Corbett v. Commissioner

ELLIOTT R. CORBETT, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Corbett v. Commissioner Docket Nos. 36737, 44087. United States Board of Tax Appeals 28 B.T.A. 46; 1933 BTA LEXIS 1193; May 9, 1933, Promulgated *1193 1. A decedent bequeathed to his widow $1,000 per month, payable out of the income from his real estate. Subject to his debts, legacies, bequests and some conditions concerning distribution, the real estate was devised to petitioner and his two brothers. After decedent's death petitioner and his brothers agreed to pay his widow $1,000 per month for life in consideration of her permitting the estate to be closed and the property distributed. Held, petitioner's payments under that agreement were capital expenditures, not deductible in computing taxable net income. 2. In 1923 and also in 1925 petitioner sold stock in a corporation, at less than cost. Under the evidence, held, that petitioner had not determined the stock to be worthless in 1923 and his loss in 1925 was allowable as a deduction. 3. Petitioner held stock in a corporation. In 1923 he sustained a loss upon sale of the stock. Held, such loss was not a net loss within the meaning of section 204(a) of the Revenue Act of 1921. Roscoe C. Nelson, Esq., for the petitioner. O. W. Swecker, Esq., A. N. Williams, Esq., and Seth B. Stockton, Esq., for the respondent. MARQUETTE*1194 *47 These proceedings, which were heard together, are for the redetermination of deficiencies in income tax asserted by the respondent in the amount of $1,367.52 for the year 1924 and $3,429.04 for the year 1925. The errors alleged in Docket No. 36737 are the failure to allow deductions for losses sustained on the sales of stock in 1923 and 1925. The errors alleged in Docket No. 44087 are (1) disallowance of a net loss deduction incurred in 1923 and carried forward to 1924, and (2) disallowance of a deduction in respect of a legacy. Two other errors were alleged but were abandoned by the petitioner. In his answer respondent asserts that the true deficiency for 1925 amounts to $4,136.99 instead of $3,429.04. FINDINGS OF FACT. In 1903 Henry W. Corbett died. By will he gave to Emma L. Corbett, his widow, $1,000 per month to be paid out of the income and rents of decedent's real estate. Subject to the payment of his debts, specified legacies, and certain conditions respecting distribution, all the residue of decedent's property was devised and bequeathed to the petitioner and his two brothers. The real estate so devised had an appraised value of $1,230,750. *1195 The income therefrom exceeded $100,000 annually during the taxable years. In 1912 it was found burdensome to keep open the administration of Henry W. Corbett's estate. An agreement was made by which petitioner and his brothers promised that they jointly would pay $1,000 per month to Emma L. Corbett if she would release the estate and the executors from any and all claims on account of the testamentary provisions in her favor. The estate was thereupon closed and the residue of the property distributed to petitioner and his brothers, under order of the court having jurisdiction. Petitioner deducted from his gross income for each taxable year $4,000 which he had paid to Emma L. Corbett under the agreement. Respondent disallowed the deduction for the year 1924. He allowed it for 1925, but now asserts that the allowance was erroneous and in consequence the asserted deficiency for that year should be increased from $3,429.04 to $4,136.99. A part of the property of petitioner and his brothers consisted of 40 percent of the stock of the First National Bank of Portland, Oregon. In 1907 it was determined that petitioner should go into the bank to look after the real estate. During*1196 the years here involved petitioner was vice president of the bank and a member of its finance committee which supervised the bank's loans and its bond investments. Petitioner spent his business days at the bank, but also held conferences, practically daily, with his brother concerning all their investments. No investments or other commitments of the general *48 interests of the three brothers were made without consulting the petitioner. During each of the years 1923, 1924 and 1925 petitioner's salary from the bank was $13,500. At the same time his income from investments was largely in excess of his salary from the bank. During the taxable years and prior thereto petitioner's business was that of banking and investing his money. From 1910 to the close of 1924 the volume of his investment transactions fluctuated, but averaged approximately $164,000 per year. In 1918 and again in 1920 he purchased stock at its par value of $100 per share in the Columbia Basin Wool Warehouse Co., which was a corporation formed to foster the wool industries in the Northwest by Financing the operation of wool growers. In the latter part of 