It is dependent upon many factors — the financial success or failure of the husband, his generosity, the thrift or acquisitiveness of the wife, the length of life of both parties, the rise and fall of markets, and. in Pennsylvania at least, the continuance of the marriage relation; for under the law of that state a decree of divorce extinguishes all right to support, and alimony can 'not be awarded except in the case of insanity of one of the spouses. Henry Oliver Rea, 35 B. T. A. 1132, and cases cited. And how shall we evaluate the statutory right of a 57-year old wife to share in the estate of her 45-year old husband ? It is also dependent upon many factors — the value of the husband’s property at death, the number of issue then living, and the death of the husband prior to the death of the wife, to mention some of them. Borrowing the language of Mr. Justice Brandeis in Humes v. United States, 276 U. S. 487: “Neither taxpayer, nor revenue officer — even if equipped with all the aid which the actuarial art can supply — could do more than guess at” it. We are of the opinion that the impossibility of evaluating the rights received by the husband constitutes an insurmountable obstacle to the application of section 22 (e) in conjunction with section 111 (b), supra.

Our conclusion that the respondent erred in determining the deficiency, while we are of the opinion it is justified upon the grounds discussed, need not rest solely thereon. Being concerned primarily with problems arising under the revenue act, it is but natural that we first explore its provisions in an effort to determine a proceeding before us. But coming for the nonce to an examination of the agreement between the petitioner and his wife, what would it be construed to be in an ordinary judicial proceeding where no question of taxation is involved ? The answer is obvious: merely a property settlement between a man and his estranged wife — in other words, a division of property. To hold that a man has realized taxable income by giving up a substantial portion of his property seems to us unreasonable and not justified either under general law or under the revenue act.

We are of the opinion and hold that the Commissioner erred in determining the deficiency in tax.

Judgment will be entered for the petitioner.

       SEC. 22. GROSS INCOME.
      (a) Genekal Definition. — “Gross income” includes gains, profits and income derived from * * * sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such propertyalso from * * * gains or profits and income derived from any source whatever.
      * * * * * * *
      (e) Detbkmination of Gain ok Loss. — In the case of a sale or other disposition of property, the gain or loss shall be computed as provided in section 111.
      SEC. 111. DETERMINATION OF AMOUNT OF, AND RECOGNITION OF, GAIN OR LOSS.
      (a) Computation of Gain ok Loss. — The gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the adjusted basis provided in section 113 (b) for determining gain, and the loss shall be the excess of the adjusted basis provided in such section for determining loss over the amount realized.
      (b) Amount Realized. — The amount realized from the sale or other disposition of property shall be the sum of any money received plus the fair market value of the property (other than money) received.
      SEC. 22. GROSS INCOME.
      *******
      (b) Exclusions fkom Gkoss Income. — The following items shall not be included in gross income and shall be exempt from taxation under this title:
      *******
      (3) GIFTS) 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) ;
      Akt. 22 (b) (3)-l. Gifts and bequests.— * * * An amount of principal paid under a marriage settlement is a gift. Neither alimony nor an allowance based on a separation agreement is taxable income. * * *


author: Black:

text:
    William E. Walter, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 97537, 99162.
    Promulgated October 10, 1940.

      A. Gadder Maolcay, Esq., for the petitioner.

      Byron M. Goon, Esq., for the respondent.
   OPINION.

Black:

It will be observed from the facts which we have stated in our preliminary statement that part of the deficiency for 1935 is due to an addition by the Commissioner to petitioner’s income of $8,429.03 paid to Caroline S. Walter in 1935 from the William E. Walter trust which was set up in 1928 prior to a divorce between the parties in 1929. Petitioner does not contest this part of the Commissioner’s determination.

The facts show that this William E. Walter trust was terminated by agreement of all the parties approved by the court in 1935 and the corpus of the trust, after the payment of certain costs and expenses, was distributed one-half to William E. Walter and beneficiaries whom he named and the remaining one-half to Caroline S. Walter and the four adult children of Caroline S. Walter and William E. Walter. The part distributed to Caroline S. Walter was placed in trust with the Girard Trust Co. and Paul J. Furnas, as trustees, the income from which was to be paid to her for life, with remainder to her children.

