author: Opper: Black,

text:
    Howard Phipps, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 104950.
    Promulgated July 17, 1942.

      B. E. Bartholow, Esq., for the petitioner.

      Z. N. Diamond, Esq., for the respondent.
   OPINION.

Opper:

We can not distinguish this case in principle from Commissioner v. Buck (C. C. A., 2d Cir.), 120 Fed. (2d) 775, which applies to its own facts the theory of Helvering v. Clifford, 309 U. S. 331, and concludes that the taxpayer there was subject to tax on the income of a trust he had created. We think the same result must follow here.

It has been said that the Clifford principle rests upon a triangular base: Control over the corpus by the grantor, intimate family relationship with the beneficiaries, and the short term of the trust. But the clarification contributed in a number of subsequent decisions makes it evident that the last of the three considerations is in fact nothing but a factor supplemental to the other two. The doctrine may be narrowed to this: That if the grantor has retained the substance of control over the custody and management of the principal of the trust by his own position as trustee or by his control of the fiduciary, cf. Frank G. Hoover, 42 B. T. A. 786, and if at the same time he enjoys a sufficient measure of the financial or even of the noneconomic benefits of tlie income through its distribution within the intimate family group, Whitely v. Commissioner (C. C. A., 3d Cir.), 120 Fed. (2d) 782, or alternatively through his control of that distribution, direct or indirect, Commissioner v. Buck, supra, then the transfer to the trust is at best illusory and the grantor has unsuccessfully attempted “to .have his cake and eat it.”

The function of the length- of the term of the trust is thus no more than to act as an indicator or contributing factor in the determination of the other two criteria. Morton Stein, 41 B. T. A. 994. If the term is short, evidence of control is furnished almost automatically. If the term is long or indeterminable, it may be that other elements •of control must be found. Helvering v. Elias (C. C. A., 2d Cir.), 122 Fed. (2d) 171; Ellis H. Warren, 45 B. T. A. 379. And the same may be said of the grantor’s position as sole or joint trustee. He may, through a power to influence the trustee’s action, be in a position as dominant as though he were technically the trustee himself. Frank G. Hoover, supra; Commissioner v. Barbour (C. C. A., 2d Cir.), 122 Fed. (2d) 165. The important process is to decipher if we can in an all-inclusive survey of the terms of the arrangement, the relationship of the parties, and the potential as well as actual developments, whether there has in fact resulted an open-handed freeing by the grantor of substantially all of his connection with the trust property on the one hand or a purely perfunctory and superficial release while at the same time the basic elements of control and enjoyment remain. Cf. Harrison v. Schaffner, 312 U. S. 579; Helvering v. Horst, 311 U. S. 112.

The present circumstances may indeed differ considerably from those in the Clifford case. But the principle does not rest within the frame of an instantly recognizable and always identical arrangement of provisions and circumstances. The grantor may ostensibly have surrendered what lawyers are accustomed to consider the legal tools for controlling property. The income may be irrevocably guided to destinations excluding his own pocket. Yet the doctrine of the Cilford case requires the triers of the facts to consider whether, in the light of all the circumstances and with an eye to all the significant relationships, the grantor has so fundamentally separated himself from the control of corpus, the enjoyment of income, and the realization of economic benefits and personal satisfactions connected with the property, that as practical people we can assure ourselves of the reality of any conclusion that the beneficiary enjoys substantially ail, and the grantor substantially none, of those advantages of civilized government inhering in the possession of property for which income taxes in the last analysis are exacted. See Corliss v. Bowers, 281 U. S. 376.

In many situations, to which the present is no exception, this is a difficult and subtle exercise. It may be necessary to arrive at an appropriate solution by resort to analogy and hypothesis. And yet if we fail to do so a result which is evident to the lay mind may fail of recognition by the very bodies which are entrusted with applying in the field of taxation what must be essentially practical and common experience.

Here we have the story of an individual whose asserted motive is the making of periodic gifts to a member of his intimate family. If, while retaining the property producing them, these presents were handed out from time to time by the petitioner, it is clear his income would remain undiminished for tax purposes. Helvering v. Horst, supra. But for reasons of which we are not apprised, except that they seem to have stemmed from the legal and technical advice which petitioner obtained, these gifts were made, not by an outright transfer, but by the indirect process of a discretionary trust, with at least the exercise of a joint control lodged in a corporate trustee operated by petitioner’s family.

Clearly this family fiduciary was dominated by petitioner, his brothers and sisters. Just as positively, though this is partly inference, the wishes of each as to the fiduciary’s transactions respecting a trust established by him would be respected by the others. To every practical degree, therefore, we must consider that petitioner could control the fiduciary’s activities to accord with his wishes, even though he may as yet have made no effort to do so, and we have so found as an ultimate fact. “The possession of the power is determinative, not the fortuitous manner of its use.” David M. Heyman, 44 B. T. A. 1009.

Income was payable for the wife’s use or for the support of the child, or was to be accumulated, depending exclusively on the discretion of the trustees. In New York, decisions of that nature must be unanimous in the case of multiple trustees, and that, of course, is even more true where there are but two. “It seems to be well established that where the acts of trustees call for exercise of discretion and judgment, the concurrence of all is necessary.” In re Johnson’s Will, 123 Misc. 834; 207 N. Y. S. 66; In re Campbell’s Estate, 13 N. Y. S. (2d) 773; affd., 26 N. Y. S. (2d) 491.

The wife, therefore, could lay no positive claim to a single penny of the trust income. See Fulham v. Commissioner (C. C. A., 1st Cir.), 110 Fed. (2d) 916. If the corporate trustee of which petitioner had practical control refused to sanction the enjoyment of these benefits by the wife, her capacity to share in the prospective gifts could be limited, reduced, or destroyed. The money could then be spent for the support of petitioner’s child, or it could be withheld from both wife and child. “Though lacking legal power to control [the trustee’s] discretion, there is little doubt that [the grantor] could have her way in directing the disposition of income between the possible beneficiaries.” Commissioner v. Lamont (C. C. A., 2d Cir.), 127 Fed. (2d) 875.

True, so long as the affectionate solidarity of the family was preserved, such a development was unlikely, and in fact we know from the evidence that it has not occurred. But if these contributions flowing indirectly from the petitioner were those which he would in any event have contrived for his own personal satisfaction, there is here no detriment to his position, attributable to the trust arrangements, such as would satisfy the Clifford test. A similar situation applies to the management of the corpus and to the reinvestment of accumulated income. Petitioner’s subservient corporation could stalemate, and in fact did arrange and govern these matters.

Thus, so long as the anticipated relationship between petitioner and his wife might prevail we have the very essence of the family’s solidarity upon which the principle of the Clifford case fundamentally rests. And if the time arrives when this no longer obtains, the structure and arrangement of the trust is such that petitioner’s intervention can be made effective. See David M. Heyman, supra. He can then control, by indirection, the distribution of the trust income. Commissioner v. Buck, supra.

It can not be said that petitioner has relinquished this control merely because, in addition to the discretionary possibility of the current receipt of income by the wife, she has a substantial right by virtue of her interest in income and principal upon the death of the daughter. That condition did not exist during the year we are considering. Cf. Frank G. Hoover, supra. And while such a potential adversity of interest may be significant in applying sections 166 and 167, it is inconsequential in construing section 22 (a). But cf. Everett D. Graff, 40 B. T. A. 920; affd. (C. C. A., 7th Cir.), 117 Fed. (2d) 247. And see Altmaier v. Commissioner (C. C. A., 6th Cir.), 116 Fed. (2d) 162. And finally the power of appointment over the principal which was given to the wife was, like all the other trust arrangements when adequately scrutinized, carefully limited and safeguarded so that the grantor failed to relinquish his fundamental interest. For the appointment is confined to claimants who would be the natural objects of the grantor’s bounty in any event, his own descendants. We can scarcely conclude that a power so circumscribed, particularly with respect to any desire which the wife might have to benefit her own family and personal concerns where they differed from those of the grantor, can be said to effect a substantial relinquishment of property interests by the husband.

A perhaps not inadmissible test of the extent to which this trust was a mere rearrangement of the family finances on the one hand or an outright disposition in favor of the wife on. the other is to consider the probable attitude of the parties, were they in a position of dealing at arm’s length or in a situation where their interests were actually adverse. Suppose, for example, that this trust had been occasioned by the imminence of a proceeding for separation or divorce. Can it be imagined for an instant that a wife would be willing to accept, in lieu of alimony or a property settlement, provision whereby all of the income could be withheld from her throughout her daughter’s life; where payment of income and control of the investment and maintenance of principal were in the hands of a cotrustee dominated by the husband and his family; and where the sole right with respect to disposition of the principal upon her death would rest in the wife, subject to the frustrating limitation that the appointment could be made only in favor of her husband’s descendants? We think it clear that judged by such a test the result must be that this was the kind of trust that would only be established by the husband and-would only be acceptable to the wife as an indirect means for the one to make periodical gifts to the other as long as the family relationship existed undisturbed. This seems to us the very crux and core of the Clifford principle and of other cases recently dealing with similar problems.

