Hartfield v. Commissioner

Gordon W. Hartfield, Petitioner, v. Commissioner of Internal Revenue, Respondent. Edwin E. Healy, Petitioner, v. Commissioner of Internal Revenue, Respondent Hartfield v. Commissioner Docket Nos. 22944, 22945 United States Tax Court 16 T.C. 200; 1951 U.S. Tax Ct. LEXIS 295; January 26, 1951, Promulgated *295 Decisions will be entered under Rule 50. In 1947 and 1948, petitioners paid, as transferees of a corporation, the tax deficiencies resulting from excessive compensation received by them in 1945 from the transferor corporation. Held, that such excessive compensation, to the extent that petitioners incurred a transferee liability, is not includible in petitioners' income for 1945. Hall C. Smith, 11 T. C. 174, followed. James H. Heffern, Esq., for the petitioners. Michael Waris, Jr., Esq., for the respondent. Black, Judge. BLACK *200 These consolidated proceedings involve deficiencies and claims for overpayment of income tax for 1945, as follows: Petitioner Docket No. Deficiency Claim for overpayment Gordon W. Hartfield 22944 $ 567.51 $ 6,202.09 Edwin E. Healy 22945 1,029.89 4,437.71 The major portion of the deficiencies results from respondent's determination that additional compensation was received for the year 1945 in the amounts of $ 1,044.20 by petitioner Gordon W. Hartfield and $ 1,131.25 by petitioner Edwin E. Healy. This adjustment was explained in a statement attached to the deficiency notice in *296 Docket No. 22944, as follows: (a) Life insurance premiums paid in your behalf by the Hartfield-Healy Supply Company are held to constitute taxable income to you. A similar explanation was given in Docket No. 22945. Petitioners have stipulated that respondent properly included these amounts as additional compensation; however, by appropriate assignments of error petitioners contest respondent's determination that all the amounts of compensation received by petitioners in 1945 which respondent determined as excessive, and thereby disallowed the deduction of same by Hartfield-Healy Supply Company, represent taxable income to petitioners. FINDINGS OF FACT. The facts, all of which have been stipulated, are found as stipulated and may be summarized, as follows: Petitioner Gordon W. Hartfield (hereinafter called Hartfield) and petitioner Edwin E. Healy (hereinafter called Healy), both on a cash *201 receipts and disbursements basis, filed their 1945 income tax returns and paid the tax shown to be due thereon on or about March 27, 1946, with the collector of internal revenue for the 28th district of New York. At all times pertinent hereto, Hartfield was vice-president and treasurer*297 and Healy was president of Hartfield-Healy Supply Company, Inc., a New York corporation (hereinafter called the corporation), and each petitioner owned 25 of the total of 52 shares of the corporation's common stock. Each petitioner included in his individual income tax return for 1945 the $ 30,000 received as salary. During the year 1945, the corporation paid insurance premiums on the lives of Hartfield and Healy in the amounts of $ 1,044.20 and $ 1,131.25, respectively, which premiums were for petitioners' benefit. Respondent upon examination of the corporation's return for 1945 determined that $ 10,000 of the salary paid to each petitioner and the life insurance premiums paid for petitioners were excessive compensation and disallowed such payments as deductions. Similar determinations were made to the corporation's income by respondent for salaries paid in the years 1941, 1942, and 1943, which amounts are set out below: Year Amounts paid Amounts disallowed [1941] $ 28,000 $ 8,000 [1942] 62,000 22,000 [1943] 62,000 2,000 In addition, the Commissioner disallowed as excessive compensation in 1943, the payment of life insurance premiums by the corporation for the benefit*298 of the petitioners in the total amount of $ 2,175.45. The following deficiencies in tax and interest resulted from those disallowances: Excess profits Year Income tax tax Interest [1941] $ 1,523.64 $ 1,882.37 $ 476.14 [1942] 420.02 20,360.01 3,100.06 [1943] 221.07 11.63 The 1945 income tax of the corporation showed a net loss of $ 45,232.75. Because of the disallowance of excessive compensation and several other minor adjustments, the corporation's net loss for 1945 was reduced to $ 21,741.29. The application of the net loss carry-back based upon that adjusted net loss resulted in the elimination of the 1942 and 1943 income tax deficiencies and the interest thereon and reduced the 1942 excess profits tax deficiency by the amount of $ 13,834.70 *202 and the interest