author:
Harron:
      Sternhagen, Morris,

text:
    Lakeland Grocery Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 83392.
    Promulgated July 13, 1937.

      Robert Ash, Esq.., for the petitioner.

      O. A. Gwinn, Esq., for the respondent.
   OPINION.

Harron:

The respondent made several adjustments of the taxpayer’s income for the taxable year 1933, but the only one in issue is his addition, to the petitioner’s income of $89,237.55 as “Profit arising from composition settlement.” This amount was determined by subtracting the total payment to creditors made in consideration of the composition, $15,472.61, from the total of debts which were canceled, $104,710.16. The petitioner claims that no “income” whatever was realized from the cancellation of indebtedness and the respondent, while contending that “income” was realized, concedes on brief that the “income” should be limited to the total of the petitioner’s net assets immediately following the composition, namely, $39,596.93, which were made available to the petitioner free from the claims of creditors as a result of the composition.

Both, parties are agreed on the fact that prior to the composition settlement petitioner was insolvent, having an excess of liabilities over assets. The parties are also agreed that immediately after the composition the petitioner had net assets of $39,596.93 which were freed from the claims of creditors as a result of the composition settlement.

The statute so far as applicable here merely provides that “ ‘Gross income’ includes gains, profits and income derived from * * * trades, businesses, commerce or sales, or dealings in property, or use of or interest in such property; also from * * * the transaction of any business carried on for gain or profit, or gains or profits and income derived from, any source whatever.” (Sec. 22 (a), Revenue Act of 1932.) The question here is whether the cancellation of indebtedness under the circumstances of this case resulted in “gains”, “profits”, or “income” within the meaning of the statute.

The cases which the petitioner claims are controlling on the facts are: Meyer Jewelry Co., 3 B. T. A. 1319; Burnet v. Campbell Co., 50 Fed. (2d) 487; Dallas Transfer & Terminal Co. v. Commissioner, 70 Fed. (2d) 95; and Porte F. Quinn, 31 B. T. A. 142. As we read these cases none of them appear to involve the facts we have before us. Although the reports in some of them are not clear as to the facts involved, it seems to us a fair conclusion that in all of them the petitioner was assumed to be insolvent before the forgiveness of indebtedness and to have remained in a state of insolvency or at least with no excess of assets over liabilities after the cancellation of indebtedness. On such facts it was properly held that no gain was realized, and a long line of cases reaches this result.- Simmons Gin Co., 16 B. T. A. 793; affd., 43 Fed. (2d) 327; Eastside Manufacturing Co., 18 B. T. A. 461; Progress Payer Co., 20 B. T. A. 234; E. B. Higley & Co., 25 B. T. A. 127; Towers & Sullivan Manufacturing Co., 25 B. T. A. 922. However, in the case at bar the distinguishing factor is that although the petitioner was insolvent immediately before the composition it emerged from that settlement with free assets of $39,596.93.

The respondent rightly, it seems to us, perceives this to be a case of first impression on the particular facts present. He points out that the line of cases cited are applicable where the debtor is insolvent both before and after the cancellation of debts. He cites the other line of cases holding that gain is realized from forgiveness of indebtedness where the debtor is solvent both before and after the cancellation of indebtedness. B. F. Avery & Sons, Inc., 26 B. T. A. 1393; Knowles D. White, 34 B. T. A. 424; affd., sub nom Walter v. Commissioner, 88 Fed. (2d) 170, and he points out that this is an intermediate case where the debtor was insolvent before the cancellation but solvent immediately after it with an excess of assets over liabilities of $39,596.93. In this situation he contends that the rationale of United States v. Kirby Lumber Co., 284 U. S. 1, should apply and that gain is realized to the extent of the value of the assets freed from the claims of creditors by the composition in the amount of $39,596.93. This we believe is the correct result. The petitioner’s net assets were increased from zero to $39,596.93 as a result of the cancellation of indebtedness by its creditors, and to that extent it had assets which ceased to be offset by any liability. The decisions that the increase in clear assets so brought about constitutes taxable “gain” or “income” (United States v. Kirby Lumber Co., supra, and Helvering v. American Chicle Co., 291 U. S. 426) are applicable to the facts of the instant case, as the cancellation of the petitioner’s debts had the effect of making its assets greater than they were before that transaction occurred. It is true that “gain” or “profit” is essential to the existence of taxable “income” (cf. Dallas Transfer & Terminal Warehouse Co., supra), and we believe that “gain”, as commonly understood, was realized here when the petitioner, who was hopelessly insolvent, received by the action of its creditors an increment to its assets clear and free of any claims of the creditors.

We are not certain under the facts in the case of Dallas Transfer & Terminal Co. v. Commissioner, 70 Fed. (2d) 95, reversing 27 B. T. A. 651, whether the taxpayer had assets in excess of liabilities after the forgiveness of indebtedness involved there. It appears that this proceeding is distinguishable from the Dallas Transfer <& Terminal case. The facts of the Dallas case show that the taxpayer conveyed its chief asset, a piece of realty, and for this conveyance the taxpayer’s indebtedness was discharged. The Circuit Court stated, in reversing the Board, supra, and in distinguishing the Kirby Lumber Co. case, that in the Kirby case the taxpayer had greater “clear” or net assets than it had before the discharge of its obligations, whereas in the Dallas case, having thus parted with assets, it did not. In this proceeding the petitioner’s financial statement shows that it obtained assets clear of liabilities after the composition of creditors. From the balance sheet and testimony respecting the nature of petitioner’s business, we conclude that the assets freed to the petitioner by the composition of creditors had an exchange value. Under such facts and as stated above, we believe that this petitioner realized taxable gain and that the-rationale of the Kirby Lumber Co. case, supra, applies.

Reviewed by the Board.

Decision will be entered under Rule 50.

Sternhagen,

concurring: Both Meyer Jewelry Co., 3 B. T. A. 1319,. and Burnet v. Campbell Co., 50 Fed. (2d) 487, were decided before United States v. Kirby Lumber Co., 284 U. S. 1, and in my opinion are incompatible with that decision and were overruled by it. Dallas Transfer & Terminal Co. v. Commissioner, 70 Fed. (2d) 95, while different from the present case in its facts, contains reasoning with which I can not agree, and I do not, therefore, think its effect should be spread to cases where (short of a proceeding in bankruptcy) the debtor is saved from insolvency by the forgiveness of a debt or enabled thereby to carry on his business and recover his solvency. In such cases his gain may be just as real and substantial as where the forgiveness or composition occurs before insolvency.

Murdock agrees with the above.

Morris,

dissenting: I disagree with the majority in holding that the petitioner realized taxable income of $39,596.93 as a result of the composition settlement. I am unable to distinguish the facts in this proceeding from those in Dallas Transfer & Terminal Co. v. Commissioner, 70 Fed. (2d) 95, reversing 27 B. T. A. 651. The Board, in its opinion in that case, at page 657, pointed out that the taxpayer was solvent after the cancellation; therefore, in both cases the taxpayers were insolvent prior to the forgiveness and solvent thereafter. Under such circumstances the taxpayer does not always realize taxable income, a conclusion which, necessarily, follows from the majority opinion, but the facts of each case must be analyzed to ascertain whether there has been a gain or a profit. In the Dallas case the Board held, treating the transaction as a partial forgiveness of indebtedness, although deciding the case primarily on another theory, that taxable income was realized to the extent of the amount forgiven as assets were left cleared of debts to that extent. The reasoning of the court in reversing the Board and the distinction made by it between that case and United States v. Kirby Lumber Co., 284 U. S. 1, are equally applicable to the facts in this proceeding and make it unnecessary to extend this opinion. Based thereon, it is my opinion that the taxpayer did not realize any income as a result of the composition settlement. See also Commissioner v. Rail Joint Co., 61 Fed. (2d) 751; Burnet v. Campbell Co., 50 Fed. (2d) 487.

Smith, Van Fossan, and Disney agree with this dissent.


source: Caselaw Access Project

author: Miller:

license: Public Domain

text:
    Leonard B. Willits, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 69300.
    Promulgated July 13, 1937.

      Alfred T. Glenn, Esq., for the petitioner.

      John D. Kiley, Esq., for the respondent.
   OPINION.

Miller:

(1) The first question presented is whether additional income was received which was not disclosed by the taxpayer. Upon this issue the determination of the respondent is prima facie correct. Burnet v. Houston, 283 U. S. 223; Welsh v. Helvering, 290 U. S. 111; Reinecke v. Spalding, 280 U. S. 227, 233; United States v. Anderson, 269 U. S. 422, 443; Botany Worsted Mills v. United States, 278 U. S. 282, 289, 290; Wickwire v. Reinecke, 275 U. S. 101; Old Mission Portland Cement Co. v. Helvering, 293 U. S. 289. The burden was upon the petitioner to overcome the presumption of correctness. This he failed to do. The only evidence submitted in his behalf to support his contention was his income tax returns for the years in dispute and his affirmative answer to his counsel’s question: “Do all of these returns show correctly your income, your bank account?” This is obviously insufficient. W. M. Buchanan, 20 B. T. A. 210.

On cross-examination petitioner admitted that he prepared income tax returns for C. R. Myers for the years 1920 to 1927, inclusive, and that he prepared income tax returns for Harold A. Brand for the years 1926 and 1927. The undisputed testimony of special agent Lucas shows that petitioner admitted receiving $2,000 from Brand in 1928 in payment for preparing Brand’s returns and for making an inventory of Brand’s stock. The undisputed testimony of witness Lucas also established that large amounts of money and an automobile were given by Myers, during the years in dispute, ostensibly as gifts to petitioner’s mother-in-law. Title to the automobile was taken in the name of petitioner. The payments of money were deposited in the Atlantic City National Bank in the account of “A. M. Smith, G. C. Willits, Trustee.” G. C. Willits was petitioner’s wife, and she alone had a power of attorney to draw upon the account. These large deposits were, in practically every instance, followed by large withdrawals in favor of petitioner. The entries of deposits and withdrawals of these large amounts in the check book of the account were in many instances made in the handwriting of the petitioner.

