author: Okpee :

text:
    St. Louis Union Trust Company, Richard McCulloch and Lawrence A. Olwell, Trustees u/w of John I. Beggs, Deceased, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 94213, 94214.
    Promulgated June 29, 1939.

      Henry J. Richardson, Esq., and G. Powell Fordyce, Esq., Samuel W. Fordyce, Esq., and John Lewis Kelly, Esq., for the petitioners.

      W. H. Schwatka, Esq., Thomas R. Oharshee, Esq., and Max Turner, ÍEsq., for the respondent.
   OPINION.

Okpee :

The first issue is as to the number of trusts created by decedent’s will. It is, of course, fundamental, as both parties agree, that this question is to be determined in accordance with the testator’s intention. They differ as to the tests by which that intention may be discovered. The problem is elusive, for save in the tax realm it may frequently prove immaterial how many “trusts” exist. But the point must be decided, and it seems to us that our investigation should be directed not to the use of individual words on the one hand, nor to isolated provisions of the will on the other; but that the test is whether, in the effectuation of the testator’s plan and, observing the instrument as a whole, it is more reasonable to treat the interests of the beneficiaries as separate and divisible or as one and indivisible.

Applying this principle we conclude that the purpose of the testator was to segregate the interests of the individual grandchildren so that the rights in the property held for them and proportionately distributed to them, both as to principal and income, should be treated in severalty. Perhaps no single provision of the instrument would suffice for this conclusion. Without reciting its provisions in detail it seems clear from the entire will and particularly those portions summarized in our findings of fact that it would do violence to the testator’s intention to assume that a separate interest was not granted to each grandchild.

If that result follows in the case of the trusts for the benefit of the grandchildren the implication is even stronger with respect to the trust created by section 9 of the trust instrument, for there it is specifically provided that this “specific trust shall be separately held, administered, invested” and reinvested.

There are but two indications that might be said to lead to the conclusion that a single trust was intended. As to both, however, it is by now definitely settled that such provisions are not inconsistent with the creation of separate trusts. Neither the requirement that the property be held as one fund, United States Trust Co. of New York v. Commissioner, 296 U. S. 481; Helvering v. MoIlvaine, 296 U. S. 488, nor the provision for cross-remainders, Leonard Marx, 39 B. T. A. 537, requires us to find that there is but a single trust. We conclude that the effect of decedent’s will was to create a trust for each of the three grandchildren and an additional trust for the purposes described in section 9 of the will.

The second issue brings into question the character of the payments to be made to decedent’s daughter under section 9 of the will. The controversy is whether these constituted an annuity payable at all events, Helvering v. Pardee, 290 U. S. 365, or were income currently distributable to the beneficiary for which petitioners are entitled to a deduction. Helvering v. Butterworth, 290 U. S. 365. While in this respect the will is not so clear as might be desired, the directions of the testator appear to us to indicate that payments were to be made to the daughter only out of income. In the third paragraph of section 9 the testator provides that a fund shall be set apart sufficient to “sustain out of the net income thereof” “the continuance of the aforesaid” incomes, to which he refers in the next three sub-paragraphs, and the first of which is the daughter’s annual payment earlier required, by section 8, to be paid during administration. It will be noted that this provision by itself directs only the creation of the fund and fails to provide for the annual payments to the daughter except possibly by inference. We should expect to find a further express authorization to the trustees to make these payments; and that in fact appears in a later paragraph (the ninth) of the same section. At that point the testator enjoins: “Said specific trust shall be separately held, administered, invested, re-invested and the net income thereof applied by my Trustees for the continuance of said incomes during the periods hereinbefore defined; * * In the case of the daughter that period is for the remainder of her life. Thus the language authorizing the trustees to make payments to the daughter is specifically limited to “the net income.” And that is the only provision of the will which expressly confers any authority whatever to use the fund or its proceeds for the daughter’s benefit. We conclude that the trustees were limited in executing that part of the trust by the scope of the provision last quoted and that they are not required, Georgie W. Rathborne, 37 B. T. A. 936, nor in fact permitted, to make the annual payments to the testator’s daughter except out of income and unless the income of the fund set apart is sufficient to sustain any payments made. On this point respondent’s determination must be reversed.

Another issue arises by reason of the claim of the trustees that they are entitled to deduct as ordinary and necessary business expenses the cost of maintenance and upkeep of the testator’s summer place called “Beggs Isle”, the use and occupancy of which was devised to testator’s daughter during her life and after her death to her husband and children. The expenses were so paid pursuant to express provisions of the will which required that the trustees establish a fund the income of which would be sufficient for that purpose.

All of the cases cited by petitioners in support of their contention are readily distinguishable on their facts, with a single exception which requires more extended treatment. In William W. Mead et al., Executors, 6 B. T. A. 752; George W. Seligmam, 10 B. T. A. 840; Florence Grandin, 16 B. T. A. 515; and Robert J. Kleberg et al., Executors, 31 B. T. A. 95, there was no question as to the character of the activities engaged in by the trustees or executors. Their extent and effect was the point at issue and it is clear from those cases as well as others that a trustee, as such, may be engaged in a trade or business by the operation or preservation of a large estate for income producing purposes.

We consider Margaret B. Sparrow et al., Trustees, 18 B. T. A. 1, inapplicable because the contention advanced here by respondent was apparently neither made nor considered in the Sparrow proceeding; and the decision went off on the ground that the privilege granted to the beneficiary to occupy the residence was not a life estate and that the expenditures by the trustees were consequently not to be considered as made for or chargeable to the beneficiary. In the present proceeding there appears to be serious doubt whether testator’s daughter did not receive under the will an interest in the real property which was tantamount to an estate for life. Her rights were given by “devise” and the property was described at length by metes and bounds with a particularity which would be suitable in the case of a conveyance. She was given not only the “occupancy” but the “use” of the property and it may well be that this language was broad enough to vest in her all of the attributes of a life tenant. Furthermore, the devise to the trustees is only of the “remainder, residue and increase” of the decedent’s estate after the devise to the daughter in a preceding paragraph.

However that may be, the respondent now urges that the maintenance of a residence for the use of a beneficiary is not a trade or business within the meaning of section 23 (a) of the Eevenue Act of 1934, and it seems to us that this contention must be sustained.

Petitioners cite with approval the definition of the term “business” contained in Flint v. Stone Tracy Co., 220 U. S. 107, 171, as follows:

“ ‘That which occupies the time, attention, and labor of men for the purpose of a livelihood or profit ’. Bouvier’s Law Dictionary, Vol. I, p. 273.” [Emphasis added.]

There is of course no reason to doubt the accuracy of the definition, but it seems to us that petitioners overlook the force of the italicized language. For here the activity of the trustees in maintaining the “Beggs Isle” property could in no event be for the purpose of a livelihood or profit. Gertrude D. Walker, 20 B. T. A. 937; Chaloner v. Helvering, 69 Fed. (2d) 571. It is true that the expenditures in question were enjoined upon the trustees by the instrument to which they were subject in administering the trust. And it is also true that the petitioners in their individual and corporate capacities may have been engaged in the trade or business of acting as trustees. But just as, according to petitioners’ contention, the trust and the beneficiary must each be considered in its respective taxpaying capacity, so it seems to us the trustees as individuals and the trust must be considered in severalty. It is the trust and not the trustees which is the taxable entity; and it is the trust which must be engaged in a trade or business, just as an individual, if the deduction is to be permitted. George Vanderbilt Trust et al., Trustees, 36 B. T. A. 967, 970. It having been made clear, as we think, that the trust under no circumstances could be said to have entered into these transactions for the purpose or even with the possibility of obtaining a gain or profit, we conclude that the trust was not thereby engaged in a trade or business and that accordingly the expenses thereof are not deductible.

The contention made on behalf of the petitioners that the expenditures involved were ordinarily and necessarily incurred for the preservation of the property we believe to be equally without force. The property was being retained and for all that appears will continue to be retained until an indefinite time in the future, not for purposes of lease or sale nor for any other purpose connected with a pecuniary benefit of the trust. Under these circumstances we find nothing in the facts which would justify the conclusion that any of the expenses of maintenance and operation are necessary or ordinary as applied to any business transaction. See Gertrude D. Walker, supra.

In one respect, however, respondent does not appear to contest the assertion advanced by petitioners. That is that taxes paid by them which are deductible under the express language of section 23 (c) and regardless of the existence of any trade or business should be allowed. To that extent the respondent’s original determination on this issue is overruled, provided the parties can agree on the proper amount on recomputation.

Thei final issue does not appear to be urged with great force by petitioners. It relates to the contention that the trust estate is entitled to deduct as income currently distributable an amount which by the will is to be credited to the grandchildren “as interest” upon undistributed accumulations of income. Without setting forth the provisions of the will upon which this procedure was based, which are summarized in our findings of fact, it is sufficient to point out that the will merely provides for a method of apportioning to the grandchildren sums which will presumably compensate them respectively and equitably for any unequal distribution of current estate income. It is apparently a pure bookkeeping item without relation to income actually received by the estate and as far as the record shows it does not represent estate income. For this reason it seems to us the provisions of section 162 of the revenue act are completely inapplicable, since that section refers only to “the net income of the estate or trust” and provides only for a deduction of such portions of that net income as shall be currently distributable. Since the amounts in question do not represent estate income in the first place, we find it unnecessary to decide whether or not they were currently distributable and the deductions must be disallowed.

