Canal Bank & Trust Co. v. Commissioner

CANAL BANK AND TRUST COMPANY, RICHARDSON LEVERICH AND MRS. J. C. RATHBORNE, JOINT TESTAMENTARY EXECUTORS OF THE LAST WILL AND TESTAMENT OF JOSEPH RATHBORNE, AND CANAL BANK & TRUST COMPANY, TRUSTEE OF THE LAST WILL AND TESTAMENT OF THE LATE JOSEPH RATHBORNE, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Canal Bank & Trust Co. v. Commissioner Docket No. 71736. United States Board of Tax Appeals 30 B.T.A. 390; 1934 BTA LEXIS 1330; April 17, 1934, Promulgated *1330 The decedent by will left the residuary portion of his estate in trust to two grandchildren, share and share alike, for a certain specified period. The will provided that during the period of the trust certain payments were to be made to the grandchildren and to other beneficiaries out of the income of the trust estate, or, in case it was not sufficient, then from the corpus. It was also provided that all income in excess of that required to make the payments to the beneficiaries and in excess of the carrying charges and other expenses of the trust estate should be invested and reinvested by the trustee and should form a part of the corpus of the estate. Held, that only one trust was created by the will and that the income thereof accumulated and held by the trustee pursuant to the provisions of the will is taxable to the trust estate. Benjamin W. Dart, Esq., for the petitioners. Elden McFarland, Esq., and John W. Smith, Esq., for the respondent. TRAMMELL *391 This proceeding is for the redetermination of a deficiency in income tax of $6,947.86 for 1930. Of the several issues raised by the pleadings all except one have been settled*1331 by the parties by stipulation, by waiver, or by admission of error. The remaining issue involves the question of whether certain income arising from a trust estate is taxable to the estate or to the beneficiaries. FINDINGS OF FACT. Joseph Rathborne, a resident of Jefferson Parish, Louisiana, died testate in 1923. On August 24 of that year his will was duly probated in the State District Court for Jefferson Parish. Under the will certain bequests and dispositions were made to various beneficiaries. The residuary portion of the estate of the decedent was given in trust to two grandchildren, J. Cornelius Rathborne and Kathlyn George Rathborne, the minor children of the decedent's predeceased son. Pertinent portions of the will are as follows: FIFTH: I give and bequeath the rest and remainder of my estate, wheresoever situated, to my two grandchildren, Joseph Cornelius Rathborne and Kathlyn George Rathborne, share and share alike, including therein their legitime, the whole in trust however, as hereinafter set out. I hereby create a trust for the said rest and remainder of my estate and for the universal legacy aforesaid and I give and bequeath the said residue of my*1332 estate wherever situated to Canal-Commercial Trust & Savings Bank and to any Trust Bank succeeding to the same, in trust however, for the use and benefit of the said universal legatees, my said grand-children, Joseph Cornelius and Kathlyn George Rathborne, and within the limitations and under the conditions and restrictions hereinafter imposed to-wit: 1st. All shares of stock held by me, except those hereinafter named, shall be sold by the Trustee as soon as they can be conservatively marketed and so as not to sacrifice the same as I consider them very good and their present price not a true index of their value and what is not required to pay legacies and debts, invest in good bonds. 2nd. Regarding my investment in the Louisiana Cypress Lumber Co., and the Excelsior Cypress Co., I require my trustee to hold same until the liquidation of said corporations in due course by the exhaustion of the timber which they hold or which they may be operating at my death, but I confer the discretion on my Trustees to proceed to the liquidation of said two corporations, if in their judgment and in the judgment of the committee hereinafter named, such liquidation seems advisable. 3rd. Regarding*1333 my present interests in the Joseph Rathborne Lumber Co., Inc., and in the timber holdings in Tangipahoa Parish, and any other timber which I may acquire in that section. This investment was begun by me recently after careful consideration and I believe it is the best asset I shall leave for my grand-children. Therefore, I instruct the Trustee to continue the operation of manufacturing the said timber which I have begun and under no circumstances to sell the stock or the property until after all the timber aforesaid has been manufactured. It has been my experience that a new operation of this kind does not begin to make money for a year or two after *392 the mill has started and should I die before this turning point is reached, I instruct the Trustee to continue to advance and pay out of my estate the necessary funds to sustain the operation until it begins to be profitable. I shall leave an estate amply sufficient to meet this emergency and the investment will in due course prove the wisdom of this course of procedure. SIXTH: The Trustee shall proceed to invest my estate with the exception noted in Paragraphs 2 and 3 of Article 5 of this Will, in sound, safe, interest*1334 paying bonds, having regard at all times to the character of the security rather than to a high rate of return. The securities which I shall leave at my death shall be carefully examined by the Trustee and by the Committee aforesaid and shall be preserved