Petitioner offered no explanation of these alleged gifts, other than that Myers was a friend of the family. The evidence is sufficient to sustain the respondent’s contention that petitioner received undisclosed- income during the years in dispute, even apart from the presumption which is indulged in favor of his determination. The statute provides that gross income includes income derived from salaries, wages, or compensation for personal service “of whatever kind and in whatever form paid.” Revenue Act of 1926, sec. 213 (a); Revenue Act of 1928, sec. 22 (a). It is obvious that income was received by petitioner for services rendered and that the device of an account in the name of his mother-in-law, in which he made deposits and from which he quickly withdrew the same, can not be allowed to defeat his obligation to pay taxes thereon.

(2) Under the circumstances it was proper for respondent to usé petitioner’s bank deposits as a means of determining his income. In the case of Russell C. Mauch, 35 B. T. A. 617, we sustained the reasonableness of such action, in the absence of other available sources of information. See also Pincus Brecher, 27 B. T. A. 1108, and Axel Holmstrom, 35 B. T. A. 1092.

(3) Since proof of fraud will automatically carry with it imposition of the 50 percent additional tax, and since it is claimed by the respondent for every year in controversy, the next question is whether petitioner had an intent to evade the payment of income tax for each of the years involved. Upon this point respondent has the burden of proof. Sec. 601, Revenue Act of 1928, amending sec. 907 (a), Revenue Act of 1924; Budd v. Commissioner, 43 Fed. (2d) 509.

Fraud, as petitioner contends, is not lightly to be found. G. S. Patterson, 16 B. T. A. 716; Henry S. Kerbaugh, 29 B. T. A. 1014; affd., 74 Fed. (2d) 749; M. Rea Gano, 19 B. T. A. 518. We said in the Gano case, at p. 532:

To establish fraud by direct proof of intention is seldom possible. Usually it must be gleaned from the several transactions in question and the conduct of the taxpayer relative thereto. Moreover, in assaying evidence to determine the presence or absence of fraud, the scales of. justice must dip more heavily than in the ordinary civil ease—a mere preponderance is not enough, the evidence of fraud must be clear and convincing.

On the other hand, where the facts reveal a situation unmistakably implying fraudulent intent, it is our duty to find accordingly. We said further in the Gano case, at p. 533:

A failure to report for taxation income unquestionably received, such action being predicated on a patently lame and untenable excuse, would seem to permit of no difference of opinion. It evidences a fraudulent purpose.

And we said in L. Schepp Co., 25 B. T. A. 419, 438:

* * * No one reading this record could reasonably escape the belief that the petitioner’s president and its secretary were astute and intelligent business men who were fully aware of the facts and implications of their business and reasonably cognizant of the general effect upon the corporation’s tax liability of its acts and transactions. There is no room for an extenuating plea of ignorance or inadvertence. What was done was done deliberately and knowingly. * * *

See, also, Charles J. Delone, 34 B. T. A. 1139.

Here the petitioner is in no position to plead ignorance of the revenue law or of his duty to make'a full return of all his income, for he was internal revenue agent in charge at Newark, New Jersey, from 1921 to 1928, and for three years preceding had been in the Federal revenue service. (Contrast George L. Richard, 15 B. T. A. 316.) Nor does he offer a single reason which would extenuate or palliate the offense.

It is not necessary to review the evidence again. Much of the evidence which was most convincing of fraudulent intent came in the form of admissions by the taxpayer himself, made to special agent Herbert E. Lucas. Lucas testified at the hearing in the presence of the petitioner, without contradiction, rebuttal, or even cross-examination. In several instances it appeared that the taxpayer had at first denied facts indicative of fraudulent intent, but, upon being confronted by evidence accumulated by the special agents, broke down and admitted such facts. The only reasonable conclusion to be drawn from the uncontroverted facts is that petitioner used his mother-in-law, and the bank account in her name, as a mere blind to conceal the receipt of money paid him by Myers and by Brand for his services in preparing their returns. He admitted to the witness Lucas, on being pressed, that a payment of $2,000 made to him by Brand in February 1928 was for this purpose. Between August 24, 1925, and March 26, 1928, a total of $11,000 was paid into this account by Myers, not all of which, it is true, has been traced directly to petitioner’s individual uses, but enough of it has been so traced to show the general fraudulent intent of petitioner, during all the years involved, to evade the payment of additional income taxes. The petitioner admitted, to Lucas that the greater part of the deposits in Mrs. Smith’s account was withdrawn for the benefit of himself, his wife, or his family. No deposit in Mrs. Smith’s account appears for the year 1926, nor any withdrawal in that year identified as for petitioner’s personal benefit, but, since petitioner was employed by Myers and Brand throughout the entire period, we are of the opinion that that year likewise was affected by the same fraudulent purpose.

There is nothing in the evidence to explain why Myers would have made gifts in this large amount to Mrs. Smith, or to suggest that such payments to her account were bona fide. The witness Lucas testified that petitioner told him that Mrs. Smith was considered by him “as one of the members of the family” and that she was claimed by him on his return as a dependent. The petitioner’s returns for all the years in question show that he claimed a deduction for three dependents, but do not show, because not then required, the names or relationships of such dependents. Upon the available evidence, the conclusion that Mrs. Smith was only a screen to mislead the tax authorities is inescapable. The determination of fraud is made in each instance on the peculiar facts of the individual situation. After a full consideration of all the circumstances here attendant, we have no doubt that petitioner had a fraudulent intent to evade payment of income tax in all the years in question, and that his returns in each year reflected that intent by failing to disclose income received.

(4) Petitioner contends further that the Commissioner’s determination of deficiencies is barred by the statute of limitations.

The deficiency notice was mailed on November 18, 1932. Under this Board’s order of October 19, 1936, respondent’s motion, to reopen and to file consents to waive the statute, was granted. These consents, duly signed by the petitioner and the Commissioner on November 27, 1931, waive the statute for the years 1926, 1927, and 1928 until December 31, 1932. Sec. 278 (a), Revenue Act of 1926; sec. 606 (a), Revenue Act of 1928. Petitioner challenged the validity of the waivers in his petition as “obtained under duress and/or misrepresentation”, but, since this allegation was denied by respondent and no evidence was introduced in support of it at the hearing, we must conclude that the waivers are valid, as they appear to be on their face.

As regards respondent’s determination of a deficiency for the year 1926, no waiver was filed, and, except for the filing of a false and fraudulent return with intent to evade tax, the statute of limitations would have run as to that year. Where, however, such a return is filed, and such an intent is present, the statute of limitations does not run. Sec. 278 (a), Revenue Act of 1926. We have held that respondent has fully sustained his burden of proving fraud. Consequently, the statute was not tolled as to the year 1925, the determination of deficiency was properly made, and the 50 percent additional tax was properly assessed.

(5) Petitioner contends that as respondent has the burden of proving fraud—in order to prevent the tolling of the statute of limitations as to the year 1925, and in order to justify the imposition of the 50 percent additional tax as to each year—the burden is shifted so as to require him to prove that deficiencies in tax existed. This contention is without merit. While respondent has the burden of proof of fraud, if he is successful in establishing that fact the presumption of correctness of his determination of deficiencies thereupon immediately revives and must be overcome by positive evidence on the part of the petitioner. The statute of limitations does not shift the burden of proof; it merely raises a bar to the assertion by the respondent of any claim for a deficiency in tax; and, once that bar has been removed by proof of fraud, we are where we were before. Cf. L. Schepp Co., supra.

It follows, therefore, for the same reasons given as to the later years, that respondent’s determination of the 1925 deficiency is also correct and will be sustained, together with the additional tax of 50 percent assessed on account of fraudulent failure to disclose income.

Reviewed by the Board.

Judgment will be entered under Rule 50.

       Revenue Act of 1926, sec. 275 (b) ; Revenue Act of 1928, sec. 293 (b).


author: Leech:

text:
    Warren H. Corning, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 86898.
    Promulgated July 13, 1937.

      David A. Gaskill, Esq., and Earl P. Schneider, Esq., for the petitioner.

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

Leech:

On May 28, 1987, this Board promulgated an opinion herein—35 B. T. A. 1162. On the 1st day of June 1937, a decision of the Board was entered pursuant to that opinion. June 11, 1937, petitioner moved for Board review of that opinion. June 15, 1937, the Chairman granted that motion. For cause appearing of record, the following opinion is substituted for that opinion of the Board, promulgated May 28,1937, which latter opinion is hereby vacated.

Respondent determined a deficiency in petitioner’s income tax for 1934 in the sum of $3,776.71, of which $3,713.04 is in controversy. The disputed tax arises by reason of the increasing of petitioner’s reported income by the amount of the income realized, but not distributed, by the trustees in that, year, under two trusts created in prior years by petitioner.