We do not pass upon the separate applicability of sections 166 and 167, nor upon whether that issue is neatly severable in such cases as this. It might be argued that what we have said adds up to an absence of that adverse interest of the wife which sections 166 and 167 require, see Rollins v. Helvering (C. C. A., 8th Cir.), 92 Fed. (2d) 390; Fulham v. Commissioner, supra; that as long as the wife’s conduct satisfies petitioner, she may have an interest but clearly one Avhich is not adverse ; and that if the reverse occurs, she may be an adverse party, but the situation can be so controlled that she has no effective interest. But the doctrine of the Clifford case and the rule of sections 166 and .167 are designed for the same puipose and applicable at times to the same situations. See Whitely v. Commissioner, supra; Helvering v. Elias, supra; Commissioner v. Barbour, supra. They are certainly not inconsistent. Suffice it to say here, therefore, merely that all the present circumstances go to show how little this petitioner, like Clifford, can justifiably feel that he wras any worse off financially or from the viewpoint of family control after he had placed property of which he was the outright owner in a trust fashioned to carry out his purposes and subject in the last analysis to his ultimate direction; and that as the grantor of property of which control and benefit is in fact retained, we think petitioner has failed to divest himself to a sufficient degree of the advantages and satisfactions of ownership to be freed from the tax on this income.

Reviewed by the Board.

Decision will be entered for respondent.

Black,

dissenting: The majority opinion begins by stating:

We can not distinguish this case in principle from Commissioner v. Buck (C. C. A., 2d Cir.), 120 Fed (2d) 775, which applies to its own facts the theory of Helvering v. Clifford, 309 U. S. 331, and concludes that the taxpayer there was subject to tax on the income of a trust he had created. We think the same result must follow here.

If I could agree that the facts in the instant case are not distinguishable in principle from those present in the Buck case, I would concur in the majority opinion, but it seems to me that the facts in the instant case are clearly distinguishable from those present in the Buck case. In the Buck case the grantor of the trust reserved to himself very large powers of control over the trust income and corpus. Those powers were enumerated by the court as follows:

In 1932 Ellsworth B. Buck, respondent here, conveyed 10,000 shares of William Wrigley, Jr. Company stock to a bank, as trustee, to pay the income to his wife for life and, on her death, to pay the income and ultimately the principal to his children or their descendants. He retained a power “to alter or amend in any respect whatsoever” the provisions relating to the distribution of the income or principal, except that this power could not be exercised so as to revoke the trust, revest title to the principal in him, or direct that the income be paid to him, accumulated for him, or applied to the payment of insurance premiums on his life. In the event that a beneficiary predeceased him, the share held for that beneficiary was to return to Buck. He also retained the powers to remove the trustees, and to direct the trustee how to exercise its powers to retain or dispose of the corpus and to invest or reinvest the proceeds of a sale, and reserved the right to vote any stock or to direct the trustee how to vote it.

In the instant case Howard Phipps, the grantor of the trust, reserved no such powers of control over the income or the corpus of the trust as are enumerated in the above paragraph as being reserved by grantor Buck. In fact, he reserved no powers of control over the trust income or corpus to himself. He was not even a trustee in the taxable year. In 1934, upon advice of his counsel, he resigned as one of the trustees.

The majority opinion recognizes that Howard Phipps, as grantor of the trust, reserved no power of control to himself over the trust income or corpus, but the opinion says in effect that broad powers of management and control were conferred upon the trustees which made them comparable to the powers retained by the grantor in the Buck case; that one of the trustees was the Bessemer Trust Co.; that it was the alter ego of petitioner; hence, the instant case is brought within the ambit of the Buck case. This is a line of reasoning in which I am unable to concur.

The Bessemer Trust Co. was no makeshift corporation created merely to serve the wishes and purposes of petitioner. It was, and is, evidently a very substantial business corporation. It was incorporated under the laws of the State of New Jersey in 1907. According to the findings of fact which are made the basis of the majority opinion, it handles the financial matters of the Phipps family and acts as trustee for trusts created by them. It maintains an investment department which employs the services of various investment counsel firms to recommend changes in investments. It subscribes to other investment services and makes investigations to determine the desirability of securities. Under such circumstances it seems to me that it was the perfectly natural and normal thing for petitioner to make it the corporate trustee for the irrevocable trust which he created in 1932 for the benefit of his wife and daughter. It had ample facilities for experienced management. I see no warrant for our assuming that the Bessemer Trust Co. will act in the administration of its trust in any other manner than a normal and correct trustee would act in discharging fiduciary duties. Assuming that it will so act, and certainly the facts do not show that it has done otherwise down to the present time, then I do not see how it can be said that the instant case is controlled by Commissioner v. Buck, 120 Fed. (2d) 775, and Helvering v. Clifford, 309 U. S. 331. The cases, in my judgment, are altogether different. It seems to me that the powers granted to the trustees (Bessemer Trust Co. and Harriet Phipps) in the taxable year before us were normal to a discretionary trust — such a trust as is taxable under section 161 (a) (4) of the Bevenue Act of 1934. The discretionary powers granted to the trustees are enumerated in the findings of fact and need not be repeated here. It seems to me that by no stretch of logic can these discretionary powers to be exercised by the trustees in their fiduciary capacities be compared to the powers which the grantor of the trusts reserved in the Buck and Clifford cases.

I think the facts of the instant case bring it within the ambit of Commissioner v. Branch, 114 Fed. (2d) 985, in which the court, among other things, said:

* * * Where the grantor has stripped himself of all command over the income for an indefinite period, and in all probability, under the terms of the trust instrument, will never regain beneficial ownership of the corpus, there seems to be no statutory basis for treating the income as that of the grantor under Section 22 (a) merely because he has made himself trustee with broad power in that capacity to manage the trust estate. * * *

In the instant case the trust is to last until the death of the last survivor of petitioner’s wife, Harriet Phipps, and petitioner’s daughter, Anne Phipps. Thus to use the language of the court in the Branch case, petitioner “has stripped himself of all command over the income for an indefinite period, and in all probability, under the terms of the trust instrument, will never regain beneficial ownership of the corpus.” This being the case, there seems to be no reason to tax petitioner with the income under section 22 (a). There are appropriate provisions of the statute which tax the undistributed income to the trust as a separate taxable entity, see section 161 (a) (4), Revenue Act of 1934, and tax the distributed income to the wife, the beneficiary who received it, see section 162 (c) of the same act. These statutes seem to have been complied with in the taxable year which we have before us. In my judgment, the law requires no more.

The Board followed Commissioner v. Branch, supra, in Frederick Ayer, 45 B. T. A. 146, in which, among other things, we said:

* * * It should be remembered that tbe trusts involved in the instant case were not short term trusts, as in the Clifford case, but were for the life of the beneficiary named in the respective trusts. The corpus and accumulated income were not to revert to the grantor except upon a remote contingency. Under these circumstances, we do not think Helvering v. Clifford, supra, is controlling.

Cf. Jones, Collector v. Norris, 122 Fed. (2d) 6.

For reasons I have stated above I do not believe that the facts of the instant case bring it within the rule of the Buck and Clifford cases. I, therefore, respectfully dissent from the majority opinion.

Muedock, AeuNdell, Leeoh, and TtsoN agree with this dissent.


source: Caselaw Access Project

author: Van Fossan:

license: Public Domain

text:
    Royal Baking Powder Corporation, Standard Brands, Incorporated-Successor in Interest, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 106984.
    Promulgated July 22, 1942.

      C. W. McKnight, Esq., for the petitioner.

      Thomas B. Gharshee, Esq., for the respondent.
   OPINION.

Van Fossan:

The first question is whether the provisions of the Eevenue Act of 1934 or 1936 are applicable in taxing the net income of Eoyal during the fiscal year ended September 30,1936.

As stipulated by the parties, Eoyal did not come into being until February 19, 1936, when it was incorporated under the laws of Delaware. Since it had no assets until September 4,1936, when it acquired the assets of the Eoyal Baking Powder Co., a New Jersey corporation, it was a mere shell until that date. The net income reported by it for the taxable year in question was earned between September 4 and September 30, 1936, when its first taxable year ended. In computing its tax for this period Eoyal applied the provisions of the Eevenue Act of 1934.

A taxable year is defined in section 48 of the Eevenue Acts of 1934 and 1936 to include “in the case of a return made for a fractional part of a year * * * the period for which such return is made.” Thus a taxable year may include a period less than twelve months. Pennsylvania Chocolate Co. v. Lewellyn, 27 Fed. (2d) 762; Prudential Tobacco Co., 42 B. T. A. 518, and cases cited therein. The period for which Eoyal’s return is made could not begin prior to February 19, 1936, because it did not come into existence .until then.

Since Eoyal’s taxable year began after December 31, 1935, the Eevenue Act of 1936 applied to its net income during its fiscal year ended September 30, 1936. Accordingly, we hold for respondent on this issue.

Our decision on the first issue makes it necessary to decide whether Eoyal was entitled to a dividends paid credit in the amount of $98,350 for the taxable year ended September 30,1936.

Petitioner contends that, since the dividend checks were actually delivered or mailed to Eoyal’s stockholders on September 30, 1936, Eoyal was entitled to a dividends paid credit for its fiscal year ended September 30,1936. Eespondent, on the other hand, urges that Eoyal was not entitled to such a credit because the director’s resolution authorizing the dividend provided that it was payable October 1,1936, and because the dividend checks were dated October 1,1936.

