Volume 1 — Tax Court Memorandum

1. Disallowance by respondent of taxes deducted on return for 1937 and refunded in 1938, approved. 2. Loss on account of worthlessness of stock held deductible.

Estate tax: Transfers in contemplation of death: Assignment of insurance. - Decedent, while still very active in business and in good health, was killed by a bolt of lightning while playing golf on July 4, 1937. Both in 1932 and in 1934, he assigned absolutely to his wife, policies of insurance previously taken out on his own life.

Petitioner's activities of managing and attempting to charter or sell a large yacht which was not used during the taxable year or several preceding years and which had been constructed primarily for the pleasure of petitioner's principal stockholder, who financed its construction, held not to constitute the carrying on of a trade or business.

Petitioner corporation since its organization in 1936, has been engaged in the ship brokerage business, its business being both domestic and foreign. Held: petitioner was not formed or availed of for the purpose of preventing the imposition of the surtax provided by section 102 of the Revenue Act of 1938 upon its stockholders.

(1) In the taxable year petitioners were the joint owners with their brother of several parcels of improved real estate located in Chicago and Pittsburgh. Held: that petitioners, in owning, managing and operating improved real estate from which they received considerable rental income, were engaged in carrying on business and the part of the office expenses properly allocated to this business is deductible as ordinary and necessary business expenses.

Income - Upon repossession of leased premises, held that the building erected thereon by the lessee did not enhance the value of the premises and the building had no market value if severed from the land; and no taxable gain was realize by such repossession. Depreciation - No taxable income having been derived because of the building on the repossessed premises, held there is no cost basis on which depreciation may be allowed to the petitioners. Taxes - Deduction therefor disallowed upon failure of proof.

1. Allowances for the exhaustion, wear and tear of depreciable property during the taxable years determined. 2. Held: further, the total wages payable, without reduction by reason of amounts charged thereto for the supplies so furnished, must be deducted in computing net income from the property for the purposes of the 50 per cent limitation upon percentage depletion. 3.

Estate Tax. - The decedent in her will appointed to each of her four surviving children, in equal shares, a life estate in the principal of certain trust property in which her father… Held: that under the laws of Pennsylvania each child of the decedent took a life estate under the father's will, not under the power of appointment, and that the value of such life estates is not includible in the decedent's gross estate. Rothensies v. Fidelity-Philadelphia Trust Co., 112 Fed.

In the year 1940 petitioner was the sales representative of several furniture manufacturing corporations in the States of Michigan and northern Ohio, and… Held: on the evidence petitioner expended in 1940 $3,779.49 for business purposes and this amount should be allowed him as a deduction under section 22(a), Internal Revenue Code, instead of the $5,955.50 which he claimed on his return and the $2,212.55 which the Commissioner allowed in his determination of the deficiency.

Held, that payments received by petitioner as beneficiary under a life insurance contract and by reason of the death of the insured are exempt from income tax under section 22 (b) (1) of the Revenue… Held: that payments received by petitioner as beneficiary under a life insurance contract and by reason of the death of the insured are exempt from income tax under section 22 (b) (1) of the Revenue Act of 1936.

In 1939 petitioner created a pension plan under which it established a trust to which it paid $25,000 for the purpose of paying premiums on annuity and insurance policies on certain of its employees… Held: that under the facts, petitioner is entitled to deduct the amount so paid under the provisions of section 23 (p), Internal Revenue Code.

During the taxable year petitioner and another cancelled a contract between them and executed a new one under the terms of which petitioner received $29,000 in cash and property of the value of… Held: the cash and property constituted ordinary income, rather than capital gain from the disposition of rights under the prior contract.

In 1934 and 1935 payments were made by lessee to petitioner who was lessor and trustee of building in trust for the benefit of land trust certificate holders. The record disclosed that such payments were to be used to pay real estate taxes owed by the lessee. Held, the payments of which petitioner was custodian were impressed with a trust for the payment of real estate taxes owed by lessee and, therefore, did not constitute rent or taxable income to petitioner.

