Porter v. Commissioner

         UNITED STATES COURT OF APPEALS FOR THE NINTH CIRCUIT

There is but one question presented by this petition for review, namely, whether the Porter Property Trustees, Ltd., is an association taxable as a corporation, or a pure trust. The Commissioner determined a deficiency in the income and excess profits tax liability of said Porter Property Trustees, Ltd., for the calendar year 1935, and the taxpayer petitioned the Board of Tax Appeals for redetermination of the deficiencies. The Board upheld the Commissioner, and this petition or review, filed by the "trustees," followed.

Prior to February 28, 1935, the entire capital stock of James Porter Investment Co., a Delaware corporation, was owned and held by James Porter and Katie E. Porte,r husband and wife, and the members of their family. On that date, and for some time prior thereto, the James Porter Investment Company was the owner of certain personal property, and also held in fee simple certain land, mainly agricultural and unimproved, and situate in Kern County and San Luis Obispo County, California, Nobles County, Minnesota, and Grundy County, Iowa. The corporation acquired this land from James Porter and Katie Porter at the time of its incorporation in 1930, in exhchange for its capital stock. Its personal property was partly acquired in like manner and partly as a result of business activities between 1930 and Februry 28, 1935. Certain of the real properties were improved both before and during the period held by the company and farming activities were engaged in thereon by lessees for profit on part of the land, while owned by the company. The shareholders of the corporation James Porter Investment Company and their relationship were as follows:

 James Porter                     Father                    685 Shares

Immediately following acquisition of the shares of the Investment Company, the trustees exchanged the shares with the Investment Company for all of its assets, except one parcel of real estate located in Grundy County, Iowa, known as the "Porter Homestead." The homestead was then transferred to Katie Porter, the mother. Shortly thereafter the Porter Investment Company was liquidated and dissolved.

the interests of the respective beneficiaries are described in the trust instument as "expectancy fractions," which the said instrument provides: " * * * shall at first be allotted in the records of the Board under instructions delivered to the Board by James Howard Porter.Should frations appear dormant thereby, while held dormant they shall not be reckoned with when apportioning in distributions, such being computed solely by or upon the fractions registered as to beneficiaries at time ofmaking each distribution. Dormant fractions, their usefulness being contingent upon possible future conveniences, remain subject to the discretion of the Trustees."

Pursuant to the above provisions, under instructions from James Howard Porter, expectancy fractions were allotted in the records of the board of trustees as follows:

 Paul D. Porter                                               290/1000

Since the inception of the trust in 1935, James Howard Porter has been the president of its board of trustees and, with the two other trustees, has managed its business; he is more active in its affairs than the other two, but confers informally with them. In 1935, the affairs of the trust were carried on as prescribed in the trust instrument. James Howard Porter executes all leases in behalf of the trust and attempts to realize a profit on these leases; farm lands owned by the Trust are leased on the same basis. A large part of the trust income in 1935 was realized out of royalties and a bonus paid it by an oil company lessee of certain of its lands. Other of its income was paid to it on installment contracts which had been transferred by the James Porter Investment Company in 1935.

Within the time provided by law the petitioner trust filed an individual income tax return under Title I of the Revenue Act of 1934, 48 Stat. 680, 26 U.S.C.A. Int. Rev. Acts, page 664 et seq., disclosing thereon a net income of $7,192.38 and a tax liability of $337.31. No other return was filed by petitioners for the year 1935. In the deficiency notice the Commissioner determined that in 1935 petitioner was an association taxable as a corporation within the meaning of section 801(a)(2) of the Revenue Act of 1934, 48 Stat. 680, 771, 26 U.S.C.A. Int. Rev. Acts, page 790, and Articles 801(2) and (3) of Treasury Regulations 86, and he further determined that petitioner was a personal holding company within the meaning of section 351(b)(1) of the Revenue Act of 1934, 48 Stat. 751, 26 U.S.C.A. Int. Rev. Acts, page 757, and Article 351(2) of Regulations 86. In addition, for failure to file a return as required by Article 351-8 of Regulations 86, an assessment of 25% of the tax computed under Section 351(a) was levied.

Section 801(a)(2) of the Revenue Act of 1934, 48 Stat. 680, 771, provides that when used in the Act, "The term 'corporation' includes associations, joint stock companies, * * * ." With reference to this section of the Act, Regulation 86, Article 801-1 states, "Thus a trust may be classed as a trust or as an association (and, therefore, as a corporation), depending upon its nature or its activities."