On the facts of record we are of the opinion respondent should, prevail. By the resolution of September 28, 1936, the dividends were declared payable on October 1, 1936. October 1 was not within the taxable year ended September 30. The checks were dated, and were therefore payable, October 1. Although some of them were delivered by hand to the payee-stockholders on September 30, they could not have been legally cashed before October 1, and were not actually cashed until October 2 or later. Thus the conclusion seems inescapable that the dividends were not paid either actually or constructively within the-taxable year. The entries on petitioner’s books afford no. solace to petitioner. They support respondent’s position equally as much as petitioners. The journal entry made by Royal and dated September 30 shows the dividends were payable October 1. The facts here are very different from Valley Tractor & Equipment Co., 42 B. T. A. 311, and the case involves wholly different considerations. The dividend was not paid in the taxable year.

It is equally clear that petitioner does not qualify for dividend payments credit under section 27 (d). It would be a far stretch of the language of the act to include within the term “obligations of the corporation” as used in the quoted section, the postdated checks of petitioner corporation. We affirm the respondent.

Decision will be entered for the respondent.


author: Leech:

text:
    Gutbro Holding Company (Formerly Hutner Holding Company), Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 106123.
    Promulgated July 22, 1942.

      Herbert 8. Greenberg, Esq., and Maxwell Shmerler, G. P. A., for the petitioner.

      J. B. Johnston, Esq., for the respondent.
   OPINION.

Leech:

The principal issue is whether the receipt of the assets of a wholly owned subsidiary, taken over by the petitioner pursuant to an “Agreement of Merger and Consolidation”, resulted in taxable gain to tlie petitioner in that year. The petitioner contends that the transaction was a statutory merger or consolidation under the New Jersey statutes (New Jersey St. Ann., title 14, ch. 12) and falls within the nonrecognition provisions of section 112 of the Itevenue Act of 1934. The respondent answers that the transfer did not come within that section and that petitioner is taxable on the receipt of a distribution in liquidation of a corporation, under section 115 (c) of that act.

We agree with petitioner that the present transaction was a statutory merger or consolidation under the laws of New Jersey, but we do not think that it fell within the nonrecognition provisions of section ’.112. Section 112 (a) requires that gain from a sale or exchange be ; recognized unless excluded bj one or more of the other provisions of section 112. Section 112 (g) defines a reorganization. A “statutory merger or consolidation” is there included as such. But other transactions were also containéd in that definition. And, that it was a reorganization within that definition does not alone render the transaction nontaxable under section 112. See National Bank of Commerce of Seattle, 40 B. T. A. 72; affd., 115 Fed. (2d) 875. Obviously Congress would not have included statutory mergers or consolidations within the definition of a reorganization without qualification if it had not meant that, as with other forms of reorganizations, the transaction pursuant thereto should be nontaxable only when it otherwise fell within one or more of the nonrecognition provisions of section 112.

The petitioner, however, relies on sections 112 (b) (3) and (4) as those within one or both of which the instant transaction falls, thus characterizing it as nontaxable. Section 112 (b) (3) requires that there be an exchange of stock for stock pursuant to a plan of reorganization, and section 112 (b)~ (4), that there be an exchange of assets of one corporation for stock of another pursuant to a plan of reorganization. Here the assets of the subsidiary corporation were received, by petitioner pursuant to a plan of reorganization and the stock of the former was thereupon canceled. Obviously, the requirements of neither of these subsections were met and its argument therefore falls. As stated • in Connecticut Power Co. 28 B. T. A. 38, .

* * * the immunity from the recognition of gain is limited to the transactions which the statute expressly describes, and this is not such a transaction. * * * The care with which section 112 was drafted admonishes us to be no less careful in applying it according to its terms.

The petitioner cites Anna V. Gilmore, 44 B. T. A. 881 (on appeal, C. C. A., 3d Cir.), and Winston Bros. Co., 29 B. T. A. 905; affd., 76 Fed. (2d) 381. True there were tax-free statutory mergers in both these cases, but, in addition, the exchanges involved in both cases fell within one of the nonrecognition provisions of section 112. They are therefore not controlling here.

The petitioner also contends that it is within section 112 (b) (3) and (4) on another ground. It argues “that as a result of the agreement of merger and consolidation a new corporation was created which in effect issued its stock to the subsidiary corporation and which stock was turned back to it as the owner of all of the stock of the subsidiary and which stock was then exchanged by the consolidated corporation with the stockholders of the old parent company.” [Emphasis supplied.] We can not subscribe to this reasoning. Tax liabilities must be determined on the basis of what was actually done, not the effect of what was done. United States v. Phellis, 257 U. S. 156; Remington Rand, Inc. v. Commissioner, 33 Fed. (2d) 77.

We conclude that petitioner is not relieved from taxation of gain under section 112. Trenton Oil Co. v. United States, 41 Fed. Supp. 887; affd., 112 Fed. (2d) 1023.

Was petitioner in receipt of a distribution in liquidation within the intendment of section 115 (c) of the Revenue Act of 1934, upon the basis of which premise the contested deficiency was determined?

Petitioner insists that, since the assets of the subsidiary became those of the parent, petitioner, pursuant to a statutory merger or consolidation, there was no liquidation. It is said the terms are contradictory. We disagree. As the Board said in Anna V. Gilmore, sufra, in its discussion of a transaction involving a statutory merger, “The practical effect of many cases of a merger or consolidation of corporations is the liquidation of one or all of them.”

It is true that, where a statutory merger or consolidation occurs, it has been held that the assets, rights, and liabilities of the merged or consolidated companies pass by operation of law to the survivor. See American Gas & Electric Co. v. Commissioner, 85 Fed. (2d) 527; Connecticut Electric Service Co., 35 B. T. A. 444. But the application of that rule, as we have seen, does not affect the recognition of gain or loss on the transaction under section 112. Nor does it contradict the fact of liquidation. Frelmort Realty Corporation, 29 B. T. A. 181. Liquidation is a status. See W. E. Guild, 19 B. T. A. 1186. No reason is apparent why it can not result from the operation of law as well as otherwise. All of the assets of the subsidiary corporation did pass, yfo the. parent, petitioner, together with all its contractual rights and j liabilities, in exchange for petitioner’s stock in the parent. The stock 1 was canceled. It filed its “Final Return” for Federal income and \excess profits tax purposes. Petitioner took its name. The agreement of merger or consolidation which was carried out provided that the existence of the subsidiary should cease except in so far as its con-rinued life was made necessary by statute or for the purposes of that agreement. Neither its continued existence nor any reason therefor is established. The record does not show that it was not dissolved. We think it was in fact liquidated. See Ward M. Canaday, Inc., 29 B. T. A. 355; affd., 76 Fed. (2d) 278; certiorari denied, 296 U. S. 612; Frelmort Realty Corporation, supra.

Moreover, whether the acquisition of the assets of its subsidiary by the petitioner was taxable is not controlled by the law of New Jersey,, under the jurisdiction of which the statutory merger or consolidation occurred. This must be resolved under the Federal law. Frelmort Realty Corporation, supra. Section 115 (c) of the Revenue Act of 1934 is determinative. That section, without qualification or limitation, requires that the recognized gain or loss to the distributee from a distribution in liquidation shall be computed under section 112. That section, we repeat, similarly categorically includes “a statutory merger or consolidation” within the definition of reorganization. In our opinion Congress thus clearly indicated that for Federal income tax purposes the present acquisition-?)! the assets of its subsidiary by petitioner in a statutory merger or consolidation was a distribution in liquidation under section 115 (c). Cf. Anna V. Gilmore, supra. The fact that petitioner received the assets of its subsidiary in connection with the statutory merger or consolidation is of no more significance in construing this section than it was in construing section 112. It follows under section 115 (c), supra, that, since petitioner is not relieved from tax by any of the nonrecognition provisions of section 112, it was taxable, as determined by respondent, under section 115 (c), supra. Trenton Oil Co. v. United States, supra.

The petitioner also assigned error in respondent’s determination of the cost or other basis of the assets transferred in the reorganization. No argument, however, appears on this point in its brief and there is no evidence in the record from which we might conclude error in this determination. We therefore affirm respondent on this issue also.

Decision will l>e entered for the respondent.

       This conclusion may be supported by the amendment of section 130 of the Revenue Act of 1935 amending section 112 (b) of the Revenue Act of 1934 by “adding after paragraph (5) a new paragraph * * *” entitled “Exchange in Liquidation” which clearly relieved a taxpayer in the situation of the petitioner from the recognition of taxable gain. [Emphasis supplied.]


author: Turner:

text:
    Agnes C. Jacob (Alleged Transferee), Petitioner, v. Commissioner of Internal Revenue, Respondent. Shirley May Jacob (Alleged Transferee), Petitioner, v. Commissioner of Internal Revenue, Respondent. Beverly Jean Jacob (Alleged Transferee), Petitioner, v. Commissioner of Internal Revenue, Respondent. Gwendolyn E. Jacob (Alleged Transferee), Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 108032, 108033, 108034, 108035.
    Promulgated July 23, 1942.

      8. J. Bischoff, Esq., for tbe petitioners.

      John PigQi Esq., for the respondent.
   OPINION.

