Raymond I. Smith, Inc. v. Commissioner

Raymond I. Smith, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent Raymond I. Smith, Inc. v. Commissioner Docket No. 72999 United States Tax Court 33 T.C. 141; 1959 U.S. Tax Ct. LEXIS 54; October 26, 1959, Filed *54 Decision will be entered under Rule 50. 1. Accumulation of Earnings and Profits to Prevent Imposition of Surtax Upon Shareholder -- Sec. 102, I.R.C. 1939 -- Sec. 531, I.R.C. 1954. -- The petitioner, a corporation which profitably operated numerous bars in a large gambling establishment owned by others, was not availed of through the accumulation of its earnings and profits of 1950 and 1952 for the purpose of preventing the imposition of the surtax on its sole stockholder, and did accumulate its earnings and profits of the years 1953 and 1954 for that purpose. 2. Credit for Earnings and Profits Accumulations Within the Reasonable Needs of the Business -- Sec. 535(c)(1), I.R.C. 1954. -- Certain earnings held not to be used in computing the credit. Valentine Brookes, Esq., for the petitioner. Edward H. Boyle, Esq., and Joseph D. Holmes, Esq., for the respondent. Murdock, Judge. MURDOCK *55 *141 The Commissioner determined deficiencies as follows: Deficiencies Year Tax Secs. 102 and 531 surtax [1950] Income tax $ 10,125.91 $ 23,879.00 [1952] Income tax 34,083.33 22,439.50 [1953] Income tax 17,249.18 25,167.67 [1954] Income tax 1,502.90 32,376.18 *142 The only issue is whether the petitioner was availed of during any taxable year for the purpose of preventing the imposition of the surtax upon its sole stockholder, through the medium of permitting earnings or profits to accumulate instead of being*56 divided or distributed. The petitioner has raised another issue relating to a credit under section 535(c)(1) of the Internal Revenue Code of 1954, but the Commissioner has not made any argument with respect to this contention in his briefs. FINDINGS OF FACT. The petitioner is a Nevada corporation which filed its 1950 return in the Nevada district and its subsequent returns with the director of internal revenue at Reno, Nevada. Harolds Club was operated from June 1, 1938, until December 31, 1946, as a partnership by Harold S. and Raymond A. Smith, with their father, Raymond I. Smith, as general manager. Raymond I. Smith is the dominant person in and around the club. He was 72 years of age in June 1959. The club, located in downtown Reno, Nevada, engages in legalized gambling on a large scale. It occupies several adjoining and connected buildings. Normally and in 1950 about 5,000 people visited it daily, but on at least one occasion in the summer of 1955, 20,000 persons entered the club premises in a 24-hour period. Over $ 200,000 a day is required to fill the slot machines and the trays for the gambling tables in Harolds Club. Losses of the club have run as high as $ 150,000*57 to 3 customers in 1 day. Gambling for high stakes is encouraged in the club because it is more profitable than gambling for low stakes although it requires a larger reserve. A winner must be paid immediately. The club is open without interruption 24 hours a day, including holidays, and during much of this time it cannot obtain money from banks because they are not open. Losses can occur quickly and the club keeps available on the premises more than $ 1,000,000 at all times. It would have a larger reserve on hand if it had more adequate funds. The sons were opposed to the sale of liquor in the club and thought it would be more trouble than it would be worth. The father thought it would be advisable to put in a bar since patrons left the club to get drinks elsewhere and sent out for drinks. The sons refused to participate in any bar operation but agreed that the father could put in bars and operate them on his own account. He put in the first bar 5 1/2 years after the partners started the club. The bar was to furnish liquor of high quality at low prices in order to give the gambling patrons those advantages. Harolds Club advertises nationally but there is no advertisement outside*58 of the club that there is gambling or sales of liquor inside *143 except for the display in a small window in one of the club buildings of a few bottles of liquor with the name of Harolds Club on them. The brothers incorporated their gambling business on December 27, 1946, and since February 1, 1947, its capital stock has been owned in equal shares by or for Harold S. Smith, Dorothy M. Smith (divorced wife of Harold), and Raymond A. Smith. The petitioner was incorporated on November 15, 1946, and took over the operation of the bars connected with Harolds Club. Raymond I. Smith incorporated his bar business so that his license and concession could