Respondent now concedes that petitioners are entitled to deduct a payment of prepaid fire insurance premiums and petitioners have apparently conceded a question raised as to the distributable character of certain accumulations and there appears to be no present dispute between the parties on these points.

Reviewed by the Board.

Decision will be entered rnder Rule 50.

Murdock dissents.

Leech dissents from the decision of the majority on the second issue.

       Secs. 142 (a), 161 (b), and 162, Revenue Act of 1934.


source: Caselaw Access Project

author: Leech:

license: Public Domain

text:
    Rowe B. Metcalf, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 87328.
    Promulgated June 30, 1939.

      Harold, B. Tanner, Esq., and Rollin Browne, Esq., for the petitioner.

      S. U. Hihen, Esq., for the respondent.
   OPINION.

Leech:

This is a proceeding to redetermine a deficiency of $10,972.14 in petitioner’s income tax for the calendar year 1934. The amount of the deficiency has already been paid by petitioner, so that the question is whether petitioner has overpaid his tax for that year. The only issue is whether the income of a trust, established by petitioner for the benefit of his divorced wife, is taxable to petitioner.

The facts are found as stipulated.

Petitioner married Mary Sewall in June 1922, the ceremony being performed in the State of Maine. Marital differences subsequently arose and, prior to September 24, 1980, petitioner orally agreed witb his wife that if she should secure a divorce from him within one year after September 24, 1930, he would pay her $150,000 and establish a trust fund of $600,000 for her, in lieu of alimony. The divorce decree was to contain no provision in this respect, while she would execute and deliver deeds releasing all dower and other rights in petitioner’s real estate located in North Carolina and Connecticut.

On September 24, 1930, petitioner’s wife, Mary Sewall Metcalf, instituted a proceeding against petitioner for an absolute divorce in the Superior Court of Cumberland County, Maine, where the parties had been residing for more than a year. On the same day and just prior to the institution of the divorce proceedings, petitioner entered into an agreement and also an indenture of trust with the Old Colony Trust Co. of Massachusetts. Keciting the marital differences between petitioner and his wife, the oral agreement, conditioned upon her procuring a divorce from petitioner and providing for the creation of the trust by petitioner, in lieu of alimony, and the deposit by petitioner of the moneys necessary to carry out the oral agreement pursuant to the terms of the attached trust indenture, the agreement provided that, until a certified copy of the divorce decree and the deeds releasing dower should be presented to it, the Old Colony Trust Co. would invest the moneys just as if the trust were in operation, and upon presentment of such decree and deeds, would deliver $150,000 to Mary Sewall Metcalf (or the securities in which it might have been invested), $600,000 (or the securities in which it was then invested) to the Old Colony Trust Co. as trustee under the trust indenture and transfer the deeds to petitioner. It further provided that if Mary Sewall Metcalf should not procure the divorce within a year, the Old Colony Trust Co. would return the moneys or the securities in which they had been invested to petitioner and that the annexed trust indenture would be null and void.

The trust indenture provided that as soon as the trustee should receive the sum of or the investments representing $600,000, it was to hold, manage, invest, and reinvest the property in trust for the following purposes: To pay the net income to Mary Sewall Metcalf for her life, upon her death to pay the net income to the three minor children of the settlor and Mary Sewall Metcalf, or their issue per stirpes, until all of the children should have reached the age of 35 or died, and then to distribute the principal among the living children and/or their issue per stirpes. In the event that none of the children nor their issue should take the principal at that time, the principal was to be distributed as on the donor’s intestacy.

The indenture further declared that petitioner, as donor, reserved no right to amend or revoke the trust and that all rights which the donor then had or might have, to control or otherwise deal with the trust, were thereby relinquished.

Mary Sewell Metcalf was granted a decree of absolute divorce from petitioner on December 2, 1930. The decree contained no provision for alimony. Shortly thereafter she presented a certified copy of the decree and deeds releasing her dower rights, to the Old Colony Trust Co., and received the sum of $150,000. The trust company transferred the $600,000 to itself as trustee and the trust came into operation. The deeds of release were delivered to petitioner.

On September 21, 1935, Mary Sewall Metcalf petitioned the court, which had granted the divorce, for a clarification of the decree, by insertion of a provision for alimony therein. The court handed down a decision dismissing this petition on December 16, 1935. In its opinion it pointed out that, since the parties had entered into their own agreement for financial arrangements and a property settlement, there was no ground for altering the decree.

The net income of the trust for the year 1934, amounting to $20,929.02, was not included in petitioner’s return for the calendar year 1934. It is respondent’s contention that such income is properly taxable to petitioner.

Because the income of a trust for the benefit of the divorced wife of the settlor is charged with the payment of a legal obligation of the settlor to provide for the wife’s support and maintenance, the Supreme Court has held in Douglas v. Willcuts, 296 U. S. 1, that such trust income is taxable to the settlor. Petitioner earnestly argues that the application of the doctrine of Douglas v. Willcuts, supra, is precluded by two facts here. These facts, absent in the Douglas case, are (1) the divorce decree makes no mention of alimony nor does it refer to the trust in any way; and (2) the petitioner is under no continuing obligation to make up deficiencies in the annual income of the trust in order to provide his wife with a specific yearly sum, but on the contrary has fully liquidated his obligation of support by the act of creating the irrevocable trust.

There is no merit in the first contention. In Helvering v. Coxey, 297 U. S. 694 (reversing 79 Fed. (2d) 661) ; Helvering v. Brooks, 82 Fed. (2d) 173; and John Ernest Goldring, 36 B. T. A. 779, all of which were decided since the Douglas case, the divorce decrees made no reference whatever to the trust settlements nor did they provide for alimony. Nevertheless those cases followed Douglas v. Willcuts and held the income of each trust taxable to the respective settlors. The reason for this is, as pointed out in Commissioner v. Hyde, 82 Fed. (2d) 174, that the wife, relying on her husband’s promise to create the trust, does not ask for an alimony provision in the decree. a * * * fjnder snch circumstances to hold that the trust was established as a voluntary gift and that the trust income has not been used to satisfy the husband’s obligation of support would be to close one’s eyes to the realities * *

Similarly, the courts and the Board, in the above cases, paid no attention to whether the settlor was required to make up deficiencies in the trust income. The obligation of support is not liquidated by the mere creation of the trust. It is the continuous operation of the trust which satisfies this obligation. “ * * * Petitioner did not part with all present interest. Under the facts and circumstances here the income distributed was charged with serving a beneficial use of the grantor, i. e., a partial discharge of his legal obligation for the support and maintenance of his wife arising by reason of the marriage relation and the support and maintenance of his minor children by reason of his parental obligation * * Stephen J. Leonard, 36 B. T. A. 563.

It is clear that the present trust discharged a legal obligation of petitioner. Under Maine Kevised Statutes, 1930, ch. 73, sec. 9, the divorce court has a discretionary power to decree alimony payments. See John Ernest Goldring, supra. The court that granted the divorce to petitioner’s wife did not so decree because the wife, being already provided for, did not ask for alimony. When, in a later proceeding, she sought to have the decree amended, the court declined to do so on the express ground that provision for support had already been made by the agreement of the parties. It is to be noted that the agreement of September 24, 1930, specifically recited that the trust fund was being created “in lieu of alimony.” See Alsop v. Commissioner, 92 Fed. (2d) 148, 149.

We have not overlooked the case of Commissioner v. Tuttle, 89 Fed. (2d) 112. That case has not been followed because it is out of line with the Broohs and Coxey cases (see John Ernest Goldring, supra). Moreover, it is distinguishable in that there the trust settlement was to take effect regardless of the outcome of divorce proceedings and thus partook more of the nature of an independent property settlement having no connection with a marital obligation of support. Stephen J. Leonard, supra. Fitch v. Commissioner, 103 Fed. (2d) 702 (reversing a Board memorandum opinion), is directly contrary to the result we reach here. The court there reasons that the creation of the trust was a lump sum settlement which eo instante discharged the grantor’s duty of support. Despite our respect for that tribunal, we find ourselves unable to follow the reasoning of the Fitch case. See also E. T. Weir, 39 B. T. A. 400; Donnelley v. Commissioner, 101 Fed. (2d) 879; and Commissioner v. Hyde, supra.

Decision will be entered for the respoiident.


author: Mellott:

text:
    Estate of Daniel Guggenheim, Deceased, Florence Guggenheim, Executrix, Petitioner, v. Commissioner of Internal Revenue, Respondent.

      Docket No. 77675.
    Promulgated June 30, 1939.

      M. B. Angelí, Esq., Weston Vernon, Jr., Esq., Paul Barringer, Esq., and Henry BrecTcenridge, Esq., for the petitioner.

      Chester A. Gwirnn, Esq., E. G. Sievers, Esq., and Charles E. Lowery, Esq., for the respondent.
   SUPPLEMENTAL OPINION.

Mellott:

Opinion was duly promulgated herein February 2, 1939, and published as report No. 38 in Volume 39 B. T. A., but decision thereon has not been entered. On May 2, 1939, petitioner filed a motion, consented to by respondent, asking that the proceeding be reopened “for the sole purpose of receiving and admitting in evidence and making a part of the record and report herein, a stipulation of fact entered into between the parties” pertaining to the value of the corpus of the trust established by the decedent during his lifetime and discussed in the opinion under Issue VI. The motion was granted and the stipulation was ordered filed. Briefly it states that the substantial difference between the value at the time of the decedent’s death of the property in the hands of the trustee on February 14, 1922, when the settlor relinquished his power of revocation, and the value of the property in the hands of the trustee on the date of the settlor’s death was attributable wholly to “transactions by the trustee for and on behalf of the trust, entered into after February 14, 1922, the major part of which were capital transactions.”