Turner:

But for the lack of coordination on the part of certain of respondent’s employees in their efforts to determine and collect the income and excess profits taxes owing by Central, the existence of friction between the stockholders or persons responsible for Central’s affairs and the lack of candor on the part of these same individuals in their dealings with each other and with their Government in the matter of Central’s tax liability, these proceedings should have been entirely unnecessary. The question in issue is the liability of the petitioners as transferees of Central for the income and excess profits taxes reported by Central on its return for the fiscal year ended June 30, 1938. That Central was liable for and owed the tax is not disputed and so far as the record shows has never been disputed. The taxes in question resulted in the main from gain realized through the collection of the fire insurance on Central’s principal asset, the hotel at Burns. Without making any provision for payment of income and excess profits taxes on the profits so realized, the insurance proceeds were distributed to or for the benefit of the stockholders, leaving Central with no assets except the real estate at Burns, against which stood local taxes far in excess of its value.

The petitioners make a number of contentions: (1) that they never became the owners of the Central stock and furthermore that the stock was sold by Jacob to Barnes and the money received was not' received as a distribution by Central but in payment by Barnes for the Jacob stock; (2) that by reason of the prior determination that Jacob, not these petitioners, was the owner of the Central stock, -andi the subsequent settlement of the transferee proceeding brought by Jacob resulting in entry of decision by the Board to the effect that Jacob was liable as transferee of Central, the respondent made am irrevocable election to treat Jacob as the owner of the Central stock and is now estopped from claiming that the petitioners were the? owners thereof and transferees of Central; (3) that if it be held that there was no sale of the stock and the amounts received in respect of such stock were received in liquidation, then Jacob, not the petitioners, was the transferee, since the amounts received in liquidation were not and have not been physically turned over by Jacob to them j (4) that respondent has failed- to show that petitioners are transferees of a transferee of Central; and (5) that he has also failed to show that either Central or Jacob was insolvent at the time of the-transfer of the assets as claimed by respondent.

We find no merit in the claim that the stock involved in these proceedings was sold to Barnes and that the money received in connection therewith was not received in liquidation of Central. The facts are that Jacob, whether acting for himself or for the petitioners,with Conley decided not to continue in the hotel business with Central or otherwise. They could see a most attractive cash profit as the result of the fire and decided to take it out. From the insurance-proceeds they paid the debt to Farrell and certain other obligations-, of Central and then distributed the balance in three parts to the-stockholders, leaving Central in an insolvent condition. Barnes had; no intention or thought of buying either the Conley or Jacob stock.. There was simply a division of the available assets, which in this; case happened to be cash. Barnes had some idea that if he might control the corporate shell it might be of some use to him in financing the acquisition of another hotel through the use of a portion or all of the money he had received from Central, but it is perfectly plain that he had no intention that Central should own or conduct any hotel business subsequently acquired by him. It is true that Barnes did thereafter convey certain properties at Hines, Oregon, to Central and that when the hotel at Arlington was acquired title to that property was taken in the name of Central, but at the time of acquisition Conley was instructed to have title transferred to Barnes within the fifteen days following. It seems that at some point J acob had advised Barnes and Conley that Central and indirectly its stockholders would be saved some tax on the insurance proceeds through the application of section 112 (f) of Revenue Act 1936, if Barnes should take title, even though temporary, to subsequently acquired properties in the name of Central, and the petitioners apparently take the view that the above acts of Barnes were prompted by the advice of Jacob and constitute evidence that Barnes purchased the Jacob and Conley stock with a portion of the insurance proceeds in some manner withdrawn by him from the corporation, that Barnes’ share of the insurance proceeds was not withdrawn but continued as assets of Central, and that the sums received by Jacob and Conley did not therefore constitute distributions by Central to its stockholders. There is some confusion between J acob, Barnes, and Conley as to the exact character of the advice originally given by Jacob with respect to the Federal income tax liability of Central and as to the exact time when a letter by Jacob quoting section 112 (f), supra, was written and mailed to Barnes. Whatever the facts in that regard, it is apparent that neither Barnes nor Conley understood the advice as Jacob says it was given and, even though we should accept the Jacob version as to the advice actually given, the understanding of Conley and Barnes clearly negatives the interpretation sought to be placed upon Barnes’ acts by the petitioners. Barnes took down a pro rata part of the net insurance proceeds just as Conley and Jacob did. On the evidence we think it perfectly clear that the net insurance proceeds were distributed to or for the Central stockholders and no part thereof may be regarded as having been paid for the Jacob or Conley stock by Barnes.

There are numerous claims in the brief of the petitioners that Jacob, and not the petitioners, was the owner of the Central stock and that the respondent has failed to sustain his burden of proving that the petitioners did own the said stock. Even though it be said that the respondent did have the burden of proving that the petitioners were the owners of the Central stock, and regardless of any evidence that respondent may have offered, it appears that J acob, the petitioners’ witness, has carried that burden for him. Obviously, Jacob knew more than any other person concerning the ownership of the Central shares originally issued in his name, and at no place in his testimony did Jacob ever state that he and not the petitioners were the owners of the stock. To the contrary, he testified in response to questions by counsel for the respondent that he at all times regarded the petitioners as the beneficial owners thereof. He testified that about the time the Welcome Hotel was acquired he advised the petitioners that he was going to give each of them a portion of the stock and that his only reason for not having the stock issued in their names when the corporation was organized was his agreement with Farrell to hold control of Central until the indebtedness to Farrell should be paid. The name Central Holding Co. did not impress itself upon the minds of the petitioners but they were familiar with the subject matter of the gift in that they knew it represented the interest Jacob was acquiring in the Welcome Hotel at Burns. These petitioners had confidence in and trusted Jacob and believed that he would look after their interests. They had had no business experience and anything affecting their business affairs was left entirely to J acob, the husband and father. As soon as sufficient of the insurance proceeds had been collected the indebtedness to Farrell was paid and immediately Jacob, even though it had already been decided to liquidate Central by the distribution of the insurance proceeds, had 99 of the 100 Central shares standing in his name transferred, 25 shares to each of his daughters and 24 shares to his wife. Such action on the part of Jacob is certainly in harmony with the claim of the respondent that the petitioners were the owners of the stock and with the testimony of Jacob that at all times he regarded them as the beneficial owners thereof. Mrs. Jacob, when she received the certificates at the beach accompanied by Jacob’s request that they be endorsed and returned to him, recognized the said certificates as representing the shares of stock which Jacob had promised to give to her and the three daughters. If the issuance of the shares in the names of these petitioners was not intended to evidence actual ownership, then Jacob needlessly put himself and petitioners to much unnecessary trouble and his action in having the sto.ck so issued was without purpose and without meaning. Furthermore, the act of the petitioners in endorsing the certificates and returning them to Jacob as requested is not out of harmony with the conclusion that the stock did belong to the petitioners. They looked to and expected Jacob to handle their business transactions. Accordingly, we find no occasion to repudiate for the petitioners the testimony of a witness which they themselves have called. On the record before us we conclude that the petitioners were the owners of 99 shares of Central stock at the time the fire insurance proceeds were distributed, 24 shares belonging to Agnes C. Jacob, and 25 shares each to the daughters.

In the contention that the respondent made an irrevocable election to treat Jacob as the owner of the Central shares and is accordingly estopped to assert transferee liability against these petitioners as the owners of such shares, we likewise find no merit. It is true that the respondent, upon examination of the income tax returns of the petitioners for the year 1937, did conclude that they were not the owners of the Central shares and did not therefore realize gain upon the distribution by Central of the net insurance proceeds. These proceedings, however, are transferee proceedings calling for determination, not of the individual income tax liability of the petitioners, but of their liability as transferees for income tax owing by Central. We find no basis in fact or law for application of the doctrine of estoppel and certainly there can be no proper claim of res judicata. Not only must estoppel be pleaded, but the party invoking estoppel must prove the facts to siipport it. Helvering v. Brooklyn City Railroad Co., 72 Fed. (2d) 274; Commissioner v. Tates, 86 Fed. (2d) 748. In the instant case the petitioners have not shown that they have in any way been damaged or misled to their detriment by the respondent and the claim of estoppel falls. To support a finding of res judicata the action in which the finding is sought must involve the same parties, the same facts, the same law. Here the petitioners rely for what they term estoppel by judgment upon the settlement of the transferee proceeding brought by Jacob to determine his liability as transferee for a deficiency in the income tax of Central for the fiscal year 1938 and upon the entry of decision by the Board giving effect to the settlement agreed to by the parties. In the instant case the tax involved is also income tax of Central for 1938, to be exact, the tax reported by Central on its income tax return for the fiscal year 1938, but there the similarity ends. Here the petitioners are Agnes C. Jacob, Shirley May Jacob, Beverly Jean Jacob, and Gwendolyn E. Jacob, not Robert T. Jacob, as in the prior case, and the liability to be determined is their liability, not that of Jacob. Tait v. Western Maryland Railway Co., 289 U. S. 620, relied on by the petitioners is clearly distinguishable. There the parties, namely, the United States and the Western Maryland Railway Co., as well as the facts and the law, were the same in the current case as in the prior case, while the petitioners here have never before been parties to any litigation involving their liability as transferees of Central for 1938 or any year and their claim, whether it be termed estoppel by judgment or res judicata, is without the necessary factual and legal support.

