author: Aeundell :

text:
    O. G. Richter, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 92208.
    Promulgated March 19, 1942.

      Douglas L. Hatch, Esq., for the petitioner.

      John W. Smith, Esq., for the respondent.
   OPINION.

Aeundell :

This proceeding is here under mandate of the Circuit Court of Appeals for the Third Circuit, as directed by the Supreme Court that we determine whether income of the trust created by petitioner on December 29,1930, is taxable to petitioner under section 22 (a) of the Revenue Act of 1934 in the light of Helvering v. Clifford, 309 U. S. 331.

We are of the opinion that the instant case can not be validly distinguished from Helvering v. Clifford, supra, in which the Supreme Court held that the grantor of a short term trust in favor of the grantor’s wife was taxable on the income of the trust on the ground that he remained substantially the owner of the trust corpus. There the trust was for a term of five years, the grantor was sole trustee, and extremely broad powers of control over the trust corpus were vested in the grantor. The trust here under consideration was of short duration, was in favor of petitioner’s wife, and might be revoked by petitioner with the written consent of his wife. The fact that a trust company rather than petitioner was trustee is not sufficient to take the case out of the ambit of the Clifford case. Commissioner v. Buck, 120 Fed. (2d) 775; Sterling Morton, 45 B. T. A. 771.

The trust here differs from the one considered in the Clifford case in another respect, in that petitioner retained and exercised no control over the trust during its existence. We believe, however, that the short term of the trust (approximately five and one-half years) and the close family relationship of petitioner and the beneficiary are sufficient to cause the trust income to be taxed to petitioner under section 22 (a). A like interpretation of substantially similar facts was made by the Circuit Court of Appeals for the Second Circuit in Commissioner v. Barbour, 122 Fed. (2d) 165, and Helvering v. Elias, 122 Fed. (2d) 171. See also Ellis H. Warren, 45 B. T. A. 379, 385, in which we stated that “In the case of a family trust of short duration, where the corpus of the trust is to return to the grantor upon the expiration of a few years, the degree of control held by the grantor is unimportant.” In any event, it should be noted that petitioner here had a measure of control over the trust by virtue of his-relationship to the beneficiary and his reserved right to terminate the trust upon her written consent.

Because of computation necessary to reflect the allowance, pursuant to stipulation, of a credit for foreign taxes paid by petitioner in the sum of $112.50,

Decision will be entered under Bule 50.


source: Caselaw Access Project

author: Black :

license: Public Domain

text:
    George C. Woodruff, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 104024.
    Promulgated March 20, 1942.

      John E. McClure, Esq., for the petitioner.

      F. L. Van Haaften, Esq., for the respondent.
   OPINION.

Black :

In addition to the facts set forth in our findings, petitioner has requested that the Board specifically make three findings as follows:

19. The taxpayer disposed of Ms Coca-Cola International stock upon a sale or exchange thereof, as such term is used in section 112 (a) of the Revenue Act of 1934.

20. There was no distribution of assets in partial liquidation by Coca-Cola International Corporation, as that term is used in section 115 (i) of the Revenue Act of 1934.

21. The exchange of International stock for Coca-Cola stock land the immediate delivery of the latter to close out the short sale constituted a single transaction resulting in a sale or exchange of International stock.

To state these three requested findings is, likewise, to state the three points of petitioner’s argument. They are the same. For reasons which we shall presently state, we are unable to make the three special findings requested by petitioner.

Prior to and during each of the taxable years 1934 and 1935 petitioner made certain short sales of both common and class A stocks of Coca-Cola. At the outset it should be noted that these short sales were of Coca-Cola stocks and not of International stocks. For income tax purposes, a short sale is not deemed to be consummated until delivery of property to cover the short sale. See article 117-6 of respondent’s Regulations 86, set out in the margin. How did petitioner cover his short sales of Coca-Cola stocks ? He took some International stocks that he owned and delivered them, not to the short sale purchasers, but to International, and, in accordance with the irrevocable resolutions of the board of directors and stockholders of International dated February 9,1926, February 13,1926, and February 5,1929, International delivered to petitioner for his International stocks twice the number of shares of Coca-Cola stocks, which latter stocks (with the exception of 45 shares of Coca-Cola common received by petitioner on the exchange of 135 shares of International common on April 17, 1935) petitioner delivered to the short sale purchasers to close out his short position. The shares of International which petitioner delivered to International were, in accordance with the resolutions just referred to, permanently retired by International, The fair market value of the shares of Coca-Cola stocks thus received by petitioner for his Internationa] stocks represented “amounts distributed in partial liquidation” of International as that term is used in section 115 (c) and defined in section 115 (i) of the Revenue Act of 1934. L. B. Coley, 45 B. T. A. 405; Gus T. Dodd, 46 B. T. A. 7; Estate of Emanuel Ulman, 46 B. T. A. 517. Cf. Diamond Alkali Co. v. Driscoll, 125 Fed. (2d) 1005.

Petitioner emphasizes the fact that it has been stipulated that petitioner exchanged his International stocks with International for twice the number of shares of Coca-Cola stocks “for the purpose of using the latter stocks to close out his short position” and that the exchange and covering occurred on the same date. He contends that because of this fact the delivery of International stocks to International for Coca-Cola stocks should not be treated as a separate transaction, but that in substance there was only one transaction, namely, a sale of International stocks for cash. In support of this contention petitioner cites and relies upon the same line of cases that the peti tioners in the Dodd and TJVman proceedings relied upon. In those cases we held that the exchange of International stock with International for Coca-Cola stock was one of the material facts in those cases and that it could not be disregarded. To disregard the exchange would be to treat it as if it did not occur when in fact the International stocks were turned in to International and by it retired, the petitioner receiving in place of his International stocks twice the number of shares of Coca-Cola stocks. We think such a turning in of International stocks to International for Coca-Cola stocks and a retirement of such International stocks in accordance with the resolutions above mentioned plainly amounts to a distribution in partial liquidation of International. If we were to hold otherwise, there never would be a distribution in partial liquidation of International with respect to the International stocks so turned in, for such stocks were, under the resolutions, to be permanently retired. Certainly there could never be a distribution in partial liquidation of International as far as the purchasers of the short sales were concerned, for they never had International stocks delivered to them, but received that which they purchased, namely, Coca-Cola stocks. We hold, therefore, as we held in the Dodd and Ulman cases, that the exchange of International stocks with International for Coca-Cola stocks can not be disregarded and that there resulted a distribution to petitioner of Coca-Cola stocks in partial liquidation of International. Section 115 (c), supra, provides how amounts distributed in partial liquidation of a corporation shall be treated. Under this section, which we regard as mandatory, we think the respondent was correct in determining that 100 percent of the gains of $197,428.78 and $150,617.55 for the years 1934 and 1935, respectively, should be taken into account in computing net income.

On the same day that petitioner received the Coca-Cola stocks in partial liquidation of International, he used all of such stocks (with the exception of the 45 shares of Coca-Cola common above mentioned) to close out his short position. The respondent determined that on this second transaction petitioner sustained losses of $70,944.71 and $72,020.82, for 1934 and 1935, respectively. The respondent has allowed 100 percent of these losses to be taken into account in computing net income under section 117 of the Revenue Act of 1934, the material provisions of which are as follows:

(a) General Rule. — In the case of a taxpayer, other than a corporation, only the following percentages of the gain or loss recognized upon the sale or exchange of a capital asset shall be taken into account in computing net income:
100 per centum if the capital asset has been held for not more than 1 year;
* * # * * # *
(d) Limitation on Capital Losses. — Losses from sales or exchanges of capital assets shall be allowed only* to the extent of $2,000 plus the gains from such sales or exchanges. * * *
(e) Gains and Losses ebom Short Sales, Etc. — For the purpose of this title—
(1) gains or losses from short sales of property shall be considered as gains or losses from sales or exchanges of capital assets; * * *.

The net results of the two transactions, therefore, are gains of $126,484.07 and $78,596.73 for 1934 and 1935, respectively, 100 percent of which the respondent has taken into account in computing petitioner’s net income. We hold that the respondent has arrived at the correct tax consequences and that his determination should be approved. Gus T. Dodd, supra; Estate of Emanuel Ulman, supra. Inasmuch as the other adjustments made by the. Commissioner in the deficiency notice are not contested,

Decision.will entered for the respondent.

      Art. 417 — 6. Gains and losses from short sales. — For income tax purposes, a short sale is not deemed to be consummated until delivery of property to cover the short sale, and the percentage of the recognized gain or loss to be taken into account under section 117 (a) from a short sale shall be computed according to the period for which the property so delivered was held. Thus, if a taxpayer made a short sale of shares of stock and covered the short sale by purchasing and delivering shares which he held for not more than one year, 100 per cent of the recognized gain or loss would be taken into account under section 117 (a), even though he had on hand other shares of the same stock which he held for more than one year. If, however, he covered the short sale by delivering shares which he held for more than one year but not for more than two years, only 80 per cent of the recognized gain or loss would be taken into account. If the short sale is made through a broker and the broker borrows property to make delivery, the short sale is not deemed to be consummated until the obligation of the seller created by the short sale is finally discharged by delivery .of property to .the broker to replace the property borrowed by the broker.

         SEC. 115. DISTRIBUTIONS BX CORPORATIONS.
      *******
      (e) 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. Despite the provisions of section 117 (a), 100 per centum of the gain so recognized shall be taken into account in computing net income. * * *
      * * * * * * *
      (i) Definition of Partial Liquidation. — As used in this section the term “amounts distributed in partial liquidation” means a distribution by a corporation in complete cancellation or redemption of a part of its stock, or one of a series of distributions in complete cancellation or redemption of all or a portion of its stock.

