Centel Commc'ns Co. v. Comm'r of Internal Revenue
| Decision Date | 23 March 1989 |
| Docket Number | 12092-86.,Docket Nos. 7188-85,12015-86 |
| Citation | 92 T.C. 612,92 T.C. No. 34 |
| Parties | CENTEL COMMUNICATIONS COMPANY, INC., ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
T Corp., struggling financially in its early years, sought additional capital through bank loans. As a condition for making the loans, the banks required D and G (individuals) and E Corp., three of T Corp.'s largest shareholders, to provide the banks with various personal guarantees, performance guarantees, and subordinations. D, G, and E Corp. provided the guarantees and subordinations voluntarily and without the expectation of consideration or payment from T Corp. Several years later, in recognition of the increased risks the shareholders had assumed under the guarantees and subordinations, T Corp. granted these shareholders warrants to purchase T Corp. common stock. The warrants were granted in 1978 and exercised in 1980, just prior to C Corp.'s 1980 acquisition of all of the stock of T Corp. On its 1980 income tax return, T Corp. claimed a deduction under section 83(h), I.R.C. 1954, for what it determined to be the value of the warrants when they were exercised. D, G, and E Corp. did not report any income in 1980 with respect to the warrants.
R, taking inconsistent positions, determined with respect to C Corp. (as successor in interest to T Corp.) that the warrants were not subject to section 83 and therefore disallowed T Corp.'s claimed deduction under section 83(h). With respect to D, G, and E Corp., R determined that the warrants were subject to section 83 and that therefore D, G, and E Corp. each had additional income under section 83(a) in 1980.
HELD, section 83 does not apply to the warrants since they were not transferred in connection with the performance of services. Frederic L. Hahn, Michael M. Conway, Jay H. Zimbler, and George R. Goodman, for the petitioner in docket No. 7188-85.
Kenneth R. Wynne and Sarah J. Stitt, for the petitioners in docket No. 12015-86.
Jasper G. Taylor III and Kenneth D. Goodman, for the petitioners in docket No. 12092-86.Lawrence C. Letkewicz, for the respondent.PARKER, JUDGE:
In these consolidated cases, respondent determined deficiencies in petitioners' Federal income tax as follows:
+-------------------------------------------------------------+
¦Petitioners ¦TYE ¦Amount ¦
+-------------------------------------------+--------+--------¦
¦Centel Communications Co., ¦12/31/79¦$ 34,101¦
+-------------------------------------------+--------+--------¦
¦(docket No. 7188-85) ¦3/24/80 ¦542,756 ¦
+-------------------------------------------+--------+--------¦
¦Lloyd K. Davis and Estate of Patricia W. ¦12/31/80¦443,812 ¦
+-------------------------------------------+--------+--------¦
¦Davis, Deceased, Lloyd K. Davis and ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Edward H. White III, Independent ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Coexecutors (herein after individually and ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦collectively referred to as Lloyd K. Davis,¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦or Davis) (docket No. 12015-86) ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Natalie T. Armstrong, formerly Natalie T. ¦12/31/80¦388,545 ¦
+-------------------------------------------+--------+--------¦
¦Grey, and Estate of Rex B. Grey, ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Deceased, Natalie Tandy Grey and ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Rex Oliver Grey, Independent ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Coexecutors (hereinafter individually ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦and collectively referred to as Rex B. ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Grey, or Grey) (docket No. 12015-86) ¦ ¦ ¦
+-------------------------------------------+--------+--------¦
¦Fisk Electric Co. and Subsidiary ¦12/31/80¦285,752 ¦
+-------------------------------------------+--------+--------¦
¦(docket No. 12092-86) ¦ ¦ ¦
+-------------------------------------------------------------+
The deficiencies relate to the issuance by Fisk Telephone Systems, Inc. (predecessor in interest to petitioner Centel Communications Company, Inc.) to certain of its shareholders (petitioners Lloyd K. Davis, Rex B. Grey, and Fisk Electric Company) of certain warrants to purchase Fisk Telephone Systems, Inc. common stock. The issues for decision are:
(1) Whether the stock warrants were issued ‘in connection with the performance of services‘ within the meaning of section 83, 2 and
(2) If section 83 applies to the warrants, whether the warrants had a readily ascertainable fair market value at the time they were issued.