There is the further contention that the petitioners may not be held liable as transferees of Central because Jacob personally received the money distributed and at no time physically delivered any part of it to them. As to his reason for not delivering the money received to his wife and daughters, Jacob testified that in making the gifts of the shares of stock he did not have in mind gifts of cash or “turning over to them the cash which was realized unexpectedly” and felt that “it would be unwise, as a matter of fact, to turn over to them the cash.” It is to be noted, however, that he did not testify that the money did not belong to his wife and daughters or that he did not receive it for them. We have already pointed out that Jacob, on cross-examination, testified that he at all times considered that his wife and daughters were the beneficial owners of the Central stock issued to him, and we have found as a fact that they were the owners of 99 shares of the said stock at the time the fire insurance proceeds were distributed. There is nothing in Jacob’s failure physically to turn over the money to the petitioners that is necessarily inconsistent with their ownership of the stock or the money. The testimony of Jacob and the petitioners plainly shows that in all matters business and financial in which these petitioners were interested Jacob acted for them and, not only were they agreeable to his doing this, but they expected it of him. Furthérmore, in the signing of the receipt of August 12, 1937, Jacob definitely established his relationship to the money. The money received by Jacob from Central was received for these petitioners and not for himself. The facts here are alto- . gether different from the facts in W. R. Ross, 43 B. T. A. 1155, where Boss received the assets of the transferor corporation as his own and not for other individuals “considered” as owning said shares of stock. It is our opinion and we conclude that the petitioners are liable as transferees of Central to the extent of their respective shares of the amounts received by Jacob for them. Sec. 311, Revenue Act of 1936. The liability having attached under the statute, any subsequent appropriation by Jacob to his own use of the funds so received by him for the petitioners can not affect their liability herein.

That the distribution of the insurance proceeds by Central left it insolvent has been found as a fact, and the conclusion that the petitioners were transferees of Central within the meaning of the statute eliminates any necessity for considering their claim that the respondent has failed to prove that they were the transferees of a transferee.

Decisions will be entered under Rule 50.


author: Arundell: Black, Leech,

text:
    Alexander J. Cassatt, Petitioner, v. Commissioner of Internal Revenue, Respondent. Clement A. Griscom, 3rd, Petitioner, v. Commissioner of Internal Revenue, Respondent. T. Ellwood Webster, Petitioner, v. Commissioner of Internal Revenue, Respondent. Charles Watson, 3rd, and Polly Fay Watson, Husband and Wife, Petitioners, v. Commissioner of Internal Revenue, Respondent. Gerard H. Coster, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 102619, 102620, 102621, 103694, 104256.
    Promulgated July 28, 1942.

      Frederick E. 8. Morrison, Esq., and Galvin H. Rankin, Esq., for the petitioners.

      Eugene G. Smith, Esq., for the respondent.
   OPINION.

Arundell:

Petitioners argue that the total cost of canceling the leases was not deductible in the year of cancellation but should be spread over the 72%-month period during which the Pierce contract was effective. Similar treatment is also urged for the unamortized cost of certain improvements placed upon the relinquished leaseholds by petitioners. Respondent has treated the entire cost of terminating the leases as an expense deductible in 1935 and has accorded a similar treatment to the unamortized cost of the improvements.

This action appears correct. It has long been a rule that the consideration paid for the termination or cancellation of a lease by the lessee is deductible in full by him as an ordinary and necessary expense for the year in which the expense is paid or incurred. Sec. 23 (a), Revenue Act of 1934; Denholm & McKay Co., 2 B. T. A. 444; Goerke Co., 7 B. T. A. 860; cf. Frank & Seder Co. v. Commissioner, 44 Fed. (2d) 147. With the relinquishment of the leaseholds a loss had been sustained of the unamortized cost of the improvements and, as the statute is specific that losses must be taken in the year sustained, it follows that the proper period to reflect this deduction was the year 1935.

Petitioners contend that if the firm must deduct in the year 1935 the entire cost, of terminating the leases, as we have just held, then gain occasioned by the execution of the Pierce contract was also ac-cruable as income in that year. They argue that any other treatment would distort their income, since the termination of the leases and the execution of the contract were both parts of an integral scheme which culminated in the complete liquidation of the firm. They reason that under the Pierce contract the firm received property worth :$500,000 in exchange for the transfer of its customers’ accounts to Pierce, and that such exchange was one upon which gain was recognized under section 112 (a) of the Revenue Act of 1934. Petitioners maintain that the firm’s basis for the contract was cost and that cost in this case was the fair market value of the contract at the time of ■execution, or $500,000.

Petitioners’ argument concerning respondent’s inclusion in the firm’s gross income for 1936 of the $78,706.93 paid to the firm by Pierce is necessarily premised upon their claim that the firm realized .gain upon execution of the Pierce contract in 1935. They assert that the firm should be allowed to amortize the amount of its basis (which they claim to be $500,000) over the period of the contract, or that the payments received by the firm from Pierce should be excluded from gross income as a return of capital which does not equal the firm’s basis for the contract. It should be mentioned at this point that petitioners did not return this alleged profit in their tax returns for the year 1935.

We are of the opinion that petitioners must fail because the premise upon which they have based their claim is false. Petitioners have not shown that the firm realized gain upon execution of the contract. All that the firm received upon execution of the contract was the promise of Pierce to make certain payments in the future, conditioned upon certain contingencies. The firm gave nothing in exchange for Pierce’s promise other than its promises to urge its former clients to transfer their accounts to Pierce and to agree to remain a member of the various exchanges and the promises of its partners to refrain from entering the brokerage business using the name of Cassatt. We disregarded the three month-to-month leases which may have passed to Pierce, as they apparently had only a nominal value. We do not understand that an exchange of promises to perform acts in the future is an exchange of property giving rise to gain or loss. The firm’s accounts were not property which could be transferred at will.

Furthermore, even if the firm might be said to have transferred “property” in the nature of good will, we think that the transaction was not a closed one upon which gain might be realized. The contract was of a speculative nature and the promises by either side were not of the sort which can be said to have a fair market value. As the Circuit Court of Appeals for the Second Circuit has said concerning a promise to do something in the future, “it is absurd to speak of a promise to pay a sum in the future as having a ‘market value,’ fair or unfair. Such rights are sold, if at all, only by seeking out a purchaser and higgling with him on the basis of the particular transaction. Even if we could treat the case as an exchange of property, the profit would be realized only when the promise was performed.” Bedell v. Commissioner, 30 Fed. (2d) 622, 624. The receipt of a percentage of the commissions depended upon the customers’ accounts being transferred to Pierce, the acceptance of those accounts by Pierce, the customers continuing to transact business with Pierce after transfer of the accounts, the firm’s refraining from reentering the brokerage business, and Pierce’s continuance in the brokerage business. With the obligations conditional and indefinite to the extent here present it is our opinion that the firm’s rights under the Pierce contract had no fair market value.

No testimony as such was offered on the question of the value of the Pierce contract. _The parties stipulated, however, that certain individuals, if called to the stand, would have testified that the contract had a market value of approximately half a million dollars to the firm. We can. not accept this stipulation as establishing that such a conditional, indefinite, and contingent obligation had a fair market value. The actual recovery under the contract was $275,-424.66, a sum very much less than the claimed fair market value. Nor does the fact that a bank might have lent funds on the security of the contract necessarily mean any more than that because of the contract the firm was a good moral risk to repay the moneys loaned. The contract with the bankers made the general partners of the Cassatt Co. liable for the repayment of the $160,000 loan.

The considerations already discussed also prevent the accrual of the sums the firm hoped to realize under the Pierce contract, as there is lacking the definiteness of liability to pay upon which the application of the accrual system of accounting is based. As stated in. John Graf Co., 39 B. T. A. 379, 384,

* * * The underlying thought is that pecuniary obligations payable to. the taxpayer are considered discharged when incurred, United States v. American Can Co., 280 U. S. 412. These must be unconditional obligations, Lucas¡ v. North Texas Lumber Co., 281 U. S. 11; and they must be definitely payable,. American National Co. v. United States, 274 U. S. 99. * * *

The complete lack of definiteness in Pierce’s obligations wouldi require the treatment laid down by the Supreme Court in Burnet v. Logan, 283 U. S. 404, in which it was held that income was not realized at the time the transaction was entered into, but after the recovery of the taxpayer’s basis, the profit, if any, being taxable when and as received. This holding has been followed consistently by the courts and the Board. Edwards Drilling Co.., 35 B. T. A.. 341; affd., 95 Fed. (2d) 719; Willis B. Dearing, 36 B. T. A. 843; affd., 102 Fed. (2d) 91. The case of Robert J. Boudreau, 45 B. T. A. 390,. certainly may not be taken as an authority contrary to Burnet v. Logan, supra, and must rest on its own particular facts. It follows-that the amount which the firm received in the taxable year under-the Pierce contract must be accounted for as of that time and, as. there is no cost basis shown, the total receipts must be included in. the firm’s gross income.

For the several reasons set forth above we are of the opinion the-respondent should be sustained on this point.