Petitioners in 1937 exchanged stock in one corporation solely for stock in another corporation. Held, that the exchange was made in pursuance of a plan of reorganization; that both corporations were parties to the reorganization; and that under section 112 (b)(3) of the Revenue Act of 1936, the gain from the exchange should not be recognized. Anna V. Gilmore, et al., 44 B.T.A. 881, affirmed by both the Third and Fifth Circuit Courts, followed.

1. The stock of Lambeth Realty Corporation held by Mrs. Mattes determined to have become worthless during the taxable year 1936. 2. Deduction of amount paid by petitioner Mrs. Mattes on a deficiency judgment obtained against her vendees as primarily liable and herself as secondarily liable therefor, allowed as a bad debt. 3. Deduction of a capital loss arising from the liquidation of Public Realty Company stock allowed. 4.

Held, petitioner did not permit its earnings and profits to accumulate beyond the reasonable needs of its business for the purpose of avoiding the imposition of surtaxes on its shareholders. Held: petitioner did not permit its earnings and profits to accumulate beyond the reasonable needs of its business for the purpose of avoiding the imposition of surtaxes on its shareholders.

Recoveries in 1939 of debts charged off in prior years held not taxable to the extent shown by petitioner that no tax benefit was received in such prior years. Held: petitioner did not sustain its burden of proof as to worthlessness of certain debts within the taxable year under section 23 (k) (1) of the Revenue Act of 1938, as amended by section 124 (a) of the Revenue Act of 1942.

Held, petitioner is not entitled to deduct a loss by reason of a $10,000 payment in 1937 on certain notes held by a bank, there being no evidence to indicate that the notes did not represent… Held: petitioner is not entitled to deduct a loss by reason of a $10,000 payment in 1937 on certain notes held by a bank, there being no evidence to indicate that the notes did not represent obligations which were legally binding on petitioner.

On October 2, 1937 a corporation organized in 1925 distributed nine-elevenths of its net worth to the estate of petitioner's wife in… Held: the 1937 distribution in excess of nine-elevenths of the paid-in capital of the corporation was out of accumulated earnings and profits and since such excess exhausted those earnings and profits and the corporation had no subsequent earnings and profits, no part of the 1938 distributions to petitioner constituted taxable dividends,…

Trust income that was set aside during the tax year for the amortization of patents forming the corpus of the trust held not taxable to the grantor under section 167(a)(1) of the Revenue Act of 1936, by reason of the possibility that the trust corpus would revert to him if he survived the named beneficiaries, his wife and child. Held further, section 22(a) does not apply.

1. Expenses connected with a private residence and incurred by petitioners after they had abandoned it as a residence but before it had been leased to others, held personal and nondeductible, even though they were actually paid by petitioners, who were on the cash basis, after the residence had been leased. 2. The expense of operating a farm upon which petitioners resided held on the evidence to be personal. 3.

(1) Deductions: Bad debts. - Upon a clear showing that taxpayer advanced a sum of money to two individuals as agents of a jockey club, receiving the club's note therefor, that no part of the sum was ever repaid, and that following the termination of receivership proceedings in 1936 the taxpayer ascertained the debt to be worthless and charged it off, a bad debt deduction in 1936 is allowed.

Certain payments made by petitioner upon an assumed obligation held to represent the cost of acquiring a capital asset; held, further, a deduction for exhaustion of the asset is allowable. Held: further, a deduction for exhaustion of the asset is allowable. A deduction for other payments made by petitioner is disallowed.

Petitioner, Benjamin E. Levy, an individual citizen of the United States, was a nonresident of the United States during the taxable year 1938 for an aggregate of 200 days. Held: petitioner was a bona fide nonresident of the United States for more than six months during the taxable year as that phrase is used in section 116(a) of the Revenue Act of 1938. Michel J. A. Bertin, 1 T.C. 355, followed.

Gift tax: Valuation of stock: Blockage. - Gifts of blocks of 3,000, 3,000 and 6,800 shares of stock in the Melville Shoe Corporation held to have had a value of $27.50 per share on December 12, 1940, despite the fact that the mean between the highest and lowest prices for which the stock sold on the stock market on that day was $29.50 per share.

