author: Sternhagen :

text:
    Martin F. Tiernan, Trustee, Martin F. Tiernan Trust for Martin T., Charles W., John W., Ann C. and Mary E. Tiernan, Petitioner, et al.,
      v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 83167, 83169, 83171, 83173, 83175, 83177, 84276, 84277, 84278, 84279, 84291, 84292, 84293, 84294.
    Promulgated June 14, 1938.

      Henry P. Molloy, Esq., and Melville J. France, Esq., for the petitioners.

      Frank M. Thompson, Jr., Esq., and Jesse F. Gregory, Esq., for the respondent.

       Proceedings of the following petitioners are consolidated herewith: Purcell C. Tier-nan and Martin F. Tiernan, Trustees, Martin F. Tiernan Trust for Martin T., Charles W., John W., Ann C. and Mary E. Tiernan; Fidelity union Trust Company, Trustee, Purcell C. Tiernan Trust for Martin T., Charles W., John W., Ann C. and Mary E. Tiernan; Charles ,F. Wallace, Trustee, Charles F. Wallace Trust for Jane M., Barbara S. and Elizabeth G. Wallace; Florence M. Wallace and Charles F. Wallace, Trustees, Charles F. Wallace Trust for Jane M., Barbara S. and Elizabeth G. Wallace; Fidelity union Trust Company, Trustee, Florence M. Wallace Trust for Jane M., Barbara S and Elizabeth G. ■Wallace; Martin p. Tiernan; Florence M- Wallace; Charles F. Wallace; Purcell C. Tiernan.

   OPINION.

Sternhagen :

All fourteen of these proceedings arise from several methods used by the Commissioner in taxing the income of the six trusts described in the findings. No argument has been made in behalf of the Commissioner, either orally or by written brief, attempting to support any of the determinations made. In eight of the proceedings the individual grantors of the trusts assail for each year, 1932 and 1933, the Commissioner’s treatment of .the trust incomes as if they were individually their own and taxable to them. In the remaining six proceedings the trustees assail the Commissioner’s determination that each trust instrument sets up a single trust the income of which is taxable as a single lump sum instead of separate trusts for the several beneficiaries the incomes of which are taxable separately.

Although the four trusts established by Tiernan and by Wallace were for the benefit of their children in one case and of their children and wives in another, there was no power of revocation and no provision whereby under any circumstances either the corpus or the income could be revested in the grantor, hence there is no foundation for the application of section 166 or 167, Kevenue Act of 1932. There is in each trust instrument a provision under which the trustee may in his discretion use the income for the education and support of the grant- or’s child, but it appears that in fact no such use was made of the income and that in fact the grantor was not relieved of any parental duty or obligation to maintain a child. The income was in fact accumulated and invested by the trustee. The wives in the taxable years in question actually received nothing from the trustees either by way of maintenance or otherwise. Thus the circumstances in evidence take the case entirely outside the scope of Douglas v. Willcuts, 296 U. S. 1, and similar cases, and bring it within E. E. Black, 36 B. T. A. 346, holding that the income of the trust is not under such circumstances taxable to the grantor.

In the four proceedings of the two wives, Purcell C. Tiernan and Florence M. Wallace, there is in addition to the reasons supporting the contentions of the husbands, the added reason that under New Jersey law, which governs the two families in question, there is no duty of a mother to support a child during the life of the father. The Commissioner’s determination as to the wives is likewise reversed. Commissioner v. Yeiser, 75 Fed. (2d) 956; Franklin Miller Handly, 30 B. T. A. 1271; cf. J. H. Anderson, 30 B. T. A. 1275.

There is in each of the trust instruments language which unmistakably indicates that a separate trust was intended to be and was actually set up for each child beneficiary. In section 2 and subsection 2 (a) appear words, “to hold one of said parts in trust for each of the five children”; “which several five trusts shall be known by the names of the said five children”; “the principal of each of the said trusts”, etc. In conformity with this clear language, each trustee was careful to keep the principal and the income which he held for each child in an account separate from all the rest. Thus the situation is entirely similar to that in United States Trust Co. of New York v. Commissioner, 296 U. S. 481, in which the Supreme Court held that separate trusts were to be recognized for the several beneficiaries and the income of each separately computed and taxed. Upon this authority the Commissioner is held to have erred in determining the deficiencies of the trustees as if there were but six trusts, one under each instrument.

It results, from the authorities cited, that upon all the issues raised the petitioners’ contentions are sustained and the Commissioner’s determinations are reversed.

Judgments will he entered under Bule 60.

        Helvering v. Stokes, 296 U. S. 551; Helvering v. Blumenthal, 296 U. S. 552; Helvering v. Schweitzer, 296 U. S. 551; Helvering v. Coxey, 297 U. S. 694.

         In re Ganey, 93 N. J. Eq. 389; 116 Atl. 19 ; affd., 94 N. J. Eq. 602, 119 Atl. 926; In re Rogers’ Estate, 96 N. J. Eq. 6; 125 Atl. 318; Alling v. Alling, 52 N. J. Eq. 92; 27 Atl. 655; Rennie v. Rennie, 85 N. J. Eq. 1; 95 Atl. 671; Wright v. Leupp, 70 N. J. Eq. 130; 6 Atl. 464.


source: Caselaw Access Project

author: Kern:

license: Public Domain

text:
    William L. Taylor, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 88439.
    Promulgated June 15, 1938.

      William L. Taylor, Esq., pro se.

      Jonas M. Smith, Esq., for the respondent.
   OPINION.

Kern:

The question to be determined by us in this proceeding is whether the owner of stock of a railroad corporation, the assets of which are less than its bonded obligations, may claim a loss on account of the worthlessness of his stock as sustained in the year in which the railroad corporation files a voluntary petition in bankruptcy with a United States District Court pursuant to the provisions of section 77 of the Bankruptcy Act, as amended, and the court appoints trustees in bankruptcy to take over the railroad and its operation pending a reorganization. A more narrow statement of the question is whether such bankruptcy proceedings involving a railroad corporation may constitute an “identifiable event” fixing the worthlessness of stock to the extent that a loss resulting therefrom may be deducted from gross income pursuant to section 23 (e) of the Bevenue Act of 1932, set out in the margin.

It is respondent’s contention that the bankruptcy proceedings authorized by this amendment to the Bankruptcy Act contemplate a reorganization of the railroad corporation which files such a petition and a continued operation of the railroad property pending the bankruptcy proceedings and subsequent thereto, that the value of the securities of the railroad corporation can not be determined until the plan of reorganization contemplated by the act has been approved by the court administering such bankruptcy, and that therefore, the filing of a petition in bankruptcy by the railroad corporation and the appointment of trustees to take over its property can not constitute an “identifiable event” by reason of which the worthlessness of stock in such a railroad corporation may be fixed.

A railroad corporation differs from the ordinary commercial or industrial corporation in certain important respects. It is a public utility and the public has an interest in its continued operation and the rendering by it of service to the public. Therefore, it may not cease operation and dismantle its plant without the consent of the state, and this consent will not, ordinarily, be given where the public wants and exigencies require the continued operation of the railroad. Ft. Smith Light Co. v. Bourland, 267 U. S. 330; Bullock v. Florida, 254 U. S. 513. Neither was it entitled to relief under the Bankruptcy Act, except under section 77, added by the Act of March 3,1933. See Bankruptcy Act of July 1, 1898, as amended June 25, 1910, §§ 3, 4. As a result, a railroad corporation which is in financial difficulties does not cease business and does not liquidate in the same manner as a private corporation, using the cash proceeds of a public sale to satisfy its creditors and the residue, if any, for the benefit of its stockholders. It is true that the same legal formalities are frequently used, such as the appointment of a receiver by a court of equity for its property and a foreclosure sale, but the practice in such cases is for holders of the underlying securities of the railroad corporation, secured by mortgage on its property, to use such securities in purchasing the property at foreclosure sale as a step in the reorganization of the railroad, with the result that there is not complete liquidation of the property of the railroad corporation but merely a liquidation of the securities of the railroad corporation not participating in the reorganization and a readjustment of the capital structure of the company. Cf. Investment Registry Ltd. v. Chicago & M. E. R. Co., 212 Fed. 594, 609; Schuler v. Hassinger, 177 Fed. 119; Easton v. German-American Bank, 127 U. S. 532; Canada Southern Railway Co. v. Gebhard, 109 U. S. 527.

