Ostenberg v. Commissioner

HARVEY H. OSTENBERG AND WILLIAM H. OSTENBERG, JR., ADMINISTRATORS, ESTATE OF W. H. OSTENBERG, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. HENRY HAUBENS, EXECUTOR, ESTATE OF HERMAN REINBOLD, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Ostenberg v. Commissioner Docket Nos. 19306, 34015, 11418. United States Board of Tax Appeals 17 B.T.A. 738; 1929 BTA LEXIS 2256; September 30, 1929, Promulgated *2256 1. The basis for computing allowances for the depletion of certain mineral claims determined. 2. The petitioner, Ostenberg, held, to have been regularly engaged in a trade or business during the years 1921 to 1923, inclusive, within the meaning of section 204 of the Revenue Act of 1921, and to be entitled to the benefits of that section. George E. H. Goodner, Esq., for the petitioner. Orris Bennett, Esq., and Hartford Allen, Esq., for the respondent. MARQUETTE *738 These proceedings, which were duly consolidated for hearing and decision, are for the redetermination of deficiencies in income tax asserted by the respondent as follows: Year W. H. Ostenberg Year Herman Reinbold [1919] $765.80 [1919] $11,662.51 [1920] 5,794.29 [1920] 2,892.95 [1923] 792.85 The respondent also determined an overassessment in the amount of $764.94 for 1921 in the case of Herman Reinbold. The pleadings raise a number of issues but at the hearing some of them were abandoned, so that the issues to be determined are: (1) Whether the respondent allowed to Ostenberg and Reinbold, in the years 1919 and 1920, adequate deductions for*2257 depletion of their respective interests in a certain potash deposit known as Jesse Lake; (2) whether the respondent erred in denying as deductions to Reinbold alleged losses upon the abandonment of certain mining claims in 1919 and 1920; (3) the proper amounts to be included in the income of Ostenberg for 1920 as dividends from the Refinite Co.; and (4) whether a net loss for prior years should be credited against Ostenberg's income for 1923. FINDINGS OF FACT. The petitioner, W. H. Ostenberg, is an individual residing at Chicago, Ill., and he has been a resident of that city for the past three years. Prior to his locating in Chicago he had been a resident of Omaha, Nebr., for about 20 years. During the years 1919 to 1923, inclusive, he was, and he had been for many years, a capitalist *739 and an investor of money on a large scale. His investments covered a wide range of businesses, such as banks, lauindries, farms, livestock, mining, oil, and water-softening devices, and included the stocks and bonds of many corporations. He did not devote all of his time to any one of the enterprises in which he invested, but divided his time among them in order to look after his*2258 interests, and all of his transactions were entered into for profit, and they constituted his business and the source of his income. He kept his books of account and made his returns of income on the basis of cash receipts and disbursements. The petitioner, Henry Haubens, is the duly appointed, qualified, and acting executor of the last will and testament of Herman Reinbold, who died in October, 1927, a resident of Douglas County, Nebr. In August, 1914, eight individuals, to wit, Carl Modesitt, C. B. Modesitt, Victor I. Jeep, Chris Jeep, R. M. Show, John H. Show, T. E. Stevens and B. C. Stevens, filed on 150 acres of Jesse Lake, an alkali lake situated in Sheridan County, Nebraska, under the placer mining laws of the United States. Chemical analyses of the brine from the lake had shown that it contained a large proportion of potash, and when the World War broke out and cut off the importation of potash into the United States from Europe, the lake became very valuable. Not having sufficient funds to exploit Jesse Lake, the eight locators above mentioned sought outside financial assistance. Their efforts resulted in an agreement between themselves and three other persons, *2259 to wit, William A. Redick and W. H. Ostenberg and Herman Reinbold, the petitioners herein, which provided for the organization of a corporation with a capital stock of $50,000, to carry on the business of extracting potash from Jesse Lake. One-third of the stock was to be issued to Redick, Ostenberg, and Reinbold in equal shares, in consideration of their advancing to the corporation as much as $30,000 as and when needed, of which $10,000 was to be paid forthwith. The other two-thirds of the capital stock of the corporation was to be issued to the eight locators of Jesse Lake in consideration of their conveying to the corporation their mineral rights and claims and the other property on the claims. Pursuant to said agreement a corporation known as the Potash Products Co. was organized, and at the first meeting of the stockholders thereof, held on March 20, 1915, a resolution was adopted as shown by the following minutes of said meeting: OMAHA, NEBRASKA, March 20, 1915. The first meeting of the stockholders of the Potash Products Company, met at the office of the company, 712 Omaha National Bank Bldg., this day at 2 o'clock, P.M. *740 On motion, T. E. Stevens*2260 was elected chairman and J. H. Show, secretary of the stockholders meeting. 