The facts are stipulated. The two trust instruments, together with the amendments executed, are made a part of the formal stipulation filed. Briefly stated, the facts are that petitioner in 1929 executed two trust instruments. By one be conveyed to the Union Trust Co. of Cleveland, Ohio, as trustee, certain corporate stock, such of the yearly income as the trustee might “deem advisable” to be paid to him for life, then to his wife for her life. On the death of the survivor of these two the corpus was to' be divided among petitioner’s direct descendants or in case there were none surviving, to be paid over to petitioner’s father, if living. The trustee was given authority to sell the trust property, to invest funds of the trust, and otherwise deal with the trust corpus without legal restrictions otherwise applicable to trustees, and to lend money to or purchase property from petitioner’s estate without security and without liability for loss. It was provided that the trustee should, before purchase or sale of securities, secure the approval, during his life, of petitioner’s father and after his death of petitioner, and there was specifically reserved to petitioner the right at any time to remove the trustee and substitute another merely upon giving written notice.

It was further provided by this trust that petitioner’s father might, during his life, amend or terminate the trust in whole or in part and change any beneficial interest thereunder. In case of termination of the trust under this power, the corpus was to be paid over to petitioner, if living, or if not living, then to any one specified by petitioner’s father. Petitioner also reserved the right, after the death of his father, but in no event prior to 1932, to amend or terminate the trust, it being provided, however, that he might not revest himself in any year with the corpus of the trust unless he had given notice in writing of his intended action not later than November 30 of the preceding year.

On December 1,1931, petitioner’s father, Henry W. Corning, in the exercise of his power to amend the terms of the trust instrument, executed an amendment providing that the income of the trust during the life of petitioner should be accumulated and added to the corpus, and changing from 1932 to 1937 the earliest date at which petitioner might, terminate the trust. On August 8, 1933, petitioner’s father executed a second amendment providing that sale, lease, investment, or reinvestment of the trust estate until October 1, 1933, should be made by the trustee upon direction of petitioner, and that the trustee would be absolved from any and all responsibility for acts done under such, direction. By a third amendment, executed October 1, 1933, this power of direction by petitioner was extended to July 1, 1935.

By the second trust certain securities were transferred by petitioner to one S. Boswell Shepherd as trustee. The beneficiaries were the same as in the first trust. The powers granted to the trustee and petitioner’s father and those reserved to the petitioner were the same as in the first trust, with the one exception that petitioner was not limited as to time with respect to his right of revocation or amendment of the trust, except that it be subsequent to his father’s death. This trust differs from the first mainly in the amendments executed by petitioner’s father under the power granted him.

Thus, on January 17, 1933, petitioner’s father executed an amendment changing the provision for payment by the trustee in its sole discretion of all or part of the income to petitioner, to provide that the income in the sole discretion of the trustee be, during the life of petitioner, accumulated or paid to petitioner’s wife, his mother, his father, and/or any descendants of his surviving. Any income not so distributed by the trustee was to be accumulated and set apart in a separate “Fund A.” Upon petitioner’s death “Fund A” was to be added to the corpus of the trust and the income from such corpus was to be paid over to petitioner’s wife for life and upon her death to be paid in equal shares to petitioner’s children, or, per stirpes, to descendants, if any, of children not then living. By this amendment it was further provided:

I hereby authorize and empower my father, Henry W. Corning, during his life, and thereafter I reserve to myself, during my life, the right, to change or modify any of the administrative provisions of this agreement and to change .any beneficial interest hereunder and to revote this trust either in whole or in part, by delivering to the Trustee an instrument in writing acknowledged like a conveyance of real property entitled to record in New York, unless acknowledgment be waived by it, and in the event of the revocation of all or a part of this trust by my father, the Trustee shall pay over the principal thereof so revoked (excluding, however, the principal of the said Fund A) to me if I am then living, or if I am not then living the Trustee shall pay over the entire principal thereof (including the principal of the said Fund A) to my father or to such person or persons as he may designate in writing to the Trustee; provided, however, that, during my life, neither my father nor I shall have the power, at any time prior to January first, 1988, to revoke this trust either in whole or in part or to direct that any part of the income of the trust be paid over or held or accumulated for future distribution to me or be applied by the Trustee to the payment of premiums upon policies of insurance on my life, and provided further, that during my life and after January first, 1988, neither my father nor I shall have the power at any time during any taxable year within the meaning of the revenue laws of the United States to exercise any of the aforesaid powers not exercisable before said date, except that, if, during the month of December in the taxable year 1987 or during the month of December in any taxable year thereafter, my father, or in ease he is not living, then if X, deliver to the Trustee during such month a written notice that it is desired to have such powers during any specified time after the first day of the next succeeding taxable year, then during such specified time, but neither prior nor, except upon similar notice, subsequent thereto, my father if living and if he be not living, then I, shall have full power by instrument of the character hereinbefore specified, to revoke this trust in whole or in part or to direct that any part of the income of the trust thereafter accruing be paid over or held or accumulated for future distribution to me, or be applied by the Trustee to the payment of premiums upon policies of insurance upon my life. Anything heroin to the contrary notwithstanding, neither my father nor I shall at any time have the right to vest in myself title to any part of the said Fund A, and the Trustee shall in no event pay over any of the principal of said Fund A to me during my life, and in the event of the revocation of this trust in whole or in part during my life any part or all of the said Fund A so affected shall be paid over by the Trustee to the persons named and in the proportions designated by my father, Henry W. Corning, if he is then living, by an instrument in writing delivered to the Trustee, and any affected part of the said Fund not validly so appointed shall be paid over to the persons named and in the proportions designated by my mother, Edith W. Corning, if she is then living; provided, however, that in no event shall either my father or my mother have the power to direct that any portion of said Fund A shall be paid over to me, and any affected part not validly so appointed shall be paid over to my said wife if she is then living, or if not, in equal shares per stirpes to my descendants then living, or if none, in equal shares per stirpes to my father’s descendants (other than myself) then living. I also reserve the right for myself or any other person to increase this trust by delivering property or making insurance policies payable to the Trustee for that purpose or by bequest or devise by will. No income of the trust shall be applied to the payment of premiums upon policies of insurance on my life, unless and until direction shall be given to the Trustee therefor upon compliance with the conditions hereinbefore specified. In no case shall the duties and liabilities of the Trustee hereunder be increased without its written consent.

None of the income of the two trusts for 1934 was distributed but all was accumulated by the trustees.

Section 166 of the Revenue Act of 1934 provides:

SEC. 106. 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 or the income therefrom, then the income of such part of the trust shall be included in computing the net income of the grantor.

Respondent, by article 166-1, Regulations 86, has construed this section as follows:

Art. 166-1. Trusts, with respect to the corpus of which, the gram,tor is regarded as remaining in substance the owner.—
(b) Section 166 defines with particularity instances in which the grantor is regarded as in substance the owner of the corpus by reason of the fact that he has retained power to revest the corpus in himself. Nor the purposes of this article the grantor is deemed to have retained such power, if he, or any person not having a substantial interest in the corpus or the income therefrom adverse to the grantor, or both, may cause the title to the corpus to revest in the grantor. If the title to the corpus will revest in the grantor upon the exercise of such power, the income of the trust is attributed and taxable to the grantor regardless of—
(1) whether such power or ability to retake the trust corpus to the grantor’s own use is effected by means of a power to revoke, to terminate, to alter or amend or to appoint;
(2) whether the exercise of such power is conditioned on the precedent giving of notice, or on the elapsing of a period of years, or on the happening of a specified event;
(3) the time at which the title to the corpus will revest in the grantor in possession and enjoyment, whether such time is within the taxable year or not, or whether such time be fixed, determinable, or certain to come;
(4) whether the power to revest in the grantor title to the corpus is in the grantor, or in any person not having a substantial interest in the corpus or income therefrom adverse to the grantor, or in both. A bare legal interest, such as that of a trustee, is never substantial and never adverse;
(5) when the trust was created.

Sections 166 of the Revenue Acts of 1928 and 1932 were similar to the above quoted section of the 1934 Act here applicable with the exception that the former provide that, to tax any of the trust income to the grantor, the power of revocation must exist “within the taxable year.” That limitation led to the creation of trusts with the power of revocation only upon the giving of notice of that intent more than 12 months in advance. Langley v. Commissioner, 61 Fed. (2d) 796; Faber v. United States, 1 Fed. Supp. 859; Lewis v. White, 61 Fed. (2d) 1046, affirming 56 Fed. (2d) 390; Mabel A. Ashforth et ad., Executors, 26 B. T. A. 1188. It was to meet this practice and prevent this method of tax avoidance that the change was made in section 166 of the 1934 Act. This provision has been reenacted without alteration in the Revenue Act of 1936 in the face of its interpretation by the Commissioner by his regulations above quoted.

In the present case under his interpretation of section 166, respondent has included in the income of the petitioner all of the income of the two present trusts, for the reason that under each trust petitioner has reserved the power to revoke or amend, under certain conditions, and thus repossess the corpus. It is petitioner’s contention that section 166 does not apply because his right of revocation was subject to a contingency which had not yet happened and the happening of which was beyond his power to control. That contingency was the death of his father without exercise of a power of amendment granted the father, which might be used to destroy petitioner’s right of revocation.

The court in Kaplan v. Commissioner, 66 Fed. (2d) 401, in construing section 219 (h) of the Revenue Act of 1924, said:

* * * This provision was intended, as its legislative history clearly shows, as a protection to the government against evasion of income taxes, especially surtaxes, by means of trusts whereby the grantor, although parting with the legal control of the trust property, reserved a practical control over the income of it which could, in point of fact, be exercised for his own benefit. As Kaplan named himself trustee, the large discretion given in the trust instrument to the trustee as to the accumulation and payment of income is attributable to him personally. By the terms of the trust that discretion can be exercised for his own possible benefit, within wide limits. We see no occasion for refinement of construction against the government. We think the statute means that if under any circumstances or contingencies any part of the accumulated income might inure to the benefit of the grantor such portion of the income is taxable to him.