The respondent in his brief states the issue involved in these proceedings to be:

Was tbe net income of a trust estate, called the Caroline S. Walter Trust, taxable to the petitioner herein during the years, 1935, 1936, and 1937, for the reason that the trust had been created to provide, and was providing, alimony for the petitioner’s divorced wife, Caroline S. Walter?

The petitioner opposes the contention of respondent on the ground that there is no language in the revenue act which indicates that the “legal obligation theory” of taxation is applicable' where the trustor has irrevocably transferred ownership of both the property and the income therefrom. Petitioner contends that he had no dominion or control over the income received by Caroline S. Walter from the Caroline S. Walter trust and he derived no benefit whatsoever from the payment by the trustee to her of this income, and that it was not to discharge any continuing obligation of petitioner.

Under the laws of the State of Pennsylvania alimony is not generally payable in the case of an absolute divorce. That subject was fully discussed in the recent case of Dixon v. Commissioner (C. C. A., 3d Cir.), 109 Fed. (2d) 984. In that case, the court said, among other thiugs:

* * * provision for alimony on absolute divorce was made in but two oases: first, where the husband divorces the wife for “cruel and barbarous treatment or indignities to his person”, 1895 P. L. 308; second, where the divorced spouse, husband or wife, is insane, 1905 P. L. 212. As a consequence the courts were without power to decree alimony in any other circumstance to one freed from the bonds of matrimony. * * *

No such circumstances as named above exist in the instant case. However, while it is true that under the laws of the State of Pennsylvania it is clear, except under very limited circumstances, that there is no continuing obligation on the part of a former husband to support and maintain his divorced wife, nevertheless, it is an obligation which he may validly assume by contract. Glendinning v. Commissioner, 97 Fed. (2d) 51, affirming 36 B. T. A. 486; Weir v. Commissioner, 109 Fed. (2d) 996, affirming on this point, 39 B. T. A. 400; Barbour v. Commissioner, 110 Fed. (2d) 660, affirming 39 B. T. A. 553.

It will be assumed that the trust settlement which petitioner fixed upon his wife by agreement in 1928 at the time a suit for limited divorce was pending, by which she was to be paid $1,000 a month during the period of her natural life in lieu of alimony, etc., and which was subsequently amended by agreement to provide $833.33 per month after income of the trust fell off greatly, comes within the ambit of the above cited cases. Evidently petitioner concedes that this is true, because he does not assign any error attacking the action of the Commissioner in including in his income for 1935 the amount which Caroline S. Walter received from the 1928 William E. Walter trust. The facts show, however, that in 1933 the petitioner brought a suit in equity to set aside this 1928 trust agreement and to return the trust corpus to petitioner. The pleadings in this equity suit are in the record and are quite voluminous and need not be set out here. Suffice it to say that a complete agreement of settlement was reached in this suit in February 1935. By the terms of the agreement, which were approved by the court, certain income of the William E. Walter trust accumulated prior to the date of distribution of corpus was to be paid over to Caroline S. Walter. We presume that this is the $8,429.03 which the Commissioner has added to petitioner’s income in 1935 from the William E. Walter trust and which he does not contest.

The corpus, after the payment of certain charges not here involved, was divided one-half to William E. Walter and the beneficiaries whom he named and one-half to Caroline S. Walter and the four adult children of petitioner and Caroline S. Walter. The part which went to Caroline S. Walter was placed in trust, the income to be paid to her for life, with remainder to her four children.