We are not unmindful of the fact that some hardship arises from, petitioners’ inability to offset the cost of canceling the leaseholds against the income received under the Pierce contract. But to use-this circumstance as a ground for announcing as a legal proposition, that income is presently realized upon the entering into of a contract, of the nature here involved would be indeed unfortunate. In this, very case, if petitioners’ theory were adopted they would have been, required to pay a tax' baséd on the firm’s receipt of $500,000 gain,, whereas the firm fin ally received only $275,424.66. Our fiscal system, is geared upon a yearly basis and at times hardships arise by reason thereof. Nevertheless, what we are .dealing with is a law which has for its purpose the raising of revenue to run the Government and set periods are necessary for the fixing of each taxpayer’s obligations.

Reviewed by the Board.

Decisions will be entered under Bule 50.

Black,

concurring: I concur in the result reached, but I do not agree with that part of the majority opinion which holds that the case of Robert J. Boudreau, 45 B. T. A. 390, is distinguishable on its facts.

I dissented in the Boudreau case. The essence of my dissent was that contracts which provide for future payments contingent upon indeterminable events which may never occur should not be treated as income when entered into, even though they do have a definite ascertainable fair market value. I am still of the same opinion as expressed in that dissent and, therefore, concur in the result reached by the majority opinion herein.

Leech,

dissenting: The majority opinion concedes that the result it reaches is a “hardship.” I agree. But the deficiency here, substantial as it is, involves only one year. This same “hardship” will necessarily follow the petitioners through the remaining five years of the Pierce contract. I think such a result is wholly unjustified.

Undoubtedly the majority is correct in requiring the firm to deduct as a business expense, in the year of payment, the consideration it paid for canceling the leases. But, in my judgment, the income arising from the sale of its customers’ accounts in that same year should be similarly treated and so included in income. Any other treatment would greatly distort income.

The firm and its predecessors had been engaged extensively in the stock brokerage business for many years in Philadelphia and New York. In January 1935 its capital had become impaired. While yet solvent the firm decided to liquidate. Among its assets the firm possessed good will in the form of customers’ accounts — the result of its “many years” in business. In order to meet its liquidating liabilities, particularly the consideration required to release the firm from its long term leases, it transferred its good will, evidenced by its customers’ accounts, to Pierce in exchange for the Pierce contract. This transfer included an option on several leaseholds of the firm.

I think that the firm’s good will, in the form of its customers’ accounts, was property, that the Pierce contract had a fair market value of $480,000 when so received, and that the transaction was therefore taxable. Revenue Act of 1934, secs. Ill (b) and 112 (a). Under sections 113 (a) and 114 (a), the basis of the Pierce contract for the computation of gain or loss on its disposition and exhaustion was its “cost” to the firm. Holmby Corporation, 28 B. T. A. 1092; affd., 83 Fed. (2d) 528; Ambassador Petroleum Co., 28 B. T. A. 868; reversed on another point, 81 Fed. (2d) 474; Countway v. Commissioner, 127 Fed. (2d) 69, reversing 44 B. T. A. 921. That ■“cost” is the fair market value of the accounts exchanged for the contract — $480,000. The Pierce contract was used in its business by the firm throughout the six-year life of the contract. Upon those two premises, in my judgment, the firm is entitled to amortize that “cost” over the life of the contract, and so to the deduction in the taxable year of one-sixth of that basis, or $80,000. Edward G. Swartz, Inc., 25 B. T. A. 1065; Perine Machinery Co., 22 B. T. A. 450.

The majority opinion disallows any such deduction, on the ground that no taxable exchange occurred in 1935. This conclusion is based upon two premises: (1) No property was transferred by the firm to Pierce, nor was its good will in the form of its customers’ accounts conveyed to Pierce, but, instead, Pierce merely employed certain members of the firm for six years to render services in acquiring new accounts for Pierce, and (2) the 1935 transaction was not then closed, since the Pierce contract had no fair market value when received by the firm. Although the majority opinion states that the proceeding was submitted on a stipulation of facts, it includes a “findings of fact”, referred to as “Only those facts necessary for disposition of the issue before us * * upon which its two premises are supported. I think those “findings of fact” omit some of the stipulated facts upon which the first premise must be decided, and practically all of the facts and evidence upon which the second must be based.

The first of these positions is not taken directly even by the respondent. Obviously, though probably of little value, the leasehold options transferred were property. That the firm possessed valuable property in the form of good will, evidenced by its 9,513 customers’ accounts, is hardly open to doubt. See Houston Natural Gas Corporation v. Commissioner, 90 Fed. (2d) 814; Perkins Bros. v. Commissioner, 78 Fed. (2d) 152, and cases therein cited. By the present contract the firm agreed to convey this good will — in the form of its customers’ accounts — to Pierce. It is stipulated that under the contract the firm agreed to “transfer to E. A. Pierce & Co. (hereinafter called Pierce) all accounts of its customers, in consideration of * * * ” Pierce’s promise to pay therefor. Pierce thereupon occupied at least part of the brokerage office space theretofore occupied by the firm. Whatever may be said about the theoretical impossibility of the firm transferring its customers’ accounts, certainly it could and did convey its good 'will to Pierce. The only tangible evidence of that good will was the firm’s customers’ accounts. The stark fact is that 95 percent of those accounts not only were transferred to Pierce, but remained there throughout the life of the contract. The future payments to be made under that contract were-in no sense compensation for future services. They were payable-not for any effort or services to Pierce by the members of the firm, but for the business Pierce secured by the transfer. The death of every member of the firm, at least after the identification of the “Cassatt accounts”, would not have affected the obligation of Pierce under the contract so long as the firm retained the seat on the New York Stock Exchange to comply with the rules of that body. Under the contract these payments were to be made for the firm’s good will, measured by the actual value of that good will to Pierce.

The second premise of the majority, which is the only point seriously argued by the respondent, is that the transaction in January 3935 was not closed and therefore taxable, since the Pierce contract had no fair market value when then received by the firm.

It reaches this conclusion despite the following facts and evidence-, all of which and more will be found in the stipulation.

At the time of the sale and transfer of its good will in the form of customers’ accounts to Pierce, the firm was a going solvent brokerage business with a history covering many years. It then had 9,518 customers. In the year just closed the firm had realized gross commissions of $439,248.04 from these accounts and, for each of the preceding six years, an average of $843,021.93. Such a sale of the accounts of an established brokerage business was not an unusual thing.

The opinion of E. A. Pierce, senior partner in Pierce, is that the Pierce contract had a fair market value to the firm on the critical date of not less than $500,000. He had been in the stock exchange business for 40 years and, during that period, his firm had made many similar acquisitions of the accounts of brokerage houses. From that experience he expected, on the date of the contract, that at least 90 percent of the business of the firm would be retained by Pierce, that the annual average stock exchange business in general would be at least as good in the following six years as it had been in the preceding six years, that he knew the average gross income received by the firm from its stock exchange business for each of the four preceding years had been $575,000, and that as a consequence he then anticipated that over the ensuing six years the gross commissions to be received by Pierce from the firm customers’ accounts would amount to not less than $3,000,000, of which, under the contract, $750,000 would have been payable to the firm. The opinion of Robert K. Cassatt, who had been the senior partner in the firm until his resignation therefrom in February 1935 in connection with the liquidation, is that it had a similar value. He was thoroughly familiar with and in charge of the business of the firm. He also believed on the critical date that the stock exchange business would be as good during the following six years as it had been during the preceding four years and that the income of the firm from the Pierce contract would be no less than $10,000 per month, or an aggregate of $720,000.

Then there is the compelling uncontradicted categorical testimony of the presidents of two Philadelphia banks that those banks, in fact, each loaned the firm $80,000 on the sole security of the Pierce contract. The president of one of the banks who negotiated this loan fixed such fair market value at $480,000. He was familiar with the gross commissions of the firm from its stock exchange business during the four years preceding the execution of the Pierce contract. He corroborated both Pierce and Cassatt as to the stock exchange business to be expected by Pierce during the contract period and the income to the firm therefrom under the contract. The opinion of this banker is substantially corroborated by that of the president of the bank which joined in the loan.

Admittedly, only $275,424.66, as the majority points out, was received by the firm from the Pierce contract. But.that certainly ■does not contradict the existence in January 1935 of any fair market value for the contract. Nor does it discredit or affect the weight to be given the opinions of the witnesses or the loans on the security of that contract. Emphatically is this so when it is noted from the stipulation that the volume of the stock transactions on the New York 'Stock Exchange, which had already decreased from 1,124,800,410 shares in 1929 to 323,845,634 in 1934, continued that decline to ■207,599,749 shares in 1940. Obviously that unparalleled drying up of the stock brokerage business following 1935 could scarcely have been reasonably foreseen at the inception of the contract. See Hickok Oil Corporation v. Commissioner, 120 Fed. (2d) 133.

This evidence of the existence of a fair market value for the Pierce contract when it was received by the petitioners stands uncontradicted. Respondent offered no testimony. It is true, as the majority opinion states, that “no testimony as such was offered on the question of value of the Pierce contract”, but the opinions of Pierce, Cassatt, and the bankers, together with their supporting reasons and the fact that the two Philadelphia banks loaned $160,000 on the sole security of that •contract, appear in the stipulation. They were so included without limitation or objection and were therefore accepted by the Board and the respondent as admissible testimony of the existence of fair market value of the Pierce contract at the critical date. On brief, respondent makes this comment: “The Board is not bound as a matter of law to. adopt as a determination of value the opinions of these persons, notwithstanding there is no conflicting testimony of other witnesses.”