This device of reorganization of railroad corporations by foreclosure sales and equity receiverships was developed over a period of some fifty years until a well recognized technique was established. See Paul D. Cravath, Reorganization of Corporations; Stetson, Byrne, et al., Some Legal Phases of Corporate Financing, Reorganization and Regulation, 153. However, there remained many troublesome questions incident to this method of reorganization, such as upset price, nonparticipating minority bondholders, and the safeguarding of the rights of unsecured creditors. Even as early as 1883 the Supreme Court of the United States, in Canada Southern Railway Co. v. Gebhard, supra, suggested the advisability of modifying the Bankruptcy Act to permit the reorganization of common carriers by a method similar to the English procedure of “Arrangements” provided for by Railway Companies Act, 1867, 30 and 31, Yict. c. 127, described by Lord Cairns in Cambrian Railway Co.’s Scheme, L. R. 3 Ch. App. 278, 294. The difficulties incident to reorganization of railroad corporations by equity receiverships and foreclosure sales eventually led to the enactment of section 77 of the Bankruptcy Act, involved in this proceeding.

While it is true, as respondent contends, that bankruptcy proceedings under this section are intended to be a method for arriving at a reorganization of a railroad corporation, it is also true that the nature of a railroad as a public utility has precluded, except in extraordinary cases, any procedure other than reorganization in cases of overcapitalized and nonprofitable railroads in financial distress. There is seldom any real liquidation of railroad properties or cessation in the conduct of their operation comparable to a liquidation or cessation from doing business which is usually the “identifiable event” fixing the worthlessness of stock in private corporations. There is merely the readjustment of the securities issued by the railroad corporation to more accurately represent the real value of the railroad property as of the date of the approval of the plan of reorganization.

In the case of private corporations which are hopelessly insolvent and go into receivership or bankruptcy, we anticipate the liquidation of the assets at a sum less than the liabilities and permit the loss by reason of the worthlessness of their stock to be deducted in the year in which the receiver or trustee in bankruptcy takes over the property for ultimate liquidation. Jeffery v. Commissioner, 63 Fed. (2d) 661. In the case of a railroad corporation which is hopelessly insolvent with liabilities far in excess of its assets, and earnings far less than required to pay interest on its bonded indebtedness, we may assume that any plan of reorganization finally approved by the Interstate Commerce Commission and the judge administering the bankruptcy estate will reflect an absence of any equity to stockholders, and may, therefore, permit a loss by reason of the worthlessness of such stock to be deducted in the year in which trustees in bankruptcy were appointed by the court to take over the property of the railroad corporation pursuant to the provisions of section 77 of the Bankruptcy Act.

In the instant case, the uncontradicted testimony of the petitioner was to the effect that the long term indebtedness of the Chicago, Indianapolis & Louisville Railway Co. was about $42,000,000, that the value of its property as assessed for taxation was $12,466,424.11, that under no circumstances could its property be sold for a sum sufficient to pay the principal of its mortgage bonds outstanding, that it was in default in large sums in the payment of interest on its bonds, and that, by reason of the fact that it was largely a coal railroad and motor trucks were increasingly used in transporting coal from the mines, there was no hope that it would pay even the interest on its bonds. Under these circumstances, we can not avoid the conclusion that the Chicago, Indianapolis & Louisville Railway Co. was insolvent in 1938, and the stock in that company owned by petitioner was worthless. There could be no reasonable hope in that year or subsequent years for a return of value to this stock.

The appointment of trustees in bankruptcy for the Chicago, Indianapolis & Louisville Railway Co., under section 71 of the Bankruptcy Act, marked the end of the carrying on of its business by the company and operations under its existing corporate financial structure. Thereafter, it would be operated by the trustees in whom the control of its property was vested by the Bankruptcy Act until a plan of reorganization should be approved by the court. That plan of reorganization could not create an equity in the stockholders which did not exist by reason of the value of the corporate assets, without the consent of the bondholders and other creditors having priority with regard to the assets of the company. While the different classes of secured creditors might make certain concessions as to each other, it is hardly within the realm of possibility that they would collectively consent to such a paring down of their claims as to create any equity for the stock. The value of the corporate assets, either actual or potential,.was less than the secured claims and was not sufficient therefore to give value to the company’s stock.

The filing of the petition in bankruptcy under section 77 of the Bankruptcy Act by the Chicago, Indianapolis & Louisville Railway Co. and the appointment of trustees for its property by the court in such proceedings in 1933, constituted an “identifiable event” by reason of which the worthlessness of stock in that company might be determined in that year. Since petitioner’s stock was worthless in that year, our finding will be in favor of petitioner on the issue presented in this case.

Decision will be entered wnder Bule 50.

       SEC. 23. DEDUCTIONS FROM GROSS INCOME.
      In computing net income there shall be allowed as deductions:
      * * * * * * *
      (e) Losses by Individuals. — Subject to the limitations provided in subsection (r) of this section, in the case of an individual, losses sustained during the tftxafcle year and not compensated for by insurance or otherwise * * *,


author: HakRon:

text:
    Stephen H. Tallman, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 86550.
    Promulgated June 15, 1938.

      William, Cogger, Esq., for the petitioner.

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

HakRon:

It is not disputed that petitioner sustained a loss of $15,100.05 in compromise of a threatened suit for $40,000. The only question presented for our decision is whether the claimed loss is an allowable deduction under the Revenue Act of 1934.

The respondent disallowed the deduction on his determination that the loss was not incurred in trade or business or in a transaction entered into for profit. From the evidence before us, we think petitioner did not sustain the loss in connection with a business or in a transaction entered into for profit. Petitioner was employed by a bank at a salary of $11,000 per year and only occasionally acted for clients of the bank, under a power of attorney, and did not receive fees for such purposes. On only one occasion, in the administration of an estate of a client of the bank, did petitioner receive a fee. It can hardly be said, under the facts before us, that petitioner regularly engaged in the business of acting as a fiduciary for his own clients. It has been held that a person can be engaged in more than one business, but, where transactions are periodic or isolated, they do not suffice to constitute a business, regularly carried on by the taxpayer for the purpose of livelihood or profit within the meaning of the term used in section 23 (e) of the Revenue Act of 1934. Willoughby H. Stuart, Jr., 32 B. T. A. 574; affd., 84 Fed. (2d) 368, and authorities cited therein. The matter involved in the issue before us was an isolated one which extended over several years. The matter of Laura Brown was of concern to petitioner’s wife and her sisters. The two women relatives of Laura Brown found their responsibility difficult to carry and they prevailed upon petitioner to take over Laura Brown’s financial affairs. The problem continued for longer than was expected. It was necessary to invest and reinvest a fund. But, in spite of the work required of investing, writing checks, and keeping accounts, petitioner never asked for or received a fee. There were practical reasons for petitioner’s undertaking such efforts for an invalid relative of his wife under a power of attorney. Laura Brown’s securities were held by banks in Buffalo and Cleveland. No doubt some formal step, such as the execution of a power of attorney by Laura Brown, was necessary to satisfy the first bank concerned in Buffalo when it turned over securities to petitioner. The fact that petitioner acted under a power of attorney does not contribute to characterize Ms activities in the matter as a business activity. Viewing the entire matter from a reasonable standpoint, petitioner’s activities were commendable and charitable, but were such as a business man in a family would undertake for the less experienced women relatives. We recognize that petitioner’s regular business as a banker made him competent to look after the management of his wife’s relative’s finances, but we must draw a line between endeavors carried on in his regular business and an isolated matter carried on to aid a relative, even though .the same skill and knowledge is used in both endeavors. Laura Brown was a client of the bank because of the loan account. But petitioner accepted the power of attorney entirely apart from his employment and duties at the bank and before Laura Brown became the bank’s client. He accepted the power of attorney at the behest of Laura Brown’s sisters, to assist them in a duty they found burdensome. The matter appears to have been chiefly a “family matter.” Viewing the Brown matter apart from the interest the bank later had, it was not such a matter as we can hold to constitute the carrying on of a “business” by petitioner within the meaning of that phrase in the revenue act.

Nor do we believe it can be concluded that petitioner looked after the Brown matter with the intention of making a profit or deriving gain. Petitioner states that he expected to receive compensation for services after Laura Brown’s death. This was at most a hope. Over a period of ten years no arrangements were made for any compensation for the services at the end and apparently the matter was not discussed. Intention of receiving gain or profit is important, as was noted by the court in Commissioner v. Field, 67 Fed. (2d) 876. We are unable to find from the facts here that petitioner had any earnest intention of realizing profit from his efforts in the Brown matter. Cf. Burrows McNeir, 30 B. T. A. 418.

We recognize that a payment to settle a controversy or claim may be held to be a deductible loss, if, however, the controversy arises out of matters related to the conduct of a business or a transaction entered into for profit. Cf. North American Investment Co., 24 B. T. A. 419. But here we conclude that the payment petitioner made in 1934, in settlement of the claim against him, constituted a personal loss rather than a loss deductible under section 23 (e), because the matter which gave rise to the controversy or claim was not related to a business regularly carried on by petitioner, in addition to his bank employment, and was not in itself a transaction entered into for profit.

