author: Keen :

text:
    Florence Cotton Mills, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 104343.
    Promulgated May 7, 1941.

      H. A. Bradshaw, Esq., for the petitioner.

      Frank M. Thompson, Esq., for the respondent.
   OPINION.

Keen :

The issue in this proceeding is whether a contract was executed by petitioner prior to May 1,1936, which expressly dealt with the payment of dividends in compliance with the provisions of section 26 (c) (1) of the Revenue Act of 1936, set out in the margin.

Respondent contends that no such contract can be considered as executed by the petitioner prior to May 1, 1936, because the application for the loan specifically provided that the “contract shall become binding upon the parties * * * only when * * * the loan applied for is paid to applicant.” Such loan was not paid to petitioner until September 1936.

Petitioner, on the other hand, contends that a contract was executed by it by virtue of its signing the application which was accepted by R. F. C., subject to certain conditions, on February 19, 1936, and that the clause in the application above quoted was a condition precedent not to the existence of the contract but to the liability of the parties imder the contract.

Petitioner, in advancing this argument, stresses the following language in the application:

This application, as hereafter amended or supplemented, together with all conditions imposed by and all agreements required by or entered into with or for the benefit of R. F. C. in connection with the making of the loan hereby applied for and the note or notes of applicants evidencing such loan (all of which are incorporated herein and made a part hereof), shall constitute a contract between applicant and R. F. C. * * *.

We are inclined to the conclusion that the parties intended all of their written agreements, together with amendments and supplements, beginning with the application for the loan and ending with the actual disbursement of the loan, to constitute the contract between the parties, such contract not to come into being as such until all of the negotiations had been definitely completed by the payment of the loan. That this is a reasonable construction of the language used by the parties is demonstrated by the dealings between the parties here with the many facets of the transaction requiring extended negotiations which lasted for over a year.

However, even if we assume arguendo, as petitioner contends, that a contract existed between petitioner and R. F. C. prior to May 1, 1936, and that only the condition precedent to liability under the contract remained to be fulfilled after that date, we are, nevertheless, of the opinion that petitioner is not entitled to credit under section 26 (c) (1) of the Revenue Act of 1936, which refers to “amounts which can be distributed within the taxable year as dividends without violating a provision of a written contract executed by the corporation prior to May 1,1936.” (Emphasis supplied.) This language assumes a binding contract, the breach of which would constitute a violation. Unless a contract, binding upon both parties, existed prior to May 1,1936, the section of the act granting the credit claimed can not be considered as having been complied with, and therefore, petitioner is not entitled to credit thereunder.

Decision will be entered for the respondent.

       SEC. 26. CREDITS OP CORPORATIONS.
      In the case of a corporation the following credits shall be allowed to the extent provided in the various sections imposing tax—
      *******
      (e) Contracts Restricting Payment op Dividends.—
      (1) Prohibition on payment op dividends.—An amount equal to the excess of the adjusted net income over the aggregate of the amounts which can be distributed within the taxable year as dividends without violating a provision of a written contract executed by the corporation prior to May 1, 1936, which provision expressly deals with the payment of dividends. If a corporation would be entitled to a credit under this paragraph because of a contract provision and also to one or more credits because of other contract provisions, only the largest of such credits shall be allowed, and for such purpose if two or more credits are equal in amount only one shall be taken into account.


source: Caselaw Access Project

author: Kern :

license: Public Domain

text:
    E. C. Atkins and Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 99196.
    Promulgated May 8, 1941.

      Frank ATbus, Esq., for the petitioner.

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

Kern :

Tlie problem presented to us in this proceeding involving section 26 (c) (1) of the Eevenue Act of 1936, set out in the margin, is, to a large extent, similar to that presented in the recent case of Columbia River Paper Mills, 48 B. T. A. 263. In that case the contract obligated the taxpayer corporation to “neither declare nor pay any cash dividend * * (Emphasis supplied.) We held that under the circumstances of that case “the petitioner could not have made any distribution to its stockholders except in the form of cash.” We determined that a distribution in any form other than cash would have been impossible in view of legal obligations upon the taxpayer existing by virtue of another contract and its own bylaws.

In the instant proceeding the contract in effect has the same provision ; it prohibits the payment of dividends but by a proviso permits the declaration of stock dividends. If no stock dividends could have been distributed by petitioner during the taxable year, then our holding in the instant proceeding must be the same as in Columbia River Paper Mills, supra. And, as we did in that case, we can look aliunde the contract relating specifically to the payment of dividends in determining whether the distribution by petitioner of stock dividends was legally possible during the taxable year.

Petitioner points out the fact that it had a deficit both at the beginning and end of the taxable year 1936, and, consequently, had no surplus which could be transferred from the surplus account to the capital account through the employment of a stock dividend. Therefore, it contends that the payment of a stock dividend in 1936 was an impossibility, relying on the proposition that a stock dividend is a method whereby surplus earnings of a corporation are transferred from the surplus account to a capital account and is available only where a surplus exists.

Petitioner also contends that, in the light of sections 27 (h) and 115 (f) (1) of the Eevenue Act of 1936, set out in the margin, it is evident that article 26-2 (b) of Regulations 94, also set out in the m&rgin, upon which respondent relies, must use the word “dividend” in the sense of dividend taxable to the stockholders of the corporation. Since petitioner had no surplus in the taxable year, no distribution of a stock dividend could have been taxable to its stockholders. In this connection it should be pointed out that by the terms of its charter petitioner could only have issued common stock as a stock dividend, since no preferred stock was authorized. Such a stock dividend would not have been taxable to the stockholders. As we held in Paraport Theatre Leasing Corporation, 44 B. T. A. 108.

* * * Petitioner can not be denied the credit provided in section 26 (c) (1) because it was not prohibited from declaring a stock dividend unless it could have declared a stock dividend which would have constituted taxable income to its shareholders.

Respondent suggests that the charter of petitioner might have been changed in this respect. However, no change was made and, in view of the provisions of section 12 of the Indiana Corporation Act to the effect that dividends can be paid only out of surplus earnings or profits or surplus paid into the corporation in cash, we can not assume that an authorization for the issuance of preferred stock with which to pay a stock dividend would be granted under the circumstances here present.

We further agree with petitioner that the existence of surplus or undivided profits is a prerequisite to the issuance of a true stock dividend. See Eisner v. Macomber, 252 U. S. 189; Fletcher’s Cyclopaedia on Corporations, Vol. xr, sec. 5361, and cases cited. Cf. Tillotson Manufacturing Co., 27 B. T. A. 913. Petitioner could not issue such a stock dividend in the taxable yean. By a written contract executed by the corporation prior to May 1, 1936, expressly dealing with- the payment of dividends petitioner was prohibited from paying any dividend other than a stock dividend. Therefore, this proceeding comes within our decision in Columbia River Paper Mills, supra, as well as our decision in Paraport Theatre Leasing Corporation, supra, and on this issue our decision is for petitioner.

Respondent contends that petitioner’s unpaid indebtedness under the contract at December 31,1936, amounted to but $34,500 and that it had cash on hand at that time in the amount of almost $70,000. Since its final payment was due March 1, 1937, respondent concludes that there is no reason why petitioner could not have paid off the debt in toto in 1936 and thereby released itself of any further liability under the contract. Undoubtedly it could have, but this argument has already been considered by this Board in Maumee Malleable Castings Co., 44 B. T. A. 263, where the facts were more favorable to this contention than the facts in the instant proceeding, and the conclusion there reached is adverse to respondent.

Decision will be entered under Rule 50.

       SEC. 26. CREDITS OF CORPORATIONS.
      In tlie ease of a corporation the following credits shall be allowed to the extent provided in the various sections imposing tax—■
      *******
      (c) Contracts Restricting Payment op Dividends.—
      (1) Prohibition on payment op dividends.—An amount equal to the excess of the adjusted net income over the aggregate of the amounts which can be distributed within the taxable year as dividends without violating a provision of a written contract executed by the corporation prior to May 1, 1936, which provision expressly deals with the payment of dividends. If a corporation would be entitled to a credit under this paragraph because of a contract provision and also to one or more credits because of other contract provisions, only the largest of such credits shall be allowed, and for such purpose if two or more credits are equal in amount only one shall be taken into account.

