MacRae v. Commissioner

HUGH MACRAE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. MacRae v. Commissioner Docket Nos. 4284, 19271. United States Board of Tax Appeals 9 B.T.A. 428; 1927 BTA LEXIS 2598; November 29, 1927, Promulgated *2598 1. Evidence held insufficient to justify change of respondent's valuation of stock as of March 1, 1913. 2. Evidence held to show that stock received as part consideration for sale had no readily realizable value in 1922. 3. Deduction for had debt allowed. Raymond N. Beebe, Esq., for the petitioner. T. M. Wilkins, Esq., for the respondent. SIEFKIN *428 This is a proceeding for the redetermination of deficiencies in income taxes asserted in two deficiency letters for the year 1922 in the amount of $290.72, Docket No. 4284, and $25,342.31, Docket No. 19271. The proceedings were consolidated for hearing and decision and involve (1) the March 1, 1913, value of certain stock sold in 1922; (2) a question of whether certain stock received in 1922 as *429 part consideration for the sale of such stock had a readily realizable market value, and if so, what that value was; and (3) a deduction for a bad debt. FINDINGS OF FACT. Petitioner, on March 1, 1913, was the owner of 3,371 shares of stock of the Tide Water Power Co. out of a total of 6,000 shares. In 1922 he sold said stock and received for each share sold $125 cash*2599 and one share of stock in the Oleander Development Co. Before the sale it was at first agreed that the purchaser would pay $125 a share in cash, and either, at the purchaser's option, pay $300,000 to the sellers or transfer to them certain specified real estate owned by but not used in the operation of the business of the Tide Water Power Co. Later, the parties agreed that the purchaser should form a new corporation to hold the specified real estate and that the sellers of the Tide Water Power stock should receive stock in that company, and the sale was finally consummated in that manner. The company was named Oleander Development Co., had 6,000 shares of stock, and assets consisting entirely of about 1,800 acres of suburban real estate in 23 tracts outside of the city limits of Wilmington, N.C. Such assets were purchased between the years 1906 and 1917 at a total cost of $308,103.94. There was one sale of 10 shares of stock in the Oleander Development Co. made in 1922 at $20 a share, and one sale of 14 shares at $10 a share. In addition to these sales, the financial secretary of the petitioner purchased 52 1/2 shares of stock rights before issuance in 1922 for about $19 a*2600 share. She also purchased another lot of 52 shares in 1922 for $20 per share. There was no market for the stock of the Oleander Development Co. except as petitioner or someone associated with him wanted the stock. The only purchases in the history of the company by anyone outside of petitioner's office, were the two lots of 10 and 14 shares noted above. Wilmington's only stock broker testified that there was no market for the stock and that several people asked him to sell shares for them but he could find no buyers. There were prospective sellers but no market. The only assets of the Oleander Development Co. consisted of 23 tracts of suburban real estate outside of the city limits of Wilmington, N.C. These tracts varied in size from 5 acres to 612 acres, and in location from tracts just outside the city limits to tracts on Wrightsville Beach, over 9 miles from Wilmington and on the Atlantic Ocean. The land was originally purchased by the Tide *430 Water Power Co. to develop its traffic on a suburban railroad that had not been profitable and to create a demand for light and gas, which it sold. One tract was purchased with a view to giving it away to induce manufacturing*2601 enterprises to locate near Wilmington, the city, the local merchants, and the Tide Water Power Co. agreeing to underwrite the cost. Such agreement was not carried out when the land was found unsuitable for manufacturing sites, and the Tide Water Power Co. agreed to take title to the property and rescind the agreement. As to the other tracts, it was planned to make a tourist section, build hotels and otherwise develop the properties by extending the railroad lines of the Tide Water Power Co. making a loop connecting the various tracts with Wilmington and Wrightsville Beach. This plan was not carried out because the trustees for the bonds of the mortgage objected to the use of funds for developing the real estate. During the war period, real estate soared and there were many suburban developments in Wilmington, but with the close of the war and the shipyards at Wilmington, there was a tremendous slump in suburban real estate and it was impossible to sell the properties of the Tide Water Power Co. transferred to the Oleander Development Co., or any part of them for cash. The market for such property was thoroughly saturated and what was sold was sold on 10 years' time. To liquidate*2602 the land holdings would take from 10 to 40 years. Stock in the Tide Water Power Co. was sold in one 10-share lot by petitioner in December, 1912, and one 10-share lot early in 1913 at $112 per share, the petitioner paying the commission of $1 per share. A banker who had been engaged largely in passing upon the value of securities for purchase and loan accounts since 1913 gave as his opinion that the market value of the majority control of any utility was about 25 per cent more per share than the market price per share of small holdings. The petitioner also so testified. Early in 1922 a small block of shares in the Tide Water Power Co. sold for $87 per share. Petitioner and M.F.H. Gouverneur had been warm friends and business associates for many years in the firm of Hugh MacRae & Co. While connected with that firm Gouverneur, in addition to his salary, had an interest in the net profits of certain enterprises of the firm. His connection with the firm ceased in 1917, at which time he left to engage in other business. At the time