text:
    Stella S. Housman, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 81300, 83346.
    Promulgated October 25, 1938.

      Alfred, L. Bose, Esq., David Katz, Esq., and Wilbur H. Friedman, Esq., for the petitioner.

      P. A. Bayer, Esq., for the respondent.
   OPINION.

Van Fossan :

The primary question for consideration in this case is whether the amounts which petitioner’s son received from her during the taxable years, constituted gifts in those years within the meaning of the gift tax provisions of the Eevenue Act of 1932. The applicable portions of the statute are set out below.

Petitioner contends, first, that the gift tax law is not applicable to the present facts because the moneys in question, passing from petitioner to her son, are, in effect, bequests from petitioner’s deceased husband.

For petitioner to prevail on this contention it is necessary to reach the conclusion from the evidence submitted that the petitioner’s deceased husband intended to create and created a constructive or secret trust which imposed upon petitioner the legal duty of making payments out of income received by her during the years in question to William Burton, the only surviving son. The record is not convincing that such was Ms intention or that a trust was created. Our view of the evidence is that, while petitioner and her husband discussed the provisions of his second will, petitioner did no more than assume a moral obligation on her part to devote such part of the income from the residuum of the trust to the support and maintenance of the sons as her judgment dictated was wise. It does not appear that the acceptance of the terms of the trust by petitioner was a condition precedent to the execution of the will or that the deceased Bernheimer executed the will in reliance on petitioner’s promise. He made specific provision for the sons in the will and in the conversation with petitioner stated only that he wanted his sons to have what they needed and left it entirely to her “to do the right thing by the boys.” These words, in the circumstances here present, can not be held to evidence an intention to create a trust nor to have imposed a secret trust or equitable charge on the estate.

As was said in Amherst College v. Bitch, 151 N. Y. 282; 45 N. E. 876:

* * * While a testator may make a gift to a legatee solely for the purpose of enabling him, if he sees fit, to dispose of it in a particular way, still if there is no promise by him, either express or implied, to so dispose of it, and the matter if left wholly to his will and discretion, no secret trust is created, and he may, if he chooses, apply the legacy to his own use. When it clearly appears that no trust was intended, even if it is equally clear that the testator expected that the gift would be applied in accordance with his known wishes, the legatee, if he has made no promise, and none has been made in his behalf, takes an absolute title, and can do what he pleases with the gift. Whatever moral obligation there may be, no legal obligation rests upon him.

A further contention by petitioner, in the alternative with relation to petitioner’s first contention, is that the gift tax law is not applicable to the present facts because the payments made by petitioner to her son in the taxable years in question represent payments made pursuant to a legal and binding contract obligation. Petitioner argues that prior to June 6, 1932, she was obligated by contract to make the payments in question, first, because her son was a third party beneficiary of the agreement made by petitioner with her husband prior to the execution of the will, and, second, because the 1928 compromise agreement between petitioner and her son created a binding legal obligation.

The first point of this argument is disposed of by reference to what we have hereinabove said in regard to the transaction between petitioner and the deceased Bemheimer. Our view there, as indicated, is that there was no foundation in the record upon which a secret or constructive trust might be declared; and a fortiori no contract would have been created.

Petitioner’s argument, based on the legal obligation arising out of the 1928 compromise agreement with her son must also be rejected. Assuming that the 1928 compromise agreement created a contractual obligation, petitioner must, go further and show that the transfer of the property, pursuant to this agreement, was not “for less than an adequate and full consideration in money or money’s worth.” This is a statutory requirement. (Sec. 503, Eevenue Act of 1932.)

From the record, the consideration running to petitioner for the, payment of the stipulated sums, pursuant to the compromise agreement of 1928, was the forbearance on the part of her son from bringing suit. This forbearance is not, in our opinion, “an adequate and full consideration in money or money’s worth.”

Although it is an “elementary principle that the law will not enter into an inquiry as to the adequacy of the consideration” (Willston On Contracts, sec. 115), this is a principle applicable to the general law of contracts and of no force in the face of a statute which has for its avowed purpose the scrutiny of the adequacy of consideration.

While, as petitioner points out in her brief, the compromise of a disputed claim is sufficient consideration in New York to support a promise to pay a sum of money, White v. Hoyt, 73 N. Y. 514, 518 (1878); Rector, etc. of St. Mark’s Church v. Teed, 120 N. Y. 583 (1890); Schoonmaker v. Gray, 208 N. Y. 209 (1913); Minehan v. Hill, 144 App. Div. 854 (3d Dept. N. Y. 1911) ; Stewart v. Ahrenfeldt, 4 Denio,~ 189 (N. Y. 1847); Russell v. Cook, 3 Hill, 504 (N. Y. 1842); Lockwood v. Title Insurance Co., 73 Mise. 296 (Sup. Ct. N. Y. 1911); First National Bank v. Keller, 127 App. Div. 436 (3d Dept. N. Y. 1908), this, as we have already said, does not meet the demands of the statute that the consideration be “an adequate and full consideration in money or money’s worth,”

In Sellar Bullard, Executor, 34 B. T. A. 243; affd., 303 U. S. 297, this Board said:

It is a well established principle, particularly in Illinois, that a family settlement agreement constitutes a valid consideration for the conveyance of property. Hall v. Hall, 125 Ill. 95; 16 N. E. 896; Cole v. Cole, 292 Ill. 154; 126 N. E. 752; Hagen v. Anderson, 317 Ill. 173; 147 N. E. 791; Stedman v. Tate, 326 Ill. 442; 158 N. E. 97. But a valid consideration is not necessarily “an adequate and full consideration in money or money's worth” as specifically required in the statutory exception. We have so held in cases involving similar consideration. Lillian T. Latty, Executrix, 23 B. T. A. 1250; a£Ed., 62 Fed. (2d) 952; Central Union Trust Co. of New York et al., Executors, 24 B. T. A. 296. See Prewit v. Wilson, 103 U. S. 22.

Petitioner urges that the principle of the last cited case is here in-apposite for the reason that the settlement agreement in that case was made in February 1932 and the trust which was created pursuant to the settlement agreement was created in February 1932; and that the law at that time (section 302 (c), Revenue Act of 1926 as amended by Joint Eesolution March 3, 1931) excepted from Federal estate taxes inter vivos trusts when created for full and adequate consideration. Such a statute, petitioner contends, made it obligatory to show that there was a full and adequate consideration for the agreement to create the trust. The present settlement agreement, so petitioner argues, was consummated 3½ years prior to the enactment of the gift tax and it was therefore no part of petitioner’s burden to show that' the consideration in 1928 was equal in money or money’s worth to the promise made by petitioner in that year. Petitioner concedes that the payments in the case at bar were after the enactment of the gift tax law, but urges that these payments are not gifts because they were made in discharge of a previously contracted legal obligation.

We believe the distinction sought to be made by petitioner between the present case and Sellar Bullard, Executor, supra, is not sound. Both the statute in question here and the statute involved in Sellar Bullard, Executor, supra, turn on whether the transaction was “for an adequate and full consideration in money or money’s worth.” We see no justification for differentiating between the holding in Sellar Bullard, Executor, supra, to the effect that a family settlement agreement, while it might be a valid consideration, is not necessarily “an adequate and full consideration in money or money’s worth”, and the present problem. See Edith M. Bensel et al., Executors, 36 B. T. A. 246; Pauline L. Sheets et al., Executors, 35 B. T. A. 220; affd., 95 Fed. (2d) 721; Regulations 79, art. 8.

Petitioner’s remaining arguments attack the application of the gift tax to the present transaction on constitutional grounds. The general constitutionality of the gift tax was established in Bromley v. McCaughn, 280 U. S. 124.

Petitioner’s argument that the tax, if applicable to the present case, is unconstitutional as a retroactive tax in violation of the due process of law clause of the Constitution is based upon an erroneous assumption of fact, i. e., that the gifts were completed prior to the passage of the taxing acts. It is an accepted postulate that a gift is never fully consummated and completely vested beyond recall until delivered. The delivery in the present case was during a period in which the gift tax was controlling law.

Petitioner relies upon Blodgett v. Holden, 275 U. S. 142, and Untermyer v. Anderson, 276 U. S. 440, to support her contention that an application of the gift tax law to the facts of the present case would give the act such an unconstitutional retroactive effect. It is our view that the holding of these cases can offer little comfort to the petitioner. It is true that the Court in each of these cases held the gift tax law unconstitutional where, by its terms, it was retroactive, but this was under conditions different from those here present. In Blodgett v. Holden, supra, the facts were that early in the year 1924, prior to the passage of the gift tax law in June of that year and before Congressional action had been taken on such a law, a gift was completed. Untermyer v. Anderson, supra, differs from Blodgett v, Holden, supra, only in the fact that the gift was made after the gift tax act was proposed and consideration given it by the committees of Congress. The statute provided for the taxing of all gifts made within the calendar year. As above indicated, in both cases the Court held the tax to be unconstitutional as applied to those gifts completed before the effective date of the act.

