Gray v. Comm'r of Internal Revenue (In re Estate of Israel)
| Decision Date | 01 April 1997 |
| Docket Number | No. 31588-88,13142-89.,31588-88 |
| Citation | 108 T.C. 208,108 T.C. No. 13 |
| Parties | ESTATE OF Leon ISRAEL, Jr., Deceased, Barry W. Gray, Executor, and Audrey H. Israel, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.Jonathan P. WOLFF and Margaret A. Wolff, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Herbert Stoller and William L. Bricker, Jr., for petitioners. *
Steven R. Guest, Mark J. Miller, and Edward G. Langer, for respondent.
Respondent determined deficiencies in petitioners' Federal income taxes and increased interest as follows:
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¦Estate of Leon Israel, Jr., Deceased, and Audrey H. Israel¦ ¦
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¦¦ ¦¦ ¦¦Increased Interest¦
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¦¦Year ¦¦Deficiency ¦¦Sec. 6621(c) ¦
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¦¦ ¦¦ ¦¦ ¦
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¦¦1977 ¦¦$ 9,837 ¦¦* ¦
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¦¦1979 ¦¦14,442 ¦¦* ¦
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¦¦1980 ¦¦62,482 ¦¦* ¦
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¦¦ ¦¦ ¦¦ ¦
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* 120 percent of interest accruing after Dec. 31, 1984, on portion of the underpayment attributable to a tax-motivated transaction.
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¦Jonathan P. and Margaret A. Wolff¦ ¦¦ ¦
+---------------------------------+----------++------------------¦
¦¦ ¦¦ ¦¦ ¦
++-------------------------------++----------++------------------¦
¦¦ ¦¦ ¦¦Increased Interest¦
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¦¦Year ¦¦Deficiency¦¦Sec. 6621(c) ¦
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¦¦1979 ¦¦$55,114 ¦¦* ¦
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¦¦1980 ¦¦82,369 ¦¦* ¦
++-------------------------------++----------++------------------¦
¦¦1981 ¦¦2,294 ¦¦* ¦
++-------------------------------++----------++------------------¦
¦¦ ¦¦ ¦¦ ¦
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* 120 percent of interest accruing after Dec. 31, 1984, on portion of the underpayment attributable to a tax-motivated transaction.
Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.
After settlement, the sole issue for decision is whether losses incurred in connection with closing forward contracts in Government securities should be treated as capital losses or as ordinary losses.
The parties submitted these consolidated cases fully stipulated under Rule 122. More specifically, as factual evidence in these cases, the parties stipulated the admissibility of the entire trial record of Stoller v. Commissioner, T.C. Memo. 1990-659, 60 T.C.M. (CCH) 1554, 1990 T.C.M. (P-H) par. 90,659, affd. in part and revd. in part 994 F.2d 855 (D.C. Cir. 1993). That case involved Herbert Stoller (Stoller), petitioners' counsel in the instant cases and also a partner in Holly Trading Associates (Holly), a partnership in which Leon Israel, Jr. (Israel), Jonathan P. Wolff (Wolff), and other petitioners herein also invested, and the treatment, for Federal income tax purposes, of the identical losses of Holly relating to the same forward contracts that are at issue in the instant cases. A number of additional issues that were addressed in Stoller v. Commissioner, supra, are not at issue herein.
We expressly incorporate into our findings of fact the background facts relating to Holly's investments in forward contracts and commodity straddle transactions as well as the specific facts relating to the particular commodity forward contracts that are at issue herein as those facts were found in our opinion in Stoller v. Commissioner, supra, with one exception as to the ultimate finding of fact that we made in our Stoller opinion with regard to the tax treatment of the losses incurred on the commodity forward contracts that were closed by cancellation and termination as explained further below.
We also attach hereto and incorporate into our findings of fact as Appendixes A-1 and A-2, certain schedules that were attached to our opinion in Stoller v. Commissioner, 60 T.C.M. (CCH) at 1569-1571, 1990 T.C.M. (P-H) at 90-3223 to 90-3227. (We note that Appendixes A-1 and A-2 attached hereto were labeled Appendixes B-1 and B-2 in our above Stoller opinion.) These schedules, among other data, set out data relating to the three groups of forward contracts that are at issue in the instant cases.
The schedule below identifies lines of Appendixes A-1 and A-2 that reflect specific information with regard to each of the three groups of forward contracts in issue and the amount of the losses claimed by Holly with respect thereto:
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¦Transaction & Losses Claimed ¦¦Appendixes A–1 and A–2 Line Nos. ¦
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¦First Contracts ¦—¦($837,500)¦¦A–1, Lines 5, 7, 9, 11, 17–24, 26, 28 ¦
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¦Second Contracts¦—¦($816,219)¦¦A–2, Lines 1, 3, 5, 7–12, 24–26, 29, 30¦
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¦Third Contracts ¦—¦( $10,000)¦¦A–2, Lines 13–20 ¦
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The opinion of the U.S. Court of Appeals for the District of Columbia Circuit in Stoller v. Commissioner, supra, provides only an abbreviated explanation of the particular forward contracts that were the subject of the appeal of our opinion in Stoller v. Commissioner, supra, and that are at issue herein.
We also, in light of the essentially legal nature of the issue before us, set forth herein a somewhat abbreviated explanation of the details of the particular forward contracts that are at issue, but we emphasize particular aspects of these forward contracts, the significance of which appears to have been overlooked by the Court of Appeals in its analysis and opinion in Stoller v. Commissioner, supra.
We believe that the aspects of these transactions that we emphasize herein are significant and determinative of the narrow issue before us (namely, whether the losses in question are deductible as capital or as ordinary losses). We also note that respondent has conceded the increased interest under section 6621(c) and makes no contention herein that the forward contracts at issue were sham transactions or lacked a business purpose or profit motive. Further, no issue is raised as to petitioners' cost basis in the forward contracts in question.
As indicated, from 1979 to 1982, Israel, Wolff, Stoller, and other individuals were partners in Holly, which partnership invested nominally in interest-bearing Government securities, such as U.S. Treasury Bonds (T-Bonds) and Government National Mortgage Association Bonds (GNMA's) by way of unregulated commodity forward contracts.
Holly utilized forward contracts to conduct an arbitrage program involving the simultaneous purchase in one market and sale in another market with the expectation of making a profit on price differences in the different markets. Holly's program involved the establishment of long positions in Government securities and the simultaneous establishment of short positions in different Government securities, with a difference in the interest rates, or repurchase rates, on the two positions that was calculated to yield a nominal net profit to Holly when the positions were liquidated.
In this instance, a long position represents a contract to purchase a Government security in the future, and a short position represents a contract to sell a Government security in the future. The establishment of both long and short positions in the same type of commodity is called a spread or a straddle.
In the minds of the partners of Holly, in actuality and in substance, Holly's investments in commodity forward contracts involved nothing more than contracts to speculate in or to arbitrage -- for the short length of time that the forward contracts remained outstanding -- changes or shifts in the interest and discount rates associated with the particular type of Government securities to which the forward contracts were pegged. By entering into offsetting forward contracts to purchase and to sell these Government securities, Holly effectively created synthetic short-term security investments by means of the straddles, even though the underlying Government securities to which the interest rate speculation was pegged constituted long-term Government securities.
For example, by entering into a contract to purchase, at...
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