Carlson v. Commissioner

J. C. CARLSON AND G. L. ELKIN, TRUSTEES, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Carlson v. Commissioner Docket No. 45613. United States Board of Tax Appeals 27 B.T.A. 93; 1932 BTA LEXIS 1130; November 16, 1932, Promulgated *1130 Held, that under the facts shown, the petitioners are liable to be taxed as an association upon their income derived from certain trust properties in the taxable year. E. T. Cormy, Esq., for the petitioners. James K. Polk, Esq., for the respondent. LANSDON *94 The respondent asserted a deficiency of $2,009.81 in income tax against the petitioners for the year 1925. The petitioners allege that he committed error in holding that they conducted a business as an association in that year, which, under the provisions of the Revenue Act of 1926, made them liable to be taxed as a corporation upon their earnings. FINDINGS OF FACT. The petitioners are the trustees of the properties and assets of the Northern Irrigation Company, a dissolved corporation which was organized in 1902 for the purpose of conducting an irrigation project. During its existence it acquired some 17,000 acres of land in the State of Texas. Part of the land was prairie, suitable only for grazing, and part agricultural, suitable for rice farming. To these uses the corporation put the land through tenant farming, leasing and private management. On January 26, 1914, by*1131 appropriate action, the stockholders took steps to dissolve the corporation. By resolution duly adopted they directed the board of directors to convey all of the assets of the corporation, in trust, to three stockholders, including these petitioners, with powers, among other things, to "control, lease, sell, assign, transfer and deliver any and all parts of said property * * * upon such terms and conditions" as, in their best judgment, they might deem to be to the best interest of such stockholders; to pay all debts of the corporation and any which they might incur in the discharge of the trust, with power, if necessary, to borrow money using such property as security. In connection with the discharge of their duties in the trust the trustees were required "to agree" to make a yearly statement and accounting to the beneficiaries; and, further, "to agree" to reduce the assets to cash as soon as could be done, without sacrifice or injury to the beneficiaries, and ratably distribute the net proceeds among them "according to their respective ownership of stock in the corporation on that date." A proper conveyance was made by the corporation under its seal, with the conditions indicated*1132 attached, to the petitioners and the third trustee, now deceased, of all of the assets of the Northern Irrigation Company, pursuant to which they assumed possession of the property and the obligations of the trust. The trustees continued without change, either in methods of operation or use of the trust properties, the business conducted by the corporation prior to its distribution. They retained in their employ the corporation's manager of the farm and ranch and employed *95 the necessary labor to maintain normal operations so as to derive the greatest obtainable profit at all times. Upon assuming the duties of their trust, petitioners made efforts to sell the properties, but with little success. They advertised the lands and other assets for sale in leading papers in Texas and Minnesota and listed them with agents and dealers in those states. Some 3,000 acres of land were sold during the first year of the trusteeship and other small lots in the years which followed, amounting in all to less than 5,000 acres. Some of these sales lapsed and were subsequently canceled, so that only about 3,500 of the entire 17,000 acres had been definitely sold up to 1925. For a number*1133 of years the most profitable grain crop raised on petitioners' lands was rice, and, although in some years they operated at a loss, in 1918, when the price of rice was high, they realized some $120,000 in net income from their farms. In addition to grain crops, petitioners derived substantial profit from cattle which they owned and grazed on the nontillable lands. As the grain crops became less profitable and some of their lands developed water grass, which made it unsuitable for the growing of rice, the petitioners bought more cattle and increased their herds until at the close of 1925 their inventory showed cattle valued at $20,860, after sales amounting to $4,450 had been made therefrom in that year. The petitioners' receipts and disbursements for the taxable year were as follows: RECEIPTS Crop sold from company farm $14,670.96 Received from crop shares 33,701.89 Interest on mortgages and bonds 1,062.79 Income from land repossessed: March 1, 1913 value $10,711.96 Sold for in 1919 8,497.50 Loss claimed in 1919 2,214.46 Initial Deposit 500.00 Income for income tax purposes in 1925 2,714.46 Cattle sold 4,450.32 Hides sold 125.56 Inventory of cattle, etc., 12/31/25 20,860.00 Rent received for pasture 4,643.50 Rent received for farm land 1,100.00 Rent received for plant and canal 2,500.00 Rent received for equipment 72.00 Income from team hire 1,081.12 Receipts from storage 193.66 Total receipts 87,176.26 DISBURSEMENTS Farm labor on company farm $3,233.27 Warehouse labor 927.75 Hauling rice from field to warehouse 507.40 Seed rice used 14,532.80 Sundry supplies for farm 1,568.95 Salary of O. A. Ulland, manager 