The majority casts aside all this evidence upon its conclusion that Burnet v. Logan, 283 U. S. 404, concludes the petitioners on this point. However, its discussion basing that conclusion is supported upon a nonexistent premise. It is stated that the accrual by the firm in 1935 of the amounts it “hoped to receive under the Pierce contract” was not warranted, since in that year there was no liability upon Pierce to pay any amount, and such liability would not arise until a future year, based upon conditions and happenings of that future year. Unquestioned authority is then cited to support that rule. The fact is that petitioners are not asking for the accrual in 1935 by the firm of the amounts it hoped to receive in the future. They seek no accrual. They want only to include in the firm income of 1935 the fair market value of an asset received in that year in an exchange.

Moreover, quite recently the Board adopted a new construction of the holding in the Logan case. In Robert J. Boudreau, 45 B.T.A. 390 (on appeal, C.C.A., 5th Cir.), the Board held that the Supreme Court in the Logan case did not mean to say that a promise to pay $450,000 solely out of one-twelfth of the oil produced from an oil lease had no fair market value per se. It was held that the existence of such value was always a question of fact. Thus, despite the fugitive nature and the uncertain commercial existence of oil underground, the Board, in the Boudreau case, sustained the determination of the respondent that such promised oil payment had a fair market value of $188,470.26 when the contract to pay was made and taxed the petitioners upon the receipt of their respective interests in that amount. The Board made that finding in the face of testimony contradicting the existence of any fair market value. Here there is none.

Petitioners rely most strongly on the Boudreau case. The respondent however does not attempt to distinguish it. Neither does the prevailing opinion. I do not think it can be effectively distinguished. As the majority opinion states, of course, Burnet v. Logan, supra, is still the law. But so is Robert J. Boudreau, supra, which merely construes Burnet v. Logan.

The majority fears the “hardship” to other taxpayers which will follow the precedent of a decision for the taxpayers here. But, though wrongly in my judgment, the precedent has been established in the Boudreau case. The majority does not propose to overrule it. The taxpayers there were subjected to the consequent “hardship.” By the application of the same rule, I think, the taxpayers here should be relieved from six years of “hardship.”

Tyson agrees with this dissent.


author: Mellott: Smith,

text:
    Schock, Gusmer and Co., Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105762.
    Promulgated August 4, 1942.

      Sidney F'ass, Esq., and Emil T. Weiler, C. P. A., for the petitioner.

      Paul P. Liyton, Esq., for the respondent.
   OPINION.

Mellott:

The Federal statute (sec. 23, Revenue Act of 1936) autho-izes the deduction of taxes paid or accrued within the taxable year. .Respondent determined that, inasmuch as petitioner’s books were kept upon an accrual basis, the real estate taxes, “which were assessed against * * * [it] on October 1, 1936, are deductible for income tax purposes during the year 1936.” He made no specific reference in the notice of deficiency to the personal property taxes and both parties, upon brief, discuss the two classes of taxes as if the same rules were applicable to each. For reasons which will hereinafter appear it has been deemed expedient to consider them separately; but first the contentions of the respective parties will be stated.

Petitioner contends that “the taxes must be said to have accrued when the process of valuation and assessment ended and the task of levying and collection began, that is, when pursuant to * * * [the statutes] * * * the County Board of Taxation on May 4, 1937 delivered to the collectors of the various taxing districts the ■corrected, revised and completed duplicate tax lists, certified * * * to be a true copy of the taxes assessed.” Respondent summarizes his position to be “that the ownership of New Jersey real estate on October 1, as of which date the assessment is made, is the event which determines the liability for taxes thereon and that accordingly such taxes accrue on that date for Federal income tax purposes.”

The parties agree that in determining when state property taxes •accrue the laws of the particular state must be examined. No attempt will be made to set out all of the statutes which are applicable. They are all shown in “New Jersey Statutes Annotated Permanent Edition Title 54, Taxation” and the references which will hereinafter be made, unless otherwise indicated, are to the sections shown in this volume.

The findings outline the steps taken by the taxing authorities in connection with petitioner’s state taxes. The steps seem to have been in accordance with the law. Thus, under section 54:4-35 the assessor is to “begin the work of making assessments * * * on October first * * * and * * * complete the work by January tenth following” when he files his assessment list with the county board of taxation. Public notice is given as required by section 54:4-38 and the board meets “for the purpose of examining, revising and correcting the tax lists” (sec. 54:4-46), and to “do everything necessary for the taxation of all property in the county equally and at its true value.” (Sec. 54:A47.) “Upon ascertaining the total amount of tax to be raised” it determines the rate to be used and causes an extension of the amount of tax to be made on the duplicate lists (sec. 54:4-48), which are delivered to the collectors. (Sec. 54:4-55.) Each collector of a taxing district “at once” begins “the work of * * * delivering tax bills to the individuals assessed” and is required to complete that work at least two months before the third installment of taxes falls due. (Sec. 54:4-64.) He is also required to prepare and mail or otherwise deliver to the individuals assessed, “at least two months before the first installment of taxes falls due * * * a tax bill” for the first and second installments, computed “at one-half of the complete tax last previously levied. ” (Sec. 54:4-64.) The first installment is payable on February 1, the second on May 1, the third on August 1, and the fourth on November 1, “after which dates, if unpaid, they shall become delinquent.” (Sec. 54:4r-66.) “The amount to be payable for the third and fourth installments shall be the full tax as levied for the current year, less the amount charged as the first and second installments. * * *” (Sec. 54:4-66.) See Minnie M. Coward, 39 B. T. A. 1158, and Commissioner v. Coward, 110 Fed. (2d) 725, for additional discussion of Now Jersey taxes.

The provisions referred to above are applicable both to real estate and personal property taxes. Personal property taxes, however, constitute a personal liability of the taxpayer (sec. 54: 4-1) and may be enforced by distress and sale (sec. 54:4-78) or by arrest and imprisonment (sec. 54:4-79). The severance of ownership of such property after October 1 or even its absolute destruction does not relieve the owner of it on that date from such personal liability. Hann v. State Board of Taxes and Assessment, 147 Atl. 724. Applying the test laid down in the oft-cited case of United States v. Anderson, 269 U. S. 422, it is apparent that all of the events occurred on October 1, 1936, fixing petitioner’s liability for the personal property tax. We have not overlooked the fact that the rate was not fixed until later and the precise amount to be paid was not then certain. That, however, does not prevent accrual of the tax. H. H. Brown Co., 8 B. T. A. 112; First Bond & Mortgage Co., 27 B. T. A. 430; Texas Coca-Cola Bottling Co., 30 B. T. A. 736; Gatens Investment Co., 36 B. T. A. 309; Carl K. Lifson, Administrator, 36 B. T. A. 593; affd., 98 Fed. (2d) 508; certiorari denied, 305 U. S. 662. The Commissioner, in our judgment, correctly disallowed the deduction of the personal property taxes in the fiscal year before us.

The claimed deduction for real estate taxes can not be disposed ■of so summarily. Tire same tests should be applied as have been applied in connection with the personal property taxes. Under section 54: T-l, while all property in New Jersey is to be “assessed to the owner thereof with reference to the amount owned on October first. in each year”, it is significant that the legislature has singled out “the person * * * assessed for personal property”, making him “personally liable” for the tax. Inclusio umius est exdusio alterms, Tax on realty is not a personal obligation of the owner, Bea v. Turner & Co., 115 N. J. S. 189; 169 Atl. 832, and “the fact that the property has been assessed prior to sale, does not in the eyes of the New Jersey legislature mean that the tax resulting from that assessment is to be borne by the seller.” Commissioner v. Coward, supra. Cf. Borough of Wrightstown v. Salvation Army, 123 Atl. 607. The legislature has the power to discriminate among the various classes of property for the purpose of taxation, State Board of Assessors v. Central R. Co., 48 N. J. Law 146; 4 Atl. 578; Chancellor of State v. City of Elizabeth, 65 N. J. Law 479; 47 Atl. 454; affd., 66 N. J. Law 687; 52 Atl. 1130, and has done so. Thus not only is there no personal liability of the former owner — except the apportionment between buyer and seller on the basis of the calendar year — but no arrest or imprisonment for default in payment may be made (sec. 54:4r-79) and no lien attaches unless the taxes are unpaid on and after December first of the year in which they fall due. (Sec. 54: 5-6.) Petitioner, then, could have sold its real estate after October 1, 1936, and prior to January 1,1937, without becoming liable for any of the real estate taxes for the current year 1937 and the property would not have been subject to any lien for taxes (assuming, of course, that prior years’ taxes had been paid). Indeed such a sale, even if made after January 1,1937, would not have subjected petitioner to a personal liability for the taxes except for the provisions of section 54:4-56, supra.