350 shares of stock was represented at the meeting in person as follows: Shares W. A. Redick 55 5/9 W. H. Ostenberg 55 5/9 Herman Reinbold 55 5/9 J. H. Show 83 3/9 T. E. Stevens [100] Proposed Articles of Incorporation were read and on motion were adopted as the Articles of this corporation. It was moved and seconded that we now proceed to the election of a board of five directors to serve until the next annual meeting and until their successors are elected and qualified. Carried. W. A. Redick, J. H. Show, W. H. Ostenberg, Herman Reinbold and T. E. Stevens were nominated for directors. There being no other nominations the secretary was instructed, on motion, to cast the ballot of the stockholders for the five persons nominated for directors. The Secretary cast the ballot and the five persons nominated were declared elected. On motion of W. A. Redick, and seocnded by W. H. Ostenberg, the board of directors were instructed to take over from J. H. Show, T. E. Stevens, Carl L. Modesitt and Victor I. Jeep, the leases and mining claims controlled by them as-well as all personal*2261 property on said leases and claims, and in lieu thereof to issue to said parties two-thirds of the capital stock of this corporation, this being the agreed value of said property. The motion was carried by unanimous vote. No other business coming before the stockholder's meeting, it on motion adjourned. WM. A. REDICK, Secretary. T. E. STEVENS Chairman. No written conveyance of the mineral rights mentioned was ever made by the eight locators thereof to the Potash Products Co. However, the capital stock of the Potash Products Co. was issued according to the agreement above mentioned and it took possession of Jesse Lake, installed pumps, pipe lines and machinery, and proceeded to extract the potash salts from the lake and to sell them. Redick, Ostenberg and Reinbold paid to the corporation $10,000, $3,333.33 each, according to the terms of their agreement with the eight locators and received one-third of the capital stock of the corporation, but profits from the lake came in so rapidly that no more funds were needed from them, and their advances were repaid before the end of 1915. The Potash Products Co. exercised all the rights of ownership to Jesse Lake*2262 and distributed the profits of the dry salts derived therefrom as dividends to its stockholders in proportion to their stock holdings. The amounts so distributed were reported as income from dividends by the stockholders in their income-tax returns. The corporation*741 did not pay any rents or royalties for the mineral claims on Jesse Lake or the salts it extracted therefrom. By the end of the year 1915 the demand for potash had become so great that there was an influx of prospectors to western Nebraska hunting a source or supply of potash. Three of the stockholders of the Potash Products Co. who were employed at the plant, fearing that the title to Jesse Lake might be questioned because no written transfer had been made to the corporation, proceeded to make a relocation of Jesse Lake in the name of the Potash Products Co. and to file notice thereof in the office of the County Clerk of Sheridan County, Nebraska, on April 3, 1916. Said notice was as follows: Notice of Amended Location. Jesse Placer. KNOW ALL MEN BY THESE PRESENTS: That the undersigned corporation, duly organized under the laws of the State of Nebraska, having purchased that certain placer*2263 mining claim heretofore located and duly recorded in the office of the clerk of Sheridan County in Book "F" of Misc. records, at page 226, and being desirous of making a compliance with the Revised Statutes of the United States, to-wit, Chapter VI, Title 32, and with local customs and regulations; makes this amended location of said mining claim, waiving no rights acquired under and by virtue of said former location, but expressly reserving the same. Now, therefore, notice is hereby given that the undersigned claims by right of discovery, purchase and this amended location 150 acres of placer mining ground bearing potash and soda in solution and other minerals valuable in the arts and commerce, said claim being described by metes