Stanton v. Commissioner

L. Lee Stanton and Helen La Fetra Stanton, Petitioners, v. Commissioner of Internal Revenue, Respondent Stanton v. Commissioner Docket No. 68914 United States Tax Court 34 T.C. 1; 1960 U.S. Tax Ct. LEXIS 178; April 7, 1960, Filed *178 Decision will be entered under Rule 50. 1. Interest or Capital Gain -- Profit on Sale of Non-interest-Bearing Notes. -- Commissioner did not err in holding that a profit on the sale of non-interest-bearing notes is taxable as interest and was not a part of sales proceeds of the notes for income tax purposes. F. Rodney Paine, 23 T.C. 391, followed. 2. Interest -- Sec. 23(b). -- Interest on genuine indebtedness incurred to buy short-term obligations non-interest-bearing or with interest at a lower rate than that being paid on the indebtedness is deductible under section 23(b) regardless of whether the taxpayer anticipated that the transactions would be beneficial before taxes or whether he anticipated that they would be beneficial only after taxes. Hugh Satterlee, Esq., and Rollin Browne, Esq.,*179 for the petitioners. Emil Sebetic, Esq., for the respondent. Murdock, Judge. Opper, J., dissenting. Harron, J., agrees with this dissent. Bruce, J., dissenting. Harron, J., agrees with this dissent. Pierce, J., dissenting. Harron, J., agrees with this dissent. MURDOCK *1 The Commissioner determined income tax deficiencies against the petitioners of $ 117,054.16 for 1952 and $ 232,678.86 for 1953. The principal issues for decision are whether the Commissioner erred in disallowing deductions for each year for interest paid on indebtedness and whether interest income was received when non-interest-bearing notes were sold. Alternative errors were alleged. FINDINGS OF FACT. The petitioners, husband and wife, filed their income tax returns for 1952 and 1953 with the director for the second district of New York. They kept their books and filed their returns on a calendar year cash basis. Lee has been a member of the New York Stock Exchange for 36 years and is a partner in the brokerage firm of Carlisle & Jacquelin. He reported "Adjusted Gross Income" of $ 254,507.79 for 1952 and of $ 376,281.30 for 1953. His income, at least since 1950, has*180 been subject to very high tax rates. He took this into account in making his personal investments and sought transactions which would give him the greatest net income after taxes. One such type investment was the purchase of large amounts of short-term Government notes or commercial paper at a substantial discount, financing the purchase *2 through ordinary bank loans secured by the purchased notes and selling them at a profit before maturity but after holding them 6 months. The excess of the amount realized over cost would be reported as a long-term capital gain and the interest on the borrowed funds would be claimed as a deduction. The net interest received on the obligations would be taxable as ordinary income. The excess of the interest paid on the borrowed funds over the interest, if any, on the obligations would thus be offset in whole or in part by capital gain and in any event there would be a tax benefit because the interest deduction would wipe out high-rate taxable income and the capital gain would be taxed at only 25 per cent. Lee purchased $ 9 million principal amount of non-interest-bearing financial notes of Commercial Investment Trust, Inc., at market from*181 Saloman Bros. & Hutzler as shown in the following table: Purchase-date Principal Price paid Maturity amount Dec. 11, 1952 $ 2,000,000 $ 1,974,750.00 July 1, 1953 Dec. 11, 1952 3,000,000 2,962,312.50 June 30, 1953 Dec. 11, 1952 1,000,000 987,312.50 July 2, 1953 Dec. 16, 1952 3,000,000 2,964,562.50 June 23, 1953 8,888,937.50 Lee borrowed money from three New York banks and gave his own 3 per cent promissory notes in the full amounts as security for the loans. Three per cent was the current rate on such loans. The following table shows the dates of the loans and personal notes, the amounts of each, the maturity, and the lender: Date Amount Maturity Lender Dec. 11, 1952 $ 1,974,750.00 June 25, 1953 Hanover Bank Dec. 11, 1952 2,962,300.00 June 25, 1953 Hanover Bank Dec. 11, 1952 987,312.50 July 2, 1953 Marine Midland Dec. 16, 1952 2,964,562.50 June 23, 1953 Guaranty Trust 8,888,925.00 The C.I.T. notes which Lee purchased were delivered to the banks for Lee's account against payment by the banks for his account of the purchase prices of those notes. The loans were secured solely by the C.I.T. notes and Lee's personal notes. Lee*182 anticipated that the interest he would have to pay on the loans would exceed the gain he would have on the notes but he would have a net gain after taxes from the transaction. Lee paid $ 144,032.37 interest on his four notes to maturity in December 1952, as required by the lenders, and claimed that amount on his 1952 return as a deduction for interest paid. The Commissioner, in determining the deficiency for 1952, disallowed that deduction *3 and merely stated that it was not deductible under section 23 of the Internal Revenue Code of 1939. Lee sold the $ 9 million of C.I.T. notes at market before their maturity, as shown in the following table: Sale date Principal Sale price amount June 26, 1953 $ 2,000,000 $ 1,999,097.22 June 26, 1953 3,000,000 2,998,916.67 June 26, 1953 1,000,000 999,458.33 June 19, 1953 3,000,000 2,998,916.67 8,996,388.89 Each lending bank received from the purchaser the sales price of the C.I.T. notes held by it, applied part of it to pay off Lee's notes held by the bank, and paid the balance to Lee. Lee paid the Hanover bank in June 1953 additional interest of $ 411.42 on his promissory notes for the 1 day past maturity which*183 they were held by that bank, and in that same month he received $ 493.66 from Marine Midland Trust and $ 988.19 from Guaranty Trust, representing refunds or rebates of interest to maturity which he had prepaid on his promissory notes held by those banks for the period from the date of payment of the principal of those notes to the date of maturity of each. The additional interest paid was claimed as a deduction and the refunds reported as income on the petitioners' 1953 return. The Commissioner made no adjustment with respect to those amounts. The excess of the amount received from the sale over the cost of the C.I.T. notes, was reported on the petitioners' income tax return for 1953 as a long-term capital gain. The Commissioner, in determining the deficiency for 1953, added to the reported income $ 107,805.94, with the