Brackett v. Commissioner

MINNIE C. BRACKETT, ADMINISTRATRIX, ESTATE OF CHARLES H. BRACKETT, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. C. W. RAY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Brackett v. Commissioner Docket Nos. 29845, 29847. United States Board of Tax Appeals 19 B.T.A. 1154; 1930 BTA LEXIS 2250; May 27, 1930, Promulgated *2250 1. Three individuals transferred to a newly organized corporation certain assets, in payment for which they received the corporation's check, which they immediately endorsed and turned back to the corporation in payment for its capital stock. Held that the transaction was a sale resulting in a profit at the time the check was received. 2. Where the petitioner contends that the respondent's determination of a deficiency is erroneous for the reason that the amount of such deficiency was paid pursuant to a bill from the collector of internal revenue prior to the mailing of the notice of deficiency and this is denied by the respondent and no evidence is introduced or offered, the contention will be denied. A. E. James, Esq., and Harry A. Fellows, Esq., for the petitioners. Arthur Fast, Esq., and H. D. Thomas, Esq., for the respondent. TRAMMELL *1155 These proceedings, which were consolidated for hearing and decision, are for the redetermination of deficiencies in income tax as follows: Docket Year Deficiency No. Estate of Charles H. Brackett 29845 [1921] $2,979.11 [1924] 7.04 C. W. Ray 29847 [1921] 2,845.62 *2251 The issue with respect to 1921 in both cases is whether Charles H. Brackett and C. W. Ray realized a taxable gain in 1921 upon the transfer of certain assets to the Hoosier Casualty Co. The respondent has determined that each received taxable income in the amount of $14,000, while the petitioners contend that the transaction was nontaxable under section 202(c)(3) of the Revenue Act of 1921. The issue with respect to 1924 in the case of the estate of Charles H. Brackett is whether the deficiency has been paid. FINDINGS OF FACT. Prior to 1921 Charles H. Brackett, C. W. Ray, and W. H. Latta were associated in the insurance business. In the latter part of December, 1920, they organized under the laws of Indiana the Hoosier Casualty Co., a stock company, for the purpose of carrying on a health, accident and automobile insurance business. It was contemplated that the new company would be organized out of the Hoosier Casualty Co., a mutual company, and the United Automobile Insurance Association. The plan of organization contemplated by Brackett, Ray, and Latta was for the Hoosier Casualty Co., hereinafter referred to as the new company, to begin business with a paid-in capital*2252 of $50,000 and thereafter increase the amount to $100,000 by transferring to the new company the assets of the United Automobile Insurance Association. In pursuance of this plan the three individuals gave to the Indiana National Bank, Indianapolis, Ind., their 90-day note dated December 22, 1920, for $50,000 and deposited the proceeds thereof to the credit of the new company. None of the capital stock of the new company was issued in 1920. Previous to this time and on January 5, 1920, Brackett, Ray, and Latta had acquired at a cost of $8,000, shared equally between them, the assets of an organization known as the United Automobile Insurance Agency. The plan of organization also contemplated that the assets of this organization would be transferred to the new company. On January 19, 1921, the directors of the new company adopted a resolution accepting the proposal from Brackett, Ray, and Latta *1156 whereby they offered for the sum of $50,000 cash to cause to be assigned and transferred to the company all the outstanding automobile insurance business of the United Automobile Insurance Association excepting only its liability risks and with the same to cause to be paid*2253 to the company $16,050 from the said association and to be transferred to the new company $3,950 par value of United States Government bonds and to cause to be transferred to the new company all the good will, agency force and pending business of said association and also to cause to be transferred to the new company $5,600 in cash, notes and accounts from the United Automobile Insurance Agency. The resolution also directed the payment of $50,000 in cash to Brackett, Ray, and Latta. With respect to the above mentioned resolution of January 19, 1921, the minutes of a special meeting of the board of directors of the new company held on September 23, 1922, provide: On motion the following resolution was unanimously adopted: Whereas the minutes of the Directors of this Company at a meeting held on the 19th day of January 1921 contained the following language: The following resolution was moved, seconded, and put to vote and unanimously carried towit: Whereas C. H. Brackett, C. W. Ray, W. H. Latta do now offer for the sum of $50,000.00 cash to cause to assign and transfer to this company all the outstanding automobile insurance business of the United Auto Insurance Association, *2254 except only its liability risks and with the same to cause to be paid to The Hoosier Casualty Company $16,050.00 from the United Auto Insurance Association, and also to be transferred to the Hoosier Casualty Company $3950.00 par value in bonds of the United States Government and also to be paid and transferred to the Hoosier Casualty Company $5600.00 in cash, notes and accounts from the United Auto Agency Company, and also to cause to be transferred to the Hoosier Casualty Company all the good will, agency force, and pending business of the United Auto Insurance Association. Now, therefore, the