In Untermyer v. Anderson, the Court said that it was of the opinion “that so far as applicable to bona -fide gifts not made in anticipation of death and fully consummated prior to June 2,1924, those provisions [taxing all gifts during the calendar year] are arbitrary and invalid under the due process clause of the 5th amendment.” (Italics ours.) From this language it is readily apparent that the Court was treating only with gifts that were “fully consummated” and it is on this ground that we believe the cases relied upon by petitioner are not controlling here.

The further contention of petitioner, that the tax is unconstitutional because it is arbitrary and confiscatory, is without merit. The ultimate basis of such a contention is, of course, that the tax is in violation of the Constitution in that it is without due process of law. Such contentions, for the most part, have been summarily dismissed by the courts except in those cases where notice and hearing are involved, Cooley, Law of Taxation, vol. 1, sec. 143. Once the power to tax is established it takes a strikingly unreasonable tax to form the basis of unconstitutionality on this ground, and “a tax will * * * not be held void because it is deemed to be too high”, Holmes, Federal Taxes, p. 1567.

The due process clause of the Constitution is not a limitation upon the taxing power conferred on Congress by the Constitution unless the statute is so arbitrary as to compel the conclusion that it was not an exercise of the taxing power, but the confiscation of property. Brushaber v. Union Pacific R. R. Co., 240 U. S. 1; Henderson Bridge Co. v. Henderson, 173 U. S. 592; Gass Farm Co. v. Detroit, 181 U. S. 396. The due process clause of the Fifth and Fourteenth Amendments are limitations upon the taxing power only in rare and special instances. Magnano Co. v. Hamilton, 292 U. S. 40.

It is petitioner’s argument that, because under New York law she is bound to make the payment out of the income received from the residuary estate and in addition is paying a graduated income tax on such income, the gift tax in question is such an unreasonable and arbitrary disregard of New York law as to amount to a confiscation of her property without due process. She argues that if, in addition to paying a graduated income tax on the income from the residuary estate, she is compelled to pay a graduated cumulative gift tax, the time will not be far distant when the taxes and payments will exceed her entire income. This issue is presented in petitioner’s brief as a naked argument with no authorities to support it, nor any computation to show the confiscatory nature of the tax. It should be noted that the ex-cessiveness complained of is by reason of two separate and distinct bases of tax, viz., income and gift. And it should also be noted that prior to the present controversy petitioner did not deduct the sums transferred to her son from her income, nor did the son report such sums as income to him. Our view is that the tax is not invalid on this ground.

We might also say that it is not a matter of our concern that petitioner transfers the sums in question to her son under her own interpretation of New York law. The question of her liability under New York law, on either the alleged contract of settlement with her son in 1928, or on her status as constructive trustee, has not been adjudicated under New York law, and therefore, payments by her to her son, in the light of our holding on the matter, must be considered as voluntary gifts on her part.

Decision will be entered for the respondent.

       SEC. 501. IMPOSITION OF TAX.
      (a) For the calendar year 1932 and each calendar year thereafter a tax, computed as provided in section 502, shall be imposed upon the transfer during such calendar year by any individual, resident or nonresident, of property by gift.
      (b) The tax shall apply whether the transfer is in trust or otherwise, whether the gift is direct or indirect, ‘and whether the property is real or personal, tangible or intangible; but, in the case of a nonresident not a citizen of the united States, shall apply to a transfer only if the property is situated within the united States. The tax shall not apply to a transfer made on or before the date of the enactment of this Act.
      (c) The tax shall not apply to a transfer of property in trust where the power to revest in the donor title to such property is vested in the donor, either alone or in conjunction with any person not having a substantial adverse interest in the disposition of such property or the income therefrom, but the relinquishment or termination of such power (other than by the donor’s death) shall be considered to be a transfer by the donor by gift of the property subject to such power, and any payment of the income therefrom to a beneficiary other than the donor shall be considered to be a transfer by the donor of such income by gift.
      SEC. 503. TRANSFER FOR LESS THAN ADEQUATE AND FULL CONSIDERATION.
      Where property is transferred for less than an adequate and full consideration in money or money’s worth, then the amount by which the value of the property exceeded the value of the consideration shall, for the purpose of the tax imposed by this title, be deemed a gift, and shall be included in computing the amount of gifts made during the calendar year.


source: Caselaw Access Project

author: Opper:

license: Public Domain

text:
    Frank J. and Hubert Kelly Trust, Northwestern National Bank and Trust Company of Minneapolis, and Mrs. Irene Kelly Collisson, as Trustees of Said Trust, Petitioners, v. Commissioner of Internal Revenue, Respondent.

      Docket No. 92946.
    Promulgated October 25, 1938.

      Kenneth Taylor, Esq., for the petitioners.

      J. E. Marshall, Esq., W. Frank Gibbs, Esq., and George F. J ames, Esq., for the respondent.

      John E. MeOlure, Esq., Pope F. Brook, Esq., and Granger Hansell, Esq., as amioi curiae.

   OPINION.

Opper:

The parties are in virtual agreement that the test of whether the stock dividend redeemed in the tax years was or was not income under the Sixteenth Amendment is whether the stockholders received an interest substantially different in character or extent from that previously held. Decision of this question is necessary for the resolution of the issue before us, since, if the stock dividend is income and its redemption in the instant years was in no degree a return of capital, respondent contends that its basis is zero and the entire amount received thus becomes the measure of taxable income.

Prior to the issuance of the dividend, petitioner’s donors were common stockholders. Since there was no other class of stock outstanding their interest consisted of proportionate rights in the income of the corporation, in the powers of control, and to the proceeds of liquidation upon dissolution. These being property rights inhering in the ownership of the capital stock, they could be disposed of collectively, but they could not be severed. If one of the stockholders “desires to dissociate himself from the company he can do so only by disposing of his stock.” Eisner v. Macomber, supra, p. 209. To the description of the stockholders’ interest must therefore be added the right to transfer all of the incidents of ownership, but only collectively and not individually.

Petitioner’s counsel contends that after the issuance of the preferred stock all of the stockholders were in exactly the same position as before. He points out that the interest each had through the ownership of common shares was thereafter represented in the same , proportion by the common and preferred shares combined, and concludes that their position before and after the dividend was as similar as it was in Eisner v. Macomber, supra. With this, however, we are unable to agree. The preferred shares were nonvoting, entitled to 7% cumulative dividends, and preferred on dissolution. It has been stated that although generally the discretion of the directors as to the payment of dividends to common stockholders will not be interfered with by a court, “different rules apply with respect to the right of holders of preferred stock to invoke the aid of a court to order the declaration and payment of dividends on their stock.” Cratty v. Peoria Law Library Association, 219 Ill. 516; 76 N. E. 707, 708. If this be so, the preferred stock for this reason alone conferred upon the stockholders a new and different privilege. But entirely' apart from this, the undeniable difference in the situation of the stockholders is that their interest, after the dividend, became'to some extent transferable in parts where before it could be disposed of only as a whole. Before the dividend, it is true, a stockholder could have sold a portion of his common shares. But, as pointed out in the Macomber case, supra, p. 212, it is “in the nature of things impossible for one to dispose of any part of such an issue without a proportionate disturbance of the distribution of the entire capital stock.” After the preferred stock was issued this was no longer true, Petitioner’s donors, by transferring the preferred stock, as in fact they did, could then dispose of a part of their interest in the earnings and assets of the corporation without in any way disturbing the distribution of voting control. Or they could retain the preferred stock as representing a property interest and divest themselves of the powers of management. We find it impossible to conclude that this situation did not result in a substantial alteration of the interest of the stockholders. And the fact that, if they disposed of the dividend stock, their earnings from the corporation might be reduced is of no significance, since the same would be true in the event of a distribution in cash or in kind.