as part of my estate, unless in their judgment it is necessary and advisable to dispose of the same for the purposes stated in paragraph 3 of Article 5, or because the said securities in their judgment should be disposed of exchanged or replaced in other and better forms of security. But the foregoing shall not authorize the said Trustee and Committee to dispose of cut-over lands or swamp lands, which I may now own or hereafter acquire. It is my view that these will be valuable to my grandchildren and these properties are to be preserved by said Trustee until after my granson reaches the age of majority in order that he may express his desires and give his advice regarding same and should he decide to sell same, Trustee shall take proper action to that end and bring the proceeds into this trust, otherwise the said property shall continue to be held by Trustee until the expiration of this Trust. Within the limitation herein expressed*1335 the Trustee is authorized to sell, exchange or otherwise dispose of any securities belonging to my trust estate and to reinvest the same from time to time as opportunity permits. All sums received from sale of capital assets shall likewise be invested and reinvested under the authority hereinabove granted. All revenues in excess of the requirements of the several beneficiaries as hereinafter set out and in excess of the carrying charges and expenses of my estate shall likewise be invested and reinvested and form part of the capital of my trust estate. The Trustee may from time to time and as required take from and pay out of the capital of the estate any sums of money needed for any of the purposes contemplated by this will or to make up deficiencies in revenues and needed for the payment to beneficiaries as hereinafter set out. SEVENTH: Trustee shall pay out the revenues of the trust estate and out of the principal, should it be necessary to trench upon the latter as authorized in Article 6th hereof. 1st. To my brother, W. W. Rathborne, of Chicago, Five Thousand Dollars per annum in quarterly installments during the period of this trust. 2nd. To my daughter-in-law, *1336 George W. Rathborne, the widow of my dear son, Joseph Cornelius Rathborne, Thirty Thousand Dollars per annum, payable in monthly or quarterly installments so long as she lives and until the expiration of the trust herein created, that is to say until ten years after the majorities respectively of her two children. But should she remarry, then the said allowance shall be reduced to Twenty Thousand Dollars per annum, payable in the manner above set forth. 3rd. To my grand-children, Joseph Cornelius Rathborne and Kathlyn George Rathborne, through their mother or tutor, a sum proper and sufficient to educate, maintain and support said children in accordance with their position in life and their prospects as my heirs. This allowance shall be increased after their sixteenth year with special reference to the suggestion lastly above made and so as to include expenditures not strictly covered by the first provision hereof. *393 4th. After my grandson reaches the age of twenty-one years, the Trustee shall pay him the income of his share in the trust estate in the following proportion: One-third thereof during the first three years; one-half thereof during the next three years, *1337 and the whole thereof during the ensuing four years of this trust, payable in quarterly installments. Should my grandson marry after reaching the age of twenty-one years and before the expiration of this trust, Trustee may advance to him out of the accumulation of interest and revenue and if necessary out of the principal a sum to acquire a home and to establish the same not to exceed One Hundred Thousand Dollars and shall in case of such marriage increase the allowance from the income to one-half the same or the whole thereof in the discretion of the Trustee. If such marriage occurs before his twenty-seventh year, the Trustee may also advance out of the funds in the manner last provided a sum not to exceed two hundred thousand dollars, if same should be needed to set my said grandson up in business or to put him forward in life. 5th. After my grand-daughter reaches her eighteenth year the allowance provided in Sec. 3 of this paragraph shall be increased so as to provide for her personal wants to the extent if necessary of one-third of the remainder of her annual income left after complying with the provisions of said Sec. 3. After she reaches the age of twenty-one years she*1338 shall be paid one-third of her whole income during the first three years; one-third during the next three years and the whole of the same during the remaining periods of the trust, the whole payable quarterly as aforesaid. In case of the marriage of my said grand-daughter at any time during the period of the trust the trustee shall advance to her the sum of Two Hundred Thousand Dollars out of the accumulation of any of her revenue in the trust fund or out of the capital as needs be. Trustee shall also advance to her in like manner an additional One Hundred Thousand Dollars if required to obtain a home and to establish the same. After her marriage Trustee may increase said grand-daughter's allowance out of revenues to one-half of the same instead of one-third thereof as previously provided herein. 