author: MoRRis:

text:
    Clarence H. Mackay and Frank L. Polk, as Executors under the Last Will and Testament of Marie Louise Mackay, Deceased, Petitioners, v. Commissioner of Internal Revenue, Respondet.
    Docket No. 59269.
    Promulgated December 20, 1935.

      Walter D. Fletcher, Esq., for the petitioners.

      Frank T. Homer, Esq., for the respondent.
   OPINION.

MoRRis:

The respondent having determined a deficiency in estate tax of $187,339.50, the petitioners, being the duly appointed and acting executors of the estate of Marie Louise Mackay, deceased, bring this proceeding for the redetermination thereof, alleging error in the following particulars, i. e., the disallowance of certain credits authorized by subdivision (b) of section 301 of the Revenue Act of 1926; upon adjustments made on account of deductions claimed; and the inclusion in the decedent’s gross estate of the aggregate value of the corpora of six trust funds created by the decedent during her lifetime.

Marie Louise Mackay died on September 4, 1928, while a resident of the State of New York, leaving a last will and testament, in which, after prolusion for a relatively small specific bequest, she disposed of all of her personalty and realty and all of the rest, residue and remainder of her property to her son Clarence H. Mackay.

On May 14, 1919, the decedent executed eight indentures of trust in favor of Andrea Colonna di Stigliano, a grandchild; Bianca de Bonvouloir, a grandchild; Edna di Martino, a niece; Inez Telfener, a niece; John Daniel Telfener, a nephew; Jose Telfener, a nephew; Marc Antonio Colonna di Stigliano, a grandchild and Paolo Telfener, a nephew. The pertinent typical provisions thereof follow:

Whereas the Grantor desires to divest herself absolutely of all interest in and dominion over certain of her property and to dedicate the same to the uses hereinafter set forth! so as to assure, among other things, an immediate income therefrom for her grandson * * * for * * * life and after * * * death for the lives of * * * lawful children, as is hereinafter more particularly and at large set forth; and
* * * * * * *
Now Therefore in consideration of the premises and of One Dollar to the Grantor in hand paid by the Trustees, the receipt whereof is hereby acknowledged, the said Marie Louisa Mackay (the Grantor) has sold, assigned, transferred, set over and delivered, and, by these presents, does hereby sell, assign, transfer, set over and deliver all and singular the property * * * [shares of preferred stock of The Mackay Companies] (and which is hereinafter called The Trust Fund) To Have and To Hold the same In Trust Nevertheless for the uses and purposes, with the powers and under the conditions hereinafter set forth, namely to wit: * * *

Here follow the powers of the trustees to invest the trust funds, to collect and receive income, to pay the expenses of the administration of the trust, to pay all taxes, to pay the fees and commissions of the trustees, if any there be, and

(d) To pay the net balance of the annual income after deducting the expenses, taxes, commissions, etc. * * * to [grantee] during the term of * * * [his or her] natural life, in such installments as may to the Trustees be convenient, without anticipation and said income shall not be liable for the debts of said * * *.
(e) Upon the death of the said * * * [grantee] the Trust Fund shall be divided by the Trustees into as many equal shares or portions as there be lawful children of * * * [grantee] surviving * * * and who were in being at the date of this instrument (each share or portion being regarded and held as a separate Trust) and the net annual income derived from each of said shares or portions (after deducting its proportionate part of expenses and charges mentioned * * * shall be paid to the child representing it during the life of said child in such installments as the Trustees think best.
Upon the death of each of said children, the principal of the share or portion of the Trust Fund represented by it shall be and become the property of Qlaeence H. Mackat, or, if he be not then living, it shall be equally divided among his lawful surviving children (the children of any deceased child of his, however, to take, share and share alike, the share which the parent would have taken had he or she survived) and the Trust, as to that portion of the Trust Fund, shall thereupon cease and determine.
(f) Should the said * * * [grantee] die leaving no lawful children who were in being at the date of this instrument, the principal of the Trust Fund shall, on * * * [his or her] death, be and become the property of Claebnce H. Mackat or, if he be not then living, it shall be equally divided among his lawful surviving children (the children of any deceased child of his, however, to take, share and share alike, the share or portion which the parent would have taken had he or she survived said * * * [grantee] and Olabencb H. Mackat, and this Trust shall thereupon Immediately cease and determine.

Then, follow provisions for the replacement of trustees in case of death or resignation; provision expressing the intention of the grantor that the trust shall always be administered by three trustees, etc; provision, later amended, respecting the compensation of trustees, if any; provision empowering trustees to sell and dispose of properties or securities of the trust; and provision authorizing investment of the trust funds. It is then provided in article VIII that: “ This trust may, during the lifetime of the Grantor, be amended or revoked on the joint consent of the Grantor and the Trustees.”

Certain immaterial amendments were made to the various trusts on December 24,1920, and September 29,1925, pursuant to the aforesaid provision permitting such amendment. There were no other amendments.

Clarence H. Mackay served as trustee from the date of creation to the termination of the trust in favor of Inez Telfener, Marc Antonio Colonna di Stigliano and Paolo Telfener, and he has continuously served as trustee respecting the remaining five trusts until the present time. The trusts in favor of Andrea Colonna di Stig-liano, Bianca de Bonvouloir, Edna di Martino, Inez Telfener, John Daniel Telfener, and Jose Telfener were in full force and effect on the date of the decedent’s death.

On May 14,1919, and September 4,1928, said Clarence H. Mackay had three lawful children, who are still alive. The following are grandchildren of said Clarence H. Mackay now living. The date of birth of each such grandchild is set opposite his or her name:

Marie Louise O’Brien August 5, 1924
Katherine M. O’Brien February 21, 1926
Morgan J. O’Brien III May 4, 1929
Mary Ellin Berlin November 25, 1926
Linda Louise Berlin February 23, 1931
Michael Mackay April 3, 1931

On May 1, 1921, the said Marc Antonio Colonna di Stigliano died, unmarried and without issue, and under the terms of said trust the corpus was transferred to the said Clarence H. Mackay. On February 8, 1924, said Paolo Telfener died, leaving him surviving no lawful issue, and under the terms of said trust the corpus was transferred to the said Clarence H. Mackay. On May 24, 1933, said Inez Telfener died, leaving her surviving no lawful issue, and under the terms of said trust the corpus was transferred to the said Clarence H, Mackay.

On May 14,1919, Andrea Colonna di Stigliano, Inez Telfener, and John Daniel Telfener were unmarried and without lawful issue, and Bianca de Bonvouloir had no lawful issue. On said date Edna di Martino and Jose Telfener were both married and each had two lawful children, the children of the former being James di Martino and Gino di Martino, and of the latter Jose H. Telfener and Muriel Telfener.

In addition to the foregoing the parties have stipulated the following :

11. In determining tbe deficiency tbe value of the corpus of only six of tbe trusts was included in the gross estate, viz., Exhibit “ B ” through Exhibit “ G ”. The value on the date of decedent’s death of the corpus of each of said six trusts as found by the Commissioner was as follows:
Exhibit Value of Corpus September 4,1928
B- $327, 574.80
C- 327,574. 80
D- 151,200. 00
E- 151, 200. 00
F- 100', 774. 80
G- 100, 774. 80
$1,159, 099. 20
The Commissioner, in determining the values of the corpus of the trusts, made no allowance for the payment out of such corpus of Federal or State estate or inheritance taxes.
12. The dates of birth of the life tenants of each of the said six trusts are as follows:
Exhibit Life Tenant Date of Birth
B_Andrea Colonna di Stigliano_December 14, 1885
C_Bianca de Bonvouloir_March 27, 1887
D_Edna di Martino_January 22, 1880
James di Martino (child)_July 10, 1904
Gino di Martino (child)_December 21, 1905
E_Inez Telfener_March 5, 1882
F_John Daniel Telfener_November 26, 1892
G_Jose Telfener_January 6, 1884
Jose H. Telfener (child)_December 23, 1914
Muriel Telfener (child)_August 19, 1916
13. The values of the life estates on September 4,1928, in each of the said six trusts, subject to paragraph hereof No. 14 were as follows:
Exhibit Value
B-$188, 336. 61
C_ 194, 723. 80
D- 119, 362. 51
E- 82,189. 78
E- 64,284.41
G- — ___ 84,895.32
14. In the event the Board should hold that any portion of the trusts involved herein (as distinguished from the whole thereof) is not subject to tax then, and in that event, the value of the portion to be eliminated from the gross estate will be settled by agreement under the Rule 50 Settlement of this case.
15. The transfers accomplished by the decedent in the creation of the aforesaid trusts were not transfers made by the decedent in contemplation of death.
16. Such deductions, if any, to which the estate of this decedent may be entitled for administration expenses, including attorneys’ fees,' executors’ commissions and miscellaneous administration expenses, will be settled by agreement between the parties in the settlement of this case under Rule 50.

The stipulation, entered into between the parties reduces the issues pleaded to one, pertaining to the inclusion of the value of the corpora of six of the trusts set forth in our findings above in the gross estate of the decedent.

It is the contention of the respondent that the retention of the right of amendment or revocation by the decedent, jointly with the trustees, notwithstanding one of whom was named as the remainderman of the several trusts, subjects the corpora thereof to estate tax under the provisions of section 302 (d) of the Eevenue Act of 1926, set forth below, and that such should have been included in the gross estate of the decedent.

