Davis v. United States

Decision Date01 March 1961
Docket NumberNo. 516-58.,516-58.
Citation287 F.2d 168
PartiesThomas Crawley DAVIS and Grace Ethel Davis v. UNITED STATES.
CourtU.S. Claims Court

Converse Murdoch, Philadelphia, Pa., for plaintiffs.

Peter J. Donahue, Washington, D. C., with whom was Asst. Atty. Gen., Charles K. Rice, for defendant. James P. Garland and Lyle M. Turner, Washington, D. C., were on the brief.

LARAMORE, Judge.

Plaintiff1 sues to recover an alleged overpayment of taxes for the year 1955. The Commissioner of Internal Revenue proposed to assess a tax deficiency in the sum of $6,318.66 on the basis of disallowance of the deduction of $5,000 for legal fees, and on the basis of including in plaintiff's gross income a net long-term capital gain of $3,737.31, representing the difference between the tax basis to plaintiff of 500 shares of du Pont stock transferred to Alice M. Davis, his former wife, during 1955 and the fair market value of such shares as of the date of transfer to her. The cost basis of the 500 shares of stock transferred on March 21, 1955, was $74,775.37. This stock had a fair market value on that date of $82,250, or an increase in value over the cost basis of $7,474.63, one-half of which gain, or $3,737.31, was taken into account in the proposed deficiency assessment.

On February 14, 1958, plaintiff paid to the District Director the amount of $6,961.95, representing the asserted deficiency for 1955 in the amount of $6,318.66, plus interest of $643.29.

On April 8, 1958, plaintiffs filed their claim for refund of Federal income taxes paid for 1955 in the sum of $13,642.29. This claim was based on the failure to include all of the $12,506 of legal fees paid by Mr. Davis to a Mr. Young and a Mr. Morford on January 27, 1955, for legal services. Plaintiffs asserted in their claim that $2,500 was on that date paid to each attorney, or a total of $5,000, for legal services in connection with various Federal tax matters arising out of negotiations and execution of a separation and property settlement agreement between Mr. Davis and Alice M. Davis, his former wife. Plaintiffs further asserted that additional sums as legal fees, $5,006 to Mr. Young and $2,500 to Mr. Morford, were paid on January 27, 1955, for services in connection with the negotiations and execution of the same settlement agreement primarily incurred in connection with the protection of Mr. Davis' position as a stockholder, officer, and director of du Pont. This claim further asserted that the inclusion in income of the net long-term capital gain of $3,737.31 on the 500 shares of du Pont stock transferred to Alice M. Davis on March 21, 1955, was erroneous, because such transfer was pursuant to the same separation and property division agreement and did not result in any income or gain to the taxpayer.

By registered letter dated September 23, 1958, the District Director of Internal Revenue for Delaware notified plaintiffs of the disallowance in full of their claim for refund for the year 1955. This suit results.

Plaintiff contends in this suit that he is entitled to a deduction for two types of legal fees paid by him: First, legal fees paid for tax advice, and second, legal fees incurred in connection with the matter principally involving the protection of plaintiff's position as a stockholder, director, and officer of the du Pont Company. His contention with respect to the taxable gain on the stock transferred will be discussed later.

Plaintiff points to section 212(3) of the Internal Revenue Code of 1954, 26 U.S. C. § 212(3), which was applicable for the calendar year 1955, in support of his contention that legal fees paid for tax advice in connection with the negotiations of the property division and separation agreement are deductible.

Section 212(3) provides:

"Sec. 212. Expenses for Production of Income.
"In the case of an individual, there shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year —
* * * * * *
"(3) in connection with the determination, collection, or refund of any tax."

Plaintiff then points to the Treasury Regulations under the above-quoted statutory provision as supporting his contention.

Treasury Regulation § 1.212-1 reads as follows:

"§ 1.212-1. Nontrade or nonbusiness expenses.
"(1) Expenses paid or incurred by an individual in connection with the determination, collection, or refund of any tax, whether the taxing authority be Federal, State, or municipal, and whether the tax be income, estate, gift, property, or any other tax, are deductible. Thus, expenses paid or incurred by a taxpayer for tax counsel or expenses paid or incurred in connection with the preparation of his tax returns or in connection with any proceedings involved in determining the extent of tax liability or in contesting his tax liability are deductible."

Section 212(3) plaintiff says applies for the reason that the evidence shows that both Thomas Crawley Davis and his former wife were constantly aware of Federal income and gift tax problems which would vitally affect both parties in the negotiation. Further, that a new income tax code had just previously been enacted which involved extensive revisions of the prior internal revenue laws, and that tax advice was sought from attorneys for both parties. Consequently, plaintiff contends that he is entitled to deduct the fees paid as services for "* * tax counsel or expenses paid or incurred in connection with the preparation of * * * tax returns * * *."