explanation that it was interest income from the C.I.T. notes and was not includible in the sales proceeds of the notes. He eliminated $ 107,801.73 from long-term gain and showed the transaction to have resulted in a net long-term capital loss of $ 4.21. Lee purchased at market $ 5 million principal amount of United States Treasury notes bearing interest at 1 1/2*184 per cent, maturing on March 15, 1955, and having accrued interest thereon at the date of purchase, as shown in the following table: Date Purchased from Principal Cost Accrued purchased amount interest June 24, 1953 C. J. Devine & Co $ 800,000 $ 788,000.00 $ 3,456.52 June 24, 1953 C. J. Devine & Co 600,000 590,812.50 2,592.39 June 29, 1953 First Wisconsin National Bank 2,400,000 2,361,000.00 10,467.38 June 24, 1953 C. F. Childs & Co 500,000 492,343.75 2,078.80 June 25, 1953 Salomon Bros. & Hutzler 500,000 492,812.50 2,160.33 July 1, 1953 Garvin, Bantel & Co 200,000 197,000.00 888.59 5,000,000 4,921.968.75 21,644.01 *4 Lee borrowed $ 5 million from four banks and gave his own 3 1/2 per cent promissory notes in like amounts as security for the loans. The loans were to become due on March 15, 1955. Three and one-half per cent was the current rate on such loans. The following table shows the lender, the dates of the loans and notes, and the amounts of each: Lender Date Amount Mercantile National Bank of Chicago June 26, 1953 $ 800,000 Lakeview Trust & Savings Bank of Chicago June 29, 1953 600,000 First Wisconsin National Bank of Milwaukee June 30, 1953 2,400,000 June 25, 1953 500,000 First National Bank of Baltimore June 29, 1953 500,000 July 2, 1953 200,000 *185 Lee expected that his profit on the sale of the notes would exceed the excess of the interest on his borrowings up to the date of sale over the net interest on the Treasury notes to that same date by a substantial amount. The Treasury notes which Lee purchased were delivered to the banks for Lee's account against the payment by the banks for his account of the purchase price of those notes. The $ 56,387.50 excess of the loans over the cost of the Treasury notes was remitted by the banks to Lee. Lee, at the time of giving his promissory notes, paid interest thereon in the total amount of $ 151,830.77. Coupons on the Treasury notes came due on September 15, 1953. The banks retained the proceeds of those coupons. Lee sold the $ 5 million of Treasury notes at market to Wm. E. Pollock & Co., Inc., as shown in the following table: Sale date Principal Sale price Accrued interest amount Feb. 3, 1954 $ 800,000 $ 802,250.00 $ 4,707.18 Feb. 3, 1954 600,000 601,687.50 3,530.39 June 25, 1954 2,400,000 2,413,875.00 10,271.74 Feb. 3, 1954 500,000 Feb. 3, 1954 500,000 1,203,375.00 7,060.77 Feb. 3, 1954 200,000 5,021,187.50 25,570.08 Lee's promissory notes*186 were paid off from the proceeds of the sales at the time of the sales. Lee paid to each of the lending banks in 1954 as additional interest on his promissory notes the accrued interest which he received upon the sale of his Treasury notes, and he also paid in 1954 to the First Wisconsin National Bank $ 13,500 as additional interest on his promissory note held by that bank. Lee was charged interest of $ 189,330.77 on his promissory notes during 1953 against which was applied $ 15,855.99, the net interest received by the banks on the Treasury notes so that the net interest *5 charged against Lee, paid by him and claimed as a deduction on his return, all for 1953, was $ 173,474.78. Lee was charged interest of $ 57,070.08 on his promissory notes during 1954 against which was applied $ 43,570.08 interest received by the banks on the Treasury notes in that year, resulting in net interest of $ 13,500 charged against Lee in 1954 and paid by him in that year and claimed as a deduction on his return for that year. The excess of the amount realized from the sale of the Treasury notes over their cost, both amounts exclusive of accrued interest, was reported as a long-term capital gain on*187 the petitioners' 1954 return. The Commissioner, in determining the deficiency for 1953, added $ 15,855.99 to the reported income with the explanation that it was interest income from the 1 1/2 per cent Treasury notes and disallowed the deduction of $ 173,474.78 taken for interest paid, merely stating that it was not deductible under the provisions of section 23 of the Internal Revenue Code of 1939. Lee expected at the time he entered into the Treasury notes transactions that the lending banks would terminate the loans when he chose to sell the Treasury notes and refund to him all unearned interest which they had received on those loans. He had no agreement either with the New York banks which had loaned to him almost $ 9 million in December 1952 or with the out-of-town banks which loaned him $ 5 million in the middle of 1953, but the two New York banks had refunded the unearned interest at the time the notes were sold and Lee thought that the out-of-town banks would follow the same practice. However, the out-of-town banks refused to cancel the loans and refund the unearned interest when Lee sought to sell the Treasury notes. He delayed the sales until he negotiated with the banks. *188 He reached compromise agreements with three of them and sold the notes held by them on February 3, 1954. Negotiations with the Milwaukee bank continued, and it was not until June 25, 1954, that they were concluded and the notes sold. The difference between the quoted bid and offered prices of the Treasury notes at all times material hereto was generally 2/32 but occasionally it was only 1/32. The quoted bid price declined from 98 24/32 on March 16, 1953, to 97 31/32 on June 1, 1953. It gradually rose to 98 14/32 on June 22, 1953, was 98 12/32 on June 29, 1953, and rose for the first time above par, to 100 1/32 on January 18, 1954. It was 100 9/32 on February 1, 1954, and thereafter generally rose, reaching a high of 100 20/32 on May 3, 1954, after which it fluctuated between 100 19/32 and 100 17/32 until about August 1954, when it started to decline and reached 100 4/32 on December 20, 1954, after which it gradually declined to par in February 1955 and remained there until the maturity date. *6 Lee would have had a long-term capital gain of $ 92,093.75 if he had been able to sell all of his $ 5 million United States Treasury notes on February 3, 1954. The excess of the *189 3 1/2 per cent interest on his loans up to that time over the net interest which he would have received on the Treasury notes up to that date would have been $ 