         See footnote 2 in Estate of Emanuel Ulmans supra.


author: Aeundeul :

text:
    General Management Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 106487.
    Promulgated March 24, 1942.

      Harry Thom, Esq., and B. A. Bagir, Esq., for the petitioner.

      G. W. Brooks, Esq., for the respondent.

       SEC. 402. nEFINITION OP PERSONAL HOLDING COMPANY.
      (a) General Rule. — Por the purposes of this title, and Title I, the term “personal bolding company” means any corporation if—
      (1) Gross income requirement. — At least 80 per centum of its gross income for the taxable year is personal holding company income as defined in section 403 ; but if the corporation is a personal holding company ■with respect to any taxable year beginning after December 31, 1936, then, for each subsequent taxable year, the minimum percentage shall be 70 per centum in lieu of 80 per centum, until a taxable year during the whole of the last half of which the stock ownership required by paragraph (2) does not exist, or until the expiration of three consecutive taxable years in each of which less than 70 per centum of the gross income is personal holding company income; and
      (2) Stock ownership requirement. — At any time during the last half of the taxable year more than 50 per centum in value of its outstanding stock is owned, directly or indirectly, by or for not more than five individuals.

   OPINION.

Aeundeul :

The only issue before us is whether or not petitioner was a personal holding company in the taxable year within the purview of section 402 of the Revenue Act of 1938. Another issue relating to the deduction of personal property taxes, which was raised by the pleadings, was abandoned by petitioner at the hearing.

There is no dispute concerning the ownership of stock of petitioner. During the taxable year petitioner’s entire outstanding stock was owned by three individuals. The stock ownership requirement of section 402 (a) is therefore met and petitioner must be deemed to be a personal holding company unless it has proved that less than the statutory percentage of its gross income in the taxable year was personal holding company income. It is clear that if 80 percent of petitioner’s gross income consists of personal holding company income, petitioner is a personal holding company.

The amount of petitioner’s gross income for the taxable year has been vigorously disputed by petitioner and respondent. Eespondent contends that the sum of $48,162.31, the amount shown as gross income on petitioner’s income and excess profits tax return for the taxable year, is the gross income of petitioner for the taxable year. Petitioner argues that the amount reported on the return must be increased by certain amounts which petitioner erroneously excluded from gross income. We have found as a fact that petitioner’s gross income for the taxable year aggregated $60,839.43. Petitioner claims that two of the items comprising the gross income of petitioner, namely, the sum of $24,000 accrued under the United contract and the sum of $10,398.42 accrued under the Magill contract, were not personal holding company income as defined by section 403 of the Eevenue Act of 1938. Eespondent argues that these amounts were received from personal service contracts as defined by section 403 (e) of the Eevenue Act of 1938. Since the sum of these two amounts exceeds 50 percent of petitioner’s gross income for the taxable year, we shall examine each of these items to determine whether either comes within the. statutory definition of personal holding company income.

We are of the opinion that the amounts accrued by petitioner for services rendered under the United contract constitute personal holding company income. Section 403 (e) provides that amounts received under contracts to furnish personal service are personal holding company income where some person other than the taxpayer corporation has the right to designate, by name or description, the individual who is to perform the services or where the individual who is to perform the services is designated by name or description in the contract. This provision applies only where the individual who may be or is so designated owns 25 percent or more of the outstanding stock of the taxpayer corporation. Gillam owned more than 25 percent of the stock of petitioner and was specifically designated in the contract between petitioner and United, dated February 11, 1987, as a person to perform personal services. That contract provided that the compensation of $2,000 per month should include the services of Gillam as comptroller, that Gillam as comptroller should continue to supervise the fiscal operations of United, and that “In the event that the said Grant Gillam shall die or shall become incapacitated to such extent as to make it impossible for him to continue as Comptroller of the Corporation and the Company is within three months thereafter unable to supply an individual for Comptroller who is acceptable to the Corporation, this agreement may, at the option of the Corporation, be terminated.”

While the contract provides that petitioner furnish monthly statements to United, prepare budgets, and submit suggestions for improvement of United’s profit and financial position, the record leaves us in no doubt that the person for whose services United was paying so large a sum was Gillam. In spite of the testimony of the secretary-treasurer of petitioner to the effect that a large portion of the services furnished by petitioner was not performed by Gillam, we believe that his services were the important ones so far as United was concerned. Gillam, together with his sister, who was not active in petitioner’s operation, owned 90 percent of petitioner’s stock during the taxable year. He received a salary of $25,000 a year from petitioner, whereas the total of all other salaries paid by petitioner in the taxable year, including those paid to petitioner’s • other officers, was $12,520.94. The wide disparity between Gillam’s and the others’ salaries, the fact that Gillam’s services as comptroller are specifically designated in the United contract, and the provision of the United contract allowing termination of the contract by United in the event of Gillam’s death and the failure of petitioner to find another individual satisfactory to United, are clearly indicative that United entered into the contract so that it might receive Gillam’s services. We hold that the United contract was a personal service contract within the meaning of section 403 (e) and that amounts accrued thereunder in the taxable year constitute personal holding company income.

The evidence as to the nature of the Magill contract leads us to the conclusion that the income received thereunder is not personal holding company income within the meaning of the statute. But the determination of this point in petitioner’s favor still leaves more than 80 percent in what the statute defines as personal holding company income. The items of interest in the sum of $1,091.57, capital gains in the sum of $14,931, dividends in the sum of $6,223, directors’ fees in the sum of $450, and amounts received on final liquidation of the Chicago Armored Car Co. in the sum of $3,745.44 are of the types of personal holding company income enumerated in section 403 of the Revenue Act of 1938, and petitioner made no claim in its briefs to the contrary. The sum of these amounts and that received by petitioner under the United contract aggregates $50,441.01, or 82.85+ percent of the total gross income of petitioner. Petitioner, therefore, was a personal holding company in the taxable year.

Petitioner contends, however, that its gross income for the taxable year includes the sum of $3,417.59 which, it claims, constitutes reimbursement for services and facilities furnished by petitioner to the syndicate in accordance with an agreement between petitioner, the syndicate, and Earl Lowe. Petitioner argues that a reimbursement for the use of facilities has been held to be gross income by us in the cases of Kresge Department Stores, Inc., 44 B. T. A. 1210, and Andrew Jergens Co., 40 B. T. A. 868.

The record discloses that petitioner did not stand to gain, directly or indirectly, from the arrangement for Lowe’s services. The agreement, the entries in petitioner’s books, and the deduction of the syndicate’s 76 percent of the consolidation expenses on the syndicate’s 1938 return indicate that the traveling expenses, rent, salary, and financial expenses, aggregating $3,417.59, were the expenses of the syndicate. As the presiding Member indicated at the hearing, petitioner has attempted to rewrite its books in the light of the later knowledge that a deficiency has been determined. We are of the opinion that there is no justification for such rewriting. The manner in which the petitioner and the syndicate handled these entries would seem to be entirely consonant with the understanding of the parties. Mere advances partake of the nature of loans and the amounts received in reimbursement therefor are not includible in gross income. Charles M. Howell, Administrator, 21 B. T. A. 757. Indeed, if we had here the question of a tax on gross income, we doubt if anyone would seriously contend that the reimbursement- of these items would fall within that category.

Nor do we think Andrew Jergens Co. and Kresge Department Stores, Inc., supra, compel a contrary treatment. In the former case, Jergens’ wholly owned subsidiary employed the parent company to manufacture various products in the plant of the parent company and with the latter’s personnel. For this work it paid the amount agreed upon. It is true that the amount to be paid was based on an allocation of cost, but it nevertheless appeared that the payment was for the performance of work done by the Jergens Co. In the Kresge case the taxpayer corporation acted as a purchasing agent for various companies and in the performance thereof used its own staff and did the job in its own way. In each of the cited cases the fact that the taxpayer rendering the services was not directly to profit was not thought determinative. What the taxpayer received, however, was for services rendered by it. Moreover, in both the Jergens and Kresge cases it was found that the taxpayer received certain indirect benefits by their undertakings.

This does not appear to be true here. The profit was to go to the Gillam Syndicate and to Lowe and none was to go to petitioner. Mb doubt the reason that petitioner does not share in the profits is the fact that it performs none of the work on the so-called “consolidation deals.” As substantially the same interests appear in the syndicate and in petitioner, if it had been desirable for petitioner to become a party to this particular work it would no doubt have been so arranged. But the parties have always been careful to keep the activities of the syndicate and those of petitioner separate. Thus it must remain.

Even should we accept petitioner’s general theory that what we have here is a reimbursement of expenses that should be treated as gross income, it does not follow that such income is of a nonpersonal holding company type. Mine hundred and twelve dollars was for rent. Section 403 (g) of the Revenue Act of 1938 contains a new subsection which provides that rents, unless they constitute 50 percent or more of gross income, are personal holding company income. “Rents” for the purpose of section 403 (g) means “compensation, however designated, for the use of, or right to use, property * * Thus this part of the reimbursement only serves to increase petitioner’s personal holding company income. A small item of $118.56 is listed without explanation other than the designation on the books “financial.” We can not, in the circumstances here, on a rewriting of the books treat this small amount as not being personal holding company income. The sum of the amounts received under the Ma-gill contract, $10,398.42 and $2,387.03 (the amount of $3,417.59 reduced by the amount of rent, $912, and the amount referred to as financial expense, $118.56) constitutes less than 20 percent of petitioner’s gross income for the taxable year. Thus even should we treat the so-called reimbursement for salaries and expenses as income of a nonpersonal holding company character, it would be found by mathematical calculation that over 80 percent of petitioner’s income falls within the statutory definition of personal holding company income.