Decision will he entered for the respondent.

       SEC. 23. DEDUCTIONS FROM GROSS INCOME.
      In computing net income there shall be allowed as deductions :
      *******
      (e) Losses by Individuals. — In the case of an individual, losses sustained during the taxable year and not compensated for by insurance or otherwise—
      (1) if incurred in trade or business ; or
      (2) if incurred in any transaction entered into for profit, though not connected with the trade or business * * *.


author: Tyson:

text:
    Meredith Wood, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 88426.
    Promulgated June 17, 1938.

      George M. Wolfson, Esq., and Ralph A. McCleTla/nd, Esq., for the petitioner.

      Arthur W. Camduff, Esq., for the respondent.
   opinion.

Tyson:

This proceeding seeks redetermination of an income tax deficiency of $1,228.23 for the year 1934, of which amount $1,224.03 is in controversy.

Petitioner assigns error in the respondent’s determination that a certain trust established by petitioner was a revocable trust and that petitioner received as taxable income in 1934 the sum of $8,750, paid as dividends on 25 shares of the capital stock of the Book-of-the-Month Club, Inc., which constituted the corpus of that trust.

The petitioner is an individual and a citizen of the United States, residing at Scarsdale, Town of Greenburgh, New York.

On April 8, 1931, the petitioner executed a declaration of trust, in which he, as the owner of 25 shares of the capital stock of Book-of-the-Month Club, Inc., and as the settlor, declared himself the trustee, “to hold the same in Trust, to hold, invest and reinvest the same, to collect the net income therefrom from the date hereof and to pay the said net income, as and when received by him, to his wife, Helen Martin Wood, until the termination of this trust.”

The declaration of trust of April 8, 1931, provided, inter alia, that, “This trust shall continue in effect until (a) the expiration of three years from the date of this instrument, or (b) the death of the Set-tlor, or (c) the death of Helen Martin Wood, whichever event shall first happen, and shall thereupon terminate.” Upon termination of the trust the property then held in trust would be transferred and delivered to the settlor to be his own property, except that in case of its termination by his death the property would be transferred and delivered to his executors to be disposed of as part of his estate under his last will and testament. A supplementary declaration of trust, executed by petitioner on March 25, 1932, extended the three-year period for the continuance of the trust to a five-year period from April 8,1931.

The declarations of trust further provided that the settlor might resign as trustee and appoint a substitute trustee; that, without liability for loss not arising from willful misconduct, the trustee, whether original or substituted, had the power to retain the 25 shares of stock of the Book-of-the-Month Club, Inc., or to sell the same, or any part thereof, to make any investment or reinvestment of the property or money held in trust, to determine the value of the property, “to determine whether any property or money received or held in trust shall be treated as capital or income, and the mode in which any expense incidental to the execution of the trust is to be borne as between capital and income,” and, further, that the trustee “shall at all times hold and dispose of said twenty-five shares of the capital stock of Book-of-the-Month Club, Inc., subject to the provisions and restrictions of a certain agreement in writing made and dated the 27th day of January, 1931, between Harry Scherman and the Settlor, to the same extent, as regards said agreement, as though said stock were held and owned by the Settlor as an individual.” That agreement of January 27,1931, placed certain restrictions upon the petitioner’s disposition of his shares of stock of the Book-of-the-Month Club, Inc., by requiring that if he desired to dispose of the stock it should be first offered for sale to Scherman, that the certificates for such stock should bear a suitable legend containing reference to the agreement, and that petitioner should not pledge, mortgage, hypothecate, or otherwise encumber any of the shares without the consent of Scherman.

On April 8,1931, the petitioner transferred 25 shares of stock of the Book-of-the-Month Club, Inc., to himself as trustee under the above mentioned declaration of trust and at all times thereafter, and until April 8,1936, the petitioner, as trustee, continued to hold the stock as the sole corpus of that trust.

After April 8,1931, and particularly during the year 1934, all dividends paid on the 25 shares of stock of the Book-of-the-Month Club, Inc., were received by petitioner as trustee and deposited by him in a special bank account entitled “Meredith Wood, Trustee,” and all income from the trust was paid to Helen Martin Wood, the beneficiary, by checks drawn to her order and signed by the petitioner as trustee, no part of the income ever being distributed to the grantor or accumulated.

All of the dividends received by petitioner as trustee during the year 1934, amounting to $8,750, were included in the income tax return filed by Helen Martin Wood for the year 1934.

The petitioner duly filed his income tax return for the year 1934 with the collector of internal revenue at the Customs House, Borough of Manhattan, New York, New York, and paid the tax, in the sum of $1,278.96, shown to be due thereon. The petitioner did not include in that return any income from the above mentioned trust. The respondent has increased petitioner’s income for 1934 by the amount of $8,750 representing the dividends paid during that year on the 25 shares of stock of the Book-of-the-Month Club, Inc., constituting the corpus of the trust.

The petitioner contends that the income from the trust, in the amount of $8,750 for the year 1934, constituted taxable income of the beneficiary, Helen Martin Wood. The respondent contends that the income from the trust is taxable to the grantor, petitioner, under the provisions of sections 166 and 167 of the Kevenue Act of 1934.

In United States v. First National Bank of Birmingham, 74 Fed. (2d) 360, a trust had been created for a period of one year, which terminated during the taxable year 1929, and the Commissioner contended that the income therefrom was taxable to the grantor during 1929 under section 166 of the Revenue Act of 1928, which provided in part: “Where the grantor of a trust has, at any time during the taxable year, * * * the power to revest in himself title to any part of the corpus of the trust, * * *” (italics supplied) then the income therefrom shall be included in the income of the grantor. The court held that the trust was not one such as described by section 166 of the 1928 Act, “as the grantor did not have, at any time during the taxable year 1929, or at any other time, * * * the power to revest in himself title to any part of the corpus of the trust.” The court further held that the trust instrument granted an irrevocable estate for years and that the income therefrom was subject to the unfettered command of the grantee and was not taxable to the grantor. The principle of law there announced is that where a trust for a period of years terminates by the terms of the trust instrument, with title to the corpus thereupon revesting in the grantor, such termination is not under the exercise, at any time, of a “power to revest” reserved to the grantor either alone or in conjunction with any person not a beneficiary of the trust, within the meaning of section 166 of the 1928 Act. Since the language in section 166 of the Eevenue Act of 1934, applicable in the instant case, differs from that in section 166 of the 1928 Act only by the omission of the words “during the taxable year”, and since in the First National Bank of Birmingham case the trust did terminate during the taxable year there in question, clearly, the principle there announced is applicable in the instant case.

In neither the original nor the supplementary declaration of trust was any power of revocation reserved to the petitioner or anyone else. The trust could be terminated only upon the happening of one of the three events specified in the original and supplementary declarations, viz., the death of the grantor or of the beneficiary, or the termination of a five-year period from April 8, 1931, and petitioner, the grantor, had no control over the happening of such events. The trust constituted the grant of an estate for years and the beneficiary became the owner of an equitable interest in the corpus, Blair v. Commissioner, 300 U. S. 5. Since section 166, supra, deals only with revocable trusts, and since the trust here in question was not, under the terms of the instruments creating it, revocable at any time during the period fixed for its duration, that section is not applicable in the instant case. Phebe Warren McKean Downs, 36 B. T. A. 1129. Cf. William E. Boeing, 37 B. T. A. 178.

The trust here in question was not established to discharge a legal obligation of the grantor or to pay premiums for insurance on the grantor’s life. Thus the principles laid down in such cases as Burnet v. Wells, 289 U. S. 670, and Douglas v. Willcuts, 296 U. S. 1, are not applicable here.

The instruments establishing the trust did not provide for the distribution of any income from the trust to the grantor and none was so distributed. Those instruments, in defining the trustee’s duties and powers, gaye the trustee the power to determine whether any property or money received or held in trust should be treated as capital or income, but, when considered with the instruments as a whole and the construction given them by the'parties, such power may not, in our opinion, be construed as a provision for the accumulation of any income from the trust for future distribution to the grantor. The trust instruments specifically provided that the income should be paid to Helen Martin Wood, the beneficiary, as and when received by the trustee, and all the income was in fact so paid to her and none was distributed to the grantor or accumulated. There is no provision in the trust instruments nor any evidence in the record that it was the intention of the grantor that the income, or any part thereof, was to be used in the discharge of petitioner’s marital duty to support his wife, the beneficiary of the trust, and it may not be presumed that the petitioner’s gift to his wife was to be used to effectuate that purpose. Shanley v. Bowers, 81 Fed. (2d) 13; Henry A. B. Dunning, 36 B. T. A. 1222.

