Fawick v. Comm'r of Internal Revenue , Docket No. 846-67.

• Decision Date: 21 April 1969
• Docket Number: Docket No. 846-67.
• Citation: 162 U.S.P.Q. 185,52 T.C. 104
• Parties: THOMAS L. FAWICK AND MARIE FAWICK, PETITIONERS v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT
• Court: U.S. Tax Court

162 U.S.P.Q. 185

52 T.C. 104

THOMAS L. FAWICK AND MARIE FAWICK, PETITIONERS

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT

Docket No. 846-67.

Tax Court of the United States.

Filed April 21, 1969.

Edward C. Crouch, for the petitioners.

John P. Graham, for the respondent.

One of petitioners assigned certain patents, together with improvements that may be owned, controlled, or subject to licensing by him, to Falk Corp. After this assignment this petitioner assigned a part of his right under this contract to his wife, the other petitioner in this case. The assignment provided for an exclusive license only with respect to uses for marine purposes. The assignor together with the assignee worked on certain improvements and a number of improvements were patented by the petitioner-assignor. After expiration of the original patents but while an improvement patent which was used by Falk Corp. was unexpired, that corporation made payments to the petitioner-wife here for the years 1961, 1962, and 1963 under the assignment made to her from the petitioner-husband. Held: The exclusive right to make, to use, and to sell with respect to one industrial field, namely, marine purposes, is an assignment of all substantial rights under sec. 1235, I.R.C. 1954; the fact that the original patent had expired does not cause the payments made under the contract to be ordinary income instead of capital gain where an improvement patent is still being used by the assignee; none of the payments was for services of the assignor, the evidence showing that the payments were all for the use of the improvement patent; the contract entered into providing for the exclusive right to use for marine purposes the inventions contained in the patent applications listed in the contract or any licenses by petitioner constituted an agreement to assign future improvements and when future improvement patents were obtained payments which continued to be made under the contract constituted capital gain within the provision of sec. 1235, I.R.C. 1954, even though no formal assignment of the improvement patent was made.

SCOTT, Judge:

Respondent determined deficiencies in petitioners' income taxes for the calendar years 1961, 1962, and 1963 in the amounts of $46,066.22, $36,873.26, and $45,389.87, respectively.

Most of the issues raised by the pleadings have been disposed of by agreement of the parties, leaving for our decision whether amounts received by one of petitioners from Falk Corp. with respect to the manufacture by that corporation of a flexible clutch are long-term capital gain or ordinary income.

FINDINGS OF FACT

Some of the facts have been stipulated and are found accordingly.

Petitioners, husband and wife whose legal residence was Shaker Heights, Ohio, on the date of the filing of the petition in this case, filed joint Federal income tax returns with the district director of internal revenue at Cleveland, Ohio, for the calendar years 1961, 1962, and 1963.

Thomas L. Fawick (hereinafter referred to as petitioner) has been an inventor since sometime before 1926 and has been issued approximately 200 patents on his inventions during his lifetime. He has not made a practice of selling his inventions or granting licenses to others to manufacture under his patents but has generally used his patents in his own manufacturing business. Around 1926 he sold a patent on a transmission which was of a type he was not equipped to make and made no other sales or assignments of patents until he entered into an agreement with Falk Corp. in 1937 with respect to a patent for a flexible clutch and coupling.

Prior to 1928 petitioner was engaged in the business of manufacturing clutches in Racine, Wis. He sold this business in late 1927 or early 1928 and moved to Akron, Ohio. While he was in Akron he visited various rubber plants and began to conceive the idea of a flexible brake, coupling, and clutch with certain of the moving parts made of rubber. About 1936 he completed these inventions and made test models of his flexible coupling and clutch utilizing the principle of a rubber gland inflated with air. In 1936 petitioner filed patent applications with request to these inventions which later became known as Airflex couplings and clutches. Petitioner's application No. 99,420 dated September 4, 1936, was filed with the U.S. Patent Office and U.S. patent No. 2,111,422 was issued upon this application on March 15, 1938, for Assembly for Driving Clutches and the like. Petitioner's application No. 99,421, dated September 4, 1936, was filed and U.S. patent No. 2,141,645 issued on this application on December 27, 1938, for Assembly for Universal Joints and the like. Petitioner's application No. 101,638, dated September 19, 1936, was filed and U.S. patent No. 2,251,443 issued on this application on August 5, 1941, for Assembly for Clutches, Brakes, Universal Joints and the like. Patent No. 2,111,422 refers to the claim that ‘the construction and arrangement is admirably suited for heavy drives such as are required in oil-well drilling equipment * * * .’

