DeMann v. Commissioner
| Decision Date | 17 May 1993 |
| Docket Number | Docket No. 33150-87. |
| Citation | 65 T.C.M. 2614 |
| Parties | Lawrence DeMann and Gloria DeMann v. Commissioner. |
| Court | U.S. Tax Court |
Wallace Musoff, 635 Madison Ave., New York, N.Y., for the petitioners. Jill A. Frisch, for the respondent.
Memorandum Findings of Fact and Opinion
Respondent determined the following deficiencies in petitioners' Federal income taxes:
Year Deficiency
1979 .......................... $ 78,994
1980 .......................... 103,570
Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.
After concessions, the issues we are asked to decide are: (1) Whether petitioners are entitled to a theft loss deduction for a certain licensing fee paid by petitioner Lawrence DeMann and related expenses; and (2) whether petitioners are entitled to deductions under section 1244 for losses on certain stocks.
Some of the facts and certain documents have been stipulated for trial pursuant to Rule 91. We incorporate the stipulated facts herein by reference.
At the time petitioners filed their petition, they resided in New York, New York.
United Laboratories of America, Inc.
Petitioner Lawrence DeMann (hereinafter individually referred to as petitioner) was introduced to the principals of United Laboratories of America, Inc. (United Laboratories), which had allegedly developed a process to implant synthetic hair and was allegedly engaged in franchising the process.
Petitioner investigated United Laboratories by visiting its office in Ohio, talking with some of its patients being treated there, and watching the process. After his investigation, on September 9, 1977, petitioner entered a franchise agreement with United Laboratories and paid a franchise fee in the amount of $50,000 to United Laboratories.
The franchise agreement states that the franchisor, United Laboratories, is the owner of all right, title, and interest in the process of implanting synthetic hair. The agreement provides that the franchisor will warrant that it currently has the proper instructions, techniques, and knowledge required to successfully restore hair through the process of implanting synthetic hair. The agreement delineated the franchise territory, training, continuing supervision by the franchisor, and fees.
During 1977 and 1978, petitioner attempted to find a location to establish a laboratory, and in 1978 he forwarded a preliminary plan for a location to United Laboratories, which had the right to approve any location selection. By the end of 1978, however, petitioner believed that United Laboratories had failed to fulfill the franchise agreement, and he instructed his attorney to request a refund of his franchise fee.
During 1979, having failed to receive a refund of the franchise fee or any response to his request for a refund of the fee, petitioner went to the office of United Laboratories in Ohio. While at the office, petitioner observed a marshal posting a notice that the office was closed. During and after 1979, petitioner was unsuccessful in his attempt to contact the principals of United Laboratories.
Petitioner received a statement, dated June 30, 1978, for $6,000 from attorney Steven Antler for professional services rendered in connection with United Laboratories which included, but was not limited to, "negotiation, preparation and finalization of all documentation". The record does not reflect how or when the statement was paid.
During September 1979, petitioners retained the services of Kenneth Lapine to obtain a refund of their franchise fee. Petitioner Gloria DeMann wrote a letter dated September 20, 1979, to Mr. Lapine regarding United Laboratories, in which she stated that a check for $1,000 was enclosed. The check is not part of the record.
By letter dated August 7, 1980, petitioners were advised by Mr. Lapine that "there might be some assets [of United Laboratories] left over after the distribution to the customers [who had paid for hair implant treatment]." To take advantage of such a possibility, Mr. Lapine suggested that petitioner obtain a default judgment against the individual principals of United Laboratories.
By letter dated January 18, 1982, petitioner was advised by his attorney, Edward Janis, that a hearing on a default judgment against United Laboratories had been scheduled for January 27, 1982. Mr. Janis also advised petitioner that: "In all likelihood, we will probably be unable to collect anything on this judgment."
Papaya King Company, Inc.
On August 18, 1978, petitioner and Morris Goldberg entered a stockholders agreement with Papaya King, Company, Inc. (Papaya King) an Hawaiian corporation. The record contains a copy of a certificate, dated August 25, 1978, for 2,000 shares of Papaya King stock. The certificate was issued to petitioners.
Papaya King was formed to operate retail stores to sell fast food and beverages. Each retail store was to operate through a separate corporation. During 1978, a retail store known as Papaya King of Hawaii was opened.