       SEC. 27. CORPORATION CREDIT FOR DIVIDENDS PAID.
      *******
      (h) Nontaxabde Distributions.—If any part of a distribution (including stock dividends and stock rights) is not a taxable dividend in the hands of such of the shareholders as are subject to taxation under this title for the period in which the distribution is made, no dividends paid credit shall be allowed with respect to such part.
      SEC. 115. DISTRIBUTIONS BY CORPORATIONS.
      *******
      (f) Stock Dividends.—
      (1) General rule.—A distribution made by a corporation to its shareholders in its stock or in rights to acquire its stock shall not be treated as a dividend to the extent that it does not constitute income to the shareholder within the meaning of the Sixteenth Amendment to the Constitution.

       (b) Prohibition on payment of dividends.—The credit provided in section 26 (c) (1) is allowable only with respect to a written contract executed by the corporation prior to May 1, 1936, which expressly deals with the payment of dividends and operates as a legal restriction upon the corporation as to the amounts which it can distribute within the taxable year as dividends. If an amount can be distributed within the taxable year as a dividend—
      (1) in one form (as, for example, in stock or bonds of the corporation) without violating the provisions of a contract, but can not be distributed within the taxable year as a dividend in another form (as, for example, in cash) without violating such provisions, or
      (2) at one time (as, for example, during the last half of the taxable year) without violating the provisions of a contract, but can not be distributed as a dividend at another time within the taxable year (as, for example, during the first half of the taxable year) without violating such provision—
      then the amount is one which, under section 26 (c) (1), can be distributed within the taxable year, as a dividend without violating such provisions.


author: TtjRner :

text:
    Commonwealth Investment Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 98060.
    Promulgated May 9, 1941.

      William Allen Whitfield, Esq., for the petitioner.

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

TtjRner :

The petitioner rests its case upon the proposition that the contract of February 18, 1928, between it and the Casualty Co. was illegal and void from its inception and for that reason urges that the amounts received in 1933 and 1934 from the Casualty Co. pursuant thereto did not constitute taxable income to it. It concedes that but for the illegality of the contract the amounts received thereunder did constitute taxable income.

The respondent, relying on North, American Oil Consolidated v. Burnet, 286 U. S. 417; Estate of James E. O'Neil, 35 B. T. A. 975; affd., 98 Fed. (2d) 93, and other cases of similar import, contends that, since the petitioner received the amounts under a claim of right and had unrestricted use of them, they are to be treated as income for the years in which received, irrespective of the fact that restitution was made in a subsequent year.

From the facts it appears that from the date the contract was entered into until it was canceled the petitioner received from the Causalty Co. as payments under the contract a total of approximately $93,060, which total includes the amounts here in issue. For the sums received petitioner rendered no services and apparently had no intention of rendering any services. In short, the petitioner, in order to avoid the tax consequences of the payments under the said contract, pleads its participation with the Casualty Co. in a scheme whereby funds of the Casualty Co. were illegally and wrongfully paid over to petitioner. It is a fundamental principle of law that a person may not take advantage of his own wrong. In Marbelite Corporation of America, Ltd., 30 B. T. A. 311; affd., 77 Fed. (2d) 713, we said:

It is thus readily perceived that, reduced to plain words, taxpayer seeks to plead in this litigation with the Government over taxes its own participation in an illegal contract to avoid tlie consequences of such contract on its tax liability. There is a complete barrier to such action. * * *

See also Estate of James E. O'Neil, supra; Johnston v. McLaughlin, 55 Fed. (2d) 1068; Hering v. Tait, 65 Fed. (2d) 703; and James P. McKenna, 1 B. T. A. 326. The respondent has predicated his determination upon the assumption that the contract, until canceled by the parties and at the instigation of the insurance commissioner, was binding and legal, and the petitioner, conceding that under such circumstances the amounts here in question constituted income in the taxable years, has rested its case entirely upon the ground that illegality of the contract would relieve it of the income tax consequences.' The above cases require the contrary conclusion and the action of the respondent in treating the sums received by the petitioner from the Casualty Co. during the taxable years as income to. the petitioner is accordingly sustained.

Decision will be entered for the respondent.


author: Steknhagen :

text:
    Shell Employees’ Benefit Fund, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 100399.
    Promulgated May 13, 1941.

      Bay Vandervoort, Esq., for the petitioner.

      Alva O. Baird, Esq., for the respondent.
   OPINION.

Steknhagen :

The petitioner claims exemption from tax in years other than 1927 under section 103 (16), Revenue Acts of 1928 and 1932, and section 101 (16), Kevenue Act of 1934. It argues that 85 percent or more of its income consists of amounts collected from members. Although the ratio of members’ payments to total receipts is in each year substantially less than 85 percent, the theory of the argument is that the employer’s contributions are gifts and not income; that the statutory ratio is expressed in terms of “income”; that over 85 percent of its “income” consists of amounts collected from members; and, further, that the word “income” in the percentage clause means net income. For 1927, which is governed by the Kevenue Act of 1926, containing no 85 percent clause, petitioner claims not an exemption, but an excess of expenses over income if the employer contributions be excluded. This contention also applies to subsequent years, but is necessarily bound up with the argument for exemption.

Claiming an exemption, the petitioner must establish a clear statutory provision granting it. Doubts and ambiguities are not to be resolved in favor of the exemption. If the exemption is available to petitioner only upon the ground that the employer’s contributions are gifts and not income, petitioner must prove that ground affirmatively as well as that the statute was intended to exclude such contributions from the income upon which the percentage ratio is computed.

1. The petitioner fails on both propositions. The contributions made by the employer were not gifts, and they are none the less income because of the provision of the bylaws that the employer was under no obligation to make them, Levey v. Helvering, 68 Fed. (2d) 401; Fisher v. Commissioner, 59 Fed. (2d) 192; Georgia S. Williams, 36 B. T. A. 974; James H. Anderson, 31 B. T. A. 197; affd., 79 Fed. (2d) 979. The corporation did not intend them to be gifts, as is shown by its failure to call them gifts or to express otherwise such intention, and by its treatment of them on its tax returns as ordinary and necessary business expenses. The intent of the giver is an important factor in proving a gift, Bogardus v. Commissioner, 302 U. S. 34; Fisher v. Commissioner, supra; Noel v. Parrott, 15 Fed. (2d) 669; and a gift by a corporation without special and clear authorization expressly to make a gift as such is an idea which can not be readily accepted, Botchford v. Commissioner, 81 Fed. (2d) 914. A receipt, however difficult of characterization or classification, is not, for want of a better label and for the sake of a tax advantage, to be called a gift, Acme Land Fur Co., 31 B. T. A. 582; affd., 84 Fed. (2d) 441, any more tiran a charitable contribution, Philadelphia & Reading Relief Association, 4 B. T. A. 713.

A rational interpretation of the statute requires calling the employer’s contribution income. The exemption was intended only when the employees themselves contributed to their benefit association the large proportion of its benefit funds. The stress was on the part collected from employees and not upon the word “income.” It may indeed be doubted whether the word itself is important enough in expressing the statutory intent to justify the disregard of true gifts from an individual if they are big enough to reduce the employee ratio to less than 85 percent, for the statute was plainly intended to reach employees’ self-supporting benefit associations and not those supported by beneficent employers or philanthropists.

2. In order to establish its exemption, petitioner next contends that the word “income” in the percentage clause must be read to mean net income; and that since, after deducting its expenses and thus arriving at the net income, the amount collected from employees is more than 85 percent, the statutory exemption has been met. This meaning of the word “income” is incorrect. The intendment of the exemption, as just explained, does not permit it. In the first place, it would be impossible to apply the 85 percent to a base which results mathematically from the subtraction of deductions like general expenses from a total of receipts derived from various sources. Leaving aside the question whether employers’ contributions are properly called income, there is still in this case an amount of income from sources other than the amounts collected from members. Net income would be determined by subtracting the proper deductions from the composite aggregate of these income items, irrespective of whether the deductions could be related to any identified part of the receipts. After arriving at net income by this mathematical process, there is no formula to determine the percentage of net income derived from any particular source. Since the employer contributions are to be included in the base, it is impossible' to determine the percentage of net income attributable to collections from members. The sensible meaning of the word “income” in this clause, one which can be practically applied, is that of gross income or receipts. This holding, however, is not for the purpose of giving a definitive or exclusive meaning to the word “income”, but only to hold negatively that the word may not be used narrowly as meaning net income as petitioner contends. The clause must be interpreted to accomplish the manifest purpose of the statute, and it is only necessary now to say that this can not be done by reading the word “income” as if it meant net income.