In view of the facts presently stipulated the following question must now be answered: Which of the three stipulated values of the corpus of the trtist should be included in decedent’s gross estate— (1) $990,609, the value on the date of the death of the decedent of the securities delivered to the trustee upon the execution of the revocable trust on May 28, 1918; (2) $996,588.89, the value on the date of the death of the decedent of the property in the hands of the trustee on February 14, 1922, when the decedent relinquished his power of revocation; or (3) $2,289,450.62, plus $705, the value of 75 shares of Anglo-Chilean stock, which aggregate amount was the value, on the date of the decedent’s death, of all the property then comprising the corpus of the trust?

In the opinion promulgated herein on February 2, 1939, it was pointed out that the decedent had retained the power (in the language of the trust instrument) “to alter, define and prescribe the relative interests of the beneficiaries in the trust fund, or the income thereof, their respective shares in the same, their respective powers with respect to such shares, and the time and manner of making distribution * * * together with the power of causing a final distribution to be made at any time to or among the beneficiaries or any of them and so terminating the trust.” This, we held, gave the decedent such substantial control over the trust property that he, like the settlor in Porter v. Commissioner, 288 U. S. 436, remained “dominant in respect of other distributions of both corpus and income”, his death terminating the retained control and ending the possibility of any change being made by him. Being of the opinion that his death was “the source of valuable assurance passing from the dead to the living” and that it was “the event on which Congress based the inclusion” of the property so transferred in his gross estate, we held that the value of the corpus of the trust must be included in his gross estate under section 302 (d) of the Revenue Act of 1926.

Petitioner contends that the maximum amount which may be included is the value, at the date of death, of the property in the hands of the trustee when the decedent, on February 14, 1922, relinquished his power of revocation. This contention seems to us to be unsound. The trustees, as they had a right to' do under the trust instrument, sold some of the securities comprising the corpus of the trust estate subsequent to February 14, 1922, for an amount in excess of their value when transferred to the trust and in excess of their value when the decedent relinquished his power of revocation. If we are correct in holding, as we have held, that the decedent, notwithstanding the relinquishment of his power of revocation, had retained such substantial control over the trust estate that its termination with his death was “the source of valuable assurance passing from the dead to the living” and “the event” requiring inclusion in gross estate, then it seems logical to conclude that all of the property in the trust estate, including the capital gains derived from sales and invested in other securities, should also be included. The decedent had the same degree of control over the proceeds derived from the sales that he had over the property transferred and he lost none of it merely because the proceeds were invested in other property.

Petitioner contends that the facts in the instant proceeding present the precise situation which the Supreme Court had in mind when it stated, in Nichols v. Coolidge, 274 U. S. 531: “* * * Property of small value transferred before death, may have become immensely valuable and the estate tax, swollen by this, may leave nothing for distribution.” We do not agree with this contention. The sentence immediately preceding the quotation shows that the Coprt had in mind “past lawful transactions, not testamentary in character and beyond recall.” Here, however, as we have pointed out, the enjoyment of the property was subject, at the date of the death of the decedent, to “change through the exercise of a power * * * to alter, amend or revoke.” There is, therefore, a substantial difference between the situation here and that which the Court had in mind when it used the language quoted.

Reinecke v. Northern Trust Co., 278 U. S. 339, also cited by petitioner, likewise fails to support petitioner’s present contention. In that case the Court, while affirming the judgment of the lower courts holding that the cor fora of five trusts should not be included in gross estate because the power to alter or revoke was dependent upon the consent of one having an adverse interest, reversed as to the other two trusts, holding “that a transfer made subject to a power of revocation in the transferor, terminable at his death, is not complete until his death.” (See also Chase National Bank v. United States, 278 U. S. 327.) For that reason the Court refused to apply the rule earlier enunciated by it in Nichols v. Coolidge, supra.

While the precise question we are now considering seems never to have been passed upon by the Supreme Court, it was considered and decided by the Circuit Court of Appeals for the Fourth Circuit in Holderness v. Commissioner, 86 Fed. (2d) 137, affirming 33 B. T. A. 155. Cf. Stewart W. Bowers, Trustee, 34 B. T. A. 597. In the Holderness case the decedent in 1926 created an irrevocable trust, depositing with the trustee the sum of $1,364,000, with directions to invest it in income producing securities. She reserved the right to change “the proportions of such estate that shall go to any of the parties named or specified herein.” At the time of her death in 1929 the property had a fair market value of $2,301,070.04, all of which was held to be includible in gross estate. This conclusion, we think was correct; for, as the Supreme Court stated in Porter v. Commissioner, supra, “* * * So far as concerns the tax here involved, there is no difference in principle between a transfer subject to such changes and one that is revocable.” In other words, if the reservation by a transferor of the power of revocation renders the transfer incomplete until his death (Reinecke v. Northern Trust Co., supra) the reservation by a settlor of the power to alter and modify the interests of the beneficiaries has the same effect.

Petitioner also places some reliance upon article 21 of Eegulations 70. If the cited regulation has any applicability, which is doubtful, it does not require a different conclusion. The words used therein— “additions and betterments” — indicate an intention to limit it to buildings or other physical properties; but even if it be assumed that the regulation was meant to embrace other property it could have no application under the stipulated facts. The trustees made no “additions” or “betterments” to the property turned over to them. They sold some of it at a profit and invested the proceeds of the sales, including the profit, in other property. All of it, however, as we have heretofore pointed out, was subject to the power reserved by the settlor. If it were necessary for us to point to a specific article of the Commissioner’s regulations authorizing the inclusion in gross estate of the value of all the property comprising the corpus of the trust at the time of the decedent’s death — but it is not since the statute itself requires that to be done — article 15 of Eegulations 70 would probably be selected. It provides, as applicable here: “* * * If the enjoyment of the property or the interest transferred * * * was subject at the date of the decedent’s death to change by the exercise of any power to alter, amend, or revoke * * * the entire vakoe of the property, or the interest transferred, as of the date of decedent's death must be included in the gross estate * * (Italics supplied.)

We hold that the value, on the date of the death of the decedent, of all the property then comprising the corpus of the trust, or $2,290,-155.62, must be included in gross estate.

Eeviewed by the Board.

Decision will be entered wnder Rule 50.

       Aiw. 21. Valuation of property transferred. — The value must be determined as of the date of the decedent’s death. (See Art. 13.) Where the transferee makes additions to the property, or betterments, the enhanced value of the property at that date, due to such additions or betterments, is not to be included.


author: Mellott :

text:
    Elmer G. Biechler, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 93127.
    Promulgated June 30, 1939.

      Josef h Bradford Ooolidge, Esq., for the petitioner.

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

Mellott :

The Commissioner determined a deficiency in petitioner’s income tax for the year 1934 in the amount of $9,457.69. The questions presented are: (1) Whether the exchange by petitioner in 1930 of his class A and B stock in the Managers Securities Oo. for class A stock in the General Motors Securities Co. was in pursuance of a plan of reorganization so that the latter stock took the basis of the Managers Securities Co. stock for the purpose of determining gain or loss, or whether he is entitled to use a “stepped-up” basis equivalent to its fair market value when acquired; (2) whether petitioner, having joined with the respondent for a number of years in treating the 1930. transaction as a reorganization, may now claim that it was not a reorganization in order to give the stock such “stepped-up” basis, or whether he is estopped from doing so; and (3) whether the surrender by petitioner in 1934 of certain shares of class A stock in the General Motors Securities Co. for common stock in the General Motors Corporation was in partial liquidation of the General Motors Securities Co., within the meaning of section 115 (c) of the Revenue Act of 1934, as determined by the respondent, or, as contended by petitioner, constituted a sale or exchange of a capital asset within the purview of section 117 of the same act.

The facts were stipulated. All of the basic facts in connection with the organization of Managers Securities Co. (hereinafter referred to as “Managers”), its plan of operation, its purchase of com-moil stock of General Motors Co. and of common stock of General Motors Securities Co. (hereinafter referred to as “Motors Securities”), the “Agreement of Reorganization” entered into in December 1930 between Managers and Motors Securities, the steps leading up to the surrender by petitioner and others of their class A and B common stock in Managers and their acquisition of new class A stock in Motors Securities, are shown in Chester A. Souther, 39 B. T. A. 197, and need not be repeated. The additional facts, pertaining to the surrender by petitioner of his stock in Managers for Motors Securities class A stock, the subsequent surrender by him of the Motors Securities stock for General Motors stock, the treatment of the series of transactions by him, and his and the respondent’s present contentions are substantially as follows:

In connection with the distribution in dissolution of Managers on December 29,1930, petitioner received 45,090 shares of Motors Securities class A stock which on that date had a fair market value of $34.25 per share. Petitioner did not return as income in his Federal income tax return for the year 1930 any amount as profit realized by him on the conversion of his Managers class A and B stock in 1930 into Motors Securities class A stock, nor did the Commissioner, after examination, increase his income for said year by any amount with respect to any profit derived by him in that year as a result of the transaction.

