Thornton v. Comm'r of Internal Revenue

• Citation: 5 T.C. 116
• Decision Date: 22 May 1945
• Docket Number: Docket No. 3545.
• Parties: DAVIS B. THORNTON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: United States Tax Court

5 T.C. 116

DAVIS B. THORNTON, PETITIONER,

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 3545.

Tax Court of the United States.

Promulgated May 22, 1945.

Petitioner's wife joined in hypothecation of insurance policies under which she was beneficiary, in order that he might borrow money and purchase 125 shares, half of the corporate stock of a corporation in which he held the other 125 shares. Thereafter he gave her 10 shares. Later, the petitioner, his wife, and an auditor decided that a partnership would be more economical, that taxes would be saved, and necessary capital more easily borrowed, as a partnership; and thereafter petitioner decided to and did give his wife 115 shares by unconditional irrevocable gift. The stock certificates were delivered to her. Thereafter the corporation was dissolved, one-half of the assets were delivered to the petitioner and one-half to his wife (they assuming all corporate liabilities), and they entered into a partnership, on equal terms as to gains, losses, and control. The wife had a substantial separate estate. The petitioner conducted the business operations of the partnership, the wife rendering no services. Held, the Commissioner erred in taxing the petitioner upon the entire partnership income. Philip H. Alston, Esq., Francis G. Jones, Jr., Esq., and Allen H. Eidson, C.P.A., for the petitioner.

Edward L. Potter, Esq., for the respondent.

This case involves a deficiency in income tax for the calendar year 1940 in the amount of $231.37 and for 1941 in the amount of $5,614.87. Petitioner admits the correctness of the Commissioner's determination for 1940.

The first issue arises out of the adjustment made by the Commissioner by the addition of $15,127.27 to the petitioner's net income for the calendar year 1941. That amount the Commissioner determined was the entire income for the period from July 1 to December 31, 1941, from the business conducted under the firm name of D. B. Thornton Co. The petitioner assigns this action by the Commissioner as error, asserting that D. B. Thornton Co. was a partnership between himself and his wife during the period in question, and further asserting that the alleged partnership was on a fiscal year basis and that the end of the alleged partnership's first fiscal year was June 30, 1942.

The second issue arises out of the Commissioner's determination that petitioner's total taxable net long term capital gain in 1941 from the liquidation of D. B. Thornton Co., a corporation, was $1,121.23¹ rather than $4,276.69, as reported.² As a basis for this determination, the Commissioner held that petitioner was the legal owner of 125 shares of the capital stock of D. B. Thornton Co., a corporation, standing in the name of petitioner's wife; that the cost of the 125 shares (as well as that of another 125 shares of the same corporation admittedly owned by petitioner) was $10,027.89; and that the fair market value of the properties received in complete liquidation of the corporation attributable to each block of 125 shares was $11,149.42. Petitioner contends that he was not the legal owner of the 125 shares standing in his wife's name, also that the Commissioner's valuation of the properties received in liquidation of the corporation was erroneous. On brief he agrees with the cost basis, $10,027.89, contended for by the respondent.

FINDINGS OF FACT.

Petitioner is a married individual residing with his wife, Lucy Bagley Thornton, in Atlanta, Georgia. Petitioner's income tax return was filed on the cash basis for the calendar year 1941 with the collector of internal revenue for the district of Georgia.

Cromer & Thornton, Inc. (hereinafter sometimes referred to as Cromer, Inc.) was a corporation duly incorporated under the laws of the State of Georgia on April 15, 1919. Petitioner was one of its incorporators. On April 8, 1939, its charter was renewed for a period of 35 years. At that time it had only two stockholders, petitioner and Charles F. Cromer, each of whom owned 250 shares of the corporation's capital stock. Dissension and litigation between Cromer and petitioner culminated, on November 16, 1940, in the purchase by Cromer, Inc., of Charles F. Cromer's 250 shares for approximately $41,000. To consummate the purchase, Cromer, Inc., borrowed, on November 19, 1940, $30,000 from the First National Bank of Atlanta (hereinafter sometimes referred to as the bank). This loan was evidenced by two notes, each in the amount of $15,000. One of these notes was without specific collateral; the other was secured by various insurance policies on the life of petitioner. Cromer, Inc., was the beneficiary of some of these policies and petitioner's wife was the beneficiary of others. The face value of the policies in which Cromer, Inc., was named as beneficiary was $43,500, the face value of the policies in which petitioner's wife was named as beneficiary was $51,000, and the cash surrender value of the policies under which she was beneficiary in November 1940 was $12,800. Petitioner's wife joined her husband in the execution, on November 16, 1940, of assignments to the bank of the various policies in which she was named as beneficiary.