Board of Directors of the Hoosier Casualty Company do hereby order and direct that said offer be accepted and this company to assume and take over all such business as a going business in its present condition except only the liability risks of said association and receive said money and assets and pay to C. H. Brackett, C. W. Ray and W. H. Latta the sum of $50,000.00 in cash therefor, all as of this date. And whereas, in fact such minutes are in said respect erroneous and incorrect and do not describe the transaction exactly as it was then understood and approved by the Directors and*2255 actually thereafter carried out. Be it resolved that the minutes of said meeting in so far as the above language is concerned be corrected to read as follows: Whereas, C. H. Brackett, C. W. Ray and W. H. Latta, do not offer for the sum of $57,000.00, $50,000.00 of which is to be now paid in cash to cause to be assigned and transferred to this company all the outstanding automobile insurance business of the United Auto Insurance Association, excepting only its liability risks and with the same to cause to be paid to the Hoosier Casualty Company $16,050.00 from the United Auto Insurance Association and also to be transferred to the Hoosier Casualty Company $3,950.00 par value in bonds of *1157 the United States Government and also be paid and transferred to the Hoosier Casualty Company $7,715.35 in cash, notes and accounts from the United Auto Agency Company and also to cause to be transferred to the Hoosier Casualty Company all the good will, agency force and pending business of the United Auto Insurance Association. Now therefore, the Board of Directors of the Hoosier Casualty Company hereby order and direct that said offer be accepted and that this company do assume*2256 and take over all such business as a going business in its present condition except only the liability risks on said association and receive said money and assets and pay to C. H. Brackett, C. W. Ray and W. H. Latta the sum of $57,000.00, $50,000.00 of which shall be paid at this time in cash, all as of this date. Pursuant to the resolution of January 19, 1921, a check for $50,000 dated January 19, 1921, and payable to Charles H. Brackett, C. W. Ray, and W. H. Latta was drawn by the new company on its account in the Indiana National Bank. The check was then endorsed by the three parties, turned back to the new company, and deposited in the Indiana National Bank to the credit of the new company by Ray, who was its secretary-treasurer. This check was part of a total deposit of $101,000.40 made to the credit of the new company on January 19, 1921. After giving effect to the check both as a withdrawal of funds and as a deposit, the balance of the account of the new company in the Indiana National Bank at the close of January 19, 1921, was $76,000.40. On January 19, 1921, 2,000 shares of the capital stock of the new company were issued as follows: Certificate Issued to - Number of No. shares [1] Charles H. Brackett [2] Minnie C. Brackett [3] C. W. Ray [4] Minnie Ray [5] W. H. Latta [6] Carrie H. Latta [7] V. M. Ray [8] F. R. Wrege [9] B. M. Belser [10] Total 2,000 *2257 Minnie C. Brackett, Minnie Ray, and Carrie H. Latta were the wives of the respective parties. The shares issued to Carrie H. Latta were issued to her at the request of her husband. V. M. Ray was the son of C. W. Ray, and F. R. Wrege and B. M. Belser were employees of the company. The 50 shares represented by certificates No. 7, 8, and 9 were gifts to employees of the company by Brackett, C. W. Ray, and Latta. Subsequently, on February 19, 1921, a dividend of $25 net per share was declared and paid on the outstanding stock of the new company. The checks issued in payment of the dividend were endorsed by the recipients and delivered to C. W. Ray, who deposited them in his personal account at the Indiana National Bank and with his personal *1158 check paid the note of December 22, 1920, which he, Brackett, and Latta had given the Indiana National Bank for the original $50,000 invested in the new company. This completed the acquisition of the stock of the new company by Brackett, Latta, and C. W. Ray and the payment therefor. Carrie H. Latta, the recipient of certificate No. 6 for 649 shares, contributed nothing out of her own funds toward the acquisition of any of*2258 the assets of the new company and took no part in the proceedings of the company except to attend certain meetings of the stockholders when it was desired to have all the stockholders present. She never voted the stock in opposition to the desire of her husband and at some time prior to her death (she having subsequently died) endorsed the certificate for the stock. The dividend of $25 per share paid on the stock issued to her and her husband and amounting to $16,250 was reported in a joint income-tax return filed by Latta for 1921. Neither Brackett nor Ray reported in his income-tax return for 1921 any income from the transaction by which the assets of the United Automobile Insurance Agency were transferred to the new company. In determining the deficiencies here involved for 1921 the respondent increased the income reported by each by $14,000. This amount he computed by taking the difference between one-third of the $50,000 representing the amount received from the new company and one-third of the $8,000 representing the cost to each of the assets of the United Automobile Insurance Agency. OPINION. TRAMMELL: The respondent has determined the deficiencies for 1921 upon*2259 the ground that Brackett and Ray each received $16,666.67 in cash from the new company upon the sale to it of an