6th. In case the revenues of my trust estate shall not be sufficient at any time to meet the charges imposed thereon in this paragraph the several beneficiaries shall suffer a diminution and loss of their several allowances, allowances in proportion to the deficiency and in case the revenue shall thereafter increase the allowances shall be resumed as provided herein. EIGHTH: The*1339 trust estate here created and the trust herein established for my grand-children shall subsist as to my grandson for ten years after he reaches the age of twenty-one years and for my grand-daughter for ten years after she reaches the age of twenty-one years. The trustee duly came into the possession of the trust property pursuant to the provisions of the will and until June 11, 1930, kept one general ledger account, which included all the income of the trust to that date. On June 11, 1930, J. Cornelius Rathborne reached his twenty-first birthday. On or about June 12, 1930, the trustee opened on its books two accounts, one in the name of J. Cornelius Rathborne and the other in the name of Kathlyn George Rathborne. From and after June 11, 1930, each of these accounts was credited with one half of the net income of the trust property and all investments and reinvestments made from the two accounts were kept separate. *394 After June 11, 1930, the trustee maintained the corpus of the trust undivided as before and had full control and possession of all income subject to the provisions of the trust. For 1930 the trustee filed three income tax returns. One was in the name*1340 of the Succession of Joseph Rathborne and reflected the income of the trust estate from January 1 to June 11, 1930. The other two, which were in the names of J. Cornelius Rathborne and Kathlyn George Rathborne, respectively, reflected the taxable income of each, including the amounts credited to their respective accounts by the trustee on its books after June 11, 1930. The respondent determined that the income from the trust estate as a whole was taxable as one unit. After giving effect to the payments by the trustee of $5,000 to William W. Rathborne and $30,000 to Mrs. George W. Rathborne as provided for in sections 1 and 2 of the seventh paragraph of the will and making certain other adjustments, the respondent determined that the rest of the taxable income was taxable five sixths to the trust estate and one sixth to J. Cornelius Rathborne. OPINION. TRAMMELL: The petitioners contend that the respondent's determination is erroneous and in support thereof urge that the decedent by his will created three trusts as follows: (a) One for the corpus of the residue of his estate, out of which is to be paid from income the special annual legacies to William W. Rathborne of $5,000*1341 and to Mrs. G. W. Rathborne of $30,000 and the general expense of the estate; (b) A trust for one-half of the remainder of the income to be held, disbursed and invested for the account of J. Cornelius Rathborne, this trust to come into operation on the 21st birthday of J. Cornelius Rathborne, which was June 11, 1930; (c) A like trust for one-half of the remainder of the income to be held, disbursed and invested for the account of Kathlyn George Rathborne, this trust to come into operation on the 21st birthday of J. Cornelius Rathborne, which was June 11, 1930. The fifth paragraph of the will provided that all revenues in excess of those required to make the payments provided for the several beneficiaries, as thereinafter set out, and in excess of the carrying charges and expenses should be invested and reinvested and form part of the capital of the trust estate. It also provided that from time to time the trustee might pay out of the capital of the estate any money needed for any of the purposes contemplated by the will, and in case the revenues were insufficient to make the payments provided for the beneficiaries the trustees could make up the deficiency out of capital. *1342 Paragraph seven of the will also provided for the trustee making payments out of capital under certain *395 circumstances when the revenues or the accumulation thereof was insufficient to make the payments provided for the beneficiaries. Considering the foregoing in connection with all the other provisions of the will, we are unable to find that more than one trust was created or that it was the intention of the decedent to create more than one trust. See ; ; affd., ; ; . Only one trust having been created by the will, no segregation of the assets or of the income of the trust that the trustee might make for its own convenience for accounting purposes could in any wise serve to increase the number of trusts created by the will. The contention of the petitioners on this point is denied. The petitioners urge that the income credited after June 11, 1930, to the respective accounts of J. Cornelius*1343 Rathborne and Kathlyn George Rathborne was not income falling within the provisions of section 161(a)(1) of the Revenue Act of 1928 but constituted distributions of income within the meaning and intent of sections 161(a)(2) and 162(b) and (c). The Revenue Act of 1928 provides in part as follows: SEC. 161. IMPOSITION OF TAX. (a) Application of tax. - The taxes imposed by this title upon individuals shall apply to the income of estates or of any kind of property held in trust, including - (1) Income * * * accumulated or held for future distribution under the terms of the will or trust; (2) Income which is to be distributed currently by the fiduciary to the beneficiares * * * SEC. 162. NET INCOME. The net income of the estate or trust shall be computed in the same manner and