In his income tax returns for 1931 and 1933 petitioner reported capital gains from the exchange by him of 13.082 and 8,500 shares of Motor Securities class A stock for a like number of shares of General Motors common stock, and paid taxes computed on a cost basis to him for Motors Securities class A stock of an aliquot portion of the cost of his Managers A and B stock.

On December 18, 1934, petitioner surrendered 1,250 of the Motors Securities class A shares, received in the exchange in 1930, for a like number of shares of General Motors common stock. He does not deny that this was a transaction in which gain or loss must be recognized, but contends that he is entitled to use a cost basis of not less than $34.25 per share for the Motors Securities stock. In his determination of the deficiency respondent used a cost basis of $1.8138192 per share, which substantially reflects the correct aliquot part of the cost to petitioner of the Managers stock, and included in his income, under section 115 of the Revenue Act of 1934, the entire amount of the gain computed on such basis.

Our present discussion will be limited largely to the additional argument advanced by counsel for the petitioner at the hearing of the instant proceeding and to the brief filed by the same counsel in connection with the “application for reconsideration” in the Souther case. But first a brief resume of the most salient facts in connection with the exchange of the Manager’s stock for class A stock of Motors Securities in 1930 will be given.

On December 29,1930, Managers properties consisted of cash, notes of General Motors Acceptance Co. (the aggregate of the two being sufficient to pay its Federal income tax, which was its only liability), 290,310 shares of General Motors common stock and 148,509 shares of the common stock of Motors Securities. The sole asset of Motors Securities consisted of 7,500,000 shares of General Motors. One share of Motors Securities stock had a value equivalent to 28.4 plus shares of General Motors and the 148,509 shares of the common stock of Motors Securities owned by Managers would have liquidated for 4,218,750 shares of General Motors. On that date, pursuant to an “Agreement of Reorganization”, Managers transferred to Motors Securities its General Motors stock and its shares of Motors Securities. Motors Securities amended its articles of incorporation to provide for the issue of 4,509,060 shares of class A stock with a par value of $1 per share and the right to %0o °f a vote. For the sole benefit of the class A stock a special asset account was set up, to which 4,509,060 (4,218,750+290,310) shares of General Motors were allocated. A class A surplus account was created, to which was to be credited all income and profits received in connection with the General Motors stock in the special asset account. The 4,509,060 shares of class A Motors Securities stock were delivered to Managers, and Managers distributed it among its stockholders, surrendered its corporate charter, and dissolved. Petitioner received 45,090 of the class A shares as above set out having a value of $34.25 per share. Although the Managers stock which he surrendered had a cost basis of only about $1.81 per share, no gain was reported by him or asserted by the Commissioner.

The questions in the instant proceeding are the same as those decided in the Souther case. Petitioner, like the petitioners in that case, contends that the acquisition of the class A Motors Securities stock was a transaction in which neither gain nor lbss was to be recognized because of the provision of section 112 of the Revenue Act of 1928 j that he is entitled to a “stepped-up” basis for the stock disposed of in the taxable year; that the gain upon the surrender of Motors Securities class A stock for General Motors stock should be recognized only to the extent prescribed by section 117 of the Revenue Act of 1934; and that section 115 (c) of the Revenue Act of 1934, is not applicable. We found the contentions to be unsound and upheld the deficiencies determined by the Commissioner.

It is urged that the Board erred in following its own decision in H. B. Leary, Sr., 34 B. T. A. 1206, and the opinion of the Court of Appeals for the Fourth Circuit affirming it in Helvering v. Leary, 93 Fed. (2d) 826. In this connection it is pointed out that three Circuit Courts of Appeals — the Second, Ninth, and Third — have held that the transaction involved in what may, for convenience, be designated the “Food Industries” cases, was a reorganization within subdivision (B) of section 112 (i) (1), supra, rather than within subdivision (A). Two of the cases were discussed in the Souther opinion—Helvering v. Schoellkopf, 100 Fed. (2d) 415, and Commissioner v. Kolb, 100 Fed. (2d) 920. The third one — Commissioner v. Food Industries, 101 Fed. (2d) 748, promulgated February 9, 1939, by the Court of Appeals for the Third Circuit — has been decided since our decision in the Souther case. See also Commissioner v. Whitaher, 101 Fed. (2d) 640. The basic facts in the Food Industries case are as follows:

In 1931 the outstanding capital stock of a New York company consisted of 90,775 shares of no par value $8 cumulative preferred and 429,719 shares of no par value common stock, both classes of stock having equal voting privileges. In round figures, the ratio of voting power of the common to the preferred was 429 to 90. A Maryland corporation owned all but 313 shares of the New York company’s common stock, but owned none of its preferred. The only other property of the Maryland corporation consisted of miscellaneous assets valued at about $61,000. It was decided to dissolve the Maryland corporation, and a plan was entered into by the Maryland corporation and the New York company, which, in so far as here material, was as follows: Both corporations agreed to reorganize their corporate structures by reclassifying their common stock so that the outstanding shares of the Maryland corporation would approximately equal, on a share for share basis, its holding of the common stock of the New York company. The New York company changed its outstanding 429,719 shares of no par common stock into 1,594,798.93 shares of $5 par value common stock, of which the Maryland corporation, as holder of shares of common stock of the New York Company, was entitled to receive 1,593,637.31. The result of this capital reorganization of the New York company was to increase the ratio of voting power of the common oyer the preferred from 429 to 90, to 3,747 to 90. The Maryland corporation amended its charter to reclassify its total of 3,472,360 shares of outstanding common stock into 1,593,640.80 shares of common. The Maryland corporation then transferred its shares of the common stock of the New York company, and miscellaneous assets having a value of about $61,000, to the latter corporation and received 1,593,637.31 shares of its (the latter company’s) common stock. The stockholders of the Maryland corporation surrendered their stock in that corporation and received stock of the New York company. The Maryland corporation was then dissolved.

At the time of our decision in the Souther case, all three of the Circuit Courts, which had passed upon the question, had held that there was a nontaxable reorganization in the Food Industries transaction outlined above. The Second and Ninth had held that it came within subdivision (B) of section 112 (i) (1), supra, and a similar holding has now been made by the Third and First. The Fourth, as pointed out in the Souther case, affirmed our conclusion that it came within subdivision (A). In reaching this conclusion in Helvering v. Leary, supra, it said:

The New York Company undoubtedly acquired substantially all the properties of the Maryland Corporation and immediately reissued its own stock in exchange therefor. The interest of the stockholders of the Maryland Corporation in the business owned by the New York Company and the Maryland Corporation, the holding company, remained, with but slight change, in the property owned by the New York Company after the plan was carried out. It seems clear that such a situation results, in its legal effect, in a reorganization within not only the letter but the spirit of the taxing statute and brings the transaction within that class which Congress plainly intended not to tax until the stockholder finally disposed of his stock and his profit was definitely ascertainable. There was no change in the taxpayer’s position with respect to the ownership of the property but merely a change in the form of the stock certificates held by him.

In Commissioner v. Kolb, supra, the Ninth Circuit, holding that our finding to the effect that the Maryland corporation had transferred “substantially all of its assets” was too broad, said: “The evidence does not show that ‘substantially all’ the assets of the Maryland Corporation were transferred to the New York Company, for the New York common was surrendered for the issue instanter of a reclassified substitute. There was hence no reorganization under 112 (i) (1) (A) * * This, and language somewhat similar used by the other courts, is relied upon by petitioner as supporting his contention that there was no subdivision (A) reorganization under the facts presently stipulated.

Was there in December of 19S0 an acquisition by Motors Securities of substantially all the properties of another corporation (Managers) ? If so, then petitioner, and the other stockholders of Managers who were before us in the Souther case, correctly refrained from reporting any taxable gain in connection with the exchange made by them in 1930 and are not entitled to use any “stepped-up” basis upon the disposition in the taxable years of the stock received in such exchange.

Under the “Agreement of Reorganization”, the shares of General Motors common and of Motors Securities common owned by Managers were to be and were transferred to Motors Securities in exchange for a new class A stock of Motors Securities. Assets, consisting of cash and notes having a value of approximately $1,000,000, were retained by Managers and used to liquidate its liabilities. The class A stock which was received by Managers in this exchange differed materially from the stock which was given up in the exchange. The General Motors stock which was turned in by Managers, together with 30 percent of the General Motors stock owned by Motors Securities, was placed in a special asset account. To this account there was to be credited only the “income, rights and profits received in connection” with such assets, and the “increases thereof or substitutes therefor as a result of stock dividend, exchange, or otherwise.” The Motors Securities class A stock issued to Managers and distributed to its stockholders had certain attributes not possessed by Motors Securities common stock, including the right of each holder, “before any distribution be made to stockholders of any other class, to receive his pro rata share of the assets allocated thereto, viz., one such present share of General Motors Corporation * *