Decisions of the Board which may be regarded as inconsistent with this position were all, with one exception, announced prior to Koshland, case, and may well have proceeded from the acceptance as controlling of an interpretation of Eisner v. Macomber which, though it later proved to be erroneous had been assumed for many years by legislative and administrative officials alike. In none of them was the present question considered fully. The decision that in such a situation a stock dividend has been declared, within the meaning of the revenue acts, and is therefore expressly exempted from the tax was clearly justified, Koshland v. Helvering, supra, and any incidental reference to the constitutional question could as a consequence have been nothing more than dictum. The single exception, August Horrmann, 34 B. T. A. 1178, was decided prior to the decision of the Gowran and Pfeiffer cases in the Supreme Court, but in any event its conclusion was founded principally upon an interpretation of section 201 (d) of the Revenue Act of 1921 which, as we have said, was required by the Koshland decision. We accordingly conclude that! although the dividend here was, upon its issuance, exempt from tax as a “stock dividend” under specific statutory direction, Koshland v. Helvering, supra, it was income and therefore taxable in its intiretyi upon its disposition, Helvering v. Gowran, supra, and was not constó-tutionally exempt from income taxation under the doctrine of Eisner v. Macomber, supra.

Two further objections to respondent’s determination are urged. The first is that, granting the proceeds of the disposition of the stock to be taxable, its basis should nevertheless not be zero, but should be apportioned out of the cost basis of the original stock. The argument is that since section 113 (b) (1) (D) of the 1934 Act requires “proper adjustment” upon the disposition of shares of stock “for the amount of distributions previously made which, under the law applicable * * * were tax-free”, an adjustment will have to be made at some time in the future when the common stock is disposed of for the distribution of preferred stock which is the subject of this proceeding. The contention is that if this is done any part of the basis which would be so deducted must in fairness now be allocated to the preferred stock, as otherwise the combined bases of the two would be less than the actual cost of the original stock to the shareholder. The precise meaning of section 113 (b) (1) (D) is the subject of some discussion in the briefs of the parties. We are convinced thereby only that its meaning and application in such a situation as would exist on the disposition of the common shares is by no means clear. It will be observed that petitioner’s contentions are directed not to any express statutory reference to the basis to be attributed to the preferred stock which we are considering, but proceed only by deduction from a different provision relating to subsequent disposition of the original stock. Although it is true that the Gcnorcm case was decided under the Eevenue Act of 1928, from which the precise language quoted was absent, it was decided subsequent to the passage of the 1934 Act and no inference is required that the provision now under consideration was the result of that decision or that the conclusion there reached would in any way have been affected had the 1934 Act been applicable. Eather we prefer to postpone consideration of petitioner’s argument until a case arises in which the disposition of the original stock is involved,' particularly since a reference to “proper adjustment” may be the justification for treating that situation, when it arises, with such fairness as the facts involved may require. To do otherwise would, in our view, be assuming the considerable risk that the true doctrine of the Koshland case may be to prevent apportioning to the dividend stock any part of the capital basis, even though expressly so directed by Congress, on the ground that “in* effect it converts an income tax into a capital levy”, 298 U. S. at page 445. Although this result is by no means certain, its potentiality is sufficient to dissuade us from determining in this proceeding an issue which we believe may appropriately be postponed.

Finally, it is contended in a brief filed by amici awiae that apportionment of the basis is required by sections 112 and 113 of the Eevenue Act of 1934, on the ground that the dividend stock was distributed pursuant to a reorganization, the definition of which includes recapitalization. The same argument was inferentially rejected in Pearl B. Brown, supra, p. 908. Whether or not the arrangement could have been considered a reorganization, it seems to us clear that it was not made “in pursuance of a plan” as that term is used in section 112, at least in so far as this record shows. And, in any event, acceptance of this position requires us to assume that Helvering v. Gowran, supra, was erroneously decided. This we are unable to do.

Reviewed by the Board.

Decision will be entered for the respondent.

        Kosland v. Helvering, 298 U. S. 441; Helvering v. Gowran, 302 U. S. 238.

        Eisner v. Macomter, 252 U. S. 189.

       See Tillotson Manufacturing Co., 27 B. T. A. 913, 917, 918; affd., 76 Fed. (2d) 189,

       Revenue Act of 1934, sec. 113.

         Helvering v. Gowran, supra.

       “A share of stock has been defined to be a right which its owner has in the management, profits, and ultimate assets of the corporation; * * Storrow v. Texas Consolidated Compress & Manufacturing Association, 87 Red. 612, 615.

        Lynch v. Hornby, 247 U. S. 339 ; Peabody v. Eisner, 247 U. S. 347.

        Alfred A. Latin, 26 B. T. A. 764; Pearl B. Brown, Executriso, 26 B. T. A. 901; affd., 69 Pe6. (23) 602; certiorari denied, 293 U. S. 570; Prances Elliot Ciarle, 28 B. T. A. 1225; affd., 77 Fed. (2d) 89.

       It may be seriously doubted whether the Maeomber case, even without later developments, can be said to constitute authority for petitioner’s position. The very question now before us was foreshadowed in the dissenting opinion of Mr. Justice Brandéis in that case, and its answer unfavorably to petitioner’s contention was assumed by Mm. This assumption was evidently no more than a premise for that further part of his discussion in which he departs from the reasoning of the majority, and in no sense, in his mind at least, a position in which he conceives himself to be at variance from them. He says “So far as the distribution may be made from its [the corporation’s) own issues of bonds, or preferred stoclc created expressly for the purpose, it clearly would make no difference in the decision of the question whether the dividend was a distribution of profits, that the securities had to be created expressly for the purpose of distribution. If a dividend paid in securities of that nature represents a distribution of profits Congress may, of course, taso it as income of the stoclcholder. Is the result different where the security distributed is common stock?” [Italics added.)

       House Report No. 350, 67th Cong., 1st sess., p. 8; Senate Report No. 275, 67th Cong., 1st sess., p. 9.

         Regulations 65 and 69, arts. 1547, 1548; Regulations 74 and 77, arts. 627, 628.

       Revenue Acts of 1921, sec. 201 (d) ; 3 924 and 1926, sec. 201 (f) ; 1928, sec. 115 (f).


author: OPINION. Disney:

text:
    Estate of Caroline Foerderer Artman, Deceased, Percival E. Foerderer and Florence F. Tonner, Executors, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 92084.
    Promulgated October 26, 1938.

      J. 8. Y. Ivins, Esq., for the petitioners.

      FramJe T. Horner, Esq., and A. H. Monaeelli, Esq., for the respondent.
   OPINION.

Disney:

The question here is, of course, one of fact and, since each case of this character must be considered on its own facts, other decisions do not greatly assist. It should, however, be kept in mind under the principles laid down in United States v. Wells, 283 TJ. S. 102, that there is a general expectation of death which all entertain, and that such an expectation only is not sufficient to characterize a transfer as in contemplation of death. There is here, we think, no very serious contention that the decedent was in dangerous physical condition or contemplating death in the immediate future at the lime of the formation of the trust. The testimony of the physician attending her and acquainted with her condition for many years is positive to the effect that she did have recurrent digestive disorders, with symptoms of gall bladder trouble, but that there were long periods when these did not recur and in his opinion they did not relate to the cause of her death. All of the multitudinous details, which it is not considered necessary or practical here to set forth, indicate that the decedent was an unusually active woman for her age, participating in many varied activities, possessed of an optimistic disposition, and with an interest in life and its affairs. We have no hesitation in concluding from all the evidence that the condition of health a,nd the state of mind of the decedent at time of formation of the trust negative rather than support any idea of contemplation of any immediate prospect of death at that time. There is no evidence that the heart disease, which caused her death more than seven years later, had originated at the time of the formation of the trust. Even after the automobile accident in 1929, she continued to be a very active individual.