Seo. 302. Tbe value of the gross estate of the decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated—
*******
(d) To the extent of any interest therein of which the decedent has at any time made a transfer, by trust or otherwise, where the enjoyment thereof was subject at the date of Ms death to any change through the exercise of a power, either by the decedent alone or in conjunction with any person, to alter, amend, or revoke, or where the decedent relinquished any such power in contemplation of his death, except in case of a bona fide sale for an adequate and full consideration in money or money’s worth. The relinquishment of any such power, not admitted or shown to have been in contemplation of the decedent’s death, made within two years prior to his death but after the enactment of this Act without such a consideration and affecting the interest or interests (whether arising from one or more transfers or the creation of one or more trusts) of any one beneficiary of a value or aggregate value, at the time of such death, in excess of $5,000, then, to the extent of such excess, such relinquishment or relinquishments shall be deemed and held to have been made in contemplation of death within the meaning of this title: * * *

The parties have stipulated that the trusts in controversy were not transfers in contemplation of death.

The respondent insists here, as he did in David J. Lit et al., Executors, 28 B. T. A. 853; affd., 72 Fed. (2d) 551, upon a literal interpretation of the foregoing provisions of section 302 (d) of the statute. That is, he insists that the words “ any person ” include even a beneficiary and that notwithstanding revocation of these trusts could only be accomplished by the joint consent of the settlor and the trustees — one of whom, Clarence H. Mackay, was the remainder-man — the trusts were, in effect, revocable within the meaning of said provisions and that, therefore, the values of their corpora should be included in the decedent’s gross estate as having passed from her upon death.

In David J. Lit et al., Executors, supra, an indenture of trust was entered into on December 30, 1927, between Sam Lit, decedent-settlor, and his brother, Jacob Lit, as trustee, in which a trust in certain shares of capital stock was created, the dividends from which were payable to the wife of the settlor, Bose L. Lit, for her life and upon her death to the settlor for his life. It was directed that upon the death of the survivor of the two1 the trustee should transfer the corpus of the trust to the son of the settlor, if living, or as directed in his last will and testament, if he be dead. Bevocation and amendment of the trust were provided for therein by the joint action of the settlor and his wife, the life tenant. We there held that the value of the life estate vested in the wife of the settlor and consequently should not be included as a part of the decedent’s gross estate because the trust conveyance was irrevocable, as to her, except with her consent. It was further held, however, that the value of the son’s remainder interest was includable in the decedent’s gross estate since, as to him, the trust was revocable under section 302 (d) of the Bevenue Act of 1926, his consent to revocation not being required.

In one of the several controverted trusts in Louis C. Raegner, Jr., et al., Executors, 29 B. T. A. 1243, the decedent conveyed a life estate to his son, granting to him a general power of appointment over the remainder interest therein, the settlor reserving the right and privilege of terminating and revoking the trust with the consent in writing of his said son. The Board there held, following David J. Lit et al., Executors, supra, that the value of the life interest should be excluded from the gross estate of the decedent. It also held that the decedent’s son having a power of appointment over the remainder was an “ adverse interest ” in respect to such remainder and that the trust, as to it, was also irrevocable, hence the value thereof should not be included in the decedent’s gross estate under section 302 (d) of the Revenue Act of 1926. In so deciding, the Board said:

* * * Tile decedent could not alter, amend or revoke this trust except “upon obtaining the consent in writing of the Settlor’s said son”, the life beneficiary. To the extent of the life estate, at least, the decedent’s son was an adverse interest, and under such circumstances, the value of the life estate is no part of the decedent’s gross estate. David J. Lit et al., Executors, 28 B. T. A. 853; Edna T. Stevens et al., Executors, 29 B. T. A. 641.
It remains to he determined whether the remainder interest in the trust dated December 9, 1925, was revocable and, consequently, includable in decedent’s gross estate. In the Lit case we held that the remainder interest in the trust there involved was revocable without securing the consent of an adverse interest and should be included in the grantor’s gross estate. The only difference in fact between the trust involved in the instant proceeding and the trust involved in the Lit case is that Rose L. Lit had only a life estate in the' income of the trust, whereas the grantor’s son, in the instant proceeding, had not only a life estate in the income of the trust, but was granted a general power of appointment of the remainder. The question now before us is whether this difference in fact between the two cases requires a different answer in deciding whether such remainder interest is includable in decedent’s gross estate under section 302 (d) quoted above. In deciding the Lit case we held that since Congress^ in separate Committee reports of the House and Senate, stated “This provision [sec. 302 (d)] is in accord with the principle of section 219 (g) of the bill which taxes to the grantor the income of a revocable trust”, the two sections should be read together; and that the term “any person” in section 302 (d) should be interpreted as meaning “ any person not a beneficiary of the trust. * * * ” Under that interpretation we held that since Rose L. Lit was a beneficiary to the extent that she was granted a life estate in the income of the trust, the life estate should not be included in the grantor’s gross estate; and that since she was not a beneficiary as to the remainder, she was not an adverse interest as to it and the remainder interest was revocable by the grantor “ in conjunction with any person not a beneficiary ” and, therefore, includable in the grantor’s gross estate.
The income from the trust dated December 9, 1925, was to be paid to decedent’s son for life and upon his death “ to such person or .persons and in such shares and lawful estates as the said son Lotus C. Raegner, Jr. may nominate and appoint by bis last will and testament, or other written instrument,” with other provisions in case of default.
Did decedent’s son have an adverse interest as to the remainder? The son was one of the trustees of the trust. But, as held in Reinecke v. Smith, 289 U. S. 172, “A trustee is not subsumed under the designation beneficiary.” In Smith v. Commissioner, 59 Fed. (2d) 56, the United States Circuit Court of Appeals, First Circuit, said:
It would seem that Congress did not intend, by the use of the term “ beneficiary ” in section 219 (g) only a beneficiary having a present vested interest, but intended to include within that term a beneficiary or beneficiaries having contingent interests as well as those having present or vested ones.
Undoubtedly Congress could have drawn a line between beneficiaries holding vested and contingent interests, or between those having contingent interests based on their respective degrees of remoteness, but it has done neither of these things. It is therefore far more reasonable to conclude that by the word “ beneficiary ” Congress intended to include persons or classes of persons designated, in the particular trust under consideration, entitled to take present or contingent interests thereunder.
See also Bessie R. Jones, 27 B. T. A. 171; Iola Wise Stetson, 27 B. T. A. 173.
In view of these decisions we must enlarge our inquiry and ask whether the son was an adverse interest within the meaning of the law, as to the remainder. It is clear that if the son had exercised the general power of appointment granted him by his father in the trust indenture and had died, the corpus of the trust would have been included as a part of the son’s estate. See section 302 (f), Revenue Act of 1926; also J. Gilmore Fletcher, Executor, 29 B. T. A. 503.
We think it is clear, therefore, that one who has been granted a general power of appointment over the corpus of the trust property has an adverse interest in such property from that of the settlor of the trust and, where his .consent must be secured before the settlor can revoke the trust, such trust instrument is irrevocable within the meaning of the authorities which we have already cited and discussed.

We similarly held in City Bank Farmers Trust Co., Trustee, 29 B. T. A. 1141, that is, that property conveyed in trust should not be included in the gross estate under section 302 (d), supra, where revocation was possible only with the consent of a beneficiary. The Board was affirmed by the Circuit Court of Appeals at 74 Fed. (2d) 242. The Supreme Court handed down its decision November 11, 1985 (Helvering v. City Bank Farmers Trust Co., Trustee, 296 U. S. 85), reversing the judgment of the Circuit Court, saying:

The respondent says that the section ought to be construed in the light of the analogous Section 219 (g). The latter, part of the income tax title, is “ Where the grantor of a trust has, at any time during the taxable year, either alone or in conjunction with any person not a beneficiary of the trust, the power to revest in himself title to any part of the corpus of the trust, then the income of such part of the trust for such taxable year shall be included in computing the net income of the grantor.” The two sections have a cognate purpose but they exhibit marked differences of substance. The one speaks of a power to be exercised with one not a beneficiary; the other of a power to be exorcised with any person. The one refers to a power to revest the corpus in tile donor; the other has no such limitation. It is true, the Report of the Ways and Means Committee on Section 302 (d) said “this provision is in accord with the principle of Section 219 (g) of the bill which taxes to the grantor the income of a revocable trust.” But to credit the assertion that the difference in phraseology is without significance and in both sections Congress meant to express the same thought, would be to disregard the clear intent of the phrase “any person” employed in Section 302 (d). We are not at liberty to construe language so plain as to need no construction, or to refer to Committee reports where there can he no doubt of the meaning of the words used. The section applies to this transfer.

The decedent here conveyed various blocks of preferred stock, in trust, under indentures directing the payment of the income therefrom to her grandchildren, nieces, and nephews for life and upon their death to the children of such grandchildren, nieces, and nephews as were in being at the date of the trust instrument, the principal of each of such trusts to be distributed to Clarence H. Mackay, one of the trustees under each instrument, upon the death of each of said children. Each of the trusts was revocable by the grantor with the joint consent of the trustees.

Although Clarence H. Mackay, one of the trustees, was also the remainder under each trust, the trusts were nevertheless revocable within the meaning of section 302 (d), supra, as construed by the Supreme Court in Helvering v. City Bank Farmers Trust Co., Trustee, supra.

But the trust in Helvering v. City Bank Farmers Trust Co., Trustee, supra, was established in 1930, subsequent to the enactment of the Revenue Act of 1924, which, as the Court there remarked, was the act in which section 302 (d) was first introduced, consequently, as the Court further observed, the creator was “ upon notice of the law’s command.” Had that trust not been created subsequent, rather than prior, to the enactment of the Revenue Act of 1924, a different conclusion would clearly have been reached upon the principle of Nichols v. Coolidge, 274 U. S. 531. After emphasizing the fact that the trust there was created subsequent to the enactment of the controlling provisions, the Court said:

In view of the evident purpose of Congress we find nothing unreasonable or arbitrary in the provisions of Section 302 (d) of the Revenue Act of 1926 as applied in the circumstances of this case. It was appropriate for Congress to prescribe that if, subsequent to the passage of that Act, the creator of a trust estate saw fit to reserve to himself jointly with any other person the power of revocation or alteration, the transaction should be deemed to be testamentary in character, that is, treated for the purposes of the law as intended to take effect in possession or enjoyment at the death of the settlor.

