Austin v. United States, Civ. No. 6721.

• Decision Date: 21 August 1953
• Docket Number: Civ. No. 6721.
• Parties: AUSTIN et al. v. UNITED STATES.
• Court: U.S. District Court — Southern District of Texas

116 F. Supp. 283

AUSTIN et al. v. UNITED STATES.

Civ. No. 6721.

United States District Court, S. D. Texas, Houston Division.

June 29, 1953.

Supplemental Opinion August 21, 1953.

Paul Port, Houston, Tex., for plaintiffs.

Brian S. Odem, U. S. Atty., and Wm. R. Eckhardt, Asst. U. S. Atty., Houston, Tex., for defendant.

CONNALLY, District Judge.

This consolidated action is one to recover income taxes allegedly illegally assessed and collected for the calendar years 1946, 1947 and 1948.¹ It presents two questions, namely, whether certain gains from the sale of real estate should be treated as capital gains, under the terms of Section 117 of Title 26, U.S. C.A., or as ordinary income, and whether certain income properly was taxable to the taxpayer D. T. Austin, or to the estate of his deceased wife Kate Ida Austin, as a separate taxable entity. The facts arise in the following manner.

In 1917, the taxpayer D. T. Austin entered into an equal partnership with W. D. Haden, operating under the name of Haden & Austin, to engage in the road construction business. Mr. Austin was managing partner and was actively in charge of the partnership business. The business prospered from its inception. In about 1923, the partners began the practice of investing their surplus earnings in tracts of unimproved real estate in and near the City of Houston. Between 1923 and 1933, a number of such tracts were purchased at a total cost of about $300,000. Little, if any, of the property was sold during that time. Title was taken in the names of the partners jointly, and the real estate was reflected as an asset on the partnership books. These tracts were not used in the partnership venture except incidentally, in that one or two lots from time to time were used for the storage of equipment, and by reason of these assets appearing on the balance sheet, the company was in position always to show a strong financial statement.

About 1938, the partnership began selling certain of these properties, including one which was then within the limits of newly incorporated West University Place, a suburban community. Being unable to sell the entire tract on favorable terms, the property was subdivided. Streets and utilities were installed, restrictions imposed, and the lots were sold to builders in substantial blocks. The profits therefrom were returned as long term capital gains, and by reason thereof litigation resulted, which terminated with a holding by the Tax Court (2 T.C.M. 1029) that these profits (for calendar years 1939, 1940) should be taxed as ordinary income. Thereafter, the partnership assiduously refrained from subdividing or improving any of its real estate.

The partnership terminated December 31, 1944, upon the death of Mr. Haden. Pursuant to terms of the partnership agreement, Mr. Austin, as the surviving partner, purchased the tools, equipment, and machinery of the partnership, and completed the few road construction contracts then in progress. At about that time, Mr. Austin likewise suffered a serious illness, as result of which, to the present time, he has been in a state of impaired health. He disposed of the road building equipment and has not engaged in the road building business since the death of his partner.

Immediately after Mr. Haden's death, the real estate, sales of which are here in question, was jointly owned by Mr. Austin (½ interest); Mrs. Haden, surviving wife of the deceased partner (¼ interest, as her community share); and the estate of Mr. Haden (¼ interest). On January 18, 1946, the death of Kate Ida Austin, wife of D. T. Austin, occurred, and thereafter Mr. Austin's original ½ share was owned ¼ by himself, as his community portion, and ¼ by the estate of his deceased wife.

After these events, and during the years in question, Mr. Austin continued to dispose of the partnership real estate holdings. In doing so, he did not advertise or seek out purchasers, but when he was approached by a purchaser, or by an agent who had a prospective purchaser, he entered freely into negotiations looking toward a sale. If satisfactory terms were agreed upon, he recommended the sale to the Haden interests, who almost invariably accepted his advice in the matter. On some of the sales, a commission was paid to the procuring agent, although most of them were handled by Mr. Austin personally, in which cases no commission was paid. Mr. Austin never bought any property during this period for himself or the other joint owners, never held a real estate dealer's license, and never made sales of property other than his own, as hereinabove set out.