Petitioner has not shown that its failure to file a personal holding company return was due to reasonable cause and not due to willful neglect. Respondent’s determination of a 25 percent penalty for petitioner’s failure to file a personal holding company return is accordingly sustained.

It is never quite satisfactory to decide a case of this character without the testimony of the most important witness, namely, Gillam, or the testimony of officers of the companies with whom the petitioner made its contracts. In this case it was petitioner’s burden. The testimony offered fails to satisfy us that less than 80 percent of petitioner’s income was of a personal holding company nature as defined in the statute. It follows that respondent must be sustained.

Decision will T>e entered wnder Rule SO.

         (e) Personal Service Contracts. — (1) Amounts received under a contract under which the corporation is to furnish personal services; if some person other than the corporation has the right to designate (by name or by description) the individual who is to perform the services, or if the individual who is to perform the services is designated (by name or by description) in the contract; and (2) amounts received from the sale or other disposition of such a contract. This subsection shall apply with respect to amounts received for services under a particular contract only if at some time during the taxable year 25 per centum or more in value of the outstanding stock of the corporation is owned, directly or indirectly, by or for the individual who has performed, is to perform, or may be designated (by name or by description) as the one to perform, such services,


author: Smith:

text:
    Estate of Robert W. Harwood, Richardson Harwood and the New England Trust Company, Executors, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105753.
    Promulgated March 25, 1942.

      Joseph N. Welch, Esq., for the petitioners.

      Martm M. Lore, Esq., for the respondent.
   OPINION.

Smith:

The respondent has determined that the income of the estate of Blanche G. Harwood is taxable to the petitioners’ decedent as an individual during the year 1938 and is not taxable to the estate as an entity. Two arguments are advanced to support this determination. In the first place, the respondent contends that as a matter of fact the estate was no longer in the process of administration during the taxable year and therefore it is not entitled to recognition as a separate taxable entity. In the second place, it is argued that since the decedent was the sole executor and the sole residuary legatee and all specific legacies and substantially all debts of the estate of Blanche G. Harwood had been paid prior to the taxable year, the decedent, Eobert W. Harwood, was the substantial owner of the property comprising the estate, and that the income from that property is therefore taxable to him under section 22 (a) of the Revenue Act of 1938.

The evidence is clear and convincing to the effect that the estate in question was actually in process off administration during the taxable year. There was nothing arbitrary or capricious in the action of petitioners’ decedent in continuing the administration of the estate during 1938. The executor on behalf of the estate was conducting a litigation against the Federal tax collector, which suit was not settled until June 1938 and not officially dismissed until October 1938. The controversy was bona fide in every respect and within a few months, after its termination the most substantial assets of the estate were distributed to Robert W. Harwood, the legatee. In his individual income tax return for 1938 Robert W. Harwood reported all income received from the property after the distribution. The action of the petitioners’ decedent was in good faith and under all the circumstances was entirely prudent and reasonable. It has repeatedly been held that under such circumstances the estate is still in process of administration and must be recognized as a separate taxable entity. J. H. Anderson, 30 B. T. A. 1275; Garrett J. Donnelly et al., Executors, 31 B. T. A. 577; First National Bank of Birmingham, Guardian, 31 B. T. A. 847; Ida Stephenson, 33 B. T. A. 252; Whitaker v. United States (U. S. Dist. Ct., Dist. Wyo.), 44 Fed. Supp. 484. Cf. Effie Reed Buckner, 45 B. T. A. 544.

Woerishoffer v. United States, 269 U. S. 102, relied upon by the respondent, is not in point. That case is concerned solely with the question of whether the rights of the legatees were vested for the purposes of the imposition of a succession tax under the Spanish War Revenue Act.

The cited cases also dispose of the respondent’s argument that on the authority of Helvering v. Clifford, 309 U. S. 331, the decedent was the substantial owner of the property, and that the income of the estate is therefore taxable to him in his individual capacity. In the Clifford case and similar cases cited by the respondent the owner of property creating a trust to which the property is transferred is held not to have lost his status as owner, because substantial elements of ownership were retained. Thus, in those cases, the trust created is not considered to be a separate taxable entity and the income of the trust property is taxable to the grantor. In the instant case, while the administration of the estate was reasonably continued the estate is recognized as a separate taxable entity by local law and for Federal tax purposes. During the same period of time the distinction between the personalities of the decedent in his capacity as executor and as an individual must be respected. The respondent’s determination is therefore disapproved.

Decision will be entered under Bule 50.


author: Steeni-iagen :

text:
    Elizabeth Morainville, Petitioner, v. Commissioner of Internal Revenue, Respondent. Harriet Elwood, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 102140, 102141.
    Promulgated March 26, 1942.

      Thomas Howell Scott, Esq., for the petitioners.

      Martin M. Lore, Esq., for the respondent.
   OPINION.

Steeni-iagen :

1. The petitioners seek to avoid the deficiency and to establish error of .their own returns and consequent overpayment, upon the ground primarily that in carrying out its “Plan for the Rearrangement of Capitalization” the Hey wood-Wakefield Co. accomplished a statutory reorganization and that the receipt by them in 1936 and 1937 of series B shares was therefore tax free.

Without discussion, it may be adopted as true that there was a recapitalization, and that this was a statutory reorganization, as provided in section 112 (g) (1) (D), Revenue Act of 1936. But not every receipt by a shareholder as a direct or collateral incident of a reorganization is tax free; only such are tax free as are covered by the express terms of the statute. This must be obvious; for a dividend in unlike shares or in bonds is a recapitalization, but no one would contend that the receiving shareholder may therefore omit the dividend from his income.

The petitioners argue that to them the result of the rearrangement was the substitution of six shares of series B first preferred and 75 cents cash for each share of second preferred. This, they say, is an exchange described in section 112 (b) (3), and they refer to the doctrine that a stock dividend is not taxable if it works no change in the corporate entity or in the stockholder’s proportional interest. They conceive of the cash dividend, the one share dividend of 1936, the one share dividend of 1937, and the exchange of 1937 as together constituting an integrated recapitalization; and upon that postulate they urge that the two shares received by express dividend are not taxable. They raise no question as to the propriety of treating the cash dividend as taxable, and the Commissioner has not disputed the nontaxability of the four shares received in exchange; only the taxability of the two share dividends is in issue.

In ascertaining the character of the steps of the plan and performance, it is of the utmost importance that its terms should be read rather than the narrative description which was sent to the stockholders with the plan itself; for it is the plan itself which was put in operation and determines the legal effect. The “Plan for the Rearrangement of Capitalization”, dated October 23, 1936, provides as to the existing second preferred stock, as follows:

The Plan further contemplates that a stock dividend of two shares of $25 par value Series B First Preferred Stock be declared on each share of Second Preferred Stock outstanding and, also, a cash dividend of $0.75.
A holder of Second Preferred Stock will, also, be offered four shares of Series B First Preferred Stock in exchange for a share of Second Preferred Stock.
In assenting to the Plan the holder of Second Perferred Stock will agree to accept the stock and cash dividend in full satisfaction of arrears in dividends accumulated to December 1, 1936, and further agrees to exchange his Second Preferred Stock for Series B First Preferred Stock at the ratio of four shares of Series B First Preferred to one share of Second Preferred.

This is a clear provision for dividends of cash and two shares in satisfaction of the existing arrears on second preferred shares which had theretofore been recited as $50.75 per share, and for an exchange of one second preferred share for four new series B shares. The provision was carried out to the letter.

No significance can, therefore, be given to the fact that, in sending the plan to the shareholders and urging them to assent, the president of the corporation undertook to give them a condensed statement of its effect upon them in which he said:

Second Pkefeeeed Stock
Tbe Folders of Second Preferred Stock will receive for each share of stock and its accumulated dividend rights six shares of Series B 5% Cumulative First Preferred Stock, $25 par value, and Seventy-five Cents in cash.

In general parlance this is a correct statement, but it can not be taken as proof that the plan was for an integrated exchange rather than for dividends in discharge of the arrears and an exchange of one for four; even though to a shareholder who had assented the ultimate effect may have been the same. Estate of C. T. Grant, 36 B. T. A. 1233, 1246; H. Y. McCord, 31 B. T. A. 342; Edison Securities Corporation, 29 B. T. A. 483; affirmed on this point, 78 Fed. (2d) 85.

Petitioners cite Commissioner v. Kolb, 100 Fed. (2d) 920; Helvering v. Leary, 93 Fed. (2d) 826; Helvering v. Schoellkopf, 100 Fed. (2d) 415; Commissioner v. Whitaker, 101 Fed. (2d) 640; and Commissioner v. Food Industries, Inc., 101 Fed. (2d) 748. Those opinions are distinguishable. Preferred dividends in arrears were discharged by the issuance of new stock in a reorganization. The issuance of the shares, although in satisfaction of the arrears, was not pursuant to the declaration of a dividend. It was held that it could not be treated as a dividend and was not taxable as such to the receiving shareholders. It was clearly intimated, however, that if the shares had been issued in payment of a previously declared dividend it would have been taxable as such. This intimation was fortified by the holding in each of the opinions that the cash dividend of 50 cents, which was paid pursuant to an express dividend declaration, was taxable as a dividend even though it was an incidental part of the general reorganization. The latter holding requires the decision here that each of the dividends of 75 cents and of one series B share in 1936 and one in 1937 which were paid pursuant to an express dividend declaration, is taxable as such. This view has been more recently followed in South Atlantic Steamship Lines, 42 B. T. A. 705; Skenandoa Rayon Corporation, 42 B. T. A. 1287; affd., 122 Fed. (2d) 268; certiorari denied, December 22, 1941; J. Weingarten, Inc., 44 B. T. A. 798; on review, C. C. A., 5th Cir.; and Humphryes Manufacturing Co., 45 B. T. A. 114. The petitioners treated these dividends as such in their returns, and there is no reason why this should be changed.'