While the petitioner, as trustee, had the power to manage the corpus of the trust, the trust instruments made no provision for his control over the use of the income from the trust and there is no evidence of record that he attempted to exercise any such control. The petitioner did not own that income nor did it remain his in substance, for, under the terms of the grant and for the specified period of time, the beneficiary had the unfettered right to receive and use the income from the trust corpus. United States v. First National Bank of Birmingham, supra.

In our opinion, section 167, supra, is also clearly not applicable in the instant case. Cf. Henry A. B. Dunning, supra; Phebe Warren McKean Downs, supra; Kaplan v. Commissioner, 66 Fed. (2d) 401; William E. Boeing, supra; E. E. Black, 36 B. T. A. 346. In Warren H. Corning, 36 B. T. A. 301, the income of the trust was accumulated and there was reserved to the grantor a vested power to revoke and amend the trust, and that case is thus clearly distinguished from the instant case on the facts. In William Lea Taylor, 37 B. T. A. 875, the trust instrument specifically provided for certain accumulations of income and the distribution of corpus and accumulated income to the grantor upon the termination of the trust, and also reserved in the grantor the power to terminate the trust upon the happening of certain events, which clearly distinguishes that case from the instant case on the facts.

The respondent erred in including the $8,750 income from the trust in question in the petitioner’s taxable income for the year 1934.

Decision will be entered under Rule 50.

       SEC. 166. REVOCABLE TRUSTS.
      Where at any time the power to revest in the grantor title to any part of the corpus of the trust is vested—
      (1) in the grantor, either alone or in conjunction with any person not having a substantial adverse interest in the disposition of such part of the corpus or the income therefrom, or
      (2) in any person not having a substantial adverse interest in the disposition of such part of the corpus in computing the net income therefrom,
      then the income of such part of the trust shall he included in computing the net income of the grantor.
      SEC. 167. INCOME FOR BENEFIT OF GRANTOR.
      (a) Where any part of the income of a trust—
      (1) is, or in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income may be, held or accumulated for future distribution to the grantor ; or
      (2) may, in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income, be distributed to the grantor; or
      (3) is, or in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income may be, applied to the payment of premiums upon policies of insurance on the life of the grantor (except policies of insurance irrevocably payable for the purposes and in the manner specified in section 23 (o), relating to the so-called “charitable contribution” deduction) ;
      then such part of the income of the trust shall be included in computing the net income of the grantor.
      (b) As used in this section, the term “in the discretion of the grantor” means “in the discretion of the grantor, either alone or in conjunction with any person not having a substantial adverse interest in the disposition of the part of the income in question.”


author: MuRdock:

text:
    Illinois Pipe Line Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 74525.
    Promulgated June 21, 1938.

      James /S'. Y. Ivins, Esq., O. B. Folsom-Jones, Esq., Arthur M. Gee, Esq., and Wendell Stevens, Esq., for the petitioner.

      I). A. Taylor, Esq., and E. G. Sievers, Esq., for the respondent.
   OPINION.

MuRdock:

The first issue is whether the petitioner’s basis for depreciation upon the depreciable assets which it acquired on January 1, 1915, from Ohio was, in the beginning, $18,799,415, as claimed by the petitioner, or was $10,191,412.14, the amount used by the Commissioner in determining the deficiency. The petitioner claimed certain deductions for depreciation on its returns and the Commissioner disallowed the part thereof which was computed upon the assets acquired on January 1, 1915, from Ohio. He allowed the deductions claimed upon the remaining assets of the petitioner and approved the 5 percent rate used by the petitioner, which was the same rate used in all prior years. The reason which he gave for disallowing the deductions upon the assets acquired from Ohio on January 1, 1915, was that the petitioner, through deductions for depreciation and retirement losses on those assets in years prior to the taxable years, had recovered an amount in excess of $10,191,412.14, and, consequently, the petitioner was not entitled to further recoveries on those assets. The amount actually recovered in prior years through depreciation and retirement losses on those assets is not disputed. The Commissioner was apparently satisfied that the petitioner had applied the 5 percent rate to the correct adjusted bases in computing deductions which it claimed for the two taxable periods here involved if the original cost was $18,799,415. The parties are agreed that the cost .to the petitioner of the assets obtained by it on January 1, 1915, was the value of the stock given in exchange for them. They also agree that the petitioner’s basis for depreciation on the depreciable assets obtained in that exchange is that portion of the total cost of all of the assets which may properly be allocated to the depreciable assets. Thus, if the petitioner establishes that cost, it has met its full burden of proof on the first issue. This conclusion is stated advisedly as the only fair and reasonable one to be drawn from a study of the notice of deficiency, the pleadings, the briefs, and the statements and attitude of counsel during the trial.

The Commissioner stated in the notice of deficiency that $10,191,-412.14 was the cost, less depreciation, of the depreciable assets to Ohio, as shown by the books of Ohio, at the time Ohio transferred those assets to the petitioner. The evidence shows that the book value of the assets, as shown by the books of Ohio at the close of 1914, was somewhat less, but the difference will in no way affect the result in this case.

The petitioner paid for the assets with all of its own stock. That stock was to be distributed to the Ohio stockholders. There is evidence of sales of the stock of the petitioner at prices in excess of par near the critical date of January 1, 1915. Those sales are substantial evidence that the stock which was transferred to Ohio in exchange for the assets was worth at least $20,000,000. There is also evidence in thej record to indicate that the value of the assets transferred to the petitioner at that time was at least $20,000,000. The Commissioner conceded in the notice of deficiency that the total value of all of the assets paid in for stock on January 1, 1915, probably was $20,000,000. It is fair to assume that the stock was worth as much as the assets which were behind it. Swiss Oil Corporation, 32 B. T. A. 777, 786, 787. The petitioner does not claim a total cost in excess of $20,000,000, and it may fairly be concluded for the purposes of this proceeding that the cost to the petitioner of all of the assets which it acquired on January 1, 1915, was $20,000,000.

However, error in the determination of the Commissioner on this first point is not shown by the conclusion that $20,000,000 was the cost of all of the assets. There remains the question of the cost of the depreciable assets, or the question of what part of the entire cost may properly be allocated to the depreciable assets. The Commissioner apparently attributed to “going concern” value the difference between $20,000,000 and $10,191,412.14. He would allow no depreciation based upon the cost of “going concern value” on the ground that it represents the cost of an asset not subject to depreciation. However, error in his determination may be shown in several ways. For example, it might be shown that there was no intangible value such as “going concern value” or good will attached to or inherent in the pipe line system which the petitioner obtained through the purchase from Ohio on January 1, 1915, or it might be shown that no part of the consideration was paid for any such intangible value, or it might be shown that the intangible value disappeared ratably as the economic life of the tangible assets gradually drew to a close.

The parties to the transaction whereby the pipe line was transferred to the petitioner considered the question of the value of the various assets to be transferred in arriving at the figure of $20,000,-000, yet they did not mention any intangible value or attribute any part of the value to intangibles. The petitioner, after it received the assets, spent a great deal of time and effort in preparing a careful inventory and in appraising the items of that inventory for the purpose of distributing the total cost to the various assets on its books. There was never any mention in that process of any intangible asset, and no part of the cost was ever allocated to any intangible asset. While we are not called upon to approve or disapprove of each step in the appraisal, and while there may be some parts of the process about which we have some doubt, nevertheless, after due allowance is made for all uncertainties, the inventory and appraisal strongly indicate that the value of the tangible assets was at least $18,799,415. The evidence also shows that no part of the purchase price was paid for intangibles and, further, that any “going concern value” attached to the line exhausted with the line itself. Thus, even if there was some valuable intangible asset transferred, nevertheless it is proper to allocate to the tangible assets a cost of at least $18,799,415. The evidence supports and the Commissioner does not seriously question the method of allocating the cost of $18,799,415 to the various depreciable assets which the petitioner used on its books and in computing the deductions in question. Hazeltine Corporation, 32 B. T. A. 4, 19; affd., 89 Fed. (2d) 513, 520. Decision on the first point must be for the petitioner.

The Commissioner, by amended answers, has made two contentions in regard to the rate of depreciation on all of the depreciable assets of the petitioner. The first amended answer claimed that a rate of 3% percent was proper instead of the rate of 5 percent which was used. He filed a second amended answer at the close of the hearing in which he alleged that if the 3% percent rate was not to be applied as a composite rate to all of tlie depreciable assets of the petitioner, then a rate of 2 percent should be applied to buildings and a rate of 2y2 percent should be applied to line pipe laid, line pipe construction, and tanks. He made claim for the increased deficiencies which might result and he recognizes that he has the burden of proof to establish the correct rates.

