Trent v. CIR

• Decision Date: 09 June 1961
• Docket Number: No. 347,Docket 26813.,347
• Citation: 291 F.2d 669
• Parties: John M. TRENT and Lisa M. Trent, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Court of Appeals — Second Circuit

291 F.2d 669 (1961)

John M. TRENT and Lisa M. Trent, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 347, Docket 26813.

United States Court of Appeals Second Circuit.

Argued May 8, 1961.

Decided June 9, 1961.

Edmund K. Trent, Pittsburgh, Pa. (Reed, Smith, Shaw & McClay, Pittsburgh, Pa., of counsel), for petitioners.

Richard J. Heiman, Washington, D. C. (Louis F. Oberdorfer, Asst. Atty. Gen., Lee A. Jackson, I. Henry Kutz and Richard J. Heiman, Attorneys, Department of Justice, Washington, D. C.), for respondent.

Before FRIENDLY and SMITH, Circuit Judges, and WATKINS, District Judge.^*

FRIENDLY, Circuit Judge.

The question is whether a corporate employee who makes loans to the corporation in order to hold his job may deduct for a business bad debt if the loans become worthless. Despite the Tax Court's statement, echoed before us by the Commissioner, that to give an affirmative answer "it would be necessary to overrule a large proportion of the cases dealing with this subject," the Commissioner has cited no decision of the Supreme Court or of a Court of Appeals squarely in his favor. Neither has the taxpayer. There are dicta favorable to the Commissioner; the language of the statute and decisions under other sections favor the taxpayer. We hold for him.

From 1938 to 1953, save for five years in the Navy, Trent had been employed by American Express Co. In August, 1953, he accepted employment by Edward F. Caldwell & Co., Inc. at $150 a week; he was also to serve as vice president and business manager of Plastic Illuminating Co., Inc., of which Caldwell was president and had been half owner. Trent was required to pay $5,000 for one-third of the stock of Plastic; Caldwell also told him that he would be expected to make loans to the companies until their cash condition improved. On eleven occasions between February and September, 1954, Trent, at Caldwell's request, made advances, nine to Caldwell, Inc. and two to Plastic, sometimes on the specific representation that unless he did so, supplies would be cut off by vendors and the business shut down. Some advances were repaid but a balance of $8,900 was not. Late in September, 1954, Trent was asked by Caldwell to make a further advance of $5,000 to Caldwell, Inc. He was advised that unless he did, the company would not be able to pay his salary and he would be fired. Trent did not make the advance; he was fired. In 1955, Trent demanded repayment but was told the companies were without funds; however, it was agreed he should assign to Caldwell his claims against Caldwell, Inc. for $100, his claims against Plastic for $550, and his Plastic stock for $100, the entire consideration of $750 to consist of lighting fixtures to be turned over by Caldwell, Inc.

In Trent's 1955 return, he deducted the unpaid balance of the loan, $8900, less $650, or a net of $8250, as a business bad debt, Internal Revenue Code of 1954, § 166, 26 U.S.C.A. § 166. The Commissioner disallowed the deduction, claiming that the debt was "nonbusiness" under § 166(d) and that, as provided in that subsection, which embodies an amendment first made by the Revenue Act of 1942, § 124, 56 Stat. 798, 820, a deduction could hence be taken only for a short-term capital loss. Taxpayer petitioned for review.

The Tax Court treated the case on the basis, not questioned here by the Commissioner, "that the advances were, in fact, loans as distinguished from capital contributions (as to Plastic), for which petitioner expected to be repaid and that the debts actually became worthless in 1955 to the extent claimed by petitioner"; the sole issue was whether they were business or nonbusiness bad debts. The Tax Court also accepted "petitioner's contention that he was required to advance the funds in dispute to the companies as a condition to his continued employment in the business" — thereby taking out of the case any claim that Trent had made the loans to protect his $5,000 investment in Plastic. Although the Tax Court said the issue "`is a question of fact in each particular case,'" the opinion makes evident that the Court's denial of the deduction rested, not on any facts peculiar to this case — which, indeed, were about as strong for a taxpayer making such a claim as any could be — but upon the Tax Court's view, based in part upon the statement in Wheeler v. C. I. R., 2 Cir., 1957, 241 F.2d 883, 884, mentioned below, that, as a matter of law, loans made to a corporation by an employee for the purpose of protecting his employment cannot be "a debt created or acquired (as the case may be) in connection with a taxpayer's trade or business," § 166(d) (2) (A). The decision is thus fully reviewable here, C. I. R. v. Smith, 2 Cir., 1953, 203 F.2d 310, 311; August v. C. I. R., 3 Cir., 1959, 267 F.2d 829, 833.