Section 166, here involved, and its companion section 167 of the Revenue Act of 1934, were both enacted to prevent the avoidance of surtax through creation of trusts subject in some manner to the control of the grantor. They, as well as the similarly numbered sections of the 1928 and 1932 Acts, constitute a reenactment and extension of sections 219 (g) and (h) of the Acts of 1924 and 1926. In Higgins v. White, 18 Fed. Supp. 986, interpreting section 219 (g) of those Acts, after citing the Kaplan case, supra, with approval, and quoting, substantially, the above excerpt, Judge Brewster said:

* * * The only essential difference between subparagraph (g) and sub-paragraph (h) of section 219 is that in the former the provisions relate to the grantor’s control over the corpus of the trust, and in the latter over the income. This difference involves no distinction in principle.

The Board has already followed the reasoning in the Kaplan case in construing section 167 of the Revenue Act of 1934. Cf. Fanny M. Bravo et al., Executors, 84 B. T. A. 190. So, the respondent argues that since the same purpose prompted the original enactment and the quoted controlling amendment thereto in the Revenue Act of 1934, the same reasoning should be used in our interpretation of section 166. See Higgins v. White, supra. Therefore, it is argued that there is no occasion for a refinement of construction here against the Government in construing the latter provision. Respondent thus, urges that section 166 shall be applied in taxing to the grantor, petitioner, the income of the present trusts where, as here, he has reserved to himself, at the time and under the conditions heretofore detailed, a right of revocation, even though the exercise of such right be subject to a condition precedent over which the grantor has no control.

On this question we agree with respondent. Petitioner reserved to himself the power in the first trust, after his father’s death and after 1932, later extended to 1937, to revoke and revest himself of the corpus. He retained the same power under the second trust, limited only by the death of his father.

Petitioner thus reserved the vested right to revest in himself the corpus of both trusts at some time in the future. The power to exercise this right, not its existence, during the tax year, was contingent. That contingency was the failure of the father to revoke that reserved right of the petitioner. Petitioner’s father could have deprived petitioner of that reserved right. But nothing in this record indicates any probability of that happening. In fact, the converse is indicated by the father’s amendments of the trusts.

At all events, the father has not divested petitioner of his vested right to revoke and thus revest the trust corpus in himself, specifically reserved in the trusts. And, until he is divested of that right, by the exercise of the power granted the father, petitioner stands] vested with it. Kinney v. Commissioner, 80 Fed. (2d) 568, and cases cited therein. The circumstance that petitioner’s right to revest tha trust property in himself, was vested and not contingent—was more than “a mere possibility of reverter”—answers petitioner’s attack on the constitutionality of our construction of section 166, supra. Cf. Helvering v. St. Louis Union Trust Co., 296 U. S. 39; Dort v. Helvering, 69 Fed. (2d) 836; Kaplan v. Commissioner, supra. We conclude that the respondent was right in taxing the contested income of the present trusts to petitioner under the Revenue Act of 1934, section 166, supra, and that the quoted construing regulations are reasonable in so far as they apply to the facts in this proceeding. Cf. Higgins v. White, supra; Fanny M. Dravo et al., Executors, supra. This holding extends to the' accumulated income composing “Fund A” under the second trust, since that fund consisted of income on the original trust corpus before it became corpus under the provisions of the trust authorizing its accumulation. It was, therefore, taxable as such income to the grantor, under the provisions of section 166, supra, even though, possibly, by reason of the provisions of the trust agreement, after being accumulated and added to the corpus, it could not thereafter vest in the petitioner though it could be used, under certain conditions, as we read the trust instrument, in the payment of premiums on life insurance policies of the petitioner or for his other possible benefit. But, aside from the specific provisions of section 166 of the Revenue Act of 1934, supra, there is j another and, we think, cogent ground supporting the respondent’s contested action here. Under the rule adopted by some courts and this Board, if the two present trusts are of such character that petitioner, although transferring the legal title to a trustee, has retained in himself such general power of control and management that the trust property may be used for his own benefit to the extent that would give him the “substance of enjoyment”, then the income of each trust is taxable to petitioner, either upon the theory that such trusts do not have separate taxable entities or they amount to no more than an assignment of income. Claud McCauley, 17 B. T. A. 886; affd., 44 Fed. (2d) 919; Jacob Schneider et al., Executors, 35 B. T. A. 183; William C. Rands, 34 B. T. A. 1107. See Douglas v. Willcuts, 296 U. S. 1. Let us consider whether, under these trusts, petitioner has reserved the substance of enjoyment to himself.

Under the first trust he reserved the power to remove the trustee and appoint a successor at will by mere written notice. So, at any time, he could have substituted himself as trustee and exercised the broad and unusual powers over the corpus granted the trustee, without liability. But, aside from this specific reservation indicating ‘the mutual understanding between father and son that the son intended to retain the control of the corpus of the trusts, the father of the petitioner, by virtue of his power to amend, on August 8,1933, executed an amendment providing not only that the income of the trust during the life of the petitioner should be accumulated and added to the corpus, but substituting the petitioner for the father as the party upon whose orders, alone, the trustee should act, without liability, in exercising the powers granted the trustee. This amendment was in effect throughout the tax year.

Thus, for the pertinent period, under either or both of those provisions, petitioner absolutely controlled the use of the trust corpus. He could sell or cause the sale of any or all of it to anybody on any terms or conditions. He could control the reinvestment of the proceeds of those sales in any manner. He could loan or cause the lending of any or all of the trust corpus to himself or anybody else on any terms and without security or liability or responsibility on his part or that of the trustee for the exercise of that power.

In the second trust instrument, petitioner similarly reserved the power to remove the trustee at will and substitute himself or another as successor. The trustee was granted like inclusive and unusual discretion as to the trust property. Not only that, but in this document is found the provision that the trustee, upon such evidence as he might consider sufficient, could determine petitioner or his father to be incompetent to direct the management of the trust property and, in that event, such incompetent party would be considered, for the purposes of the trust instrument, as “dead.” Under this provision, it would appear that petitioner, at any time, through his own action, alone, could substitute himself as trustee and remove his father from any power to direct the management of the trust property or amend or revoke the trust instrument.

These powers were supplemented, of course, by the reserved right to revoke which included the entire corpus and accumulated income of both trusts except, possibly, “Fund A”, composing certain accumulated income of the second trust. But, assuming that possibility, petitioner could, subject to conditions (see Fanny M. Dravo et al., Executors, supra), control the distribution of that fund to others or use it for the payment of his own life insurance premium liabilities.

On this record, under the stated rule, we think the conclusion is inescapable that the contested income is taxable to petitioner. Claud McCauley, supra; Jacob Schneider et al., Executors, supra; William, C. Bands, supra. See Douglas v. Willcuts, supra, and Burnet v. Wells, 289 U. S. 670.

Reviewed by the Board.

Decision will be entered for the respondent.

Disney concurs only in the result.

       Conference Report No. 1385, 733 Cong., 23 sess., at p. 24.

       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: Disney :

text:
    Gatens Investment Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 78693.
    Promulgated July 13, 1937.

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

      Clay C. Holmes, Esq., and F. R. Shearer, Esq., for the respondent.
   OPINION.

Disney :

The petitioner, an Oregon corporation organized September 29, 1981, by deed dated September 28, 1931, which was recorded October 28, 1931, received certain real estate situate in Portland, Multnomah County, Oregon, in exchange for all of its capital stock, without any agreement with the grantor respecting payment of taxes assessed against the property prior to the exchange.

The petitioner kept its books and filed its returns on the cash basis. During 1932 the petitioner paid taxes to the County of Multnomah on the property in the amount of $2,061.01. In his determination of a deficiency of $383.66 in income tax against the petitioner for 1932, the respondent disallowed the tax payment as a deduction on the ground that the taxes represented a liability of the grantor. Whether the amount is deductible as a tax paid during 1932 is the only question in issue.

The statement attached to the deficiency notice sets forth that the amount was disallowed as tax levied for 1931. The petition alleges that the petitioner accepted the property subject to the payment of 1931 taxes. This allegation was denied by the respondent in Ms answer to the petition. Neither the testimony, which is limited to a showing that no agreement was entered into between the grantor and the grantee respecting payment of taxes assessed against the property prior to the exchange, nor the stipulation of facts, establishes the year for which the taxes were paid, but on brief the respondent states that the question involves a deduction for 1931 taxes, and the petitioner acquiesces. In view of this assumption, though this material fact is not established by the record, we will decide the issue on its merits.

The Revenue Act of 1932 allows as a deduction from gross income, with certain exceptions of no importance here, “Taxes paid or accrued within the taxable year.” Sec. 23 (c). The respondent contends that the taxes were a charge against the property prior to its acquisition by the petitioner and represent an additional cost of the asset.

The statutes of Oregon provide that the assessor shall require all persons subject to taxation in his county to furnish him with a list of the taxpayer’s taxable property and the cash value thereof. The assessor makes a return to the county clerk on an assessment roll of all property owned by taxpayers as of 1 a. m., March 1, and gives notice of the setting on the last Monday of August of the board of equalization to examine and correct the assessment roll. The roll contains, among other things, the names of all taxable persons and a description of the property assessed against them. The assessment is against the person, and not specifically against the property. The state tax commission meets on the third Monday in October to equalize assessments of the several counties of the state. The county court meets during its December term to estimate the amount of money to be raised by taxation and to levy taxes. The estimate and levy are made at the same term of court. Oregon Railway & Navi gation Co. v. Umatilla County, 47 Or. 198; 81 Pac. 352. Within 15 days after the apportionment and levy of taxes by the county court of Multnomah County, the county clerk delivers a copy of the assessment roll to the tax collector, with a warrant commanding him to collect the taxes. The taxes levied'are payable in equal installments on or before the 5th day of May and November next following. Taxes are a lien upon the property assessed from and including March 1 of the year in which the levy is made, “but as between the grantor and the grantee the procedure in regard to the lien shall be as set forth in sec. 69-710, Oregon Code.” Oregon Code Annotated, secs. 69-240; 27-2016; 69-428; 69-601; 69-602; 27-2017; 69-720; 69-722.