60,910.47. His capital gain would thus have exceeded net interest by $ 31,183.28. The action of the banks in refusing to terminate Lee's loans on February 3, 1954, required him to pay to those banks $ 125,999.69 in excess of the amount which he otherwise would have had to pay. He could find no use for the borrowed money after the sale of the Treasury notes and had none in mind when he borrowed the money. All stipulated facts are incorporated herein by this reference. OPINION. Lee sold the C.I.T. notes in 1953 and reported for that year on that transaction a long-term capital gain. The Commissioner, in determining the deficiency for that year, taxed the gain as interest instead of allowing it to be included in the sales proceeds of the notes for tax purposes. He eliminated the gain as a long-term capital gain. The Commissioner's action is supported by the decision of this Court in F. Rodney Paine, 23 T.C. 391. Cf. Charles T. Fisher, 19 T.C. 384, affd. 209 F. 2d 513,*190 certiorari denied 347 U.S. 1014, and Arnfeld v. United States, 163 F. Supp. 865. The Paine case was reversed by the Court of Appeals for the Eighth Circuit, one Judge dissenting, see 236 F. 2d 398, but the grounds on which it was reversed are not present in this case. The petitioners argue that our decision in George Peck Caulkins, 1 T.C. 656, affd. 144 F. 2d 482, is in direct conflict with our decision in the Paine case, but this Court in the Paine case explained how the two are distinguishable. The grounds given there for distinguishing the Paine and Caulkins cases would likewise apply to distinguish the present case from the Caulkins case. Cf. Commissioner v. Morgan, 272 F. 2d 936, reversing 30 T.C. 881. The Commissioner's determination on this issue has not been shown to have been in error. The only other issue that need be decided is whether the Commissioner erred in disallowing deductions for 1952 and 1953 for interest paid in those years on indebtedness. *191 Section 23(b) of the Internal Revenue Code, applicable to all years involved herein, provides that in computing net income there shall be allowed as a deduction -- All interest paid * * * within the taxable year on indebtedness, except on indebtedness incurred or continued to purchase or carry obligations (other than obligations of the United States issued after September 24, 1917, and originally *7 subscribed for by the taxpayer) the interest upon which is wholly exempt from the taxes imposed by this chapter. No contention is made or could be made that the exception quoted above applies here, nor does section 24(a)(6) apply. Those are the only exceptions to the general rule allowing the deduction of "all interest paid * * * on indebtedness." Congress having enacted the only exceptions it desired to make, the maxim of interpretation, "Inclusio unius est exclusio alterius" applies, e.g., Congress intended no other exception or limitation on the deductibility of interest on indebtedness. All interest paid within the taxable year on genuine indebtedness of any other kind thus entitles a cash basis taxpayer to a deduction of the amount of interest paid. The Commissioner*192 here concedes, as he must, "the reality and validity of the series of transactions." Thus the payments of principal and interest were enforcible. Cf. W. S. Gilman, 18 B.T.A. 1277, affd. 53 F. 2d 47; William Park, 38 B.T.A. 1118, affd. 113 F. 2d 352. Congress has indicated that this deduction is not dependent in any other way upon the purpose or motive of the borrower, or the use made of the borrowed funds. Lee borrowed the money here involved for a purpose not prohibited by any provision of the Code and is entitled to the deductions claimed. $ 56,387.50 of the borrowed money was not used to buy the Treasury notes. Actually, Lee did not use the rest of it for any evil, immoral, or illegal purpose, if that makes any difference. Congress has included no requirement in the Code that the borrowed money be used in connection with a transaction entered into for profit or that it cannot be borrowed for personal or non-business purposes or used in a transaction involving tax benefits, cf. Commissioner v. Park, 113 F. 2d 352, and the Tax *193 Court has no authority to write or read such requirements into the law. The legislative history of section 23(b) shows that Congress has repeatedly considered and ultimately rejected limitations somewhat comparable to the one now urged by the Commissioner. The House, for example, proposed to restrict the interest deduction in the 1924 Act to interest paid or incurred in carrying on a trade or business and other interest which, when added to nonbusiness losses, exceeded tax-exempt interest received. The Senate struck this out and inserted a limitation on indebtedness incurred or continued for the purpose of evading the payment of taxes when the purchaser carried tax-exempt securities other than certain United States obligations. But the reference to "indebtedness incurred or continued for the purpose of evading the payment of taxes" was stricken out in conference. The House proposed another limitation for the 1926 Act, but again the Senate refused and the House concurred. The 1932 Act broadened the restriction to deny deduction for interest *8 on indebtedness incurred or continued in connection with the purchasing or carrying of an annuity. The House proposed to broaden the*194 restriction in the 1934 Act, but the Senate refused and also struck out all reference to annuities. The House at the same time proposed in section 24(a)(5) to disallow any deduction allocable to any class of income wholly exempt from tax, but the Senate amended to preclude the application of this provision to the deduction for interest and the House accepted the amendment. See also Revenue Act 1921, section 206(a)(3) and (4), and Revenue Act 1924, section 208(a)(3), (5), and (6), which imposed certain restrictions afterwards dropped from the law and never reenacted. Cf. sec. 24(a)(5) and (6) of the 1939 Code. The Internal Revenue Code imposed heavy taxes upon Lee and he sought a legal way within the provisions of the Code to make a profit for himself after taxes, the only kind of profit which can do any taxpayer any good. His Treasury note transactions would have been profitable before taxes, if events had happened as he anticipated they would at the time of entering into the transactions. He had reasons, which seemed sufficient to him at the time, to believe that the out-of-town banks would allow him to terminate his loans with the return to him by