The trusts in the instant case were created in 1919, consequently the creator thereof had no “ notice of the law’s command.” Therefore the value of the corpora of the trusts may not be included in the decedent’s gross estate under section 302 (d) under the well settled principle of Nichols v. Coolidge, supra. See also Helvering v. Helmholz, 296 U. S. 93.

An entirely different situation exists, however, with respect to the inclusion of the value of the life estates under section 302 (c), which provides that the value of the decedent’s gross estate shall include the valué of all property to the extent of any interest therein of which he has at any time created a trust intended to take effect in possession or enjoyment at or after his death. In Reinecke v. Northern Trust Co., 278 U. S. 339, the Supreme Court, in construing a like provision in the Revenue Act of 1921, held that as to two of the trusts therein considered, although created long before the passage of any statute imposing an estate tax, which is not the fact in the instant proceeding, the value of the corpus should be included in the gross estate. As to these trusts the settlor reserved a power of revocation. A transfer made subject to such a power in the trans-feror is not complete until his death. The Court then discussed the five trusts in which the power to revoke was in the settlor and beneficiaries. It held:

Since the power to revoke or alter was dependent on the consent of the one entitled to the beneficial, and consequently adverse, interest, the trust, for all practical purposes, had passed as completely from any control by decedent which might inure to his own benefit as if the gift had been absolute.

It concluded that the value of the corpora of the five trusts was not subject to tax.

In the instant proceeding the power to revoke was ini the settlor and trustees, none of whom held a life estate. Therefore as to the life estates there was no adverse interest whose consent was required before revocation. The transfer of these estates was not complete until the death of the settlor. Reinecke v. Northern Trust Co., supra. The value of the life estates should therefore be included in the decedent’s gross estate.

The other error or errors complained of should be adjusted according to the stipulation of the parties.

Judgment will be entered under Rule 50.


source: Caselaw Access Project

author: Leech :

license: Public Domain

text:
    Holly Development Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 42771, 52661.
    Promulgated December 24, 1935.

      Olaude I. Patrher, Esq., John B. Millilcen, Esq., George H. Koster, Esq., and L. A. Luce, Esq., for the petitioner.

      Elden MoFarland, Esq., for the respondent.
   OPINION.

Leech :

The various issues will be discussed in the order in which they have been stated.

I.

For the year 1923 petitioner claimed depletion and depreciation in the respective amounts of $422,571.71 and $107,024.47. The respondent has allowed these items in the respective amounts of $63,221.15 and $60,563.04. It is stated on brief by counsel for both parties that the petitioner claimed these deductions on the basis of fair market value as of January 24, 1923, which, it claims, was the cost of the property to it. On the other hand respondent has based his computation on the cost of the property to Sinsheimer.

The petitioner had no assets at the time it issued all its stock to Sinsheimer and his associates in exchange for $169,500 and the contracts between Sinsheimer and Argonaut. Thus, since this issue is to be determined under the Revenue Act of 1921, it is clear that the cost of petitioner’s stock was $169,500 plus the fair market value of the contracts paid in for the stock. Ben T. Wright, Inc., 12 B. T. A. 1149; Fifth Street Building, 24 B. T. A. 876; Monrovia Oil Co., 28 B. T. A. 335. This cost furnishes the basis for the computation of both depletion and depreciation. At this point counsel for respondent argues that since we can not determine what the fair market value of the assets which were subject to depletion and depreciation was, the petitioner has failed. We do not think that the respondent is entitled to make this contention on this record. He has stipulated that if we find that the petitioner is entitled to use as a basis for computing depreciation and depletion deductions, the fair market value on the date of the acquisition of the assets acquired from Sinsheimer, then petitioner is entitled to deduct the following amounts: depreciation, $44,444.97, and depletion, $164,783.62. No evidence has been introduced to show what these values were. But, on the present record, in our judgment, we are not required to determine what they were. It was evidently for the purpose of eliminating the necessity of such evidence by limiting this phase of the controversy to the question of whether the proper basis was cost to Sinsheimer or to the petitioner, that the respondent has stipulated that if the basis is the fair market value of the property on the date of acquisition (cost to the petitioner), then the deductions should be allowed in the specified amounts. We have determined that issue as submitted. We have found that such is the proper basis. Therefore, the petitioner is entitled to the stipulated deductions.

II.

It is stipulated that the $116,876.50 received by petitioner in 1923 on the loan made to Argonaut by Sinsheimer, the collection of which was assigned by him to petitioner, has been included by the respondent in the petitioner’s income for that year. Reference is made in the stipulation to the deficiency notice. That notice discloses that the above sum was not added to the petitioner’s income by the respondent. The deficiency notice states that the information at hand discloses that the loan of $130,000 was made by Sinsheimer to Argonaut for the purpose of liquidating certain indebtedness of the latter and was made in accordance with the agreement between Argonaut and Sinsheimer. Further, it there appears that under the agreement the loan was to be paid out of earnings of the property acquired from Argonaut by Sinsheimer and subsequently transferred to the petitioner, and that, since no part of such earnings accrued to the credit of Argonaut, it was held that the loan, in reality, represented a part of the cost of the property. From this we deduce that the petitioner has returned the $116,876.50 as income and now seeks to have that item eliminated. Thus, the question presented is whether that sum of money is a part of the gross income of the petitioner.

Argonaut owned certain oil, gas, and mineral leases, subject to the payment of specific royalties. It assigned by contract all its title, in those leases, to Sinsheimer. He assumed Argonaut’s royalty liability to the oi'iginal lessors, agreed to repay his $130,000 loan to Argonaut, if possible, from the proceeds of the oil, and, after certain deductions, to pay to Argonaut, in addition, $6,000 per month from the proceeds of the oil. This contract was assigned by Sin-sheimer to petitioner, which became subrogated, thereby, to Sin-sheimer’s rights, including the collection of the loan. This issue has to do with that portion of the oil proceeds petitioner collected and applied under that assigned contract to the repayment of Argonaut’s obligation to Sinsheimer, assigned to petitioner. The fact that this portion of the oil proceeds was retained by petitioner as a credit on Argonaut’s debt of $130,000 to Sinsheimer, now owned by petitioner, is not material here. The present picture, for tax purposes, is the same as though Argonaut’s debt was owed to another than petitioner, and petitioner had paid the portion of the oil proceeds, al-locable to that debt, to Argonaut or, upon Argonaut’s order, to its creditor direct. Such payments would have been in the nature of an overriding royalty- — -a part of the cost of the leases to petitioner which it bought from Sinsheimer. They would not lose that character because of the use to which Argonaut put them. Nor do they lose that character here merely because petitioner, which pays the overriding royalty, happens to be Argonaut’s creditor, to which they are paid by petitioner’s retaining and crediting them to Argonaut’s loan account.

Thus, we think the payment of this assumed obligation of Argonaut’s to Sinsheimer was the same, for present purposes, as the payment of an overriding royalty to Argonaut on the assigned leases. Such royalty would have been taxable income to Sinsheimer, and, a fortiori, was so to his assignee, petitioner.

As was stated by the Circuit Court of Appeals for the Eight Circuit, in affirming Comar Oil Co., 24 B. T. A. 688:

We think the statute makes plain distinction between rentals or other payments for the continued use or possession of property to which the taxpayer has not taken title or in which it has no equity on the one hand, and rentals or other payments for the continued use or possession of property to which the taxpayer has taken title or in which it has an equity on the other hand. The former rentals are deductible; the latter are not.
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In the case at bar, it is clear that title to the property was taken by the petitioner.

It follows that the presently disputed amounts were likewise so taxable to petitioner. Consolidated Royalty Oil Co., 31 B. T. A. 107.

III.

Upon authority of those last cited cases, we are also of opinion that all of the payments on account of the $120,000 were merely overriding royalties and are taxable income to the petitioner. The fact that, in 1924 in settlement of its controversy with Argonaut, the petitioner paid Argonaut the sum of $26,413.44 in cash, does not alter the situation in so far as the question involved here is concerned. At that time the petitioner was in arrears in payments on account of these overriding royalties in the sum of $2,413.44. Obviously, from what has been said, as such royalties it was taxable income to petitioner. The difference between the two latter amounts was in the same category as the loan of $130,000 to Argonaut involved in issue II and, upon the same reasoning and authorities relied upon there, was also taxable as income to petitioner.

IY.

This issue is resolved in favor of the respondent on the authority of Helvering v. Twin Bell Oil Syndicate, 293 U. S. 312.

Judgment will be entered wnder Rule 50.


author: Smith: Leech,

text:
    Henry S. Cahn, Petitioner, v. Commissioner of Internal Revenue, Respondent. Maurie S. Robbin, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 43088, 43113.
    Promulgated December 27, 1935.

      Lloyd Anderson, Esq., and T. H. Poole, O. P. A., for the petitioners.

      James H. Teatman, Esq., for the respondent.
   OPINION.

Smith:

These proceedings, consolidated for hearing, are for the redetermination of deficiencies in income tax against the petitioners as follows:

The only question before us for decision in these proceedings is the correctness of the action by the respondent in his disallowance of $27,500 of a claimed deduction from gross income of the partnership Robbin’s for the calendar year 1924, of which the petitioners were equal partners, representing the loss of the partnership from the theft from the partnership of merchandise costing $34,303.61. The partnership claims the deduction either as a bad debt ascertained to be worthless and charged off within the year 1924, or as a loss.

These proceedings have been submitted to the Board on a stipula - tion of facts signed by both parties.