The laws of Oregon fix March 1 of each year as “tax day.” City of Portland v. Multnomah County, 135 Or. 469; 296 Pac. 48. Tax assessed on the basis of ownership at that time is an encumbrance against the property from March 1, even though the amount of the tax has not been determined. Logan v. Luukinen, 113 Or. 52; 231 Pac. 184. In Crown Willamette Paper Co., 14 B. T. A. 133, we held that taxes of Oregon accrue during the year in which they are assessed.

The tax incidence is first upon the person who is owner on March 1, and his personal and primary liability can not be avoided by conveying the property after that date. In Covey v. Hurlburt, 207 Pac. 166, we find a positive statement from the Supreme Court of Oregon on this question. Section 4268, Oregon Laws, there being considered, is the general statute outlining and defining the duties of the assessor as to assessment of real and personal property. The court says:

Section 4268, Or. L., has the effect to make the person who is the owner of the property on March 1 of any year liable to pay the taxes thereon. The law imposes the tax and the assessor’s duty is confined to ascertaining what property was owned by a particular person at that date, and fixing a valuation on it. The fact that it may have been sold before the valuation is made and entered upon the assessment roll can make no difference. If the property is owned by a party on March 1 and is sold to another person before the value is ascertained and entered upon the assessment roll, the purchaser is not made liable to pay the tax upon it. That liability is still upon the person who owned it on March 1. It follows that there is nothing in the fact of a sale of the property after March 1 that in itself releases the vendor from the liability to pay the tax. * * *

The petitioner argues that since the property was conveyed in September 1931, and the warrant could not have been under the statute issued until after a levy was made by the county court during its December term, in the absence of agreement between the grantor and the grantee as to payment of taxes assessed prior to the conveyance, as grantee it was obligated to pay the taxes in question. It calls our attention to, and relies upon, the provisions of section 69-710, Oregon Code Annotated, reading as follows:

As between the grantor and the grantee of any land, when there is no express agreement as to which shall pay the taxes that may be assessed thereon before the conveyance, if such land is conveyed at the time or prior to the date of the warrant authorizing the collection of such taxes then the grantee shall pay the same, but if conveyed after the date the grantor shall pay them.

In Ferguson v. Kaboth, 43 Or. 414; 73 Pac. 200, real property was conveyed after March. 1, but before the tax on the land was levied and the assessment roll delivered to the tax collector. As to the liability of the grantor to pay the taxes assessed against the property, the court said :

Some stress seems to be laid on section 2846, Hill’s Ann. Laws 1892, as indicating an intention to impose the duty of paying taxes upon the grantee of land who acquires the title thereto after the assessment, and before the date of the warrant authorizing the collection thereof. This section, however, was simply designed to define the respective rights of a grantee and grantor of land upon which taxes had been assessed, as between themselves. Under the statute, property was required to be listed to the taxpayer as of the 1st of March of each year. Sess. Laws 1893, p. 6. He became personally liable for the payment of the tax thereon, which might be enforced by seizure and sale of his personal property. Notwithstanding he might sell and convey real estate after the 1st of March, and before the date of the tax warrant, he could be compelled to pay the tax; but, if so, the statute gave him a remedy over against his grantee, unless there was an express agreement between them on the subject.

We find no specific Oregon statute authorizing the tax' collector to seize and sell personal property of the taxpayer to satisfy the personal liability for tax levied on his real property, as was in effect at the time the Kaboth case arose, but the provisions of section 2846 of Hill’s Annotated Code are still in effect, being section 69-710, supra.

It is clear from’ these interpretations of the statute that conveyance of the land to petitioner prior to the issuance of a warrant for collection of taxes levied thereon for 1931 did not transfer to the grantee the personal liability for the tax which had been upon the former owner, as a primary liability, that of the property itself being secondary. The liability for the tax, notwithstanding the transfer, continued to be an obligation of the person who was the owner on March 1. In view of the above interpretation of the Oregon statutes by the highest court of that state, we must and do hold that the petitioner merely paid the tax of another taxpayer, and in doing so acquired no rights under the Act to a deduction for taxes paid within the taxable year. It did not pay a tax “imposed upon the petitioner.” Eugene W. Small, 27 B. T. A. 1219, 1223. The respondent did not err in disallowing the claimed deduction. Accordingly,

Decision will be entered, for the respondent.


author: Murdock:

text:
    C. R. Dashiell, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 75056.
    Promulgated July 13, 1937.

      Henry O. Harriman, Esq., for the petitioner.

      Elmer L. Corbin, Esq., for the respondent.
   OPINION.

Murdock:

The Commissioner disallowed this loss on the theory that the transaction was a short sale and was not closed until delivery of the certificates in 1932. He was in error. This was not a short sale as short sales are made on the New York Stock Exchange. It was a cash sale with immediate delivery by an agent of the seller. The sale took place on December 31, 1931. The parties so intended. The petitioner sustained'his loss in that year. A sale may take place before delivery of the certificates. In fact such is usually the case on the Exchange. Delivery on regular sales is not made until a day or so after the sale has taken place. The certificates which the petitioner had after the sale were certificates which he owed to the brokers to repay their loan of certificates to him. The Commissioner concedes that this case is like the case of Dee Furey Mott, 35 B. T. A. 195, and cases there cited.

Decision will be entered under Rule 50.


author: Smith:

text:
    Beekman Winthrop, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 79850.
    Promulgated July 13, 1937.

      Russell L. Bradford, Esq., and George H. Craren, Esq., for tbe petitioner.

      John D. Kiley, Esq., for the respondent.
   OPINION.

Smith:

This proceeding involves a deficiency in petitioner’s income tax for the calendar year 1932 in the amount of $1,037.02. The only allegation of error is with respect to the respondent’s dis-allowance of a capital loss deduction of $4,891.87 claimed on the liquidation of a corporation of which the petitioner was a stockholder.

The petitioner in 1932 was the owner of 4,500 shares of the capital stock of the Lackawanna Securities Co., hereinafter referred to as the Securities Co., which he had held for more than two years and which had a cost basis to him of $169,716.12.

The Securities Co. was a Delaware corporation organized in 1927 by the Delaware, Lackawanna & Western Railroad Co., hereinafter referred to as the Railroad Co., to take over and hold $58,500,000 face value of first mortgage bonds of the Glen Alden Coal Co., which the Railroad Co. had received in part payment for certain coal lands purchased from it by the Glen Alden Coal Co. In exchange for these bonds the Securities Co. gave 844,411 shares of its own capital stock which were distributed pro rata to the stockholders of the Railroad Co.

The Securities Co. never owned any other assets than the Glen Alden Coal Co. bonds and the interest received thereon, and never engaged in any other business activities.

On June 30, 1932, a resolution was adopted by the board of directors of the Securities Co. providing for the liquidation of the Securities Co. and the distribution of its assets to its stockholders. The resolution provided for the pro rata distribution of the Glen Alden Coal Co. bonds to the stockholders of record at the close of business on July 25, 1932. It further provided for a distribution to the stockholders of scrip certificates for fractional units of bonds and other certificates entitling the stockholders to receive proportionate interests “in final liquidation distribution, if any, to the Company’s stockholders as of record at the close of business, July 25th, 1932.”

The liquidation and dissolution of the Securities Co. were approved by the stockholders at a meeting held August 2,1932. Thereafter, the company engaged in no activities except those in connection with its liquidation. Written notices were sent to the stockholders requesting them to send in their stock certificates on August 18, 1932, and informing them that the bonds and certificates would be available for distribution on that date.

The parties hereto have stipulated as follows:

On July 25, 1932, the Lackawanna Securities Company had outstanding 841,500 shares of capital stock; and the only property owned by it was the said $51,000,000 of bonds of Glen Alden Coal Company and $382,958.79 in cash representing accumulated interest and payments on account of principal of said bonds, which cash was reserved for use in paying taxes and other expenses and the costs of dissolving said corporation. It was estimated by the officers of the corporation at that time that after paying said taxes, expenses and costs of liquidation and dissolution, the balance remaining for distribution to the stockholders under the terms of said liquidation certificates would be 20 cents for each share of the stock surrendered, and that accordingly the value of the said certificates was 20 cents for each share with respect to which they were issued.
The aforesaid plan of liquidation and dissolution was duly carried out, and pursuant thereto the petitioner, Beekman Winthrop, on or about August 18, 1832, surrendered to said corporation the aforesaid 4500 shares of stock which had been held by him for more than two years, and on or about August 18, 1932, in exchange therefor received bonds of Glen Alden Coal Company and scrip certificates for a fractional interest therein, of the face amount of $272,727.27. The said bonds and participation certificates therein had a fair market value on August 18,1982, of $58.25 per $100 of face value thereof, a total fair market value of $158,863.64 for the obligations received by the petitioner. The accrued interest on said bonds at the time of their receipt by the petitioner on August 18, 1932, amounted to $5,060.61.
The petitioner on or about August 18,1932, received also a certificate showing that he had surrendered 4500 shares of said stock and was entitled to receive as a final liquidation distribution, if any, from said corporation his proportionate interest in such distribution. The petitioner and the officers of said corporation estimated that said liquidation certificate had a value at that time of 20 cents for each share of stock with respect to which it was issued, a total value of $900.00 for the certificate issued with respect to the petitioner’s said 4500 shares. A true specimen of the liquidation certificate issued to stockholders of said corporation with respect to their stock is hereto attached, marked “Exhibit A”, and made a part hereof.

