Cornish v. United States
| Decision Date | 16 July 1963 |
| Docket Number | 61-415,Civ. No. 61-409,61-412. |
| Citation | 221 F. Supp. 658 |
| Parties | Richard P. CORNISH and De Etta S. Cornish, Plaintiffs, v. UNITED STATES of America, Defendant. Robert E. HIRT and Gertrude C. Hirt, Plaintiffs, v. UNITED STATES of America, Defendant. Edward H. WOOD and Adele B. Wood, Plaintiffs, v. UNITED STATES of America, Defendant. |
| Court | U.S. District Court — District of Oregon |
Ralph R. Bailey, Maguire, Shields, Morrison, Bailey & Kester, Portland, Or., for plaintiffs.
Dale E. Anderson, Dept. of Justice, Washington, D. C., Donal D. Sullivan, Asst. U. S. Atty., Portland, Or., and Sidney I. Lezak, Acting U. S. Atty., Portland, Or., for defendant.
These are actions, consolidated for trial, by plaintiffs to recover Federal Income Taxes claimed to be erroneously and illegally assessed and collected from the taxpayers for the years 1955 and 1956.
During the years in question the plaintiffs were partners in Mountain Fir Lumber Company. On May 31, 1955, Mountain Fir was a partnership consisting of eleven partners. It was engaged in the business of the manufacture and sale of lumber and other wood products produced at two sawmills it owned and operated in the State of Oregon. These eleven partners agreed to sell a portion of their partnership interest to three employees of the partnership by agreement dated in December, 1954. On June 1, 1955, the original partners sold part of their interest to six new partners, which included plaintiffs, Hirt and Wood. Each of the partners acquiring a 5% interest in the partnership under a contract naming a purchase price of $200,000.00 for such 5% share. One hundred dollars each was paid on the purchase price by Hirt and Wood. The balance of the $200,000.00 purchase price to be paid out of the net earnings of the purchasers' interest in the partnership under a formal arrangement mentioned in the contract. Each could withdraw from the partnership at any time without any obligation to pay the balance of the purchase price and would receive for his interest, a certain sum fixed by another formula set up under such contract.1 On the date of the purchase the partnership owned two sawmills that had been designed and built by Joe M. Crahane, the general manager, architect and engineer of the very profitable operation. The mills were built at a minimum cost without the services of highly paid technical specialists. One mill was located at Independence, Oregon, the other one at Maupin, Oregon. They produced standard grade dimension lumber with a high proportion of long dimension lumber. Through utilization of second growth timber containing a large degree of taper the mills produced very substantial over-runs. On the same date, the partnership purchased a third sawmill at Westlake, Oregon, and acquired the contract rights to cut a minimum of 70,000,000 board feet of timber tributory to that mill. This mill was commonly known as the Canary Mill. The partnership owned timber and cutting contracts on timber tributory to the Maupin and the Independence mills. The book values and the values of the assets as fixed by the buying and selling partners for the purpose of determining the sales price are as follows:
Sale Value of
100% of Partnership
Assets
Book Value June 1, 1955
Cash and Accts. Receivable $ 322,879.30 $ 322,879.30
Inventories 223,638.25 329,187.39
Depreciable Assets 591,121.96 1,342,307.76
Millsites and Timberlands 35,111.16 394,738.37
Timber 648,490.03 1,477,300.67
Timber Cutting Contracts* 1,277,750.00
Other Assets 71,328.67 71,328.67
Goodwill 100,000.00
_____________ _____________
Total Assets $1,892,569.37 $5,315,492.16
Total Liabilities 1,315,492.16 1,315,492.16
_____________ _____________
Net Worth $ 577,077.21 $4,000,000.00
The value assigned to the inventory was the expected sales realization, less any costs of selling the finished lumber and the cost of further converting lumber in process and logs into merchantable lumber.
The valuation of the depreciable assets was made on the basis that the buyers were acquiring an interest in a going concern operating two mills and the values were determined with respect to the capabilities of the partners to construct new mills at a minimum cost.
The timber available to the partnership on June 1, 1955, fell into two categories, the first consisted of timber or timber and land which was actually purchased and paid for or being purchased under contract. The second category consisted of timber with respect to which the partnership owned a contract right to cut.
