Plant v. Commissioner

                  United States Board of Tax Appeals

In Docket No. 43889 the Commissioner determined deficiencies in income taxes for the years 1924 and 1925 in the sums of $ 11,579.36 and $ 7,214.38, respectively. An amended petition was filed therein, alleging the tax for 1924 in dispute - denied in answer of Commissioner - is $ 14,572.85. The deficiency determined by the Commissioner for 1925 is all in dispute. The errors assigned are (1) that the Commissioner erred in holding that the expense incurred by certain trustees in maintaining a residence at Eastern Point, Connecticut, in accordance with the provisions of paragraph tenth of the will of Morton F. Plant, represented additional income to the petitioner because of his right to occupy the residence as a permanent or summer home, and (2) that the Commissioner also erred in taxing to the petitioner any of the distributions received by him from the Griswold Co. in the years 1924 and 1925, in view of the fact that the company had an operating deficit at all times during those years.

In Docket No. 48984 the Commissioner determined a deficiency in income tax for the year 1926 in the amount of $ 12,066.32. The petition alleges and the answer admits the tax in dispute is $ 18,046.17. The errors assigned are (1) that the Commissioner erred in increasing taxable income by $ 60,466.86, representing the expense incurred in maintaining the aforesaid residence at Eastern Point, Connecticut, and (2) also erred in taxing to the petitioner the distributions received by him from the Griswold Co. in 1926, because during the entire year the company had an operating deficit.

In Docket No. 55659 the Commissioner determined a deficiency in income tax for the year 1927 in the amount of $ 22,047.10. The petition alleges and the answer denies that the tax in dispute is $ 22,101.83. Errors assigned are (1) that the Commissioner erred in increasing taxable income by $ 81,385.03, representing the expense incurred in maintaining the aforesaid residence at Eastern Point, Connecticut, and (2) also erred in taxing to the petitioner distributions received by him in 1927 from the Griswold Co. in the sum of $ 52,080, representing $ 26,040 received direct and the same amount received as beneficiary of the trust under the will of Morton F. Plant for his benefit.

In Docket No. 52094 the Commissioner determined a deficiency in income tax for 1928 in the amount of $ 22,999.35. The petition alleges and the answer admits the amount of tax in dispute is $ 21,801.35. Errors assigned are (1) that the Commissioner erred in increasing taxable income by $ 64,780, representing the expense of maintaining the aforesaid residence at Eastern Point, Connecticut, and (2) also erred in taxing to the petitioner the sum of $ 66,960, representing $ 33,480 received direct and $ 33,480 received as beneficiary of the trust under the will of Morton F. Plant for his benefit.

In Docket No. 60923 the Commissioner determined a deficiency in income tax for 1929 in the amount of $ 37,030.73. Errors assigned are that the Commissioner erred (1) in holding that the expense in maintaining the aforesaid residence at Eastern Point, Connecticut, represented additional income to the petitioner because of his right to occupy said residence as a permanent or summer home; (2) in taxing to the petitioner distributions received by him in 1929 from the Griswold Co. in the sum of $ 104,160, representing $ 52,080 received direct and the same amount received as beneficiary of the trust under the will of Morton F. Plant for his benefit; (3) in increasing taxable income by an amount of $ 3,240.08, representing a portion of fiduciary commissions deducted in arriving at petitioner's distributive income, which amount the Commissioner allocated to nontaxable income and considered as nondeductible, and (4) disallowing as a deduction from taxpayer's gross income an amount of $ 3,740, representing expenses and salaries in connection with the running of the taxpayer's office. The last assignment of error, however, is not relied on, counsel for petitioner

having in his brief waived same.

The cases were consolidated for hearing and report. The parties entered into a stipulation of certain facts to be considered as taking precedence over any conflicting statements of fact in the petitions. From the stipulation (which we adopt as part of our findings of fact), the exhibits in evidence, and the pleadings, we make our findings of fact.

FINDINGS OF FACT.

The petitioner is the son of Morton F. Plant who died testate on November 4, 1918 * * *. In accordance with the directions of paragraph Tenth of the will the expense of the upkeep of the residence referred to therein was in each year charged proportionately against the income of the three trusts referred to in said paragraph Tenth of the will. The amount of income payable to each beneficiary from the three trusts was reduced by this proportionate share of the expense of upkeep and each beneficiary returned as taxable income subject to the Federal income tax an amount computed with reference to the income of the trusts as so reduced.