1920 the wool growers were in need of more financial*1197 aid than ever before, due to business depression which had begun, and to a shortage in the lamb crop. The Basin Wool Co. made an investigation of the entire livestock industry, aided by three large banks which were rediscount holders of the loans made by the Basin Wool Co. From that investigation it was believed that if the livestock industry could be financed long enough to grow itself out, conditions would right themselves. That had been the past experience several times under similar conditions. Petitioner and other stockholders of the Basin Wool Co. increased their holdings by $730,000. The result of the company's investigation was placed before eastern bankers by petitioner's brother in person. At his suggestion a creditors' committee was formed by those banks, not to run the business of the Basin Wool Co., but to have a committee representative sit in directors' meetings, participate in discussions, etc. The agreement respecting that committee was effective as of June 1, 1921, and it provided, among other things, that: * * * The Committee shall have full authority at any time and from time to time to investigate the business and affairs of the Company, including the right*1198 to inspect its books of account and other records, its contracts and commitments, its inventories and other assets and shall make such investigation and inspection. The Company will furnish to the Committee monthly statements of its assets and liabilities, and of all new commitments entered into by it. Upon recommendation at any time of the Committee to the Company of the appointment of any person as an officer of the Company, such person to act as the representative of the Committee in the direct supervision of the affairs of the Company, such person shall be so employed by the Company at its own expense and shall have such powers as the Committee may deem necessary. The Committee hereby recommends and appoints Henry L. Corbett, of Portland, Oregon, as such officer. The Company will enter into no commitments or contracts except with the approval of the Committee. * * * The committee did not take over the assets of the Columbia Basin Wool Co., which continued to operate its own affairs as usual. The company's sheep loans amounted to about $5,000,000 per year and its loans on shorn wool to approximately half that amount. *49 Although poor business conditions in the*1199 wool industry continued throughout 1921 and well into 1922, the Basin Wool Co. felt that most of the growers were making progress, with more than a fair chance of growing out and recovering from the depression. In January 1923 the market price of wool was 25 and 26 cents, more than double the price in the summer of 1922. The Columbia Basin Wool Co. and the Portland Cattle Loan Co. had each loaned to R. N. Stanfield approximately $1,000,000 on security of livestock, supposedly consisting of about 200,000 head of sheep. In April 1922 the two companies entered into an agreement which provided for: (1) A joint count of Stanfield's livestock security; (2) transfer by the Basin Wool Co. of its separate interest in the livestock to the Portland Cattle Loan Co. for a cash consideration of the appraised value of one half the sheep (certain lambs, ewes, and bucks, excepted); (3) management of Stanfield's ranch by the Portland Co., under a trust deed, until that company had worked out its loans; (4) then, management by the Basin Wool Co. until it worked out its remaining interest. The trustee appointed was J. T. Updike. The joint count of livestock was not completed until early in 1923*1200 and it revealed a shortage of nearly 50 percent in the amount of security for loans. When the count was completed the above mentioned trust agreement went into effect and continued until some time in 1925. In July 1924 the Basin Wool Co. was advised that the Stanfield status would show a decided improvement for the fiscal year and that information was communicated to petitioner. The gross earnings of the Columbia Basin Wool Co. for 1923 amounted to $254,272.40 and its net earnings, without any deductions in respect of the Stanfield or other loans, amounted to $40,179.18. For 1924 the company's gross operating profits were $81,325.43. In September 1925 the trustee of the Stanfield operations sent to the Columbia Basin Wool Co. the following notice: This is to advise you that all the properties turned over to me as trustee under the trust agreement dated April 7, 1922, signed by R. N. Stanfield, have been entirely disposed of and the proceeds of same applied on the indebtedness, either direct or contingent of said Stanfield to Portland Cattle Loan Company, which said sale and application is all in accordance with the said trust agreement above referred to; that after the application*1201 of all said proceeds from the sale of all the property