The petitioners are residents of Los Angeles, California. Throughout the years 1924, 1925, and 1926 they were engaged in business under the firm name and style of Robbin’s. The partnership operated a retail jewelry and clothing business in Los Angeles. Each of the petitioners owned a one-half interest in the business.

In March 1924 the store of the partnership was burglarized and merchandise costing $34,303.61 was stolen. The partnership was insured against theft by two policies in Lloyds of London, England, in the amount of $50,000. The policies were issued by the Threadneedle Insurance Co., and Crowley et al., insurance brokers of London, England. The policies were sold to the partnership by Rule & Sons, insurance agents of Los Angeles. During the years 1924, 1925, and 1926 neither Lloyds of London, the Threadneedle Insurance Co., nor Crowley et al., were licensed to transact insurance business in California and neither of the companies above referred to had authorized the Insurance Commissioner of the State of California or any other person to accept service of process in such state, nor had any of them made any deposit of securities with the Insurance Commissioner or the Treasurer of the State of California as a guaranty that losses sustained under the policies of insurance written by them in the State of California would be paid.

After the burglary the partnership made claim under their policies against the insurers for the recoupment of the loss of $34,303.61. The insurers denied liability. The petitioners consulted their attorney, who, after investigation, found that suit could not be brought against the insurers in the State of California unless service would be accepted by a representative of the insurers in California, and that the institution of a legal proceeding against the insurers in England would be exceedingly expensive and probably not result in any recovery. Upon the receipt of this information in the latter part of 1924, the partnership, as of December 31, 1924, charged off on its books of account, which were kept on the accrual basis, the total amount of the loss and in the partnership return filed for 1924 claimed the $34,303.61 as a deduction from gross income.

On February 17, 1925, the petitioners brought suit against the insurers in the Superior Court of the State of California in. and for the County of Los Angeles for the recovery of $35,000 under the insurance policies. Service of process in this suit was voluntarily accepted by counsel for the insurers and an answer to the bill of complaint therein was duly filed. In the answer the insurers denied liability on various grounds and claimed that the policies were not binding on them as members of the partnership had breached the terms of the contract and had misstated the facts in their application for the insurance. After the filing of the answer by the insurance company, negotiations for settlement were entered into by the attorneys for the parties and in August 1925 a compromise was agreed to under which the partnership received the sum of $27,500 in full settlement of the claims under the insurance policies, and the suit was dismissed.

Since the partnership had charged off on its books of account in 1924 the cost of the merchandise stolen, it took up as income on its books of account in 1925 the amount received in compromise of the suits less $2,500 paid to attorneys, or a net amount of $25,000, which was reported as income by the partnership for the year 1925, but this was offset by losses of that year, with the result that no tax was paid thereon.

Upon investigation of the partnership returns for the years 1924 and 1925 the respondent held that the loss by theft in 1924 should have been reduced by the amount recovered from the insurers and that the amount of the loss deductible from the gross income of 1924 was $6,803.61 ($34,303.61 minus $27,500), this being the difference between the cost of the property stolen and the gross amount of money received under the terms of the compromise settlement.

The pertinent statutory provisions are sections 214 (a) (4) and (7) of the Revenue Acts of 1924 and 1926, which read:

(4) Losses sustained during the taxable year and not compensated for by insurance or otherwise, if incurred in trade or business;
❖ # ^ sH
(7) Debts ascertained to be worthless and charged off 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 to be charged off in part.

We are of the opinion that there is no merit in the contention of the petitioners that the partnership is entitled to deduct from the gross income of 1924 as a bad debt any portion of the claimed loss of $34,303.61. The unliquidated claim which the partnership had against the insurers was not a debt within the ordinary meaning of that term. No debtor and creditor relationship existed between the partnership and the insurers. See Peterson Linotyping Co., 10 B. T. A. 542, and cases cited therein in which debts are distinguished from losses. In First National Bank of Sharon v. Heiner (C. C. A., 3d Cir.), 66 Fed. (2d) 925, it was held:

In. providing for deductions from income tax, Congress made a distinction between losses and debts. Recognizing that a loss was a thing of the present, as, for example, theft, fire, or embezzlement and the like, Congress provided a deduction of such item in the current tax year. Recognizing likewise that debt was a thing of the future, namely, a contract obligation to be later fulfilled, Congress provided that a future reduction was to be allowed if and when the obligation proved worthless and was charged off. In common speech, debt was regarded as created by contract between a debtor and a creditor, or, as expressed by Blackstone, a sum of money due by certain and express agreement.

Conceding, however, for the sake of argument, that the amount claimed by the partnership from the insurers constituted a debt which was charged off the partnership books of account at the end of 1924, it would not be an allowable deduction from the gross income of 1924 for the reason that there is no satisfactory showing that the claimed debt became worthless or was uncollectible in 1924. Clearly, the partnership did not abandon hope of collecting on its insurance policies and in 1925 began legal proceedings against the insurers in compromise of which it recovered $27,500 in 1925.

We think it clear that if the partnership were in no wise protected in 1924 against losses by burglary it would be entitled to deduct from its gross income of 1924 the full amount of $34,303.61, the cost of the merchandise stolen. But the partnership was protected by two insurance policies against such loss. We do not understand that the words “ not compensated for by insurance or otherwise ” contained in section 214 (a) (4) have reference to the time that the compensation is paid. We think it plain that to the extent a taxpayer’s loss from fire, burglary, or other casualty is covered in whole or in part by insurance he has not sustained a loss deductible from gross income.

A loss deductible under section 214 (a) (4) of the applicable taxing statutes does not depend upon the bookkeeping of the taxpayer. It is true that a loss may not ordinarily be claimed as a deduction from gross income except upon a closed and completed transaction. United States v. White Dental Mfg. Co., 274 U. S. 398; Lewellyn v. Electric Reduction Co., 275 U. S. 243; Weiss v. Wiener, 279 U. S. 333; Lucas v. American Code Co., 280 U. S. 445. In the last cited case the Supreme Court stated: “ The general requirement that losses be deducted in the year in which they are sustained calls for a practical, not a legal, test.”

In the proceedings before us the petitioners and the respondent are both agreed that any loss sustained by the partnership as a result of the burglary is attributable to the year 1924. It was in that year that the goods were stolen. The question before us is as to whether the amount of that loss should be reduced by the amount of the recovery on the policies. We are of the opinion that it should be. This is in accordance with the decision of the Board in Max Kurtz, 8 B. T. A. 679. In that case the petitioners were members of a partnership which kept its books on an accrual basis. In 1921 a considerable amount of its merchandise was destroyed by fire, which loss was fully covered by insurance. The insurance company admitted liability for whatever loss had been sustained, but disagreed with the insured as to the amount of the loss sustained. This was finally adjusted in 1922 and 1923 and the partnership was paid the total loss proven. The respondent allowed in 1921 the total loss sustained and offset against it the insurance thereon, a portion of which, however, was not received by the partnership until 1922 and 1923. It was held by the Board that the respondent’s treatment of the transaction was proper. See also Martin Veneer Co., 5 B. T. A. 207, in which we held that the deduction on account of loss by fire is allowable in the year in which the property was destroyed although the amount of the loss was not ascertained until a subsequent year. Cf. also Commissioner v. Highway Trailer Co., 72 Fed. (2d) 913; certiorari denied, 293 U. S. 626; and Commissioner v. Thatcher & Son, 76 Fed. (2d) 900. In the last named case it was held that the loss of a contractor) which arose from the default of subcontractors in the erection of a building, was deductible in 1919 or prior years when the work of .completing the subcontractors’ contracts was performed by the taxpayer, rather than in 1928 when suit against the subcontractors was terminated adversely to the taxpayer. ■ .

In Allied Furriers Corporation, 24 B. T. A. 457, the facts were that on or about February 8, 1925, the petitioner’s warehouse was burglarized and goods of a value of $23,984.72 Avere stolen. The petitioner was indemnified by an insurance policy against a loss by burglary. The insurance company refused to pay the loss and a suit was brought against it which was decided adversely to the petitioner in 1928. The petitioner claimed the deduction of the loss in its income tax return for 1928 and we held on the facts in the case that the loss was deductible in 1928. ■ We were there confronted by a situation where apparently the taxpayer, fully believing that he was protected by his insurance policy against loss, made no claim for the loss in 1924. That year was not before us. The taxpayer did, however, claim the deduction for the loss in 1928, the year when it was definitely proven that it was not entitled to recover under its policy. In our opinion in that case we referred to the decision of the Supreme Court in Lucas v. American Code Co., supra, and called attention to the fact that:

* * * the Supreme Court refused to allow a deduction for loss by reason of breach of contract for the year in which the breach occurred. The court specifically rejected the theory that a loss is “ sustained ” when the events occur which fix it, so as to preclude a deduction for it in a later year when in a practical sense it is determined by litigation brought to a final conclusion. * * *

The facts in the Allied Furriers Corporation case are substantially different from those which obtain in the proceeding at bar. If the opinion in that case controls here it would simply mean that the respondent was in error in permitting the deduction from the gross income of $6,803.61 as the loss sustained by the partnership in 1924. The respondent has not, however, moved for an increase in the deficiencies determined against the petitioners for 1924 and the only question before us is whether the partnership is entitled to deduct from the gross income of 1924 any part of the $27,500 representing the payment made by the insurers upon the insurance policies in question. We see no reason why we should not determine the issue in the light of the known facts, even though some of those facts did not come to light until after the close of the calendar year 1924. We sustain the respondent in the disallowance of the deduction of the $27,500 in question.

Reviewed by the Board.

Judgment will be entered for Che Respondent.

Seawell dissents.

Leech,

dissenting: We are not here concerned with a determination of, if, and when a loss was sustained. Cf. Lucas v. American Code Co., 280 U. S. 445.

The partnership here sustained a definite, completed and admitted loss of $34,303.61 in 1924, when the burglary of that amount occurred in 1924. Peterson Linotyping Co., 10 B. T. A. 542; Grenada Bank, 32 B. T. A. 1290.