and bounds as follows: Beginning at the NW cor of SW 1//4 Sec. 25, T 25 N R W 6th P M for Cor No. 1 and running thence east 1980 feet to Cor No 2; thence South 3300 feet to Cor No 3; West 1980 feet to Cor No. 4; thence North 3300 feet to Cor No 1, to place of beginning and place where this notice is posted. Said Jesse Placer embraces the following legal subdivisions, according to Government survey: *2264 SW 1//4, W 1//4, NW 1//4, W 1///4, N 1///4, and NW 1///4, of Sec. 25, T 25, N.R. 46 W., 6th P M in Sheridan County, Nebraska. This amended location was made this 16th day of March, A.D. 1916, and dated on the ground. POTASH PRODUCTS CO. (By J. H. SHOW, Genl. Mgr. ) On August 15, 1917, the Potash Products Co. was dissolved and all of its property and assets passed to its stockholders, but no written conveyance was made of the mineral rights to Jesse Lake. Almost immediately thereafter the former stockholders of the Potash Products Co. organized another corporation, known as the Potash Reduction Co., of which they became stockholders and to which they proceeded to lease the Jesse Lake mineral claims on a royalty basis, each stockholder executing a separate lease of his undivided interest in *742 the claims, but all of the leases being identical as to terms and conditions. Said leases, except as to names and the amounts, were as follows: This agreement made and entered into this 20th day of August, *2265 1917, by and between Potash Reduction Company, party of the first part, and Wm. A. Redick, party of the second part, witnesseth: - that Whereas the said Wm. A. Redick is the owner of a fifty-five and one-half five hundreths, 155 1/2/500 undivided interest in certain mining claims, lands and leases upon which is located Jesse Lake, so called, and whereas there are held in solution in the waters of said lake Potash and other minerals which the party of the second part is desirous of recovering and whereas the party of the first part is the owner of a plant adapted to the purposes of recovering said minerals, now, therefore, it is mutually agreed by and between the respective parties hereto that the party of the second part hereby agrees to sell to the party of the first part the brine and mineral therein contained in said Jesse Lake at the price of $4.00 per unit K20. The party of the first part hereby agrees to take the water from said lake and purchase said brine and minerals and pay therefor at the rate of $4.00 per unit K20, settlements to be made monthly by the tenth day of each month. This contract shall remain in force for the period of sixty days and continue in force*2266 thereafter unless terminated by either party by thiry days' notice in writing. Witness our hands this 20th day of August, 1917. Witness: POTASH REDUCTION CO., T. E. STEVENS, President. WM. A. REDICK, Secretary. The leases executed by Ostenberg and Reinbold, each covered a one-ninth undivided interest in the Jesse Lake mineral claims. The Potash Reduction Co. thereafter operated said mineral claims and the plant located thereon, and paid the lessors the royalties provided in said leases. These royalties were taken as deductions in the returns of income made by the Potash Reduction Co. and were reported as income from royalties by the lessors. The recoverable tonnage of dry salts in the Jesse Lake mineral claims on March 20, 1915, was 106,110 tons, and 78,119 tons on August 15, 1917. The production of dry salts subsequent to March 20, 1915, was as follows: Tons 3/20/1915 to 8/15/1917 27,991.00 8/15/1917 to 12/31/1917 9,498.88 [1918] 42,684.04 [1919] 5,461.12 [1920] 20,949.63 [1921] 898.11 The Potash Reduction Co. ceased operations in 1921. No patent was ever obtained to the Jesse Lake mineral claims, but the necessary assessment*2267 work was done each year in order to hold the claimant's rights. *743 The fair market value of the Jesse Lake mineral claims on August 15, 1917, was $5,000,000. W. H. Ostenberg and Herman Reinbold each owned an undivided one-ninth interest therein. The respondent determined that Ostenberg and Reinbold acquired their respective one-ninth interest in the Jesse Lake mineral claims on March 20, 1915, at a cost of $3,333.33 each, and that the total value of said claims was $30,000 at that time, and he allowed Ostenberg and Reinbold depletion deductions in respect of their one-ninth interests based on a total value of $30,000 for said claims and a total recoverable tonnage of 106,110 tons of dry salts. On December 31, 1919, the Refinite Co., of which the petitioner Ostenberg was a stockholder, drew a dividend check payable to him in the amount of $295.12. This check was cashed by Ostenberg on January 8, 1920. On December 