Witnesses for the petitioner have testified, and the petitioner concedes, that certain parts of the plant of this pipe line company have a physical life of substantially more than 20 years. The petitioner contends, however, that when they form a part of a pipe line, the entire cost of the investment must be recovered over the economic life of the pipe line. The petitioner estimated the useful life of its properties in 1915 in the light of the best opinion and experience then available. The resulting rate was the rate of 5 percent. The petitioner has consistently used that rate ever since. The Government seeks to change it in the fifteenth year of its use. The evidence indicates that a life of 20 years was a. reasonable prediction in 1915 and that nothing happened in 1929 or in the first four months of 1930 to justify a change in that estimate. Deductions for depreciation are dependent upon estimates and can never be absolutely accurate. Commissioner v. Niagara Falls Brewing Co., 282 U. S. 648. Cf. Utah Power & Light Co. v. Pfost, 286 U. S. 165, 190; Cohan v. Commissioner, 39 Fed. (2d) 540; Mount Hope Cemetery Association, 37 B. T. A. 671. There was reason to believe in 1929 and 1930 that the line might possibly have some further use for transporting products of others, but the evidence is not strong enough to justify a change in the method consistently used by the petitioner to recover its capital investment. It is not necessary in this proceeding to hold affirmatively from the evidence that the 5 percent rate is proper. The burden was upon the respondent to show that that rate was improper and we have no hesitation in saying that the evidence does not show error in the use of the 5 percent rate.

The final question is whether or not the Commissioner erred in disallowing deductions for retirement losses on all of its assets. One reason for the disallowance of those deductions was that the “value” of the assets acquired on January 1, 1915, was only $10,191,412.14, and that “value” had already been recovered tax free in prior years through deductions for depreciation and retirement losses. We have held, in deciding the first issue, that the cost of those assets was $18,-799,415. The only other reason timely advanced by the Commissioner for disallowing the deductions for retirement losses is that the 5 percent rate is a composite rate, and where a composite rate is used, deductions on account of losses for retirements are improper. J Obviously, if a rate of 5 percent is consistently applied to the same,basis for a period of 20 years, the annual deductions will equal thé cost of the property. However, if the basis is reduced as assets are retired, the entire cost of the assets can not be recovered unless the depreciated cost of the retired assets is allowed as a deduction at the time of their retirement. This is because the subsequent deductions will be 5 percent of a basis which does not include the cost of the retired assets.

The method of recovering its capital investment which the. petitioner has consistently used since it acquired the pipe line from Ohio has been to apply a rate of 5 percent to the cost of the different classifications of assets in each district. It maintains a separate reserve account for1 each separate class of assets in each district. In case any asset was retired or replaced during the period from January 1, 1915, through April 30, 1930, the undepreciated balance of the cost of that asset remaining on the hooks at the time of the retirement was written off, and the amount written off, reduced by salvage, was taken as a deduction in the year of the write-off as a loss upon retirement. The original basis was reduced as amounts were written off. This method, consistently applied, will return to the taxpayer the exact cost of its assets over a period of 20 years. It will not result in any double deduction, it will not fail to return any part of the cost tax free, and it will not distort income for any year. The statute allows a taxpayer deductions for losses upon the retirement of assets. It is, of course, proper to consider the method of computing depreciation and to see that double deductions do not result. There is in the present case no distortion of income resulting from double deductions in this' connection. On the contrary, if the retirement losses are disallowed, the deduction for depreciation would have to be increased in order to reflect income correctly. Applying a rate of 5 percent to the original cost of the assets acquired on January 1, 1915, would give the petitioner a deduction for 1929 of $939,970.75. The petitioner is only claiming a deduction of $537,400.58 as depreciation on those assets, and a deduction of $260,763.73 as retirement losses on all of its assets. The total which it is claiming is $798,-164.31, or $141,806.44 less than it would be entitled to deduct for depreciation alone on the original assets were it to apply 5 percent to the cost of those assets. The petitioner is entitled to the deductions which it claimed for retirement losses for the two periods here involved.

The Commissioner in his brief has made a further argument for disallowing the retirement losses. The petitioner extended its properties and made additions to its old properties after January 1, 1915, from time to time. It capitalized the cost of each addition and applied the 5 percent rate thereto in computing depreciation. The contention of the petitioner has been that the economic life of all of its assets will end with the close of the year 1934. The Commissioner therefore argues that depreciation on the additions to the plant after January 1, 1915, should have been computed at a rate in excess of 5 percent, which was not done, and, therefore, the retirement losses in the taxable periods before the Board are excessive, since they were computed upon an excessive basis from which the sufficient depreciation for prior years had not been deducted. The record does not disclose the amount of retirement losses applicable to the assets acquired on January 1, 1915, the assets added to the original pipe line after that date, or to the assets constituting pipe line systems located in other states. Consequently, the Commissioner urges that the entire deduction for retirement losses for each of these periods must be disallowed. He also points out that the method used by the petitioner in computing retirements of laid pipe was faulty in that there again the basis upon which the retirement losses were computed was excessive due to inadequate deductions for depreciation in prior years. These arguments were raised for the first time in the respondent’s brief. The petitioner had no reason to believe at the time of the trial that evidence to rebut such arguments would be expected, and it contends that the burden of proof would be upon the Commissioner. Theoretically, the petitioner may have been entitled to larger depreciation deductions on some of these items in the past. However, it has consistently followed its method of computing depreciation deductions and retirement losses. The evidence does not show that actually it deducted less depreciation in prior years than was allowable. It is possible that the excess, if any, in the basis is so small as to be negligible. The petitioner is entitled to a large part, if not all, of the deductions which it has claimed. The losses which it has claimed should not be denied because of this belated argument of the Commissioner.

Decisions will he entered for the petitioner.

       The Commissioner, in the notice of deficiency, refers to $10,191,412.14 as the “market value” of the depreciable assets on the basic date. Their basis is their cost, v Inch may differ from their market value.

       Sales of some of the assets might have reduced the basis, of course.


author: Mtjedook :

text:
    Gilbert D. Hedden, Petitioner, et al.,
      v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 79623, 79624, 79626, 79626, 79965, 79966.
    Promulgated June 21, 1938.

      Ernest G. Lvm, Esq., and William Bis tig, Esq., for the petitioners.

      J. R. Johnsion, Esq., for the respondent.

       Proceedings of the following petitioners are consolidated herewith: Gilbert D. Hedden, Transferee; Andrew M. Conneen, Jr.; Andrew M. Conneen, Jr., Transferee; Hattie S. Hedden, Transferee; Gertrude S. Hedden, Transferee.

   OPINION.

Mtjedook :

The Commissioner determined a deficiency of $99,081.30 in income tax due from the Anconged Co., formerly the Hedden Iron Construction Co., for the calendar year 1931. He then determined that the petitioners are liable as transferees of the assets of that taxpayer. All of the facts in the record have been introduced by a stipulation. The Board hereby finds that the facts are as stipulated. The first and principal question for decision is whether the gain realized from the transfer of substantially all of the assets of the Hedden Iron Construction Co., hereinafter called Hedden, to two corporations nominated by the Bethlehem Steel Corporation, hereinafter called Bethlehem, in exchange for the latter’s bonds and cash, should be recognized for tax purposes.

Hedden was engaged in the iron business. It granted to Bethlehem, or the nominee or nominees of Bethlehem, an option to acquire substantially all of its assets in exchange for $1,250,000 par value of the 4y2 percent serial gold bonds of Bethlehem and $16,400 in cash. Bethlehem exercised the option on April 23, 1931. Bethlehem directed that all of the real estate of Hedden in New Jersey be conveyed to the Union Iron Works Co., and all of the other property of Hedden be conveyed to the McClintic-Marshall Co. The Union Iron Works Co. and McClintic-Marshall Co. were wholly owned subsidiaries of Bethlehem and were named by Bethlehem as its nominees under the option. Bethlehem set up on its books accounts receivable and notes receivable from these two subsidiaries for all of the assets transferred to them. Hedden received the bonds and cash. It then sold $410,000 par value of the bonds to another subsidiary of Bethlehem for $410,000 in cash, and distributed the remaining bonds and the $410,000 in cash to its stockholders. It changed its name to “An-conged Company,” and later was dissolved on July 13, 1931. All of these steps were pursuant to the plan as set forth in the original offer and acceptance. Hedden and Bethlehem stated in those papers that they desired to be and desired the other to be a party to a reorganization which would result from the transfer of the properties of Hedden. The parties have agreed that the petitioners are transferees of Hedden and they have also agreed upon the amount of the transferee liability of each in case a gain to Hedden is recognized.

The petitioners contend that the gain realized by Hedden is not recognized. They argue that both Hedden and Bethlehem were parties to a reorganization, the exchange would be within the provisions of section 112 (b) (4) of the Revenue Act of 1928 except that cash was received, but the cash was distributed pursuant to the plan of reorganization and, therefore no gain to the corporation shall be recognized from the transaction. A reorganization, they say, resulted from the fact that Bethlehem acquired substantially all of the properties of Hedden.