The firm deducted that loss, as such, in its tax return for that year. Under the specific and unambiguous terms of the applicable statutory provision, such loss was deductible then .and then only. Congress, alone, has the authority to change that statute.

Neither the time nor amount of the loss here is affected by whether the partnership- was compensated for that loss in any amount. That fact controls nothing but the amount in which the loss, admittedly sustained, was deductible. The statutes do not limit such deducti-bility here, to the amount not “ covered ” by insurance, but limit it to the amount “ * * * not compensated for by insurance * *

Our inquiry is then, whether the present record establishes that compensation for that loss, and its amount, was realized by the partnership during that tax year.

The partnership was on an accrual basis. Only such “ compensation ” was then realized as was then accruable. Commissioner v. Thatcher & Son, 76 Fed. (2d) 900, reversing 30 B. T. A. 510. And, only such “ compensation ” was then accruable as it was reasonably certain then the partnership would receive. North American Oil Consolidated v. Burnet, 286 U. S. 417; Commissioner v. Thatcher & Son, supra; Dexter Sulphite Pulp & Paper Co., 23 B. T. A. 227. Nor is that legal accruability in 1924 affected by the. settlement of the contested insurance claims in 1925. Central United National Bank, 33 B. T. A. 588. Cf. Ithaca Trust Co. v. United States, 279 U. S. 151.

Here, in 1924, the partnership held policies of insurance in two English companies operating through Lloyds. The theft occurred in March of that year. From that time until after December 31, 1924, the companies not only denied the amount of the loss, but repudiated all liability. Furthermore, until after the end of 1924, it seemed impossible for the partnership to secure service in a suit on the policies brought in California, and, if judgment on such suit were to be had, there were no assets in that state with which to satisfy it.

Certainly, under such circumstances, the insurance companies could not have accrued any amount as a deduction for 1924. Lucas v. American Code Co., supra; Dexter Sulphite Pulp & Paper Co., supra.

A fortiori, the same doubtful character of the contested liability which would not support that assumed deduction prevented the accrual of the same amount by the present partnership. That is the decision of the Circuit Court of Appeals for the Second Circuit in the case of Commissioner v. Thatcher & Son, supra. There, the compensation ” of a taxpayer for a loss sustained by reason of a default of his subcontractors was held not to have been accruable, and thus not realized, because of the contemporaneous existence of the taxpayer’s contested rights to recoupment on the subcontractors’ breach of contract, and the subcontractors’ surety bonds for faithful performance of their contracts. I perceive no difference, for present purposes, in the legal status of the partnership here, under their insurance policies.

The disputed loss of the partnership in the amount of $34,303.61 occurred in 1924 and was not “ compensated for by insurance or otherwise.” Commissioner v. Highway Trailer Co., 72 Fed. (2d) 913, reversing 28 B. T. A. 792; certiorari denied, 293 U. S. 626, and Commissioner v. Thatcher & Son, supra.

Compensation for that loss, accruable in a later year, is taxable as income in that later year. Burnet v. Sanford & Brooks Co., 282 U. S. 359; Commissioner v. Thatcher & Son, supra; South Dakota Concrete Products Co., 26 B. T. A. 1429.

In my judgment, the petitioners sustained a loss of $34,303.61 in 1924, for which they were not compensated in any amount during that year. The loss was, therefore, deductible m totó on their tax returns covering that period.

Tkammell agrees with this dissent.

       Sec. 214 (a) (4), Revenue Acts of 1924 and 1926:
      “ In computing net income there shall be allowed as deductions:
      *******
      “(4) Losses sustained during the taxable year and not compensated for by insurance or otherwise, if incurred in trade or business.”


author: McMahon:

text:
    United National Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 67949.
    Promulgated December 27, 1935.

      Roger L. Shidler, Esq., for the petitioner.

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

McMahon:

This is a proceeding for the redetermination of a deficiency in income tax for the fiscal year ended June 30, 1930, in the amount of $7,310.68.

It is alleged that the respondent erred in including in petitioner’s taxable income a profit of $296,895.25 which petitioner had reported in its return as profit on a purported sale to United Pacific Bond & Share Corporation of certain stocks with warrants, instead of holding that such securities were pledged as security for a loan and not sold, and in disallowing petitioner’s claim for refund based upon the claim that such purported profit was erroneously reported as income.

The petitioner prays that this Board determine that there is no deficiency and that the petitioner is entitled to a refmid in the sum of $26,717.13.

The petitioner is a corporation organized under the laws of the State of Washington, with its principal place of business at Seattle. It is a holding corporation and makes investments. The buying and selling of stock is not the principal business of petitioner. Its income is derived principally from dividends.

At and prior to April 7, 1930, the petitioner was engaged in constructing certain buildings. Architects’ certificates were being presented and were to be presented in the near future involving a substantial sum of money, and cash was needed by petitioner. The resources of the petitioner at that time were about $19,000,000. It was decided that all necessary resources of the petitioner should be made available to enable it to meet its cash requirements. Prior to April 7, 1930, Ben B. Ehrliehman, president of the petitioner, had discussed with R. M. Drumheller, chairman of the board of directors of petitioner, and Odd O. Young, vice president of both the petitioner and of the United Pacific Bond & Share Corporation, and with others, the subject of petitioner’s obtaining a loan from the United Pacific Bond & Share Corporation, which was a subsidiary of petitioner and had the ability to make any necessary credit available. The petitioner was expecting funds from other sources and there was some doubt then as to whether petitioner would need to borrow money. It was, however, finally decided that petitioner would establish credit with the United Pacific Bond & Share Corporation so that it could draw money from that company as and if needed, all by going through the form of a sale and repurchase agreement covering certain securities owned by petitioner. Young, as vice president of petitioner, was instructed to incorporate the agreement in a letter. As a result of the agreement of the parties a letter dated April 7,1930, was written from petitioner to the' United Pacific Bond & Share Corporation, stating in part as follows:

We hereby confirm sale to you of:
22,100 shares Public Utility Holding Corporation, Common stock, W. W. at 26% a share
7,808 shares United Pounders Corporation, Common Stock, at 44% a share and
21,300 shares United States Electric Poweir Corporation, Common Stock, W. W., at 22% a share.
It is hereby expressly understood and agreed that upon demand, this corporation will repurchase from United Pacific Bond & Share Corporation, and United Pacific Bond & Share Corporation will sell to this corporation all or any of the above described stocks at the same respective prices as herein confirmed.
Kindly indicate your acceptance of and agreement to the above by signing and returning to this corporation the enclosed copy of this letter.

At the bottom of such letter is a statement signed by United Pacific Bond & Share Corporation as follows: “The above agreement is hereby accepted and approved.”

The above agreement was signed on behalf of petitioner by W. H. White, its vice president, and on behalf of the United Pacific Bond & Share Corporation by Odd O. Young, its vice president.

The purpose of this transaction was to permit petitioner to draw money from the United Pacific Bond & Share Corporation to the extent of the aggregate value at which the securities were delivered, or $1,408,983. It was intended that the transaction should be a mortgage and not a sale of the securities. The letter was designed to require either party to act on demand of the other. It embodies the method agreed upon by the parties to accomplish the loan. The securities shown in the letter were delivered by petitioner to the United Pacific Bond & Share Corporation. The delivery of the securities by petitioner to the United Pacific Bond & Share Corporation was at the market value at that date. The transaction was treated as a sale of the securities by both the petitioner and the United Pacific Bond & Share Corporation in their purchase and sales slips. The transaction was carried on the books of the petitioner as a sale of these securities and a profit was recorded on the books as of the date of sale in the amount of $296,895.25'. The following tabulation shows the manner in which the profit was computed by petitioner from information appearing on petitioner’s books:

On or about May 23,1930, the president of the petitioner conferred with other officers of the petitioner and the United Pacific Bond & Share Corporation and it ivas decided to redeliver these same securities back to the petitioner, since it was considered that the petitioner did not need the credit any longer. He gave directions that the securities be delivered back to the petitioner and they were so redelivered at the same figure at which they had previously been delivered to United Pacific Bond & Share Corporation. The market value of none of these securities was the same on May 23 as on April 7, 1930. The securities were then restored to the petitioner’s books, but at the figure at which they were returned on May 23,1930, which was the same as that of Ajiril 7,1930.

The president of the petitioner first learned in February 1931 that a profit had been recorded on the delivery of the securities to United Pacific Bond & Share Corporation. He then gave directions to eliminate this profit on the books and to restate the securities- on the books at their original cost to petitioner. The recorded profit was charged to surplus and these securities were reduced on the books of the petitioner to the original cost. This was done on the books under date of March 31, 1931, as of February 26¿ 1931, the Tatter date being the date that the condition of the records of petitioner was brought to the attention of its officers.

According to petitioner’s books, it had, between April 7 and May 23, 1930, a credit of at least $1,408,983 with the United Pacific Bond & Share Corporation, except on April 29 and April 30, when the credit was $1,082,496.

Other securities, not involved or described herein, which were actually sold by petitioner to the United Pacific Bond & Share Corporation, were delivered by the former to the latter at the same time as the securities involved herein.

In the petitioner’s income tax return for the fiscal year ended June 30, 1930, there was included a profit on the delivery of the assets in question by petitioner to the United Pacific Bond & Share Corporation in the amount of $296,895.25. At the time he signed this return the president of the petitioner did not know that such profit was included therein. In such return the petitioner reported tax due in the amount of $34,027.99, which amount was paid.

On July 9, 1931, the petitioner filed with the collector of internal revenue for the district of Washington a claim for refund of the amount of $34,027.99 paid pursuant to the return, claiming therein that the profit of $296,895.25 was erroneously reported as income in the return. It was therein stated that the petitioner sold the securities in question to the United Pacific Bond & Share Corporation, a subsidiary, under a repurchase agreement, and that the identical securities were reacquired under the terms of the repurchase agreement on May 23, 1930.