31, 1920, the Refinite Co. drew a dividend check payable to Ostenberg in the amount of $1,132.50. He cashed it on March 10, 1921. This check was signed by Ostenberg as treasurer of the Refinite Co. He included the amount of the check of December 31, 1919, in*2268 his income for 1919 and the amount of the check of December 31, 1920, in his income for 1920. The petitioner, Ostenberg, for the year 1922, sustained a loss of $69,194.28 from his business, but the respondent did not apply said net loss against the petitioner's income for 1923. OPINION. MARQUETTE: The first question by which we are confronted in this proceeding, is what is the proper basis for computing the allowances to which Ostenberg and Reinbold were entitled for depletion of their respective interests in the mineral claim known as Jesse Lake? The respondent concedes that Jesse Lake had a total recoverable tonnage of 106,110 tons of dry salts on March 20, 1915, and the evidence shows that it had a recoverable tonnage of 78,119 tons on August 15, 1917. Also, it appears to be not disputed that Ostenberg and Reinbold each owned a one-ninth interest in Jesse Lake. It is contended on behalf of Ostenberg and Reinbold that they acquired their interest on August 15, 1917, upon the dissolution of the Potash Products Co. and that the entire claim had a fair market value of at least $5,000,000 on that date, while the respondent contends that they acquired their interest in 1915*2269 for $3,333.33, each, and that their allowances for depletion should be computed on the basis of that cost. We are unable to find from the record any ground for holding that Ostenberg and Reinbold acquired any interest in the mineral claim in question in the year 1915. They acquired nothing at that time as far as we can find except stock in the Potash Products Co. *744 It seems clear that if they ever acquired any interest in the claim, they did so in 1917 when the Potash Products Co. was dissolved. But the respondent urges that no conveyance was ever made to the Potash Products Co. by the eight locators and therefore the company never held title thereto. In the light of the evidence we are of opinion that the respondent's position is untenable. The evidence shows that the eight locators, on the one hand, and Ostenberg, Reinbold, and Redick on the other, entered into an agreement that a corporation would be formed, to which Ostenberg, Reinbold, and Redick would advance from $10,000 to $30,000; that the eight locators would convey their mineral claim to the corporation and that the corporation's stock would be divided, two-thirds to the eight locators and one-third to*2270 Ostenberg, Reinbold, and Redick. Ostenberg, Reinbold, and Redick performed their part of the contract and the Potash Products Co. was formed and one-third of the stock thereof was issued to Ostenberg, Reinbold, and Redick according to the agreement. The minutes of the corporation show that on March 20, 1915, a resolution was adopted authorizing the purchase of said mineral claim from said locators in consideration of the issuance to them of two-thirds of the corporation's stock. The stock was issued according to the resolution and the corporation entered into possession of and operated the claim. It would seem that under the circumstances, the corporation having paid for the claim and having been put in possession thereof, a court of equity would decree conveyance of the legal title if it were necessary. However, under the law as we interpret it, a written conveyance was not necessary. In , it is stated that "mining claims are property in the fullest sense of the word, and may be sold, transferred, mortgaged and inherited without infringing the title of the United States, and when a location is perfected, it has the effect of*2271 a grant by the United States of the right of present and exclusive possession." See, also, ; ; . And in , it was held that a written conveyance is not necessary to the transfer of a mining claim. In that case Mr. Justice Strong, delivering the opinion of the court, said: The ownership of Wood in 1862 was an ultimate fact, and even if Taylor had no other right to the possession than that which he derived from Wood, by conveyance, it was not necessary to set forth the chain of conveyance by which Wood became the owner. A transfer of possession is sufficient. They would have been but evidence of Wood's ownership. Besides, a written conveyance is not necessary to the transfer of a mining claim. . *745 We are of opinion that the Potash Products Co. became the owner of the Jesse Lake mineral claim in 1915 and that upon the dissolution of that company in 1917 the claim, together with the other