continue in case of his death. He has owned all of the stock of the petitioner at all times material hereto. Neither Raymond I. Smith nor the petitioner has at any time owned any interest or stock in Harolds Club. The petitioner issued all of its capital stock to Raymond I. Smith in exchange for the "business and good will" of the bar in Harolds Club theretofore operated by him individually. This transaction was recorded by setting up goodwill as an asset in the amount of $ 50,000. The petitioner at the same time gave its note in*59 the amount of $ 38,233.35 to Raymond I. Smith in exchange for the liquor inventory, cash, and other physical assets of the business. The petitioner was operating 7 bars in June 1959. Raymond I. Smith at all times material hereto was employed as general manager of Harolds Club at an annual salary of $ 10,000, plus 20 per cent of the net profits before income taxes and officers' compensation. His compensation during the existence of the partnership increased from about $ 44,000 in 1941 to $ 385,186.81 in 1946, and since the incorporation of Harolds Club has ranged from a low of $ 254,513.14 in 1949 to a high of $ 557,559.57 in 1953. He was also treasurer or secretary-treasurer of the club since its incorporation. His average annual income from the bar while it was operated during the last 3 years of the partnership was a little over $ 73,000. The following table shows the net income, income taxes, and accumulated earnings and profits of the petitioner covering the taxable period: Accumulated Year Net income Income taxes earnings end of year [1950] $ 123,281.37 $ 44,926.71 $ 292,599.83 [1951] 160,058.16 85,359.65 367,298.34 [1952] 160,671.69 85,879.09 439,450.39 [1953] 224,253.89 135,229.21 528,475.07 [1954] 220,371.08 109,092.96 639,753.19 *60 The petitioner during that period paid no dividends, paid no compensation to its officers, Raymond I. Smith, president and treasurer, *144 and Guy Lent, secretary. Lent was assistant general manager and assistant secretary of Harolds Club. Lent is not paid a salary by the petitioner partly because he supplies very little services to the petitioner and partly because he receives an ample salary for his services to Harolds Club for services rendered to that corporation, which services keep him in close touch with the petitioner and whatever is done for one corporation also benefits the other. The petitioner employs two bar superintendents and other fully paid persons to operate its bar business. Raymond I. Smith and his wife reported income and paid Federal income taxes thereon for the years 1950 through 1954, as follows: Year Adjusted Deductions Net income Income tax Highest rate gross income of tax Per cent [1950] $ 365,512.25 $ 10,568.59 $ 354,943.66 $ 247,719.46 [1951] 220,417.30 14,626.16 205,791.14 138,610.12 [1952] 145,428.81 10,168.22 135,260.59 83,040.48 [1953] 211,779.96 9,975.11 201,804.85 139,380.28 [1954] 288,713.42 11,300.52 277,412.90 199,201.02 [89] *61 The following condensed table shows the assets and liabilities of the petitioner at the close of each taxable year: December 31 -- Assets: [1951] Cash $ 87,724.82 $ 185,592.29 Notes and accounts receivable 4,505.00 23,388.00 Inventories 125,508.00 86,333.52 Fixed assets, less depreciation: Fixtures and equipment (bar) 43,153.23 Roaring Camp collection 176,583.76 79,711.94 Buildings and furnishings 178,305.47 Land 12,000.00 Goodwill 50,000.00 50,000.00 Stock option 500.00 500.00 Miscellaneous 9,735.40 8,749.58 Total 454,556.98 667,734.03 Liabilities: Current liabilities $ 11,957.15 $ 17,107.62 Due on Roaring Camp collection 100,000.00 100,000.00 Mortgages 61,176.02 Capital stock 50,000.00 50,000.00 Earned surplus 214,245.17 367,298.34 Earnings of year 78,354.66 72,152.05 Total 454,556.98 667,734.03 December 31 -- [1953] Assets: Cash $ 52,245.81 $ 40,278.49 Notes and accounts receivable 54,014.18 5,000.00 Inventories 72,650.70 66,416.24 Fixed assets, less depreciation: Fixtures and equipment (bar) 65,573.56 79,134.00 Roaring Camp collection 72,491.55 70,953.87 Buildings and furnishings 160,821.71 214,107.47 Land 884,879.55 927,976.35 Goodwill 50,000.00 50,000.00 Stock option 500.00 Miscellaneous 13,851.06 11,368.71 Total 1,427,028.12 1,465,235.13 Liabilities: Current liabilities 1 $ 659,798.95 2 $ 554,274.51 Due on Roaring Camp collection 95,000.00 92,500.00 Mortgages 93,754.10 128,707.43 Capital stock 50,000.00 50,000.00 Earned surplus 439,450.39 528,475.07 Earnings of year 89,024.68 111,278.12 Total 1,427,028.12 1,465,235.13 *62 Liquor Purchase. It had been difficult to obtain liquor during World War II, prices were high, undesirable loss items had to be taken in order to obtain desired items, and Scotch was almost