Kespondent’s principal contention, as stated by counsel at the hearing, is that the statements made by decedent’s son and daughter in an affidavit attached to the estate tax return as to decedent’s estate demonstrate that the obj ect of the trust was testamentary. It is undoubtedly true that in terms the language of the affidavit strongly tends to support this contention, for in the affidavit the two children depose that their mother on numerous occasions expressed her desire to dispose of her property in her lifetime to avoid the difficulties and uncertainties and expenses incident to the settlement of a decedent’s estate, especially in view of the fact that a large part of her property consisted of real estate, etc. These statements, if they came unexplained from the decedent, would very obviously demonstrate the soundness of respondent’s position. But they come from the son and daughter, whose testimony upon hearing giving their version of the matter is inconsistent with the affidavit they made about eight years after the transaction being considered here, and they are explained as prepared by the attorney with no consultation with the son or daughter of decedent as to their phrasing and were signed by the deponents with little regard to the facts. The phraseology was that of the attorney. The daughter did not read the affidavit at all because her brother had signed it, and the son explains that he signed it after scanning it hastily while on the way to the hospital for an operation, at a time when he was under business stress. Under such circumstances the statements are attributable largely to the attorney who drew the affidavit; and they are counterbalanced by the positive statements of the son, who was his mother’s business associate, that the object of the trust was not only that decedent wished to make a birthday present to her two children, but that she wished to rid herself of the work and trouble of the management of the estate in which she had been engaged for many years, and to make provision for her four brothers and sisters less troublesome than had been their appeals to her. The testimony of the attorney who drew the trust is positive to the effect that the object was the avoidance of business responsibilities, and the daughter testified as to the desire of decedent to make gifts. It is, of course, true that the son was already doing much the larger part of the work of management, but the estate was of such proportion that decedent’s part therein was still onerous. The fact that decedent was herself named as trustee would, of course, by itself, indicate that she did not altogether rid herself of such business responsibilities, but this is largely at least negatived by the fact that on the same day the trust was formed all the trustees gave the son a power of attorney in effect to manage the estate, while the decedent devoted herself largely to other interests. The fact also that the decedent retained much of the liquid assets, such as bonds and stocks, and did not put them into the trust, indicates that it was the troublesome part of the estate, that is, that part which required supervision, that was placed in the trust and of which the decedent divested herself. The evidence in this case is voluminous, consisting of a multitude of small details tending to cast light upon the intent in the formation of the trust, and the physical and mental condition of the settlor, and includes photographs of the settlor and moving pictures exhibited to the Member presiding at the hearing. It would serve no purpose, we think, to attempt to set forth more details than above. From a consideration of all of these details, we are convinced that the object of the trust was primarily the elimination of business worries and responsibilities from the settlor and secondarily the desire to make gifts to ber children, (as well as minor gifts to her brothers and sisters and 20 percent of the net income for contributions to religious, educational, and/or charitable matters and to blood relatives), and that the trust was not set up in contemplation of death.

Although as above stated other cases are not highly helpful, the conclusion to which we come is consonant with the decision in First National Bank v. Welch, 24 Fed. Supp. 695, wherein it was found that the purpose of the trust was to relieve a husband of the management of securities. The fact that the two children did not get immediate possession of the portion of the property which eventually vested in them, the net income of which went primarily to the settlor for her life, does not demonstrate contemplation of death. The settlor parted with possession and beneficial interest. May v. Heiner, 281 U. S. 238; Reinecke v. Northern Trust Co., 278 U. S. 339.

We hold that the transfer here in question was not in contemplation of death within the meaning of section 302 (c) of the Revenue Act of 1926.

Decision will be entered umder Bule 50.


author: Leech:

text:
    John H. Watson, Jr., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 89671.
    Promulgated October 26, 1938.

      Bobert W. Wheeler, Esq., for the petitioner.

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

Leech:

It is admitted that petitioner has sustained a loss of his investment in the stock of the Trust Co. and his interest in the Cleveland Corporation. The first issue here raises.only the question of whether he is entitled to deduct this admitted loss in either of these companies, in the computation of his income tax for 1934. He has that right if, and only if, such loss was sustained in that year by reason of that investment then becoming worthless. Revenue Act of 1934, sec. 23 (e).

The time when a loss is sustained is generally fixed by some closed and completed transaction, but both the statute, supra — see United States v. White Dental Manufacturing Go., 274 U. S. 398 — and Regulations 86, article 23 (e)-l, permit the deduction of losses fixed by the occurrence of other identifiable events. Thus, if the worthlessness of petitioner’s investment in the Trust Co. and the Cleveland Corporation was “fixed by identifiable events” which happened in 1934, he is entitled to the disputed deduction. Whether it was so fixed is a question of fact, John B, Marsh, 38 B. T. A. 878, the answer to which requires the application of a practical, not a legal, test. Lucas v. American Code Co., 280 U. S. 445. To be deductible in 1934, this loss must be fixed by events which would satisfy neither “an incorrigible optimist”, United States v. White Dental Manufacturing Co., supra, nor a confirmed pessimist. Although these events need not be ascertained by the taxpayer to support a deductible loss, Alfred Hafner, 31 B. T. A. 338, they must be such events as would clearly evidence to the person of average intelligence, under the circumstances, that no probability of realization of anything of value from this investment, by sale, liquidation, or otherwise, thereafter existed. Royal Packing Co. v. Commissioner, 22 Fed. (2d) 536; William E. Metzger, 21 B. T. A. 1271; George H. Horning, 35 B. T. A. 897.

Respondent argues that petitioner’s investment in both the Trust Co. and the Cleveland Corporation became worthless in 1933, because of events occurring in that year. As to the Trust Co. stock, he points to the series of events then happening, including the successive appointments of a conservator, then a liquidator, and culminating in the report of that liquidator published December 30 and 31, 1933, and January 1, 1934, in the Cleveland newspapers.

Petitioner answers that none of these occurrences clearly evidence the absence of probability of later realization on this stock. He contends the final report of the liquidator filed in July 1934, showing the status of the Trust Co. as of January 31,1934, and the assessment of the stockholders’ liability immediately made upon the basis of the recommendation accompanying that report, were the events which “fixed” the loss.

Since the issue is entirely factual, its decision must, of course, rest upon the facts disclosed by the present record. Other cases may be helpful, but none, so far as we have found, are controlling here.

Neither the appointment of a conservator nor that of a liquidator “fixed” the loss here. Jarvis v. Heiner, 39 Fed. (2d) 361; Burnet v. Imperial Elevator Co., 66 Fed. (2d) 643; W. W. Hanly, 6 B. T. A 613; Oscar K. Eysenbach, 10 B. T. A. 716. The bank was the largest in Cleveland. So far as was then known, it ivas solvent. The book value of its assets then exceeded its liabilities by a margin of about 25 percent. Its only disclosed difficulty was the disproportionate deple-pletion of its cash and liquid assets to other assets. Attempts at reorganization and reopening were continuing with the open encouragement of the state banking department. No assessment of the shareholders’ liability was then made. Certainly, then, nothing happened in 1933 which eliminated the reasonable probability that petitioner would realize something from this stock, unless it was the “interim report” of the liquidator during the last day of that year.

In viewing the picture as a whole, instead of intimating a finding of insolvency, we think this “interim report” shows rather that the liquidator, at the close of 1933, had real doubt on that question. It must be remembered that under Ohio law, the Superintendent of Banks of Ohio was charged with the duty of enforcing stockholders’ liability upon ascertainment of its insolvency. The immediate responsibility of ascertaining the condition of the bank and, if insolvent, to recommend the assessment of,the stockholders’ liability, either partial or entire, rested primarily upon the liquidator. He made no recommendation after his “interim report.” In fact, he never filed that report with the superintendent of banks of the state. It was abandoned for all purposes relating to any determination of the bank’s then insolvency. Whatever the intent prompting it, the liquidator of the bank, the person in closest touch with its financial position and who issued the report, refused himself to accept it. He did not then recommend the assessment of any part of the shareholders’ liability. It was not then assumed as it was in the case of other banks which were insolvent. Thus, unless we improperly ascribe to the liquidator a dereliction in his duty, he must have then believed the bank solvent. A necessary practical complement of that premise is that, at the close of 1933, the author of this “interim report” who, the taxpayer, as a man of average intelligence, had a right to assume, knew the actual financial condition of the bank, undoubtedly permitted the implication that he thought something of value would probably be realized by the stockholders from their stock. It follows, we think, that such report can not have operated as an event eliminating a reasonable hope of realization upon this stock. See Henning Bruhn, 11 B. T. A. 809.

Although of no controlling influence here, it may be interesting to note that the respondent has recognized as the general rule of administration, in such cases, that the assessment of the shareholders’ liability “fixes” their stock loss. In fact, that was the administrative position taken here by respondent as disclosed in a letter to shareholders of the Trust Co. early in 1934, advising that nothing had yet occurred fixing the loss on such stock. Indeed, at the direction of the collector of internal revenue at Cleveland, who was then familiar with the “interim report”, two radio broadcasts were made early in 1984, pointedly advising shareholders of the Trust Co. to the same effect. It is now indicated that, for some unexplained reason, this administrative position was changed and published in 1935.

Failure, as here, to show sales of this stock during 1933, undoubtedly tends to show absence of market value for this stock in that year. Marie D. Eagleton, 35 B. T. A. 551; affd., 97 Fed. (2d) 62. But we do not consider it decisive in the present circumstances, on the question of reasonableness of petitioner’s hope of realizing from the liquidation of this stock at the end of that year. Considering only the record before us, we think the effect of that evidence, as well as the burden of proof, has been overcome by petitioner.