assets, *2272 passed to the stockholders of the company in proportion to their respective stockholdings. It follows that Ostenberg and Reinbold each acquired a one-ninth interest in the claim in August, 1917. Having decided that Ostenberg and Reinbold acquired their interest in Jesse Lake on August 15, 1917, we must next ascertain the fair market value of the claim at that time. On this point we do not deem an extended discussion of the testimony necessary. It is sufficient to say that the testimony shows that in August, 1917, Jesse Lake was one of the principal sources of potash within the United States; that the importation of potash into the United States from Europe was at that time cut off by the World War, and that due to these conditions Jesse Lake had a fair market value of at least $5,000,000. It is true that conditions in August, 1917, were abnormal, but we must determine the value of the property under the conditions as they then existed, not at some other date. The allowances of Ostenberg and Reinbold for depletion of their respective one-ninth interests in Jesse Lake will be computed on the basis of $5,000,000 for the entire claim on August 15, 1917, and a total recoverable*2273 tonnage of 78,119 tons of dry salts. The petitioner, Ostenberg, claims that he did not receive payment on the dividend check of December 31, 1919, until some time in 1920 and did not receive payment on the dividend check of December 31, 1920, until the year 1921, and that the amount of the check of December 31, 1919, should be included in income for 1920 and the amount of the check of December 31, 1920, included in income for 1921. On this point the evidence shows that the checks in question were drawn on December 31, 1919, and December 31, 1920, respectively, but it fails to show that they were not delivered to Ostenberg on those dates, or that they could not have been cashed at that time if presented for payment. Ostenberg's testimony as to the transactions, is, "At that time the larger stockholders, like Mr. Stevens, Judge Redick, Frank Woods, Ed. Bauman of West Point, and myself, held our checks for the simple reason that the Refinite Company was close run owing to a lawsuit that had started against it, and we held ours over until we made some collections later on and cashed in." In the absence of any showing that the checks were not received or could not have been cashed*2274 by the petitioner Ostenberg in the years in which they were drawn, we are of opinion that the amount of the check of December 31, 1919, must be considered income for the year 1919, and the amount of the check of December 31, 1920, income for the year 1920. *746 The next question is whether or not the petitioner, Ostenberg, in computing his net income for 1923, is entitled to the benefits of section 204(a) and (b) of the Revenue Act of 1921, which provides as follows: SEC. 204. (a) That as used in this section the term "net loss" means only net losses resulting from the operation of any trade or business regularly carried on by the taxpayer (including losses sustained from the same or other disposition of real estate, machinery, and other capital assets, used in the conduct of such trade or business); and when so resulting means the excess of the deductions allowed by section 214 or 234, as the case may be, over the sum of the following: (1) the gross income of the taxpayer for the taxable year; (2) the amount by which the interest received free from taxation under this title exceeds so much of the interest paid or accrued with the taxable year on indebtedness as is not*2275 permitted to be deducted by paragraph (2) of subdivision (a) of section 214 or by paragraph (2) of subdivision (a) of section 234; (3) the amount by which the deductible losses not sustained in such trade or business exceed the taxable gains or profits not derived from such trade or business; (4) amounts received as dividends and allowed as a deduction under paragraph (6) of subdivision (a) of section 234, and (5) so much of the depletion deduction allowed with respect to any mine, oil or gas well as is based upon discovery value in lieu of cost. (b) If for any taxable year beginning after December 31, 1920, it appears upon the production of evidence satisfactory to the Commissioner that any taxpayer has sustained a net loss, the amount thereof shall be deducted from the net income of the taxpayer for the succeeding taxable year; and if such net loss is in excess of the net income for such succeeding taxable year, the amount of such excess shall be allowed as a deduction in computing the net income for the next succeeding taxable year; the deduction in all cases to be made under