We agree with petitioner that he has no interest in this income and that none of it is taxable to him. The Supreme Court of the United States recently decided three cases dealing with the general subject which we have under discussion. These were Helvering v. Fitch, 309 U. S. 149; Helvering v. Fuller, 310 U. S. 69; and Helvering v. Leonard, 310 U. S. 80. The facts of the instant case are not on all fours with any of those cases, but we think Helvering v. Fuller comes nearest to the situation we have in the instant case. In the Fuller case, the Supreme Court held that the income from the trust in question was not taxable to the husband, who was the settlor of the trust. Among other things the Court said, in that connection:

⅜ * * If respondent had not placed the shares of stock in trust but had transferred them outright to his wife as part of the property settlement, there seems to be no doubt that income subsequently accrued and paid thereon would be taxable to the wife, not to him. Under the present statutory scheme that case would be no different from one where any debtor, voluntarily or under the compulsion of a court decree, transfers securities, a farm, an office building, or the like, to his creditor in whole or partial payment of his debt. Certainly it could not be claimed that income thereafter accruing from the transferred property must be included in the debtor’s income tax return. If the debtor retained no right or interest in and to the property, he would cease to be the owner for purposes of the federal revenue acts. See Helvering v. Clifford, 309 U. S. 331. * * *

The Court concluded:

For the reasons we have stated, it seems clear that local law and the trust have given the respondent pro tanto a full discharge from his duty to support his divorced wife and leave no continuing obligation, contingent or otherwise. Hence under Helvering v. Fitch, 309 U. S. 149, income to the wife from this trust is to be treated the same as income accruing from property after a debtor has transferred that property to Ms creditor in full satisfaction of his obligation.

Ill the instant case the parties, after a suit had been brought in equity by petitioner to set aside the trust agreement of 1928, had a complete settlement agreement. Petitioner retained no interest whatever in the one-half of the trust corpus which was awarded to Caroline S. Walter and the four children. They in turn had no interest whatever in the one-half which was awarded to petitioner. After the consummation of this agreement there was no continuing obligation whatsoever, either by contract or state law, on the part of petitioner to support and maintain his divorced wife. Thereafter the payments which the Caroline S. Walter trust paid to her in each of the taxable years were not paid to her to discharge any legal obligation which petitioner owed to Caroline S. Walter, and such income is therefore not taxable to him. On this issue, petitioner is sustained. Cf. Harry T. Nicolai, 42 B. T. A. 899.

Decision will be entered under Bule 50.


author:
Steknhagen :
      Aetjndell,

text:
    Fay Harvey Moore, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97112.
    Promulgated October 10, 1940.

      Thomas C. McConnell, Esq., for the petitioner.

      E. G. Sievers, Esq., for the respondent.
   OPINION.

Steknhagen :

1. The respondent affirmatively pleads, in addition to the matters determined in the deficiency notice, that the dividend paid December 15, 1936, is taxable as a dividend to petitioner and is not properly to be regarded as a dividend received by DeGuire and paid by him and received by petitioner in payment of the price of shares. From the evidence it is clear that petitioner was the owner of the shares during the period when they were held in escrow, and that as the record and actual shareholder she was the rightful recipient of the dividend when it was paid on December 15, 1936. Not only

is it the general doctrine that title to stock does not pass under an escrow agreement until the conditions are performed, Fletcher, Cyclopedia of Corporations, § 5567, vol. 12, p. 557; Roscoe H. Aldrich, 3 B. T. A. 911; Anthony Schneider, et al., 3 B. T. A. 920; Albert Russel Erskine, 26 B. T. A. 147, 164; Charles M. Thorp, Jr., 32 B. T. A. 767; but specifically the agreement and the circumstances of its performance show that this was the purpose and understanding at all times of the petitioner and DeGuire. Petitioner clearly agreed to sell if and when payment was made to the escrow agent, and until that time she was expressly continued as the shareholder with an agreed limitation upon her voting rights. Upon failure of payment at the appointed time, her obligation to sell was ended and she was, by redelivery, to repossess the certificates. Meanwhile she was to and did receive the dividends which the corporation distributed to its shareholders. Her contemporaneous endorsement and transfer of the dividend to DeGuire so that he might apply the amount against the named price of the shares does not give it the character of a dividend as to him. As in Charles M. Thorp, Jr., supra, after she, as shareholder, had received the amount quo. dividend and transferred it to DeGuire, it lost its character as a corporate distribution; and, as in Max Viault, et al., 36 B. T. A. 430, its use by DeGuire was in reduction of the price of the shares. See also Ruphane B. Iverson, 29 B. T. A. 863; A. Levy & J. Zentner Co., 31 B. T. A. 386. We confess our inability to find a satisfying distinction from Long v. United States, 66 Ct. Cls. 475, unless it be that by the contract, which is not set forth in the findings or opinion, Long had become the owner of the shares during the time they were in escrow. Otherwise we must respectfully differ from that decision.