on the same basis as in the case of an individual, except that - * * * (b) There shall be allowed as an additional deduction in computing the net income of the estate or trust the amount of the income of the estate or trust for its taxable year which is to be distributed currently by the fiduciary to the beneficiaries, * * * but the amount so allowed as a deduction shall be included in computing*1344 the net income of the beneficiaries whether distributed to them or not. Any amount allowed as a deduction under this paragraph shall not be allowed as a deduction under subsection (c) of this section in the same or any succeeding taxable year; (c) In the case of income received by estates of deceased persons during the period of administration or settlement of the estate, and in the case of income which, in the discretion of the fiduciary, may be either distributed to the beneficiary or accumulated, there shall be allowed as an additional deduction in computing the net income of the estate or trust the amount of the income of the estate or trust for its taxable year which is properly paid or credited during *396 such year to any legatee, heir, or beneficiary, but the amount so allowed as a deduction shall be included in computing the net income of the legatee, heir, or beneficiary. Section 3 of the seventh paragraph of the decedent's will provided that the trustee should pay out of the income of the trust estate and out of the principal if necessary, to J. Cornelius Rathborne and Kathlyn George Rathborne, through their mother or tutor, a sum sufficient to educate, maintain, *1345 and support them in accordance with their position in life and their prospects as his heirs. Section 4 of the same paragraph provided that during the 10-year period following J. Cornelius Rathborne's having reached his majority the trustee should pay to him the income of his share of the estate (which was one half) in the following proportions: One third during the first three years, one half during the next three years, and the whole thereof during the remaining four years of the trust. Provision was also made for the payment to him of certain specified amounts and an increase in the allowance to him in event of his marriage. Similar provisions were made in section 5 of the same paragraph of the will with respect to the payments that were to be made by the trustee to Kathlyn George Rathborne. From a consideration of the foregoing provisions in connection with the provision in the fifth paragraph that all income in excess of that required to make the payments provided for the several beneficiaries and in excess of the carrying charges and expenses should be invested and reinvested and form a part of the capital of the trust estate, we think it is clear that the income of the trust*1346 estate falls within two classes, namely, income accumulated or held for future distribution under the terms of the will, and income which was to be distributed currently by the trustee to the beneficiaries. So far as the record discloses, the respondent, in determining the deficiency here involved, has not included in the taxable income of the estate any of the latter class, but has included only such income as was accumulated under the terms of the will. In thus including such income the respondent has followed the plain provision of section 161(a)(1). With respect to the income which was accumulated the petitioners take the position that such income was income "which is to be distributed currently by the fiduciary to the beneficiaries" within the meaning of section 161(a)(2) and that, the trustee having credited the proportional parts of such income to the respective accounts of the two grandchildren, the amounts thus credited are allowable deductions in computing the taxable income of the trust estate for the year in question. This view ignores the fact that the income of the trust falls into two classes, both of which are recognized by the act and both of which are to be*1347 given different treatment under the *397 act. Nothing that the trustee did or could have done with respect to crediting income to the accounts of the grandchildren on its books could alter the fact that under the terms of the will a portion of the income of the estate for the taxable year was to be and was accumulated by the trustee. During the taxable year J. Cornelius Rathborne reached his majority. The only portion of the income of the trust that the trustee was authorized to pay him during that year was one third of a one half thereof, or one sixth, the amount which the respondent dliminated from the income of the trust and taxed to him. No greater amount was payable to or distributable to him during the year. All of the income of the trust remaining, after the payments provided by the will to be made to the other beneficiaries and carrying charges and expenses, was to be accumulated and added to the corpus of the trust. Income thus accumulated could not be asid to be income which was to be distributed currently. The fact that the trustee credited to the respective accounts of the grandchildren on its books certain amounts, which under the terms of the will were*1348 to be accumulated and added to the corpus of the trust, does not serve to make such amounts deductible from the income of the estate and taxable to the grandchildren. Such amounts can not be said to have been credited to the grandchildren within the meaning of that term as used in the act. As was pointed