unprocurable. The petitioner invested $ 100,000 in liquor in 1950 because it feared that the Korean *145 war, then in progress, might last for some time and the purchase of liquor might become more difficult. The supply of liquor which the petitioner had on hand at the close of 1950 cost $ 125,508 and would be consumed in the business in less than 6 months. The customers of the petitioner come solely from the patrons of Harolds Club. They have no way of knowing that the bars belong to the petitioner rather than to the club. The bottles and the glasses used by the petitioner advertise the name of the club and nowhere in the operation of the business is the name of the petitioner made known to customers. The petitioner has never raised its prices although the cost of liquor has risen and wages have increased. It sells bar*63 whisky at 40 cents a drink, cocktails at 50 cents, and any brand liquor called for by name at 50 cents a drink. These prices are much lower than those charged by other bars in Reno. Roaring Camp Collection. Raymond M. Stagg and his wife owned a collection of memorabilia of the Old West, such as firearms, edged weapons, old vehicles, musical instruments, peepshows, and other relics known as the Roaring Camp collection, some of which they displayed in downtown Reno. This collection was offered for sale to Harolds Club but the stockholders of that corporation had little interest in the collection and the corporation was not in financial condition to buy it. Raymond I. Smith had great interest in American history and in the material making up the collection. He realized that the collection was unusual and no other club had such a display. He believed that the unusual is quite effective in advertising and this collection would, if displayed in Harolds Club, attract additional people to the club, thus benefiting the club and also providing additional customers for the bars of the petitioner. He therefore had the petitioner buy the collection in 1949 for $ 150,000. $ 105,000 of*64 the purchase price was unpaid at the beginning of 1950, and the balance of $ 105,000 was payable at any time between February 25, 1950, and February 25, 1959, with interest at 5 per cent. The petitioner at the same time entered into an employment contract with Stagg and his wife under which, for a period of 10 years at a total salary of $ 15,000 a year, they were to advertise Harolds Club and the Roaring Camp collection by visiting fairs, rodeos, and other large gatherings. The agreement recited that the Staggs "are familiar with the dress, custom and atmosphere of the Old West and familiar with its history and possess marked ability as public speakers and lecturers." The Staggs were to furnish a truck and trailer to haul a covered wagon and similar appropriate equipment with signs advertising Harolds Club and the Roaring Camp collection and were to travel *146 in an automobile suitably embellished to advertise Harolds Club and the Roaring Camp collection. The Staggs advertised Harolds Club and the Roaring Camp collection from 1949 to 1959 but never advertised the petitioner. The petitioner and Harolds Club entered into a contract in 1950 whereby Harolds Club agreed to pay*65 to the petitioner $ 19,000 a year for 10 years for the use of the items in the Roaring Camp collection and to reimburse the petitioner for its payments to the Staggs under the advertising contract. Most of the guns, shields, and some of the old pianos, music boxes, and wagons in the collection were displayed in Harolds Club during the taxable years and at the sides of various highways throughout Nevada and other western States. The petitioner established a reserve of $ 10,000 at the end of 1950 for payments on the purchase price of the collection. It was also required to expend an additional $ 4,000 to cover insurance, taxes, and miscellaneous expenses. Option To Buy Harold's Stock In Harolds Club. Raymond I. Smith became greatly distressed and worried when his son Harold, upset by his divorce, took to drinking and gambling excessively. He was able to persuade Harold on four occasions to stop gambling in other clubs, but Harold returned each time to his heavy drinking and gambling. He gambled for very high stakes and in unwise fashion. He was encouraged to do this by rival gambling establishments which gave him unlimited credit. He thus lost practically everything he had *66 saved in prior years. His father feared that rival gambling establishments might be able to acquire from Harold some or all of Harold's stock in Harolds Club. The father and the other directors of the petitioner felt that it would be necessary that the petitioner control that stock for its own protection so that if Harold had