Petitioners, although arguing that the entire arrangement was an integrated reorganization, argue also that since the entire six shares and cash -which they received represented the same interest in the corporation as was represented by their former holding of second preferred, the theory of a true nontaxable stock dividend is applicable. The argument necessarily falls with the rejection of the conception of unification, since it can not be said that the entire six shares took the place of the original one share as the result of either a stock dividend or an exchange. After the dividends of each of the two shares, the shareholders continued to hold their original second preferred shares and thus they were in a position of having the new and different series B shares added to the second preferred shares already held. Certainly during the period of this holding the second preferred shareholders were in no position to argue that the share dividends brought them no change of interest. The nontaxable stock dividend theory is inapplicable.

2. The petitioners on their returns used a value of $20.50 a share for the dividend of 1936 and of $14.50 a share for the dividend of 1937. The Commissioner determined the values at $21.50 and $20.50, respectively, and the petitioners have undertaken to prove the determination too high. Both parties have introduced opinion evidence and argue upon the corporation’s books of account. The respondent proved sales of similar shares and bid and asked quotations, all within periods near enough to have significance. Upon all of this evidence the respondent’s determination of value must be upheld. The values have been found as facts.

3. The petitioners make an alternative contention that the share dividend received in 1936 was only partly taxable because it was only partly distributed out of earnings and profits accumulated after March 1, 1913, and that the dividend received in 1937 was to no extent taxable because there were no such earnings and profits from which it could be distributed. The finding is requested that available earnings and profits were $653,741.94, and it is urged that only to this extent is the 1936 dividend taxable to the shareholders, the rest ($217,733.56) and all of the 1937 dividend being distributions of capital and not taxable. This proposition is founded on an historic “analysis” of the accounts in an attempt to show that the book surplus of $2,080,746.23 on December 31, 1935, does not represent earnings and profits and that instead of a surplus available for dividends, there was in fact a deficit of $l,7J¡,.!pfi56.87. This reduction is made to appear by showing items other than earnings and profits which in past years have been written into surplus, and other items which have been written out of surplus. But the analysis is too superficial to make it clear that these adjustments prove that the earnings and profits are less than enough to support the 1936 and 1937 dividends of series B shares.

It is important to remember how this issue arises. The taxpayers included these dividends in the income shown on their returns at the respective amounts of $20.50 and $14.50, making no claim to exclusion because of the inadequacy of earnings and profits as a source of distribution. The Commissioner raised the valuation to $21.50 and $20.50, respectively. The petition assails the valuation and complains that the Commissioner failed to determine that any part of the dividends represented a return of capital. It contains no specification of items of surplus which the Commissioner improperly determined, and thus the issue is not narrowed to any particular transaction or book entry. The book surplus is on its face ample for the dividends. That the distribution did represent a return of capital, petitioners undertake to prove by a tabulation of certain items of inclusion and exclusion of surplus the net result of which would show a deficit of earnings. To support the contention that book surplus of 1936 does not reflect earnings and profits accumulated since March 1,1918, but represents something else, the analysis shows that during the intervening period adjustments were made in the surplus account which superficially appear to have no effect on earnings and profits. See Ascertainment of “Earnings or Profits” for the Purpose of Determining Taxability of Corporate Distributions; Paul, Selected Studies in Federal Taxation, Second Series.

In 1933 common stock par was reduced from $6,000,000 to $1,500,000 and the difference was put in surplus. However, in 1921, by a stock dividend, $3,000,000 of surplus had been capitalized. Petitioner would have it held from this that the difference of $1,500,000 which is reflected in the existing surplus must be excluded as other than earnings and profits. But the bare statement of the transfer of the amount in 1933 from capital stock to surplus is not enough to prove the point. See Foster v. United States, 303 U. S. 118.

In earlier years, $2,100,000 was restored to surplus as excessive depreciation which had been improperly written off. This restoration to surplus was part of an amount of $3,004,360.26 restored as “plant restoration” in 1920. Another “part” of the $3,004,360.26 was an amount of $1,978,958.38 set up as good will, of which the entire amount was charged off in 1930. These two items of $2,100,000 and $1,978,958.38 obviously can not be regarded as components of the $3,004,360.26. If, as is plausible, $2,100,000 has remained in the surplus account as the restoration of earnings and profits which had before 1920 been improperly charged off as depreciation, the result would be an amount of available earnings and profits sufficient to support the present dividends.

Between 1927 and 1935 the company paid for some of its own preferred shares and realized a profit of $1,279,583.80, which apparently has a place in the surplus, and petitioners would have it excluded from the available earnings. It appears only that the shares were purchased and ultimately retired. It is entirely possible that the amount is within earnings and profits from which taxable dividends may be distributed. Commissioner v. Young Corporation, 103 Fed. (2d) 137; Allyne-Zerk Co. v. Commissioner, 83 Fed. (2d) 525.

These several items prevent the conclusion that any part of the 1936 and 1937 dividends was from “capital” instead of earnings and profits; and the imposition of tax upon them as dividends in their entirety is sustained.

Decision wül be entered for the respondent.

       SEC. 112. RECOGNITION OE GAIN OR LOSS.
      *******
      (b) Exchanges Solely in Kind.—
      *******
      (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.


author: Hill:

text:
    The Central Kansas Power Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 106539.
    Promulgated March 26, 1942.

      Ellis D. Sever, Esq., for the petitioner.

      Gene W. Reardon, Esq., for the respondent.
   OPINION.

Hill:

The Commissioner has determined income tax deficiencies of $1,678.78 and $958.52 for the calendar years 1938 and 1939, respectively. Several adjustments made by the Commissioner are not in question. The only issues presented by the petitioner are the disallowance of dividends paid credit under section 27 (a) (4), Revenue Act of 1938 and I. R. C.

The facts were stipulated and are hereby adopted as our findings of fact. Only those facts necessary to an understanding of the issues will be set forth.

Petitioner is a corporation which filed its income tax returns for the taxable years 1938 and 1939 with the collector of internal revenue for the district of Kansas.

In April 1937 petitioner entered into two contracts with the Westinghouse Electric & Manufacturing Co., hereinafter sometimes referred to as Westinghouse, for the manufacture and the installation of certain equipment. The following provisions were common to both contracts:

3. Tlie title to the apparatus herein specified, and'any replacements thereof or substitutions therefor, shall not pass from the Company until all payments due hereunder (including deferred payments and payments of notes and renewals thereof if any) shall have been fully made in cash, and the apparatus specified shall remain personal property whatever may be the mode of its attachment to the realty or other property, until fully paid for in cash, and the Purchaser agrees to perform all acts which may be necessary to perfect and assure retention of title to the said apparatus in the Company. The Purchaser shall assume all risk of loss after the apparatus is delivered as specified herein. If default is made in any of the payments, in the manner and form and at the time herein specified, the Company shall be entitled to the immediate possession of said apparatus and shall be free to enter the premises where such apparatus may be located and remove the same as its property, without prejudice to any further damages which the Company may suffer by reason of the Purchaser’s refusal or failure to surrender the apparatus when so required. In case notes or trade acceptances are accepted, they shall be mere evidence of indebtedness and not payment and if any one is not paid when due, all outstanding notes shall, at the option of the holder, become immediately due and payable; all collection and exchange charges and all taxes shall be payable by the Purchaser.
4. Price Seventy-nine Thousand One Hundred Forty-five and no/100 Dollars, ($79,145.00).
Payable in United States currency.
An extra charge will be made for special containers (such as oil barrels, reels, etc.), but refund will be made if returned in good condition to the factory, or other point designated by the Company, within four (4) months from date of original shipment, charges prepaid.
5. Teems oe Payment:
50 per cent on presentation of Bill of Lading.
40 per cent 30 days from date of Bill of Lading.
10 per cent 60 days from date of Bill of Lading.
* * * * * # *

Subsequently the terms of payment were modified by agreement between the petitioner and Westinghouse.

On December 24, 1937, the two contracts were recorded by the vendor in the Office of the Registrar of Deeds of Ellis County, Kansas, the county into which the equipment was to be shipped. The dates and amounts of the invoices and the dates of the bills of lading and the shipment of the equipment covered by the two contracts are as follows:

The equipment arrived at its destination in Hays, Ellis County, Kansas, after January 1,1938, and the above total amount of $108,555 was entered as a liability on petitioner’s books in January 1938, under accounts payable in the sum of $68,555 and notes payable in the sum of $40,000.

The petitioner paid its principal indebtedness, totaling $108,555, to Westinghouse under the contracts as follows:

1988
1/7/38 check_$18,352
Checks for $3,800 each month_ 45, 600
- 63,952
1989
Payment on note given 1/3/38:
February, check-$3,000
March through August check for $3,800 each month. 22,800
September, check-14,200
-$40,000
January cheek- 3, 800
February check_ 803 4,603 44, 603
Total_ 108, 555

On the basis of these facts petitioner contends that it should be allowed a dividends paid credit under section 27 (a) (4), sufra, in the amount which it actually paid to Westinghouse. Petitioner’s position is that even though the contracts were conditional sales contracts they were in effect chattel mortgages under the law of Kansas and, therefore, the debts owed to Westinghouse are indebtedness within the meaning of that section.

Respondent’s position is that section 27 (a) (4) is a credit provision and must be strictly construed, and that, so construed, the contracts between petitioner and Westinghouse could not be denominated mortgages within the meaning of section 27 (a) (4).