the banks of the unearned *195 interest at any time he chose to sell the Treasury notes and pay off his bank loans, as the New York banks had done. A deduction for the actual interest which he paid over the term of the loans could not have been denied to him, if that had happened. The taxability of the excess of the amount realized from the sale of the Treasury notes in 1954 over their cost is not an issue in this case, but it was a transaction entered into for profit, and which resulted in a profit, if that is material here. What reason is there for penalizing Lee and deviating from the plain words of the Internal Revenue Code merely because the unexpected action of the banks wiped out Lee's real gain by requiring him to pay about $ 126,000 of additional interest? All of Lee's borrowings involved herein were genuine and resulted in real indebtedness within the meaning of section 23(b). There was no collusion. The lenders actually advanced the money borrowed for Lee's use. The money was used in the outright purchase of securities at market. The securities became the property of Lee. They were held as security by the lenders of the money. Lee had all the benefits and risks of ownership. All dealings were*196 "at arm's length." Once he entered into the transactions he was required to do all that he did do, and no step which he took was lacking in substance or legal effect. He was strictly within the law at all times, and the interest deductions which he took for 1952 and 1953 were in exact accordance with the express provisions of section 23(b). The *9 Commissioner concedes all of this. How then does the Commissioner attempt to justify his disregard of the plain provisions of the Internal Revenue Code whereby he taxes interest received and capital gains on the transactions but denies deductions for all interest paid? He says: This Court has already approved determinations of respondent comparable to the one at issue herein. Cf. Eli D. Goodstein (1958) 30 T.C. [1178], No. 124, aff'd (CA 1, 1959) F. 2d , 3 A.F.T.R. 2d 1500; Abraham M. Sonnabend, T.C. Memo. 1958-178, aff'd per curiam (CA 1, 1959) F. 2d , 3 A.F.T.R. 2d 1505; John Fox, T.C. Memo. 1958-205; Matthew M. Becker, T.C. Memo 1959-19; George G. Lynch (1959) 31 T.C. [990], No. 98*197 (On appeal); Leslie Julian (1959) 31 T.C. [998], No. 99 (On appeal); Egbert J. Miles (1959) 31 T.C. [1001], No. 100 (On appeal); See also W. Stuart Emmons (1958) 31 T.C. [26], No. 4 (On appeal). Respondent submits that the principles applied in the above decisions are controlling and dispositive of the case at bar. * * * * In the light of the foregoing discussion, respondent submits that as a matter of substantial commercial reality, Stanton did not purchase any CIT Notes and Treasury Notes, incur any indebtedness, pay any interest, or sell any CIT Notes and Treasury Notes, which were significant or recognizable for tax purposes. George G. Lynch, supra; Egbert J. Miles, supra; W. Stuart Emmons, supra. The facts in each of the cited cases distinguish it from the present case. The Emmons case bears no resemblance to the facts here. The leading case cited is Eli D. Goodstein, 30 T.C. 1178, affd. 267 F. 2d 127, but important differences rob it of all effect as an authority here. The alleged Goodstein*198 transactions were collusive shams throughout arranged by Eli Livingstone. 1 The Treasury notes were "purchased" and "sold" practically as one transaction in which no real money passed on behalf of the taxpayer. The alleged lender corporation had no money to lend. No Treasury notes were held as security or otherwise by that corporation. Goodstein was not the owner of any Treasury notes during the time the "loan" was supposed to be in effect. He was not entitled to receive and did not receive the benefit of any interest on Treasury notes. There was no indebtedness of $ 10 million. The whole matter of "interest" was merely an empty bookkeeping device to create the illusion of indebtedness, interest, and long-term capital gain. However, the Court in affirming the Goodstein case, 267 F. 2d 127, expressed the thought that Goodstein, despite the recognized shams, might be entitled to a deduction for some loss in a later year not before the Court. See also Lynch v. Commissioner, 273 F. 2d 867, affirming the Lynch and Julian cases ( George C. Lynch, 31 T.C. 990, Leslie Julian, *10 31 T.C. 998),*199 both of which involved similar shams arranged by Livingstone. The Commissioner quotes language from the Tax Court opinion in the Egbert J. Miles case (31 T.C. 1001) to the effect that "if petitioner did purchase the bonds and incur an indebtedness he did so but for one reason, to realize a tax deduction" and that being so, the interest was not deductible within the intendment of section 23(b). That part of the opinion was not necessary in denying the deduction since the facts disclosed a repetition of the collusive shams in the Goodstein case. The Court of Appeals for the Second Circuit, in affirming the Lynch and Julian cases, did not rely on any such reasoning and did not rely upon Gregory v. Helvering, 293 U.S. 465, which, it said, "the government construes as establishing a doctrine*200 forbidding generally the recognition for tax purposes of transactions entered into for the sole purpose of tax avoidance." It relied instead "on the more fundamental ground" that there was no genuine indebtedness. The Goodstein, Julian, Lynch, and Miles cases were all correctly decided on the "fundamental ground" that there was no real indebtedness in any of them but merely collusive shams to create a supposed appearance of indebtedness on which supposed interest was paid. Anything contrary to the holding here was not necessary in the Lynch, Julian, and Miles cases and is not binding in this case although those cases and the Goodstein case were correctly decided on their own facts. Knetsch v. United States, 272 F. 2d 200, certiorari granted 361 U.S. 958, decided by the Court of Appeals for the Ninth Circuit, involved a transaction in which the taxpayer purchased 2 1/2 per cent annuity savings bonds from a life insurance company by borrowing the necessary money from the life insurance company at 3 1/2 per cent. The Court affirmed the judgment of the District Court which had held that the amount paid*201 to the insurance company was not interest in fact but the purchase price of a tax deduction. The Court of Appeals said it agreed with the opinion in Weller v. Commissioner, 270 F. 2d 294. The Weller case affirmed 31 T.C. 33 and also affirmed