In these consolidated cases respondent, to protect the fisc, has taken inconsistent positions with respect to the different petitioners. With respect to petitioner Centel Communications Company, Inc., successor in interest to Fisk Telephone Systems, Inc., respondent determined that the stock warrants were not subject to section 83 and therefore disallowed the deduction taken under section 83(h) by Fisk Telephone Systems, Inc. With respect to petitioners Lloyd K. Davis, Rex B. Grey, and Fisk Electric Company, respondent determined that the warrants were subject to section 83 and that therefore these petitioners had additional income under section 83(a).
Some of the facts have been stipulated and are so found. The stipulation of facts, the two supplemental stipulations of facts, and the exhibits attached thereto are incorporated herein by this reference.
Petitioner Lloyd K. Davis resided in Houston, Texas at the time the Davis petition was filed in this case. Rex B. Grey is the deceased spouse of Natalie T. Armstrong, who is a petitioner in this case both individually and in her capacity as independent co-executor of the estate of Rex B. Grey. Natalie T. Armstrong resided in La Grange, Texas at the time the Grey petition was filed in this case. Petitioner Fisk Electric Company and Subsidiary (Electric) is a Texas corporation with its principal office located in Houston, Texas. Centel Communications Company, Inc. (Centel) is a Delaware corporation with its principal office located in Chicago, Illinois.
Founded in 1913 by relatives of Lloyd K. Davis, Electric is engaged in the electrical contracting business, serving commercial, industrial, and residential markets. Davis and his family own a majority of the outstanding stock in Electric, and Davis has been Electric's president since 1954.
In the late 1960's, the Federal Communications Commission issued the Carter Phone decision, requiring telephone companies to connect to private telephone systems. 3 This decision allowed non-telephone companies to enter the ‘telephone interconnect business,‘ which consists of the sale, leasing, installation, and maintenance of private and commercial telephone systems. After the Carter Phone decision was issued, petitioner Rex B. Grey, an executive of International Telephone and Telegraph (ITT) and a long-time personal friend of Davis, suggested to Davis that Electric start a telephone interconnect business. Grey's idea was for Electric to start and support the business and for Grey to retire from his position with ITT in Europe to work with the new enterprise. Pursuant to Grey's suggestion, in 1971 Electric organized Fisk Telephone Systems, Inc., a Texas corporation, to engage in the telephone interconnect business. On September 19, 1972, this Texas corporation was merged into Fisk Telephone Systems, Inc. (hereinafter ‘Fisk Telephone‘ or ‘Telephone‘), a Delaware corporation. Until its acquisition by Centel on March 24, 1980, Telephone's principal place of business was in Houston, Texas, and its primary business was the sale, installation, leasing, and maintenance of commercial telephone systems.
In its early years Telephone struggled financially. The U.S. Corporation Income Tax Return (Form 1120) filed by Telephone for the taxable year ending December 31, 1972, showed a net loss of $157,188, of which $137,588 was attributable to its telephone interconnect operations. 4 For its taxable year ending December 31, 1973, Telephone's income tax return showed a consolidated net loss of $1,427,624, of which $1,312,419 was attributable to its telephone interconnect operations.
As of September 22, 1972, Telephone had 544,001 shares of common stock outstanding. Except for 10,000 shares received by Electric in exchange for 10,000 shares of Fisk Telephone Systems, Inc. (the Texas corporation), all of the Telephone common stock was sold for $1 per share. The stock was sold to certain key Telephone personnel, Electric, officers of Electric, Davis, Grey, relatives of Davis and Grey, and several prominent business people. Neither Telephone's common stock, nor any of its warrants or options, including those received by Davis, Grey, and Electric, were ever actively traded in an established market.
In order to raise additional capital, 500,000 shares of Telephone common stock were offered for sale to Telephone's shareholders in 1973. Approximately 160,000 of these shares were sold to several of Telephone's shareholders for $1 per share, and 300,000 shares were issued to Electric in exchange for the cancellation of a $300,000 debt Telephone owed to Electric. As of September 7, 1973, Telephone had 970,000 shares of common stock outstanding....
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