On October 24, 1979, Morris Goldberg and petitioner terminated the stockholders agreement of August 18, 1978, and resigned as officers of Papaya King. The agreement states that such actions were taken to "induce Isoo Oshima to assume control of [Papaya King Company, Inc., and Papaya King of Hawaii]." Petitioner did not receive any payment for his stock when the stockholders agreement was terminated.
On December 21, 1979, petitioners transferred, without consideration, their 2,000 shares of Papaya King stock to Morris Goldberg. The record does not reflect the reason for the transfer.
The books and records of Papaya King were turned over to an accounting firm in Hawaii which managed the assets of Papaya King after petitioner and Mr. Goldberg terminated the stockholders agreement. The record does not reflect whether petitioners made any attempt to obtain the books and records of Papaya King.
Farraday Farms, Inc.
On May 19, 1978, petitioners incorporated Farraday Farms, Inc. (Farraday Farms). Farraday Farms issued 50 shares of stock to each of petitioners. Farraday Farms sold health food snacks, such as chopped nuts and raisins, through franchise distributors in the Eastern United States.
On December 31, 1980, petitioners sold all their Farraday Farms stock to Benjamin Litman, who was the operations manager of Farraday Farms. The purchase price for the stock was $50,000, to be paid by the payment of $100 in cash at closing, and the remaining $49,900 at the rate of $1.00 as each case of Farraday Farms merchandise was packaged. Mr. Litman paid the $100 at closing. During January 1981, Mr. Litman informed petitioner that the balance of the purchase price could not be paid. Petitioners agreed to modify their agreement with Mr. Litman to allow the purchase price to be paid after the company had begun to show a profit. The additional $49,900, however, was never paid.
OpinionThe first issue we must decide is whether petitioners are entitled a $57,000 theft loss deduction for the license fee which petitioner paid to United Laboratories and related legal expenses. Respondent argues that petitioners are not entitled to such deduction because they have failed to prove that a theft occurred under New York law.
To be entitled to their theft loss deduction, petitioners must prove that they sustained a theft during the taxable year. Sec. 165(e). The term "theft" includes, but is not limited to, larceny, embezzlement, and robbery. Sec. 1.165-8(d), Income Tax Regs. Petitioners have the burden of proving that a theft occurred under the laws of the jurisdiction where the alleged theft loss took place. Paine v. Commissioner [Dec. 33,113], 63 T.C. 736, 740 (1975), affd. without published opinion 523 F.2d 1053 (5th Cir. 1975); Monteleone v. Commissioner [Dec. 24,278], 34 T.C. 688, 692 (1960).
Petitioners argue that United Laboratories fraudulently induced petitioner to pay for a franchise which United Laboratories never intended to implement. We take petitioners' argument to mean that United Laboratories committed larceny under the laws of New York.
New York law defines larceny as a wrongful taking, obtaining, or withholding of property from its owner with an intent to deprive the owner of such property. N.Y. Penal Law sec. 155.05(1) (McKinney 1988). Larceny includes obtaining property by false pretenses. Id. at sec. 155.05(2)(a). Under New York law, larceny by false pretenses requires the following: (1) An intent to deprive the owner of property; (2) the making of a false representation; (3) knowledge that the representation is false; (4) obtaining the property of another, and (5) inducement of the owner to give up the property in reliance upon the false representation. People v. Chaitin, 462 N.Y.S.2d 61, 63 (App. Div. 1983), affd. 460 N.E.2d 1082 (N.Y. 1984). The misrepresentation must relate to a past or present fact, not a statement of future intention. People v. Churchill, 390 N.E.2d 1146, 1149 (N.Y. 1979).
In the instant case, petitioners have failed to prove that petitioner relied upon any misrepresentation by United Laboratories when he paid the franchise fee. Petitioner testified that he visited the Ohio office of United Laboratories, talked to patients, and watched the hair implant process being performed. Subsequently, petitioner signed a franchise agreement and paid United Laboratories $50,000. Petitioner, however, failed to testify about any specific misrepresentation that United Laboratories made in the process of selling him a franchise. Neither the fact that petitioner found United Laboratories to be closed nor the fact that he was unable to contact the principals of United Laboratories in order to obtain a refund, establishes the existence of a misrepresentation which induced petitioner to...
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