W. Stuart Emmons, 31 T.C. 26. The taxpayers in the Emmons and Weller cases had purchased annuity contracts and borrowed money from banks to prepay at a discount all future premiums and then received the loan value which the contract would have accumulated up to the time the prepaid premiums would be due. They then used a part of this money to pay off the loans at the banks. The interest on the bank loans was not in controversy. The taxpayers were disallowed claimed deductions for "interest" on the amounts they allegedly borrowed from the insurance companies, since no money was in effect loaned to them *11 by the insurance companies. The Court of Appeals for the Fifth Circuit in United States v. Bond, 258 F. 2d 577, in a situation similar to that involved in the Knetsch case, held that the*202 interest on the borrowing from the insurance company was deductible. The payments involved in all of the above four cases were on alleged loans from the insurance companies so that the whole transaction in each case was between the taxpayer and the insurance company. No genuine indebtedness existed on which interest was paid. Such cases are distinguishable factually from the present case. The present taxpayer bought securities on the open market and borrowed money from banks without any collusion to avoid income taxes between him and any person with whom he dealt. His indebtedness was genuine and section 23(b) allows a deduction for interest paid on such indebtedness. Decision will be entered under Rule 50. OPPER; BRUCE; PIERCE Opper, J., dissenting: While I agree with much that is said by my brothers Bruce and Pierce, it seems to me this case should be decided squarely on the authority of George G. Lynch, 31 T.C. 990, and Leslie Julian, 31 T.C. 998, both affirmed (C.A. 2) 273 F. 2d 867, and Egbert J. Miles, 31 T.C. 1001, and what we said there. Only*203 by repudiating one of the two grounds on which those cases rested can the present result be reached. The attempt to distinguish these and other cases by applying to them such unmeaningful labels as "sham" and "collusive" avoids the true crux of the problem. The fact that there was a "real" bank, or that there was actual liability on the notes, which were not of the nonrecourse character, will not do as a distinction. The present facts are, of course, not identical with those in all of the cases in this field. That there should be variations in detail from case to case is no more than can be expected. However, in W. Stuart Emmons, 31 T.C. 26, and Carl E. Weller, 31 T.C. 33, both affirmed (C.A. 3) 270 F. 2d 294, the insurance company was a "real" insurance company, and in Broome v. United States, (Ct. Cl., 1959) 170 F. Supp. 613, one of the notes had no "nonrecourse" provision. In Eli D. Goodstein, 30 T.C. 1178, affd. (C.A. 1) 267 F. 2d 127, and Danny Kaye, 33 T.C. 511,*204 there is no indication that the notes were not actual liability notes. These transactions had no genuine business, borrowing, or investment purposes. They were, in my opinion, not of the kind to which Congress intended the respective statutory provisions to apply. And the fact that a man named Livingstone may not have been involved *12 is certainly no basis for erecting a principle of law -- although the fact appears to be that, to some extent, his influence was also present here. The various elements which we observe in the present transactions, and which in one form or another exist in the other cases referred to, are the symptoms rather than the disease. The disease is lack of reality; the symptoms, which one would not necessarily expect to find in such a case, are the various steps which are either omitted entirely or taken in so offhand 1 a way that they are obviously mere window-dressing to conceal the lack of reality behind. But if every "i" were correctly dotted and every "t" meticulously crossed, the result would not be different. The transaction would remain one which it is not the purpose of the tax law to recognize. Gregory v. Helvering, 293 U.S. 465.*205 I respectfully dissent. Bruce, J., dissenting: I do not agree with the conclusions of the majority respecting the transactions herein involving the C.I.T. notes, and accordingly dissent. In my opinion the Internal Revenue Code was, and is, intended to apply to transactions founded upon economic reality. Transactions which, standing alone and without regard for tax considerations, are not economically sound and are engaged in solely for the purpose of creating tax deductions which by means of the interplay between various sections of the Code will result in "tax-free income," are lacking in economic reality and, in my opinion, are not within the intendment of the taxing statute. Consequently such transactions should be ignored for tax purposes. It has long been recognized that transactions*206 which may be valid and enforcible between the contracting parties from a commercial or property law standpoint may, nevertheless, be so lacking in economic reality as to be entitled to no recognition for income tax purposes. Cf. Gregory v. Helvering, 293 U.S. 465; Helvering v. Clifford, 309 U.S. 331; Higgins v. Smith, 308 U.S. 473. In Commissioner v. Transport Trad. & Term. Corp., 176 F. 2d 570, 572, reversing 9 T.C. 247, certiorari denied 338 U.S. 955, the Second Circuit Court of Appeals stated that the doctrine of Gregory v. Helvering was not limited to consideration of corporate reorganizations but had a much wider scope: *13 it means that in construing words of a tax statute which describe commercial or industrial transactions we are to understand them to refer to transactions entered upon for commercial or industrial purposes and not to include transactions entered upon for no other motive but to escape taxation. * * * In Gilbert v. Commissioner, 248 F. 2d 399, 411*207 (C.A. 2), Judge Learned Hand stated: If, however, the taxpayer enters into a transaction that does not appreciably affect his beneficial interest except to reduce his tax, the law will disregard it; for we cannot suppose that it was part of the purpose of the act to provide an escape from the liabilities that it sought to impose. * * * These principles have recently been applied in a number of cases strikingly similar to the instant case. In Weller v. Commissioner, 270 F. 2d 294 (C.A. 3), affirming 31 T.C. 33 and W. Stuart Emmons, 31 T.C. 26, and Knetsch v. United States, 272 F. 2d 200 (C.A. 9), certiorari granted 361 U.S. 958, deductions for amounts paid to insurance companies as interest on loans on annuity policies