A dividend in kind distributed to the stockholders' agent, subject to a contingent liability to pay taxes of the declaring corporation which were not then recognized by it as a liability held taxable pro rata to the stockholders without reduction for the contingent liability, although the stockholders voluntarily agreed among themselves to permit the agent to withhold an amount sufficient to meet the taxes and the taxes were ultimately paid from the funds so withheld.

Unjust enrichment tax: Cotton processing tax not passed on. - Upon evidence that the taxpayer was a small concern and, to avoid the necessity of setting up reserves for refund of the processing tax if it should be passed on and the AAA should be declared unconstitutional, decided to sell its products net, that is by excluding the cotton processing tax from the sale price, the taxpayer is held not liable for the unjust enrichment tax.

In 1925 property was exchanged by an individual to petitioner corporation for its bonds of $1,000,000 face value. The property was worth less than the face value of the bonds. Held: petitioner is not entitled to deduct the difference between the fair market value of such property and the face amount of such bonds as a bond discount loss in 1938. Sacramento Medico Dental Building Co., 47 B.T.A. 315, followed.

In July 1937 petitioner entered into a contract with former stockholders by which it agreed to pay each of them $12,000 in 60 equal monthly… Held: that petitioner is entitled to deduct as ordinary and necessary business expenses, such monthly installments of the $12,000 liability as fell within its fiscal year ending October 31, 1937, and also held that petitioner is not entitled to deduct the monthly compensation payments because no services were rendered by its former…

An assignment whereby petitioner transferred to his mother for the remainder of her life, a certain interest I now have, or may ever have, in a certain trust fund * * * to wit, my interest in said… Held: to constitute a transfer of the specified beneficial interest in the income and that as to such interest the assignee became the owner thereof, taxable on the income therefrom. Blair v. Commissioner, 300 U.S. 5 followed. Harrison v. Schaffner, 312 U.S. 579, distinguished.

Held, certain bad debt deductions taken in 1934 allowed; others disallowed. Held: certain bad debt deductions taken in 1934 allowed; others disallowed. Petitioner, a lawyer, agreed in a contract of employment with his brother, also a lawyer, that he would credit an indebtedness owed by his brother with one-fifth of legal fees received by petitioner in 1934 from special cases in which his brother assisted him.

In 1939 petitioner, in fulfillment of desires of her deceased husband that their children be provided for, created three trusts for benefit of her children, two of whom were minors, naming herself… Held: petitioner is not taxable during 1939 and 1940 on the entire trust income accumulated during those years under section 22 (a). Helvering v. Clifford, 309 U.S. 331, distinguished.

Simultaneous and parallel irrevocable trusts were created in 1931 by decedents, husband and wife, over eight years before death, having as corporate shares of… Held: the transfers were not made in contemplation of death or intended to take effect in possession or enjoyment at or after death. Held, further, to the extent that the trusts were reciprocal each decedent was the real owner of the corpus and the same is includible in his gross estate under section 811 (c), I.R.C.

Where the will of a decedent makes no provision that the income as such shall be paid or credited to the residuary legatee and the residuary legatee receives the residue of the estate upon the completion of the administration, he is not liable to income tax under section 162 (c), Internal Revenue Code, in respect of any portion of the amount received by him as legatee even though the amount distributed does include the income of the estate for the year of distribution. Such income is taxable to the estate and not to the residuary legatee. S. F. Durkheimer, 41 B.T.A. 585, followed.

Estate tax: Gross estate: Insurance proceeds: Possibility of reverter. - Where decedent added a provision to a life insurance policy, in which his daughter was named as beneficiary, whereby the daughter became irrevocably possessed, during her lifetime, of the right to (1) cancel the contract and cash the policy, (2) change the beneficiary without limitation, or (3) borrow the full cash value of the policy, any rights ever again acquired in the policy by the decedent would…

The petitioner is entitled to the deficit credit provided by section 26(c)(3) of the Revenue Act of 1936, as amended by section 501(a) of the Revenue Act of 1942.