interest in the assets of the United Automobile Insurance Agency, which interest cost each in 1920 only $2,666.67. The petitioners contend that Brackett and Ray did not sell their interests in the property to the new company for cash, but exchanged them for shares of capital stock in the new company, and that the transaction was an exchange within the meaning of section 202(c)(3) of the Revenue Act of 1921, the material part of which is as follows: For the purposes of this title, on an exchange of property, real, personal or mixed, for any other such property, no gain or loss shall be recognized unless the property received in exchange has a readily realizable market value; but even if the property received in exchange has a readily realizable market value, no gain or loss shall be recognized - * * * When (A) a person transfers any property, real, personal or mixed, to a corporation, and immediately after the transfer is in control of such corporation, or (B) two or more persons transfer any such prroperty to a corporation, *1159 and immediately after the transfer*2260 are in control of such corporation, and the amounts of stock, securities, or both, received by such persons are in substantially the same proportion as their interests in the property before such transfer. For the purposes of this paragraph, a person is, or two or more persons are, "in control" of a corporation when owning at least 80 per centum of the voting stock and at least 80 per centum of the total number of shares of all other classes of stock of the corporation. While it is not clear from the record what was the cost, if any, to Brackett, Ray, and Latta of the assets of the United Automobile Insurance Association which, in addition to those of the United Automobile Insurance Agency, were transferred to the new company for $50,000, counsel for the petitioners admitted at the hearing that if the gain from the transaction is taxable, the amount of such gain, so far as Brackett and Ray, the petitioners in this proceeding, were concerned, is $14,000 each, the amount determined by the respondent. This leaves for consideration only the question of whether the transaction was a sale or an exchange. The resolution of January 19, 1921, of the board of directors of the new company, *2261 composed entirely of Brackett, Ray, and Latta, and in pursuance of which the assets were transferred and the check of $50,000 was issued, indicates so far as the corporation was concerned that the transaction was a sale. Nor is there anything to indicate otherwise in the resolution of September 23, 1922, which was adopted at a meeting of the board of directors at which Brackett, Ray, and Latta were also present and at which the resolution of January 19, 1921, was reconsidered and amended in some respects. There is nothing in either of the resolutions to indicate that the transaction was to be one by which the corporation should issue its capital stock for the assets to be transferred by the parties. Nor is there any testimony from which we can find that the transaction was anything other than what it purported to be. The actual fact is that the assets were transferred to the corporation in consideration for the check drawn by the corporation to the individuals. If this was not done, the transaction amounted to merely a subterfuge, and a deception against the State of Indiana, and the laws of Indiana were not complied with. The parties here obtained the benefits of the transaction, *2262 actually carried out to meet the requirements of the state law, and then for another purpose, contend that the transaction was something else. It is contended that the substance of the whole transaction was that assets were issued for stock, and that substance should control over the form. The Supreme Court has frequently said that it would look to substance and not form. . But we do not believe in a case such as this that what a person actually does should be ignored, and that one be held to do one thing when another thing was done. What is actually done *1160 fixes the tax liability and not what might have been done, even though the same result in the end might have been reached in another way or by another process. Here the parties had their choice between exchanging the assets with the corporation for its capital stock or of selling the assets to the corporation and buying its capital stock. It was the latter that they did. It our opinion the moment the parties received the check in payment for the assets they realized income and what they did with it thereafter, regardless of how soon, can not change its character*2263 at that time. ; . Since the transaction was a sale and not an exchange, the provisions of the Act relating to exchanges relied upon by the petitioners is not applicable. The action of the respondent is accordingly approved. The petition in the case of the estate of Charles H. Brackett alleges that the respondent erred in determining the deficiency for 1924 and that pursuant to a bill from the collector of internal revenue at Indianapolis the amount of the deficiency was paid prior to the mailing of the notice of the deficiency. The respondent in his answer denies that the amount of the deficiency was ever billed to the petitioner and also denies that the amount of the deficiency or any other amount was paid to the collector at Indianapolis, or any other place. Inasmuch as no evidence was introduced or offered with respect to this issue, and as it is not referred to in the brief for the petitioners, the respondent's determination is approved. Reviewed by the Board. Judgment will be entered for the respondent. SMITH dissents.