As reflected by the stipulation, one sale of such jointly owned property (.267 acres) was made in 1946; five sales ((a) 36.023 acres; (b) .534 acres; (c) .430 acres; (d) 33.5 lots in Bellaire Townsite; (e) .178 acres) were made in 1947; and one sale (.213 acres) was made in 1948. By way of comparison, three sales were made in 1944; thirteen were made in 1945; two were made in 1949; and three were made in 1950. The partnership returns for periods prior to January 1, 1945 treated profits from such real estate sales as ordinary income. Those for all later periods treated them as capital gains.

Under these facts, the Government contends that the periodic sales of real estate by Austin, on behalf of the partnership and its successors in interest, continue to bear the "ordinary course of business" brand as result of the Tax Court holding; that there has been no definite change in the sales practices since that time, or since January 1, 1945; and that during the intervening years, including the years in question, Austin has been engaged in the real estate business, for tax purposes. It points out that the sales were frequent and substantial; and the Government urges that the testimony to the effect that, after the Tax Court holding, Austin was careful to avoid any subdivisional activities in connection with the sales, should be interpreted as meaning that a studied attempt was made to avoid the outward appearances of engaging in this business, although the substance was always present.

The taxpayer, on the other hand, contends that this was simply an orderly liquidation of capital assets, begun in earlier years, and continued or perhaps hastened by the death of Haden, of Mrs. Austin, and by Austin's illness and infirmities; he argues that a decisive factor in the Tax Court holding was the subdivisional activity, and the aggressive sales campaign conducted by the partnership through its agent; and argues that as these facts did not prevail during the years in question here, a different result should ensue.

The books are replete today with authorities applying the statutory definition of "capital assets" found in Section 117² to varying fact situations.³ No inflexible formula has been devised which will uniformly give a correct result. Each fact situation must stand on its own bottom. In determining whether certain assets were "capital assets" or constituted "property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business", the cases have considered a number of factors, including the continuity of sales, and sales-related activity, over an extended period of time; the efforts and activity of the seller in improving, advertising, and enhancing the marketability of the property; the substantiality of the sales; and the purpose or motive of the taxpayer in acquiring, and disposing of, the property. From time to time and from case to case, emphasis has been placed by the courts first on one, and then on another, of these considerations. The Fifth Circuit⁴ and recently the Tax Court⁵ have seemed to emphasize the extent of the taxpayer's activity as the most important single consideration.

Applying these considerations to the facts of the instant case, I am of the opinion the taxpayer is entitled to capital gains treatment. During the years in question, he at all times maintained the "passive attitude" referred to in the cases.⁶ He employed no salesman, posted no "for sale" signs, engaged in no advertising or sales program, and made no improvements to the property. The profits resulted not from any sales activity by the taxpayer or his agents, but from an appreciation in value of the property over a long period of time. There was no purchase of any new land to maintain the "stock in trade".

While the sales were not frequent, they were continuous and substantial, the only considerations which suggest "ordinary income" treatment. But this is explained by the fact that the partnership had been more than ordinarily successful, and with Austin's illness and advancing age, the time was growing short. Both he and the Hadens needed cash. With these explanations, the continuous sales of substantial values in real estate lose much of their normal force as an indication of real estate activity. In my opinion, a taxpayer may maintain an attitude of willingness to sell, and may in fact sell and liquidate his own long-held assets, in the absence of any other indicia of real estate activity, without thereby becoming engaged in the real estate business; and this be true whether the amount so sold be large or small. This is the type of fact situation which Section 117 was designed to cover.

Kate Ida Austin died testate January 18, 1946. The plaintiff here, as surviving husband, was appointed independent executor of her estate, without bond, and likewise was named sole devisee and legatee thereof. In due course, he offered the will for probate and qualified and entered upon his duties as executor. On January 31, 1947, he filed an estate tax return, and paid the tax therein reflected. This return was not audited by the Collector until May, 1949, at which time a deficiency assessment of $1,674.13 plus interest was made and duly paid. On March 28, 1950, plaintiff prepared and filed with the Probate Court an instrument reciting that the estate of his deceased wife...