' 3. The petitioner-next contends tha,t if the employer’s contributions are not held to be gifts they must be held to have been constructively collected from the members after having been constructively paid to them by the employer. This contention is utterly lacking in substance or support and must be rejected. There is nothing in the bylaws to support the theory and there is nothing in the evidence to indicate such an intention of either the employer or the employees. The bylaws quoted in the findings show clearly that the employer was making its contribution directly to the association on its own account and hot in behalf of the employees.

4. Some question is made whether the “income” of the percentage clause properly includes the petitioner’s tax-exempt income. Tax-exempt income appears, only for the latest four years, but how it was treated in the determination of the deficiency is not clear. However, the question of its proper treatment in this case is moot in view of the decision that since the employer’s contribution must be included in the percentage base there is in any event less than the required percentage of employee collections to give petitioner the exemption claimed. The kuestion is therefore left undecided.

Decision will he entered for the respondent.

       (16) Voluntary employees’ beneficiary associations providing for the payment of life, sick, accident, or other benefits , to the members of such association or their dependents, if (A) no part of their net earnings inures (other than through such payments) to the benefit of any private shareholder or individual, and (B) 85 per centum or more of the income consists of amounts coUected from members for the sole purpose of making such payments and meeting expenses.


author: Tyson : Black,

text:
    Estate of Charles A. Bickerstaff, Mabel H. Bickerstaff, Executrix, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 97205.

    Promulgated May 13, 1941.

      M. E. Kilpatrick, Esq., for the petitioner.

      J. Marvin Kelley, Esq., for the respondent.

       Entered as a memorandum opinion October 26, 1940.

   opinion.

Tyson :

The income tax deficiency here in controversy, in the amount of $710.41 for the calendar year 1935, results from the respondent’s disallowance of a deduction of $3,500 claimed on the 1935 income tax return of Charles A. Bickerstaff as a loss sustained upon his abandonment of certain real property in that year. • Petitioner assigns error in such disallowance.

The proceeding has been submitted upon a stipulation of facts embracing certain exhibits, which stipulation we adopt and, by reference, incorporate herein as our findings of fact. There are set forth herein only such of those facts as we deem necessary to our decision.

The petitioner, a resident of Atlanta, Georgia, is the executrix of the estate of Charles A. Bickerstaff, deceased. The latter ■will be hereinafter referred to as Bickerstaff.

In August 1925 Bickerstaff paid the full purchase price of $3,500 for, and thereupon became the owner of, certain unimproved real estate known as lot 10, block 10, Manatee County, Florida.

The state and county taxes on that property were not paid for the years 1932, 1933, 1934, and 1935. At the end of the latter year such accrued taxes, with interest, amounted to approximately $15. The assessed value of the property was $100.

In 1933 a tax certificate was issued to the Treasurer of the State of Florida for the delinquent taxes for 1932. That certificate was held by the state for more than two years and then sold to Mrs. M. J. Mooney. On January 4, 1931, the state executed to Mrs. Mooney a deed to the property in question.

On December 24, 1935, Bickerstaff executed what purported to be a quitclaim deed, embracing the property here in question, to the tax collector of Manatee County, Florida. Such deed, together with a letter dated December 24, 1935, was mailed to and was received by the tax collector during December 1935. The deed was retained by the tax collector, but was not recorded on the county records because it had not been properly attested, in that there was only one witness thereto. In his letter Bickerstaff stated that he desired to “stop further tax payments” on the property and that the tax collector was “fully authorized by this quit claim to sell the lot for any amount of taxes due” thereon. Thereafter, Bickerstaff did not, at any time, exercise or attempt to exercise any ownership or control whatsoever over that property.

The petitioner contends that Bickerstaff sustained a deductible loss of $3,500 in 1935 through abandonment of worthless property in that year. The respondent contends that the quitclaim deed was invalid; that there was no actual abandonment of the property in 1935; and that the loss of Bickerstaff⅛ investment of $3,500 was sustained in 1937 upon the expiration of his equity of redemption at the time the state’s deed was issued to Mrs. Mooney in that year.

An application of the statutes of the State of Florida, as construed by numerous decisions of the courts of that state, to the facts in the instant case results in the following conclusions of law: The tax certificate issued to the state in 1933 evidenced a lien on the property in question superior to all others. Bickerstaff had a right of redemption within two years from the date of the issuance of such certificate by payment of the full amount of the taxes due, plus interest thereon, costs, charges, and penalties as prescribed by statute. The state’s sale of the tax certificate to Mrs. Mooney, after a lapse of the two-year redemption period, constituted a sale of state property and she, as the owner of such tax certificate, then had a right under one of several statutory methods of procedure to enforce a conveyance of the property to her unless the tax certificate was duly redeemed. Ridgeway v. Reese, 100 Fla. 1304; 131 So. 136; and Ridgeway v. Peacock (Fla.), 131 So. 140. Despite the lapse of the statutory two-year redemption period at some time during 1935, Bickerstaff had the further statutory privilege of redemption at any time before the state’s deed was actually issued to Mrs. Mooney in 1937. Ridgeway v. Reese, supra; Ridgeway v. Peacock, supra; Henderson v. Leatherman,, 120 Fla. 496; 163 So. 310; Washbish v. Elvins, 114 Fla. 575; 154 So. 315; State v. Leatherman, 99 Fla. 899; 128 So. 21; and Fountain v. State, 94 Fla. 746; 114 So. 511. Since Bickerstaff’s quitclaim deed, executed on December 24, 1935, did not have at least two subscribing witnesses thereto as required by the Florida statutes, such deed was invalid, Adams v. Whittle, 101 Fla. 705; 135 So. 152; Barclay v. Bank of Osceola County, 82 Fla. 72; 89 So. 357; and Parken v. Safford, 48 Fla. 290; 37 So. 567, and did not effectuate a termination of Bickerstaff’s statutory right of redemption which, accordingly, remained in force up until the state actually issued its deed to Mrs. Mooney in 1937.

Petitioner relies principally upon the decisions in W. W. Hoffman, 40 B. T. A. 459, and Rhodes v. Commissioner, 100 Fed. (2d) 966, to support the contention that even if Bickerstaff retained title to the property in question until 1937, he, nevertheless, sustained a deductible loss of his investment therein in 1935 because the property had become worthless and was abandoned by him in that year and his retained title was devoid of value.

In our opinion the facts in the instant case do not bring it within the rationale of the above cited cases, for the stipulated facts herein do not establish actual worthlessness of the property and an abandonment thereof in the taxable year 1935. The record herein merely shows that the accrued taxes, with interest, amounted to $75 and that the assessed value of the property was $100. In Henderson v. Leatherman, supra (decided in 1935), the Supreme Court of Florida said: “Now, it is a matter of common knowledge that lands nowhere in this state are assessed for state and county purposes at more than 50 percent of their cash value.” There are no facts of record as to the actual value, or total lack of value, of the property during 1935. We are unable to make findings that the property in question was worthless in the taxable year and that Bickerstaff’s retained title thereto was devoid of value and such findings are essential for petitioner to prevail in this proceeding. Furthermore, Bickerstaff’s only effort to abandon the property was made through the execution of a quitclaim deed which was invalid and ineffectual. Throughout the taxable year 1935 Bickerstaff possessed an equity of redemption of the property in question and there did not occur during that year any identifiable event of sufficient character to establish a deductible loss of his investment therein.

In our opinion the instant proceeding is controlled by our decisions in Frederick Kraussy 30 B. T. A. 62, and Greenleaf Textile Corporation,, 26 B. T. A. 737; affirmed, per curiam, Greenleaf Textile Corporation v. Commissioner, 65 Fed. (2d) 1017, and, upon authority of those cases, we sustain the respondent’s determination.

Reviewed by the Board.

Decision will be entered for the respondent.

Leech concurs only in the result.

Black,

dissenting: I think the petitioner should be allowed his loss for the year 1935, the year which is now before us, rather than to postpone it to some subsequent year when his title to the realty was completely extinguished.