Petitioner’s loss in the stock of the Trust Co. was “fixed” by the report of the liquidator of July 1, 1934, as of January 31, 1934, his accompanying recommendation, and the assessment of the shareholders’ liability immediately pursuant thereto. Cf. W. C. Coleman, 31 B. T. A. 319; affd., 81 Fed. (2d) 455.

Respondent contends that petitioner’s interest in the Cleveland Corporation also became worthless in 1933. He attempts to support this conclusion upon the premise that the Trust Co. stock then became worthless and the further fact that, at the end of 1933, the loans of the Cleveland Corporation from the Trust Co. were undercollateralized.

But we have found that the Trust Co. stock did not become worthless until 1934. And, if the claim of the Cleveland Corporation that securities, then held by it, were purchased for and should be taken over by the Trust Co. and credited against its loans from that company at their cost to the Cleveland Corporation, were proved, the loans of the Cleveland Corporation from the Trust Co. were not undercollateralized. At the close of 1933, the balance sheet of the Cleveland Corporation showed assets of $68,168.76 over and above its liabilities, and in this balance sheet the pledged assets, representing the greater portion of its total holdings, were not included at cost but at their market value. In view of that fact and its then undecided claim against the Trust Co., this record reveals no event, either in the beginning of its liquidation, or otherwise, which “fixed” petitioner’s loss of Ms investment in the Cleveland Corporation during 1933. William H. Bedfield, 34 B. T. A. 967; William E. Metzger, supra; W. W. Hardy, supra.

However, in May 1934 the liquidator of the Trust Co., by virtue of the power of sale contained in the notes of the Cleveland Corporation, sold out the collateral for the loans evidenced by those notes. This collateral constituted almost all of the assets of the Cleveland Corporation except its claims with reference to the securities, above mentioned, consisting of Trust Co. stock and Chagrin Falls Banking Co. stock. This forced sale eliminated all reasonable probability of holders of interests in the Cleveland Corporation realizing anything on their investments therein, even though the contention of the Cleveland Corporation as to the Trust Co. stock and the Chagrin Falls Banking Co. stock held by it, was sustained. This is so, since the result of that sale of the pledged securities of the Cleveland Corporation was the definite insolvency of the Cleveland Corporation. That forced sale was the event., therefore, which “fixed” the petitioner’s loss of his investment in Cleveland Corporation. Petitioner’s loss of his cost of that investment was sustained in 1934 and we have so found.

Our decision that petitioner’s stock in the Trust Co. and interests in the Cleveland Corporation became worthless during 1934, eliminates the necessity of deciding whether the loss could be allocated. See Stanley Hagerman, 34 B. T. A. 1158.

The remaining issue is whether respondent was correct in denying petitioner a credit of $2,500 against his net income, under section 25 (b) (1) of the Eevenue Act of 1934, as the “head of a family.” Respondent has allowed a credit to the extent of $1,000, on the ground that petitioner was a single person, not the head of a family.

The cited section grants the credit to the head of a family but does not define that term. The wording of this provision is the same as that appearing in prior revenue acts. Respondent has construed it consistently in his regulations. Thus, article 25-4 of Regulations 86, issued in connection with the Revenue Act of 1934, which applies here, construed the term as follows:

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. * * *

This consistent interpretation of the language by regulation, with its continued use unchanged in succeeding revenue acts, gives the regulation the force and effect of law. Maryland Casualty Co. v. United States, 251 U. S. 342. Upon this ground we sustained the regulation as correctly construing the statute in Alfred E. Fuhlage, 32 B. T. A. 222. See also Louise C. Ball, 16 B. T. A. 785, and Joseph H. Rudiger, 22 B. T. A. 204; Olive Ross, 37 B. T. A. 928.

It is true he expended approximately $5,000, in the taxable year, from his income because of his mother’s residence with him. However, it is also apparent that his mother was possessed of an estate in excess of $100,000 and had a yearly income of more than $3,000. Obviously, petitioner’s mother was not financially dependent upon him within the meaning of the regulation.

We sustain the respondent on this issue. Louise G. Ball, supra.

Decision will be entered under Rule 50.

       Regulations 86, art. 23 (e)-l, supra.

       Ohio General Code, see. 710-95.

       I. T. 2617 XI-l C. B. 129; I. T. 2843 XIV-1 C. B. 77.


text:
    Foley Securities Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 90449.
    Promulgated October 26, 1938.

      G. O. Goodson, Esq., for the petitioner.

      W. R. Lam ford, Esq., for the respondent.
   OPINION.

Opper:

This proceeding involves a deficiency in income tax of $4,100.59 for the year 1934. It is stipulated that the petitioner, organized in 1928, was a “personal holding company” as defined in section 351 of the Revenue Act of 1934, and it is therefore subject to the provisions of that section. As of the beginning of the taxable year the petitioner had a deficit which is stipulated for the purpose of this proceeding to be $23,650.53. Its “adjusted net income” for the year 1934, computed under the provisions of section 351, was $49,909.52. On December 28, 1934, pursuant to a resolution of its board of directors, the petitioner paid to its stockholders $42,315. In the computation of its “undistributed adjusted net income” under section 351, the respondent allowed only $26,258.91 of this distribution as a “dividends paid” credit, holding the remaining $16,116.03 to constitute a distribution out of capital because of the existing deficit.

Section 351 (b) provides that in computing the “undistributed adjusted net income” on which the surtax imposed by the section is levied, deduction from the “adjusted net income” shall be allowed for “(C) Dividends paid during the taxable year”, and in the same subsection (b) it is provided that “(4) The terms used in this section shall have the same meaning as when used in Title I.” In Title I the definition of dividend is “any distribution made by a corporation to its shareholders * * * out of its earnings and profits accumulated after February 28,1913.” Sec. 115 (a). It is well settled that “there can be no accumulated earnings or profits until an operating deficit is made good”, if incurred after March 1, 1913. Arthur C. Stifel, 29 B. T. A. 1145. A distribution under such circumstances is not a “dividend” within the definition. For that reason it is not taxable to the shareholders. J. L. Washburn, 16 B. T. A. 1091; Louise Glassell Shorb, 22 B. T. A. 644; Roy J. Kinnear, 36 B. T. A. 153; see Willouts v. Milton Dairy Co., 275 U. S. 215.

Petitioner relies on the statements in the House Committee Report that the dividend deduction was being allowed “to prevent the additional tax from applying to sums actually distributed. Thus, a corporation which falls within this section * * can always escape this tax by distributing to its stockholders at least 90 percent of its adjusted net income.” But the report continues: “The stockholders will, of course, be subject to the graduated surtaxes upon such distributions”, which demonstrates that the distributions referred to were those on which the stockholders would be taxable. Petitioner also relies on the respondent’s Regulations 86, article 351-3, which states that section 351 (b) (2) (C) allows the deduction of “any dividends paid during the taxable year.” The crucial word is, of course, “dividends” rather than “any” and it must take its meaning from the statute. Petitioner also argues that only those provisions of Title I apply which are “not inconsistent with this section”, quoting from subdivision (c) of section 351, and that the definition of dividends in Title I is inconsistent with the provisions of this section. Subdivision (c), however, deals with “Administrative Provisions”, while subdivision (b), of which (b) (4), supra, is a part, refers to “Definitions” and contains no similar restriction. Moreover, we do not agree that the definition of dividends contained in section 115 (a) is inconsistent with this section. Rather, the two sections seem to us to be in pari materia. The purpose of section 351 was apparently to subject all the income of personal holding companies to surtax either in the hands of the stockholders or in the hands of the corporations themselves. On such distributions out of current income as are not taxable to the stockholders because of the definition of “dividend” in section 115' (a), that purpose can only be effectuated by giving the term dividend the same interpretation and imposing the surtax on the corporation.

Both parties rely on the amendment contained in section 109 of the Revenue Act of 1935 as supporting their respective interpretations of section 351 of the Revenue Act of 1934. This amendment was not made retroactive but applied only to taxable years beginning after December 31, 1935, and was superseded before it ever became effective by section 351 of the Revenue Act of 1936, which clearly limits the “dividends paid” credit to such distributions as constitute taxable dividends to the shareholders. Sec. 351 (b) (2) (C); sec. 27 (a) and (h). We do not regard it as having any bearing upon the interpretation to be accorded the 1934 Act.