were held lacking in commercial substance and therefore not allowable. But cf. United States v. Bond, 258 F. 2d 577 (C.A. 5). In Eli D. Goodstein, 30 T.C. 1178, affd. 267 F. 2d 127 (C.A. 1); George G. Lynch, 31 T.C. 990,*208 and Leslie Julian, 31 T.C. 998, both affirmed sub nom. Lynch v. Commissioner, 273 F. 2d 867 (C.A. 2); Egbert J. Miles, 31 T.C. 1001 (on appeal); Danny Kaye, 33 T.C. 511; and Broome v. United States, 170 F. Supp. 613 (Ct. Cl., 1959), the purchases of notes with borrowed funds for which they were posted as collateral, where the evident purpose was merely to create tax deductions, were ignored as transactions devoid of substance and interest on the loans was held not to be deductible. In my opinion, the purchase of the C.I.T. notes in December 1952 is nothing but a dressed-up Goodstein transaction, the only difference being (1) that a "gimmick man" like Livingstone was not involved, and (2) that petitioner borrowed money from legitimate lending institutions instead of a Livingstone finance company. Although the "collusive sham" of the Goodstein, Lynch, and Julian cases is not present in the instant case, the transaction was no less a "sham" for income tax purposes. There is no doubt that petitioner would not have *209 purchased the C.I.T. notes in 1952 had he not been able to create a tax benefit as a result of the interplay between the capital gain and interest deduction provisions of the Code. This conclusion is inescapable from the majority's finding of fact that "Lee anticipated that the interest he would have to pay on the loans would exceed the gain he would have on the notes but he would have a net gain after taxes from the transaction." It is quite clear that without the favorable tax impact the purchase of the C.I.T. notes could have resulted in nothing but a loss. Accordingly the transactions involving the C.I.T. notes which gave rise to petitioner's interest *14 expenditures are obviously lacking in economic reality and are not, in my opinion, within the intendment of the statute. Needless to say, contrary to the views expressed by the majority herein, I do not regard anything that was said in the Miles case, supra, as being either inappropriate or unnecessary. In that case the evidence was insufficient to establish whether or not the transactions really occurred, and our opinion was based in part upon the assumption that they did occur and that legally enforcible rights*210 were created. Accordingly, the language criticized was not mere dictum. In Woods v. Interstate Realty Co., 337 U.S. 535, the Supreme Court stated that "where a decision rests on two or more grounds, none can be relegated to the category of obiter dictum." For the reasons discussed above, I respectfully dissent from the opinion of the majority herein, particularly with respect to the C.I.T. note transactions. Pierce, J., dissenting: I respectfully dissent from the Court's conclusions and holdings with respect to the principal issue, wherein it rejected the Commissioner's determination that petitioner is not entitled to the benefit of the interest deduction provision of section 23(b) of the 1939 Code, in connection with his transactions involving the C.I.T. notes and the United States Treasury notes. (1) This case, in my view, is one of major importance in the administration of our Federal income tax system. It presents squarely the question: Whether a taxpayer who is faced with large surtax liabilities under the income tax statutes, may successfully contrive to reduce such potential tax liabilities, at such time or times and by such*211 amounts as he may himself elect, through use of preconceived step-by-step transactions which are not entered into for any business, investment, or personal purpose whatsoever, other than to avoid income taxes; which in themselves are not intended or expected to produce any gain, profit, or income, but rather are expected to produce losses; and from which the only benefit must come from an interplay of the provisions of the tax statutes, and from severing the "costs" and outlays for such transactions from the proceeds thereof, and then deducting such "costs" against the taxpayer's gross income from other sources, to which the anticipated large surtaxes would otherwise be applicable. The nub of such prearranged step-by-step transactions is to make arrangements with banks, at a relatively small "cost" or outlay by the taxpayer, for short-term "loans" aggregating several million dollars, which are rendered practically "risk proof" both to the *15 banks and to the taxpayer, by the following other steps of the preconceived plan: (1) Arrangements are made for the banks to immediately apply the amounts of such loans in payment for certain readily marketable investment notes of exceedingly*212 high quality, which yield little or no interest and are therefore selling at a discount, but which have short-term maturities and will appreciate in value as they approach the early maturity dates; and further (2) for the taxpayer to prepay to the banks the "interest cost" of the loans to their maturities, authorize the banks to retain and apply all interest which may accrue on the securities during the periods of the loans, and also authorize the banks to satisfy the remaining principal out of the proceeds from sale of the securities at the conclusion of the entire transaction. Thus the banks will have on hand at all times, an amount represented by the prepaid interest and the value of the readily marketable high-grade securities, which will aggregate more than 100 per cent of the amounts of the loans. The period of the loans is arranged to extend for at least 6 months, so that capital gain benefits may be claimed by the taxpayer on the proceeds from disposition of the securities. And arrangements also are made for the loans to begin in one taxable year and end in another, so that the prepayments of interest and the receipts from disposition of the securities will not be reportable*213 on any one income tax return of the taxpayer. 