Bonfils v. Commissioner

HELEN G. BONFILS, THOMAS L. BONFILS, CHARLES A. BONFILS, F. W. BONFILS, J. B. GRANT, AND THE DENVER NATIONAL BANK, EXECUTORS OF THE ESTATE OF F. G. BONFILS, DECEASED, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Bonfils v. Commissioner Docket No. 91501. United States Board of Tax Appeals 40 B.T.A. 1079; 1939 BTA LEXIS 752; December 8, 1939, Promulgated *752 Under the terms of decedent's will, profits resulting from the sale of assets became part of the corpus of a trust. If net income should be insufficient to pay certain annuities created by the will, the corpus might be invaded. A charitable corporation was the residuary legatee. Capital gains were realized from the sale of securities during the taxable years. Held, that the probability of invasion of corpus to pay the annuities was, under the circumstances, so remote that such gains are deductible from the petitioners' gross income under section 162(a) of the Revenue Act of 1934. James B. Grant, Esq., and Stephen H. Hart, Esq., for the petitioners. R. P. Hertzog, Esq., and L. C. Mitchell, Esq., for the respondent. VAN FOSSAN *1079 This proceeding was brought to redetermine deficiencies in the income taxes of the petitioners for the years 1934 and 1935 in the sums of $157,774.81 and $682.02, respectively. The petitioners also claim overpayments for those years in the sums of $64,819.01 and $51,604.70, respectively. The respondent concedes that the deficiency for 1934 should be reduced to $75,919.99 and that the tax for 1935*753 was overpaid paid $13,432.90. Certain issues were settled by stipulation or by concessions of the respondent, leaving in controversy only the question whether or not capital gains which are subject to the payment of annuities in case the ordinary net income of the estate is not sufficient to pay them in *1080 full, are allowable deductions from gross income under the provisions of section 162(a) of the Revenue Act of 1934. The facts were stipulated, those material to the issue being the following: FINDINGS OF FACT. The petitioners are the duly appointed, qualified, and acting executors of the estate of F. G. Bonfils, deceased. The petitioners, Helen G. Bonfils, Thomas L. Bonfils, Charles A. Bonfils, F. W. Bonfils, and J. B. Grant reside, and petitioner, the Denver National Bank, a national banking association, has its principal office at Denver, Colorado. The Frederick G. Bonfils Foundation, hereinafter called the foundation, was and is a charitable corporation within the definition and meaning of section 23(o)(2) of the Revenue Act of 1934. F. G. Bonfils, a resident of Denver, Colorado, died February 2, 1933, and his will, dated February 4, 1930, was duly*754 admitted to probate on March 27, 1933, in the County Court of the City and County of Denver, where the estate is still in the course of administration. In his will the testator first provided many specific bequests. He then bequeathed to the Denver National Bank and to the First National Bank of Kansas City, Missouri, all the residue of his estate in trust to manage the estate and to pay therefrom certain annuities, including $50,000 per year to his wife, Belle Bonfils, and further sums to his children and other relatives. Paragraphs 15, 16, 18, and 19 of article IV of the will are as follows: 15. To pay over all of the remainder of the net income of this trust estate, at least as often as in semiannual instalments, to The Frederick G. Bonfils Foundation, a corporation not for profit organized and existing under the laws of the State of Colorado, until the death of the last survivor of the annuitants * * *, and thereafter to pay over all of the net income of this trust estate, at least as often as in semi-annual instalments, to said The Frederick G. Bonfils Foundation until said trust estate is finally and fully distributed as provided in the next succeeding paragraph hereof. *755 16. After the death of the last survivor of the annuitants * * * The Frederick G. Bonfils Foundation shall have the right and power to expend all or any part of the corpus of this trust estate on such specific, public, educational, charitable or benevolent project or projects as it may determine to be for the promotion of the general well-being of mankind, and, upon the written demand of said Foundation, said Trustees are authorized and directed to pay over to said Foundation, from time to time, all or such part of the corpus of this trust estate as may reasonably be required for the financing of any such project or projects, with proper endowment thereof, (after making due provision for the bequests * * *), provided, however, and I hereby direct that all of the corpus of this trust estate (after making dur provision for the bequests * * *) shall be paid over and delivered to said Foundation by said Trustees and shall be expended and paid out by said Foundation for the project or projects aforesaid within ten (10) years after the death of the last survivor of said annuitants. * * * 18. *1081 It is my will and I direct that the annuities created * * * shall be paid*756 in monthly instalments accruing from the first day of the calendar month succeeding the month of my death, and that in the event the net income from this trust estate is insufficient to pay all of said annuities in full, then such additional amounts as may be required from time to time shall be paid out of the corpus of this trust estate. 