1. Certain transfers of stock and securities made by decedent to his wife and children in November 1935 and January 1936, were not made in contemplation of death. 2. By a trust instrument dated November 29, 1922, decedent transferred property in trust with income therefrom payable, after a 10-year period, to decedent's wife during her life and upon her death to decedent's children. The trust provided that the corpus should be divided equally among decedent's four children but not to be paid until any such child should be 30 years old. It further provided that within six months after the wife's death the donor had the right to postpone for 20 years the distribution to any or all of his children, irrespective of the children's ages. If the donor should exercise such power the majority of the children living were empowered to select the recipient of any or all of the income from the trust. Held, that decedent's transfer in trust was not within the scope of section 811 (d) (2), Internal Revenue Code. Estate of Edward Lathrop Ballard, 47 B.T.A. 784, followed.

Respondent's action in allocating to the year 1934 part of a refund of processing taxes recovered in 1940 sustained. The E. B. Elliott Co., 45 B.T.A. 82.

Respondent's action, in holding petitioners received income in the amount of the fair market value of stock paid as bonuses for services rendered, sustained.

Held, on the evidence, that a transfer in trust was not made in contemplation of death within the meaning of section 302 (c) of the Revenue Act of 1926 as amended by section 803 (a) of the Revenue… Held: on the evidence, that a transfer in trust was not made in contemplation of death within the meaning of section 302 (c) of the Revenue Act of 1926 as amended by section 803 (a) of the Revenue Act of 1932.

Where the provisions of its amended charter, its by-laws, and its certificates of stock prohibited payment by the taxpayer of dividends on its common stock until certain amounts in money were set apart out of its surplus profits in a sinking fund for the purchase and retirement of its preferred stock so long as any of such stock remained outstanding, and where the amount so required to be set apart was not so set apart during the taxable year and preferred stock was…

Petitioner in the year 1939 exchanged its 6 percent debentures due in twenty years from date for its outstanding 6 1/2 percent cumulative preferred stock, which it immediately cancelled and retired. Held: that the debentures evidenced an indebtedness of petitioner to the holders thereof and petitioner, keeping its books on an accrual system, is entitled to a deduction for the interest which accrued on such debentures during the taxable year in question.

Depreciation determined for various theatres and theatre equipment.

1. Various expenditures, with the exception of commissions on sales of securities, held deductible as nontrade or nonbusiness expenses. Revenue Act of 1942, section 121 (a)(2). 2. Income of an estate for the taxable year, which was distributed to the residuary legatee on final settlement along with the corpus of the estate and as a part of it, held taxable to the estate rather than to the legatee.

1. Petitioner in 1928, 1929 and 1930 loaned money to a friend and associate who was in the real estate business. Held: petitioner did not ascertain, for the first time, the debt to be worthless in 1937 and is not entitled to a bad debt deduction therefor in 1937. 2. Petitioner in 1937 and 1938 loaned certain sums of money to a friend and associate with whom he had formerly had business transactions but who had been wiped out by the depression.

Held the transfer in trust here in question was not made in contemplation of death nor was it intended to take effect in possession or enjoyment at or after death. May v. Heiner, 281 U.S. 238, 74 L. Ed. 826, 50 S. Ct. 286.

Payments made by the administrator of decedent's estate in order to release stocks of decedent pledged as collateral security for loans made to decedent's son and to decedent and his son, are held deductible from decedent's gross estate.

In 1932 petitioner was organized under the laws of Delaware for the purpose of acquiring and holding a debtor's interest under his father's will. Certain of his creditors assigned their debts to the corporation which in turn cancelled the debt in exchange for a deed to the debtor's interest. The creditors received stock for their assignment. By corporate charter petitioner had broad powers to carry on business. Franchise and other taxes were paid to the States of Delaware and Pennsylvania. Federal income tax returns were filed for the years 1932-1939. Petitioner's income was distributed to the officers as "salaries" and not to all stockholders pro rata. Held, under the facts, petitioner's corporate entity will not be disregarded for income tax purposes.

Reorganization: Bondholders of predecessor corporation purchasing asset of predecessor for new corporation: Basis for depreciation. - The bondholders of a bridge company in bankruptcy purchased for $170,000, the sole asset of such company at a public sale at which they were allowed to use the bonds in the payment of the purchase price. A new corporation was formed in which the bondholders received proportionate shares of stock.