It is not clear whether the petitioner has abandoned the claim raised in the pleadings that the respondent’s interpretation of section 351 which we have approved herein is unconstitutional under the Sixteenth Amendment. The argument seems to be that, since Congress can not tax as income that which is not income within the Constitution, Eisner v. Macomber, 252 U. S. 189, neither can it tax as “undistributed” income that which is “distributed.” However, the two questions are entirely different. There is no doubt that the term “income” as used in the Sixteenth Amendment is broad enough to cover current corporate income even though a deficit may exist. Congress can and does impose a tax on such income. Long Beach Improvement Co., 5 B. T. A. 590; see Willouts v. Milton Dairy Co., supra, p. 220. The surtax imposed by section 351 is nonetheless an income tax because it may also have a secondary revenue purpose. Helvering v. National Grocery Co., 304 U. S. 282. The term “undistributed” to which petitioner objects appears not in the Constitution but in the statute. The question is, therefore, not one of Constitutional law but purely of statutory construction. Once the legislative will is clear, as it seems to us to be in this instance, that question resolves itself. Such other doubts as may ever have existed as to the constitutionality of section 351 have we think been set at rest by the determination that section 104 of the Revenue Act of 1928 is valid. Helvering v. National Grocery Co., supra; United, Business Corporation v. Commissioner, 62 Fed. (2d) 754; certiorari denied, 290 U. S. 635. No tenable distinction between the two sections from a constitutional standpoint has been suggested.

Reviewed by the Board.

Decision will be entered for the respondent.

       House Report No. 704, 73d Cong., 2d séss., p. 12; comparable statements appear in Senate Report No. 558, 73d Cong., 2d sess., p. 15.

       SEC. 109. PERSONAL HOLDING COMPANIES.
      (a) Section 351 (a) of the Revenue Act of 1934 is amended to read as follows: *******
      (b) Section 351 (b) (2) (C) of such Act is amended by striking out the period at the end thereof and inserting in lieu thereof a comma and the following: “and distributions (not in complete or partial liquidation and not a ‘dividend’ as defined in section 115) made during the taxable year out of earnings or profits of such year.”
      (c) The amendments made by this section shall apply only in the case of taxable years beginning after December 31, 1935.
      The Finance Committee report, Senate Report No. 1240, 74th Cong., 1st sess., p. 12, explains the amendment as follows:
      “(3) Section 351 (b) (2) (C) of existing law is amended to permit a deduction of the amount of a distribution out of the earnings and profits of the taxable year, even though as a result of an existing deficit the distribution is not a dividend as defined in section 115.”


author: Tyson :

text:
    C. A. Everts et al., Jamison Lease Syndicate, Petitioners, v. Commissioner of Internal Revenue, Respondent. C. A. Everts et al., Ollie Cook Lease Syndicate, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 82995, 83000.
    Promulgated October 28, 1938.

      Geo. S. AtMnson, Esq., for the petitioners.

      James H. Yeatman, Esq., and M. L. B. Wade, Esq., for the respondent.
   OPINION.

Tyson :

At the outset we deem it necessary to determine the character of the interests, i. e., the property rights, acquired by those who subscribed to the Everts-Jamison lease drilling fund, for, in ouT opinion, the true character of such interests constitutes one of the salient features upon which must rest the determination of the principal issue here involved. While the Federal taxing statutes have certain of their own criteria for determining liability thereunder for Federal taxes, Burnet v. Harmel, 287 U. S. 103; Weiss v. Wiener, 279 U. S. 333; Burk-Waggoner Oil Association v. Hopkins, 269 U. S. 110, state laws are controlling in the determination of property rights, Crooks v. Harrelson, 282 U. S. 55; Poe v. Seaborn, 282 U. S. 101; Tyler v. United States, 281 U. S. 497.

Under the assignment of February 15,1932, which was duly signed by the assignor, acknowledged, delivered, and recorded, the assignor did “grant, bargain, sell, transfer, assign, convey and set over unto O. A. Everts”, an undivided one-half interest in the Jamison lease and the oil and gas thereunder. Under the laws of Texas such instrument constituted a conveyance to Everts of an interest in real property. Crabb v. Bell (Tex. Civ. App.), 220 S. W. 623; Mo-Entire v. Thomason (Tex. Civ. App.), 210 S. W. 563; Texas Co. v. Daugherty (Tex. Civ. App.), 176 S. W. 717; Stephens County v. Mid-Kansas Oil & Gas Co., 113 Tex. 160; 254 S. W. 290; Commissioner v. Fleming, 82 Fed. (2d) 324; Commissioner v. Wilson, 76 Fed. (2d) 766; Ferguson v. Commissioner, 45 Fed. (2d) 573.

The facts herein establish that C. A. Everts, as an individual owner of an undivided one-half interest in the Jamison lease, offered to sell undivided fractional interests in such lease and the wells to be drilled thereon in consideration for cash subscriptions to a drilling fund by investors, and, further, that such investors intended to become coowners of such lease and wells through assignments from Everts. Under the authorities cited in the next preceding paragraph, the assignments duly executed and delivered by Everts, as assignor, whereby he did “grant, bargain, sell, convey, transfer and assign” undivided fractional interests in the Jamison lease and the wells to be drilled thereon, to each purchaser, constituted conveyances of interests in real property to such purchasers. Those written instruments constituted valid conveyances of title as between the parties despite the lack of acknowledgment by Everts and recordation by the assignees, for acknowledgment is a formality requisite only to recordation and notice. McLane v. Canales (Tex. Civ. App.), 25 S. W. 29; Johnson v. Russell (Tex. Civ. App.), 220 S. W. 352; Mondragon v. Mondragon (Tex. Civ. App.), 239 S. W. 650, and authorities cited therein; First State Bank in Caldwell v. Stubbs (Tex. Civ. App.), 48 S. W. (2d) 446; Hill v. McIntyre Drilling Co. (Tex. Civ. App.), 59 S. W. (2d) 193. Cf. McCracken v. Sullivan (Tex. Civ. App.), 221 S. W. 336.

Simultaneously with becoming a coowner of the Jamison lease each purchaser of a fractional interest therein, separately, individually, and not jointly with anyone else, executed the nonrevocable power of attorney set forth in our findings of fact, appointing Everts as his or her separate agent for a period of five years, with prescribed powers and authority, which were, briefly, to drill the oil wells, to produce, save, and market the oil and gas from such wells, to pay certain expenses, to distribute his or her pro rata share of the net proceeds, and to sell his or her fractional interest. Also, each purchaser of a fractional interest in the Jamison lease agreed with Everts to a restriction upon the sale by such purchaser of such interest. However, Everts consented to and joined in occasional conveyances of some of such interests. Everts carried out the terms of his agency agreement with each owner of a fractional interest in the Jamison lease, maintained personal books of account for his receipts and disbursements, rendered an accounting to each coowner, and from his personal bank account disbursed to each coowner his pro rata share of the net proceeds from the production and sale of oil from the Jamison lease. The coowners of the Jamison lease, as a group, had no form of organization empowered to direct, control, or participate in the development or management of the Jamison lease, and under the powers of attorney given Everts there was no provision for the selection of a successor to Everts in the event of his death or incapacity to act as the agent of each coowner.

The question presented here is whether the agreed amount of net income involved in these proceedings for the years 1932 and 1933 is subject to income tax as the income of the various individual owners of fractional interests in the Jamison lease, as contended by petitioners, or as the income of associations taxable as corporations, as contended by respondent.

The applicable provisions of the Revenue Act of 1932, section 1111 (a) (2) and (3), are set forth in the margin. The statute provides that the term “corporation” includes “associations” without further definition or explanation of the word “associations.” The meaning and scope of the term “associations” as used in the statute has been in issue in numerous cases before this Board and in the courts upon varying factual circumstances, and, while those cases do not “translate the statutory concept >f association into a particularity of detail that would fix the status of every sort of enterprise or organization which ingenuity may create” {Morrissey v. Commissioner, 296 U. S. 344), they do establish certain controlling principles for ascertaining the intent of Congress in applying the act to the varying circumstances of each particular case in which the issue may be presented.

The word “association”, used in the act in its ordinary meaning, has been defined as a term “used throughout the United States to signify a body of persons united without a charter, but upon the methods and forms used by incorporated bodies for the prosecution of some common enterprise.” Hecht v. Malley, 265 U. S. 144. The word “association” implies associates and the entering by them into a joint enterprise for the transaction of business and the sharing of gains. The inclusion of associations in the same taxable class with corporations implies resemblance to, but not identity with, corporations, so that neither the presence nor the absence of any particular corporate forms, procedure, or terminology is a controlling test. The character and purpose of the unincorporated organization or body of persons must be determined by the terms of the instrument or agreement under which the activities of the enterprise are conducted. Morrissey v. Commissioner, supra.