he left he was responsible to the firm for about $200,000 of a loss of $1,000,000 incurred in the transactions in which he had an interest and was*2603 also in debt to petitioner for money loaned between 1903 and 1906 in the amount *431 of $33,836.45. In 1918 and on several occasions between 1918 and 1922, Gouverneur acknowledged the $33,836.45 debt and renewed his promise to pay. In 1922 petitioner visited Gouverneur, who was then ill with tuberculosis, and found that the proceeds of certain patents which were expected to pay large sums to Gouverneur would not do so. Petitioner knew Gouverneur would pay the debt if he could, but petitioner, determined that "he would never have the apportunity of paying that debt." Gouverneur had no assets from which collection could have been made. The debt of $33,836.45 was charged off petitioner's books November 15, 1922. After the charge-off a release was obtained from Gouverneur as to any profits from the operations in which he had an interest when with petitioner, and petitioner canceled the open account showing indebtedness of Gouverneur to him. The release was obtained only to clear the books and as a matter of form. The balance was so overwhelming against Gouverneur that there was no possibility of the deficit being overcome by future profits. Gouverneur had no other property*2604 upon which he could realize. OPINION. SIEFKIN: Petitioner relies upon opinion evidence as to the general advantages accruing to the holder of the majority control of a utility and asks us to determine that the March 1, 1913, value of petitioner's 3,371 shares in the Tide Water Power Co. was at least 25 per cent more than $111 a share, the value determined by the respondent and the price at which small lots were sold by petitioner in 1912 and 1913. A witness who was well qualified to express an opinion testified that the controlling interest in a public utility was worth at least 25 per cent more per share than a minority interest. He based such opinion, not only upon the control of the majority over dividends, but also upon the fact that holding companies are the large purchasers of controlling interests in public utilities from which they derive not only the benefit of management, the benefit of naming the salaried officers, but also to designate who shall receive large fees for management under operating contracts. All of this may be admitted as a general proposition without, however, proving petitioner's contention. Petitioner uses a price of $111 a share as the fair market*2605 value of minority stock. The only evidence of this consists of two sales at that price of 10 shares each made by him late in 1912 and early in 1913. Petitioner's financial secretary *432 testified that she handled the transactions and that the buyers in each case were good friends of the Tide Water Power Co. One of them approached petitioner through a banker who named the price and petitioner "let him have it." These conditions do not justify us in using $111 as a fair market value of a minority interest. Without such a premise, petitioner has failed to sustain the burden of proving the March 1, 1913, value of the stock sold to be more than the amount determined by respondent. On the question of the value of the Oleander Development Co. stock at the time it was received by petitioner in 1922, there is abundant evidence that there was no real market for the shares in that company at that time and that there was no real market for the real estate which constituted the assets of the company. Although there is some conflict in the evidence, it is also our opinion that the evidence establishes that the liquidation of the company would, in all probability, take a considerable*2606 number of years. Under these circumstances, we conclude that petitioner did not, by reason of his receipt of the stock in the Oleander Development Co., receive property with "a readily realizable market value" under section 202(c) and (e) of the Revenue Act of 1921. The scattered sales of a few small lots to petitioner's secretary and the circumstances surrounding the only other two sales in the company's history are not indicative of the value contemplated by the statute. See ; ; ; . The evidence as to the deduction for the debt owing petitioner from M.F.H. Gouverneur is that both petitioner and Gouverneur considered the debt a valid and existing one up until 1922 and in that year petitioner, finding Gouverneur ill with tuberculosis and disappointed in his expectations of obtaining considerable amounts of money from certain patents and without assets more than sufficient to support himself and family, determined the debt to be worthless and directed*2607 that the amount be charged off on his books, which was done. Subsequently petitioner released Gouverneur from the debt and Gouverneur gave petitioner a release as to any anticipated profits from certain business transactions of petitioner in which Gouverneur had an interest. It is argued by respondent that petitioner thus received a consideration for the cancellation of the indebtedness. This contention we deem answered by the evidence, which is uncontradicted, that the release by Gouverneur was given merely to clear the records and that it effected no other purpose, *433 a portion of the transaction in question having resulted in such a large loss that no hope of utimate profit remained. Respondent also argues that the personal friendship of petitioner and Gouverneur implies that the cancellation of the debt was a gift. It seems to us that the other circumstances negative this implication and that the petitioner and Gouverneur treated the debt as a business transaction and that petitioner has satisfied the requirements of section 214(a)(7) of the Revenue Act of 1921 in ascertaining the debt to be worthless and charging it off in the year 1922. The deduction should be*2608 allowed. Judgment will be entered on 15 days' notice, under Rule 50. Considered by LITTLETON, MORRIS, and MURDOCK.