to sell it for some reason in connection with his wild gambling it would not get into unfriendly hands. Harold's gambling was mostly with competitors either in Reno or Las Vegas, and the directors felt that if any of the stock of Harolds Club got into the hands of such persons they would interfere with the petitioner's operation of the bars in Harolds Club. Smith felt that it would be better to have the petitioner take the option rather than take it himself because of the advantages of corporate ownership. The petitioner acquired on September 6, 1949, a first refusal option on the stock in Harolds Club owned by Harold S. Smith, entitling the petitioner to buy the stock for $ 500,000 if Harold S. Smith should offer it for sale during the next 5 years. The directors of the petitioner felt that there was real danger, that the option was necessary and that it*67 might have to be exercised. *147 They had the petitioner set up a reserve of $ 25,000 in 1950 to support the option. The option expired in September 1954 without having been exercised. Moana Motel. Most of the patrons of Harolds Club came from other cities and many of them called Harolds Club in advance for lodging reservations. These had to be obtained from Reno hotels, most of which operated competing gambling establishments. The officers and directors of Harolds Club and of the petitioner felt the need for attractive comfortable accommodations under their control where out-of-town patrons of Harolds Club could be housed at reasonable rates and with ready access to Harolds Club, but without being guests of competitors. Harolds Club purchased a motel in December 1951 for $ 205,671.28. It was enlarged to accommodate 100 persons. Harolds Club in December 1951 had purchased at $ 120,000 a ranch west of Reno for protection of its business in case "strip operations" were started in that vicinity; it had purchased in 1950 and 1951 for $ 420,000 property next door to the club for current expansion at that location; it planned to make improvements and additions at its motel; *68 it needed cash for all of those purposes and was not in position to purchase another motel. The petitioner therefore purchased the Moana Auto Apartments on December 31, 1951, in order to improve its business along with that of Harolds Club. It was a motel on the southern outskirts of Reno near the airport. It is on the main road to Reno from Los Angeles, Carson City, and the south end of Lake Tahoe. It was in an excellent location where it might be desirable to add a hotel later. The cost was $ 200,000 of which $ 121,169.06 was paid in cash and the balance was evidenced by a note payable during 6 1/2 years and secured by a mortgage. Harolds Club established scheduled limousine service between the club and the two motels. The petitioner changed the interior of its motel to accommodate a total of 76 persons at a time. The petitioner purchased the land and buildings of the Moana Coffee Shop in September 1953. The purchase price was $ 25,233.30, of which $ 12,200 was deferred, payable at the rate of $ 150 a month, plus interest. This restaurant was needed in order to feed the guests at the motel and also because of its location at the entrance to the motel property. The petitioner*69 planned to put a bar in the coffee shop as soon as the existing lease expired and it planned to acquire additional property in order to increase the size of the motel. However, the price of the adjoining property needed for the planned expansion became excessive when the owners learned that Harolds *148 Club and the petitioner wanted the additional ground. Also, the operation of two motels by Harolds Club and the petitioner, in competition with other motel operators in the vicinity, created ill will, whereas Harolds Club and the petitioner needed the goodwill of the other landlords in the vicinity who frequently housed patrons which Harolds Club attracted to Reno. The Moana Motel was not first class, was not adequately furnished, and proved unpopular with the patrons of Harolds Club. The petitioner, for the foregoing reasons, decided to sell it and thus obtain funds needed for the purchase of another piece of property hereafter described. The motel and the coffee shop were sold during 1955 for a net gain of $ 39,462.54. The Farm. The petitioner purchased in December 1953 two parcels of land on South Virginia Road approximately 3 miles south of Reno. This road is the*70 main highway from Los Angeles, Las Vegas, Carson City, and the south end of Lake Tahoe. A bypass to avoid downtown Reno intersects the above property. The purchase price of one parcel consisting of 339 acres of farmland was $ 818,842.75. The second parcel was 6.186 acres adjacent to the