If Managers, under the “Agreement of Reorganization”, had transferred to Motors Securities all of its properties, including the cash and notes, and, after receiving in exchange therefor stock of Motors Securities, had been dissolved, there would have been a true merger and hence a reorganization, and a consideration of the parenthetical clause of subdivision (A) would not be necessary. However, it did not transfer the cash and notes. The parenthetical clause of subdivision (A) was intended to embrace transactions partaking “of the nature of a merger or consolidation but [which are] beyond the ordinary and commonly accepted meaning of these words — so as to embrace circumstances difficult to delimit but which in strictness cannot be designated as either merger or consolidation.” Pinellas Ice & Cold Storage Co. v. Commissioner, 287 U. S. 462; Helvering v. Minnesota Tea Co., 296 U. S. 378. Examining the transaction in the light of these cases, we are of the opinion that it partook “of the nature of a merger or consolidation.” The cash and notes retained by Managers amounted to approximately 2 per centum of its total assets. The retention of cash or quick assets for the purpose of paying the liabilities of the transferor corporation does not prevent the application of the parenthetical clause of subdivision (A). Nelson Co. v. Helvering, 296 U. S. 374; Claude Neon Lights, I no., 35 B. T. A. 424; Milton Smith, 34 B. T. A. 702; Western Industries Co. v. Helvering, 82 Fed. (2d) 461. The 98 per centum of the assets of Managers, consisting of General Motors common stock and Motors Securities common stock, were transferred to Motors Securities. These assets were merged with the assets of Motors Securities and Managers’ corporate existence was terminated. The former stockholders of Managers, to whom the class A stock was distributed, still had merely an interest in a corporation whose principal asset consisted of stock in the General Motors Corporation. They thus carried out their intention, and merely brought their “stock interest one step closer to the prime asset, viz., General Motors common stock in the Treasury of General Motors Securities Company” and were afforded the “opportunity at any time for those so desiring to liquidate it into General Motors common stock.” (Letter of president to stockholders of Managers dated December 13,1930.) In other words, their interests as stockholders “remained in solution.” (G. A. Mimroe, 39 B. T. A. 685) and had not been precipitated from the corporate venture. In our opinion this is the type of transaction which Congress had in mind when it enacted the parenthetical clause of subdivision (A).

Petitioner’s contention that this conclusion is erroneous seems to be bottomed on the assumption the transaction here involved is identical to that in the Food Industries cases. While the facts are quite similar, there are nevertheless points of difference. In the Food Industries transaction all of the common stock of the issuing corporation was surrendered and new common stock, differing only in voting rights, was issued in exchange therefor. This, as pointed out by the Second Circuit in Helvering v. Schoellkopf, supra,, made “the two issues * * * so much alike as to be substantially the same.” In other words, there was a mere proliferation of the interest of the stockholders, substantially the same result that would have followed the issuance of a stock dividend. Here, however, the stock which was surrendered and the stock which was issued in exchange therefor were substantially different. There was not a mere acquisition of stock and a transfer or reissue of similar stock. The stock surrendered was subject to all of the risks of the business of the issuing corporation. The stock issued represented an interest in a certain portion of the assets of the issuing corporation, the holders of such stock being entitled not only to all of the income and profits received upon such assets, but also to have them distributed in kind whenever they should so desire. It would be inaccurate and not in accord with the facts presently stipulated to say that “the two issues [here are] so much alike as to be substantially the same.” Our reconsideration of the basic question has not convinced us that we erred in holding in the Souther case that the transaction in 1930 was a reorganization under subdivision (A), supra. We accordingly make the same holding here. •

Petitioner’s other major contention is that we erred in the Souther case in holding that subdivision (C), defining the term “reorganization” as a “recapitalization” was applicable. Section 112 (b) (3) of the Revenue Act of 1928 provides:

* * * No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in xoursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization.

Petitioner agrees that there was a recapitalization and hence a statutory reorganization within the meaning of subdivision (C). He contends, however, that it was merely a recapitalization of Motors Securities; that in a recapitalization only one corporation can be a party to it, namely, the corporation which is being recapitalized; and that under the stipulated facts Managers was not, and could not have been, such a party. He cites Burns v. Commissioner, 76 Fed. (2d) 937, in support of this contention.

In the cited case a cement company, in 1922, purchased for cash and notes all of the capital stock and bonds of a railway company. In 1925 the railway company converted its stock into no par value shares and issued $300,000 of par value bonds on its properties to refund its former issue of bonds held by the cement company. The new bonds were delivered to the cement company upon its surrender of the old bonds. In 1926 the cement company distributed to its stockholders the bonds of the railway company. Petitioner’s decedent, who was a stockholder of the cement company, received bonds of the railway company and did not include the value of these bonds in her income tax return for 1926, on the ground that the bonds were distributed as a result of a reorganization'of the cement company in 1922 or in 1925 and did not constitute taxable income when received by her. The Court of Appeals for the Sixth Circuit held that there was a mere purchase for money of the stock and bonds of the railway company and no reorganization in 1922 within the meaning of the statute; that the decedent received the railway bonds because she was a stockholder of the cement company and not as a result of her ownership of any interest in the railway company; and that the changing of the par value of the stock of the railway company and the refunding of its bonds in 1925 was not a “recapitalization” or reorganization of the cement company. The precise question before us in the instant proceeding, however, was not decided.

In Groman v. Commissioner, 302 U. S. 82, the Supreme Court held that corporation Glidden, which had entered into a contract with the shareholders of corporation Indiana, obligating it to cause to be issued and delivered to them a stated number of its own piior preference shares of stock, a stated number of the preferred shares of stock of Ohio which it would organize, and some cash, all in exchange for stock which they owned in Indiana, was not a party to a reorganization any more than a banking corporation, broker or agent would have been under similar circumstances. While the question before the Court was not similar to the question before us, some of the language used by it in discussing section 112 (i) (2) of the Eevenue Act of 1928 — “The term £a party to a reorganization’ includes a corporation resulting from a reorganization and includes both corporations in the case of an acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation” is significant. The Court said: “* * * The section is not a definition but rather is intended to enlarge the connotation of the term ‘a party to a reorganization’ to embrace corporations whose relation to the transaction would not in common usage be so denominated or as to whose status doubt might otherwise arise. * * * Plainly, however, there may be corporate parties to reorganizations, within the meaning of the statute, other than those enumerated in section 112 (i) (2).”

We are of the opinion that Managers, though not within the class of corporations referred to in the latter portion of section 112 (i) (2), supra, was nevertheless a party to a reorganization. Bums v. Commissioner, supra, is not authority to the contrary. It will be noted that in that case there was no plan of reorganization involving the cement company. The cement company apparently took no part in the transaction whereby the par value of the stock of the railroad company was changed and its bonds refunded. “The railway company converted its stock into no par value shares and issued $300,000 of par value bonds on its properties to refund its former issue of bonds held by the cement company.” In the instant proceeding, however, Managers was not only the instigator of the recapitalization of Motor Securities, but was also a party to the agreement of reorganization in which Motors Securities agreed that it would amend its charter creating the special class of stock for the purpose of issuing it to Managers in exchange for the 290,310 shares of General Motors common stock and 148,509 shares of Motors Securities common stock held by it. The agreement specifically provided that its execution was subject to approval by the stockholders of Managers and Motors Securities and if such approval should not be given, the agreement was to become null and void. In other words, there could have been no recapitalization of Motors Securities without the consent of Managers, which owned 30 percent of its stock. In John ,$'. Woodard, 30 B. T. A. 1216 (petition for review dismissed), this Board said, in dealing with the question of whether or not a certain corporation was a party to a reorganization resulting from a merger: “Each took a vital and essential part in the transaction without which there could have been no reorganization, and each was, therefore, a party to the reorganization, notwithstanding only one of the corporations was reorganized.” This language aptly describes the situation here involved. Managers was an essential and necessary party to the plan of reorganization, and without its participation the recapitalization of Motors Securities would not have occurred. It was, therefore, a party to the reorganization.

Recapitulating, we are still of the opinion that the 1930 transaction constituted an exchange of stock pursuant to a plan of reorganization and that the petitioner and the Commissioner correctly considered it to be such at that time and during subsequent years. It, in our opinion, was within the letter and spirit of the reorganization provisions of the statute. As pointed out in Charles A. Dana, 36 B. T. A. 97; affd., 103 Fed. (2d) 359, the purpose of Congress in enacting these provisions “* * * was to facilitate readjustments of corporate businesses by permitting the postponement of gain or loss on exchanges made in pursuance thereof where the transferor retained a continuing interest in the reorganized corporation or corporations.” Petitioner retained such continuing interest until he surrendered his Motors Securities class A stock for stock of General Motors. He then realized gain or loss measured by the difference between the cost of his Managers stock and the value of the General Motors stock so acquired by him.

Whether the surrender by petitioner during the taxable year of 1,250 shares of class A stock in Motors Securities for common stock in the General Motors Corporation was in partial liquidation of Motors Securities within the meaning of section 115 (c) of the Revenue Act of 1934, or constituted a sale or exchange of a capital asset within the purview of section 117 of the same act, need not be discussed in this opinion. We are content to adopt the conclusion reached on this issue in the Souther case without any repetition or elaboration of the discussion therein contained.

Judgment will he entered for the respondent.

       SBC. 112. RECOGNITION OB GAIN OR LOSS.

      (I) Definition of reorganization. — As used in this section and sections 113 and 115—
      (1) The term “reorganization” means (A) a merger or consolidation (including the acquisition by one corporation of at least a majority of the voting stock and at least a majority of the total number of shares of all other classes of stock of another corporation, or substantially all the properties of another corporation), or (B) a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its stockholders or both are in control of the corporation to which the assets are transferred, or (C) a recapitalization, or (D) a mere change in identity, form, or place of reorganization, however effected.