I think the facts recited in the majority opinion show that for all practical purposes the property in question was worthless in 1935 and that decedent in that year clearly and unmistakably evidenced his intention to' abandon it.

While, under the laws of Florida, decedent doubtless retained an equity of redemption of the property in question until 1937, nevertheless, where, as here, a taxpayer intends to and does in fact effectually abandon worthless property during the taxable year in question, the loss of his investment in such property is sustained and is deductible in that year as an ordinary loss, despite the retention of an equity of redemption which is devoid of value. W. W. Hoffman,, 40 B. T. A. 459; affd., 117 Fed. (2d) 987. Realty Operators, Inc., 40 B. T. A. 1051; petition for review dismissed March 20, 1941; Park Chamberlain, 41 B. T. A. 10; Denman v. Brumback, 58 Fed. (2d) 128; and Rhodes v. Commissioner, 100 Fed. (2d) 966.

Because of the foregoing reasons, I respectfully dissent from the majority opinion.

Arundell agrees with this dissent.


author: Tyson : Disney, Opper,

text:
    Journal Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 96682.
    Promulgated May 13, 1941.

      Edmund B. Shea, Esq., and Carl F. Miklcelson, Esq., for the petitioner.

      Jonas M. Smith, Esq., for the respondent.
   OPINION.

Tyson :

The first issue is whether the petitioner in computing its net income for the year 1936 may deduct the amount of $112,564.97 claimed by petitioner to have accrued against and have been paid by it as “interest * * * on indebtedness.” That amount was paid together with the amount of $3,500 per share upon delivery to petitioner of the 650 shares of stock here involved on December 28, 1936, and is denominated in the offer of February 26, 1936, by petitioner to purchase such stock (which offer was accepted by the trustees on March 2, 1936) as interest at the rate of 6 percent per annum on the purchase price of the stock, for the period beginning March 2, 1936, and pending delivery of and payment for the stock. The deduction is claimed by petitioner under section 23 (b) of the Revenue Act of 1936 as “interest paid or accrued within the taxable year on indebtedness” of petitioner. The respondent denied the claimed deduction.

The Commissioner defends his denial of the claimed deduction of $112,564.97 on the ground that the petitioner was not indebted to the trustees prior to delivery of the stock on December 28, 1936. On the other hand, the petitioner contends (1) that on March 2, 1936, when the trustees accepted the offer to purchase the stock, it became so indebted because on that date, it further contends, it entered into an obligation to pay for the stock and that such obligation was an indebtedness unaffected by the conditions stated in the contract; and (2) that the determination of a court of competent jurisdiction of Wisconsin to the effect that the payment by petitioner of the $112,564.97 represented interest is an authoritative adjudication of that issue and, as such, is binding upon the Board.

The words “interest * * * on indebtedness” are understood in the business world to mean “compensation for the use or forbearance of money”, and that is the meaning which is to be attributed to them in applying the statute here involved. Deputy v. Du Pont, 308 U. S. 488. The word “indebtedness” does not necessarily include every obligation. The term “interest” is limited in meaning to compensation for money borrowed or the forbearance of money legally owed and the obligation to pay upon which the interest is based must be unconditional and legally enforceable. Deputy v. Du Pont, supra; Autenreith v. Commissioner, 115 Fed. (2d) 856; Commissioner v. Park, 113 Fed. (2d) 352; Johnson v. Commissioner, 108 Fed. (2d) 104; Gilman v. Commissioner, 53 Fed. (2d) 47, affirming 18 B. T. A. 1277.

As was said by this Board in W. S. Gilman, 18 B. T. A. 1277, “A debt is understood to be an unconditional promise to pay a fixed sum, at some specific time, and is quite different from a contract to be performed in the future, depending upon a condition precedent which may never be performed.” The Circuit Court, on appeal of the Gilman case, Gilman v. Commissioner, supra, in its consideration of what constituted á debt, cited many authorities as establishing the principle which the court quoted with approval from the text of 17 C. J. 1377, as follows: “Every debt must be solvendum in praesenti, or solvendum in futuro—must be certain and in all events payable; whenever it is uncertain whether anything will ever be demandable by virtue of the contract, it cannot be called a ‘debt’. While the sum of money may be payable upon a contingency, yet in such case it becomes a debt only when the contingency has happened, the term ‘debt’ being opposed to ‘liability’ when used in the sense of an inchoate or contingent debt.”

The stock here involved, which was the subject matter of the contract, was not available for sale or delivery when the offer and acceptance were executed, and both parties then contemplated that to make it so available steps would necessarily have to be taken to secure authorization by the court for the release of the stock by the administrators to the trustees and approval of the sale of the stock by the trustees. The acceptance was expressly “conditioned on and to become effective only on * * * transfer of such stock to * * * the trustees by the administrators * * * and * * * judicial authorization and approval of such sale” and the offer stipulated that acceptance might be predicated upon such conditions. It is to be noted also that the contract to sell the stock to petitioner and Faye McBeath embraced the further condition that, if Harry J. Grant should by reason of death or incapacity not remain as directing head of the Journal Co. on the date of the delivery of the stock, the contract should be rescinded.

Although the offer and acceptance resulted in a contract obligation, there arose on the date of the acceptance of the offer no present definite, unconditional, and legally enforceable obligation for the payment by petitioner of money as the purchase price of the stock. The present definite obligation to pay such purchase price arose only upon the consummation of the sale by delivery of the stock. The fixing of a future date for the actual consummation of the sale precludes any tenable contention that there was, prior to that date, an existing indebtedness fixed by the offer and acceptance to pay a purchase price upon which interest could accrue in the interim.

The parties described the payments as interest on the agreed purchase price of $3,500 per share from the time of the acceptance of the offer until the approval of the sale by the court, but that fact can be of no controlling significance here, where, at the time of the acceptance of the offer, no debt became presently and definitely payable to the seller upon which interest could accrue. As the court said in Autenreith v. Commissioner, supra, “The fact that these payments are described by the parties as interest and are fixed at six per cent per annum * * * cannot render them deductible for income tax purposes when it is clear that they have not been paid on an indebtedness within the meaning of the revenue acts.”

The evidence herein discloses that in their accounts rendered to the County Court of Milwaukee County, Wisconsin, the trustees treated the $112,564.97 as interest received rather than as corpus of the trust and that the decree of that court approving the account and discharging the trustees recites that the trustees properly treated it as interest on an “obligation” and as income for the purpose of computing commissions of the trustees and the income distributable to the beneficiaries.

The petitioner contends that the above mentioned decree is an authoritative adjudication by the state court ¡of the right of the beneficiaries under the state law to the money as interest on an “obligation” and is controlling here in determining whether or not it was “interest * * * on indebtedness” under section 23 (b), supra.

In our opinion the decree of the County Court of Milwaukee County, Wisconsin, in deciding that by the law of that state the amount here in question was income distributable to the beneficiaries as interest on an “obligation” and was income for the purpose of computing commissions for the trustees in no sens® controls the determination of whether or not such amount is interest on indebtedness within the scope of section 23 (b), supra. Cf. Burk-Waggoner Oil Assn. v. Hopkins, 269 U. S. 110; Burnet v. Harmel, 287 U. S. 103; Lyeth v. Hoey, 305 U. S. 188; Morgan v. Commissioner, 309 U. S. 78; United States v. Pelzer, 312 U. S. 399; and Commissioner v. Carey-Reed Co., 101 Fed. (2d) 602. What here constitutes interest on indebtedness under the Federal statute, section 23 (b), supra, is no more to be controlled by the characterization of a state court of Wisconsin than is the characterization by state courts of what constitutes a partnership as distinguished from an “association” under section 1, Revenue Act of 1918, Burk-Waggoner-Oil Ass’n. v. Hofkins, supra; or what constitutes an “inheritance” under section 22 (b) (3), Revenue Act of 1932, Lyeth v. Hoey, supra; or of what constitutes “interest upon * ⅜ * the obligations of a State * * ⅜ or any political subdivision thereof” under section 22 (b) (4), Revenue Act of 1932; Commissioner v. Carey-Reed Co., supra.