first, having about 520 feet of highway frontage and water rights. The purchase price of it was $ 52,036.80, of which $ 36,920 was deferred, secured by a mortgage payable in 5 equal annual installments. The petitioner obtained an option for $ 1,000 to purchase additional land adjoining the foregoing parcels, and this option was exercised in 1954 to acquire 2 1/2 acres representing a strip of highway frontage 936 feet long. The purchase price of this tract was $ 110,096.80, of which $ 31,996.80 was paid in cash and the balance, secured by a mortgage, was payable in 5 equal annual installments. The petitioner borrowed $ 500,000 in 1953 from Harolds Club on its demand note to pay on the purchase price of the 339-acre tract first mentioned above. The petitioner paid $ 100,000 on the note in 1954. The farm property was originally offered to Harolds Club, but the latter was not in position to make*71 the purchase because of prior acquisitions and commitments, including the current erection of a 7-story building at its downtown Reno location. It was able to lend $ 500,000 to the petitioner on a short-term basis because it would not need that part of its accumulations for the erection of its new building until construction progressed. The petitioner planned to repay the loan out of earnings as Harolds Club needed the money. Almost half of it was repaid by the end of 1955, but $ 95,000 had not been repaid up to June 19, 1959. The officers and directors of the petitioner and of Harolds Club were aware, at the time of making the above purchases and prior *149 thereto, that other persons were trying to buy property near Reno for "strip operation" purposes. A strip operation can include a hotel, motel, or both, a gambling casino, and possibly other related operations on a strip of land fronting on a main highway entering a prominent city such as Reno or Las Vegas. The owners of Harolds Club and the petitioner felt that Harolds Club had to be protected against competition of this kind and desirable land might not be available later. Harolds Club had purchased 180 acres for *72 $ 120,000 in 1951 with this in mind. The property was located about 7 miles west of Reno but was not regarded as particularly favorable for a strip operation. Lent advised that the farmland to the south of Reno could be purchased and was well suited for the purpose. The petitioner at the time of purchasing the land had no plans for its immediate development but the petitioner and Harolds Club planned to develop this property later if necessary. The plan for later development was to use it for a strip operation to include a large hotel, a gambling casino, a convention hall, an all-season swimming pool, a golf course, and some high-class residential property surrounding the golf course, all at an anticipated cost of $ 10,000,000. They believed from observing what had happened at the Desert Inn at Las Vegas that sufficient funds could be obtained from the sale of the residential properties to help finance the rest of the project. They felt that Reno needed a convention hall and conventions would bring patrons to the club, especially if the convention hall and lodging facilities were adjacent to the casino. The original plan was that the petitioner would furnish the land and Harolds*73 Club was to build and pay for the improvements. The petitioner was to operate all bars in this planned development. The petitioner employed a firm of architects in San Francisco and paid them a fee to cover not only preliminary drawings but all subsequent blueprints which might be necessary. Lent collaborated with the architects in respect to the requirements and locations of the various improvements. The architects presented preliminary drawings in 1957 together with an estimate of $ 17,000,000 as probable cost. Harolds Club and the petitioner, upon receipt of this information, realized that the development of the farmland could not be started until they could accumulate additional earnings in view of the $ 17,000,000 estimate, the fact that a part of the purchase price of the land had not been paid, tax deficiencies had been determined against the petitioner, business had been poor in 1958, and the earnings of the petitioner had declined. No blueprints have been prepared and no improvements have been started. The land is excellent for farming, a scarce commodity in the neighborhood, and the property has been leased to crop farmers, *150 but the petitioner recorded a net*74 loss of $ 21,158.65 on the property for 1954. Dividends. Lent and Smith, two of the three directors of the petitioner, consulted in each taxable year with the petitioner's certified public accountant in regard to the payment of a dividend by