We agree that the statute under consideration provides for a credit and thus must be strictly construed. Cf. Kolor-Thru Corporation, 44 B. T. A. 1303. However, in so construing this provision we must give the words used their ordinary meaning unless there is some reason to show a contrary intent of Congress. Old Colony Trust Co. v. Commissioner, 301 U. S. 379.

It will be necessary to see whether the contract in this case comes within the ordinary meaning of the word “mortgage.” A mortgage is defined as “an estate created by a conveyance absolute in its form, but intended to secure the performance of some act, such as the payment of money, and the like, by the grantor or some other person, and to become void if the act is performed agreeably to the terms prescribed at the time of making /.such conveyance.” Black’s Law Dictionary, 3d ed.; similarly defined in Webster’s Internationa] Dictionary.

There is no name attached to these contracts but title is retained by the vendor. Retention of title is an incidence of a conditional sale. However, a mortgage and a conditional sale have much in common and it is often difficult to determine whether a given transaction is a conditional sale or a chattel mortgage. “It is fundamental that a mortgage shall secure a debt; there must be an absolute obligation to pay.” Williston on Sales, vol. 1, p. 783. From the instruments and the law of Kansas which interprets the rights of the parties thereunder, we must determine the nature of the instruments.

The Supreme Court of Kansas has consistently construed conditional sales contracts as in effect chattel mortgages. Christie v. Scott, 77 Kan. 257; 94 Pac. 214; International Harvester Co. v. Champlin Refining Co., 153 Kan. 414; 110 Pac. (2d) 779. Cf. State v. Webb, 105 Kan. 407; 184 Pac. 715. But in Bailey v. Baker Ice Machine Co., 239 U. S. 268, the United States Supreme Court held the contract there under consideration was a conditional sale rather than an absolute sale with a chattel mortgage back. The Court said that the Christie case did not overrule or qualify prior Kansas cases. which, distinguished. a conditional sale and a chattel mortgage. But compare Fruehauf Trailer Co. v. State Corporation Commission., 149 Kan. 465; 87 Pac. (2d) 641. However, in the Baker Ice Machine case, the Supreme Court stated that the intention of the parties as drawn from the whole instrument was controlling and it affirmed the finding of a lower court that the intention of the parties was to execute a conditional sale rather than a chattel mortgage.

In the instant case it appears to us to be the intention of the parties to make an absolute sale of the property, but that there be a lien against the property for the unpaid purchase price. There is no provision in these contracts which provides for a rental in case there was a default as there was in the Baker Ice Machine case. The whole tenor of the contracts under consideration is that of an absolute sale. This is evidenced by the fact that the apparatus was for this petitioner’s specific purpose. The obligation to pay is stated absolutely and not conditionally. Thus, it seems to us that the retention of title was solely for security purposes. This is more in accordance with an absolute sale with a chattel mortgage given by the vendee to the vendor than with a conditional sale.

Respondent contends that a conditional sales contract is different from a chattel mortgage in' that the purchaser never gets title, whereas in a mortgage given as security title is transferred to the mortgagee. However, in a situation where a mortgage is given as security for the purchase price, the title may rest in the purchaser for just an instant before transfer back to the vendor as security. This appears to us to be a distinction without a difference. Therefore, since we have construed the intent of the parties in the instant case was that title was retained for the purpose of security, and since the law of Kansas treats a conditional sale as in effect a chattel mortgage, we hold that payments on the contracts with Westinghouse were payments on “indebtedness” within the meaning of section 27 (a) (4). The note given January 3,1938, was a renewal of indebtedness within the meaning of section 27 (a) (4), I. R. C. and payments on it give rise to a dividends paid credit.

The other issue involved in this proceeding is whether payments on promissory notes given in prior years in satisfaction of dividends come within the meaning of section 27 (a) (4). The facts as to this issue were stipulated as follows:

7. During the calendar years 1936 and 1937, the petitioner issued certain of its own promissory notes in payment of dividends on its common stock. Such notes had an actual value at the time of issuance equal to their face value. The petitioner claimed and was allowed a dividends paid credit of the entire face amount of such notes in computing its surtax liability-on undistributed profits for the years 1936 and 1937, respectively.
8. At December 31, 1937, certain of the notes mentioned in paragraph 7 above were outstanding and constituted indebtedness of the petitioner in existence at the close of business on December 31, 1937. During the calendar year 1938 the petitioner paid $6,550.00 on the principal amount of said notes, and during the calendar year 1939 paid $2,250.00 on the principal amount of said notes.

The identical issue was before the Board in Spokane Dry Goods Co., 43 B. T. A. 793; affd., 125 Fed. (2d) 865, and was decided adversely to the position of the petitioner. Upon the authority of that case, we must sustain the determination of the respondent in disallowing a dividends paid credit for the payments on the notes.

Decision will be entered v/nder Rule 50.

       SEC. 27. CORPORATION DIVIDENDS PAID CREDIT.
      (a) Definition in General. — Aa used in this chapter with respect to any taxable year the term “dividends paid credit” means the sum of:
      • * * » * * »
      (4) Amounts used or irrevocably set aside to pay or to retire indebtedness of any kind, if such amounts are reasonable with respect to the size and terms of such indebtedness. As used in this paragraph the term “indebtedness” means only an indebtedness of the corporation existing at the close of business on December 31, 1937, and evidenced by a bond, note, debenture, certificate of indebtedness, mortgage or deed of trust, issued by the corporation and in existence at the close of business on December 31, 1937, * * *

       (4) » » » A renewal (however evidenced) of an indebtedness shall he considered an indebtedness.


author: Turner:

text:
    Estate of James N. Collins, Deceased, First National Bank and Trust Company of Minneapolis, Executor, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 106566.
    Promulgated March 27, 1942.

      John W. 'Windhorst, Esq., for the petitioner.

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

Turner:

The respondent determined a deficiency in income tax for 1939 in the amount of $2,331.04. The issue is whether a sum of money recovered by the decedent in the taxable year as a result of litigation involving certain stock transactions in prior years constitutes a return of capital, as contended by petitioner, or taxable income, as contended by the respondent. The parties have filed a written stipulation of facts, with certain exhibits attached thereto, and the Board adopts such stipulation as its findings of fact. We shall recite only the facts deemed necessary to the discussion of the issue presented.

The decedent, James N. Collins, died on April 21, 1941, a resident of Hennepin County, State of Minnesota. He filed his income tax return for 1939 with the collector of internal revenue at St. Paul, Minnesota. The petitioner is the duly appointed executor of his estate.

In 1929 the decedent purchased 300 shares of the capital stock of the National City Bank of New York. The stock also carried certain beneficial interests in the stock of the National City Co. of New York. The purchase was made in the State of Minnesota from the National City Co. In 1930 the decedent sold 100 shares of the stock, which bad cost bim $56,200, for $14,599.20, thereby sustaining a deductible loss for Federal income tax purposes in the amount of $41,600.80. This loss was claimed as a deduction in his 1980 return and was allowed by the respondent. In 1931 the decedent sold 100 shares of the stock, which had cost him $37,100, for $8,936.22, thereby sustaining a deductible loss for income tax purposes in the amount of $28,163.78. This loss was claimed as a deduction in his 1931 return and was allowed by the respondent. The remaining 100 shares of stock referred to were still owned by the decedent at the time of his death.

Until the fall of 1936 the decedent regarded the aforesaid purchases and sales as closed and completed transactions. During that fall he learned for the first time that the stock had not been registered in accordance with the requirements of the Minnesota Blue Sky Laws and further learned of facts which led him to believe that the sales by the company to him might have been fraudulent. On August 23, 1937, he filed suit against the National City Co. in an effort to. recover the amounts which he paid for the stock, alleging that the stock had been sold to him without having been registered in accordance with the requirements of the Minnesota Blue Sky Laws and that the sales had been fraudulent. He asked for a rescission of the entire transaction and tendered to the defendant company the proceeds of said stock, or an equivalent number of shares of stock of the bank, plus interest and dividends received.

In 1939 the suit was settled by a payment of $67,725.95 by the company to the decedent, such amount representing 84 percent of the losses he had sustained in his dealings with the stock. After deducting attorney’s fees and other expenses in connection with the suit, the decedent had a net recovery of $45,150.63. On March 28, 1939, the suit was dismissed, with prejudice, pursuant to stipulation of the parties. Of the total net recovery, $29,750.63 is allocable to the stock sold by the decedent in 1930 and 1931, of which $23,296.45 is allocable to the stock sold in 1930 and the balance of $6,454.18 is allocable to the stock sold in 1981. • " ' •'..

If the entire deductions of $41,600.80 for 1980 and $28,163.78 for 1931, claimed and allowed on the decedent’s returns for those years, had been disallowed, the returns still would have shown net losses for those years. If the decedent had received $23,296.45 on the sale of the stock in 1930 in addition to the amount actually received on such sale, and if he had received $6,454.18 on the sale of the stock in 1931 in addition to the amount actually received on such sale, his 1930 and 1931 net losses would have been $42,600.06 and $33,750.72, respectively, and he would have had no income tax liability for either year.

Throughout the taxable year 1939 adjustment of the decedent’s income tax liability for 1930 and 1931 was barred by the statute of limitations.

In his income tax return for 1939 the decedent did not report as income any portion of the recovery received from the National City Co. In the deficiency notice the respondent adjusted the amount of gross income reported by adding thereto and treating as ordinary gain the amount of $29,750.63 representing that portion of the net recovery which was attributable to the shares of stock sold by the decedent in 1930 and 1931. He did not add that portion of the recovery which was attributable to the 100 shares of stock which had not been disposed of by the decedent.