1 With these preliminary steps for elimination of risk having been taken care of, little remains to be done, except for the taxpayer to set up the transaction on his income tax returns. In the C.I.T. transaction here involved, petitioner prepaid approximately $ *214 144,000 "interest cost" on loans aggregating $ 8,888,925, for the privilege of picking up appreciation on the pledged securities, in the lesser amount of about $ 107,450. He conceded on cross-examination, that he anticipated suffering an economic loss from the transaction (which mathematically had to be true); and the amount of this loss was about $ 36,500. However, the mechanism by which he expected to convert this loss into a tax advantage, was this: He severed his above-mentioned "interest cost" of the transaction from the anticipated appreciation on the C.I.T. notes, instead of offsetting one against the other to reflect his above-mentioned economic loss; and he then applied such "costs" as a deduction against *16 his gross income from other sources, to which the high surtaxes would otherwise be applicable. Thus, assuming that his surtax rate would otherwise have been about 75 per cent, he estimated that the actual cost to him of the transaction, after receiving the anticipated tax benefits from deduction of the $ 144,000 prepaid "interest," would be only 25 per cent thereof or about $ 36,000. He further anticipated that the $ 107,450 appreciation on the pledged securities*215 would be taxed at the 25 per cent capital gains rate, so he could retain, after taxes, 75 per cent thereof or about $ 80,000. Accordingly, he concluded that from the entire step-by-step transaction, he would, if his plan were successful, not only obtain the valuable tax deduction of about $ 144,000, but also actually make approximately $ 44,000 (being the difference between the $ 80,000 retained after taxes out of the appreciation realized from the securities, and the $ 36,000 representing the "net cost" to him of carrying out the transaction). By repeating this process from time to time, or by increasing the amounts of the "loan" transactions, he could practically "write his own ticket" as to income tax liabilities. He was, in substance, purchasing income tax deductions. The United States Treasury note transaction was of substantially the same character. As to this, petitioner arranged with four banks for loans aggregating $ 5 million which were to bear interest at 3 1/2 per cent to their due date of March 15, 1955, in order to carry 1 1/2 per cent Treasury notes that were to mature on the due date of the loans. It was realized that the net 2 per cent "interest cost" of carrying*216 the transaction to its conclusion would exceed the proceeds to be derived therefrom (the appreciation of the Treasury notes to their maturity); but the benefits were intended to be derived, as in the case of the C.I.T. notes, from deducting the "interest cost" from the petitioner's income from other sources. In this transaction, the petitioner contended that he might have derived an economic gain, if he could have sold the Government notes prior to their maturity and could have obtained a refund from the banks of part of the "interest" which he had prepaid. However, he had no legal right to obtain such an adjustment from the banks, and all four banks refused to terminate the transaction prior to its maturity, without being compensated therefor. Thus, the transaction still produced an economic loss. (2) The record in the instant case clearly establishes that the present transactions were not unique to the petitioner, and that they were not of the same character as those in which he normally engaged. Prior to the trial herein, counsel for both parties represented to this Court on motion, that this was a "key case"; and that it had *17 been selected for trial out of a group of*217 13 cases pending before this Court, in which the taxpayers were represented by the same counsel, and in which there were common issues. Pursuant to the motion, this "key case" was advanced for trial. Petitioner had engaged in financial business for at least 36 years; but he conceded on cross-examination that he had never, prior to the years involved, entered into any transaction involving the type of arrangement here presented. When petitioner was asked how he became aware of this type of transaction, he replied that it was "common talk around Wall Street" -- which tends to indicate that transactions of this character were sufficiently unusual to stimulate discussion even in a major financial center. Other statements of petitioner on cross-examination show that the present transactions were entered into by petitioner following a discussion with a man named Livingstone, who was the architect of similar transactions involved in the "so-called 'Livingstone' cases." 2 Petitioner acknowledged that Livingstone came to his office "a short time prior" to the time when he (petitioner) entered into the present C.I.T. note transactions; and that Livingstone there described to petitioner and*218 his partners the type of transactions involving Treasury notes which he had himself entered into. In addition to petitioner's entering into both the C.I.T. note transactions and the Treasury note transactions here involved, one of petitioner's partners entered into a C.I.T. note transaction, and more than half of the 18 partners of petitioner's firm entered into Treasury note transactions. Thus, the present case is of more widespread importance to the Federal tax system than might appear on first impression. (3) During the past 2 years, a multiplicity of cases involving tax avoidance by use of the interest deduction*219 provisions of section 23(b), have been decided by this and other courts. These include: Eli D. Goodstein, 30 T.C. 1178, affd. 267 F. 2d 127 (C.A. 1); George G. Lynch, 31 T.C. 990, affd. 273 F. 2d 867 (C.A. 2); Leslie Julian, 31 T.C. 998, affirmed sub nom. Lynch v. Commissioner, supra (C.A. 2); Sonnabend v. Commissioner, 267 F. 2d 319 (C.A. 1), affirming T.C. Memo. 1958-178; Egbert J. Miles, 31 T.C. 1001, on appeal (C.A. 2); John Fox, T.C. Memo. 1958-205; and Matthew M. Becker, T.C. Memo. 1959-19. Also, the Court of Claims recently decided a similar case, Broome v. United States, 170 F. Supp. 613, in which that court *18 expressly approved of the views of this Court in the Goodstein case, supra. See also W. Stuart Emmons, 31 T.C. 26, affirmed sub nom. Weller v. Commissioner, 270 F. 2d 294*220 (C.A. 3); and Knetsch v. United States, 272 F. 2d 200 (C.A. 9), certiorari granted 361 U.S. 958, in which the court affirmed the judgment of the District Court in which it was held that the "alleged interest was not interest in fact, but the purchase price of a tax deduction." All these cited cases, though they presented variations of fact, detail, and approach, involved the same basic question here presented. All were decided adversely to the taxpayer. All reflected (to use the phraseology of Justice Cardozo in Burnet v. Wells, 298 U.S. 670) "the Government's endeavor