We have no doubt that Congress in enacting section 212, supra, meant to grant a deduction for legal fees in connection with a determination, collection, or refund of any tax. The question then is whether the fees paid by plaintiff come within the purview of the Act. In the light of the Treasury Regulations promulgated thereunder, we think the question can only be answered in the affirmative. The Regulation, section 1.212-1, quoted above, specifically provides that expenses paid or incurred for tax counsel "* * * in connection with any proceedings involved in determining the extent of tax liability * * * are deductible." Therefore, it seems clear that the statute and regulations are broad enough to cover the deduction asked for.

The facts here show that in negotiating the separation and property settlement agreement, both Mr. Young and Mr. Morford considered the Federal income and gift tax consequences flowing from the various phases of the proposals made during the course of negotiations. Each attorney, however, considered such problems from the standpoint of his own client, and this same concentration for the interests of his own client was practiced by each attorney in negotiating the overall aspects of the property settlement agreement.

Further, the facts show that the bills for attorneys' fees were separated into two categories — one for services regarding the separation agreement, and the other for services in regard to tax matters. In this connection there is no evidence indicating that such allocation was done in bad faith, and the cases are legion holding that absent such evidence, such allocation should be accepted. Maine Steel, Inc. v. United States, D.C. 1959, 174 F.Supp. 702, 716; Anita M. Baldwin, 1928, 10 B.T.A. 1198. Cf. Joseph Frank, 1954, 22 T.C. 945, affirmed per curiam, 6 Cir., 1955, 226 F.2d 600; Bryant Heater Co. v. Commissioner, 6 Cir., 1956, 231 F.2d 938.

In view of the foregoing, it seems obvious that the fees paid by plaintiff for consultation and advice in tax matters arising in connection with the settlement agreement are properly deductible from gross income.

This is not to say, however, that the fees paid to his former wife's attorney, Mr. Morford, are also deductible. In spite of the fact that Mr. Davis was legally liable for his wife's attorney's fees, the evidence conclusively shows that Mr. Morford worked exclusively for his client, Mrs. Davis, and considered the problems from the standpoint of his client alone. Certainly then it cannot be said that Mr. Morford's advice was directed to plaintiff's tax problems, and in order to qualify for a deduction, we think the attorneys' fees must be directly and only connected with the taxpayer's estate. Consequently, we hold that only the attorney's fees paid by plaintiff to his personal attorney, Mr. Young, for tax advice, are properly deductible from his 1955 gross income.

Next we turn to the question of whether the taxpayer is entitled to deduct the amount paid Messrs. Young and Morford, representing charges for legal services in connection with the negotiation of a property division and separation agreement.

In this connection plaintiff contends that the legal fees were paid in connection with the preservation of his position as a stockholder, director, and officer of the du Pont Company and that said fees are deductible under the provisions of section 212(1, 2) of the Internal Revenue Code of 1954, supra.

At the outset of the discussion respecting this issue, we point out that the taxpayer is not entitled to a deduction for personal, living or family expenses under section 262 of the Internal Revenue Code of 1954, 26 U.S.C. § 262, supra, and Treasury Regulation § 1.262-1(b) (7).

Section 262 of the Internal Revenue Code of 1954, supra, reads as follows:

"Personal, Living, and Family Expenses
"Except as otherwise expressly provided in this chapter, no deduction shall be allowed for personal, living or family expenses."

Treasury Regulation section 1.262-1(b) (7) provides:

"Personal, Living, and Family Expenses. (a) In general. In computing taxable income, no deduction shall be allowed, except as otherwise expressly provided in chapter 1 of the Internal Revenue Code of 1954, for personal, living and family expenses.
"(b) Examples of personal, living, and family expenses. Personal, living, and family expenses are illustrated in the following examples:
* * * * * *
"(7) Generally, attorney\'s fees and other costs paid in
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    ...1190, 8 L.Ed.2d 335 (1962), used the above-mentioned rule to partially reverse a prior opinion of this court. Davis v. United States, 287 F.2d 168, 152 Ct.Cl. 805 (1961). The Court stated 370 U.S. at 72-73, 82 S.Ct. at 1194: It must be assumed, we think, that the parties acted at arm's leng......
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    ...is to be distinguished on that ground, whatever the ultimate decision of the issue presented in such cases may be, see Davis v. United States, 287 F.2d 168 (Ct.Cl.1961), cert. granted, 368 U.S. 813, 82 S.Ct. 48, 7 L.Ed.2d 21 (1961); Patrick v. United States, 288 F.2d 292 (4 Cir. 1961), cert......
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    ...356, 361 (C.A.9th Cir.); Howard v. Commissioner, 202 F.2d 28, 30 (C.A.9th Cir.). 21 Compare, with the present case, Davis v. United States, 287 F.2d 168, 152 Ct.Cl. 805, reversed in part on other grounds, 370 U.S. 65, 82 S.Ct. 1190, 8 L.Ed.2d 335, in which the Court of Claims held to be non......
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