Petitioner contends that the suit brought by the decedent against the National City C'o. was in the nature of an action for rescission of the original contract and that the amount recovered in 1939 is in the nature of a capital recovery which does not constitute taxable income in the absence of realization of gain, either actually or constructively, and that he realized no gain, since the deductions claimed in the years when the stock was sold did not result in any “tax benefits” to him. In the alternative, petitioner contends that, if the amount recovered is taxable to the decedent, it is taxable as capital gain. The respondent contends that the entire amount recovered by the decedent from the company is taxable as ordinary gain and that it is wholly immaterial whether he realized any “tax benefits” from the deductions taken in the prior years.

We think the record supports the petitioner’s contention that the suit brought by the decedent was in the nature of an action for rescission of the original contract, as distinguished from an action for damages. In the complaint he prayed for a rescission of the entire transaction and the return of the purchase price of the stock, and he tendered the proceeds of the stock, or an equivalent number of shares of stock, plus interest and dividends received. Had the suit been disposed of in the regular procedure and resulted in a court order placing the parties in status’ quo, it would seem that the purchase price thus recovered by petitioner would represent a return rtf capital, rather than taxable income. But the suit was not disposed of in that manner. It was settled by a stipulated compromise, the company paying an amount of money to the decedent. True, the decedent had already sold the stock in 1930 and 1931, but that fact does not require the conclusion that the transactions were completely closed at that time because the decedent still maintained his right of action against' the company. Moreover, regarding the series of transactions as a whole, it is apparent that no gain was actually realized by the decedent. The purchase price which he paid for the stock is in excess of the proceeds realized from the sales in 1930 and 1931 plus the total net recovery in 1939. Therefore, it seems to us that the real question presented is whether the fact that the decedent sold the stock in 1930 and 1931 and claimed deduction in his returns for those years, for which he realized no tax benefits, requires us to hold that the amount recovered in 1939 constitutes taxable income, even though he realized no economic gain.

In Burnet v. Sanford & Brooks Co., 282 U. S. 359, which case is strongly relied upon by the respondent, the taxpayer entered into a contract with the United States Government for dredging the Delaware Eiver. In its income tax returns from 1913 to 1916 it added to gross income for each year the payments received under the contract and deducted its expenses paid in performing the contract. The total expenses exceeded the payments received and its returns for 1913, 1915, and 1916 showed net losses. Its return for 1914 showed net income. In 1915 work under the contract was abandoned and in 1916 the taxpayer brought suit to recover for a breach of warranty of the character of the material to be dredged. It obtained judgment in the Court of Claims, the court stating that the recovery was upon the contract and was “compensatory of the cost of the work, of which the government got the benefit.” The recovery was received in 1920 and the Supreme Court held that it constituted gross income for that year despite the fact that in the prior years the taxpayer had suffered net losses in the conduct of its business which were in some measure attributable to expenditures made to produce the net income of the latter period. In so holding the Court pointed out that there was no statutory authority for disregarding the annual accounting periods to permit the bringing forward of losses sustained in the prior years to offset the taxable income received in a later year. The Court found, however, that the money received in the later year was in the nature of an income item, as distinguished from a non-income item such as a return of capital. On that point the Court said:

That the recovery by respondent in 1920 was gross income for that year within the meaning of these sections cannot, we think, be doubted. The money received was derived from a contract entered into in the course of respondent’s business operations for profit. While it equalled, and in a loose sense was a return of, expenditures made in performing the contract, still as the Board of Tax Appeals found, the expenditures were made in defraying the expenses incurred in the prosecution of the work under the contract for the purpose of earning profits. They were not capital investments, the cost of which, if converted, must first be restored from the proceeds before there is a capital gain taxable as income. See Doyle v. Mitchell Brothers Co., supra, page 185 of 247 U. S. 88 S. Ct. 467.

In cases involving bad debts, which are similar to the instant case in that the original disbursement represents an outlay of capital, we have held that, where a bad debt deduction does not effect an offset of taxable income for the years deducted, then a recovery of the debt in a subsequent year should not be included in gross income in the year of recovery. State-Planters Bank & Trust Co., 45 B. T. A. 630, and National Bank of Commerce of Seattle, 40 B. T. A. 72; affd., 115 Fed. (2d) 875. In the last case we also said that, where the amount previously deducted effects an offset of taxable income, the subsequent recovery should be included in taxable income. The reason behind the ruling is that by the prior deduction of the amount of the loss from taxable income the taxpayer has already had, for income tax purposes, a recoupment of the capital out of taxable income. Any further recovery is accordingly in the nature of a replacement of taxable income and, being in excess of the reduced cost of the capital asset, is equivalent to gain to the taxpayer. Affirming National Bank of Commerce of Seattle, the court stated the principle as follows:

* * * when * * * a loan becomes worthless, the amount thereof is loss of capital, but the income tax laws permit the bank to recoup its capital by deducting from the profits or income the amount of the loss. Thus the bank does not pay a tax on all its income, but on the amount of income less the loss on the worthless debt. The debt itself then loses its nature as capital, but represents that portion of the income which was not taxed, and the capital is the money taken from the profits or income. If the loan, after being deducted from income, is paid, then the lender is receiving profit or income — otherwise the lender would double its capital on one transaction. In other words the profits or income used to pay back the capital when the debt is charged off is represented by the worthless loan, so that when such loan is paid the profits are replaced.

Applying the rationale of that case to the facts in the instant case, we conclude that, since the deductions taken by the decedent in 1930 and 1931 did not effect an offset of taxable income, the recovery in 1939 must be treated as a return of capital rather than taxable income. This conclusion is in accord with the principle expressed in Central Loan & Investment Co., 39 B. T. A. 981, and Amsco-Wire Products Corporation, 44 B. T. A. 717. The respondent’s argument seems to be that those cases have been erroneously decided, but he cites no authority to the contrary. In fact, as pointed out in Central Loan & Investment Co., supra, and National Bank of Commerce of Seattle, supra, the conclusions reached therein are in accord with the views expressed by the General Counsel of the Bureau of Internal Revenue in G. C. M. 18525 (C. B. 1987-1, p. 80) and G. C. M. 20854 (C. B. 1939-1, p. 102). The rulings expressed therein were in effect during the taxable year, but have since been modified or revoked by G. C. M. 22163 (C. B. 1940-2, p. 76). Our conclusion here also seems to be in accord with the recent case of Glenn v. Louisville Trust Co., 124 Fed. (2d) 48.

In view of our holding that the net recovery of $29,750.63 received by the decedent in 1939 does not constitute income, it is unnecessary to consider petitioner’s alternative contention that if the recovery constitutes income it should be taxed as capital gain.

Petitioner concedes an affirmative issue raised in the respondent’s amended answer relating to the deduction of certain business expenses.

Decision will be entered u/nder Rule 50.


author: TueneR :

text:
    John V. Dobson, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 106553.
    Promulgated March 27, 1942.

      John W. 'Windhorst, Esq., and Lelcmd W. Scott, Esq., for the petitioner.

      S. Ü. Hihetn, Esq., for the respondent.
   OPINION.

TueneR :

The respondent determined a deficiency in income tax for the year 1939 in the amount of $9,108.06. The question presented is whether a sum of money, or any part thereof, recovered by the petitioner in the taxable year as a result of litigation involving certain stock transactions in prior years constitutes a return of capital, as contended by petitioner, or taxable income, as contended by respondent. The parties have filed a written stipulation of facts, with certain exhibits attached thereto, and the Board adopts such stipulation as its findings of fact. We shall recite only the facts deemed necessary to discussion of the issue presented.

Petitioner, a resident of Minneapolis, Minnesota, filed his 1939 income tax return with the collector of internal revenue for the district of Minnesota.

At various times in 1929 petitioner purchased, in transactions entered into for profit, a' total of 440 shares of the capital stock of the National City Bank of New York. The stock also carried certain beneficial interests in the stock of the National City Co. of New York. The purchases were made in the State of Minnesota from the National City Co.

During the year 1929 petitioner sold a total of 240 shares of the stock, 90 shares of which resulted in a taxable gain of $8,168.44 and was so treated in closing petitioner’s income tax liability for 1929. The sale of the remaining 150 shares in 1929 resulted in a loss of $13,168.44, properly disallowed as a deduction in closing petitioner’s 1929 income tax liability because of the wash sales provisions of the Revenue Act of 1928.

In 1930 petitioner sold the remaining 200 shares of the stock for $20,897.44. These shar'es had actually cost the petitioner $70,000, but, because of the wash sales in 1929 which resulted in nondeductible losses for that year, the petitioner’s basis for determining the amount of loss sustained in 1930 was $70,000 plus $13,168.44, or $83,168.44. The 1930 sale resulted in a deductible loss by the petitioner in the amount of $62,271, which was allowed by the respondent as a deduction in closing petitioner’s income tax liability for that year.

On July 3,1931, petitioner purchased 200 shares of the bank stock at a cost of $17,700, and on July 13,1931, sold the said shares for $16,000, thereby sustaining a loss of $1,700 which was deductible for 1931, but was not claimed as a deduction. Upon audit of the return, no deduction was allowecf by the respondent by reason of the loss realized on the sale, but had such loss been claimed as a deduction it would have been allowed by the respondent and would have reduced the income tax liability of petitioner for the year 1931, but would not have eliminated entirely liability to tax. Petitioner’s 1931 return disclosed net income of $17,514.27, and a tax thereon of $125.43, which was paid to the collector during the year 1932.

Until September 1937 the petitioner regarded the aforesaid purchases and sales as closed and completed transactions. During that month petitioner learned for the first time that the stock had not been registered under the Minnesota Blue Sky Laws, and further learned for the first time facts which led him to-believe that the sales by the company to him might have been fraudulent. On or about July 9, 1938, the petitioner filed a suit against the National City Co. in an effort to recover the amounts which he had paid for the stock in 1929 and 1931, alleging that the stock had been sold to him without having been registered in accordance with the requirements of the Minnesota Blue Sky Laws and that the sales had been fraudulent. He asked for a rescission of the entire transaction and tendered to the defendant company the proceeds of the stock or an equivalent number of shares of stock of the bank, plus interest and dividends received.