The petitioner is held to have been the owner of the shares at the time of the payment of the dividend on December 15,1936, and to have been the recipient of the dividend at that time. The amount thereof is properly within her gross income for 1936.

2. The Commissioner, in the notice of deficiency, treated the petitioner as if she had disposed of 5 percent or 200 shares of her stock in her contract with her attorney for services in regard to her husband’s estate. Respondent now affirmatively pleads that this was error and that the petitioner continued to be the owner of 4,000 shares and in law and in fact received the entire $28,000 dividend. In this, the affirmative contention must be sustained. The attorney never owned any of the petitioner’s 4,000 shares. She contracted, in lieu of the $12,500 which she was obligated to pay him, to pay him $10,000 at once and an amount (limited to $5,000) measured by a percentage of what she received as dividends or proceeds from the sale of the shares. Before she was obligated to pay she had to receive. The receipt by her was income, irrespective of her obligation as to its contemporaneous or subsequent use to pay for legal services, Lansill v. Burnet, 58 Fed. (2d) 512.

The entire $28,000 is to be included as a dividend in petitioner’s income.

3. In respondent’s brief, he:

concedes of course that in the event the Board holds that the contract with Mr. DeGuire did not effect a completed sale in January, 1936, and the petitioner is therefore taxable on the $28,000 of dividends, then the petitioner did not realize any taxable gain in 1936 from the sale of the stock:. * * *

This concession removes from controversy the issue as to the value of the stock to be used as basis for gain or loss on the sale and the secondary issue as to petitioner’s estoppel by reason of the value used in determining estate tax at the time of her husband’s death.

Reviewed by the Board.

Decision will he entered under Rule SO.

Aetjndell,

dissenting: Confessing with the majority an inability to satisfactorily distinguish this case from Long v. United States, 66 Ct. Cls. 475, and being of the opinion that that case correctly decides the question of the taxability of the dividends on the stock in escrow, I think the opinion in this case improperly holds the dividends taxable to the petitioner.

Lurch agrees with this dissent.


author: Murdoch: Opper,

text:
    Jack L. Warner, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97401.
    Promulgated October 15, 1940.

      Stcmleigh P. Friedman, Esq., and Lawrenee A. Baker, Esq., for the petitioner.

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

Murdoch:

The Commissioner determined the following deficiencies in gift tax:

$75.14
541.60
3, 969.41

The petitioner assigns as error the action of the Commissioner in holding that a gift tax is due from the petitioner on account of income paid in each year to his son and former wife from a trust established by his brother Albert. The Commissioner raises, as an alternative to the correctness of his determination, an affirmative issue that he erred in failing to tax as gifts to the petitioner the income payments made in the taxable years from a trust established by the petitioner. The petitioner claims two exclusions of $5,000 each in case the respondent’s primary contention is sustained, three in case the respondent’s alternative contention is sustained, and two others in respect to an “insurance trust.” The facts have been stipulated.

Harry, Albert, and Jack L. Warner are brothers. They are the principal executives of Warner Bros. Pictures, Inc. Each has a substantial amount invested in that corporation. The death in 1931 of Lewis Warner, son of Harry, who had been expected to succeed the three brothers in representing the family interests in the corporation, caused the brothers to consider ways and means of insuring the financial security of themselves and their families and of protecting themselves against the exigencies and hazards of the talking picture business, in which the bulk of their fortunes was invested.