In the last cited case and its companion cases, JSwanson v. Commissioner, 296 U. S. 362; Helvering v. Combs, 296 U. S. 365; and Helvering v. Coleman-Gilbert Associates, 296 U. S. 369, decided on the same day, the Supreme Court had under consideration the meaning and scope of the term “associations” as applied to the taxability of so-called business trusts as distinguished from ordinary trusts, the latter not being subject to tax as corporations. In the Morrissey case the Court said:

What, then, are tlie salient features of a trust — wlien created and maintained as a medium for the carrying on of a business enterprise and sharing its gains — which may be regarded as making it analogous to a corporate organization? A corporation, as an entity, holds the title to the property embarked in the corporate undertaking. Trustees, as a continuing body with provision for succession, may afford a corresponding advantage during the existence of the trust. Corporate organization furnishes the opportunity for a - centralized management through representatives of the members of the corporation. The designation of trustees, who are charged with the conduct of an enterprise,— who act “in much the same manner as directors,” — may provide a similar scheme, with corresponding effectiveness. Whether the trustees are named in the trust instrument with power to select successors, so as to constitute a self-perpetuating body, or are selected by, or with the advice of, those beneficially interested in the undertaking, centralization of management analogous to that of corporate activities may be' achieved. An enterprise carried on by means of a trust may be secure from termination or interruption by the death of owners of beneficial interests and in this respect their interests are distinguished from those of partners and are akin to the interests of members of a corporation. And the trust type of organization facilitates, as does corporate organization, the transfer of beneficial interests without affecting the continuity of the enterprise, and also the introduction of large numbers of participants. The trust method also permits the limitation of the personal liability of participants to the property embarked in the undertaking.

In the companion cases, supra, the Supreme Court further held that a limitation upon the number of beneficiaries or the size of the business enterprise does not serve to alter the purpose or character of the undertaking; that the fact that the beneficiaries do not exercise control over the trustees is not determinative; and that the lack of particular corporate forms, such as meetings, minute books, bylaws, an official name, a seal, an office, etc., is not controlling.

In Lewis & Co. v. Commissioner, 301 U. S. 385, in order to subdivide and sell lands for the use and benefit of the grantor and another beneficiary, a trust was created to hold title to certain land. The trustee was given power to deal with the real estate so far as the publio was concerned, but was to do so only in accordance with the agreement attached to the trust instrument. By the agreement so attached, the grantor appointed an agent, other than the trustee, to manage and control the property for purposes of sale, and the trustee was empowered only to execute deeds for the conveyances of titles and other necessary contracts according to the written directions of the agent. The Court said, int&r alia-.

If it were not for the declaration of trust, we should have here the simple case of an appointment by a landowner of an agent to subdivide the land and sell it * * *. It is quite evident that such an arrangement has no element of substance or method which would warrant its designation as an association under the statutory provision in question. Nor can we see that the intervention of a trustee to hold title, execute contracts and conveyances at the direction of the real-estate agent and make collections alters the situation.
⅜ * ⅜ Tjjere ⅛ to pe found in the operation of the business no essential characteristic of corporate control- — nothing analogous to a board of directors or shareholders, no exemption from persona] liability, no issue of transferrable certificates of interest. Tliere is simply tlie common relation of principal and agent, coupled with the collateral incidents of an ordinary trust. We are not able to find in the situation an “association” within the meaning of the statute under consideration, because there are no associates and no feature “making [the trust] analogous to a corporate organization”. 296 U. S. at p. 359.

In the instant case we have, without doubt, a business enterprise, but we do not have a business trust with corporate attributes as was considered in the Morrissey and its companion cases. Therefore, to find that the petitioners constituted “associations” taxable as corporations there must be found to exist here some organization or body of persons whose control, direction, and participation in the conduct of that business enterprise bear corporate analogy. It is unnecessary for us to determine whether the petitioners constituted a partnership within the meaning of section 1111 (a) (3), supra, for no such question is involved.

In the instant case we have a number of coowners of undivided interests in an oil and gas lease which constituted interests in real property and each of them separately arranged for the development of their property through a nonrevocable agency. It is true that each coowner, as such, was necessarily interested in the business enterprise of drilling wells on the Jamison lease and producing oil and gas therefrom for profit. However, they had no agreement or arrangement among themselves as a group, providing for the essential characteristics of corporate control of the enterprise. They achieved a unity of purpose and operation only through having a common agent. There was nothing analogous to a corporate board of directors with broad powers to manage, direct, and control the enterprise. Instead each coowner, separately and individually, appointed Everts his or her agent with powers and authority expressly delegated and fixed in advance by his or her individual agreement with Everts. There was nothing analogous to corporate shareholders owning transferable certificates of interest. Instead each party in interest was the owner of an undivided interest in real property, which was transferable only as real property. There was nothing analogous to the limited liability of the members of a corporation, for here there was no limitation upon the liability of the coowners. There was nothing analogous to corporate continuity, for while the agency of Everts was nonrevocable for a period of five years, the death of Everts within that period would have interrupted the continuance of the undertaking by termination of the agency.

It is our opinion that as between the coowners of an undivided interest in the Jamison lease, including Everts, they were tenants in common, and, further, that as between each of such coowners and Everts there was, under the terms of the power of attorney, simply the relation of principal and agent. Everts “was not the agent of an aggregation of” coowners, “that is to say, of an entity * * Commissioner v. Whitcomb Coca-Cola Syndicate, 95 Fed. (2d) 596, affirming 35 B. T. A. 1031. We conclude that the petitioners herein did not constitute “associations” taxable as corporations within the meaning of the applicable act. See Lewis & Co. v. Commissioner, supra; Commissioner v. Whitcomb Coca-Cola Syndicate, supra; Commissioner v. Gerstle, 95 Fed. (2d) 587, affirming 33 B. T. A. 830; Darol Trading Account, 34 B. T. A. 837; and Stantex Petroleum Co., Trustee, 38 B. T. A. 269, and authorities cited therein.

In Thrash Lease Trust, 36 B. T. A. 444, cited by respondent, we did not think that the facts were sufficient to overcome the showing made in favor of the correctness of the Commissioner’s determination and in that respect is distinguished from the instant case.

Our conclusion as to the first issue obviates the necessity of consideration of the alternative issues.

Reviewed by the Board.

Decision will be entered for the petitioners.

       SEC. 1111. DEFINITIONS.
      (a) When used in this Act—
      *******
      (2) The term “corporation” includes associations, joint-stock companies, and insurance companies.
      (3) The term “partnership” includes a syndicate, group, pool, joint venture, or other unincorporated organization, through or by means of which any business, financial operation, or venture is carried on, and which is not, within the meaning of this Act, a trust or estate or a corporation; and the term “partner” includes a member in such a syndicate, group, pool, joint venture, or organization.


author: ÁRNOld:

text:
    Rosenberg Investment & Realty Trust, Petitioner v. Commissioner of Internal Revenue, Respondent.
    Docket No. 81963.
    Promulgated October 28, 1938.

      Alfred Beck, Esq., for the petitioner.

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

ÁRNOld:

Despite the complicated nature of the facts herein, this proceeding presents a question which can be stated in simple terms, namely, whether there has been such a merger of estates as to deprive the petitioner of the right to amortize the cost of its leasehold. Briefly stated, the question arises by virtue of a lease of the Mann property to the S. Rosenbaum Co., whose interest was thereafter acquired by Viola B. Rosenbaum. Viola B. Rosenbaum subleased to Trust No. 160, and tbe latter subleased to Wieboldt’s, thus completing the chain of title as to the leasehold estates. After the foregoing leases had been executed, the fee to the Mann property was acquired by Trust No. 170. It is stipulated that the petitioner became the sole beneficiary of Trust No. 160 and of Trust No. 170, the former holding the leasehold estate and the latter the fee to the Mann property. The petitioner was created by members of the Rosenberg family, and it was to their interest to see that the petitioner became the beneficial owner of the leasehold estate of Trust No. 160, and the fee estate of Trust No. 170. The parties, however, have stipulated that Trust No. 160 and Trust No. 170 were mere naked trusts, with no duties or activities, and each party proceeds on the theory that petitioner was the actual owner as well as the equitable owner of the leasehold and fee estates. Therefore, it would seem to require no particular comment on our part to justify our considering the issue as though petitioner was the actual owner of the leasehold estate and of the fee simple title to the Mann property, and our discussion of the problem will be premised upon this conclusion.