The amount of income taken proportionately from each of the three trusts for the upkeep of the residence was in each year considered by the trustees as undistributable income and taxable to such trustees under the provisions of Section 219 of the Revenue Acts of 1924 and 1926 and Section 161 of the Revenue Act of 1928. Accordingly, the trustees for each year under consideration filed a 1040 Return on behalf of each of the three trusts in which they returned as taxable income to themselves as trustees the amounts charged against each of the three trusts for the maintenance of said residence and paid the tax shown on such returns.

In each of the six years under consideration the Commissioner has increased the income of the petitioner by the amounts expended from the income of the three trusts for the maintenance of said residence. The petitioner's income was increased by said adjustment for each year as follows:

For the year 1924 the Commissioner included in petitioner's taxable income an amount of $ 35,169.63 representing the expense of maintenance of the residence charged proportionately against the income of the three trusts which amount included taxes paid in the sum of $ 20,415.16. The taxes paid were allowed as a deduction to petitioner.

For the year 1925 the Commissioner included in petitioner's taxable income an amount of $ 52,569.16 representing expense of the maintenance of the said residence charged proportionately against the income of the three trusts which amount included taxes paid of $ 15,347.18. The taxes paid were allowed as a deduction to petitioner.

For the year 1926 the Commissioner included in petitioner's taxable income an amount of $ 60,466.60 which represented the expense of the upkeep of the residence charged proportionately against the income of the three trusts and which amount included taxes paid in the sum of $ 18,366.95 which said taxes were allowed as a deduction to petitioner.

For the year 1927 the Commissioner included in petitioner's taxable income an amount of $ 81,677.76 which amount represented the expense of the upkeep of the residence charged proportionately against the income of the three trusts and which included taxes paid in the sum of $ 19,633.77. The taxes paid were allowed as a deduction to petitioner.

For the year 1928 the Commissioner included in petitioner's taxable income an amount of $ 64,780.03 representing the expense of upkeep of the residence charged proportionately against the income of each trust and which amount included taxes paid in the sum of $ 18,155.25. The taxes paid were allowed as a deduction to petitioner.

For the year 1929 the Commissioner included in petitioner's taxable income an amount of $ 91,206.07 representing the amount expended for the maintenance of said residence and charged proportionately against the three trusts and which amount included taxes paid in the sum of $ 16,003.80. The taxes paid were allowed as a deduction to petitioner.

The Commissioner contends that the expense of maintaining the residence charged proportionately against the income of the three trusts as aforesaid in accordance with Paragraph Tenth of the will of Morton F. Plant represents additional income to the petitioner during the period of the occupancy of said residence by the petitioner.

The petitioner contends that the trustees properly returned and paid the tax on the income of the trusts which had been used for the maintenance of said residence and that such expense does not represent income to him.

The Commissioner considered as taxable dividends to the petitioner distributions made by The Griswold Company for the years in question as follows:

 1924                        $ 14,532.50

The Griswold Company was incorporated under the laws of the State of Connecticut in February 1906 for the purpose of purchasing, acquiring and holding real and personal property for hotel purposes. It had an authorized capital stock of $ 75,000 divided into 750 shares of the par value of $ 100. The entire stock with the exception of two qualifying shares was issued to Morton F. Plant and in payment for said stock the corporation accepted from him real estate situated in Groton, Connecticut, known as the Fort Griswold House property with the improvements thereon. The actual value of the property received by the corporation for the stock was $ 75,000. In March 1917 the Articles of Incorporation, dealing with the powers of the company, were amended to read as follows:

"To purchase, acquire, hold for investment or otherwise use, sell, or dispose of any and all kinds of real property and the stocks, bonds, notes, and other obligations and securities of the United States Government or any state, county, or municipal corporation or private corporation, or notes of individuals; to own, lease, or conduct hotels and do a general hotel business; to purchase, acquire, hold, and operate steamboats and steamboat lines; to own, lease, or conduct farms and do a general agricultural business, including the raising of stock, poultry, vegetables, and other farm products; and generally to do all things incidental to any and all aforesaid business."

In the same year the capital stock of the corporation was increased from $ 75,000 to $ 2,000,000 consisting of 20,000 shares of the par value of $ 100. All of this stock with the exception of two qualifying shares was issued to Morton F. Plant. In payment for the additional stock in the amount of $ 1,925,000 issued to Mr. Plant in 1917, (a) the corporation accepted from him the Hotel Belleview, Pinellas, Florida, together with the land appurtenant thereto having a value of $ 1,140,000, (b) the corporation accepted a tract of land at Eastern Point, in the Town of Groton, County of New London, State of Connecticut, having a value of $ 20,000, (c) the corporation accepted the cancellation by Mr. Plant of an indebtedness of the corporation in the amount of $ 765,000 representing cash loans made by Mr. Plant in that amount to the corporation from the time of its incorporation to the date the capital stock was increased in 1917.