They decided to place about $6,000,000, invested in United States Government obligations, in three trusts. The trusts were to be substantially identical except as to beneficiaries and were to be as safe as possible from acts of the brothers and their families. Stan-leigh P. Freidman has been closely associated with the Warners as counsel since 1912. They consulted him and he drew three trust instruments to secure a “maximum of revocability,” to prevent any one brother from invading the corpus, to exclude any “possibility of reverter” to the grantor of the corpus of any trust, to prevent the grantor of a trust from receiving income of that trust, to prevent any one brother from dominating the affairs of the family of a deceased brother, and to minimize and avoid estate taxes. Counsel also suggested that the trusts be created before the gift tax provisions proposed in the 1932 Revenue Bill should become the law. The three trusts were created on May 26, 1932, one by each brother, and each brother transferred to the trust created by him $2,000,000 fiice amount of United States Government obligations belonging to him.

The trust created by Albert Warner provided that the income from one-half of the corpus should be paid to the petitioner, the income from one-fourth should be paid to Jack M. Warner, son of the petitioner, and the income from one-fourth should be paid to Irma Warner, then the wife of the petitioner. The income was so paid during the three taxable years. The trustees named were the three Warner brothers, Friedman, and a bank. The power to revoke, alter, and amend was vested exclusively in Harry Warner, Friedman, and the petitioner, acting together. The corpus affected by any revocation was to go to the petitioner or his estate. The Commissioner has held that the petitioner was the grantor of that trust, he could revoke it, and the income payments to Irma and Jack M. were gifts from him.

The petitioner created a similar trust on May 26,1932, under which the income from one-half was payable to the wife and daughters of Harry. The trustees were the same. The power to revoke, alter, and amend was vested in Harry, Albert, and Friedman, and the corpus affected by a revocation was to go to Harry. Harry also created a similar trust on the same day, the chief differences being that the income was payable to Albert and his wife, the power to revoke, alter, and amend was vested in Albert, Friedman, and the petitioner, and the corpus affected by a revocation was to go to Albert.

It does not appear that any one of the Warners would have created a trust for the benefit of his brother’s family had not the other two agreed at the¡ same time to create similar trusts but, on the contrary, the creation of each was dependent upon and in consideration of the creation of the other two.

The Commissioner has determined the deficiencies upon the theory that the petitioner was the settlor of the trust which made the payments to his son and his former wife; he and two persons without adverse interests could revoke the trust; the trust was an incomplete gift; and the payment of the income to the son and former wife constituted a gift taxable to the petitioner. The Commissioner still advances that theory as his primary contention. He argues that the petitioner was the real, though not the nominal, grantor of the trust benefiting the petitioner and his family as a result of the reciprocality of the almost identical trusts. The case of Allan S. Lehman, et al., Executors, 39 B. T. A. 17; affd., 109 Fed. (2d) 99; certiorari denied 310 U. S. 637, holds, under similar circumstances, that one who by paying a quid pro- quo has caused another to create a trust for his benefit may properly be regarded as the settlor. The Commissioner continues with the argiunent that the petitioner, the settlor, has retained for himself, in conjunction with two others without adverse interests, the power to alter, amend, or revoke the trust. Therefore, concludes the Commissioner, the income, which the petitioner had the power to withhold, was a gift as it was paid to the wife and son during the taxable years.

He also makes an alternative argument, solely for protection and quite subordinate to the one just described. It is that the payments of income from the trust created by the petitioner for the benefit of Harry’s family are taxable gifts from the petitioner, since the reservation of powers in others to alter, amend, or revoke left the gift to the beneficiaries incomplete until income was actually paid to them.