But even if the decree of the County Court of Milwaukee County approving the account of the trustees would otherwise be controlling as to the $112,564.97 being interest accrued on indebtedness within the provisions of section 23 (b), supra, it nevertheless does not have that effect, for the reason that the decree was entered in uncontested proceedings. First-Mechanics National Bank of Trenton et al., Executors, 40 B. T. A. 876; affd., 117 Fed. (2d) 127, and authorities cited in both. There was no occasion for a contest in the county court between the beneficiaries of the trust as to what would constitute corpus as distinguished from income, since the income, embracing the interest here in controversy, was to be distributed to the beneficiaries in the identical proportions in which the corpus was to be distributed.

Petitioner, in support of its contention that the decree -of the County Court of Milwaukee County approving the account of the trustees is controlling here as to the $112,564.97 being interest on indebtedness under section 23 (b), supra, relies upon Freuler v. Helvering, 291 U. S. 35. We do not think that case is controlling here. There, the facts show that a state court decided contested litigation involving the rights of remaindermen in the corpus as distinguished from the rights of beneficiaries in the income and, in so deciding, “beard the merits and on that basis determined and settled property rights. * * * The state court considered and thereupon determined what was corpus and what was distributable as income.” First-Mechanics National Bank of Trenton v. Commissioner, 117 Fed. (2d) 127, 130.

For the reasons stated we hold that the amount of $112,564.97 here involved was not paid or accrued as interest on indebtedness of petitioner and that it is consequently not deductible under section 23 (b), supra.

The second and final issue is whether the petitioner in computing its net income for the year 1936 may deduct $5,000 of the amount of $10,000 paid to attorneys as a retainer fee on June 3, 1937. The retainer fee covered general legal advice and services in connection with the petitioner’s publishing business and no question is raised as to the propriety of the deduction as an ordinary and necessary business expense. Cf. E. C. Laster, 43 B. T. A. 159.

The Commissioner contests allowance of the deduction on the ground that there is no proof that any liability was incurred by petitioner for such attorneys’ fees during the year 1936.

It appears from the terms of the agreement that the contract covered a three-year period beginning July 1,1936, and that the payment on June 3, 1937, of $10,000 covered the retainer fee for the first year of that term, the first half of which first year lay within the taxable year. The anual retainer agreed to be paid included such legal services as might be required in regard to all matters except litigation. The then office manager of the petitioner testified, without contradiction, that the petitioner required legal advice and services during the latter half of 1936 and we understand this to mean that services were actually required of and rendered by the firm of attorneys during the period July 1 to December 31, 1936, at the request of the petitioner. All the events which determined the liability of petitioner to pay- for such services thus occurred in 1936 and only the amount thereof remained undetermined. United States v. Anderson, 269 U. S. 422; Uncasville Mfg. Co. v. Commissioner, 55 Fed. (2d) 893, certiorari denied, 286 U. S. 545; and Highland Farms Corporation, 42 B. T. A. 1314, 1323. Cf. Floyd, Inc., 43 B. T. A. 101.

The agreement of August 4, 1937, was nothing more than a determination of the amount of the value of the services rendered by the attorneys on an annual basis. Since the retainer of $10,000 for the year beginning July 1, 1936, was to embrace services rendered during that annual period and services were rendered by the firm of attorneys during the one-half of that period lying within the taxable year, and the amount of the retainer fee bore no special relation to the amount of services actually rendered, provided some services were rendered, we think that $5,000 of the $10,000 paid by petitioner to the firm of attorneys on June 3, 1937, should be allocated to the taxable year 1936 as a liability incurred by and accrued against petitioner during that year.

We hold that the petitioner is entitled to the claimed deduction of $5,000 in computing its net income for the year 1936.

Eeviewed by the Board.

Decision will be entered u/nder Rule 50.

Disney,

dissenting: I dissent. The contract of February 26, 1936, provided in effect that the petitioner was obligated to take and pay for the corporate stock provided the vendors on their part complied with the contract. The vendee became from February 26, 1936, entitled to benefit of the dividends upon the stock, for if any were paid prior to delivery of the stock the purchase price was to be reduced, and if none were paid prior to delivery of the stock the petitioner would, of course, thereafter receive the dividends. The petitioner thus appears as the equitable owner of the stock from the date of the contract and the only condition, it seems to me, was that the vendors should comply with their agreement to deliver. The petitioner was not obligated to pay the purchase price until delivery, but was obligated to do so upon delivery of the stock. It agreed to pay interest upon the purchase price from the date of the contract and I think that payment of interest so made properly comes within section 23 (b) of the Revenue Act of 1936 as made for delay in the payment of a purchase price, the benefits of which petitioner had from the date of the contract. The condition seems to me to be essentially not different from the usual condition implied in a contract, that is, compliance with the contract by the other contracting party. I do not think this is such a contingency as to negative the existence of a debt from the date of the contract, where the petitioner was obligated from that date and had the benefits of ownership of the stock from that date, subject only to fulfillment of the contract by the vendors, who upon such compliance could have compelled performance of the contract by the petitioner.

Opper,

dissenting: What seems to me to be the significant factor here is that whatever condition may have attached to the transaction in the beginning had disappeared before the taxable year came to an end. Without suggesting that it would necessarily be, otherwise if the significant events had been attributable to various years, on this record it can not be disputed that the entire transaction from inception to termination occurred between February 5 and December 28, all in the tax year 1986; so that when the sums were paid which petitioner seeks to have treated as interest, they were unconditionally interest and everybody concerned knew and recognized them to be such. It is difficult to understand why the Commissioner and the Board must disregard as inconsequential what every participant must have realized was of the essence: The fact, as my Brother Disney demonstrates, that when the transaction with which we are concerned was closed, petitioners had received income in the form of dividends and had paid out something which was nothing if it was not interest—a sum paid for the forbearance of money due. When it was paid, even the most scrupulous regard for the legal niceties could not conceal that there was an “indebtedness.” At least when this is so clear, and while the tax liability for the very year under consideration remains in a fluid state, there seems less than an impelling urgency for so flagrant a disregard of actuality, Rotorite Corporation (C. C. A., 7th Cir.), 117 Fed. (2d) 245.


author: Hakron :

text:
    Fidelity Savings and Loan Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 101236, 101237.
    Promulgated May 13, 1941.

      Richard G. Herndon, Esq., G. Kenneth Ralston, Esq., and John M. Oollins, Esq., for the petitioner.

      T. F. Callahan, Esq., for the respondent.
   OPINION.

Hakron :

Issue 1.—Petitioner contends that it is exempt from Federal income tax under the provisions of section 101 (4) of the Revenue Act of 1936.

In the pleadings respondent denies that petitioner is a building and loan association, but in his brief respondent limits his argument to the contention that petitioner is not exempt from taxation under the statute because it fails to meet one of the qualifications therein, namely, that substantially all of its business is confined to making loans to its members. Respondent contends that, since practically all of the borrowers of petitioner in the taxable years were not members, it follows that petitioner is not exempt under the statute. Respondent relies upon Wytheville Building & Land Fund Association, 36 B. T. A. 786.

We do not decide whether or not petitioner is a building and loan' association within the meaning of the statute. The question is the narrower question and it relates to the status of those to whom petitioner made loans, to the point of whether or not they were members. The Congress, since the Revenue Act of 1921, has confined the benefit of the exempting statute to those building and loan associations “substantially all of the business of which is confined to making loans to members.” Cambridge Loan & Building Co. v. United States, 63 Ct. Cls. 631; affd., 278 U. S. 55; Wytheville Building & Land Fund Association, supra. Assuming, arguendo, that petitioner' is a building and loan association within the terms of the statute, there remains the test, which must be met, of whether or not petitioner comes within the class to which Congress has limited the exemption. Since respondent has denied that petitioner comes within the exempted /class, the burden of proof is upon the petitioner to prove that it does.

First, consideration must be given to the meaning of the term “members” appearing in the statute, because petitioner says that it “considered” all borrowers to be members. The term is not defined, but it has ordinary meaning, generally understood, and such ordinary meaning is presumed to have been intended by Congress under the rules governing interpretation and construction of statutes. Also, since the Ohio statute authorizing the organization of building and loan associations and controlling the way in which the business thereof may be conducted does not specifically define the term “member” of a building and loan association, it must be assumed that under the state law that term has its ordinary meaning.