       SEC. 117. CAPITAL GAINS AND LOSSES. •
      (a) General Rule. — In the case of a taxpayer, other than a corporation, only the following percentages of the gain or loss recognized upon the sale or exchange of a capital asset shall be taken into account in computing net income:
      100 per centum if the capital asset has been held for not more than 1 year;
      80 per centum if the capital asset has been held for more than 1 year but not for more than 2 years ; ’
      60 per centum if the capital asset has been held for more than 2 years but not for more than 5 years;
      40 per centum if the capital asset has been held for more than 5 years but not for more than 10 years ;
      30 per centum if the capital asset has been held for more than 10 years.

      (c) Determination of Period for Which Held. — Por the purpose of subsection (a)—
      (1) In determining the period for which the taxpayer has held property received on an exchange there shall be included the period for which he held the property exchanged, if under the provisions of section 113, the property received has, for the purpose of determining gain or loss from a sale or exchange, the same basis in whole or in part in his hands as the property exchanged.

       SBC. 115. DISTRIBUTIONS BY CORPORATIONS.

      (c) Distributions in Liquidation.- — Amounts distributed in complete liquidation of a corporation shall be treated as in full payment in exchange for the stock, and amounts distributed in partial liquidation of a corporation shall be treated as in part or full payment in exchange for the stock. * * * Despite the provisions of section 117 (a), 100 per centum of the gain so recognized shall be taken into account in computing net income. * * *


author: Muedock :

text:
    C. F. Moeller Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 85964, 96331.
    Promulgated June 30, 1939.

      W. O. Magathan, Esq., for the petitioner.

      F. S. Qettle, Esq., for the respondent.
   OPINION.

Muedock :

Amounts received by a taxpayer upon fully paid building and loan shares in excess of the subscription payments on those shares are dividends. Aaron Ward & Sons, 23 B. T. A. 1279; affd., 65 Fed. (2d) 758. The building and loan associations were domestic corporations. A corporation receiving dividends from another domestic corporation was entitled to deduct them in computing taxable net income under section 23 (p) of tire Revenue Act of 1928 and similar provisions in prior acts. This was changed by the Revenue Act of 1932, which provided that a corporation could deduct dividends received from a domestic corporation “which is subject to taxation under this title.” It is conceded that the building and loan associations in which this petitioner owned stock were not subject to taxation under the various revenue acts. See section 101 (4) of the Revenue Act of 1932. Therefore, beginning in 1932 and continuing through 1985, the dividends were no longer deductible by this petitioner. It reported its net annual earned accruals as interest in the earlier years, and paid tax accordingly, but obtained refunds for two of those years. It reported the accruals for later years as dividends. There were no earnings for 1932, but the amounts reported thereafter were subject to tax.

The building and loan associations annually notified the petitioner and other stockholders of the amount of dividends declared on the stock for the year, of the book value of the stock for the year, and of the withdrawal value of the stock for the year. The petitioner kept its books upon an accrual method of accounting. Although the details of that accounting method are not disclosed in this record, the petitioner regularly, and at least annually, accrued on its books the net annual increase in the withdrawal value of all shares. The petitioner reported on its returns for each year the excess of that annual accrual over the subscription payments made on the shares during the year and strenuously argues that such a method of accounting for and reporting income upon building and loan shares clearly reflects its income and may not be changed by the Commissioner. The Commissioner, on the other hand, argues that the petitioner had no right under the law to accrue either the net increase as income or any decrease as a loss. He further argues that even if the accrual of the increase were permissible, nevertheless, there is no justification for the accrual of any loss for 1932.

The Commissioner has presented no persuasive argument in support of his contention that the accounting method of the petitioned must be rejected in its entirety in favor of a method whereby all of the income is reported at the time the shares become fully paid. He argues that the requirement of notice before withdrawal prevents an accrual of the annual increase in withdrawal value. The evidence shows that actually the requirement of notice was not enforced, but even if it had been enforced, that circumstance alone would certainly not prevent an accrual within the year of the increase in withdrawal value. When the right to an amount becomes fixed, the amount may be accrued despite the fact that it may not be payable until somewhat later. Cf. Herbert v. United States, 81 Fed. (2d) 912 particle 42-3 of Regulations 86, and similar articles of prior regulations, which, hold that interest credited to savings accounts is income when credited even to one on a cash basis, despite an unenforced ruling of the bank requiring notice of 30 days for withdrawals. Another argument presented by the Commissioner is that the withdrawal value was not unqualifiedly subject to the demand of the petitioner. He thus confuses constructive receipt by one on the cash basis with an accrual method of accounting. Regulations and cases cited, dealing with constructive receipt, are not in point as to accruals. Pie relies very strongly upon a memorandum opinion of the Board in which there was no annual declaration of dividends, no annual fixing of withdrawal value, and no regular method of accounting, so far as is shown by the report.

The amount which the petitioner accrued in each year was an amount which became fixed and available to it for the first time within that year. The right of the petitioner to receive the amount came into being in that year. Thus it was properly accrued in that year. Cf. Spring City Co. v. Commissioner, 292 U. S. 182; Commissioner v. Darnell, Inc., 60 Fed. (2d) 82; H. H. Brotan Co., 8 B. T. A. 112; Owen-Ames-Kimball Co., 5 B. T. A. 921. It may be interesting to note in this connection that G. C. M. 15875, reported in C. B. XIV-2, p. 100, approves of a somewhat similar method of accounting for the annual increase in the value of United States Savings bonds which may be purchased at the beginning of their term for an amount less than that which is payable when they become due.

Section 42 of the Revenue Act of 1932 requires that income be reported in the year received except where the accounting method permitted under section 41 requires that it be reported for a different period. Section 41 provides a general rule in regard to accounting periods and methods of accounting. The rule is that the net income shall he computed in accordance with the method of accounting regularly employed in keeping the books of the taxpayer. The only exceptions are that if no such method has been employed, or if the method employed does not clearly reflect the income, the computation is to be made in accordance with a method which, in the opinion of the Commissioner, does clearly reflect the income. Cf. Bradstreet Co. of Maine, 23 B. T. A. 1093; affirmed on this point, 65 Fed. (2d) 943; International Cigar Machinery Co., 36 B. T. A. 124.

The excess of the amount ultimately receivable over the subscription payments made on building and loan shares is income. The petitioner adopted and regularly followed a system of accounting whereby all of that income would be reported. That system of reporting income was one which clearly reflected the income over a period of years. The law is somewhat elastic in regard to accounting methods provided that they clearly reflect income. Where one taxpayer has consistently followed one method and another taxpayer has consistently followed a somewhat different method of accruing and reporting income from similar transactions, each may be permitted under the law to adhere to its own method. We need not decide whether other taxpayers could be required by the Commissioner to adopt the method of this taxpayer, since that is a wholly different question. The method of this taxpayer fairly apportions the total income to the various annual periods in which it was earned. Cf. Burnet v. Sanford & Brooks, 282 U. S. 359. It follows that the Commissioner erred in disregarding the accounting method regularly used by the taxpayer and in determining that the petitioner realized a profit of $22,735.50 in 1935 when the 500 shares became fully paid and were retired. The petitioner, in accordance with its method of accounting, had already accrued all but $4,200 of the total gain on the shares, and only the latter amount was taxable as a dividend on those particular shares for 1935.

The discussion so far has been confined to the propriety of the method used by the petitioner in reporting its income from the building and loan shares. The issue for 1932, however, is whether the petitioner is entitled to deduct a loss on those building and loan shares. Section 43 provides that deductions shall be taken for the taxable year in which “ ‘paid or accrued’ or ‘paid or incurred’ dependent upon the method of accounting upon the basis of which the net income is computed”, unless a different period must be used in order to reflect income clearly. This is a general provision and must be read in the light of any specific provision allowing a deduction. The petitioner may deduct for a loss only in accordance with the provisions of section 23 (d) and (f), which allow the deduction of losses “sustained during the taxable year.” The petitioner does not claim the right to inventory its stock nor does it claim that the stock became worthless. Such an owner of corporate stock sustains a loss and is entitled to a deduction through a final disposition of his stock whereby he receives less than he paid for it. No authority has been cited to indicate that such a taxpayer may deduct a loss under any other circumstances. Mere fluctuation in the value of corporate stock is not deductible as a loss by one not entitled to use inventories. Harry C. Howard, 20 B. T. A. 207; affd., 56 Fed. (2d) 781; certiorari denied, 287 U. S. 619. Even an assessment paid by a stockholder may be additional cost of his stock rather than a loss where occasioned by losses of the corporation. John G. Paxton, 7 B. T. A. 92; B. Estes Vaughan, 17 B. T. A. 620; Estate of G. A. E. Kohler, 37 B. T. A. 1019, 1026; W. B. Ranney, 16 B. T. A. 1399. It is a loss only if the stock is worthless. Cf. Jamieson Associates, Inc., 37 B. T. A. 92, 118; George H. Stanton, 36 B. T. A. 112. Additions to a reserve for anticipated losses are not deductible since the statute “is concerned only with realized losses.” Lucas v. American Code Co., 280 U. S. 445, 449; Weiss v. Wiener, 279 U. S. 333; William, J. Ostheimer, 1 B. T. A. 18; Yost Auto Co., 26 B. T. A. 685. Cf. Brown v. Helvering, 291 U. S. 193.