The Commissioner contends that the gain of Hedden must be recognized in its entirety. He argues that there was no reorganization, since no corporation acquired substantially all of the properties of Hedden and, even if there was a reorganization, Bethlehem was not a party to it because the properties of Hedden were acquired, not by Bethlehem, but by the Union Iron Works and McClintic-Marshall Co. He argues further that the bonds of Bethlehem which were transferred to Hedden do not preserve a sufficient continuity of interest, i. e., the bonds were the bonds of Bethlehem, whereas the properties in which Hedden and its stockholders were formerly interested were thereafter owned, not by Bethlehem, but by the two other corporations. This case can not be satisfactorily distinguished from cases cited by the respondent, namely, Groman v. Commissioner, 302 U. S. 82; Helvering v. Bashford, 302 U. S. 454; and A. W. Mellon, 36 B. T. A. 977. We hold upon authority of those decisions that this case does not fall within any of the exceptions to the general rule of section 112 (a), and it follows that the entire amount of the gain of Hedden shall be recognized.

The case of Schuh Trading Co. v. Commissioner, 95 Fed. (2d) 404, decided by the Circuit Court of Appeals for the Seventh Circuit, has been called to our attention. The facts in that case are almost, if not quite, parallel to the facts in the present case. The Circuit Court attempted to distinguish the Groman case because in the Gromam, case the corporation (Ohio) to which the stock of Indiana was transferred, was not called a “nominee” of Glidden, and upon the further ground that Glidden had transferred nothing to the shareholders of Indiana. The Circuit Court may have been unaware that the statement in the Groman case to the effect that Glidden transferred nothing to the shareholders of Indiana was deleted from the Groman opinion on December 6, 1931. There were “nominees” in the Mellon case. We respectfully decline to follow the opinion of the Circuit Court in the Behuh case because we can not distinguish it from the Groman and Bashford cases.

The parties have stipulated that Hedden’s basis for gain or loss on the assets transferred was $421,193.28. The petitioners have contended that the bonds of Bethlehem had no fair market value at the time they were received. They had the burden of proof on that issue and failed to introduce any evidence to show that the bonds were not worth their face value. The evidence, on the contrary, indicates that the bonds were worth their face value. The Commissioner correctly determined the amount of the gain to Hedden.

The petitioners made the further contention that Hedden was entitled to report its gain under section 44 (b). That section, relating to the installment method of reporting gains, does not afford the petitioners any relief. Sufficient reason for this statement is found in section 44 (d). Hedden disposed of the bonds immediately after it received them by distributing them to its stockholders. Section 44 (d) provides that if an installment obligation is distributed, gain or loss shall result to the extent of the difference between the basis of the obligation and its fair market value at the time of the distribution. This would result in exactly the same gain for 1931 that would result if the installment basis were not used. Thus, all of its gain had to be reported in 1931.

The Commissioner also determined deficiencies in the income taxes of Gilbert D. Hedden and Andrew M. Conneen, Jr., for 1931. The parties have entered into stipulations which will dispose of those proceedings.

Decisions will be entered under Rule 60.


author: Sternhagen:

text:
    Clara Louise Flinn, Petitioner, et al.,
      v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 84483, 84484, 84485, 84486, 84487, 84488, 84489, 84490, 84491.
    Promulgated June 21, 1938.

      Alim H. Pierce, Esq., Chester L. Wallace, Esq., John 0. Wicks, Esq., and Will R. Gregg, Esq., for the petitioners.

      John E. Marshall, Esq., Leonard C. Mitchell, Esq., and Harold D. Thomas, Esq., for the respondent.

       Proceedings of the following petitioners are consolidated herewith: Louise Flinn Wainwright; George H. Flinn, Jr.; Lawrence Flinn; The Colonial Trust Company and George H. Flinn, Jr., Executors, Estate of George H. Flinn, Deceased; The Colonial Trust Company, Trustee, Trust under the will of George H. Flinn for Clara Louise Flinn; The Colonial Trust Company, Trustee, Trust under the will of George H. Flinn for Louise Flinn Wainwright; The Colonial Trust Company, Trustee, Trust under the will of George H. Flinn for George H. Flinn, Jr.; and. The Colonial Trust Company, Trustee, Trust under the will of George H. Flinn for Lawrence Flinn.

   OPINION.

Sternhagen:

1. The estate of George H. Flinn, deceased, in Docket No. 84487, contested the Commissioner’s determination that its gross income for 1933 should include profit of $16,357.38 and its deductions should exclude one of $47,635.46. The parties have agreed that the $16,357.38 should be excluded from income and the $47,-635.46 should be excluded from deductions; and the computation of deficiency will be made on that basis.

2. Docket Nos. 84488-84491 are proceedings instituted by the trustee of the four trusts created under the will for the widow and three children, respectively. They are four separate taxpayers, but each proceeding involves the same two issues, one assailing the Commissioner’s determination and the other raised by the respondent’s affirmative amended answer. The considerations are common to all four cases.

By the will, the residuary estate was left to the trusts. For the reasons set forth in the findings, the executors withheld distribution, and there has been long delay in the settlement of the estate. In 1933 a plan for handling the corporation’s shares was worked out which would meet the fiduciary demands of the trustee, the practical demands of the business, and the sentimental demands of the Flinn family. The surplus was capitalized, the shares increased, and a stock dividend declared, which facilitated a proportionate distribution among the trust beneficiaries without impairing the intact value of corpus to be retained by the fiduciary, and at the same time relieved the fiduciary of undue responsibility for the risks of the contracting business. Thereupon, to free the fiduciary completely from the business, the shares retained by it were bought by the corporation for $951,560.45, which is no more than their fair market value when received.

The Commissioner’s determination rests upon the view that the corporation’s purchase from the trustee was a cancellation or redemption of its shares essentially equivalent to a dividend and taxable as such under Revenue Act of 1932, section 115, subdivision (g) , This view is defended by respondent here on the ground, as stated in his brief, that:

* * * The facts clearly establish that there was a premeditated plan or artífice on the part of the petitioners in connection with the entire transaction and that the element of tax avoidance motivated them * * *. The circumstances surrounding the redemption and reduction of the stock in time and manner clearly indicate and evidence a continuing plan to effect by that means a distribution of corporate earnings freed from the usual incident of tax upon ordinary dividends. The whole scheme was in fact an anticipatory arrangement to circumvent the tax.

The evidence clearly refutes this and establishes affirmatively the contrary. While it shows that the capitalization of earnings and the stock dividend were actuated primarily by a demand other than that of the corporation’s own business, it shows equally clearly that the motive was to provide a means of avoiding a forced complete liquidation of a successful business and yet to conform to the fiduciary’s demand for safety and the requirements of the Pennsylvania law of apportionment. Indeed an inclination to reduce or avoid income tax while distributing earnings can be found nowhere in the evidence.

If the motive be left aside as not necessarily controlling, there is still an absence of such manner of distribution as to be essentially equivalent to a dividend. The statutory concept of dividend is a distribution out of earnings and profits, and normally it is proportionate to shares and leaves the shareholder holding his shares as his capital investment. Complete and partial liquidations are treated, for the purpose of the statute, as sales with a consequent measure of gain or loss, even though the proceeds may to some extent be derived from earnings. Hellmich v. Hellman, 276 U. S. 233. Here there was a complete liquidation of the holdings of but one shareholder owning a minority of the shares. The purpose was not to distribute earnings, but to bring about a separation of this one shareholder from the corporation. The remaining shareholders remained substantially unchanged in their relation to the corporation and its earnings. The shares purchased from the trustee by the corporation were not only those distributed to it as a stock dividend, but also those which this shareholder held as its intact investment. The only fact to give the purchase the semblance of a statutory dividend is that money went to a shareholder which to some extent could be traced to earnings. This is, in our opinion, less than enough to establish the essential equivalent of a dividend when considered in all the circumstances.

The Commission was in error in his determination that section 115, subdivision (g), was applicable.

3. The respondent, by an amended answer, affirmatively pleads that of the $951,560.45 received by the trustee from the corporation, $625,064.85 is properly to be treated as gain. Although there is no substantial room for doubt that the 4,160.3537 shares which were in effect received by the trustee on December 27, 1933, by way of distribution from the executors of the decedent’s estate, were worth $951,560.45 when received, thus indicating no gain when they were sold, tlie respondent pleads affirmatively that the basis to be used in computing gain is not the value of the shares when actually received by the trustee, but the value on January 30, 1931, when they are said to have been constructively received because they should have been actually received. The argument runs that the executors were in position to close and distribute the estate on the earlier date, and that their failure to do so was so capricious and unreasonable that it should not be recognized for present purposes.