19. It is my will and I direct that the income payable to The Frederick G. Bonfils Foundation * * * shall accrue from the first day of the fourteenth calendar month succeeding the month of my death. Article IX provides: My said Executors and said Trustees, hereinbefore named, shall not be required to amortize the premium or to accumulate the discount from the income upon any bonds, debentures or notes held as part of my residuary estate, or in any way to provide for the gradual extinction of the difference between the original cost of any such securities and their respective face values. Any dividends declared upon the stock of any corporation constituting part of my estate, in stock of such corporation, and all rights to subscribe to additional securities of any corporation, one or more of whose clases of securities constitute part of my*757 estate, shall be deemed principal and not income. Profits or losses resulting from the sale of any part of my estate shall be credited to, or charged against, principal and shall not be deemed income or deductible from income. Except as hereinbefore provided, my said Executors and said Trustees shall have power to determine, in their full and absolute discretion, whether any property or money received by them shall be treated as capital or income. Belle Bonfils, widow of the decedent, declined the benefits of the will and duly elected to take one-half of her husband's estate, both real and personal, as provided by the statutes of Colorado. The gross estate of the decedent was $14,300,326.01, with charges and costs of administration against it amounting to $822,517.81, leaving a net estate of $13,477,808.20 before the deduction of charitable bequests. The one-half of the net estate passing under the will to the testamentary trustees after deducting expenses, debts, and taxes amounted to $5,498,003.67. The respondent apportioned $4,281,840.79 as deductible for the value of the bequests to charity and taxed the remaining $1,216,162.88 as the value of the annuities established*758 by the will. The present fair market value of the assets owned directly or indirectly by the testamentary trustees is $7,875,653.39, of which $3,009,813.71 is in Government bonds; $598,175.57 in municipal bonds; $163,912.20 in cash; and the remainder is in corporate stocks and bonds, including $1,977,740 in stock of the Post Printing & Publishing Co. During 1934 the petitioners received ordinary income of $165,778.73 and capital gains of $320,969.37. Their deductions, other than those allowable under section 162, infra, amounted to $431.85. During 1935 their ordinary income was $161,998.59, their capital gains were $15,736.18, *1082 and their deductions were $25,604.15 (not including those allowable under section 162). The petitioners kept their books and filed their income tax returns on the cash receipts and disbursements basis. The net income from the properties owned, directly and indirectly, by the trustees, exclusive of capital gains, for the years 1934 to 1938 was as follows: [1934] $567,594.22 [1935] 488,504.13 [1936] 553,340.17 [1937] 516,959.92 1938 (approximate) 520,675.81 The 1938 income included $69,699.37 from United States*759 Government bonds and notes, $25,695 from municipal bonds, $13,150 from corporate bonds, and $412,131.44 from dividends on stocks. The annuities paid during the years 1934 to 1938 were as follows: [1934] $62,035.48 [1935] 90,150.00 [1936] 110,600.00 [1937] 110,200.00 [1938] 110,200.00 The amount payable to Helen G. Bonfils increased from $25,000 to $75,000 per annum upon the death of her mother, June 3, 1935. The present ages of the annuitants run from 48 to 81. OPINION. VAN FOSSAN: The sole question at issue is whether or not capital gains, which, by the terms of the decedent's will, automatically became part of the corpus of a trust, which corpus ultimately was to be paid to a charitable corporation but might be invaded if necessary for the purpose of paying testamentary annuities, are subject to income tax. The respondent's position is that, so long as invasion of corpus is theoretically possible, the capital gains from sales of corpus securities are not permanently set aside for, or to be used exclusively for, charitable purposes, as provided in section 162(a) of the Revenue Act of 1934. 1 *760 *1083 The petitioners contend that even though there is a theoretical possibility of invasion, yet there is no reasonable probability thereof and accordingly the capital gains are "permanently set aside" and hence not taxable to the petitioners, as executors of the decedent's estate. The respondent cites a number of cases to support his position, none of which is precisely parallel in fact and law. In our opinion the basic principle underlying the decision in Ithaca Trust Co. v. United States,279 U.S. 151, suggests the proper approach to the interpretation of the phrase "permanently set aside." Hartford-Connecticut Trust Co. v. Eaton, 36 Fed.