the petitioner, and in each year received his advice that no dividend should be paid because the petitioner was not in a financial position to pay a dividend. Lent and Smith relied to some extent upon this advice. Lent recommended to Smith that no dividend be paid in 1950 because of the indebtedness owing to Stagg, because of the possible need of funds in case the stock option had to be exercised, because of the uncertainty of conditions due to the war in Korea, and because of the need of funds to increase liquor purchases. Lent recommended to Smith that no dividend be paid in 1952 because of the indebtedness still owing to Stagg, because funds would be needed in case the option to buy Harold's stock had to be exercised and because about $ 240,000 would be needed to build the planned additions at the Moana Motel. Lent advised Smith that no dividend should be paid in 1953 and also in 1954 because of the obligations then existing, including*75 the obligation on the purchase price of the farmland and because of the possible need of money if the development of that land was to be undertaken. Smith, for reasons substantially similar to those given him by Lent, and considering the amount of money needed in operating the business, was of the opinion that the petitioner should not pay a dividend during any of the taxable years. The statement attached to the notice of deficiency contains the following paragraph: It is held that during the taxable years 1950, 1952, 1953 and 1954 you were availed of for the purpose of preventing the imposition of the surtax upon your sole stockholder, through the medium of permitting earnings or profits to accumulate instead of being divided or distributed, and that you are accordingly subject to the surtax imposed by section 102 of the Internal Revenue Code of 1939 and by section 531 of the Internal Revenue Code of 1954. The petitioner was not availed of during the years 1950 and 1952 for the purpose of preventing the imposition of the surtax upon its sole stockholder, through the medium of permitting earnings or profits to accumulate instead of being divided or distributed. All stipulated facts*76 are incorporated herein by this reference. OPINION. No contention is made that the petitioner is a mere holding or investment company. The Commissioner has not *151 determined that the petitioner was organized for the purpose of stockholder tax saving or that the earnings or profits of the petitioner for any taxable year were permitted to accumulate beyond the reasonable needs of its business. He says in his brief, "The reasonableness or unreasonableness of an accumulation of earnings is but one factor in determining intent and although in many instances it may be the most important factor to be considered, such is not the case here." The only question presented for decision is whether, as to each taxable year, the petitioner was availed of for the purpose of preventing the imposition of the surtax upon its sole stockholder through the medium of permitting earnings to accumulate instead of being divided or distributed. Cf. Young Motor Co., 32 T.C. 1336. The respondent's contention, as stated at the beginning of his original brief, is as follows: The respondent contends that the land acquisitions were investments and not related to petitioner's*77 business, that even if the land acquisitions were related the petitioner could have paid dividends, and, therefore that the corporation was availed of for the proscribed purpose which renders the petitioner liable for the Section 102 surtax or Section 531 accumulated earnings tax for the years 1950, 1952, 1953 and 1954. The land acquisitions to which he refers are: "In 1951 petitioner's excess funds went into a motel which was sold in 1955. In 1953 its excess funds were put into a 345-acre ranch three miles south of Reno." These were actual acquisitions, not mere reserves for planned future acquisitions. There were no land acquisitions during 1950. The investment of approximately $ 100,000 in liquor near the close of 1950 was obviously a justifiable use of the earnings of that year directly connected with the operation of the business of the petitioner. The record also indicates that the purchase of the Roaring Camp collection and the use of it both inside and outside of the club was a proper expenditure for advertising purposes as was the employment of Stagg and his wife to advertise Harolds Club and the collection throughout Nevada and neighboring States. Harolds Club paid*78 the petitioner $ 19,000 a year for 10 years beginning in 1950 for the use of items of the Roaring Camp collection and to reimburse the petitioner for its payments to the Staggs under the employment contract. The