On November 16, 1940, petitioner made a gift to his wife of 10 shares of the capital stock of Cromer, Inc. Thereupon, at a meeting of the stockholders of Cromer, Inc., held on November 16, 1940, attended by petitioner and his wife, representing all of the issued and outstanding stock of the corporation except the 250 shares owned by the corporation, petitioner's wife, who acted as secretary, was elected a director of the corporation. At this meeting the bylaws of the corporation were amended to allow one person to fill the offices of president and treasurer, and to provide that the president should have active management of the business of the corporation and should make all contracts in its name and should execute on behalf of the corporation all deeds, notes, mortgages, and other contracts and should, with the treasurer, have control of the financial affairs of the corporation. This was followed by a meeting of the board of directors of Cromer, Inc., also held on November 16, 1940, and the minutes of that meeting recite that petitioner was elected president and treasurer; also that petitioner's wife was elected a director of the corporation and further that she was elected vice president and secretary of the corporation. Petitioner's wife acted as secretary at these and subsequent meetings of the corporation's stockholders and board of directors, but she never received a salary from the corporation.

On March 13, 1941, the corporate name of Cromer & Thornton, Inc., was changed to D. B. Thornton Co.

Some time in the early part of May 1941 petitioner, after discussing with his attorney, his auditor, personnel in the credit department of the bank, and his wife, the desirability of dissolving the corporation and conducting the business as a partnership composed of himself and his wife, decided upon the partnership. After this decision had been made, petitioner then determined to give his wife 115 of the 240 shares he owned of the corporation's capital stock. The stock certificates as to both the 10 shares and the 115 shares were delivered to the wife. The transfer of these 115 shares took place on June 11, 1941, and the transaction was duly reported for Federal gift tax purposes. The gifts were unconditional and irrevocable, with the right in the wife to do as she pleased therewith, and thereafter the petitioner exercised no control or dominion over the stock or the property received by the wife as a liquidating dividend.

On June 12, 1941, a meeting of the board of directors of D. B. Thornton Co. was held, attended by petitioner and his wife. It was resolved to retire and cancel the 250 shares of stock previously acquired from Charles F. Cromer, and it was further resolved that a meeting of the stockholders be called for the purpose of considering the recommendation of the board of directors of liquidate and dissolve the corporation and surrender its charter and franchise to the State of Georgia. Pursuant to that resolution, the stockholders of D. B. Thornton Co. held a meeting on the same day. The minutes of this meeting recite that notice was duly waived by the holders of all the outstanding capital stock to wit: ‘D. B. Thornton, holder of 125 shares and Mrs. Lucy Bagley Thornton, holder of 125 shares.‘ At this meeting of the stockholders it was resolved that the corporation go into complete liquidation and distribute all of its net assets to its stockholders in complete cancellation or redemption of all of its outstanding stock; that such liquidation be completed on or before June 30, 1941; that the corporation's charter and franchise be surrendered to the State of Georgia; that the corporation be dissolved; and that the transfer of all of its property to its stockholders in proportion to their respective holdings of stock in the corporation be on the terms that such stockholders shall assume and agree to pay all the debts and liabilities of the corporation and to perform all outstanding contracts.

On June 24, 1941, D. B. Thornton Co. assigned its lease to the premises on which it conducted its business to D. B. Thornton and his wife, who agreed to perform all the obligations imposed by the lease on D. B. Thornton Co.

A bill of sale was executed by D. B. Thornton Co. on June 30, 1941, of all of its property in consummation of its plan for complete liquidation and distribution of all of its assets to the stockholders in complete cancellation or redemption of all of its outstanding stock. The bill of sale recites that D. B. Thornton is the owner of 125 shares of stock and that Lucy Bagley Thornton is the owner of 125 shares of stock and that the conveyance is made to these two in proportion to their respective ownerships of the corporation's stock and that they agree to pay in proportion to their...