In 1939 the suit was settled by a net payment of $33,404 by thei company to the petitioner, and upon receipt thereof the suit was dismissed, with pTejudice, pursuant to a stipulation between the parties. Of the total net recovery, $157.04 related to 40 shares of stock which are not here involved and is conceded to be taxable income. Of the remainder, $32,294.96 is allocable to the stock sold by the petitioner in 1930 and the balance of $952 is allocable to the stock sold by petitioner in 1931.

If the entire deduction of $62,271, allowed as a deduction in connection with petitioner’s 1930 Federal income tax liability had been disallowed, there would have been net income in the amount of $32,227.53 and a deficiency in petitioner’s income tax for 1930 would have resulted in the amount of $1,232.75, computed as follows:

Net loss_ ($30,043.47)
Add: Loss on National City Bank stock, eliminated_ 62,271.00
Net income revised- 32,227. 53 Less:
Dividends_ $23, 659. 45
Personal exemption_ 3, 500. 00
Credit for dependents_ 1,200. 00 28, 359.45
3, 868. 08
Normal tax: 1%% of $3,868.04_ $57.02
Surtax on $32,227.53-2- 1, 240.48
Total_ 1, 297. 50
Less: Earned income credit_ 64. 75
Total tax assessable-- 1,232. 75
Assessed_ 0.00
Deficiency_ 1,232.75

If in addition to the $20,897.44 actually received on the sale of the stock in 1930 petitioner had received $32,294.96, being the amount recovered in 1939 in respect of the stock sold in 1930, his deductible loss for 1930 from the sale of the said stock would have been $29,976.04 and he would have had net income in the amount of $2,251.49. Due to certain credits allowable, however, his income tax for 1930 would have been zero, shown as follows:

Net loss_ (§30,043.47)
Add: Entire amount recovered in 1939 in reduction of loss on stock
sold in 1930_ 32,294.96
Net income revised_ 2,251.49
Less:
Personal exemption-$3, 500. 00
Credit for dependents_ 1, 200. 00
Total_ 4, 700. 00
Balance subject to tax_ none
Total tax assessable- none
Tax assessed_ none
Deficiency_ none

Throughout the year 1939 adjustment of petitioner’s income tax liability for 1980 was barred by the statute of limitations.

In his income tax return for 1939 the petitioner reported income of only $157.04 on account of the recovery of $33,404. In the deficiency notice the respondent adjusted the amount of gross income reported by adding $33,246.96 and thereby treating the entire amount of petitioner’s net recovery of $33,404 as ordinary income.

Since addition to 1930 income of an amount equal to that recovered in 1939 in respect of the stock sold in 1930 would not have resulted in any amount of income tax for 1930, it is the claim of the petitioner that no part of the said recovery constituted taxable income for 1939, even though the loss deduction of $62,271 claimed and allowed for 1930 in respect of the said sale did serve to offset taxable income in the amount of $32,227.53, and even though there would have been net income in 1930 in the amount of $2,251.49 instead of a net loss if uppn the sale of stock in that year petitioner had received an additional amount equal to that recovered in 1939. In the alternative, petitioner contends that if the amount recovered is taxable it is taxable as capital gain. The respondent contends that the amount recovered by the petitioner which is allocable to the 1930 sale is taxable as ordinary gain and that it is wholly immaterial whether petitioner realized any tax benefit from the deduction taken in the prior year but that in any event the petitioner did realize a tax benefit to the extent that the deduction taken in the prior year operated to offset taxable income.

In Estate of James N. Collins, 46 B. T. A. 765, concurrently decided, we have considered the nature and character of transactions and recoveries such as are here involved and have reviewed the controlling decisions. Where there is recovery in respect of a loss sustained in an earlier year and a deduction of such loss claimed and allowed for the earlier year had effected an offset in taxable income, the amount recovered in the later year should be included in taxable income for the year of recovery, the reason being that even though the subsequent recovery is in the nature of a capital recovery the prior deduction of the amount of the loss from taxable income has for income tax purposes already given the taxpayer a recoupment of said loss out of taxable income and the subsequent recovery, being in the nature of a replacement of taxable income, is equivalent to gain to the taxpayer. National Bank of Commerce of Seattle v. Commissioner, 115 Fed. (2d) 875, affirming 40 B. T. A. 72. But where the deduction claimed and allowed in the prior year did not effect an offset of taxable income, the amount recovered in a later year does not constitute taxable income for the year of recovery. Estate of James N. Collins, supra. In the instant case the deduction for 1930 of the loss sustained upon the sale of the National City Bank stock resulted in a net loss to the petitioner for that year of $30,043.57, and to that extent the loss deduction claimed in 1930 did not effect an offset of taxable income. In 1939 the petitioner recovered in respect of such stock and in addition to the amount received upon its sale in 1930 the amount of $32,294.96. It is accordingly apparent that the deduction in 1930 of the amount recovered in 1939 did effect an offset in taxable income in the amount of $2,251.49, that amount being the excess of the 1939 recovery over the 1930 net loss and to that extent the amount recovered in 1939 constitutes taxable income to the petitioner in the year of recovery. Central Loan & Investment Co., 39 B. T. A. 981; Amsco-Wire Products Corporation, 44 B. T. A. 717. Petitioner’s contention that the income so realized should be taxed as capital gain is denied on authority of Avery R. Schiller, 43 B. T. A. 594.

With respect to the $952 recovered in 1939 in respect of the stock sold in 1931, the respondent on brief states: “For the purposes of the present case the respondent does not press the issue that the amount of $952.00 of the recovery allocable to the stock which was sold in 1931 and on which no loss was claimed, constitutes taxable income, inasmuch as the principle enunciated in G. C. M. 22163, 1940-2 Cum. Bull. 76 is to the contrary.”

Decision will he entered wnder Rule 50.


author: Van Fossan:

text:
    Estate of Maurice S. Saltstein, Deceased, Transferee, Sophie L. Saltstein, Administratrix, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105060.
    Promulgated March 27, 1942.

      Frank L. Wiemer, O. P. A., for the petitioner.

      Robert 8. Garnett, Esq., for the respondent.
   OPINION.

Van Fossan:

Respondent raises no question as to the reasonableness of the additions to the reserve for bad debts made by the Eveready Loan Co. during the years 1936 and 1937 nor as to the permission to use the reserve method. The only question presented is whether or not the Loan Co. was prevented from deducting a reserve for bad debts by reason of the fact that it kept its books on the cash basis.

Section 23 (k) of the Revenue Act of 1936 which permits the deduction of a reserve for bad debts, draws no distinction between taxpayers on the accrual basis and those on the cash basis. Nor has the Commissioner issued any regulations denying taxpayers on the cash basis the right to use the reserve method. Thus, the problem is whether the use of the reserve for bad debts in the case at bar was inconsistent with the Loan Co.’s method of accounting so that the return did not clearly reflect income.

The use of the reserve for bad debts is not inherently inconsistent with a cash basis where, as here, the reserve is against loss of capital only (cf. Wilbur Glenn Voliva, 10 B. T. A. 911; affd., 36 Fed. (2d) 212) and contains no element of income which has never been reported. Cf. Charles A. Collin, 1 B. T. A. 305. Such a reserve for loss of capital does not differ materially from a reserve for depreciation which is set up on a percentage basis rather than on the basis of actual depreciation suffered.

In First National Bank of Omaha, 17 B. T. A. 1358; modified, 49 Fed. (2d) 70, we said: “If the petitioner is entitled to deduct from gross income under its system of bookkeeping and reporting bad debts charged off, it is entitled to the benefits of section 234 (a) (5) of the Revenue Act of 1921 with respect to the setting up of a reserve for bad debts and deducting from income the addition made thereto each year.” We see no reason for departing from the view expressed in that case.

Reviewed by the Board.

Decision of no transferee liability will be entered.

Mellott dissents.

       SEC. 23. DEDUCTIONS FROM GROSS INCOME.
      In computing net income there shall be allowed as deductions :
      * * * * * * *
      (It) Bad Debts.- — Debts ascertained to be worthless and charged oil within the taxable year (or, in the discretion of the Commissioner, a reasonable addition to a reserve for bad debts) ; and when satisfied that a debt is recoverable only in part, the Commissioner may allow such debt, in an amount not in excess of the part charged off within the taxable year, as a deduction.


author: HaRROn :

text:
    Carolina-Florida Realty Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 104800.
    Promulgated March 27, 1942.

      E. A. Mihills, C. P. A., for the petitioner.

      Charles Olifhant, Esq., for the respondent.
   OPINION.

HaRROn :

The question and the discussion relates to $7,500 in each taxable year, which was paid by petitioner’s lessee to the trustee under the trust indenture and was used by the trustee each year to redeem and retire bonds having the equivalent face value. The factors to be considered are as follows: (a) Petitioner had a debt in the amount of outstanding bonds. LeTulle v. Scofield, 308 U. S. 415. (b) Petitioner was entitled to receive rent for the leased property (which was mortgaged to secure the bonds), (c) Petitioner, in effect, assigned part of the rents to the trustee, by directing its lessee to pay a portion of the rents each month to the trustee, (d) The lessee paid $7,500 a year to the trustee, (e) The trustee used the $7,500 paid to it in each year to purchase bonds which were canceled and petitioner’s debt evidenced thereby was thus, and to such extent, paid in each year.