Petitioner is a corporation. Generally, building and loan associations are organized in the corporate form. Reference is made to the work of a recognized writer on the subject, Joseph Sundheim, The Law of Building and Loan Associations, 3d ed., 1933, p. 4. He defines such association as a private corporation for profit, and he points out that, as was said in Christian's Appeal, 102 Pa. 184, “such an organization is, in fact and in law, a partnership with corporate rights in which every stockholder is a member.” See also 12 C. J. S., p. 397, ¶ 3. Since such associations are organized on many diverse plans, what constitutes membership is not a matter for generalization, but in each case it is a matter for proof. However, when such association is organized as a corporation it may be said that ordinarily membership in the association is acquired by ownership of stock, 9 C. J. 932, and a stock certificate is prima facie evidence of membership. 12 C. J. S. 422. “The essential feature of membership is the ownership of stock.” Sundheim, supra, pp. 23, 24. Sundheim points out that the terms “member”, “shareholder”, and “stockholder” are used indiscriminately but mean the same, and that there is no substantial difference between a member and a stockholder. In Reynolds v. Georgia State Building & Loan Association, 102 Ga. 126; 29 S. E. 187, the court said: “Membership in a building and loan association is acquired in the same manner by which membership is acquired in other corporations by becoming the holder of stock.” See also, First National Bank v. Dawson County, 66 Mont. 321; 213 Pac. 1097.

Membership in such association is a formal matter. The general rule is that the act of becoming a member implies a contract intelligently entered into. 9 C. J. 932; 12 C. J. S. 419; Sundheim, supra, pp. 23,24. As in the case of a stockholder, a member (the same thing) enjoys rights and liabilities. The members of a building and loan association, whether or not they are borrowers, have a mutual interest in its affairs, and, sharing alike in its profits, must assist alike in bearing its losses. Such relationship is to be distinguished from the debtor-creditor relationship which exists between such an association and borrowers who are not members. “It [a building and loan association] is wholly unlike a savings society where the borrower is not a member or otherwise interested in its business. Having no voice in the management nor interest in the earnings of the society, the borrower and it sustain the simple relation of debtor and creditor.” Eversmann v. Schmitt, 53 Ohio St. 174; 41 N. E. 139, 142.

Membership is not implied from the mere fact that a loan is obtained from a building and loan association, Manor v. Aldrich, 126 Fed. 934; even where loans are restricted to members, Kadish v. Garden City Equitable Loan & Building Association, 151 Ill. 531; 38 N. E. 236; and even where stock is issued, if the borrower had no desire or intention of becoming a member and the stock was issued under a misunderstanding, and where the loan contract itself creates no other relation than that of borrower and lender. The fact that a borrower executes a mortgage on his property to secure a loan does not make him a member. Wright v. Lynskey (Court of Civil Appeals, Texas), 285 S. W. 655.

In this case petitioner contends that under its articles of incorporation it is authorized to make loans only to members by -the terms of article third, stating the purpose of the corporation, which, it is contended, has never been amended. The petitioner’s constitution defines a member as a stockholder. With the exception of one loan in 1936, all of the mortgage loans made in 1936 and 1937 were made to persons who were not stockholders, and, hence, they were not members. Petitioner’s bylaws authorize the lending of funds “to its members and others.” (Italics supplied.) Presumably the constitution and bylaws under which petitioner now carries on its business were adopted after the enactment of the Russell Law, 99 Ohio Laws 528, May 11, 1908, which has been the basic statute governing building and loan associations in Ohio since then. See Page’s Ohio General Code, annotated, vol. 6, pp. 74L-770; secs. 9643 to 9675. Under section 9645 the constitution and bylaws must be approved by the state superintendent of building and loan associations. Presumably such approval was obtained by petitioner. We do not need to determine whether or not petitioner has exceeded its authority in making loans to nonmembers, or whether or not such loans are ultra vires. The crucial point here is, and the record is clear on the point, that petitioner made all of its mortgage loans (except one) in the taxable years to nonmembers. There is no merit whatever to petitioner’s contention that since (if) its charter limits loans to members, then ipso facto, all borrowers are members. Nor can any weight be given to the argument that all borrowers were “considered to be members”, for the following reasons. Petitioner has not shown that all borrowers were at law members. The note and mortgage executed by borrowers does not state that the borrower is a member, or a stockholder, or that he desires to become such, or that he has made application for membership. Petitioner, by its bylaws, may pay dividends only to stockholders; it pays dividends only to stockholders. In general, petitioner’s bylaws set forth the usual rights and liabilities of stockholders and do not confer any of such upon borrowers who are not stockholders. The paragraph which is set forth in the margin appears on the note which each borrower is required to execute, but on its face it does not carry any implication, contractual or otherwise, which could constitute a nonstockholding borrower a member of petitioner.

The petitioner has failed to prove that all of its mortgage borrowers (except one) were members in the taxable years. Such borrowers were no more than debtors, the relationship was only a debtor-creditor relationship.

The statute limits the class of domestic building and loan associations exempt from Federal income tax to those “substantially all the business of which is confined to making loans to members.” (Italics supplied.) The evidence' in this case does not show how many depositors petitioner had, or how many of its 27 or 28 members were depositors, but it does show that the combined time deposits and savings deposits in 1936 and 1937 aggregated totals of $830,672 and $919,504, respectively. Also, that totals of first mortgage loans outstanding in 1936 and 1937 were $754,010 and $964,905, respectively. The burden of proof upon petitioner is to show that substantially all of its business is confined to making loans to members. If substantially all of its business consists of making loans to nonmembers, and if substantially all of its receipts are from nonmembers, petitioner does not come within the exempted class. Petitioner has failed to introduce any evidence other than the summary statements of financial condition relating to its deposit and savings account activities, and this lack of evidence constitutes a partial failure to meet the burden of proof upon it. The evidence introduced relating to mortgage loans made in the taxable year is such that petitioner has failed to overcome the prima facie correctness of respondent’s determination.

Petitioner relies upon Cambridge Loan & Building Co. v. United States, supra. The question considered by the Court of Claims and the Supreme Court was only whether or not that company was such an association as came within the term “building and loan association.” The question did not extend to whether or not substantially all of its business was confined to making loans to members, the courts being satisfied that such requirement had been met. The Court of Claims pointed out that mortgage loans were made as follows: 1921, to members, 177; to nonmembers, 30; 1922, to members, 175; to nonmembers, 10; 1923, to members, 262; to nonmembers, 1. The Court of Claims said in its opinion that “since the passage of the 1921 act plaintiff company has substantially complied with its provisions.” The question presented in this case is other than the question decided in the Cambridge Loan & Building Co. case.

It is held that petitioner is not entitled in the taxable years to the benefit of the exemption allowed by section 101 (4). Respondent is sustained.

Issue H.—The question is whether or not petitioner realized income in 1936 and 1937 from sales under note and mortgage of pieces of real property in which the cash payments made in the taxable year by the vendees were less than the total sale prices, for the balance of which the vendees gave monthly installment notes to petitioner. In 1936 the total of the sale prices of eleven of such properties was $33,850 and the total of cash payments received was $5,442.12. In 1937 the total of the sale prices of ten of such properties was $41,700 and the total of cash payments received was $9,183.79. Respondent has determined that with respect to the above transactions, which are the ones involved in this issue, petitioner received payment of the entire selling prices because a loan was made at each closing for an amount equal to the difference between the cash down payment and the total selling price, and respondent’s position is that any cash payments received thereafter were repayments of such loans. Respondent has added to petitioner’s net income in each taxable year, as realized income from profits, the difference between the adjusted cost to petitioner of each property and the total selling price. Petitioner does not appear to contest the determinations made relating to adjustments in costs of each property. Petitioner also appears to acquiesce in two determinations relating to two sales in which petitioner was paid the entire selling prices and realized gains. Effect must be given under a Rule 50 recomputation to these apparent agreements by petitioner as shown in the stipulation of some of the facts.