Exhibit “A” reads as follows:

Lackawanna Securities Company
This is to certify that there have been surrendered to Treasurer of Lackawanna Securities Company certificates
Numbers Shares
of the capital stock of Lackawanna Securities Company registered as shown hereon, upon which the said registered holder is entitled to receive proportionate interest in final liquidation distribution, if any, to the company’s stockholders, as of record at the close of business, July 25th, 1932.
G. W. Wildey, Treasurer.

It is further stipulated:

The duly executed and attested consent in writing to the dissolution of the Lackawanna Securities Company, of more than two-thirds in interest of all the stockholders of said corporation, in the form required by the laws of Delaware, was forwarded by the officers of said corporation on December 31, 1932, to its fiscal agent in Delaware for filing in the office of the Secretary of State of the State of Delaware. The said consent was duly filed in the office of the Secretary of State of the State of Delaware on January 7, 1933, and on that date the said Secretary of State issued a certificate of the dissolution of said corporation. * * *
On January 30, 1984, a final distribution was made to the holders of said liquidation certificates of Lackawanna Securities Company of 20 cents for each share of stock with respect to which said certificates had been issued, a total distribution of $168,300.00 on said 841,500 shares, which was the only distribution made to said former stockholders after said distribution of August 18, 1932. The petitioner held his said liquidation certificate at all times until January 30, 1934, and on said distribution received $900.00 as his share thereof. The said distribution left a balance of cash of $6,043.24 in the bands of the corporation, which balance is arrived at as follows:
Cash balance December 31, 1932-$250, 509.21
Interest on deposits after December 31, 1932_ 720.30
$251,229. 51
Income, franchise and other taxes paid_$62,362.37 .
Salaries, directors’ fees, legal and miscellaneous expenses paid-$14,523,90
Final liquidation payment of 20 cents per share_ 168,300.00
- $245,186.27
Cash balance_ $6,043.24
The said cash balance of $6,043.24 will be used to pay such other and further expenses of the corporation as may arise, including the expenses of an equity receivership proceeding in Delaware to dispose finally of all assets held for delivery to stockholders who have not presented their stock certificates for redemption and cancellation. Since the said cash balance amounts to less than one cent for each of said $41,500 shares of stock, those in charge of the affairs of said corporation do not intend to make any further distributions on said stock.

The respondent first ruled in a letter dated January 28, 1933, addressed to the attorney for one of the stockholders of the Securities Co., that the liquidation of the Securities Co. took place in 1932, and that any losses sustained thereon by the stockholders should be taken in that year. In 1935 he issued G. C. M. 14207, Cumulative Bulletin XIV-1, p. 68, which reads in material part as follows:

The taxable year in which a loss is sustained by a stockholder due to liquidation of a corporation was considered by the Court of Claims in Dresser et al. v. United States (55 Fed. (2d), 499, C. B. 33-1, 267, certiorari denied, 287 U. S. 635). In that ease the stockholder contended that he had sustained a deductible loss at a time when the corporation had not disposed of all its assets and there was no proof of the value or lack of value thereof at that time, but the court held that the alleged loss was not at such time susceptible of determination since the stock was not without value. (Compare article 174, Regulations 77). The Revenue Act of 1918 which governed that case contains provisions for loss deductions substantially the same as the provisions of later Acts. The court said in that case:
“ * * * Losses are sustained within the meaning of the taxing Act when the events definitely occur which give rise thereto. * * * The statute allows the deduction of a loss when it has been sustained, and we think it is the clear purpose of the Act to allow the deduction in the year in which it may appear that the taxpayer has received from the property all that it is possible for Mm to receive. A stock loss is no different from a loss on any other property, and if a taxpayer acquires property at a certain cost which has not been disposed of he may not take a deduction from gross income as a loss of any amount merely because it may appear that when the property is finally disposed of he will receive less than what he paid for it. * * * Partial losses are not allowable as deductions from gross income so long as the stock has a value and has not been disposed of. Of course, where a corporation is in process of liquidation and there are assets of substantial value upon which large amounts may be realized by the liquidating trustees, a loss may be taken by the stockholder upon definite proof that outstanding liabilities and claims superior to those of the stockholder will more than absorb the maximum amount that can be received from the disposition of the assets, thereby leaving nothing for the stockholder. * * * But such a situation is just the reverse of the claim presented by the plantiffs in this case. * * *
The petition is dismissed. * * * [Italics supplied.]”
In that case it does not appear definitely whether the stock was surrendered or canceled or whether the stockholder received a participation certificate in lieu of his stock, but in the view taken by this office that factor is not conclusive. The stockholder who received bonds and a participation certificate in the instant case had a continuing interest which was not worthless and which was terminated either when the participation certificate was disposed of or when he received the final distribution in liquidation in 1934. At such time the stockholder sustained a loss if the total amount realized was less than the basis of his stock. Until then his “property” was not “disposed of”, and only then, did he receive from the property “all that it is possible for him to receive,” within the meaning of the decision in the Dresser ease. Only then was there a closed transaction. (Article 171, Regulations 77.) This result is not changed by the fact that the final distribution in liquidation was previously correctly estimated.

Section 28 (e) of the Revenue Act of 1932 provides in part as follows:

(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 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; * * *

Section 111 of the same act provides in part:

SEC. 111. DETERMINATION OF AMOUNT OF GAIN OR LOSS.
(b) Amount Realized.—The amount realized from the sale or other disposition of property shall be the sum of any money received plus the fail-market value of the property (other than money) received.

Section 115 provides in part:

(c) Distributions in Liquidation.'—Amounts distributed in complete liquidation of a corporation shall be treated as in full payment in exchange for the stock, and amounts distributed in partial liquidation of a corporation shall be treated as in part or full payment in exchange for the stock. The gain or loss to the distributee resulting from such exchange shall be determined under section 111, but shall be recognized only to the extent provided in section 112. * * *

The evidence shows that in 1932 the petitioner surrendered his shares of stock in the Securities Co. and received in exchange therefor bonds of the Glen Alden Coal Co. and a “liquidation” certificate evidencing his interest in the undistributed assets of the corporation. At the time he received the bonds and the liquidation certificate the Securities Co. had on hand cash in excess of $300,000. The officers of the corporation and the petitioner knew that on his liquidation certificate he would receive an additional distribution of approximately 20 cents per share. This is the amount that he actually did receive in 1934. The petitioner contends that he sustained a loss upon his investment in Securities Co. stock measured by the difference between the cost to him of the shares and the stipulated value of the Glen Alden Coal Co. bonds received, including accrued interest plus $900, the value of the liquidation certificate.

The taxing statute permits the deduction of losses sustained. Ordinarily, a deductible loss based upon an investment in the shares of stock of a corporation which is being liquidated must be determined upon the basis of a closed and completed transaction. In United States v. White Dental Manufacturing Co., 274 U. S. 398, the question before the Court was whether the taxpayer could deduct from its gross income of 1918 a claimed loss upon the ground that property had been seized by the German Government. The United States contended that the taxpayer had a claim against the German Government and might secure from it satisfaction for the property which had been seized. In its opinion the Court stated:

The case turns upon the question whether the loss, concededly sustained by the respondent through the seizure of the assets of the German company in 1918, was so evidenced by a closed transaction within the meaning of the quoted statute and treasury regulations as to authorize its deduction from gross income of that year. The statute obviously does not contemplate and the regulations (article 144) forbid the deduction of losses resulting from the mere fluctuation in value of property owned by the taxpayer. New York Ins. Co. v. Edwards, 271 U. S. 109, 116, 46 S. Ct. 436, 70 L. Ed. 859, cf. Miles v. Safe Deposit Co., 259 U. S. 247, 42 S. Ct. 483, 66 L. Ed. 923. But with equal certainty they do contemplate the deduction from gross income of losses, which are fixed by identifiable events, such as the sale of property (article 141, 144), or caused by its destruction or physical injury (article 141, 142, 143), or, in the case of debts, by the occurrence of such events as prevent their collection (article 151).

In Lucas v. American Code Co., 280 U. S. 445, 449, it was said: “The general requirement that losses be deducted in the year in which they are sustained calls for a practical, not a legal test.” Cf. Dayton Co. v. Commissioner, 90 Fed. (2d) 767.

For all practical purposes the petitioner’s shares of Securities Co. stock were completely liquidated in 1932, notwithstanding the withholding by the corporation of the cash necessary to liquidate its obligations, and the subsequent distribution of the small amount of 20 cents per share. The substantial liquidation of the Securities Co. made the loss sustained by the petitioner “reasonably certain in fact and ascertainable in amount”, Lucas v. American Code Co., supra, in 1932.

The facts in this case are different from those which obtained in Dresser v. United States, 55 Fed. (2d) 499, relied upon by the respondont in G. C. M. 14207, supra. The corporation involved in that case was not completely liquidated in 1919 and the Court of Claims found that the corporation had valuable intangible assets, the amount of which it was unable to determine.

The action of the respondent in disallowing the claimed loss deduction is reversed.

Reviewed by the Board.