a very large amount of said indebtedness and liabilities, interest and advances owing to the said Portland Cattle Loan Company, under said agreement, still remain unpaid, and that such balance still remaining unpaid amounts to approximately $2,500,000.00: As a consequence I as trustee have no property of any kind or character which I received or acquired under or pursuant to said agreement dated April 7th, 1922, at which time said properties were turned to me as Trustee. *50 The closing out of the Stanfield operations left the Columbia Basin Wool Co. without any security or recourse for the unpaid balance of its loans to Stanfield. Petitioner had paid par, $100 per share, for the Basin Wool Co. stock which he acquired. In 1923 he sold 180 shares of the stock for $10, for the sole purpose of taking an income tax loss. Of that loss, amounting to $17,990, petitioner carried forward as a net loss deduction in his income tax return for 1924 the amount of $16,800.96. The respondent disallowed the deduction. In 1925 petitioner sold 275 shares of his Basin Wool Co. stock for $10, again for the purpose of establishing*1202 an income tax loss. Respondent disallowed the deduction of $27,490 as a loss sustained in 1925. OPINION. MARQUETTE: Petitioner contends that the amount he paid to Emma L. Corbett each year was merely the transmission of income from an estate, under a testamentary provision. He says that the amount so paid never was income to him in reality, that he was merely a conduit for the transmission of the money from the estate to the legatee. That view is not sustained by the facts. It clearly appears that in 1912 Emma L. Corbett wholly relinquished any rights she might have against the estate, and consented to the distribution of the remaining corpus and to the closing of the administration. That consent was the consideration given by her for a promise by the petitioner and his brothers to pay her a fixed monthly income. That the amount to be paid coincided with the amount bequeathed to her under the will does not alter the fact that a contract was made and carried out by which petitioner and his brother took the property free of the charge against the income. The contract superseded the will and the latter then passed out of consideration. *1203 Had petitioner and his brothers failed to make the agreed payments they would have been liable not for breach of trust as fiduciaries, but for damages for breach of contract as individuals. In our opinion the payments in question constituted capital expenditures, and are not deductible in computing taxable net income. ; affd., . In 1923 petitioner sold for $10 corporate stock for which he had paid its par value, $18,000, and in 1925 he again sold for $10 stock in the same corporation for which he had paid par, $27,500. The respondent concedes that a deductible loss was sustained by the sale in 1923, but contends that in that year the petitioner determined the stock to be worthless and therefore no loss should be allowed in respect of the sale in 1925. *51 That conclusion is not justified by the evidence. Although conditions affecting the sheep and wool industries were not good, many of the Basin Wool Co.'s borrowers had shown improvement. The market price of wool had more than doubled and the outlook for the company in 1923 was by no means hopeless. The large loan to R. W. Stanfield gave promise*1204 as late as July 1924 of working out successfully. Not until the fall of 1925 was it known that the loan could not be collected. Petitioner testified that in 1923 he did not know the value of the Basin Wool Co.'s stock and that his sale of the stock in that year was purely for the purpose of taking an income tax loss. The fact that he sold stock for a nominal sum, under the circumstances set forth, does not prove that petitioner had determined the stock to be worthless at the time. And in our opinion it was not worthless in 1923. We think that the loss on petitioner's sale of the Columgia Basin Wool Co.'s stock in 1925 was deductible for that year. The last question is whether petitioner may carry over to 1924 a net loss resulting from the sale of his Basin Wool Co. stock in 1923. The Revenue Act of 1921, so far as here pertinent, provides: 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 * * *. (b) If for any taxable year beginning after December 31, 1920, it appears * * * that any taxpayer has sustained a net loss, the amount thereof shall be*1205 deducted from the net income of the taxpayer for the succeeding taxable year * * *. Under the statute, the petitioner is entitled to carry over his net loss in 1923 only if that loss was sustained in a trade or business regularly carried on by him. ; . It appears from the record that petitioner was the vice president of a bank in which he and his brothers owned a 40 percent interest. He devoted his business days to the interests