The net result of this arrangement was that a portion of petitioner’s earnings of the year was set aside within the year for the discharge of its debt; and, also, a portion of petitioner’s earnings of the year was applied in discharge of a debt within the taxable year. This conclusion necessarily follows from the facts and from the law of constructive receipt of income. When B pays money to O to discharge an indebtedness running from A to C, A receives income, constructively, and is taxable upon it. United States v. Boston & Maine Railroad, 279 U. S. 732.

Since part of petitioner’s earnings in each taxable year was used within the year to discharge part of petitioner’s debt, it would be equitable, at least, to hold that petitioner' is entitled to the credit claimed in each year under the terms of section 26 (c) (2), because so much of petitioner’s earnings were withdrawn, thereby, from distribution to its stockholders in dividends. The question to be determined is whether the prerequisites for the credit as set forth in the statute are met, and the material part of the statute is found in the parenthetical clause of section 26 (c) (2). The question, then, is as follows: Was that portion of petitioner’s earnings of the taxable year which was irrevocably set aside and applied in discharge of petitioner’s debt, which was incurred prior to May 1,1936, so dealt with by “a provision of a written contract executed by the corporation prior to May 1,1936, which provision expressly deals with the disposition of earnings and profits of the tasable year”? The answer to this question requires our construction of section 2 of article III of the trust indenture, which has been set forth in the findings of fact.

In our opinion that section of the trust agreement meets the statutory requirements. The words “earnings and profits of the taxable year” do not appear in the written contract but that is not always necessary in order to apply section 26 (c) (2). See G. B. R. Oil Corporation, 40 B. T. A. 738; Michigan Silica Co., 41 B. T. A. 511; affd., 124 Fed. (2d) 397; N. O. Nelson Co., 45 B. T. A. 899; Baltimore Steam Packet Co., 44 B. T. A. 629; Saginaw & Manistee Lumber Co., 45 B. T. A. 780; Joell Co., 41 B. T. A. 825. The meaning of section 2 of article III of the trust indenture is clear. It is that the petitioner, a party to the trust agreement, haying a right to receive rents under a lease, has directed the lessee to pay a definite amount out of such rents to the trustee, monthly, to be deposited in the sinking fund. Monthly rental, being earnings of each taxable year, had to be set aside and paid to trustee. Under these restrictions upon the use of receipts from the property covered by both the trust agreement and the lease, petitioner could not use such income derived from the lease to pay dividends to its stockholders until the bonds had been paid in full.

In G. B. R. Oil Corporation, supra, we held that income from oil leases was “earnings and profits” under section 26 (c) (2). In Joell Co., supra, we held that income from real estate was “earnings and profits.” In Michigan Silica Co., supra, we held that proceeds from the sales of land were “earnings and profits.” In each case we held that a provision which “required” the payment of ascertainable amounts into a sinking fund or to discharge a debt was a “provision [which] expressly deals with the disposition of earnings and profits of the taxable year.” In none of these cases, in the written agreements involved, was there an express mention of “earnings and profits”, and respondent placed reliance on that fact, as he does here, in support of his contention that the contracts did not contain any provision expressly dealing with the disposition of the taxpayer’s earnings and profits. In the Michigan Silica case it was pointed out that the statute does not require that such terms be used in the written contract, but only that the written contract contain a provision which expressly deals with the disposition of earnings and profits of the taxable year. As has been pointed out above, the disposition of a part of petitioner’s earnings in each year was dealt with in the trust indenture.

The property which was leased by petitioner to the Cameron & Barkley Co. was the property mortgaged to secure the bonds. Petitioner, as owner of the equity in the property and as lessor, was entitled to rents from the property. The effect of the lease provision requiring the lessee to make fixed monthly payments to the trustee for payment into the sinking fund was that petitioner made an assignment of a portion of the rents to the trustee. It is stated to be a general rule that no particular form of assignment is necessary, in the absence of restrictions imposed by statute, and any acts or words are sufficient which show an.intention of transferring the owner’s interest. 6 Corpus Juris Secundum, 1090, par. 41. We find no statutory requirements in South Carolina on the mode or form of an assignment. Under the lease it was clear that petitioner gave up its right, in favor of the trustee, to a portion of rents, and under section 2 of article III of the trust it is clear that the trustee could look to the lessee for receipt of ascertainable amounts each month. Failure of the lessee to make the payments to the trustee constituted default under the lease. The situation is similar to that in the G. B. R. Oil Corporation case.

It is held that petitioner is entitled to the claimed credit in each year under section 26 (c) (2).

Reviewed by the Board.

Decision will be entered under Rule 50.

Disney concurs only in the result.

Van Fossan and Mellott dissent.

       SEC. 26. CREDITS OF CORPORATIONS.
      In the case of a corporation the following credits shaU be allowed to the extent provided in the various sections imposing tax—
      * * * * * * *
      (c) Contracts Restricting Payment op Dividends.—
      **>>.# * if *
      (2) Disposition op propits op taxabde year. — An amount equal to the portion of the earnings and profits of the taxable year which is required (by a provision of a. written contract executed by the corporation prior to May 1, 1936, which provision expressly deals with the disposition of earnings and profits of the taxable year) to be paid within the taxable year in discharge of a debt, or to be irrevocably set aside within the taxable year for the discharge of a debt; to the extent that such amount has been so paid or set aside. For the purposes of this paragraph, a requirement to pay or set aside an amount equal to a percentage of earnings and profits shall be considered a requirement to pay or set aside such percentage of earnings and profits. As used in this paragraph, the word “debt” does not include a debt incurred after April 30, 1936.


author: MuRdock:

text:
    Antoinette K. Brown, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97743.
    Promulgated March 27, 1942.

      8. Leo Ruslander, Esq., for the petitioner.

      J. W. Smith, Esq., for the respondent.
   OPINION.

MuRdock:

This case is here under mandate after a reversal of a prior decision of the Board by the United States Circuit Court of Appeals for the Third Circuit. A further hearing has been held in compliance with the mandate. The broad question is whether income of a trust is taxable to the grantor under section 22 (a), but the first question is to determine how much latitude has been allowed the Board under the opinion and mandate of the court.

The case was originally submitted to the Board upon a stipulation of facts. The Commissioner had held that the income of a trust established by the petitioner in 1937 was taxable to her. He explained in the notice of deficiency that the income of the trust was taxable to her under sections 166 and 167 of the Revenue Act of 1934. The Board held that the income of the trust was not taxable to- the grantor under these sections. 42 B. T. A. 693. The Commissioner, when he filed his brief, attempted for the first time to support his determination under section 22 (a). No such issue was raised by the pleadings and the Board might have disposed of the question on that ground. But the Board was of the opinion that the Commissioner had not made out a case showing that the income of the trust was taxable to the grantor under section 22 (a), so it ignored the technicality and definitely held that the income of the trust was not taxable to the petitioner under section 22 (a). It took the precaution to mention that the petitioner had never had her day in court on any such issue and in no event should the case go against her by applying section 22 (a) until she had had that opportunity.

The appellate court unanimously agreed with the Board that the income of the trust was not taxable to the petitioner under sections 166 and 167, but divided on the question of whether or not the income was taxable to the petitioner under section 22 (a). Commissioner v. Brown, 122 Fed. (2d) 800. The court recognized that the taxpayer was entitled to her day in court, and there are statements in the prevailing opinion indicating that the court was not ready to decide the applicability of section 22 (a). Nevertheless, it is stated unequivocally in the prevailing opinion that the court is in disagreement with the conclusion reached by the Board that the Commissioner had failed to make a case under section 22 (a). Furthermore, the court reversed the decision of the Board. Thus, the law of the case as pronounced by the court is that on the original record the income of the trust was taxable to the grantor under section 22 (a). Otherwise, there was no point in reversing the case and saying that the court disagreed with the conclusion of the Board. See dissenting opinion of Judge Maris. The court remanded the case “with directions to permit the parties to adduce additional evidence and to decide the issues presented by section 22 (a).” It would seem clear that if no evidence had been offered, the Board would have to hold that the income of the trust was taxable to the grantor under section 22 (a), and could not again decide that that section was inapplicable. The Board, for these reasons, has taken the position that it can fully comply with the mandate of the court only by limiting its consideration to the question of whether or not the additional evidence adduced by the petitioner overcomes the case already made by the Commissioner.

The Board, after receiving the mandate, held a further hearing and thus gave the parties an opportunity to adduce additional evidence. The respondent offered none. The petitioner offered the testimony of a witness. That testimony established some facts which were already set forth in the stipulation and need not be repeated. The only facts established by the evidence that were not shown in the stipulation are as follows:

Josephine Ballard was about 70 years of age in 1927 and the petitioner at that time “was in her sixties.” The purpose of the trust was not to effect a saving in income taxes. Joseph P. Knapp, the original trustee, was a brother of the petitioner, and the husband of the petitioner was substituted for him as trustee in 1936 because Knapp was retiring from business and wanted to be relieved of his duties as trustee. The petitioner estimated when the trust was created that the annual income from the trust would be about $20,000.

The additional evidence adds nothing which would cause the pendulum to swing back in the petitioner’s direction. It is not controlling that the purpose of the trust was not to effect a saving in income taxes. The evidence in regard to the trustees is immaterial. The same is true of the evidence in regard to the estimated income from the trust. The fact that the petitioner and the original chief beneficiary of the trust were advanced in years at the time of the creation of the trust is, if anything, detrimental to the petitioner’s case. Thus, the stipulation and the new evidence make no stronger case for the petitioner than did the stipulation alone. This being so, the law of the case as established by the court must stand. That is, the income of the trust is taxable to the petitioner under section 22 (a) of the Revenue Act of 1934.

Decision will be entered for the respondent.