The petitioners contend that Porter Property Trustees, Ltd., is not an association within the meaning of the statute and regulation and, therefore, is not taxable as a corporation. In support of this contention, they argue that the "trust" is a pure "ancestral" or "traditional" trust which did not carry on a business, but limited its activities "to the normal care incidental to the property belonging thereto."

Problems involving facts somewhat similar to those in the instant case have been before the courts on numerous occasions, which, from time to time, have set down tests whereby the true of the enterprise may be ascertained for taxing purposes. In Morrissey v. Commissioner, 296 U.S. 344, 56 S.Ct. 289, 80 L.Ed. 263, the leading case on this question, the Supreme Court discussed the resemblance between associations and corporations, and then said:

     "What, then, are the salient features of a trust - when created

There are two tests to be applied to a trust in order to determine whether or not it is taxable as a corporation: (1) What is its purpose?; and (2) what is the extent of its business activity? Of the two, the first is the more important. Marshall's Heirs v. Commissioner, 3 Cir., 111 F.2d 935, 938. In Fidelity-Bankers Trust Co. v. Helvering, 72 App.D.C. 1, 113 F.2d 14, 17, appears a statement of the law on this subject well worth repeating:

     "We are concerned here with a trust. Taxability as an

There is here no expressed purpose of liquidation, or of conservation, but an avowed intent "to engage in any lawful business" in order to realize a gain or profit to the trust estate. Here is continuity of existence and operations "during any lawful term" despite any change in beneficiaries. Clearly, then, the trust instrument exhibits authority in the trustees to engage in business. The activities of the trustees do not compel a contrary conclusion, but give rise to the conclusion that the activities during the taxable year were sufficient to constitute carrying on business. Flint v. Stone Tracy Co., 220 U.S. 107, 171, 31 S.Ct. 342, 55 L.Ed. 389, Ann. Cas. 1912B, 1312; Von Baumbach v. Sargent Land Co., 242 U.S. 503, 514, 515, 37 S.Ct. 201, 61 L.Ed. 460; Hecht v. Malley, 265 U.S. 144, 161, 162, 44 S.Ct. 462, 68 L.Ed. 949; Thrash Lease Trust v. Commissioner, 9 Cir., 99 F.2d 925, 928. The activities here "went beyond transactions carried on for the single purpose of effecting a liquidation of assets; * * * ." Willis et al. v. Commissioner, 9 Cir., 58 F.2d 121, 123. Cf. United States v. Rayburn, 8 Cir., 91 F.2d 162, 167, 168. Moreover, it is not alone what the trustees did during the taxable year, but what they were empowered to do. Morrissey v. Commissioner, 296 U.S. 3448 361, 56 S.Ct. 289, 80 L.Ed. 263; Commissioner v. Vandegrift Realty & Investment Co., 9 Cir., 82 F.2d 387, 390; Sloan v. Commissioner, 9 Cir.m 63 F.2d 666, 669, 670. Cf. Helvering v. Washburn, 8 Cir., 99 F.2d 478, 481.

As a part of their argument that the enterprise was a pure ancestral trust, the petitioners urge that the transaction whereby the trust was created was a gift in trust from the parents to their children. Aside from the fact that this is not completely in accord with the terms of the trust instrument, the fact is immaterial. See Solomon v. Commissioner, 5 Cir., 89 F.2d 569, 571, where it is said: "It has been rightly determined to be an associtation, the grantor and the five trustees who initially took title to the entire 1100 beneficial shares being the original associates. The grantor contributed all the property, but her sons undertook the management of the enterprise and received for themselves and others shares in it. Each person on accepting shares in a business enterprise thus organized becomes an associate."

In United States v. Davidson, 6 Cir., 115 F.2d 799, 800, relied upon by petitioners, the trust instrument declared the primary purpose of the trust to be the conversion of the trust property into money and the distribution of the proceeds among the beneficiaries. In Blair v. Wilson Syndicate Trust, 5 Cir., 39 F.2d 43, 44, another of petitioners' authorities, the trustees were directed by the trust instrument to sell or otherwise dispose of the corpus of the trust estate as rapidly as could be done to adbantage, and to distribute the proceeds to the beneficiaries. These two decisions treat of trusts which were clearly liquidating trusts, and are, therefore, distinguishable. A third case, Commissioner v. Guitar Trust Estate, 5 Cir., 72 F.2d 544, was decided more than a year before the Morrissey decision was handed down and, hence, is not authoritative. See, also, Commissioner v. Vandegrift Realty & Investment Co., 9 Cir 82 F.2d 387, 391.

The Order of the Board of Tax Appeals is affirmed.