As of February 23, 1937, petitioner entered into an agreement with Falk Corp. of Milwaukee, Wis., the primary business of which is the manufacture of machinery for marine use, with regard to his patent applications Nos. 99,420, 99,421, and 101,638.

This agreement contained the following provisions:

WHEREAS Fawick is the owner of certain United States patent applications relating to assemblies suitable for use in flexible couplings, driving clutches and power transmissions, the same being identified as follows:

Serial No. 99420 filed September 4, 1936

Serial No. 99421 filed September 4, 1936

Serial No. 101638 filed September 19, 1936, and

WHEREAS Falk desires to obtain the hereinafter specified license to employ the inventions of the said patent applications,

Now, therefore, for and in consideration of the provisions hereof and other good and valuable considerations, the parties hereto AGREE AS FOLLOWS:

(1) Fawick hereby grants to Falk an exclusive license to make, to use, and to sell in the United States, its territories and possession, and in the Dominion of Canada, flexible couplings, as distinguished from driving clutches and other forms of power transmissions, embodying any of the inventions of the above identified patent applications or any improvement thereon that may be owned, controlled, or subject to licensing by Fawick.

(2) Fawick hereby grants to Falk an exclusive license to make, to use, and to sell in the United States, its territories and possessions, and in the Dominion of Canada, but only for marine service, one-to-one driving clutches embodying any invention of the above identified patent applications or any improvement thereon that may be owned, controlled, or subject to licensing by Fawick; and also a nonexclusive license to make, to use, and to sell such embodiments in the United States, its territories and possessions, and in the Dominion of Canada, but only as a part of complete geared power transmission units of Falk's manufacture.

(3) Falk agrees to pay to Fawick Twenty-Five Thousand Dollars ($25,000) upon the signing hereof and, in addition thereto, on or before the 15th day of January, April, July, and October of each year, Falk shall pay to Fawick upon all flexible couplings made hereunder, and installed for use by Falk or delivered to the customer during the next proceeding three calendar months, and embodying any invention of the above identified patent applications as defined by any pending claim thereof or by a claim or claims of letters patent issued upon any of them, a royalty of five percent (5%) of the amount of the net sales price of the couplings after trade discounts but before cash discounts; and upon all driving clutches made hereunder, and installed for use by Falk or delivery to the customer during the next preceding three calendar months, a royalty of seven percent (7%) of the amount of the net sales price of the clutches after trade discounts but before cash discounts.

As of January 2, 1941, October 15, 1941, and November 13, 1942, petitioner and Falk Corp. entered into supplemental agreements with respectively, ‘Supplemental Agreement,’ ‘Second Supplemental Agreement,‘ and ‘Third Supplemental Agreement.’ The supplemental agreement dealt with a license of a ‘disconnecting coupling’ which license was never exercised by Falk Corp. and granted to Falk Corp. the right to terminate the original and supplemental agreements with 90 day's notice. The second supplemental agreement suspended until October 15, 1946, the right granted to Falk Corp. in the supplemental agreement to terminate the agreements. The third supplemental agreement changed the method of payment by Falk Corp. by providing that 15 percent of any moneys that became due under the agreements be paid to each of petitioner's two daughters and the balance to petitioner. By various assignments dated between the years 1942 and 1956 petitioner transferred additional percentages of the amounts due under his agreements with Falk Corp. to his daughters and transferred percentages of such amounts to his niece and to his wife, Marie Fawick.

Petitioner filed gift tax returns with respect to each of these transfers in which he valued the gift made by using an expiration date for the payments under his agreement with Falk Corp. in the year 1958.

The flexible clutch which was the subject of petitioner's patent applications worked from its first trials and petitioner in 1937 began to manufacture some of these clutches for industrial use. In 1938 petitioner organized Fawick Corp., an Indiana corporation, to engage in the manufacture and sale of these clutches for other than marine use. As of December 30, 1938, petitioner assigned to Fawick Corp. his rights in the patents which were the subject of applications Nos. 99,420, 99,421, and 101,638 excluding the rights previously assigned to Falk Corp. and certain rights which he...