The amount which the petitioner seeks to deduct for 1932 was not a loss actually sustained in a closed transaction. The petitioner continued to own the shares after 1932 and there was no reason to believe in 1932 that there would be a loss rather than a gain when the shares were finally disposed of and the transactions were complete. This record shows that some of the shares were paid off at a profit to the petitioner. Perhaps the principal difference between the accrual method and the cash method of deducting for losses sustained is that under the cash basis there must be payment of the loss before it can be deducted, while the taxpayer using an accrual method may take the deduction immediately when the events occur which cause the loss even though he has not paid it. An accrual method of accounting, however, does not permit a loss to be anticipated while the transaction is still open. This is clearly true in the present case, where, although there was a reduction in the earnings subject to withdrawal, the transaction remained open with prospects of ultimate gain. The argument that a taxpayer should be permitted to continue with its regular method of accounting can not be used to justify a deduction for a loss where no loss has been sustained in a closed transaction. Although the year in which a loss is sustained is to be determined by a practical test, rather than a legal test, Lucas v. American Code Co., supra, nevertheless a practical test here shows that the petitioner sustained no loss at all. Its shares for the moment became less valuable than they had been, but the question of ultimate gain or loss was still open.

Furthermore, the facts do not support any argument that this taxpayer had a regular method of treating transactions such as the ones here in question. The record shows that the petitioner’s shares were never charged with losses prior to 1932. This is the first time that the petitioner was called upon to establish any accounting practice to cover such a situation. The petitioner has not shown how it accounted on its books for the losses charged to its shares on the books of the associations. Although the method now urged might be a reasonable one from an accounting standpoint, income can be clearly reflected without allowing the deductions claimed for 1932. No problem is presented of offsetting the income of a period with the expenses of earning that income. Cf. Bradstreet Co. of Maine, supra, and cases there cited. The value of the shares increased as the result of declarations of dividends from earnings of the associations prior to 1932. The petitioner accrued and reported that part of the increase which it could withdraw. There was no increase in 1932. Either there would be additional earnings in later years or there would not. If additional earnings were later assigned to the shares, the petitioner could delay reporting any additional income until those earnings had offset the losses charged to the shares in 1932. In case there should be no future earnings, the petitioner would be entitled to deduct a loss at the time it disposed of the shares, if the amount realized was less than the total subscription paid upon the shares plus the total amount previously reported as income on the shares. The record does not show an accounting method regularly used by this petitioner under which the deductions would have to be allowed in 1932 in order to clearly reflect income. It follows that the petitioner is not entitled to deduct any loss upon these shares until they become worthless or are finally disposed of at a loss.

Decision will be entered under Rule 50.


author: Disnev:

text:
    William Tilden Pelton Hazard, Katharine Hazard Moss and Jessie Hazard Leonard, Executors of the Estate of Laura Pelton Hazard, Petitioners, v. Commissioner of Internal Revenue, Respondent. Irving Trust Company, Trustee Under an Indenture of Trust of Laura Pelton Hazard, Dated November 27, 1928, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 89684, 89685.
    Promulgated June 30, 1939.

      Orrin G. Judd, Esq., for tbe petitioners.

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

Disnev:

The respondent concedes that in view of Hassett v. Welch, 303 U. S. 303, the grantor’s reservation of income does not alone constitute a ground for including the value of the trust property in gross estate and that the fact need only be considered in connection with other evidence of record as indicating a transfer in trust to take effect in possession or enjoyment at or after death. His position is that the trust instrument, read in the light of evidence in connection therewith, indicates a testamentary disposition of property subject to use of income therefrom and the proceeds of sale of corpus to pay indebtedness of the grantor existing at the time of, and arising subsequent to, the creation of the trust. On this point he contends that any desire on the part of the grantor to protect her property from her own extravagance might furnish a motive for the creation of a trust for her lifetime, but that the accomplishment of such a purpose furnishes no motive for the transfer of the remainder of the trust after her death. Disposition of the corpus of the trust after her death would, he argues, appear to be without a motive, lacking which the natural presumption is that it was in contemplation of death, within the meaning of section 302 (d). “The mere purpose to make provision for children after a donor’s death is not enough conclusively to establish that action to that end was ‘in contemplation of death.’ ” Colorado National Bank v. Commissioner, 305 U. S. 23. Nothing else is relied upon to show that the transfer was made in contemplation of death and the evidence of record establishes that the transfer resulted from motives associated with life, and was not made in contemplation of death.

To prevent further spending of principal in excess of such amount as the trustee in his sole discretion regarded as necessary to satisfy the debts listed in the deed and to conserve what remained of the corpus for the production of income for distribution from time to time to the grantor for the remainder of her life, may be said to have been the predominating motive for the creation of the trust. In short, the trust was a means adopted to save the grantor from her own extravagance. The grantor expressly declared the provisions of the deed to be irrevocable. While admitting that the object of the trust was to so arrange the grantor’s property as to relieve it from her indebtedness as it then existed and to maintain her without further inroads into the principal, but without any attempt to answer the force of the provision declaring the trust to be irrevocable, the respondent argues that access to the corpus was available to both the trustee and the grantor. The alleged ability of the trustee and the grantor to use the principal of the trust is relied upon by the respondent for inclusion of the value of the trust property in gross estate under section 302 (c) upon the ground that the transfer was intended to take effect in possession or enjoyment at or after death or under the provisions of section 302 (d) because of an alleged reservation of power to alter, amend, or revoke the deed.

The provision of the indenture, quoted in full in our findings of fact, giving the trustee power to “renew existing or future loans whether contracted by the Grantor or by the Trustee” is said by the respondent to clearly evidence such an intention. We can not agree with his construction of the provision when read with the remainder of the instrument, as he agrees it must be, and other evidence of record. The construction urged by the respondent is not only directly contrary to the provision against revocation, but to the predominating motive for the creation of the trust. Obviously, if the grantor had a right to withdraw corpus to pledge as security for loans, she could by such action, in effect, revoke the trust by bringing the loan value within her reach and thus remove from the trust property with which to produce income to pay debts existing at the time of the creation of the trust, and for her support. We said in Phebe Warren McKean Downs, 36 B. T. A. 1129, that:

* * * When the trust instrument was declared to be irrevocable we think that meant irrevocable by any means whatever, whether by a direct revocation or by the exercise of a power reserved under the instrument coupled with the operation of a rule of law such as the rule regarding resulting trusts. * * *

The trust empowers the trustee to apply the proceeds of the sale, pledge, or other disposition of corpus in payment of such debts of the grantor as were set forth in the instrument and to borrow, in its discretion, money for any purpose it deemed proper, including the payment of debts of the grantor listed in the trust or thereafter incurred by the trustee. The right given the trustee to renew future loans is consistent with this power. No provision of the deed expressly authorizes the grantor to remove corpus from the trust for sale, pledge, or other disposition. The provision authorizing the trustee to “renew existing or future loans whether contracted by the Grantor or by the Trustee” was inserted in the instrument to obtain the grantor’s signature on new loans to replace the bank loans outstanding at the time the trust was created, for the payment of which a substantial part of the corpus was pledged as security. If, as the respondent contends, the trust provision gave the grantor power to pledge corpus as security for future loans, the deed is ambiguous, for such a right to invade principal would be equivalent to a right to revoke and, therefore, directly opposed to the express trust provision against revocation.

A reservation by the grantor of a right to use corpus would have defeated the purpose for which the trust was created. In 1930 the grantor sought to have the trustee apply some of the corpus to the payment of debts incurred by her since the creation of the trust and was advised by it that the trusteed property could not be used for that purpose. The attorneys who drafted the trust deed concurred in this interpretation of the instrument. No income or principal was ever used by the trustee to pay debts incurred by the grantor after the execution of the trust. The construction thus placed upon the instrument is entitled to weight in determining its intent, William E. Scripps et al., Trustees, 1 B. T. A. 491; Mary Helen Cadwalader, 27 B. T. A. 1078; Phebe Warren McKean Downs, supra, and substantiates the construction we have given the deed.

The respondent erred in including the value of the corpus of the trust in decedent’s estate under the provisions of section 802 (c) and (d) of the Revenue Act of 1926, as amended. Without the value of the corpus of the trust, decedent’s gross estate was less than debts of the estate, which the parties agree are deductible in computing the net estate. It follows that there is no deficiency in estate tax, and no liability on the part of the trustee as a transferee. Accordingly,

Decision will be entered for the petitioners.


author: Smith :

text:
    Estate of Nellie Grant Burbank Dodge, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 94479.
    Promulgated June 30, 1939.

      Percy 8. Benedict, Esq., for the petitioner.

      Wüford H. Payne, Esq., for the respondent.
   OPINION.

Smith :

This proceeding is for the redetermination of a deficiency of $1,406.92 in the estate tax of the estate of Nellie Grant Burbank Dodge, who died domiciled in the State of Louisiana on June 15, 1986. The only question in issue is whether an amount paid out of the estate to the decedent’s surviving husband in satisfaction of his statutory right to a “marital portion” of the estate under the laws of the State of Louisiana is deductible as a claim against the estate.

The facts have been stipulated substantially as follows:

The decedent, Nellie Grant Burbank Dodge, died testate in New Orleans, Louisiana, her domicile, on June 15, 1936. She was survived by her husband, William R. Dodge, and four children. For probate purposes her estate was valued August 31, 1936, at $131,-531.65, all of which was her separate property.