Morton F. Plant died on November 4, 1918. At the time of his death all of the stock of The Griswold Company, with the exception of two qualifying shares, stood in his name. On May 24, 1923 the stockholders of the corporation donated to the company in proportion to their stockholdings 10,400 shares of the company's stock having a par value of $ 1,040,000 which was to be held by the corporation as treasury stock. The said sum of $ 1,040,000. was charged to the Treasury stock account and credited to the surplus account on the company's books. This left 9,600 shares outstanding which were held as follows:

 Trust for Henry B. Plant                          3598 shares

 Trust for Henry B. Plant                          1800 shares

 Trust for Henry B. Plant                          180 shares

The Griswold Company had an operating deficit of $ 1,017,978.63 on January 1, 1923 and an operating deficit on January 1, 1924 of $ 1,511,957.14. The books of the company as of January 1, 1924 show a surplus of $ 200,041.86. This surplus was created in 1923 and 1924 by reason of the three transactions heretofore mentioned, namely, the donation of 10,400 shares of stock having a par value of $ 1,040,000. back to the company by the stockholders, and the transfer of property by the stockholders to the corporation having a value of $ 739,200. in excess of the par value of the stock issued for such property. The distributions made by The Griswold Company in the years 1924 to 1929 inclusive were declared and recorded in the minutes of the directors' meetings as being paid out of paid in surplus of the corporation since the corporation had no accumulated earnings at the time of the distributions but had an operating deficit. The surplus on March 1, 1913 and the earnings and losses of the corporation from that date to December 31, 1929 were as follows:

 Losses   3/1/13 to        $ 28,981.60  Surplus 3/1/13    $ 4,811.64

The petitioner contends that no part of his share of the said sixteen distributions made by The Griswold Company for the years 1924 to 1929 inclusive, was subject to tax for the reason that the corporation had an operating deficit during all of those years and the amounts received as dividends represent a return of capital and were not taxable distributions from earnings within the applicable provisions of the Revenue Acts in force during such years.

The Commissioner contends that the amount of the distributions taxed to petitioner were from earnings of the corporation accumulated since March 1, 1913, were paid out of surplus, and are taxable under the applicable provisions of the Revenue Acts in force during such years.

For the calendar year 1929 the Commissioner increased petitioner's income by an amount of $ 3,240.08 representing a portion of fiduciary commissions disallowed as a deduction by reason of pro -rating such commissions between taxable and nontaxable income. It is admitted that the income should not have been increased by the said amount (General Counsel's Memorandum 9954).

Paragraph tenth of the will (incorporated herein by reference of Morton F. Plant, heretofore referred to, is as follows:

I direct my trustees to continue to maintain my home at Eastern Point, Connecticut, with all its appurtenances so long as my son Henry Bradley Plant may wish to occupy the same as a permanent or summer residence and to charge the expense of such maintenance proportionately against the income of the trusts hereby created for the benefit of my wife and sons, before ascertaining the net income from such trusts.

The trusts referred to in said paragraph are three in number, one for the benefit of decedent's wife, and one each for the benefit of his son and an adopted son.

The sixteenth paragraph of the will reads:

I direct that all transfer, inheritance and estate taxes to which my property or the transfer of any part thereof may be liable shall be paid out of my residuary estate as an expense of administration and that no devise, legacy nor bequest herein contained shall be diminished by any such tax.

OPINION.

SEAWELL: The first issue we shall consider and determine is whether the amounts paid by the trustees under the will of Morton F. Plant for the upkeep of the home at Eastern Point, Connecticut, out of income from the trusts established by him, constitute income to the petitioner.

This issue arises out of paragraph tenth of Morton F. Plant's will, which is set out in the findings of fact. The Commissioner determined that the expense of maintaining the residence as provided in the will was additional income to the petitioner, who was thereby relieved of such expense on the residence occupied by him. The petitioner traverses this determination. We do not think Old Colony Trust Co. v. Commissioner, 279 U.S. 716, cited and relied on by the respondent, sustains his contention. The principle enunciated in that case is not applicable.