connection between Harolds Club and the petitioner is so close that the use of this material and the outside advertising, all in the name of Harolds Club, also benefits the petitioner in proportion to the benefits received by Harolds Club. The displays of the Roaring Camp material within the club were mostly around or on the petitioner's bars. The evidence shows that the option to buy Harold's stock and the possible need of funds to *152 exercise the option were also closely connected with the business of the petitioner. The evidence as a whole shows that the retention of the 1950 earnings was not for the purpose of preventing the imposition of the surtax upon its sole stockholder. The obligations to the Staggs and the possibility of having to exercise the stock option existed throughout 1952. The petitioner on the last day of 1951 purchased the Moana Auto Apartments and about $ 79,000 of the purchase price was represented by a mortgage reduced during 1952 to $ 69,879.69. *79 This transaction was closely connected and directly related to the business of the petitioner which in turn was closely tied in with the business of Harolds Club. It enabled the petitioner on behalf of itself and Harolds Club to provide at least some of their patrons with lodging accommodations at reasonable rates and the petitioner with profit and other advantages. Justifiable changes were made to the interior of the Motel during 1952. An adjacent coffee shop was purchased in September 1953 for about $ 25,000. The further expansion, originally planned, was never carried out because the asking price for the adjoining land became discouragingly high. The whole property was sold at a profit in 1955 for reasons adequately explained in the Findings of Fact. The evidence as a whole fairly preponderates in favor of the holding that the 1952 earnings of the petitioner were not retained for the purpose of preventing the imposition of the surtax upon its sole stockholder. Meanwhile the accumulation of earnings was increasing. The petitioner began in December 1953 to purchase a substantial quantity of extremely high-priced land within a few miles of Reno. The explanation for these *80 purchases given in the petitioner's briefs, based upon the testimony of Lent and Smith, is that the land was needed to protect Harolds Club in case rival gambling operations should try to develop successful strip operations in the environs of Reno. It does not appear that any rival ever bought any nearby land and established a strip operation or that this supposed danger was imminent, but the witnesses knew of attempts being made by rivals to purchase land along one or more of the motor routes leading into Reno. Harolds Club had no intention of abandoning its operations in downtown Reno, in any event. The petitioner actually bought land in December 1953 for which it paid or became obligated to pay over $ 870,000, and in 1954 acquired additional land at $ 110,096.80, making the total amount which it paid or became obligated to pay for this purpose almost $ 1,000,000. About 348 contiguous acres were purchased. The purchase of this land at such a large price for the stated purpose by Harolds Club might be one thing, but by the petitioner is quite another. *153 The plan, as stated by the witnesses, was that the petitioner would furnish the land and Harolds Club would make the *81 improvements at its own expense. Actually, the first tangible evidence of any planned improvement of the land was some architect's drawings furnished in 1957, together with an estimate of $ 17,000,000 cost for the pictured improvements. No improvements of any kind have been placed on the property. The land has been used only for leasing to farmers since its purchase by the petitioner and annual net losses of from $ 5,000 to $ 6,000 have been sustained in that connection. It is hard to believe from the record as a whole that Harolds Club had any intention of improving this land unless the threat of outside competition developed into reality. The obvious question is -- why should the petitioner acquire this acreage at a cost of almost a million dollars and how could that acquisition justify the failure of the petitioner to pay dividends in 1953 and in 1954. The petitioner had no intention, at least none appears, of using this land to carry on a separate business. Cf. Regs. 118, sec. 39.102-3(b), and Income Tax Regs., sec. 1.537-3 (T.D. 6377, 1959-1 C.B. 125). The large amount of liquor purchased in 1950 was used in the business of the petitioner. The*82 Roaring Camp collection was used throughout the taxable years to decorate and to attract people to the bars of the petitioner and was used in other ways to advertise Harolds Club and thus