Judgment will be entered under Rule 50.


author: Harron:

text:
    North American Utility Securities Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent. Armin A. Schlesinger, Petitioner, v. Commissioner of Internal Revenue, Respondent. Kathleen M. Schlesinger, Petitioner, v. Commissioner of Internal Revenue, Respondent. Mabel B. Smithers, Petitioner,
      v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 75039, 75960, 75961, 75900.

    Promulgated July 13, 1937.

      Edward II. Green, Esq., for the petitioners, Docket Nos. 75039, 75960, and 75961.

      Truman Henson, Esq.,

       for the petitioner, Docket No. 75900.

      Hartford Allen, Esq., and S. B. Anderson, Esq., for the respondent.

      Pursuant to Order of the Board entered Aug. 17, 1937, petition of Mabel B. Smithers, Docket No. 76900, is removed from consolidation with these proceedings and this report and decision is vacated with respect to Docket No. 75900.

   OPINION.

Harron:

In the petitions, Docket Nos. 75039, 75960, and 75961, the facts have been stipulated by the parties. Attached to the stipulation of facts and made part thereof are certain exhibits. We adopt the stipulation of facts with the appended exhibits as our findings of fact and incorporate them by reference. The petitioner and respondent in Docket No. 75900 have stipulated that the decision in the above petitions will control and be accepted as final.

The North American Utility Securities Corporation is a Maryland corporation with offices in New Jersey. In 1931 it owned 50,000 shares of the common stock of the Newport Co., which cost $1,155,252.64. The other petitioners are individuals who owned stock of the Newport Co. in 1931 as follows: Armin A. Schlesinger, president of the Newport Co., owned 48,789 shares of common stock, of which he had owned for over two years 43,005 shares which cost $606,265.76, and for less than two years he had owned 5,784 shares which cost $116,297.17. He also purchased in 1931, 600 additional. shares which cost $9,262.50; Kathleen M. Schlesinger was beneficiary of the A. A. Schlesinger trust and was entitled to two-thirds of the income of the trust. In 1931 the trust owned 41,463.6 shares of common stock which cost $595,886.07. Mabel B. Smithers owned 1,430 shares of common stock of which 1,200 shares costing $661.30 had been held for more than two years and 230 shares costing $5,679.79 had been held for less than two years.

The Newport Co., hereinafter referred to as “Newport”, in October 1931, had outstanding 32,945 shares of class A convertible stock of $50 par value and 519,347 shares of no par common stock. Newport stock was widely held.

Newport was a Delaware corporation. It was engaged in the dyestuffs and chemical business, which it carried on through wholly owned subsidiaries. It also carried on itself a wood distillate business through an operating division called the Wood Distillate Division. Newport owned all the capital stock of Newport Chemical Corporation, which owned property and carried on the dyestuffs and chemical manufacturing business and also owned all .the stock of four subsidiaries engaged in the chemical manufacturing business. The Newport Chemical Corporation will be referred to as “Chemical.”

Pursuant to an agreement dated July 31, 1931, amended August 13, 1931, made by Newport with E. I. du Pont de Nemours & Co., hereafter called “du Pont”, the dye and chemical business of Newport, carried on through Chemical, was conveyed to du Pont August 25,1931. Property, assets, and business of Chemical were exchanged for 103,500 shares of 6 percent nonvoting debenture stock of du Pont of a par value of $100 per share. Newport received 3,785 shares of the total du Pont stock directly from du Pont in exchange for all the outstanding stock of Chemical. Newport received from Chemical 99,715 shares of the du Pont stock and $459,366.24 cash, which was the consolidated net earnings and cash on hand and in banks of Chemical and its wholly owned subsidiaries. Chemical thereafter had no assets and Newport had du Pont stock and cash in return for the dye business it formerly owned. Chemical was dissolved in December 1931.

On September 1, 1931, the directors of Newport resolved to organize a new company for the purpose of taking over the wood distillate business and to thereafter dissolve Newport. Stockholders were notified of this entire plan September 5. Newport Industries, Inc., was organized and, effective September 28, the wood distillate business and property of Newport and $1,400,000 working capital consisting of cash and du Pont 6 percent debenture stock was transferred to Newport Industries in return for 519,347 shares of capital stock of Newport Industries. Effective October 3, the Newport Industries stock having a value of $8 per share was distributed as a dividend to the common stockholders of Newport on a share for share basis in accordance with the plan of reorganization. ■ Newport common stockholders did not surrender their Newport common stock. The respondent concedes that there was a reorganization effected by this transaction between Newport and Newport Industries, within section 112 (i) (1) (B) of the Revenue Act of 1928.

Dissolution of Newport was contemplated in the plan of reorganization and was formally approved by the stockholders October 23. Thereafter, the remaining assets of Newport, consisting of cash and du Pont debentures, were distributed to the stockholders as follows: Class A convertible stock was redeemed at $55 per share with accrued dividends; each common stockholder received 5 cents on each share of common, plus one share of du Pont stock for 6½ shares of common stock of Newport, fractional shares being paid for in cash at the rate of $107,125 per share of du Pont Debenture Stock (the net price realized for shares of such stock sold for that purpose on October 26, 1931) equal to $16,481 per share of the Newport Common Stock representing a fractional interest. The Newport Common stockholders surrendered their common stock on this distribution. Newport was dissolved October 26,1931.

The petitioners in this proceeding have treated the distribution of Newport Industries stock as a tax-free distribution under section 112 (g). (All references to statutory provisions herein refer to the Revenue Act of 1928.) They have treated the distribution of du Pont stock and cash as a distribution in liquidation under section 115 (c). Treating these distributions as two separate transactions they have computed gains and loss on an adjusted basis for the Newport stock, allocating the original cost of Newport common between Newport common and Newport Industries stock. (Art. 600, Regulations 74.) The respondent alleges error in this procedure and contends that there was a general plan of reorganization of Newport encompassing both the transfers of property and stock of its subsidiary, Chemical, to du Pont and the transfer of property to Newport Industries; that section 112 (g) is not applicable and that the exchange of Newport common stock was for the Newport Industries stock as well as du Pont stock and cash; and that since section 115 (c) is limited by section 112, section 112 (e) is applicable and no loss may be allowed in Docket No. 75039, and that the distribution of Newport Industries stock comes under the provisions of section 112 (b) (3) notwithstanding that the certificates of common stock of Newport were not surrendered, so that gain or loss on the entire series of distributions should be recognized only to the extent provided in sections 112 (b) (3), (c) (1) and (e). -*

Section 112 (g) and its counterparts were contained in the statute from the Revenue Act of 1924 until omitted by the Revenue Act of 1934. Section 115 (c) in its present form also appeared for the first time in the Revenue Act of 1924 (section 201 (c)). The interrelation of these two sections has been considered in several cases and the respondent here does not seem to advance any theory of recovery which has not been considered before. See James M. Harrison, 30 B. T. A. 966 Rudolph Boehringer, 29 B. T. A. 8; Gross v. Commissioner, 88 Fed. (2d) 567.

The distribution of Newport Industries stock is conceded to have been pursuant to the plan of reorganization and at the time of that distribution there was no surrender by the stockholders of their old stock or any agreement to surrender it at any time in the future. The fact that their old stock was not surrendered brings this transaction squarely within the terms of section 112 (g) and has been emphasized as a controlling factor in the Boehringer case and the Gross case, supra. This distribution taken alone is clearly governed by section 112 (g). The respondent argues that this distribution can not b'eh considered alone, but must be considered as a step in a single transaction which includes the second distribution. We find no authority which requires this result in the situation before us. The distributions were earned out as separate transactions and each transaction specifically falls within separate sections of the statute. We see no compelling reason for disregarding what was actually done when it was apparently done in good faith for the purpose of obtaining the benefits clearly conferred by the separate provisions of the statute. We find no authority for holding that section 112 (g) is not applicable where a reorganization is part of a plan of liquidation. Part of the business in which these petitioners had invested was continued by virtue of the reorganization and their beneficial interest in that business was continued by their receipt of stock in the new company. “When stock or property is manipulated through corporate organizations but there is no substantial change in the ultimate beneficial ownership, gain and loss is not considered to be realized, because there is not a real sale, and the investment is only continued in an altered form until some later conversion occurs.” Gross v. Commissioner, supra.

The Newport Co. disposed of its chemical and dye business by transfer of properties of Chemical to du Pont for stock. This left it with a wood distillate business. By reorganization of Newport with Newport Industries the interest of the common stockholders of Newport was continued in the wood distillate business. The stockholders consented to transfer to Newport Industries du Pont stock and cash amounting to $1,400,000 along with the operating assets to be used in the wood distillate business. Their interest continued in all of these assets transferred. All that remained in Newport was a residue of cash and du Pont stock and that is all that the Newport Common stock attached to as evidences of ownership. Distribution of this residue of cash and stock to Newport common stockholders in our opinion was not pursuant to a reorganization but was rather pursuant to a liquidation of what was left after a reorganization had been completed.