The liability in rem, as the Circuit Court of Appeals for the Third Circuit observed in the Coward case, supra, “may well afford a basis for ‘accruing’ the tax in the accounting sense” as of October 1 of the preceding year. In the footnote, however, the court pointed out that a ruling by the department to that effect is not in harmony with the theory, generally announced, that real estate taxes accrue in the absence of personal liability at the time the tax lien takes effect. Since the attachment of the tax lien occurred as the last, rather than the first, step in the tax cycle, “the General Counsel’s failure to follow the general theory is understandable.” Inferentially the court anticipated the obvious absurdity of attempting to do what petitioner here requests — i. e., to shift the accrual date to the time the amount of tax becomes fixed. Two installments of taxes have already become due, before this date and in the normal course of events have been paid. The most fundamental principle of an accrual method of accounting would he violated if it should be held that an obligation to pay taxes, though carried out in full, had not yet ripened into an accruable item-■merely because the mechanics of determining the amount had not been carried out and the lien of the sovereign had not attached. We think, therefore, it is appropriate to eliminate from further consideration both the lien date and the date the assessment is completed.

But while reason impels the elimination of some of the suggested dates, search for the true one remains somewhat illusory. In attempting to find it we think consideration must be given, not only to the dates specifically set out in the statutes but also to those implicit in the whole scheme of taxation. This seems to be the practical approach. Cf. Farmers Loan & Trust Co. v. Minnesota, 280 U. S. 204, 212. Keal estate taxes are imposed upon an annual basis in New Jersey, Empress Mfg. Co. v. City of Newark, 160 Atl. 388, 389. In this they are like income taxes. Cf. Burnet v. Sanford & Brooks Co., 282 U. S. 359. The general plan seems to be that they are to be assessed and collected in the calendar year, the basis for assessment being the price at which the real estate “would sell for at a fair and bona fide sale by private contract on October first last.” (Sec. 54:4-36.) The numerous references in the statutes to the taxes of “the current year” and “the preceding year”, the requirement that two installments be paid before “the full tax as levied for the current year” is known, the necessity of the transmittal by the state comptroller to the county board of “a statement of the amount of tax appropriated by the state for that year * * * ” (sec. 54: 4r-39), and the filing of similar statements by the various municipalities and subdivisions (sec. 54:4-41 et seq.), together with the provisions of section 54:4-56 referred to above, apportioning the tax between the seller and purchaser “between the previous January first and the date of delivery of the deed”, all support this view. It is therefore reasonable to conclude that all of the real estate taxes for the calendar year accrued at the same time, regardless of the fact they were payable in installments.

In reaching the conclusion that all of the real estate taxes should be accrued at the same time we have not overlooked the line of cases, some of which are cited by the parties, in which prorating of the taxes has been approved. See, e. g., Carondelet Building Co. v. Fontenot, 111 Fed. (2d) 267; Citizens Hotel Co. v. Commissioner, 127 Fed. (2d) 229; Commissioner v. Rust’s Estate, 116 Fed. (2d) 636; and New Orleans Cold Storage & Warehouse Co., Ltd., 40 B. T. A. 121. Some of the cases cited dealt with taxpayers keeping their books upon an accrual basis and making return, during the particular period, for less than a full year. In others the question involved an allocation of taxes between vendor and vendee. The cases in the latter group were-overruled by the recent decision of the Supreme Court in Magruder v. Supplee, - U. S. -(May 25, 1942). Whether it had a similar effect upon those in the other group need not be determined in this proceeding. Cases such as Walsh-McGuire Co. v. Commissioner, 97 Fed. (2d) 983, and others cited by the respondent, though sound in principle, are not applicable. In most of them the lien for taxes attached' at the time the assessment was made or the owner became personally liable for the tax.

The question before us, simply stated, is: May New Jersey real estate-taxes be accrued during a fiscal period beginning January 1 and ending August 31 ? We think this question must be answered in the affirmative. During this period — and in our judgment prior to February 1, though this need not be decided — all, or the last of the necessaryr events occurred fixing the owner’s liability for the taxes and making them a charge upon the land which, if not paid, would ripen into a lien. Personal liability, in the event of sale after January 1, existed under section 54:4-56, supra, and the lien, which would attach on “December first of the year in which they fall due” under section 54:5-6-would include any unpaid installment. It follows that the respondent erred in denying the deduction of the real estate taxes.

Reviewed by the Board.

Decision will be entered unden' Bule 50„

Murdock dissents.

Smith,

dissenting: The question presented by this proceeding is-whether the petitioner, a New Jersey corporation with its principal place of business in Hoboken and making its income tax returns in accordance with its books of account kept upon the accrual basis, is entitled to deduct from gross income in its return for the'fiscal period January 1 to August 31, 1937, any amount for general property and tangible personal property taxes levied by the city of Hoboken for 1937. For years prior to 1937 petitioner had been making returns upon the basis of the calendar year. It obtained permission from the respondent to change its basis of reporting from the calendar year to a fiscal year ended August 31. In order to make the change it was necessary for it to file an income tax return for the eight-month period January 1 to August 31,1937.

In its prior calendar year returns the petitioner deducted from gross income the general property and tangible personal property taxes which became due and were paid by it during the calendar year. The respondent granted permission to the petitioner to change from a calendar year to a fiscal year basis of reporting, provided proper adjustments were made in its books of account and returns of income. In. its return for tbe eight-month period ended August 31, 1937, it deducted from gross income the entire amount of real estate ($6,893.91). and personal property ($2,042.64) taxes which became due and payable for the entire calendar year 1937. The respondent disallowed the deduction of the entire amount. In this case the Board holds that the petitioner is entitled to deduct the entire amount of the general property taxes, but no part of the tangible personal property taxes, for the reason that the latter taxes became a personal liability of the corporation on October 1, 1936.

Section 41 of the Bevenue Act of 1936 provides:

SBC. 41. GENERAL RULE.
The net income shall be computed upon the basis of the taxpayer’s annual' accounting period (fiscal year or calendar year, as the ease may he) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer; * * *

In United States v. Anderson, 269 U. S. 422, the Court said that the provision of the income tax law which permitted taxpayers to make returns of income upon the accrual basis was:

* * * to enable taxpayers to keep their books and make their returns according to scientific accounting principles, by charging against income earned during the taxable period, the expenses incurred in and properly attributable to the process of earning income during that period; * * *

The taxes with which we are here concerned are annual taxes. They were levied by the city of Hoboken for the purpose of obtaining; revenues to meet expenses for the calendar year 1937. Under the provisions of the income tax law taxes paid or accrued are a legal deduction from gross income. If it be true, as the Supreme Court has said, that the accrual system was to permit the deduction from gross income of expenses “incurred in and properly attributable to the process of earning income”, I can not see why the petitioner is not entitled to deduct from gross income for the fiscal period here in question an aliquot part of the annual taxes imposed for 1937 and I see no reason for differentiating between real estate and tangible personal property taxes. The question is whether the taxes accrued in an accounting sense — whether any part of them may properly be said to be attributable to the process of earning income for the fiscal period in question. It was held by the Board in New Orleans Cold Storage & Warehouse Co., Ltd., 40 B. T. A. 121, that a corporation which kept its books of account and made its returns upon the accrual basis and obtained permission of the Commissioner to change from a fiscal year to a calendar year basis, and had to file a return for a fractional part of a year, as this petitioner was required to do, was entitled to deduct from the gross income shown on the short return an aliquot part of the real and personal property taxes paid upon an annual basis. This was also the conclusion reached by the Circuit Court of Appeals for the Fifth Circuit in Carondelet Bldg. Co. v. Fontenot, 111 Fed. (2d) 287. Cf. Citizens Hotel Co. v. Commissioner, 127 Fed. (2d) 229.

It is not entirely plain from the findings of fact what the petitioner’s books of account showed as to the amount of general property and personal property taxes charged as an expense for the period January 1 to August 31, 1937. It is definitely stated, however, that in the return filed for that period the petitioner deducted the full amount of those taxes which it would have deducted on a return for the full calendar year. Upon the principle of United States v. Anderson, supra, I think that the deduction should be limited to eight-twelfths of those taxes. The evidence clearly shows that the petitioner attempted month by month to charge to “General Factory Expense” a portion of its annual taxes. From its standpoint it was immaterial whether they were general property taxes or tangible personal property taxes. They were all an expense of doing business.

The taxes involved herein were levied as 1937 taxes. From the standpoint of reaching a fair and just amount to be allocated to the eight-month period before us it is immaterial whether it be considered that the taxes were levied for the 12-montli period October 1, 1936, to September 30, 1937, or for the calendar year 1937. In either event the eight-month period falls within such year.

In my opinion petitioner is entitled to deduct from gross income for the fiscal period here in question eight-twelfths of the $8,936.55 general property and personal property taxes levied, for 1937, and no more.

The question before us in this proceeding is entirely different from that which was before the Supreme Court in Magruder v. Supplee, - U. S. - (May 25, 1942). The question there was whether a person who, for instance, purchased an apartment house for $50,000 with an agreement between the contracting parties that rents, interest, and taxes should be adjusted to the date of sale, could deduct from gross income during his period of ownership the portion of the taxes which-he contracted to pay but which had become a lien upon the property or a personal liability of the former owner prior to the date of sale. The Court held that where the lien for the taxes had attached before the date of sale, or the former owner had a personal liability for the payment of the taxes, the amount paid as taxes by the purchaser was not a legal deduction from gross income. The theory of the Court Avas that such payment was a part of the purchase price. That principle is not involved in this proceeding.

       Under section 54:4-56, if not otherwise provided by agreement between the seller- and the purchaser, the seller is “liable for the payment of such proportion of the taxes for the current year * * * as the time between the previous January first and the date* of the delivery of the deed * * * bears to a full calendar year.”