to attract additional patrons to the club and customers to the bar. The Moana Motel was used to house patrons of the club and substantial gross income was derived from this source. A justifiable use of earnings for those purposes explained the failure to pay a dividend. But no such explanation stems from the purchase of the farmland in 1953 and 1954. The petitioner would have had ample funds with which to pay substantial dividends to its sole stockholder in 1953 and 1954, had it not used so much of its funds in those years to purchase these farmlands. There is no adequate indication in the record of how the petitioner was ever to justify, through its bar business, the purchase of these farmlands, i.e., how it was to get a proper return on such a large investment. The plan was, as stated by the witnesses, that the petitioner was to contribute these lands to a joint undertaking in which Harolds Club was to build and pay for the improvements. The only benefit to the petitioner stated was that *83 it could operate the bars appropriate to the improvements. Houses were planned around a golf course. It might be assumed that the petitioner would receive payment for the land to be sold with such houses. Additional bars would give the petitioner additional opportunity to make profits, but any profits to the petitioner which may be imagined would be long deferred and a doubtful return on *154 such a large investment. Accumulations could continue in later years if such purchases are sufficient justification. Other possible business purposes of the petitioner in buying this land are not too obvious. The Commissioner contends that it was bought purely as an investment for ultimate sale at a profit, because such land was scarce and prices were rising. This may be so, but the evidence is that the petitioner was sustaining net losses of $ 5,000 or $ 6,000 a year from its rental of this land. In other words, the land was not carrying itself. The petitioner, of course, has the ultimate burden of proof. Pelton Steel Casting Co., 28 T.C. 153, affd. 251 F. 2d 278 (C.A. 7), certiorari denied 356 U.S. 958.*84 Neither witness was asked directly by counsel for either party whether or not he, as a director, considered the tax consequences to Smith in reaching his decision against the payment of a dividend. Smith's taxable income during each of the taxable years was large and placed him in high tax brackets. He owned and controlled the petitioner. The petitioner paid no dividends and paid Smith no salary. Income-producing property was assigned to the petitioner corporation by Smith. The retention by the petitioner of its earnings would save Smith from additional surtaxes which he would have had to pay if the petitioner had distributed dividends to him. Cf. Young Motor Co., supra.The strong circumstantial evidence in this case supports the Commissioner's determination that earnings for the years 1953 and 1954 were accumulated by the petitioner rather than distributed for the purpose of preventing the imposition of the surtax on its sole stockholder. Cf. R. L. Blaffer & Co., 37 B.T.A. 851, affd. 103 F. 2d 487 (C.A. 5), certiorari denied 308 U.S. 576. The evidence as a whole*85 not only does not show that the Commissioner's determination on this issue as to 1953 and 1954 was incorrect but, on the contrary, tends to show that it was correct, at least that a purpose to avoid imposition of the surtax on Smith was not absent in 1953 and 1954. The petitioner has claimed a credit for 1954 under section 535(c)(1) of the Internal Revenue Code of 1954. The Commissioner in his brief ignores this contention and the taxpayer, assuming that it will be sustained on the first issue, merely says that it is entitled to the full amount of its accumulations at the end of 1954 as a credit under this provision. Thus the Court is without any help from the parties on this issue, which apparently requires decision. The accumulations at the end of 1954, to the extent that they reflect ownership of the farmlands, improvements thereon, and equipment used thereon, are not within the reasonable needs of the business, but otherwise the accumulations at the end of 1954, if any, are within the reasonable needs of the business. Perhaps another way *155 of saying this would be that the accumulations at the end of 1954 are not within the reasonable needs of the business to the extent*86 of the equity of the petitioner in the farmlands, improvements thereon, and appurtenances thereto, including farm machinery. Decision will be entered under Rule 50. Footnotes 1. Includes $ 500,000 demand note due Harolds Club and taxes of $ 135,229.21.↩ 2. Includes $ 400,000 demand note due Harolds Club and taxes of $ 109,092.96.↩