(2d) 710. In the Ithaca Trust Co. case, Mr. Justice Holmes said: The case presents two questions, the first of which is whether the provision for the maintenance of the wife made the gifts to charity so uncertain that the deduction of the amount of those gifts from the gross estate under Sec. 403(a)(3), supra, in order to ascertain the estate tax, cannot be allowed. *761 Humes v. United States,276 U.S. 487, 494, 72 L.Ed. 667, 670, 48 Sup.Ct.Rep. 347. This we are of opinion must be answered in the negative. The principal that could be used was only so much as might be necessary to continue the comfort then enjoyed. The standard was fixed in fact and capable of being stated in definite terms of money. It was not left to the widow's discretion. The income of the estate at the death of the testator and even after debts and specific legacies had been paid was more than sufficient to maintain the widow as required. There was no uncertainty appreciably greater than the general uncertainty that attends human affairs. See also United States v. Provident Trust Co.,291 U.S. 272; City Bank Farmers Trust Co. v. United States, 74 Fed.(2d) 692. Though a deduction is a matter of legislative grace and the proof must bring it clearly within the statutory provisions, it is a matter not only of judicial inclination but also of legislative policy to encourage gifts and transfers to charitable institutions. *762 Old Colony Trust Co. v. Commissioner,301 U.S. 379, and many other decisions of the courts and the Board. Thus, whether or not the income of the estate was "permanently set aside" calls for the application of the test of reason, not the blind adherence to a dictionary definition of words. The question of the reasonable probability that any part of the capital gains would be required to pay annuities is a factual one. In many cases we have held that deductions for charitable purposes are allowable when the income from the corpus is sufficient to provide for precedent bequests or annuities. Benjamin B. Sanderson, Executor,18 B.T.A. 221; Marion M. Jackson, Executor,18 B.T.A. 875; Boston Safe Deposit & Trust Co. et al., Executors,21 B.T.A. 394; Michigan Trust Co. et al., Executors,27 B.T.A. 556. The cases upholding this view relate to estate taxes and involve other statutes, but we believe there is a parallelism in principle when income tax is involved. Hartford-Connecticut*1084 *763 Trust Co. v. Eaton, supra.Moreover, income taxes are annual payments based on successive foundations of fact which may vary with the years. Opportunity is thus afforded for adjustment for errors of judgment. The question here relates solely to capital gains which automatically became part of corpus. They were not subject to the ordinary uses as income. Turning to the facts of record, we find that the present fair market value of the corpus is approximately $8,000,000. Over $3,600,000 of that amount is in Government and municipal bonds and about $164,000 in cash. In 1934 the petitioners received over $165,000 in ordinary income and about $320,000 in capital gains. In 1935 the corresponding receipts were about $162,000 and over $15,000, respectively. Deductions of slightly over $400 in 1934 and over $15,000 in 1935 were allowed. The trustees' average net income from 1934 to 1938, inclusive, was well over $500,000. In 1934 the annuities paid amounted to $62,035.48 and in 1935 to $90,150. In 1936 they were $110,600, while in 1937 and 1938 they were $110,200. It is obvious from the terms of the will that the annuity charge which the trustees must pay*764 will constantly decrease, and in view of the advanced age of many of the annuitants and the minimum age of 48 years, such a diminution will be relatively rapid. The income received in 1938 from Government, municipal, and, to a small extent, from corporate bonds, was within $1,655.63 of meeting the annuity charge. The small deficiency was met out of dividends on stocks, which amounted to $412,131.44. Faced with these facts and figures, we can conclude only that the probability that the capital gains realized in 1934 and 1935 would ever be required to pay any part of the annuities was so remote that it should be held that such gains were permanently set aside in the taxable years for charitable purposes as contemplated by section 162(a) of the Revenue Act of 1934. Lederer v. Stockton,260 U.S. 3. Hence, they are allowable deductions from the petitioners' gross income. Boston Safe Deposit & Trust Co. v. Commissioner, 66 Fed.(2d) 179, affirming 26 B.T.A. 486, relied on by respondent, is not authority contrary to the above conclusion when the facts in that case are considered. That the factual situation here is more favorable*765 to petitioners is conceded by respondent on brief. In the cited case the margin separating the actual payments from possible invasion of corpus was so narrow as to make it impossible to say that possibility of invasion was remote. Moreover, the margin was growing less. In that case it might fairly have been said that the possibility of invasion appeared to be dangerously imminent. Decision will be entered under Rule 50. Footnotes 1. 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 - (a) There shall be allowed as a deduction (in lieu of the deduction for charitable, etc., contributions authorized by section 23(o)) any part of the gross income, without limitation, which pursuant to the terms of the will or deed creating the trust, is during the taxable year paid or permanently set aside for the purposes and in the manner specified in section 23(o) or is to be used exclusively for religious, charitable, scientific, literary, or educational purposes, or for the prevention of cruelty to children or animals, or for the establishment, acquisition, maintenance or operation of a public cemetery not operated for profit. ↩