to keep pace with the fertility of invention whereby taxpayers had contrived to * * * be relieved of the attendant [tax] burdens." See also in this connection: Helvering v. Gregory, 69 F. 2d 809 (C.A. 2), affd. 293 U.S. 465; and Helvering v. Clifford, 309 U.S. 331. (4) I believe that it was never intended that the Internal Revenue Code should be employed as a vehicle by which high-income taxpayers might, through transactions*221 like the present, reduce or indeed eliminate their share of the Federal tax burden. The purpose of the Code is to provide the Government with needed revenues through taxation of gains, profits, and income; and it should not be presumed to bear within itself the means for frustrating such purpose. The problem here, as I see it, is not whether, but by what approach, such transactions should be disapproved. I think that this Court, in deciding the present case, placed too much emphasis on the formalisms and labels under which the transactions were conducted; and that it failed to give adequate consideration of the realities of what actually was done, and what objectives were intended to be attained. There is no merit to the suggestion that courts are helpless to deal with such situations; and that, under the separation-of-powers doctrine, relief can be afforded only through action of Congress. Such a suggestion was rejected by the Second Circuit in Helvering v. Gregory, supra, wherein the court said: It is quite true, as the Board has very well said, that as the articulation of a statute increases, the room for interpretation must contract; *222 but the meaning of a sentence may be more than that of the separate words, as a melody is more than the notes, and no degree of particularity can ever obviate recourse to the setting in which all appear, and which all collectively create. * * * Also, in Helvering v. Clifford, supra, the Supreme Court held that the mere fact that Congress, in dealing with a specific section of the statute, had chosen either to provide or not to provide for certain situations to which a "rule of thumb" might be applied, did not render the courts powerless to apply the general intent of the section *19 involved, in other situations for which Congress had not specifically provided. Hence the maxim of "Inclusio unius est exclusio alterius," upon which the majority of this Court has so heavily relied, is not applicable. (5) There would appear to be several avenues available for judicial approach to the present problem. One approach would be to hold that allowance of the claimed deductions under section 23(b) would violate the spirit and intent of the statute. In Holy Trinity Church v. United States, 143 U.S. 457, the *223 Supreme Court said: It is a familiar rule, that a thing may be within the letter of the statute and yet not within the statute, because not within its spirit, nor within the intention of its makers. This has been often asserted, and the reports are full of cases illustrating its application. This is not the substitution of the will of the judge for that of the legislator, for frequently words of general meaning are used in a statute, words broad enough to include an act in question, and yet a consideration of the whole legislation, or of the circumstances surrounding its enactment, or of the absurd results which follow from giving such broad meaning to the words, makes it unreasonable to believe that the legislator intended to include the particular act. * * * [Emphasis supplied.] Another approach would be to regard the present transactions as mere shams, as was done in Eli D. Goodstein, supra, and the other cases hereinabove cited in connection therewith. Apposite to this approach is the following statement of the Supreme Court in Gregory v. Helvering, 293 U.S. 465: The rule which excludes from consideration the motive of *224 tax avoidance is not pertinent to the situation, because the transaction upon its face lies outside the plain intent of the statute. To hold otherwise would be to exalt artifice above reality and to deprive the statutory provision in question of all serious purpose. A third approach would be to treat petitioner's "interest" payments (which were his only outlay toward attaining his objective through the step-by-step transactions) as his "cost" of picking up the appreciation on the securities which he employed, and then offsetting such costs against his proceeds, in order to truly reflect the income or loss from the transaction as a whole. The fact that an item has been labeled "interest," even when all formalities have been meticulously observed, is not conclusive as to the item's true character. Emanuel N. (Manny) Kolkey, 27 T.C. 37, affd. 254 F. 2d 51 (C.A. 7). I deem it unnecessary in this dissenting opinion, either to select or to develop the one solution which would be most appropriate. It seems sufficient to state respectfully, that of all the possible solutions, the one which in my view most clearly appears to be wrong, *225 is that of approving the claimed deductions. I would have approved the determinations of the Commissioner. Footnotes 1. Statements in dissents hereto that Livingstone had something to do with this case are improper inferences from Stanton's testimony which I alone heard.↩ 1. Petitioner's failure to take the trouble to reduce to writing his agreements with the banks, or even to inquire as to their practice, indicates to me a lack of interest inconsistent with an operation having economic reality.↩ 1. Another feature of petitioner's C.I.T. transaction was his arrangement to "sell" the notes on dates which ranged from 4 to 6 days prior to the notes' maturities. It is obvious that few assignees, other than brokers interested in handling charges, would pay out approximately $ 9 million merely to receive less than 6 days' appreciation on the notes (which this Court, under the other issue of this case, has held to be ordinary income). Such transparent attempt to convert ordinary income into capital gain, is substantially the same device which was employed in the recent case of Commissioner v. Phillips, 275 F. 2d 33 (C.A. 4), reversing 30 T.C. 866↩. 2. This nickname of "Livingstone cases" was employed in petitioner's brief; and it has reference to such cases as the Goodstein, Lynch, Julian, Sonnabend, Broome, Miles, Fox, and Becker↩ cases, which are hereinafter mentioned. The nickname arises from the fact that in all these cases, the tax avoidance plans involved were developed by M. Eli Livingstone, whose activities are described in said cases.