2,400.00 Salary of Mrs. O. A. Ulland, bookkeeper 1,200.00 Building repairs, material 938.59 Building repairs, labor 601.50 Equipment repairs company farm 301.63 Well repairs 82.02 Warehouse repairs 348.72 Attorney's fees 540.50 Automobile expense 652.33 Feed 4,651.50 Trustee's expenses 460.51 Travelling expense 205.60 Hire of yardman, maintenance of headquarters, telephone bills and other sundries 1,360.32 Donation M. E. Church 150.00 Insurance 1,534.92 Office expense and supplies 69.78 Surveying 44.00 Revenue Stamps 9.00 Commissions 78.00 State and county and school taxes 2,851.46 Depreciation: House furnishings 75.50 Flumes and bridges 65.81 Farm buildings 2,859.02 Blue Creek laterals 573.66 Blue Creek canals 1,147.14 Personal property 1,051.24 Fences 83.23 Warehouse 393.58 Wells 170.99 Relift canal 515.26 Relift plant 150.00 Furniture and fixtures 49.79 Telephone lines 86.20 Protection levees 80.93 Livestock 401.77 Road and drainage 479.12 Latterals 400.00 Autos 538.85 Dry Creek canal and plant 227.03 Cattle 1,701.00 Bad debts 277.55 Repairs to fences 181.92 Livestock expenses 714.84 Warehouse operating cost $31.31 Inventory cattle, etc., 1-1-25 13,160.00 Purchases in 1925 5,049.90 Total disbursements $69,716.19 Net income 17,460.07 *1134 *97 OPINION. LANSDON: The petitioners contend that during the taxable year they were engaged in the discharge of a liquidating trust and that the resulting income was merely incidental to said efforts. The respondent contends that the petitioners were engaged in a business for profit, and that their relationship made them an association, taxable as a corporation. We think the record fairly supports the view that the purpose of the conveyance to the petitioners was to expedite liquidation of the assets of their corporation, but no time limit was fixed and they were not to sell the assets when it would cause "sacrifice or injury" to the beneficiaries. In the meantime they were required to continue operation of the properties. Something of their methods of operation during the eleven years is shown by one of the petitioners in his testimony before the Board. When asked by his counsel to state briefly just what they did, he testified as follows: We let it out on shares to raise rice, which we continued until * * * for rice growing you have to have lots of water, and we continued with that, year after year, until the land played out. It grows what you call water grass*1135 on it and kills off the rice, and then the rice season came and the river got dry, so you could not raise rice without water, and it was a failure. And then we discovered that rice was a gambling speculation and we bought cattle to feed there, as I have stated, and stock-raising, because farmers in that country, in that neighborhood down there, Mr. Borden, for one, had a big stock farm, and had done well on that. So we profited from him and the Pierce estate, different ones who do the same thing, which brought us some income from the land, because it laid vacant and run out on account of this water grass, so we could not raise rice profitably. Some of the lands were sold, but the petitioners claim that the bulk of the property at no time in the eleven years following could have been sold except at a sacrifice, and for this reason they continued operation of the properties, with loss in some years and substantial profit in others. The schedule set out in our findings of fact shows something of the scope those operations assumed in the taxable year. Whether it was due to their inability to sell the trust assets, or their desire to improve and develop the property for a higher*1136 market price, it would seem clear from this record that after the first few years of their trusteeship the petitioners temporarily, at least, abandoned *98 the idea of liquidating. Their investments in cattle, and changing from rice-growing to livestock-raising, along with other investments and improvements, show an intent, we think, to defer liquidating indefinitely. The controlling issue here is not related to what the petitioners could have done, but rather what they did do to produce the income sought to be taxed. . The cases cited by the petitioners in their brief support the views thus announced. In , cited by petitioners, the powers given to the trustees of a dissolved corporation were almost identical with the powers given these petitioners in their trust instrument; but, in that case the only acts of the trustee in the year were confined to the collection and disbursement of rent upon leases of property of the trust estate. Operation was not involved. The same facts obtained in *1137 , which the petitioners say is "close in point." In the case at bar the petitioners have continued the operation of the properties of the dissolved corporation in the same manner and along the same lines as did the corporation and there is nothing in the record to indicate, even remotely, when they intend to liquidate them. We think that a reasonable latitude respecting operation should be given the liquidators of a corporation so as to avoid sacrificing the assets upon a low market, as well as to increase their sale price; but operations continued beyond a reasonable time, as we think the facts here show, must be treated as a continuation of the business of the dissolved corporation by the trustees. ; . Reviewed by the Board. Decision will be entered for the respondent.