The evidence, however, fails to substantiate this affirmative contention. As appears at length in the findings, there was sound and respectable reason for the trustee to resist distribution in specie of the corporation’s stock. The corporation’s business was hazardous and the trustee might reasonably contemplate the necessity for a long period of protecting the interests of minors and unborn children. There were other difficulties in the way of ready and prompt liquidation and of the administration of the assets, but the well founded reluctance of the fiduciary in regard to the corporate shares is enough. There is nothing to support a suspicion that the executors and the trustee or beneficiaries were conspiring to raise the value of the corporate shares in order to reduce the gain and the resulting tax. The respondent has therefore failed to support the constructive receipt by the trustee in 1930 upon which his reduction in basis and increase in gain is built.

4. As to the four individuals who are beneficiaries of the trusts established by the will (Docket Nos. 84483-84486), the Commissioner, following his view that the $951,000 paid by the corporation for the 4,160 shares was properly to be regarded as a taxable dividend under section 115 (g), held further that such amount constituted distributable income of the trusts and is, therefore, properly taxable to the individual beneficiaries of the trusts under section 162, Revenue Act of 1932. Actually the amount thus received by the trustee was retained as the intact value which it was not at liberty to distribute. It has been invested and continues to be held by it. No part has been distributed to the beneficiary petitioners. The decision that section 115 (g) is inapplicable carries with it the decision that no part of the $951,000 may be regarded as distributable income of the trusts and no part thereof may be taxed to the individual beneficiaries.

5. Petitioner Clara Louise Flinn, the widow, in fact received $22,500 on January 4,1933, and $32,400 on December 14, 1933. These amounts can not from the record be clearly identified except that they were received by her from the trustee. Whether they were received as income from the trust separately set up for her or to any extent as income from any of the trusts for the children, to be used as provided in the will for their maintenance and benefit, has not been and can not be found. The distribution of $22,500 appears to have been made out of trust income of earlier years and is not properly taxable at the time of actual distribution in 1933. With regard to the later distribution of $32,400, nothing appears which would ■require the exclusion of any part from her individual 1933 income. The Commissioner’s determination must, therefore, be sustained in whatever treatment he gave to the $32,400, and must be reversed as to the earlier distribution of $22,500, which was taxable in an earlier year.

Reviewed by the Board.

Judgment will be entered tmder Rule 50.

       (g) Redemption of Stock. — If a corporation cancels or redeems its stock (whether or not such stock was issued as a stock dividend) at such time and in such manner as to make the distribution and cancellation or redemption in whole or in part essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock, to the extent that it represents a distribution of earnings or profits accumulated after February 28, 1913, shall be treated as a taxable dividend.


text:
    Rose Licht, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 86716.
    Promulgated June 21, 1938.

      Moses H. Rothman, Esq., for the petitioner.

      F. R. Shearer, Esq., and E. M. Woolf, Esq., for the respondent.
   OPINION.

HakRon:

The question in this proceeding is as follows: Was any loss sustained in the year 1933 as a result of the fire that occurred in 1931 at the place of business of petitioner’s husband? It is respondent’s contention that the loss was not sustained in 1933, but that it was sustained in 1931. The respondent’s argument is that the loss in question was deductible in 1931 under the provisions of section 23 (e) (Revenue Acts of 1928 and 1932), because the loss which occurred in that year, when property was damaged or destroyed by fire, was not “compensated for by insurance or otherwise.” The parties have stipulated that Sam Licht had fire insurance policies in force on July 22, 1931, the date of the fire, in the total amount of $40,000. However, respondent contends that the loss was not “compensated for” by insurance because respondent alleges that the insurance companies disclaimed liability under the policies in 1931. This is a question of fact. The parties have submitted this proceeding on a stipulation of facts and we must decide the question on the facts as presented.

Briefly, the facts show that fire insurance policies were in force in 1931 but that the whole matter was taken up by the Hew York Board of Fire Underwriters, which instituted hearings on the fire loss which extended from October 22 to December 30, 1931; that on February 5, 1932, Sam Licht commenced an action in the Supreme Court of New York to recover $29,222.75 under the insurance policies and that, then, the insurance companies interposed an answer to the complaint setting up a general denial, alleging a breach of warranty, and alleging that they were not liable to the plaintiff in any manner or in any amount. On trial, the jury disagreed and in 1933 the insurance companies settled the claim for $12,000. The respondent has introduced in evidence a report, dated February 27, 1933, of the New York Board of Fire Underwriters. This report states that ah adjuster of the board formed an opinion that the fire was of incendiary origin; that, through the board, one Philip Taylor was arrested and charged with arson and held by the Magistrate’s Court without bail for the grand jury, which subsequently failed to indict. No dates are given with respect to the arrest, trial, and acquittal of the suspect.

Having these facts before us, we turn to the law to be applied. We have stated the rule to be, in Allied Furriers Corporation, 24 B. T. A. 457, that “where fire, embezzlement or other casualty occurs and is covered by insurance or otherwise, no deduction can be claimed for the year of the casualty, but that it is allowable for the year when the claim for compensation thereof is settled.” (P. 459.) The facts in Allied Furriers Corporation case show that there the insurance companies asserted that a representation in the application for insurance made by the insurance broker was incorrect and that the insurer refused to pay the loss. Nevertheless, we concluded there, that the taxpayer was protected by insurance in the year 1925, when the casualty occurred, and that the taxpayer could not reasonably have claimed any loss in that year.

This proceeding appears to come within the holding of Allied Furriers Corporation case, supra, unless we conclude that Licht’s loss was not “compensated for by insurance.” Since our decision in the above case, the Circuit Court of Appeals for the Ninth Circuit has rendered a decision in Cahn v. Commissioner, 92 Fed. (2d) 674. which interprets the phrase “compensated for by insurance” as used in the applicable provision of the revenue act. The court in the Cahn case Reid that there was no “compensation” for loss, as a practical business man would understand the term, where an insurance claim was contested by insurers upon the grounds which made the collection of the claim so uncertain that the insured’s attorney advised him not to pursue the claim. The fact which appears to have been the most crucial in the Cahn case is that the insurer, there, was a foreign concern, Lloyds of London, which could not be sued in California, where the insured resided. The insured was advised by his attorney that suit on the claim would have to be prosecuted in England. The insured, thereupon, concluded that his claim was so uncertain that he deducted the loss in the year of the casualty. The court held that under such circumstances the taxpayer was justified in concluding that his loss was not compensated for by insurance. Respondent in this proceeding would apply the reasoning of the Cahn case to the facts here.

We believe that the phrase “compensated for by insurance”, as used in the statute, should be given “practical construction”, bur-each case must be decided upon its separate facts. Where an insured person has a claim under insurance policies in force that is subject to reasonable prospects of success upon pursuing the claim, we believe it may be concluded that a loss is “compensated for” by insurance. However, in questions such as we have here, the burden of proof is upon the taxpayer, seeking a deduction for income tax purposes, to prove that his claim under insurance policies is substantial enough to be adjusted, in whole or in part, within a reasonable time. The rule, long established, is that deductions for losses must be taken in the year in which the loss is sustained. Were it not for coverage by insurance, a loss from a casualty would clearly be sustained in the year the casualty occurred. What the respondent here urges is that, Avhere an insurer denies liability for a loss in the year of the casualty, then the loss is not “compensated for” by insurance; that the loss is deductible thereupon although the insurer may later compensate the insured when required to by decision of a court in an action upon the contract of insurance.

There is much in favor of such an interpretation of the pertinent clause. The reasoning of the Supreme Court in United States v. White Dental Manufacturing Co., 274 U. S. 398, 402, lends weight to such construction. Nevertheless, we do not agree with respondent that the facts here show that the insurers of Sam Licht had taken any such steps, in 1931, from which we can conclude that they had so denied liability under insurance contracts that Licht should have concluded, as a practical business man, that his insurance contracts afforded him no “compensation” for his loss. The mere holding of hearings on the claim would not indicate that the insurers had denied liability. Hearings are for the purpose of adducing facts upon which conclusions are reached. There is no positive evidence here as to when the insurers of Sam Licht first disclaimed liability. However, we are reluctant to draw the inference that within one day after the hearings were concluded, i. e., on December 31, 1931, the insurers disclaimed liability. There is a regrettable gap in the evidence. However, Licht commenced an action in court against the insurers on February 5,1932, and we consider it reasonable that he had no grounds for bringing the action until shortly before that date. We, therefore, conclude that the facts show that at the close of 1931 Licht’s loss was compensated for by insurance, within the intendment of the statute, and that the loss was not sustained in 1931. In a practical sense the loss was sustained upon the culmination of the proceedings instituted for recovery of the claim, which was in 1933. We, therefore, consider this proceeding distinguishable on its facts from Cahn v. Commissioner, supra. We hold that respondent erred in disallowing the deduction in the taxable year.