In the notice of deficiency the respondent denied the claim for refund and held that the amount of $296,895.25 was properly reported as income in the return. The respondent stated in part:

This office holds that the letter of April 7, 1930, is not conclusive that no profit was realized on the stocks in question during the taxable year. As shown in said letter repurchase was to be made on demand of the United Pacific Bond and Share Corporation. The demand might never have been made.

The tax shown to be due by the petitioner upon its return was paid within three years before the filing of the claim for refund, which was filed before the petition in the instant proceeding was filed.

Up oil the foregoing facts’, which we find, the sole question presented for decision in this proceeding is whether the delivery of the securities in question by petitioner to the United Pacific Bond & Share Corporation constituted a sale of such securities resulting in taxable income to the petitioner, as held by the respondent, or constituted a mortgage of such securities to secure indebtedness, as contended by petitioner.

It may be well to say at the outset that although the proof is to the effect that the United Pacific Bond & Share Corporation was a subsidiary of the petitioner, it is stated in petitioner’s brief that the two corporations were not affiliated within the meaning of the internal revenue laws; thus eliminating any question as to inter-company transactions.

The governing factor in determining whether the transaction was a sale or a mortgage is the intention of the parties-, and this is to be gathered not only from the instruments themselves, but from all the attending facts and circumstances. In Peugh v. Davis, 96 U. S. 332, the Supreme Court stated:

It is an established doctrine that a court of equity will treat a deed, absolute in form, as a mortgage, when it is executed as security for a loan of money. That court looks beyond the terms of the instrument to the real transaction; and when that is shown to' be one of security, and not of sale, •it will give effect to the actual contract of the parties. As the equity, upon which the court acts in such cases, arises from the real character of the transaction, any evidence, written or oral, tending to show this is admissible. The rule which excludes parol testimony to contradict or vary a written instrument has reference to the language used by the parties. That cannot be qualified or varied from its natural import, but must speak for itself. The rule does not forbid an inquiry into the object of the parties in executing and receiving the instrument. * * *

To the same effect are Russell v. Southard, 12 How. 138; F. & R. Lazarus & Co., 32 B. T. A. 633; First National Bank in Wichita, 19 B. T. A. 744; affd., 57 Fed. (2d) 7; and J. W. Solof, 1 B. T. A. 776.

In Russell v. Southard, supra, the Supreme Court said, “ in doubtful cases, the court leans to the conclusion that the reality was a mortgage and not a sale. [Citing cases.] ” To the same effect is F. & R. Lazarus & Co., supra.

While the above cited cases deal with real property, it is equally true that a bill of sale of chattels, though absolute in form, may nevertheless constitute a mortgage. In Sawyer v. Turpin, 91 U. S. 114, a case involving a chattel interest, the Supreme Court stated in part:

The conveyance was by a bill of sale absolute in its terms, having no condition or defeasance expressed, but it was understood by the parties to be a security for the debt due. It was in substantial legal effect, though not in form, a mortgage. >

See also J. W. Solof, supra.

The law oí the State of Washington as to chattel mortgages is in accord with the principles above set forth. Collins v. Denny Clay Co., 41 Wash. 136; 82 Pac. 1012; Olsen v. Legal Adjustment Bureau, 142 Wash. 432; 253 Pac. 643; and Kenworthy Grain & Milling Co. v. Green Meadow Cheese Factory & Dairy Co., 171 Wash. 513; 18 Pac. (2d) 489. In the last cited case a bill of sale of cattle was absolute in form, but a letter was given at the same time; and the Supreme Court of Washington held that, considering the two instruments together, as it was necessary to do, the bill of sale was, in effect, and was intended to be, as between the parties, a chattel mortgage.

B. M. Drumheller, chairman of the board of directors of the petitioner, Ben B. Ehrlichman, president of the petitioner, and Odd O. Young, vice president of both the petitioner and the United Pacific Bond & Share Corporation, who signed the repurchase agreement on behalf of the latter corporation, each testified, in effect, that the purpose of the transaction was to effect a loan from the United Pacific Bond & Share Corporation to petitioner by way of a credit in favor of petitioner to be drawn against as and if needed. These were the individuals who, as representatives of the two corporations, discussed the matter of a loan and arrived at the agreement. Drum-heller and Ehrlichman testified that it was the intention of the parties that under the repurchase agreement either party to the agreement should have the right to demand the repurchase of the securities by the petitioner. Young, who was vice president of both corporations, the only parties to the transactions, testified that it was not the intention to affect a sale of the securities.

Illustrative of the testimony upon the subject is the following testimony of Drumheller:

I suggested tliat the United National Corporation make a loan from the United Pacific Bond & Share Corporation. After some discussion the conversation disclosed there was some doubt as to whether or not the money would actually be required. The United National Corporation was expecting funds from other sources which might be received in time for calls for money that we had in mind; and as I recall it Mr. Ehrlichman suggested that under those circumstances it would be best not to borrow the money all at that time, but to arrange for a credit and to draw down money as the money was required and if it was required, and to accomplish that it was agreed that the money be borrowed on the basis of a repurchase agreement of the securities; that the sale be made in the form approximately as I recall it of $1,400,000 in securities and that the United National Corporation would then call for those bonds up to the $1,400,000 as the money was required, and that it was to be agreed as between the two corporations to the effect that the United National Corporation on demand from the United Pacific Bond & Share Corporation was to return the money and receive back the securities; and also, that upon demand on the United Pacific Bond & Share Company they would return back the securities and receive the money.

Bearing in mind that in doubtful cases a transaction of this sort should be deemed a mortgage rather than a sale, we are constrained to hold that the delivery of securities by petitioner to the United Pacific Bond & Share Corporation in the instant proceeding was intended to be and in reality was a mortgage and not a sale. The testimony of the witnesses, above referred to, was clear and convincing, the witnesses were not impeached, and their testimony is sufficient to overcome the presumption in favor of the correctness of the respondent’s determination. There is no parol evidence whatsoever that the transaction constituted a sale. Furthermore, it is significant that the securities were redelivered to petitioner at the same figure at which they were previously delivered by petitioner to the United Pacific Bond &" Share Corporation, despite the fact that the values of the securities were, different on the two dates. It is also1 significant that the full value of the stock as agreed upon was never paid over to petitioner, notwithstanding that the United Pacific Bond & Share Corporation was in a position to turn over all of the money required and that contemporaneously other securities were actually sold and delivered. Too, the evidence shows that the buying and selling of stock is not the principal business of petitioner.

There is no proof to show whether or not the agreement was recorded. However, even if it were not, it would not be any the less effective as between the parties to it. As stated by the Supreme Court in Dale v. Pattison, 234 U. S. 399, 405, “ There is no question that * * * a chattel mortgage, as well as a pledge, is valid between the parties, although not recorded.” The law of the State of Washington is to the same effect. See Heal v. Evans Creek Coal & Coke Co., 71 Wash. 225; 128 Pac. 211.

We have not overlooked the fact that the transaction was treated as a sale of securities on the books of the petitioner and that in its return for the taxable year in question the petitioner returned a profit as upon a sale. This, however, is not conclusive when considered in the light of the fact that the parties pui’posely put the transaction through in the form of a sale, issuing sales slips. The proof shows that when the officials of the petitioner, about five months after the due date for the filing of the return for the taxable year in question, became cognizant of the fact that a profit was shown, the profit was eliminated from the books at their direction and there was filed, about 10 months after such date of the return, a claim for refund of the taxes paid upon the reported profit upon the transaction. From the evidence we are satisfied and have found as a fact that the president of the petitioner, at the time he signed the return, did not know that a. profit upon the transaction was being reported.

Nor have we overlooked the fact that the securities were delivered at their market or full value. This, in the absence of other evidence, would be of importance as tending to show that a sale was intended (Russell v. Southard, supra), but from the testimony we are satisfied that a loan was intended. To us it is not unreasonable to consider that the United Pacific Bond & Share Corporation would loan the full value of the securities in view of the fact that the petitioner’s resources at the time were approximately $19,000,000 and the fact that the petitioner and the United Pacific Bond & Share Corporation were affiliated corporations.

Respondent also stresses the fact that there was no interest provided to be paid by the petitioner. We do not deem this controlling in the circumstances herein. The evidence shows that it was not contemplated that the petitioner would have to use the full amount of credit extended by the United Pacific Bond & Share Corporation, but that it desired the credit in the event it needed such credit. Actually, the petitioner used only a portion, $326,487, of the credit and that for only a short while. Furthermore, the petitioner and the United Pacific Bond & Share Corporation being closely related corporations, it is not significant that no interest was provided for. The failure to stipulate for interest is not conclusive. See F. & R. Lazarus & Co., supra.

Here the parties to the agreement, within two months after the securities had been delivered by petitioner to the United Pacific Bond & Share Corporation, mutually agreed that they should be redelivered to petitioner, since petitioner no longer needed the credit, and they were so redelivered within the taxable year in question. Thereafter, petitioner was in exactly the same position as it was before it transferred the securities to the United Pacific Bond & Share Corporation. The transaction as a whole actually resulted in no gain to petitioner.