On the issue in the instant proceedings we are dealing with specific sections of the statutes imposing tax upon trust income, and where such tax is imposed primarily upon the trustee or trustees. The statutes involved are found in the Revenue Acts of 1924, 1926, and 1928, and are substantially the same in all three acts. The sections principally relied on by petitioner as applicable are not set forth herein, but are merely referred to as section 219(a), 219(a)(2), 219(b), and 219(b)(2) of the 1924 and 1926 Acts, and sections 161(a), 161(a)(2), 161(b), and 162(b) of the 1928 Act.

In John D. Rogers, Trustee, 16 B.T.A. 368, we had before us a case in which the facts are similar to those in the instant case. The testator, John D. Rogers, died in 1908, devising his plantation in Texas to the Texas Guarantee & Trust Co. in trust, which company declined to qualify and the petitioner, John D. Rogers, a grandson and one of the beneficiaries under the will, was appointed as trustee, the trust providing in part as follows:

To control, manage and operate said plantation with power to lease or rent the whole or any part thereof from year to year, and after paying all costs and expenses, including, among other things, the cost of keeping up and maintaining improvements and equipment on said Plantation and taxes, and after deducting reasonable compensation (not to exceed $ 500.00 per annum) to said Company for its services hereunder, to pay over annually one half (1/2) of the rents and revenues from said Plantation to my son, Robert A. Rogers, for and during his natural life and the other one half (1/2) of such rents and revenues from said Plantation to my son Robert A. Rogers as Trustee for my grandchildren. * * *

The will provided that the plantation should not be sold, but such provision was revoked by a codicil, which also provided: "Furthermore, until sale of plantation, the trustee shall retain out of proceeds of each year's crop sufficient to operate plantation the following year."

The deficiencies in tax were for the years 1923 and 1924, and were determined against the petitioner, this Board following the reasoning of the Circuit Court of Appeals for the Eighth Circuit in Willcuts v. Ordway, 19 Fed.(2d) 917, and holding that under the will and codicil of Rogers the beneficiaries had no distributable interest until all costs of operation of the current year had been paid and a sum retained for operations of the following year.

In Willcuts v. Ordway, supra, the court had occasion to interpret and apply the meaning of "distribution" and "distributed" as used in the 1916, 1918, and 1921 Revenue Acts (which construction we followed in the John D. Rogers, Trustee, case, supra ), and in so doing, the court said in part:

     * * * In each of these acts, the intent is that annual income to

We are of the opinion that Margaret B. Sparrow did not have a life estate in the premises. The will specifically provides that she "shall have the right to occupy such residence, * * * without the payment of any rent or charge therefor." This would imply that she could not lease the premises and that she would not be entitled to receive rents or profits from the premises should they be leased by the trustees. All such rents and profits would be payable to the trustees. Her only right in the premises is to occupy them. Nowhere does it appear in the will that the testator intended his widow to assume the obligations of a life tenant. She was not required to prevent waste, keep down encumbrances and charges, to pay interest on mortgages, if any such rested on the property, or to contribute toward paying off mortgages. Since the premises in question were a part of the corpus of the trust estate, the trustees clearly had authority to make necessary repairs upon them. Clearly, if the trustees had rented the premises and derived rent therefrom, no question could be raised but that they would be entitled to deduct from the gross income of the estate the amounts paid by them for necessary repairs. We think the situation is no different merely because by the provisions of the will the testator's widow was permitted to occupy the premises. Nor do we think that there is any necessary implication that the testator intended that his widow should bear the expense of necessary repairs. He provided that the trustees should pay over to the widow a sum "equal to the amount of the annual taxes, water rates, assessments, and insurance charges" upon the property. Paragraph "Thirteenth" of the will provided, however, that the widow should occupy the premises "without the payment of any rent or charge therefor." As we construe the will, the widow was not chargeable with repairs upon the premises and, since the premises were included in the corpus of the trust estate, the trustees clearly had implied authority to make necessary repairs.

We are of the opinion and hold that the mere right or privilege possessed by the petitioner under the terms of the will to occupy the former home of the testator, so long as he might desire, is not in the sense of the statute income to the petitioner. The provisions of the will did not authorize nor permit the petitioner to lease the premises and receive the rents therefrom for his own separate use and benefit to do with as he might see fit, but the amounts used in the matter of the upkeep of the premises were expenditures made by the trustees pursuant to the specific directions of the will, the petitioner, so far as the record discloses, having no control over the amounts.