The “loan” which respondent refers to is found in the step followed at each closing whereby petitioner issued its check in an amount covering the balance due upon receipt of the cash down payment. The procedure and the reasons therefor are set forth fully in the findings of fact. The record on the point consists of testimony of petitioner’s secretary-treasurer and an official of the state of Ohio, the incumbent superintendent of building and loan associations. Their •testimony shows that the issuance of petitioner’s check as a “loan” was solely for accounting purposes. The record is silent on the point whether a loan account was set up for each vendee. It probably was. But such account was a mere bookkeeping matter. Petitioner did not give up money by the use of its check in each transaction, and, likewise, petitioner did not receive money. Petitioner was not enriched. The vendee’s debt was not reduced. The use of petitioner’s check was a surplusage. It was not necessary. It could have been omitted. The intent and design in each transaction was to permit the vendee to acquire property on a small cash down payment and to pay the balance of the selling price in small monthly installments over a period of several years. Payments were deferred. In most instances the cash down payment was about 15 percent, or less, of the total price, and the note and mortgage was for 85 percent, or more.

Taxation is concerned with realized gains. Lucas v. American Code Co., 280 U. S. 445, 449. It is the general contemplation of the statutes that a tax shall be levied on profits which are realized and not deferred. Commissioner v. Moore, 48 Fed. (2d) 526; C. W. Titus, Inc., 33 B. T. A. 928, 932. In 1936 and 1937 petitioner did not realize profits on all the sales. It realized profits or income where the total cash collected in each year exceeded the basis of the property. Under Bule 50 this will be worked out. But in general, petitioner could not realize all the gain in each taxable year. Gain was to be realized only as the deferred payments were received. Accordingly, it has been found as a fact that petitioner did not receive the entire selling prices in the taxable years. It is held that respondent erred in adding to petitioner’s taxable income amounts equal to total profit to be realized only if each vendee met his obligations throughout in the future. In each taxable year petitioner is taxable only upon the amounts by which the total cash payments collected from the vendees exceed the cost of each property to petitioner, without giving effect to the step designated as a “loan.”

Kespondent has not contended that the notes and mortgages given by each vendee had any fair market value on the dates received. Petitioner introduced evidence to show that they did not have any fair market value. We agree and have made such finding of fact.

Bespondent does not contend, in the alternative, in the event his theory is rejected, that petitioner may not report income from the transactions in question in the manner allowed by his regulations for reporting income from deferred-payment sales. See arts. 44-3 and 44-4, Begulations 94. Petitioner has endeavored to correctly report income under that method. It has treated the obligations of the vendee as having no fair market value and it has reported as income the payments in cash which have exceeded the basis of the property sold. However, according to tables attached to a stipulation, petitioner has erred in its computation of the basis of certain pieces of property, and, in such instances it realized income in the taxable years which it has not reported. For example: Bichter property—petitioner’s estimate of cost is $640; respondent’s adjusted cost is $384.37; the cash collected in 1936 is $519.70. If petitioner acquiesces in the respondent’s correction of the basis, it received income from that transaction in 1936 in the amount of $135.33. Effect shall be given to such corrections in a recomputation under Rule 50. Also, there is nothing to indicate that petitioner may not properly report income in accordance with article 44-4 of Regulations 94, under the holding made in the main issue. ' -

Decision will l>e entered wider Rule 50.

       SEC. 101. EXEMPTIONS FROM TAX ON CORPORATIONS.
      The following organizations shall be exempt from taxation under this title.—
      * * * * * * * ,
      (4) Domestic building and loan associations substantially all the business of which is confined to making loans to members ; * * *

       Sundheim, The Law of Building and Loan Associations, 3d ed., points out that building and loan associations operate under several different plans known as “Terminating”, “Permanent”, and the “Dayton or Ohio” plan. Of the latter type of association he says, p. 18: “There has developed in the State of Ohio a modification of the permanent plan (of building and loan associations) which has many distinctive features of its own. under this plan there are no regular periodical payments. The member pays any amount, at any time he pleases, and dividends are apportioned periodically based on the amount actually paid in. No initiation fee is charged and, of course, no fines or forfeitures are exacted for nonpayment, as there is no obligation to pay. Many of the associations operating under this plan accept deposits upon which a fixed rate of interest is paid, the same as a savings bank, and which do not share in any losses, being preferred to shareholders in case of insolvency. This kind of association, while, no doubt, producing good results, more nearly resembles a bank than a building and loan association; * * *”
      See also, Lilley Building & Loan Co. v. Miller, 280 Fed. 143, where the court pointed out that the company in that case, organized under the laws of Ohio applicable to building and loan associations, doing its business so that 80 percent of its receipts and 97 percent of its loans were transactions with nonmembers, and putting aside the attribute of mutuality, resembled more the ordinary savings bank than a building and loan association.

       Sec. 9643. [Ohio General Code.] Definition of terms. A corporation for the purpose of raising money to be loaned to its members, and others, shall be known in this chapter (G. C. §§ 9643 to 9676) and in the laws ¡relating to the department of building and loan associations, as a “building and loan association” or as a “savings association. * * *

       Third : Said corporation is formed for the purpose of raising money to be loaned among its members for use in buying lots or repairing bouses, or other purposes, under and in accordance with the provisions of section 3833 of the Revised Statutes and the other corporation laws of Ohio applicable to such a corporation.

       The loan represented by this note and the mortgage securing payment of the same is made pursuant to the constitution and by-laws of Th'e Fidelity Savings & Loan Company, which are hereby referred to and adopted herein as a part hereof, and it is further stipulated and agreed that said constitution and by-laws may be altered, amended or repealed as may now or hereafter be authorized by law; that the same when and as so altered, amended or repealed are hereby ratified and made a part hereof; and that this loan and the rights of the parties hereto shall be governed by the terms and conditions now or hereafter expressed in such constitution and by-laws.

       Art. 44-4. Deferred-payment sale of real property not on installment plan.—* * * If the obligations received by the vendor have no fair market value, the payments in cash or other property having a fair market value shall be applied against and reduce the basis of the property sold, and, if in excess of such basis, shall be taxable to the extent of the excess. Gain or loss is realized when the obligations are disposed of or satisfied, the amount being the difference between the reduced basis as provided above and the amount realized therefor. * * *


author: Smith:

text:
    Bert B. Burnquist, Petitioner, v. Commissioner of Internal Revenue, Respondent. B. J. Price and Belle M. Price, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 101259, 101260.
    Promulgated May 14, 1941.

      Presshj R. Baldridge, Esq., for the petitioners.

      R. O. Whitley, Esq., for the respondent.
   OPINION.

Smith:

These proceedings, consolidated for hearing, involve income tax deficiencies for 1936 as follows:

The petitioners allege that the respondent erred in the determination of the deficiencies by refusing to allow as an ordinary loss, rather than as a capital loss, the deduction for the calendar year 1936 of an amount of $17,588.16 representing the depreciated cost of a one-half interest in a farm located in Palo Alto County, Iowa, which was deeded without consideration to the Metropolitan Life Insurance Co., the owner of the first mortgage on the farm.

The facts relating to each petition have all been stipulated and such stipulations of fact constitute our findings of fact and are. incorporated herein by reference.

The petitioners Bert B. Burnquist and B. J. Price are both engaged in the general practice of the law at Fort Dodge, Iowa. Belle M, Price is the wife of B. J. Price and the two filed a joint income tax return for 1936. Hereinafter the husband and wife will be referred to as one petitioner. On March 15, 1931, each of the petitioners filed an individual income tax return with the collector at Des Moines, Iowa, Bert B. Burnquist claiming a net loss of $9,646.46, and B. J. Price a net loss of $5,699.80. In such returns each claimed the deduction of an ordinary loss of $23,500 from the voluntary deeding by Bert B. Burnquist of his interest in a farm located in Palo Alto County, Iowa. In the determination of the deficiencies the respondent held that the loss was a capital loss, that it was sustained by a partnership composed of Bert B. Burnquist and B. J. Price, and that each was entitled to.deduct from gross income under section 117 (d) of the Revenue Act of 1936 only $1,000.