It may be well to begin by looking at the statute, despite — or perhaps because of — all that has been written about it. The particular words here requiring construction, "in connection with a taxpayer's trade or business," are illuminated by reference to the general statutory scheme. Throughout the Internal Revenue Code there runs a distinction between those expenses and losses incident to the endeavor to earn a livelihood by "holding one's self out to others as engaged in the selling of goods or services," Deputy v. DuPont, 1940, 308 U.S. 488, 499, 60 S.Ct. 363, 369, 84 L.Ed. 416 (concurring opinion of Mr. Justice Frankfurter), those incident to other activities that are pecuniarily motivated, Higgins v. C. I. R., 1941, 312 U.S. 212, 61 S.Ct. 475, 85 L.Ed. 783, and those incident to activities that are not. Deductions of the first class are usually allowed fully, some of the second and third only under limitations, and some, especially of the third class, not at all. The words which Congress has long used to mark off the first class are "trade or business," often with variations whose significance, or lack of it, we shall have to examine; the courts have properly assumed that the term includes all means of gaining a livelihood by work, even those which would scarcely be so characterized in common speech, Hill v. C. I. R., 4 Cir., 1950, 181 F.2d 906 teacher; Coburn v. C. I. R., 2 Cir., 1943, 138 F.2d 763 actor; Walter I. Geer, 1957, 28 T.C. 994 judge; Matilda M. Brooks, 1958, 30 T.C. 1087 research worker;¹ and other instances cited in 4 Mertens, Law of Federal Income Taxation (1960) ch. 25, p. 22, fn. 66-69.

If "trade or business" includes such activities, the conclusion that it includes selling lighting fixtures would seem an easy one; and this is no less a "trade or business" of the employee because it is also one of the employer. Hence, if we were reading from a slate clean save for the statute, we should arrive rather swiftly at a holding that loans made by an employee to his employer in order to retain his job are as much "created * * * in connection with a taxpayer's trade or business" as loans by the employer to customers, suppliers, or employees in the interest of the business would surely be. Stuart Bart, 1954, 21 T.C. 880; Arthur Rubel, T.C.Memo 1954-135, 13 T.C.M. 827; J. T. Dorminey, 1956, 26 T.C. 940. Indeed, another section of the Code making provisions, not directly relevant here, as to deductions "attributable to a trade or business carried on by the taxpayer, if such trade or business does not consist of the performance of services by the taxpayer as an employee," § 62(1), would have overcome any possible doubt that "the performance of services * * * as an employee" is "a trade or business" where the statute does not so expressly negate it. However, there is much other writing on the slate; we must determine whether it calls for reading the words of § 166(d) (2) (A) differently from what their sense would seem to be.

Despite statements that the words "trade or business" have "many shades of meaning, and are subject to colloquial abuses, Hughes v. C. I. R., 10 Cir., 1930, 38 F.2d 755, 759, the courts, quite understandably, have not regarded the various sections of the Code using that term as water-tight compartments. Indeed, the classic point of departure for almost any tour in this general area, regardless of the particular section concerned, is afforded by Dalton v. Bowers, 1932, 287 U.S. 404, 53 S.Ct. 205, 77 L.Ed. 389, and Burnet v. Clark, 1932, 287 U.S. 410, 53 S.Ct. 207, 77 L.Ed. 337, both opinions by Mr. Justice McReynolds announced on the same day. They arose under similar statutory language, Dalton under § 206(a) of the Revenue Act of 1924, 43 Stat. 253, 260, 26 U.S.C.A.Int. Rev.Acts, Burnet under § 204(a) of the Revenue Act of 1921, 42 Stat. 227, 231. These sections carried forward a provision, first enacted in the Revenue Act of 1918, 40 Stat. 1057, 1060, permitting certain loss carry-overs. Section 204(a) of the 1921 Act limited the net losses eligible for carry-over to "net losses resulting from the operation of any trade or business regularly carried on by the taxpayer"; it prescribed a formula for arriving at this which, briefly stated, was the excess of normal deductions over various gross income items and "the amount by which the deductible losses not sustained in such trade or business exceed the taxable gains or profits not derived from such trade or business." Section 206(a) of the 1924 Act got at the problem less back-handedly by defining the "net loss" eligible for carry-over as the excess of certain permitted deductions "over the gross income" with various "exceptions and limitations" of which that here pertinent was as follows:

"(1) Deductions otherwise allowed by law not attributable to the operation of a trade or business regularly carried on by the taxpayer shall be allowed only to the extent of the amount of the gross income not derived from such trade or business."

The issue in the Dalton and Clark cases was not the general one whether certain items were deductible but whether, as claimed by the taxpayers, they were "attributable to the...