An absolutely essential premise in each of these contentions of the Commissioner is that current income from a revocable trust constitutes a taxable gift at the time it is paid to the beneficiaries. The Board has held directly to the contrary in Estate of Giles W. Mead, 41 B. T. A. 424, after considering the same arguments which the Commissioner makes here to support his premise. The Board disagrees with the present argument of the Commissioner that the Mead case was incorrectly decided. He nest attempts to distinguish the present case from the Mead case on the ground that there the income of the trust was not taxable to the settlor, whereas here it would be. We need not decide whether the factual difference exists, because it would not distinguish the cases in any event. The income tax question was mentioned in the Mead opinion, but that opinion was not made to depend upon whether or not the income of the trust was taxable to the grantor. The cases are not distinguishable upon the ground suggested by the Commissioner or upon any other ground that has come to our attention. It follows that the payment of the income of the trusts was not the occasion of a taxable gift and neither argument of the Commissioner supports bis determination of deficiences.

The only question remaining for decision is whether the petitioner is entitled to annual exclusions up to $5,000 for each beneficiary in computing his annual gifts to an insurance trust resulting from his payment of the annual premiums. The petitioner had irrevocably assigned to the trust certain policies of life insurance upon his own life. The trustees were to collect the proceeds upon his death, invest them, and pay the income from the investments to the son and to the then wife of the petitioner, with remainders over. The interest of the wife was eliminated on March 19, 1935, and the son remained as the sole life beneficiary. The payment of the premiums did not constitute gifts of future interests and, consequently, the exclusions are allowed under section 504 (b) of the Revenue Act of 1932. Edwin Goodman, 41 B. T. A. 472; Welch v. Davidson, 102 Fed. (2d) 100. A separate exclusion is allowed for each beneficiary. Wilton Rubinstein, 41 B. T. A. 220. Contra, United States v. Ryerson, 114 Fed. (2d) 150.

Eeviewed by the Board.

Decision will be entered umder Rule 50.

Opper,

dissenting: Eevenue Act of 1932, section 501 (c) provides:

The [gift] tax shall not apply to a transfer of property in trust where the power to revest in the donor title to such property is vested in the donor, * * * bUt * * * any payment of the income therefrom to a beneficiary other than the donor shall be considered to be a transfer by the donor of such income by gift.

Although this section was repealed by Kevenue Act of 1934, section 511, that action was not retroactive and can have no effect on two of the years, 1932 and 1933, which are before us here. Of greater and seemingly- controlling significance is the reason given for the repeal, which was: “Since the principle expressed in that section is now a fundamental part of the law by virtue of the Supreme Court’s decision in the Guggenheim Case.” In that case Mr. Justice Cardozo made it clear that where the power to revoke is retained no completed gift of principal or future income results. “As to the principal of the trusts and as to income to accrue thereafter the gifts were formal and unreal.” The opinion goes on to say that in making “deeds of gift after the Act of 1924” taxpayers “had the assurance of a Treasury regulation that the tax would not be laid, where the power of revocation was uncanceled, except upon the income paid from year to year” (Emphasis added.) If this statement of existing law was the reason for the repeal of section 501 (c), that action is no reason for failure to apply the gift tax to “the income paid from year to year.”

And since it was the payment of income “which was taxed as a transfer and not the transfer in trust, the statute was not retroactively applied” so as to contravene the prospective emphasis furnished by section 501 (b).

I respectfully dissent.

Disney and HaRRON agree with this dissent.

       It would appear that the payment of this income could not he a taxable gift from the petitioner under any circumstances, since he had parted absolutely with the property and had retained no power to revest title in himself. Cf. section 501 (c) of the Revenue Act of 1932, repealed as unnecessary by section 513 of the Revenue Act of 1934.

       H. Rept. No. 704, 73d Cong., 2d sess., p. 40, Sen. Rept. No. 558, 73d Cong., 2d sess., p. 50. And see Estate of Sanford v. Commissioner, 308 U. S. 39, 45.

         Burnet v. Guggenheim, 288 U. S. 280.

        Estate of Sanford v. Commissioner, supra, p. 43.