It is a question of fact how much the loss and damage to Sam Licht’s property resulted from the fire in 1931. The proof of loss which he filed and the amount he sued the insurance companies for was $29,-222.75, based upon the appraisal of public adjusters, J. I. Le Bowski & Co. We have found as a fact that the loss from fire was $29,222.75. It follows that, upon settlement for $12,000, the loss sustained was $17,222.75. The petitioner, therefore, is entitled to a deduction of $17,222.75 only in the year 1933.

Petitioner’s income tax return for the year 1933 is in evidence. Petitioner paid no income tax for 1933 because she reported a deficiency in income for the year in the amount of $14,768.40. Upon our conclusion that petitioner is entitled to deduction for a loss in the amount of $17,222.75 and upon the Commissioner’s allowance of a bad debt deduction of $1,409.40, it follows that petitioner’s allowable deductions total $18,632.15. Petitioner reported income of $9,921.50. It is apparent that there is still a deficiency in income for the taxable year and that no tax is due.

Decision will be entered for the fetitioner.

      Sec. 23 (e). Losses bt Individuals. — Subject to the limitations provided in subsection (r) of this section, in the case of an individual, losses sustained during the taxable year and not compensated for by insurance or otherwise—
      (1) if incurred in trade or business; or
      (2) if incurred in any transaction entered into for profit, though not connected with the trade or business: * * *


author: HaeRon:

text:
    Eleanor L. Mack, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 86856.
    Promulgated June 21, 1938.

      Harry W. Mack, Esq., for the petitioner.

      TV. W. Kerr, Esq., and L. H. RusKbrook, Esq., for the respondent.
   OPINION.

HaeRon:

The Revenue Act of 1932, in sections 25 (c) and 25 (d), set forth in the margin, allows a personal exemption of $2,500 to “the head of a family” and a credit of $400 for each person dependent upon and receiving his chief support from the taxpayer, if such dependent person is within a certain prescribed class. In this proceeding the questions are, only, (1) Was petitioner the chief support of dependent persons who were under eighteen years of age? and (2) was petitioner “the head of a family” within the meaning of that phrase in the pertinent provisions of the revenue act? These questions are to be determined chiefly upon the facts before us.

Petitioner and her former husband, Kohn, were parties to a separation agreement that provided that Kohn pay petitioner annually an agreed sum. The support and maintenance and custody provisions of the separation agreement were adopted and made part of the decree divorcing petitioner from Kohn. The agreement as to support contained the provision that in the event of petitioner’s remarriage the basic, annual payment of $12,000 would be reduced by the amount of $4,000. From this it appears in the terms of the support provisions in force in 1938 that the parties intended that at least $4,000 of the basic sum of $12,000 was for the support and maintenance of the wife and that $8,000 was for the support of the three children. This construction appears to us to be a valid construction of the agreement. Whether or not, up to any such time as the divorced wife should remarry, it was within her discretion to use more or less than $8,000 per year for the support of the minor children, is not a question before us. However, we deem it material in determining the questions before us to consider whether there is a basis for concluding how much of the $5,100 paid by Kohn to petitioner in 1983 was for the support of the children. The questions at issue involve determining who was the chief support of the dependent minor children as well as to what extent petitioner contributed to the support of the children.

Counsel for petitioner contends that all that petitioner received from Kohn be deemed to have covered her own expenses before the expenses of the children, since there was no allocation of the payments in fixed amounts to the uses of petitioner and of the three children separately. However, petitioner’s counsel ignores the provision relating to reduction of payments by $4,000 in the event of the wife’s remarriage, and we think his argument on this point is not strictly material in a tax proceeding. We believe, therefore, that it was the intent of petitioner and Kohn that one-third of Kohn’s payments were to be for the wife’s support and two-thirds for the children’s support. Kohn paid under his agreement $5,100 in 1933. The use of $300 for attorney’s fees by petitioner must be regarded as an expenditure made within her discretion. We must conclude that Kohn contributed $1,700 to petitioner’s support and $3,400 to the children’s support in 1933. Since the cost of the children’s support was $6,400 in 1933, it then follows that petitioner contributed $3,000 to their support, which was a substantial contribution to their support but was less than one-half of the cost. The above conclusion on the facts before us is deemed a fair interpretation of the facts in the absence of the introduction of more specific evidence by petitioner, upon whom rests the burden of proof. Petitioner paid $1,200 for tuition for the children in day school and dancing school. The balance, $5,200, cost of maintaining the children, represents three-fourths of common living expenses and separate expenses of the children. The manner in which petitioner used income from Kohn, and her own income, does not provide any certain way of finding exactly how much each parent contributed and we therefore make what appears to us to be a reasonable conclusion from the facts presented.

Turning then from the facts to the law to be applied, we hold, first, that petitioner is not entitled to credits for dependents under section 25 (d), because she was not the chief support of the minor children. To meet the statutory requirement, a taxpayer must show that he is the “chief” support. The Commissioner, by his regulations, article 294 of Regulations 77, has interpreted the statutory provision uniformly over a long period. We believe his interpretation is consistent with the statutory provision, and that it has received legislative approval. A parent whose children receive half or more of their support from a separate source is not entitled to the credit under section 25 (d). Cf. Harry Sommers, 32 B. T. A. 490. The children of petitioner received more than half their support from sources separate from petitioner’s own personal income.

Under the facts presented here, determination of the question whether petitioner was “the head of a family” under the provision allowing a personal exemption of $2,500, is difficult. However, we are of the opinion that petitioner meets essentially all the requirements necessary to be so classified. The Commissioner’s interpretation of the clause used in the statute, set forth in the margin, has long been recognized as a fair interpretation and as having received legislative approval. Alfred E. Fuhlage, 32 B. T. A. 222. Here the facts clearly show that petitioner exercised family control over three dependents connected with her by blood ties and maintained them in one household with herself. Petitioner had custody of her minor children under a decree of divorce. The crucial question is whether petitioner meets the test on the matter of actual support of the dependents. The Commissioner has, from time to time, given construction of what constitutes “actual support”, as stated in his regulation quoted above. He has said that “supports” means furnishing more than one-half of the support of dependents. See Office Decision 75, Cumulative Bulletin 4, p. 214; G. C. Memorandum 10431, Cumulative Bulletin XI-1, p. 37. He has said elsewhere that a parent can claim exemption as “head of a family” provided a child is in a material degree dependent on the parent for support. Office Decision 474, Cumulative Bulletin 2, p. 159. Respondent contends here that petitioner did not actually support her dependent children but we have found that petitioner contributed substantially, almost one-half of the children’s support. We believe that the facts show that the children were to a material degree dependent for their support upon petitioner in the taxable year. Had Kohn paid to petitioner all he had agreed to pay in 1938, there would not have been any dependence upon the petitioner, but the facts show that petitioner materially contributed to her children’s support and we are of the opinion that she was under a legal obligation to do so in view of the father’s defaults. We, therefore, hold that under the facts petitioner was “the head of a family” in the taxable year and is entitled to the personal exemption of $2,500. Cf. Hannah, D. Stratton, 5 B. T. A. 1025.

Reviewed by the Board.

Decision will be entered under Rule 50.

       SEC. 25. CREDITS OR INDIVIDUAL AGAINST NET INCOME.
      *******
      (c) Personal Exemption. — In the ease of a single person, a personal exemption of $1,000; or in the ease of the head of a family or a married person living with husband or wife, a personal exemption of $2,500. A husband and wife living together shall receive but one personal exemption. The amount of such personal exemption shall be $2,500. If such husband and wife make separate returns, the personal exemption may be taken by either or divided between them.
      (d) Credit for Dependents. — $400 for each person (other than husband or wife) dependent upon and receiving his chief support from the taxpayer if such dependent person is under eighteen years of age or is incapable of self-support because mentally or physically defective.

       Art. 294. Credit for dependents.—
      ****** ‡
      The credit is based upon actual financial dependency and not mere legal dependency. It may accrue to a taxpayer who is not the head of a family. But a father whose children receive half or more of their support from a trust fund or other separate source is not entitled to the credit.

       Art. 292. Personal exemption of head of family. — A head of a family is an individual who actually supports and maintains in one household one or more individuals who are closely connected with him by blood relationship, relationship by marriage, or by adoption, and whose right to exercise family control and provide for these dependent individuals is based upon some moral or legal obligation. In the absence of continuous actual residence together, whether or not a person with dependent relatives is a head of a family within the meaning of the Act must depend on the character of the separation. If a father is absent on business, or a child or other dependent is away at school or on a visit, the common home being still maintained, the additional exemption applies. If, moreover, through force of circumstances a parent is obliged to maintain his dependent children with relatives or in a boarding house while he lives elsewhere, the additional exemption may still apply. * * *