out in , taxpayers generally are charged with income not reduced to possession only if it can be said that the income is received constructively and has become so far subject to the taxpayer's demand that its nonreceipt is a matter of his own choice. See also . Under the circumstances presented here the grandchildren had no present choice respecting the receipt or nonreceipt of income accumulated and held by the trustee as a part of the corpus pursuant to the terms of the will. In view of the foregoing we perceive no error in the action of the respondent in including in the taxable income of the trust estate the income which was accumulated by the trustee pursuant to the terms of the decedent's will. His action therefore is sustained. *1349 By way of argument the petitioners contend that the grandchildren are what is known as forced heirs under the law of Louisiana and that decedent could not dispose of his estate without leaving them the share of his estate (one third between them) which was reserved to them by law and that the income of the trust became theirs when received by the trustee. The petitioners admit, however, that the residuary portion of the estate which was left in trust to the grandchildren was in excess of the share reserved to them by law. *398 Pertinent portions of the Louisiana statutes (Dart's 1932 Statutes) are as follows: 9815. Donations mortis causa or inter vivos permitted in certain cases. - It shall be lawful for anyone to make a donation inter vivos or mortis causa of any kind of property, and of any amount, whereby an individual or individuals or, a bank or banks now or hereafter organized under the laws of this state for the purpose of conducting savings, safe deposit and trust banking business, or which have accepted the provisions of law relative thereto, and banks organized under the acts of the congress of the United States, are designated as trustee or trustees; *1350 provided, however, that nothing in this act shall be construed to affect the law in regard to the disposable portion, save that it shall be permissable to provide that the legitime or any portion thereof of any forced heir or heirs shall be administered in trust for his or their benefit by said trustee or trustees, the income to be paid annually or oftener to said forced heir or heirs, or his or their legal representatives. (Acts 1920, No. 107, s 1 ). 9816. Regulations of trusteeship by donor - bond of Trustee. - The donor of such property shall have the right to prescribe the number of trustees, the causes for which any trustee or trustees shall cease to be such; the manner in which vacancies, however occurring, shall be filled; the manner in which the property donated shall be administered, and the objects to which it, or part thereof, shall be applied; the period of duration of said trust, which shall not exceed ten years after the death of the donor, except when the beneficiary is a minor at the time of the death of the donor, in which case it shall not exceed ten years after the minor has attained majority; in what manner and under what circumstances the trustee*1351 or trustees shall be empowered to sell the property donated, or any portion thereof, or to change any investment once made. Provided that the designation in any act of donation inter vivos or mortis causa of an attorney for the trustee or trustees shall be bindings upon such bank or banks. Individual trustees shall furnish bond for an amount to be fixed by the court which would have jurisdiction over the succession of the donor and with surety approved by said court, conditioned on the faithful performance of his or their duties unless the giving of the bond by such persons shall have been expressly dispensed with by the donor in the act of donation. (Acts 1920, No. 107, s 2 ). * * * 9818. Trustees - powers and duties - Compensation and expenses - Liability. - Said trustee or trustees shall administer the property entrusted to them in conformity with the directions contained in the act of donation, and shall have all the powers needed for such administration; and can mortgage, pledge, alienate or encumber the designated property whenever necessary in the opinion of the trustee, unless prohibited by the donor. Said trustee or trustees shall be entitled to reasonable*1352 compensation for its or their service payable annually which shall not exceed 10% of the annual income from the said property and to the reimbursement of all necessary and reasonable expenses paid or incurred in the performance of its or their duties or in the protection and preservation of the property so conveyed in trust. The trustee or trustees shall not be responsible for anything done, or any action taken by it or them except in the cases of its or their negligence or wilful misconduct. (Acts 1920, No. 107, s 4). [Italics supplied.] From the foregoing we think it is clear that the interests of minor heirs may be vested in a trustee for them until they reach their majority *399 and for a period of 10 years thereafter, as was provided for in the decedent's will with respect to the grandchildren. In our opinion this rule of law tends to support the action of the respondent rather than sustain the contention of the petitioners. We see nothing therein to indicate that more than one trust was created by the decedent's will or that the income in controversy was not taxable as determined by the respondent. Reviewed by the Board. Judgment will be entered under*1353 Rule 50.