It is petitioner’s contention that its leasehold estate was not merged in the fee later acquired, because its leasehold estate was subject to a substantial outstanding estate in a third party, namely, Viola B. Rosenbaum; that the law will not permit a merger of a leasehold estate with a fee simple estate where there is any intervening «state; and that practical considerations of accounting, conveyancing, and financing indicate the injustice which results from the respondent’s refusal to allow petitioner to amortize the cost of its leasehold estate. The petitioner relies upon Wisconsin National Bank, 4 B. T. A. 109; Talcott v. Draper, 61 Ill. 56, 58, and the legal definitions regarding the merger of estates which are hereinafter discussed.

The respondent, while recognizing the force and effect of these legal definitions, denies that this petitioner is entitled to amortize the cost of its leasehold because, as a matter of substance, the petitioner is seeking to act both as landlord and as tenant to the same property. Respondent contends that petitioner’s position is based upon a fiction of law and that petitioner justifies its position because of the necessity of exactness in dealing with questions involving interests in real property. Respondent urges that taxation is a practical matter which is not so much concerned with refinements of title as it is with the actual command over the property taxed, and that, if consideration be given to substance rather than to form, petitioner has no right to amortize the cost of a leasehold estate in which it has acquired the fee simple title. The respondent points out that Wisconsin National Bank, supra, is distinguishable from this case because there the taxpayer possessed only a part of the fee, and there were substantial and not merely fictional outstanding interests preventing the merger. He urges that this proceeding is controlled by our decision in Henry Boos, 80 B. T. A. 882.

The rule with respect to the merger of a lesser estate with a greater estate is stated by Bouvier’s Law Dictionary, 3d Ed., vol. 11, p. 2197, as follows: “When a greater estate and less coincide and meet in one and the same person, without any intermediate estate, the less is immediately merged, that is, sunk or drowned, in the latter; but they must be in one and the same person at one and the same time, in one and the same right [citing cases].”

The rule is stated in 21 Corpus Juris, 1035, as follows: “In order that there may be a merger it is essential that there be at least two distinct estates, a greater and a lesser, meeting in the same person, or class of persons, at the same time and without any intervening estate, * * *.”

The leading case in Illinois regarding leases, their assignment, and the subletting of the premises is Sexton v. Chicago Storage Co., 129 Ill. 318; 21 N. E. 920. In that case the question to be determined was whether the Storage Co. was an assignee of the original lessee or only a sublessee. In its decision the court pointed out that the leases to Cole, the original lessee, and the lease from Cole to the Chicago Storage Co., each used the same identical language, namely, for and during the term of the lease and “until the 1st day of May, 1888.” In commenting upon these facts the court stated:

* * * No space of time, however minute, therefore, can by any possibility remain after the term of the storage company has ended before the expiration of the term of Cole, in which he could enter upon or accept a surrender of the premises. The general principle as held by all the authorities is that, where the lessee assigns his whole estate, without reserving to himself a reversion therein, a privity of estate is at once created between his assignee and the original lessor, and the latter then has a right of action directly against the assignee on the covenants running with the land, one of which is that to pay rent; but if the lessee sublets the premises, reserving or retaining any reversion, however small, the privity of estate between the sublessee and the original landlord is not established, and the latter has no right of action against the former, there being neither privity of contract nor privity of estate between them. The chief difficulty has been in determwwng what constitutes such reservation of a reversion. [Italics supplied.]

In the instant proceeding each of the lessors demised and leased a term for one day less than the term which was acquired under their own lease. For example, Viola Kosenbaum’s lease expired February 29, 1948, but the term for which she demised and leased the Maim property expired on February 28, 1948, and the term of Wieboldt’s lease expired on February 27, 1948; thus each succeeding lease after the underlying lease was a demise for a term of one day less than the preceding leasehold estate. Therefore, there can be no question but what each lessor of the Mann property retained a reversionary interest therein, and so long as each leasehold estate remains in existence there will be a reentry of possession by the lessor prior to termination of its or her lease. Indian Refining Co. v. Roberts (Ind., 1932), 181 N. E. 283; Consolidated Coach Corporation v. Consolidated Realty Co., 251 Ky. 614; 65 S. W. (2d) 724.

In addition Yiola B. Rosenbaum reserved substantial rights in subletting the property, including the right to terminate the lease and repossess the property upon any default in payment of rent or in performance of the conditions and covenants of the agreement, and subject to the rights granted and reserved in the underlying lease. Neither these reserved rights nor the reversionary interest possessed by Viola B. Rosenbaum were ever acquired by the petitioner. It is our opinion, therefore, that in view of the rights reserved by Viola B. Rosenbaum in the lease executed by her and in the underlying lease, and in view of the authorities hereinabove mentioned, there could be no merger of the petitioner’s leasehold estate with its fee simple estate so long as those rights were outstanding in Viola B. Rosenbaum.

The respondent urges, however, that, even though technically speaking and as a matter of law there may not be a merger under these facts, since taxation is a practical matter and since there is but a one-day interval with regard to Viola B. Rosenbaum’s reversionary interest, for tax purposes we should look through technical refinements and recognize the substance of these transactions, which is, that petitioner is attempting to amortize a leasehold estate as to the same property in which it holds the fee simple estate.

In the Henry Boos case, supra, relied upon by the respondent, the taxpayer had acquired a 99-year lease, with an option to purchase. This option was subsequently exercised and the fee simple title was acquired by the taxpayer. We refused to allow the taxpayer to amortize the cost of his leasehold estate upon the theory that there had been a merger and that the cost of the property to him became the sum of the unamortized cost of the leasehold plus the amount expended to acquire the lessor’s remainder interest. The facts in that case, however, are quite different from the present facts, because there was no intervening estate between the leasehold estate and the fee simple estate. When Boos purchased the fee simple title there was a meeting in the same person at the same time, without any intervening estate, of two distinct estates in property, and under the rule the lesser estate was absorbed or merged in the greater estate. It is impossible here for a merger to result, as the leasehold estate of Viola B. Bosenbaum bars any merger of the two estates that petitioner owns in the same property.

The Wisconsin National Bank case, supra, upon which the petitioner relies, is likewise distinguishable from the instant proceeding upon its facts. In that case there was a lease of property followed by an acquisition of a one-third interest in the fee prior to the taxable year and a one-third interest in the fee during the taxable year Subsequent to the taxable year the tenant acquired the remaining one-third interest in the fee and the question arose whether during the taxable year the petitioner was entitled to amortize the cost of its leasehold estate. We held that no merger of the lesser with the greater estate took place until the entire fee was acquired by the petitioner at a date subsequent to the taxable year there involved, and the petitioner was permitted to deduct an aliquot part of the fair market value at March 1, 1918, for exhaustion of the leasehold. The distinction between that case and the instant proceeding is that there was no intervening estate between the tenant and the original lessor, so that the purchase of the fee simple title by the tenant would result in a merger of the leasehold estate with the fee simple estate. Actually, therefore, there is no inconsistency between the Henry Boos case and Wisconsin National Bank case, but only a difference with respect to the degree of consummation in the purchase of the fee simple title by the tenant.

In this proceeding, however, there has been a consummation of the purchase of the fee simple title, so that the petitioner holds not only a fee simple title to the property, but also a leasehold estate therein. The difference between this case and the last two cases above mentioned is that we have an intervening estate in Viola B. Bosenbaum, which prevents a merger of the lesser estate with the greater estate. The petitioner acquired its property rights in the leasehold estate by virtue of the indenture of March 26,1929, at a cost of $105,000. Later and by virtue of three separate deeds it acquired undivided one-third interests in the fee for a sum undisclosed by the record. The acquisition of the leasehold estate and of the fee simple estate represented the acquisition of separate property rights, each of which was a valuable asset to the petitioner. While each property right related to the same particular land and buildings, each estate was a separate and distinct property right.

It is well recognized that a leasehold estate is a wasting asset and that the capital cost thereof is an exhaustible investment which is returnable by annual deductions spread over the term of the lease. Henry Boos, supra, and cases cited therein. Since this is true and since the petitioner will have expended $105,000 in the acquisition of this exhaustible asset, it is entitled to amortize the cost thereof over the remaining term of the lease.

As the parties have proceeded upon the theory that petitioner was the owner of the leasehold estate and the fee estate, we deem it unnecessary to consider the technical question of whether a merger results when separate trusts having the same beneficiary and the same trustee hold title to the two estates.

In view of the stipulation which the parties read into the record at the hearing, the additional depreciation of $1,128.29 allowed by respondent in computing the deficiency will be disallowed and the tax liability computed accordingly.

Reviewed by the Board.

Decision will Toe entered under Bule 50.

DisNet concurs only in the result.