regulations prescribed by the Commissioner with the approval of the Secretary. It appears from the*2276 evidence that Ostenberg was a capitalist and an investor on a large scale. He invested in stocks and bonds and in various enterprises which showed a prospect of profit. Such investing and connections with the various enterprises in which he was interested constituted the only business he had, the source of his income, and his means of livelihood. In , this Board said: What constitutes a business has previously been considered in a number of cases. In , we approved definitions of "business" which we will repeat here: "'Business' is a very comprehensive term and embraces everything about which a person can be employed, Black's Law Dict. citing People ex . That which occupies the time, attention and labor of men for the purpose of a livelihood or profit. 1 Bouvier's Law Dict. p. 273. Approved in ; ." There is no dispute between the parties as to the amount of loss to be taken, if any amount is to be*2277 used as a net loss. *747 We are of opinion that during the years 1921 to 1923, inclusive. Ostenberg was regularly engaged in carrying on a trade or business, within the meaning of section 204(a) of the Revenue Act of 1921, and that in computing his net income for 1923 he is entitled to the benefits of section 204(b) of that Act. The petitioner in the case of the estate of Herman Reinbold alleges that the respondent erred in denying to Reinbold deductions for losses claimed to have been sustained upon the abandonment of certain mining claims in 1919 and 1920. No competent evidence was produced in support of this allegation, and on this point the respondent's determination is approved. The respondent determined an overassessment in the case of Reinbold in the amount of $764.94 for the year 1921, and the petition alleges that the tax for that year is in controversy. The record does not show that the overassessment arises from the disallowance in whole or in part of any claim for abatement, and we therefore have no jurisdiction over the case of Reinbold in so far as it relates to the year 1921 (*2278 ), and counsel for the petitioners so conceded at the hearing. Reviewed by the Board. Judgment will be entered under Rule 50. SMITH SMITH, dissenting: The basis for depletion laid down in section 214(a)(10) of the Revenue Act of 1918 is: In the case of mines, oil and gas wells, other natural deposits, and timber, a reasonable allowance for depletion and for depreciation of improvements, according to the peculiar conditions in each case, based upon cost including cost of development not otherwise deducted: * * *. What was the cost to Ostenberg and Reinbold of their interests in the Jesse Lake mineral deposit? The findings of fact show that each of these individuals originally advanced $3,333.33 for one-third of the capital stock of the Potash Products Co. These amounts were not paid for capital stock, but were simply loans to the corporation in consideration of which they received the shares of stock. The loans were repaid to them in 1915. They never invested a dollar additional for any interests either in the acquisition of shares of stock of the company or for their interests in the mineral claims. *2279 There is no evidence that there was paid to them upon the dissolution of the corporation as a liquidating divided a one-ninth interest in the claims found to have a value at that time of $5,000,000. The amount of the allowance for depreciation (also depletion) is the sum which should be set aside for the taxable year, in order that, at the end of *748 the useful life of the plant in the business, the aggregate sums set aside will (with the salvage value) suffice to provide an amount equal to the original cost. (.) Since Ostenberg and Reinbold had no investment in their interests in the Jesse Lake mineral claims, I am at a loss to understand the basis for allowing them any deduction for depletion. The findings of fact show that Ostenberg was an investor in the stocks and bonds of numerous corporations. Section 204 of the Revenue Act of 1921 defines a net loss as one resulting "from the operation of any trade or business." In my opinion the findings do not warrant a conclusion that Ostenberg was engaged in the "operation" of any trade or business. There is no finding that there was any establishment or office*2280 in which any trade or business was carried on by Ostenberg. In my opinion an investor in stocks and bonds of corporations for profit for himself is not entitled to the benefits of section 204 of the applicable taxing Act, and I do not see how this case can be differentiated from the case of the ordinary investor.