1. A part of a debt charged off and deducted in 1936 without tax benefit may not be deducted in the taxable year 1939, in the absence of evidence that such part, or any other part, of the debt actually became worthless in 1939. Section 23 (k) (1), Internal Revenue Code, as amended by section 124, Revenue Act of 1942. 2.

(1) Petitioner created a trust naming himself as sole trustee with broad powers of management including power to pledge securities of the trust estate for the purpose of borrowing money to make… Held: that petitioner is taxable with the income of the trust for the taxable year under section 22 (a) of the Revenue Act of 1938.

Petitioners made an overpayment of estate tax. Held: a claim for refund of a portion of the overpayment, consisting of a letter written by one of the executors enclosing a form of acceptance of an overassessment proposed by the Internal Revenue agent, was filed within three years after the tax was paid; held, further, with respect to the balance of the overpayment, no claim for refund…

Decedent died owning a claim in the amount of $531,817.75 but having a fair market value on date of death of $200,191.90. Held: the sum representing the difference between the fair market value of the claim on date of decedent's death and the amount realized thereon in cash and its equivalent, constitutes a taxable gain to petitioners. Helvering v. Roth, 115 Fed. (2d) 239, followed. Held, further, that such gain is taxable as ordinary income.

Held, that a gift of a future interest was provided by a trust instrument, and no exclusion from the amount of gifts is permissible under section 504 (b), Revenue Act of 1932; Commissioner v. Brandegee, 123 Fed. (2d) 58, Helvering v. Blair, 121 Fed. (2d) 945, held, further, that assessment is not barred against the donees as transferees, the deficiency notice being mailed within four years from date of filing gift tax return by the donor. Evelyn N. Moore, 1 T.C. 14.

1. Held, the capital stock of Lexave Syndicate, Inc. became worthless in 1937; held, further, petitioners properly ascertained that certain loans made to Lexave Syndicate, Inc. and… Held: the capital stock of Lexave Syndicate, Inc. became worthless in 1937; held, further, petitioners properly ascertained that certain loans made to Lexave Syndicate, Inc. and certain participation certificates in the third mortgage of Lexave Syndicate, Inc. also became worthless in 1937. 2.

Prior to May 1, 1936, petitioner agreed in writing that it would not declare or pay any dividends (except stock dividends) without the written consent of the Reconstruction Finance Corporation until… Held: that petitioner is entitled to the credit allowed in section 26 (c) (1) of the Revenue Act of 1936.

Held, under the facts, that petitioner is not liable as transferee of the assets of the Old Colony Storage and Warehouse Company, Inc., for the unpaid taxes due from that corporation. Held: under the facts, that petitioner is not liable as transferee of the assets of the Old Colony Storage and Warehouse Company, Inc., for the unpaid taxes due from that corporation.

Where a will makes no provision that income shall be paid currently to a sole legatee and the sole legatee receives the remaining assets of the estate upon the completion of administration, he is not liable for income tax in respect to any portion of the amount received by him as sole legatee.

Prohibitions contained in petitioner's charter and stock certificates held not to entitle petitioner to credits claimed under section 26 (c) (1) of the Revenue Act of 1936. Where a stock dividend was paid by taxpayer in one of the taxable years, held that the market value of such stock as determined by respondent is approved.

Held, that a partnership between petitioner and his two sons existed during the taxable year.

Payment by petitioner of personal debts due to employees of petitioner by deceased president held not to be an ordinary and necessary expense.

Where grantor transferred his remainder interest in certain property to a trust and in no eventuality, other than the failure of the trust, could such interest revert to the estate of the grantor, held that the transfer was neither (1) a transfer intended to take effect in possession or enjoyment at or after his death, nor (2) a substitute for a testamentary disposition of such interest.

1. Reasonable allowances for compensation for personal services determined upon the evidence. 2. Held: the rule of res judicata is applicable.

Petitioner purchased from an insurance company a life annuity and two single premium life insurance policies. Held: following Peter H. Meyer, Jr., and Cordelia Meyer, Memorandum B.T.A. (Docket No. 107024, June 4, 1942), and Bodine v. Commissioner, 103 Fed.