of the bank, but also consulted with his brother nearly every day concerning all their investments. Petitioner's individual investments included the stock here in question. It is apparent from the record that petitioner changed his investments from time to time and his investment transactions averaged $164,000 per year from 1910 to 1925. But it nowhere appears that petitioner regularly engaged in buying and selling securities, nor that in 1923 he engaged in any stock transaction except the one here in question. The record does not indicate that petitioner was engaged in directing or managing the business conducted by the corporation whose stock he sold. *1206 The situation here strongly resembles that of ; affd., . That taxpayer was a dealer *52 in ladies' wear. He also bought securities on the market not as a broker, but on his own account. Some securities he bought outright, some on margin. For the year 1920 he claimed a net loss deduction resulting from the sale of securities in 1919. In sustaining the Commissioner's disallowance of the deduction, we said: The petitioner starts with a presumption against him. To prove that he was regularly engaged in 1919 in carrying on the business of buying and selling Exchanging and otherwise dealing in bonds and stocks, he testified in a general way as to what he had done in "1919 and the several preceding years." But he never limited his testimony so that it would apply specifically to the year 1919. * * * On cross-examination he was asked to identify his income-tax return for the calendar year 1919. The return was then offered in evidence by the respondent without any objection by the petitioner. This return shows but one profitable sale of a stock or a bond during the year. The bond sold was purchased*1207 in 1916. * * * A loss of $254,357.95 was claimed as shown by an attached schedule a copy of which appears in our findings of fact. * * * The petitioner also testified on cross-examination that the stocks and bonds shown on the schedule attached to the return were owned by him on March 1, 1913, and were turned over by him to the Bank of Manhattan, which sold them for his account. It seems to us that the facts thus developed on cross-examination seriously challenge the direct testimony of the petitioner in regard to his 1919 stock and bond purchases and sales. If in 1919 he was doing an active business with brokers, if he was buying and selling stocks and bonds, where is this reflected in his return? The sales at a loss were all made through a bank. These securities had all been held for six years at least. * * * He did not mention one specific purchase or sale of stocks or bonds made by him during the year. The only other witness did not give any more satisfactory testimony on this point. The petitioner has not sustained his burden, his proof on this point is not convincing and fails to give us sufficient justification for changing the Commissioner's determination. * * *1208 * And in its affirming opinion, the Circuit Court of Appeals stated: A trader on an exchange, who makes a living in buying and selling securities or commodities, may be said to carry on a "business"; a person who frequents brokers' offices and continually dabbles in real estate is conceivably quite different. Most men who have capital change their investments, and may speculate all the time; we should hardly call this a business, though the line is undoubtedly hard to draw. Again, in , where the taxpayer was the majority stockholder and president of a corporation whose stock he sold at a loss, we held that the loss arose from an occasional transaction and not in a trade or business regularly carried on. The decision was reversed, , on the ground that as the taxpayer devoted all his time to the management of the corporation the sale of his stock in the company could not be separated from the regular course of business of which it was a part, and that the sale could not be considered a wholly independent transaction. The *53 appellate court was reversed and this Board's decision sustained by the*1209 Supreme Court on December 12, 1932, . We cannot perceive any material distinction between the conditions now before us and those in the cases above cited. We conclude, therefore, that petitioner's sale of the Basin Wool Co.'s stock in 1923 did not result in a loss sustained in a trade or business regularly carried on. Hence, he is not entitled, under the Revenue Act of 1921, to carry forward a net loss in computing his 1924 income tax. As indicated earlier in this opinion, petitioner's taxable income for 1925 should be increased by the $4,000 paid under contract to Emma L. Corbett in that year, and a deduction of $27,490 should be allowed for loss on the sale of corporate stock. Decision will be entered under Rule 50 in Docket No. 36737. Decision will be entered for the respondent in Docket No. 44087.