The case of Conway v. Alexander, 7 Cranch, 218, relied upon by the respondent, is distinguishable. The distinction clearly appears from the following language of the Court:

* * * The want of a covenant to repay the money is not complete evidence that a conditional sale was intended, but is a circumstance of no inconsiderable importance. * * *
* * * It is certain, that this: deed was not given to secure a pre-existing debt. The connection between the parties commenced with this transaction. The proof is also complete, that there was no negotiation between the parties respecting a loan of money; no proposition ever made respecting a mortgage. * * * No expression is proved to have ever fallen from Robert Alexander, before or after the transaction, respecting a loan or a mortgage. He does not appear to have imagined that money was to be so obtained; and when it became absolutely necessary to raise money, he seems to have considered the sale of property as his only resource.
To this circumstance, the court attaches much importance. Piad there been any treaty — any conversation respecting a loan or a mortgage, the deed might have been, with more reason, considered as a cover intended to veil a transaction differing in reality from the appearance it assumed. But there was no such conversation. The parties met and treated upon the ground of sale and not of mortgage.
* * * * * * *

In the instant proceeding several witnesses testified that there were negotiations between the parties respecting a loan of money and the parties treated upon the ground of mortgage and not of sale.

The other Supreme Court of the United States case cited by respondent, Wallace v. Johnstone, 129 U. S. 58, is also clearly, distinguishable, as appears from the following statement of the court:

The evidence, as it appears in the record1, is much less contradictory than is usual in such cases where it is sought by parol testimony to change an absolute conveyance, with a collateral agreement for a repurchase, into a mortgage.
With the single exception of the appellant, all the witnesses conversant with the negotiations between the parties unite in giving testimony tending to show that the transaction was a purchase of the lands by the appellee * * *.

In the instant proceeding several witnesses, representing both parties to tire transaction, gave testimony showing that the transaction was not a sale of the securities, but was a mortgage, and there is no parol evidence whatever that a sale was intended.

Respondent cites Irving Fisher, 30 B. T. A. 433, primarily for the principle that the burden is upon the petitioner to show that the transaction constituted a mortgage and not a sale not only because the respondent has officially determined it to be a sale, but also because it was expressly so designated in the contract of the parties thereto. We agree with the respondent that the burden of proof rests on the petitioner; and, in reaching our result herein, we have held the petitioner to his burden.

In that case as is in the instant proceeding parol evidence “ dehors the contract ” was received and considered upon the subject of whether transactions resulted in sales or loans. Obviously, if such evidence had been sufficient to establish a loan the result there would have been different; and the decision of each case must depend upon the facts and circumstances disclosed.

Irving Fisher, supra, is, in other respects, distinguishable. There the repurchase agreement was merely an option exercisable by the taxpayer. In the opinion in that case we stated that the right to reacquire “ was entirely at his election ” and that “ There was * * * no duty upon him to pay back any of the amount received * * In the instant proceeding the United Pacific Bond & Share Corporation could demand that the petitioner take back the securities and repay the amount involved; and this was actually done. In that case we pointed out in th.e opinion that none of the parties on the other side of the contract testified. In the instant proceeding Odd O. Young, vice president of both the petitioner and the United Pacific Bond & Share Corporation, who signed the repurchase agreement on behalf of the latter corporation, testified, as did other witnesses, that the purpose of the transaction was to effect a loan and that it was the intention of the parties to effect a sale of the securities. In the Fisher case we arrived at the conclusion, from the evidence, that when the taxpayer found that the terms amounted to an usurious contract he conscientiously and voluntarily gave up the idea of borrowing and worked out a plan of sale which would distribute the opportunity for profit between himself and the buyer, thereby avoiding the imputation of usury to the parties, whereas upon the undisputed evidence in the instant proceeding we are satisfied that the parties intended a mortgage and not a sale and that everything that occurred is reconcilable with the conclusion that a loan and not a sale resulted. In the Fisher case there was parol evidence which was wholly inconsistent with the view that a loan and not a sale was intended. Here borrowing by the taxpayer was necessary. The facts and circumstances there are in other respects quite different from those of the instant proceeding.

Bank of California, National Association, 30 B. T. A. 556, is distinguishable from the instant proceeding as well as from First National Bank in Wichita, supra.

Under all the facts and circumstances here presented none of the other cases cited by respondent permit, much less require, a holding different from that herein reached and hence are not controlling.

In arriving at our conclusion in this proceeding we have given no effect to any of the evidence offered to show that later, and in the succeeding taxable year, the petitioner entered into a similar transaction with the same corporation with respect to some of the same securities as are herein involved. We deem such evidence as to one isolated subsequent transaction immaterial. It is unnecessary for us to decide what effect evidence of this character showing a subsequent established course of dealing between the parties would have, since no offer of such proof was made.

Compare the following cases in which the courts and the Board have denied deductions on sales where the taxpayer did not intend to and did not finally dispose of his property, although going through the form of selling it, in some cases sales of stock being made through an exchange in the usual way: Shoenberg v. Commissioner, 77 Fed. (2d) 446, affirming Sydney M. Shoenberg, 30 B. T. A. 659; certiorari denied, 296 U. S. 586; Rand Co., 29 B. T. A. 467; affd., 77 Fed. (2d) 450; Dyer v. Commissioner, 74 Fed. (2d) 685; certiorari denied, 296 U. S. 586; Esperson v. Commissioner, 49 Fed. (2d) 259; affirming Mrs. Niels (Mellie) Esperson, Executrix, 13 B. T. A. 596; certiorari denied, 284 U. S. 658; Joseph Blumenthal, 30 B. T. A. 125; Luella Hoyt Slayton, 29 B. T. A. 931; affd., 76 Fed. (2d) 497; certiorari denied, 296 U. S. 586; Mrs. J. B. Atkins, 28 B. T. A. 500; petition to review denied, 76 Fed. (2d) 387; James Brown, 10 B. T. A. 1036; J. R. Young, 6 B. T. A. 656; M. I. Stewart & Co., 2 B. T. A. 737; and Harold B. Clark, 2 B. T. A. 555.

The petitioner prays that the Board determine that the petitioner is entitled to a refund. The Board does not have jurisdiction to order a refund, but does have jurisdiction to determine whether petitioner has made an overpayment of tax for the year in question and to determine the amount of such overpayment. Sec. 322 (d), Revenue Act of 1934. The recomputation will disclose whether there has been an overpayment of tax by the petitioner for the fiscal year ended June 30, 1930. As appears from our findings the tax shown to be due by the petitioner upon its return was paid within three years before the filing of the claim for refund, which was filed before the petition in the instant proceeding was filed.

Reviewed by the Board.

Decision will be entered under Bule SO.

SteRnhagen and Mellott dissent.

      (d) Overpayment Found by Board. — If the Board finds that there is no deficiency and further finds that the taxpayer has made an overpayment of tax in respect of the taxable year in respect of which the Commissioner determined the deficiency, the Board shall have jurisdiction to determine the amount of such overpayment, and such amount shall, when the decision of the Board has become final, be credited or refunded to the taxpayer. No such credit or refund/ shall be made of any portion of the tax unless the Board determines as part of its decision that' it was paid within three years before the filing of the claim or the filing of the petition, whichever is earlier.


author: Smith:

text:
    Robert P. Morsman, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 65053.
    Promulgated December 27, 1935.

      Edgar M. Morsman, Jr., Esq., for petitioner.

      E. L. Corbin, Esq., for the respondent.
   Opinion.

Smith:

This proceeding involves a deficiency in petitioner’s income tax for 1929 in the amount of $5,440.70. The only question in issue is whether the profit from the sale of certain securities is taxable to the petitioner individually, as the respondent has determined, or to a trust entity, as claimed by the petitioner.

On January 28,1929, the petitioner signed an instrument purporting to be a trust agreement, reciting:

That I, Robert P. Morsman, oí Ornaba, Douglas County, Nebraska, do hereby declare that I hold the property hereinafter mentioned in trust for the uses and purposes hereinafter set forth, and to that end I do hereby sell, assign, transfer, and set over to myself as trustee the following described goods, bonds, credits, securities, and property, to-wit:
100 shares A. T. & T. Co.
600 shares International Utilities Pfd. B.
TO Have a^d to Hoed said goods, bonds, credits, securities, and property unto said Robert P. Morsman, his successors and assigns, but in trust, and for the uses and purposes and upon the conditions as follows, to-wit:
(1) The United States Trust Company shall be the successor in trust. At any time prior to January 1, 1939, the trustee, Robert P. Morsman, may turn over to the United States Trust Company the trust funds and property, and thereupon said United States Trust Company shall become trustee hereunder, and said Robert P. Morsman shall cease to be trustee. On January 1, 1939, it shall be the duty of said Robert P. Morsman to turn over the trust fund and property to the United States Trust Company as successor in trust to the said Robert P. Morsman.
(2) The creator of this trust may, from time to time, turn over to, the trustee additional funds and property and thereupon such additional funds and property shall be and become part of the trust hereby created, subject to all the terms and conditions hereof.
(3) The income of said fund and property shall remain undistributed up to January 1, 1934, and shall, up to said date, be added to and become a part of the principal of said fund.
(4) The trustee shall have full power and authority to manage, handle, control, sell, invest, and reinvest said trust pi-operty in the manner in which the trustee shall deem wise and proper.
(5) After January 1, 1934, the income from said property and funds shall be paid to Robert P. Morsman during the remainder of his natural life.
(6) In the event Robert P. Morsman dies leaving issue, then said income shall be divided annually among such issue, children of a deceased child' to take the share such deceased child would have taken had such a child not died.
(7) In the event Robert P. Morsman dies leaving no issue surviving him, then upon his death said trust shall cease and terminate. Should Robert P. Morsman die leaving issue surviving him, then said trust shall cease and terminate twenty years after his death.
(8) Upon the termination of said trust, the trust estate shall be divided between the issue of Robert P. Morsman, if there be any then living, children of a deceased child to take the same share such deceased child would have taken had such child not died. If, at the termination of said trust, there be no issue of said Robert P. Morsman then living, and said Robert P. Morsman dies a married man, then said trust estate shall be turned over to the widow of said Robert P. Morsman, if there be one then living, and, if not, then said trust estate shall be distributed among the heirs of Robert P. Morsman, heirs to be ascertained according to the laws of the state of Nebraska.