1. During the taxable year petitioner received payments of $60,000 on a note of which she was the owner. Held: this was error. Petitioner should have returned as interest received from this payment, $6,074.05 and should have computed her capital gains from the payments upon the basis of $53,925.95 received as payments on the principal of the note. 2.

A note, representing a bonus, executed by petitioner and delivered in the tax year to its president (who owned sixty per cent of its stock), which was not included in the latter's gross income for… Held: nondeductible, Sec. 24(c), Internal Revenue Code; held, further, amounts withdrawn by the president and charged to his general account during the two and one-half months following the close of the tax year did not constitute partial payments of the note.

Payments made an insurance company by an employer for annuities for retired employees in continuation of pensions theretofore paid by the employer to such employees held to be deductible as business expenses of the employer.

1. Expenses for the maintenance of an office, including an allowance for depreciation of office furniture, and a fee paid to an attorney as an adviser and assistant, held, deductible as non-trade or… Held: deductible as non-trade or non-business expenses. Internal Revenue Code, section 23(a) and (1), as amended by Revenue Act of 1942, section 121. 2.

1. Decedent made an outright gift of $30,000 to his wife in 1927 and she, in 1930, loaned him a sum in excess of $30,000. Held: the wife's claim against decedent's estate is an allowable deduction from gross estate. Section 812 (b), Internal Revenue Code. 2.

1. Petitioner was engaged in the manufacture of hair and shaving preparations and was the owner of certain trade-marks registered in the United… Held: these expenditures were capital expenditures to be added to the cost of petitioner's trade-marks and were not deductible as ordinary and necessary business expenses. 2. In 1930 petitioner purchased a certain parcel of land in the City of Detroit, Michigan, under a land contract signed by petitioner and the sellers of the land.

Where petitioner, a person of means, transferred in 1939 certain shares of stock to herself and husband as trustees, the income to be accumulated for about three and one-half years until the… Held: the income from the trust is taxable to petitioner under section 22 (a) of the Internal Revenue Code. Helvering v. Clifford, 309 U.S. 331.

Expenditure of $9,050 by petitioner in 1937 to retire an indebtedness of a corporation of whose stock he owned 80 per cent held not a deductible expense. Expenditure of $3,580.30 by petitioner in 1937 for legal services rendered in defending a patent infringement suit against such corporation held not an expense deductible by petitioner.

1. Prior to the taxable year petitioner expended certain amounts in developing patents and in building machines containing the patented device. Held: petitioner is entitled to restore to its capital account the amounts so erroneously charged off in prior years. Held, further, petitioner is entitled to a deduction under section 23(1) of the Revenue Act of 1936, based upon the amounts so restored to its capital account.

Petitioner failed to establish that the claimed bad debt became worthless in 1939, hence, deduction properly disallowed.

Held, following Helvering v. Sprouse and Strassburger v. Commissioner, 318 U.S. 604, no income resulted to petitioner where a distribution of a stock dividend caused no change in the value of… Held: following Helvering v. Sprouse and Strassburger v. Commissioner, 318 U.S. 604, no income resulted to petitioner where a distribution of a stock dividend caused no change in the value of proportionate interest owned before and after the distribution.

Reasonable rates of depreciation on machinery determined. Reasonable salary for petitioner's president fixed.

When insured exercises right to convert lower premium policies of life insurance into higher premium policies by paying the companies the difference in premiums with interest from respective due… Held: that sum designated as interest in conversion option is not interest on an indebtedness, deductible as interest under section 23 (b), I.R.C.

Petitioner held not entitled to use basis of former owner of property acquired by petitioner where facts do not show that requirements of section 113 (a) (7) of the Revenue Act of 1932 as regards interest or control have been fulfilled.

1. Gifts made by decedent to his widowed daughter, decedent being in good physical and mental condition for a man of his age, held, to have been motivated primarily by a desire to provide means… Held: to have been motivated primarily by a desire to provide means for the support of his daughter and her family rather than by an apprehension of death, and consequently, the transfers are not includible in decedent's gross estate as having been made in contemplation of death. 2.