The decedent’s will provided in part as follows:

I leave everything I die possessed of to my children, share and share alike, with the exception that my jewelry and silverware I bequeath to my daughters above named. I impose a testamentary usufruct in favor of my husband, William R. Dodge, upon my home and grounds to endure during the term of his natural life or until he remarries. I declare that all the property of which I die possessed is my separate and paraphernal estate, composed of property inherited from my parents or of the reinvestment thereof, which has always been under my executive management and control.

The decedent’s husband, William R. Dodge, has been adjudicated a bankrupt by the United States District Court for the Eastern District of Louisiana on May 30,1930.

The bequest of the usufruct upon decedent’s home and grounds was disclaimed by William R. Dodge, who claimed, instead, his right to a marital portion in decedent’s estate, as provided by the laws of the State of Louisiana in article 2382 of the Revised Civil Code of Louisiana. This section of the Louisiana Civil Code provides as follows:

SURVIVING SPOUSE IN NECESSITOUS CIRCUMSTANCES-MARITAL PORTION-ANNUITY — AMOUNT.
When the wife has not brought any dowry, or when what she brought as a dowry is inconsiderable with respect to the condition of the husband, if either the husband or the wife die rich, leaving the survivor in necessitous circumstances, the latter has a right to take out of the succession of the deceased what is called the marital portion; that is, the fourth of the succession in full property, if there be no children, and the same portion, in usufruct only, when there are but three or a smaller number of children; and if there be more than three children, the surviving, whether husband or wife, shall receive only a child’s share in usufruct, and he is bound to include in this portion what has been left to him as a legacy by the husband or wife, who died first. * * *

By a written agreement executed by decedent’s heirs and William R. Dodge, the heirs consented to the latter’s election to take his statutory marital portion in tlie usufruct of a certain part of the estate instead of the bequest made to him by the decedent in her will. The parties agreed upon the annual expected revenues from the estate and also upon the method of payment of the husband’s statutory interest therein. They computed the value of such interest at $6,146.68, based on the value of the decedent’s estate and the life expectancy of the surviving husband. This amount was claimed as a deduction from the gross estate on the theory that it represented a claim or a debt due from the estate. The deduction was disallowed by the Commissioner, resulting in the above stated deficiency of $1,406.92 in the decedent’s estate tax.

In proceedings brought before the Civil District Court by the heirs of the decedent’s estate and by William R. Dodge for the purpose of fixing the amount due for state inheritance tax purposes in the State of Louisiana, it was determined that the marital fourth claimed by William R. Dodge under the laws of the State of Louisiana was exempt from the state inheritance tax.

The only issue to be decided by the Board in this proceeding is whether the value of the marital portion of decedent’s estate which William R. Dodge elected to take in lieu of the bequest made to him by the decedent in her will is deductible from the gross estate for purposes of computing the Federal estate tax due thereon.

The pertinent provisions of the Federal estate tax statutes are found in sections 302 and 303 of the Revenue Act of 1926 as amended by subsequent acts and are as follows:

Sec. 302. [As amended by section 404 of the Revenue Act of 1934.] The value of the gross estate of the decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated, except real property situated outside the United States—
(a) To the extent of the interest therein of the decedent at the time of his death;
(b) To the extent of any interest therein of the surviving spouse, existing at the time of the decedent’s death as dower, curtesy, or by virtue of a statute creating an estate in lieu of dower or curtesy;
Sec. 303. [As amended by section 805 of the Revenue Act of 1932 and section 403 (a) of the Revenue Act of 1934.] For the purpose of the tax the value of the net estate shall be determined—
(a) In the case of a citizen or resident of the United States, by deducting from the value of the gross estate—
(1) Such amounts—
(A) for funeral expenses,
(B) for administration expenses,
(O) for claims against the estate,
(D) for unpaid mortgages upon, or any indebtedness in respect to, property where the value of decedent’s interest therein, undiminished by such mortgage or indebtedness, is included in the value of the gross estate, * * *

It can not be questioned that the amount paid out of the decedent’s estate to the surviving husband as his “marital portion” formed a part of and is includable in the decedent’s gross estate under section 302 above. If it was not an interest of the decedent at the time of her death within the meaning of subsection (a) above, then it was an interest of the surviving spouse existing by virtue of the statutes of the State of Louisiana in lieu of curtesy within the meaning of subsection (b).

In its brief, petitioner quotes from the court’s opinion in Succession of Justus, 44 La. Ann. 721, in part, as follows:

The right of a surviving husband, left in necessitous circumstances by a wife who dies rich, and without leaving issue, to take the marital fourth in full property from her succession is a personal and optional right, which remains inchoate and does not vest absolutely in him, unless first accepted by him.
It is not an inheritance and the survivor is not an heir.
It is a bounty, or charity, which can well be assimilated to that in cases of necessitous widows, or minors, entitled to claim $1000 in preference to creditors.
It [meaning the marital portion] may be assimilated to the charity or bounty extended, or conferred on the necessitous widow or minor heirs, by the Act of 1852, now Art. 8252, R. O. C., with this difference, that the marital fourth is taken from a solvent succession or the heirs; while the $1000 are allowed in insolvent successions in preference to creditors. Both are laws in derogation of common right. [Italics supplied.]

It follows, of course, that if the marital portion here was taken from the succession or the heirs it must first have passed from the decedent and must have been a part of her estate at the time of her death. It is not material to our question whether it passed by inheritance or by operation of the state statutes. The Federal estate tax is levied upon the property passing at or by reason of death. It is a tax not on the interest in property to which another succeeds, but on the interest of the decedent which ceases by reason of death. Knowlton v. Moore, 178 U. S. 41; Edwards v. Slocum, 264 U. S. 61; Tyler v. United States, 281 U. S. 497. In Crooks v. Loose, 36 Fed. (2d) 531, it was said:

* * * tlie Federal Estate Tax Law is not concerned primarily with the character of the interest or estate acquired by the beneficiary, or its subsequent status; but the law is primarily concerned with the ceasing of the interest of the decedent in the property, with the “shifting of economic benefits” of property from the decedent. If there is such a ceasing of the interest of the decedent, such a “shifting of economic benefits,” the federal estate tax comes into play.

In Empire Trust Co. et al., Executors, 35 B. T. A. 866; affd., 94 Fed. (2d) 307, we said:

* * * We think it is clear that the purpose of the Revenue Act of 1926 was to include in the gross estate of the decedent the value of all property at the time of death which passed from the dead to the living to the extent of any interest which the decedent had therein. * * *

Petitioner contends that the surviving husband’s statutory “marital portion” of the estate was a claim against or an indebtedness of the estate which is deductible under section 303 above. This contention, we think, is unsound.

In his regulations the Commissioner construes the statutory provisions for the deduction of claims against the estate as pertaining only to claims representing “personal obligations of the decedent existing at the time of his death.” The right of the decedent’s surviving husband to his marital portion was in no sense a personal obligation of the decedent and it did not come into existence until her death, and the fulfillment of the conditions enumerated in article 2382 above of the Louisiana Civil Code.

Petitioner points out in its brief that under the Louisiana law the marital portion is not an inheritable interest in the separate estate left by the deceased spouse and is therefore not taxable under the inheritance tax statutes of that state, citing Succession of Justus, supra; Succession of Marsal, 118 La. 212; 42 So. 778; In re Stelly's Estate, 185 So. 637. Granting that this is true, however, the rules governing the administration of the Louisiana inheritance tax law have no controlling effect on questions involving the Federal estate tax law. This is aptly shown by the following excerpt from the court’s opinion in Succession of Gremillion v. Downs, 165 So. 481, decided by the Court of Appeal of Louisiana, Second Circuit, February 5, 1936, and cited by the court in In re Stelly’s Estate, supra:

Counsel for the tax collector Las confused the federal estate tax with Act No. 127 of 1921 (Ex. Sess.), commonly known as our Inheritance Tax Law. The decisions construing the federal estate tax have no application to a construction of our Inheritance Tax Law. The federal tax levies upon the interest which ceased by reason of death, and not upon the interest to which some person succeeds by inheritance on a death.

By the will of the decedent the surviving husband was entitled to receive a testamentary usufruct upon the house and grounds of the decedent for life or until he should remarry. The value of such interest was taxable under section 302 (b) of the statute. The right to receive it by virtue of the will was not a “claim against the estate” within the meaning of section 303 (a) (1) (0). The surviving husband disclaimed the usufruct of this property and elected to take under article 2382 of the Civil Code, as he had a right to do. This right so to take was “by virtue of a statute creating an estate in lieu of dower or curtesy” within the meaning of section 302 (b) and is taxable to the same extent as a testamentary bequest. In Succession of Justus, supra, the court quoted from Gee v. Thompson, 11 Ann. 659, as follows:

* * * “The person upon whom the inheritance is by law conferred, and who is called the heir, is so different from the surviving husband and wife claiming a marital fourth that such demand, like a demané for a legacy, must be made upon the heir.” * * * [Italics supplied.]

The right which the surviving husband had to demand his marital portion under the statute was the same as the right of a legatee to claim a legacy. It represented no debt of the decedent in her lifetime. Only such debts are claims against the estate cognizable by section 303 (a) (1) (C). The disallowance by the respondent of the claimed deduction of $6,146.68 is approved.

Decision will be entered for the respondent.