The instrument was prepared by petitioner’s brother, Edgar M. Morsman, Jr., a lawyer, a short time before the petitioner signed it. The petitioner was then in bad health.

At the time of signing the instrument the petitioner endorsed the securities mentioned therein and placed them with the instrument in his safe deposit box at the United States Trust Co., Omaha, Nebraska. Thereafter, and pursuant to the provisions of paragraph (2) of the above instrument, the petitioner added to the securities above referred to 100 shares of American Telephone & Telegraph Co. stock.

On or about February 4, 1929, the petitioner sold 100 shares of the American Telephone & Telegraph Co. stock set apart as above indicated, for a consideration of $22,166. With the proceeds of this sale he purchased a cashier’s check payable to himself as trustee, which he placed in his safe deposit box. On or about February 8, 1929, the petitioner added to the so called trust fund his personal check for $2,371.78, made out to himself as trustee. On or about February 7, 1929, the petitioner sold the 600 shares of International Utilities preferred B stock for $11,901, and on or about May 1, 1929, sold the remaining 100 shares of American Telephone & Telegraph Co. stock for $23,291.

Soon after the above mentioned sales of securities were made the petitioner, pursuant to the provisions of paragraph (1) of the above instrument, reinvested the proceeds in mortgages, bonds, and other securities, and on May 3, 1929, assigned the entire fund, amounting to $59,337, to the United States Trust Co1, as trustee.

In his individual income tax return for 1929, the petitioner did not report any profit on the sales of the securities mentioned above. The profit on these sales was, however, reported in a return filed by the United States Trust Co. as trustee. The respondent has determined that the profits on the sales of the shares in question are taxable to the petitioner.

In his petition the petitioner alleged error with respect to respondent’s determination of the amount of the profit derived from the sales of the securities in question, but now waives such allegation of error, leaving for our determination only the question whether the petitioner is taxable upon the profits arising from the sales of the securities.

The provisions of the Revenue Act of 1928 bearing upon the question presented are as follows:

SEC. 161. IMPOSITION OF TAX.
(a) Application of tax. — The taxes imposed by this title upon individuals shall apply to the income of estates or of any kind of property held in trust, including—
(1) Income accumulated in trust for the benefit of unborn or unascertained persons or persons with contingent interests, and income accumulated or held for future distribution under the terms of the will or trust;
(2) Income which is to be distributed currently by the fiduciary to the beneficiaries, and income collected by a guardian of an infant which is to be held or distributed as the court may direct;
(3) Income received by estates of deceased persons during the period of administration or settlement of the estate; and
(4) Income which, in the discretion of the fiduciary, may be either distributed to the beneficiaries or accumulated.
(b) Computation and payment. — The tax shall be computed upon the net income of the estate or trust, and shall be paid by the fiduciary, except as provided in section 166 (relating to revocable trusts) and section 167 (relating to income for benefit of the grantor). Por return made by beneficiary, see section 143.
SEC. 16 6. REVOCABLE TRUSTS.
Where the grantor of a trust has, at any time during the taxable year, either alone or in conjunction with any person not a beneficiary of the trust, the power to revest in himself title to any part of the corpus of the trust, then the income of such part of the trust for such taxable year shall be included in computing the net income of the grantor.
SEC. 167. INCOME FOR BENEFIT OF GRANTOR.
Where any part of the income of a trust may, in the discretion of the grantor of the trust, either alone or in conjunction with any person not a beneficiary of the trust, be distributed to the grantor or be held or accumulated for future distribution to him, or where any part of the income of a trust is or may be applied to the payment of premiums upon policies of insurance on the life of the grantor (except policies of insurance irrevocably payable for the purposes and in the manner specified in section 23 (n), relating to the so-called “charitable contribution” deduction), such part of the income of the trust shall be included in computing the net income of the grantor.

It is the contention of the respondent that:

* * * until the trust property was delivered and turned over to the United States Trust Co. as successor in trust under the provisions of paragraph 1 of the trust instrument, which occurred on May 3, 1929, the petitioner had complete control and power of revocation, and that the income from the said trust property is properly taxable to him. While it may be true that the trust instrument in itself reserves to the grantor no specific power of revocation, or power to reinvest in himself title to the corpus of the trust, it cannot truly be said that he did not have such power. The petitioner, Robert P. Morsman, was the grantor and creator of the trust, the provisions of which make him also trustee and beneficiary. He also retained a reversionary interest as provided in paragraph 8 oí tlie said trust instrument. During the period from January 28, 1920, to May 3, 1929, the petitioner was in physical possession of the trust instrument. He was in physical possession of the property composing the trust. He was the only beneficiary to the trust. There were no other interested parties. Clearly, this gave him absolute control to reinvest in himself title to the corpus of the trust or to destroy the trust at will. All that would have been necessary for him to have done during this period would be to have torn up the trust instrument or have revoked the same without incurring opposition from anyone or without involving the interest of third parties, even though the document itself reserved to the grantor no specific authority to revoke- the same.

There is no question but that one may declare himself trustee for another or others and thus create a legal trust. Adams v. Adams, 21 Wall. 185; Samuels v. Drew & Co., 296 Fed. 882; Rose v. Commissioner, 65 Fed. (2d) 616. It is essential to a- valid private trust, however, that there be a cestui que trust distinct from the trustee. A trust can not exist where the legal and beneficial interests are in the same person and where there is no separation of the legal and equitable estates. The rule is stated in Corpus Juris, vol. 65, p. 512, as follows:

c. Beneficiary of Trust. While it has been stated very broadly and with great positiveness that the same person cannot be both trustee and beneficiary, this doctrine results from that of merger of estates rather than from any incompatibility of interest between the trustee and cestui que trust. It is undoubtedly true that the same person cannot be at the same time sole trustee and sole beneficiary of the same identical interest; or, in other words, that a trust cannot exist where the legal and beneficial interests are in the same person. But the prohibition against the dual relationship is directed against the same interest, and a cestui que trust is not absolutely prohibited from occupying the ofiice of trustee, especially where he is only one of several trustees, or where he is a trustee for himself and others, and as long as the trustee is not the sole beneficiary, it is no objection to the validity of a trust that the trustee named is one of the beneficiaries. It is, however, repugnant to the general theory of trusts that a trustee who is also a beneficiary should be given the right to expend the entire trust in accordance with his own judgment and for his own use and enjoyment.

In Young v. Mercantile Trust Co., 140 Fed. 61; affd., 145 Fed. 39, the essential elements ” of a trust are said to be a beneficiary, a trustee other than the beneficiary, the subject-matter of the trust relations, and surrender of the property and transfer of the title to the trustee.” It was also said in Des Moines Terminal Co. v. Des Moines Union Ry. Co., 52 Fed. (2d) 616, 633:

It is insisted that under the decree of the court both the legal and the beneficial interest are in the Terminal Company, and hence that no trust is created. That a trust cannot exist where the legal and beneficial interest are in the same party is settled doctrine. 26 Ruling Case Law, 118G. * * *

It has been held that a testamentary trust was not invalid where the testator’s husband was a beneficiary and one of the trustees “ for the reason that he is not the sole trustee.” See In re Arnolt's Estate, 217 N. Y. S. 323. Also, it was held in Nelson v. Meade, 149 Atl. 626, 629, that:

It is no objection to tbe validity of a trust that the trustee named is one of the beneficiaries, Burbach v. Burbach, 217 Ill. 547, 75 N. E. 519; Summers v. Higley, 191 Ill. 193, 60 N. E. 969, but it is inconsistent with and repugnant to the general theory of trusts that the trustee who is also a beneficiary should be given the right to expend the entire trust fund in accordance with her own judgment and discretion, and for her own use and enjoyment.

A leading case on the subject is In re Fox’s Estate, 264 Pa. 478; 107 Atl. 863, where the court said:

Cestuis que trust are not, as such incapacitated from being trustees for themselves and others; but, as a general rule, they are not altogether fit persons for the office, in consequence of the probability of a conflict between their interest and their duty. Lewin on Trusts, vol. 1, § 40; Perry on Trusts, §§59 and 297. But it has been stated with great positiveness that the same person cannot be both trustee and beneficiary. Where the trustee is' made beneficiary of the same estate, both in respect to its quality and quantity, the inevitable result is that the equitable is merged into the legal so that the latter alone remains. Such was Hahn v. Hutchinson, 159 Pa. 133, 28 Atl. 167. This doctrine results more from the merger than from any incompatibility of interest between the trustee and cestui que trust. * * * But the prohibition against the dual relationship is directed against the same interest, and therefore a cestui que trust is not absolutely excluded from occupying the office of trustee, especially where he is one of several trustees, or where he is trustee for himself and others.

See also Clark v. Sisters of Society of The Holy Child Jesus, 82 Neb. 85; 117 N. W. 107.

The rule established by the above cited cases is applicable here. At least until May 3, 1929, the trustee and the cestui que trust were one and the same person. The trust instrument of itself did not result in the creation of a legal trust. The petitioner’s motives in the undertaking are of no consequence, although he admits that the question of tax liability on the sale of the securities involved was considered by him in his decision to create a trust. The trust, if any existed, did not arise until after the sale of the securities, when the petitioner transferred tire funds to the United States Trust Co. as trustee. Cf. Stoddard v. Eaton, 22 Fed. (2d) 184; N. H. Boynton, 11 B. T. A. 1352; Benjamin F. Wollman, 31 B. T. A. 37.

Since no valid trust existed at the time the securities were sold, it is unnecessary to comment on the respondent’s further contention that the trust, if any existed, was revocable by the petitioner up to May 3, 1929, and that the income in question is therefore taxable to the petitioner.

Beviewed by the Board.

Judgment will be entered for the respondent.

Leech dissents.