On March 1, 1920, petitioners Bert B. Burnquist and B. J. Price purchased a 400-acre farm in Palo Alto County, Iowa, for a total consideration of ^120,000.' Title to the farm was taken in the name of petitioner Bert' B. Burnquist, but it was understood between Burnquist and Price that each had an undivided one-half interest in the farm and that they would share equally in the profits and losses arising from the ownership thereof. This understanding was carried out throughout the period when Bert B. Burnquist held title to the farm. It is stipulated that:

Insofar as ttie farm property in Palo Alto County is concerned, B. B.‘ Burn-quist and B. J. Price Rave never Rad a partnersRip agreement; Rave never Reid tRemselves out as partners, and Rave never Rad a partnersRip bank account, nor Rave tRey been treated as partners by tbe Metropolitan Life Insurance Company or other parties Raving dealings witR tRem relative to tRe farm. TRey Ráve refused to file a partnersRip income tax return wRen requested to do so by tbe Revenue Agent. ⅜ * *

The petitioners Bert B. Burnquist and B. J. Price paid for the farm by means of a first mortgage of $40,000, a second mortg'age of $60,000, and cash of $20,000. They compromised the second mortgage by the payment of $33,500 in cash and they paid $1,000 toward the retirement of the first mortgage, making the total investment in the farm $54,500. Throughout this entire transaction the title to the farm remained in the name of Bert B. Burnquist and the first mortgage on the farm was executed by Bert B. Burnquist and his wife.

The total investment of the petitioners in the Palo Alto County farm was, as above stated, $54,500. Depreciation on the farm buildings and the farm during the period of ownership from March 1, 1920, to May 6,1936, was sustained in the amount of $19,323.67. The net investment in the farm, after deducting depreciation sustained to May 6, 1936, was in the amount of $35,176.33, of which one-half, or $17,588.16, was the investment of each petitioner.

The operation of the farm did not prove to he financially successful, and on February 8, 1933, there were due and unpaid certain installments of principal on the first mortgage owned by the Metropolitan Life Insurance Co., and advancements by the company for taxes. On that date petitioner Burnquist and his wife entered into an agreement with the Metropolitan Life Insurance Co. whereby, in exchange for grant of possession of the 400-acre farm, the insurance company agreed to release the petitioner Burnquist from all ..personaje liability on the mortgage and to look entirely to the property- for payment of the mortgage. The agreement provided in part as follows:

In consideration of such grant of possession, the Company covenants and agrees that in the event the above mentioned mortgage is foreclosed, it will, as plaintiff, bid at special execution sale held pursuant to foreclosure proceedings, the entire amount of the mortgage claim, satisfying in full any judgment that may be obtained in such action.
It is understood and agreed that the Company shall apply upon the mortgage indebtedness any balance of the rents and proceeds remaining after payment of all costs in connection with the management and cultivation of said real estate,- and the taxes, insurance and repairs, and in the event of redemption of said real estate from special execution sale, the amount required to redeem shall be credited with such net returns.
It is further understood and agreed that at such time prior to foreclosure proceedings as the Company receives in full, whether by way of returns from said real estate or voluntary payment by the Owner, of all items then delinquent under said mortgage and reimbursement for all costs, expenses or advancements theretofore made or incurred in connection with said real estate and pursuant to this agreement, all rights of the Company hereunder shall terminate and possession of said premises shall be restored to the Owner.
It is further understood and agreed that in the event of the termination of this agreement, said Owner will approve and accept any lease that may have been executed by the Company, and will permit any tenant thereunder to continue in the undisturbed and peaceable possession of said real estate until the termination of such lease.
The right of possession, together with the power and authority hereinabove granted to the Company shall continue so long as the above described mortgage remains an enforceable lien against said real estate, and during the period of redemption under any foreclosure proceedings, unless this agreement is sooner terminated as hereinabove provided.
Nothing herein contained shall prejudice the rights of the Company under said mortgage or be construed to bar the institution of foreclosure proceedings thereon, at the election of said Company.

As conditions relating to farm 'properties did not improve, petitioner Burnquist and Ms wife, on May 6, 1936, deeded the farm to E. II. Lougee, agent for the Metropolitan Life Insurance Co., who, in turn, deeded the farm to the Metropolitan Life Insurance Co. There was no consideration paid by either Lougee or the Metropolitan Life Insurance Co. to Bert B. Burnquist and his wife for said deed.

By virtue of the deeding of the farm property to E. H. Lougee and by him to the Metropolitan Life Insurance Co., these petitioners each sustained a loss in the amount of $17,588.16 during the calendar year 1936 in a transaction entered into for profit and the loss was not compensated for by insurance or otherwise.

The petitioners and the respondent are agreed that the investment of the two petitioners in the Palo Alto County farm was a capital asset and that the loss sustained upon the deeding of the property by Burnquist to Lougee in 1936 resulted in a loss to each petitioner of $17,588.16.

The sole question submitted to the Board for decision is whether the loss sustained by each petitioner was an ordinary loss deductible from ordinary income, or a loss from the sale or exchange of a capital asset within the meaning of section 117 (d) of the Revenue Act of 1936. That section provides, in part, as follows:

SEO. 117. CAPITAL CAINS AND LOSSES.
* * * * * * *
(d) Limitation on Capital Losses.—Losses from sales or exchanges of capital assets shall be allowed only to the extent of $2,000 plus the gains from such sales or exchanges. * * *

The factual situation is that on May 6,1936, each petitioner had an investment in the Palo Alto County farm of $17,588.16. Burnquist, who held the legal title to the property of both the petitioners, had given a mortgage upon the property at the time of its acquisition to the Metropolitan Life Insurance Co. On' February 8, 1933, there was still owing upon the mortgage $39,000 plus certain amounts for advances made by the insurance compaiiy for the payment of taxes, etc. On February 8, 1933, Burnquist entered into an agreement with the Metropolitan Life Insurance Co. whereby the company, in consideration of immediate possession, agreed upon any foreclosure of the property to bid the property in at a sufficient amount to satisfy in full any judgment that might be obtained in the foreclosure action. Thereafter, neither of the petitioners had any monetary liability in respect of the farm. Under the agreement petitioners had the right at any time prior to the foreclosure proceeding to pay the mortgage debt and any profits realized by the insurance company from the operation of the farm were to be credited to the account of the petitioners ; also, if the property was sold as a result of the judgment in the foreclosure action the petitioners had the right to redeem within the statutory period.

It is the petitioners’ contention in these proceedings that after February 8,1933, they had no liability in respect of the mortgage indebtedness and that when on May 6, 1936, Burnquist and wife gave what was in effect a quitclaim deed upon the property there was no consideration therefor; hence, that there was no sale or exchange of the property in 1936. It is the respondent’s contention that the petitioners had a continuing liability on the property up to May 6, 1936, and that the consideration for the execution of the quitclaim deed was a relief from that liability.

In two decisions rendered January 6,1941, the Supreme Court held that a loss sustained by a taxpayer upon foreclosure sale of his interest in real estate was a capital loss subject to section 117. (d) of the Revenue Act of 1936, on the ground that the term “sales” applies to foreclosure sales as well as to voluntary sales. Helvering v. Hammel, 311 U. S. 504, and Electro-Chemical Engraving Co. v. Commissioner. 311 U. S. 513.

We think it clear that if the petitioners had been relieved from liability for debt as a result of the execution of the deed on May 6, 1936', the consideration for the deed would constitute the transaction an “exchange” within the meaning of section 117 (d). Rogers v. Commissioner (C. C. A., 9th Cir.), 103 Fed. (2d) 790.

From the plain facts in these proceedings the petitioners had no continuing liability on the farm mortgage after the execution of the agreement of February 8, 1933. That seems to us to be the meaning of the agreement. The respondent argues that because the concluding paragraph of - the agreement provided that “Nothing herein contained shall prejudice the rights of the Company under said mortgage or be construed to bar the institution of foreclosure proceedings thereon, at the election of said Company”, the petitioners were not relieved from liability upon the mortgage. That paragraph means, however, only that the life insurance company is not to be precluded from instituting foreclosure proceedings at any time. It does not mean, as the respondent contends, that the petitioners had a continuing liability under the mortgage.

In our opinion the execution of the quitclaim deed on May 6, 1936, was not an “exchange” of property within the meaning of section 117 (d) of the Revenue Act of 1936. The situation here is essentially the same as that which obtained in Commonwealth, Inc., 36 B. T. A. 850; Sherwin A. Hill, Administrator, 40 B. T. A. 376; Realty Operators, Inc., 40 B. T. A. 1051; Park Chamberlain, 41 B. T. A. 10; Warner G. Baird, 42 B. T. A. 970; and Commissioner v. Hoffman (C. C. A., 2d.Cir.), 117 Fed. (2d) 987, affirming 40 B. T. A. 459. We hold that each petitioner is entitled to deduct from the gross income of 1936 an ordinary loss of $17,588.16.

Decisions will be entered under Rule 30,