The value of the timber as discussed and negotiated between the plaintiffs, Hirt and Wood, and the sellers was on the basis of the conversion value to be realized by processing the timber into lumber and other products in the partnership mills. This value was computed by deducting, from the net sales price of the finished lumber, the cost of producing the finished lumber and a reasonable profit of logging the timber and the manufacturing thereof. The method of computation of value, as used by said plaintiffs and the sellers, was based on the actual cost of conversion of timber into the finished product at the Independence and Maupin mills. The parties concluded that the conversion costs at the new Westlake mill would be comparable with those at the Independence mill, subject to some remodeling at Westlake. Clearly, this type of valuation is based on estimated future profits.
In 1956, Hirt and Wood, for income tax purposes, each claimed a deduction of $43,170.14 as the portion amortizable for that year. In each case the Commissioner disallowed $25,768.39 of the amount claimed.
In connection with the sale the partnership made a timely election under Section 754 of the Internal Revenue Act, to adjust the basis of specific partnership assets with respect to the buying partners as provided by Section 7432 and Section 755.
The provisions of 26 U.S.C. § 1012 are important:
Plaintiffs contend that the cost of such property to each of said plaintiffs was $200,000.00 The defendant contends that the cost of such property to each of the plaintiffs was not in excess of the $100.00 paid on the execution of the agreement. I reject both contentions. The cost mentioned in the statute does not and cannot mean an arbitrary figure fixed by the parties under a formula that does not reflect fair market value, particularly under an instrument which does not purport to bind the partner to pay the sum mentioned. That the Commissioner is not bound by the terms of the contract is familiar law. Schulz v. C.I.R., 294 F.2d 52 (9 Cir.1961); Annabelle Candy Co. v. C.I.R., 314 F.2d 1, (9 Cir.1962); Yandell v. United States, 315 F.2d 141 (9 Cir.1963). Likewise, I feel there is no merit in the Government's position that the basis of each of said plaintiffs should be limited to the $100.00, paid at the time of the execution of the contract. In my opinion, 26 U.S.C. § 1012 dealing with "Costs" must be construed in para materia with 26 U.S.C. § 755, and 26 U.S.C. § 743, which mention fair market value in connection with rules for the allocation of the adjusted basis on partnership property.
This is the type of case where there is great difficulty in seeing the forest because of the trees. Good common sense dictates that there is only one real issue involved. Common sense is the principal fluid in that vast reservoir of knowledge from which flow the turbulent rivers of judicial thought. A large and very substantial quantity of that thought reaches its confluence with the final decision quite unsullied and crystal clear. Unfortunately, some of the streams become contaminated and corrupted with the biased and dogmatic personal views of the authors and thus create a murky cesspool to be opened and drained before the particular body of law or fact resumes the clarity and brilliance of its original source. When the misty fog of partisan argument has been brushed aside, I have left for decision the fair market value of the tangible assets of the partnership as a going concern at the time of the purchase on June 1, 1955. Cost under these circumstances, means nothing more nor less than such value.
Cases such as Redford v. C.I.R., 28 T.C. 773; Burnet v. Logan, 283 U.S. 404, 51 S.Ct. 550, 75 L.Ed. 1143; Helvering v. Walbridge, 70 F.2d 683, 685 (2 Cir. 1934); Crane v. C.I.R., 331 U.S. 1, 67 S.Ct. 1047, 91 L.Ed. 1301, are premised on different factual backgrounds and are here of no particular significance. An outstanding example of the precarious position assumed by plaintiffs, is the valuation placed on the Canary or Westlake property, which was purchased by the partnership on the very day the plaintiffs purchased their interest and fixed their values for the purpose of purchase. In the Westlake transaction the inventories were purchased for $62,000.00 and were immediately increased to $97,358.88. The depreciable assets of the Westlake plant were purchased...
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United States v. Cornish
...the judgment entered in the action brought by the third plaintiff, Richard P. Cornish.1 The opinion of the district court is reported in 221 F.Supp. 658. The appeals of Hirt and Wood involve questions concerning their basis for depreciation of the tangible assets of Mountain Fir Lumber Comp......
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Mains v. United States, Civ. A. No. 71-126
...is not properly before the Court.11 Morrocco v. Northwest Engineering Company, 310 F.2d 809 (6th Cir. 1962). Cornish v. United States, 221 F.Supp. 658, 666 (Oregon 1963), rev'd on other grounds 348 F.2d 175 (9th Cir. 1965); Fleming v. Ayoud, 206 F.Supp. 860, 864 (D.C.1962), aff'd on other g......