due thereon by the amount of $ 1,489.80. There remained unpaid by the corporation the following deficiencies in tax and interest: Excess profits Year Income tax tax Interest [1941] $ 1,523.64 $ 1,882.37 [1942] 6,525.31 $ 1,465.33 On December 31, 1947, each petitioner advanced $ 5,250 to the corporation to be used to pay the remaining income and excess profits tax deficiencies*299 and interest, and on that same day, the corporation paid $ 9,931.32 out of those funds to the collector of internal revenue at Buffalo, New York, in partial satisfaction of those deficiencies. On December 24, 1948, each petitioner paid $ 715.37 to the collector of internal revenue at Buffalo in satisfaction of the balance due from the corporation on the said deficiencies. The petitioners made no further payments on any deficiencies. The corporation paid no dividends during 1945. OPINION. The sole question herein is whether that portion (or any part thereof) of petitioners' salaries which was disallowed as a deduction in the taxable year to a corporation as being excessive is includible in petitioners' income where the corporation was insolvent and petitioners as transferees satisfied, in a subsequent year, the tax deficiencies of the corporation pertaining to years other than the taxable year, which arose as a result of the disallowance of excessive salaries in those other years. No question is raised by either party as to the insolvency of the corporation or as to the liability of petitioners as transferees. Petitioners contend that the excessive salaries which they received from*300 the corporation in 1945 are not includible in their incomes because the disallowance of these salaries (in addition to several other minor adjustments) reduced the corporation's net loss for 1945, and in the application of the net loss carry-back there remained tax deficiencies of the corporation for the years 1941 and 1942 which petitioners voluntarily satisfied as transferees. Respondent contends that the full amount of the salaries received in 1945 is includible in petitioners' incomes and may not be reduced by the amount of excessive salary determination, and in any event the most that petitioners would be entitled to as an exclusion would be the amount subsequently paid as transferees. *203 The facts herein are almost identical with those in , and we believe that case governs the instant proceedings. In the Smith case the transferee liability had already been determined by this Court in a prior proceeding and petitioner was found liable as a transferee to the full extent of the excessive compensation received by him in 1943. Although the transferee liability was not determined until 1948 (Hall C. Smith, Transferee, Docket No. 9462, affd., )*301 we held that the petitioner therein had not received taxable income in 1943. We said: * * * Here, there was a definite legal restriction of the petitioner's use of the excessive compensation which attached the moment that he received it. Such is the nature of a transferee liability. There is obvious inconsistency, as well as injustice, in the respondent's position in seeking to tax the petitioner on income to which he, the respondent, has successfully laid claim on the ground that it was never the petitioner's income by right. The fact that the transferee liability was admitted by the petitioners in the instant proceedings should not place them in a worse position than was the petitioner in , and we cannot therefore distinguish the cases on this fact. In , the transferee liability exceeded the amount of excessive compensation and we therefore held that all of the excessive compensation was impressed with a trust and was not taxable income to petitioner when received. Petitioners herein claim that the full amount of their excessive compensation is likewise not taxable income. *302 Although respondent disagrees with the result in , he argues that even if we are to follow the rationale of the Smith case, that case does not support petitioners' contention that all of their excessive compensation received in 1945 is not taxable income. Respondent contends that only the amounts actually used to satisfy the corporate deficiencies ($ 5,681.03 from each petitioner) should be excluded from taxable income. We agree with the contention because the only amounts which petitioners received as excessive compensation in the taxable year, which were not income, were the amounts ultimately paid in satisfaction of their transferee liabilities which amounts were impressed with a trust from the time of their receipt. ;. Decisions will be entered under Rule 50.