We hold, therefore, that the income collected by the trustees and so expended by them in maintenance of the premises, including the payment of taxes thereon, pursuant to provisions of the will, did not represent "income" distributed or distributable to the petitioner herein within the meaning of that term as laid down by the Supreme Court in Eisner v. Macomber, 252 U.S. 189, and the respondent erred in determining otherwise.

The only other question in dispute relates to distributions made by the Griswold Co., in which the petitioner shared to the extent of one half. The amounts of distributions considered by the Commissioner as taxable dividends to the petitioner are set forth in our findings of fact.

The petitioner contends that no part of the distributions made by the Griswold Co. for the years in issue is taxable to him. The record shows that the company made earnings and profits during the six years in issue, 1924 to 1929, inclusive, of $ 951,711.40, or $ 309,711.40 more than the aggregate amount of distributions to its stockholders during that time. It is the insistence of petitioner that during that entire time the corporation had an operating deficit and the distributions represented a return of capital and are not taxable distributions from accumulated earnings and profits within the applicable provisions of the revenue acts. The respondent contends that the distributions taxed to petitioner were from earnings of the corporation accumulated since March 1, 1913, were paid out of surplus, and are taxable.

The record shows that beginning with March 1, 1913, the corporation had a small surplus of $ 4,811.64 and that in that year and years subsequent to January 1, 1921, it sustained losses, there being an operating deficit on the latter date of $ 1,035,818.02. In 1921 and 1922 there were earnings, which reduced the deficit, leaving a deficit as of January 1, 1923, of $ 1,017,978.63. In the latter year, however, there was a loss of $ 493,979.51, which, added to the prior existing deficit, makes a total of $ 1,511,958.14. During 1923 the stockholders made a donation to the corporation of 10,400 shares of its stock, having a par value of $ 1,040,000, and transferred property to the corporation having a value in excess of the par value of the stock issued for such property, in the amount of $ 672,000, resulting in the books of the corporation no longer showing a deficit, but a surplus on January 1, 1924, of $ 200,041.86. The record also shows that in 1924 there was transferred to the Griswold Co. certain property which was set up on the books of the company substantially on the basis of the valuation made for Federal estate tax purposes. For that property the company issued 480 shares of its treasury stock, such stock account being credited with the par value thereof, $ 48,000, and the balance, excess of value of property over par value of stock received, $ 67,200, credited to surplus as fully set forth in our findings of fact.

While the respondent contends that the amount of the distributions taxed to the petitioner were from earnings accumulated since March 1, 1913, and were paid out of surplus and are taxable, such contention can not be sustained in the light of this record, except on the assumption that the contributions by the stockholders of the Griswold Co. to it of stock and property as aforesaid constituted "earnings or profits accumulated since February 28, 1913." The facts as stipulated and set forth in our findings of fact show that the operating deficit of the company on January 1, 1923, was $ 1,017,978.63, and there were never any actual earnings of the company after that, including all the years in issue, to make good or wipe out that deficit, the actual earnings during the years in issue being $ 951,711.40, or $ 66,267.23 less than the operating deficit. Under such circumstances, shown in detail in our findings of fact, there is not, in our opinion, any justification for the respondent's determination that the distributions to stockholders made during the taxable years in issue, amounting to $ 642,000, were made from earnings or profits accumulated since February 28, 1913, within the meaning of the applicable revenue acts. Such dividend distributions as were made to stockholders during the taxable years in issue were, in our opivion, and we so hold, made from capital or "paid-in surplus," distinguished from actual earnings or profits, constituting an "earned surplus." The record shows there was an operating deficit during the entire time, 1924 to 1929, inclusive, which exceeded in amount all the earnings or profits made during such period. This is fully and clearly shown in our findings of fact. The facts bring these cases within the rule and make applicable the principle that a paid-in surplus must be treated like capital, and dividends paid while there is an operating deficit should be deemed to be from capital or paid-in surplus, even though there are earnings of the taxable year sufficient to pay the dividends paid in that year in whole or in part.

In our opinion, the determination of the issue discussed is controlled by Arthur C. Stifel, 29 B.T.A. 1145, and renders unnecessary a further discussion of this issue, which we determine in favor of the petitioner.

The record shows that the respondent admits that petitioner's income for 1929 should not have been increased by $ 3,240.08 representing a portion of fiduciary commissions disallowed as a deduction by reason of prorating such commissions between taxable and nontaxable income.

Decision will be entered under Rule 50.