That the two distributions should constitute one is the keystone of the respondent’s argument and with it falls his whole case. Since they were separate distributions and separate transactions there was no “exchange” of stock in the Newport Co. for stock of Newport Industries, Inc. There was no surrender of the former in return for the distribution of the latter, and such an “exchange” is necessary to the application of sections 112 (b) (3), (c) (1), and (e) for which respondent is contending. Furthermore, since the two distributions are separate transactions it is immaterial that the first distribution may have been in liquidation as well as pursuant to a reorganization, because the liquidation section (115 (c)) is expressly limited by the reorganization provisions (section 112) and therefore section 112 (g) would apply under the specific terms of both sections. This is clearly held by the decision of the Circuit Court of Appeals for the Fifth Circuit in Gross v. Commissioner, supra. There the Commissioner contended that a certain distribution of stock pursuant to a reorganizataion was a liquidating dividend and therefore taxable under section 115 (c) and the court held:

But Sec. 115 (e) itself says that the gain or loss “shall be recognized only to the extent provided in Sec. 112.” We find in See. 112 (g) this provision: “If there is distributed in pursuance of a plan of reorganization to a shareholder in a corporation a party to a reorganization stock or securities in such corporation or in another corporation a party to the reorganization without the surrender by such shareholder of stock or securities in such corporation, no gain to the distributee from the receipt of the stock or securities shall be recognized.” Gross did not surrender his old stock for the new. The new stock did come to him in pursuance of and by the express provisions of the transaction between Tampa Box Company and the new corporation, and if in that transaction each of those corporations was a party to a reorganization no gain is to be recognized as accruing to him. [Italics supplied by the court.]

Thus, in the Gross case, even though the distribution was in liquidation as were later distributions in the same case, section 112 (g) was held to govern because of the specific limitation of section 115 (c) by the provisions of section 112. The identical reasoning is applicable in the case at bar and is controlling.

The respondent’s determination is disapproved. The petitioners have properly allocated the basis of Newport stock under Regulation 74, article 600. There is no dispute as to the cost of the Newport stock to the petitioners, the value of the Newport Industries stock, or the du Pont stock. Therefore decision should be entered as follows:

Reviewed by the Board.

In Docket Nos. 75900, 75961, and 75039 decision will he entered for the petitioners. In Docket No. 75960 decision will he entered under Rule 50.

        Revenue Act of 1928—
      SEC. 115. DISTRIBUTIONS BY CORPORATIONS.
      *******
      (c) Distributions in liquidation.—Amounts distributed in complete liquidation of a corporation shall be treated as in full payment in exchange for the stock, and amounts distributed in partial liquidation of a corporation shall be treated as in part or full payment in exchange for the stock. The gain or loss of the distributee resulting from such exchange shall be determined under section 111, but shall be recognized only to the extent provided in section 112. In the case of amounts distributed in partial liquidation (other than a distribution within the provisions of section 112 (h) of stock or securities in connection with a reorganization) the part of such distribution which is properly chargeable to capital account shall not be considered a distribution of earnings or profits within the meaning of subsection (b) of this section for the purpose of determining the taxability of subsequent distributions by the corporation.
      SEC. 112. RECOGNITION OF GAIN OR LOSS.
      (a) General rule.—Upon the sale or exchange of property the entire amount of the gain or loss, determined under section 111, shall be recognized, except as hereinafter provided in this section.
      (b) Exchanges solely in hind.-—

      (3) Stock foe stock on reorganization.—No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization.

        (c) Gain from exchanges not solely in hind.—
      (1) If an exchange would be within the provisions of subsection (b) (1), (2), (3), or (5) of this section if it were not for the fact that the property received in exchange consists not only of property permitted by such paragraph to he received without the recognition of gain, but also of other property or money, then the gain, if any, to the recipient shall be recognized, but in an amount not in excess of the sum of such money and the fair market value of such other property.

      (e) Loss from exchanges not solely in hind.—If an exchange would be within the provisions of subsection (b) (1) to (5), inclusive, of this section if it were not for the fact that the property received in exchange consists not only of property permitted by such paragraph to be received without the recognition of gain or loss, but also of other property or money, then no loss from the exchange shall be recognized.

      (g) Distribution of stools on reorganization.—If there is distributed, in pursuance of a plan of reorganization, to a shareholder in a corporation a party to the reorganization, stock or securities in such corporation or in another corporation a party to the reorganization, without the surrender by such shareholder of stock or securities in such a corporation, no gain to the distributee from the receipt of such stock or securities shall be recognized.

      (i) Definition of reorganization.—As used in this section and sections 113 and 115—
      (1) The term “reorganization” means * * *, or (B) a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its stockholders or both are in control of the corporation to which the assets are transferred, * * *.

       Sec. 203 (e), Revenue Acts of 1924 and 1926; sec. 112 (g), Revenue Acts of 1928 and 1932.


text:
    Max H. Stryker, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 82516.
    Promulgated July 13, 1937.

      John E. Smart, C. P. A., for the petitioner.

      W. Frank Gibbs, Esq., for the respondent.
   OPINION.

Murdock:

The petitioner and two others entered into a partnership on February 1, 1931. The partnership was known as the First Rational Institute of Violin. The partnership opened and regularly kept a set of books of account on the basis of a fiscal year ending January 31. The books of a partnership are not for income tax purposes the books of the individual taxpayers making up the partnership. Fred B. Drake, 1 B. T. A. 1235. The petitioner reported his income on the cash receipts and disbursements calendar year basis. His only records were check stubs, rent receipts, and dividend statements. Such informal records are not regular books of account. H. L. Scales, 10 B. T. A. 1024. They are not “books” within the meaning of that term as used in section 41 of the Revenue Act of 1932.

The first fiscal year of the partnership ended on January 31, 1932. Thus the petitioner was required to report his distributive share of the partnership income for that period in his income tax return for the calendar year 1932. Sec. 182 (a), Revenue Act of 1928. He wanted to find some way to report his partnership income more promptly after the close of the partnership year. He was advised to apply for permission to use a fiscal year coinciding with that of the partnership. He asked and was granted permission to make the change beginning in 1933. The result was a peculiar hardship on the taxpayer because of the effect of section 47. He then filed an amended return on the calendar year basis.

The permission to change to a fiscal year was apparently granted under the misapprehension that the petitioner kept books of account and would make the necessary change in those books. O. D. 941, 4 C. B. 71. Section 41 states the general rule in regard to accounting periods and methods of accounting. It is as follows:

The net income shall he computed upon the basis of the taxpayer’s annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer; but if no such method of accounting has been so employed, or if the method employed does not clearly reflect the income, the computation shall be made in accordance with such method as in the opinion of the Commissioner does clearly reflect the income. If the taxpayer’s annual accounting period is other than a fiscal year as defined in section 48 or if the taxpayer has no annual accounting period or does not keep books, the net income shall be computed on the basis of the calendar year.

If no regular books of account are kept, the calendar year must be used as the basis of reporting income. Cf. Brooklyn City Railroad Co., 27 B. T. A. 77; affd., 72 Fed. (2d) 274; Mary Katherine Dulin, 25 B. T. A. 1259; affd., on this point, 70 Fed. (2d) 828. Informal records are not sufficient justification for the use of a fiscal year. The Commissioner could not, if he would, authorize violation of the statutory provision that if the taxpayer does not keep books the net income shall be computed on the basis of the calendar year. Cf. Duriron Co., 18 B. T. A. 554. He does not contend to the contrary.

This taxpayer kept no books and was required by statute to report on a calendar year basis. Consequently, the one month was not a taxable year and there could be no deficiency for that period. Cases such as George M. Cohan, 11 B. T. A. 743; reversed on other points, 39 Fed. (2d) 540, and James H. Silcox, 12 B. T. A. 748, in which books were kept, are not in point.

Decision will be entered for the petitioner.


author: Sternhagen:

text:
    Southern California Freight Lines, Ltd., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 82255.
    Promulgated July 14, 1937.

      Henry J. Bischoff, Esq., for the petitioner.

      Edward A. Tonjes, Esq., for the respondent.
   OPINION.

Sternhagen:

The Commissioner readjusted the petitioner’s deduction for depreciation, reducing it from $55,412.82 taken on the return, to $19,698.09. The Commissioner’s computation is based on an assumed remaining useful life of five years on all equipment acquired secondhand and an assumed useful life of seven and one-half years on all equipment acquired new. The petitioner assails this determination as arbitrary and, therefore, to be set aside. But it is not arbitrary—rather may it be called formulaic—and he who attacks it must do so with something shown to be more consonant with fact and experience. An estimate of a superintendent is not enough until it is fortified by evidence of actual performance to show that in fact the estimate has in the past been in conformity with experience. Washburn Wire Co. v. Commissioner, 67 Fed. (2d) 658. In Cleveland Home Brewing Co., 1 B. T. A. 87, where the Commissioner sought to readjust invested capital by the use of an arbitrary straight line basis of depreciation shown to be inconsistent with 11 years of experience, his determination was rejected as arbitrary.

In this proceeding, however, it can not be said from the evidence that the Commissioner’s method is arbitrary or reaches an unreasonable allowance for the year in question. It is shown only that the result is at variance with the judgment of petitioner’s superintendent. Respectable as that judgment may be—and the witness appeared to be well qualified to form a useful judgment—it is still no more than a judgment and an estimate based upon a different method rather than upon evidence of actual performance. Apparently in 1932 estimates were principally based on prophecy, and in subsequent years retirements were not made in accordance with the prophecy. This is- not enough to overthrow the Commissioner’s determination.

There is no need here to say whether the petitioner’s mileage depreciation on trucks is proper. It may be assumed that when petitioner’s experience is sufficient to demonstrate its conformity to actual performance it will not be lightly or arbitrarily disapproved. But the demonstration is lacking in this record.

The Commissioner has used two composite rates on a variety of equipment; and in such a situation the Board has said in Union Co., 14 B. T. A. 1310, 1313:

In attacking a composite rate of depreciation it is not sufficient that the petitioner may be able to pick out certain parts and prove that if such parts were considered separately a greater depreciation rate should be allowed. The composite rate is based upon an average life for all of the parts and until error in the average is shown there is no basis upon which it can be said that the amount allowed is not reasonable.

Judgment will be entered under Rule 50.