Graham v. Comm'r of Internal Revenue , Docket Nos. 6709-77
| Decision Date | 27 May 1981 |
| Docket Number | 9977-78.,Docket Nos. 6709-77 |
| Citation | 76 T.C. 853 |
| Parties | ROBERT M. GRAHAM, PETITIONER v. COMMISSIONER of INTERNAL REVENUE, RESPONDENTROBERT M. GRAHAM and BETTY JO GRAHAM, PETITIONERS v. COMMISSIONER of INTERNAL REVENUE, RESPONDENT |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
In 1970, petitioner Robert M. Graham's former wife transferred a secret formula to a corporation controlled by them. In return, the corporation agreed to pay her “royalties” based upon proceeds derived from the sale of products using the formula. Joint Federal income tax returns were filed by the couple for 1972, 1973, and 1974. For 1972, she paid a deficiency in income taxes determined with respect to receipts from the corporation and filed a suit for refund in the District Court. That court held that, within the meaning of sec. 1239(a), I.R.C. 1954, (1) the transaction with the corporation was a sale, and (2) the secret formula was not in 1970, or at the time of trial, property of a character which was subject to the allowance for depreciation provided in sec. 167, I.R.C. 1954. Held: Respondent is estopped from relitigating in the instant case, relating to deficiencies for 1972, 1973, 1974, and 1975, the issues decided by the District Court in the prior suit brought by petitioner Robert M. Graham's former wife. A motion for summary judgment on those issues is, therefore, granted. Robert F. Ashley, for the petitioners.
Richard D. Ames, for the respondent.
Petitioners have filed a motion for summary judgment in these consolidated cases which involve deficiencies in Federal income taxes in the following amounts:
+-------------------------------+
¦Docket No. ¦Year ¦Amount ¦
+-------------+------+----------¦
¦ ¦ ¦ ¦
+-------------+------+----------¦
¦6709-77 ¦1972 ¦$78,095.45¦
+-------------+------+----------¦
¦6709-77 ¦1973 ¦134,277.55¦
+-------------+------+----------¦
¦6709-77 ¦1974 ¦155,993.97¦
+-------------+------+----------¦
¦9977-78 ¦1975 ¦40,926.84 ¦
+-------------------------------+
The issue presented is whether respondent is collaterally estopped from contending that certain payments received by petitioners should be treated as ordinary income, rather than capital gain, pursuant to the provisions of section 1239.1
In the 1950's, Bette C. Graham (hereinafter Bette), former wife of petitioner Robert M. Graham (Robert), developed a secret formula for a typewriter correction fluid. In 1965, Robert and Bette formed the Liquid Paper Corp. (LPC) to manufacture and market products using the secret formula, but the formula itself was not transferred to LPC at that time. On January 30, 1970, Bette transferred to LPC the secret formula “containing the organic system and the aqueous system used in the manufacture of the products known as Liquid Paper, Liquid Paper Special Match, Art Out, Mistake Out and Liquid Paper Pen.” As consideration for the transfer, LPC obligated itself to pay Bette “royalties” amounting to 5 percent of the gross proceeds received from the sale of the products using the secret formula. At the time of the transfer, Bette owned 49 percent and Robert owned 40 percent of the LPC stock.
On their joint Federal income tax returns for 1972, 1973, and 1974, Robert and Bette reported the “royalty” payments that they received from LPC in those years as long-term capital gains.
Robert and Bette were divorced on July 29, 1975. On October 10, 1975, Robert was married to Betty Jo Graham (Betty Jo). Robert and Betty Jo filed a joint Federal income tax return for 1975 on which they reported as capital gain the “royalties” that Robert received from LPC during that year.
Upon examination of the tax returns filed by Robert and Bette for 1972, 1973, and 1974, and by Robert and Betty Jo for 1975, respondent determined deficiencies based on a finding that the “royalty” payments from LPC were ordinary income rather than capital gain. In response, Robert filed the petition at docket No. 6709-77 with respect to 1972, 1973, and 1974. Subsequently, Robert and Betty Jo filed the petition at docket No. 9977-78 with respect to 1975. The cases have been consolidated upon a joint motion of the parties.
Shortly before Robert petitioned this Court with respect to the years 1972, 1973, and 1974, Bette paid the deficiencies determined by respondent for those years. She then filed a claim for refund for 1972.2 Upon denial of that claim, she filed a suit for refund in the U.S. District Court for the Northern District of Texas. In her suit, she alleged that, as of January 1, 1970, she “transferred all of her interest” in the “secret formula by sale to * * * [[[LPC] * * * without reservation.” On March 7, 1979, Judge Higginbotham for the U.S. District Court for the Northern District of Texas filed a memorandum opinion and order holding (1) that the transfer was a “sale” and (2) that the formula was not property which was, in the hands of the transferee, “subject to the allowance for depreciation provided in section 167.” Judgment was filed pursuant to the order on March 16, 1979.
Petitioners' motion for summary judgment alleges that there is no genuine issue of fact or law to be litigated in these consolidated proceedings because all such issues have been decided adversely to respondent by virtue of the District Court judgment in Bette's refund suit. We agree.
Section 1239(a) provides as follows:
(a) TREATMENT OF GAIN AS ORDINARY INCOME .—-In the case of a sale or exchange of property, directly or indirectly, between related persons, any gain recognized to the transferor shall be treated as ordinary income if such property is, in the hands of the transferee, of a character which is subject to the allowance for depreciation provided in section 167.
In the District Court case, the Government contended that Bette's receipts from LPC should be treated as ordinary income on the grounds that (1) the transfer of the secret formula to LPC was not a sale and (2), even if the transfer was a sale, section 1239 forbade capital gain treatment because the secret formula was property which was subject to the allowance for depreciation. The District Court, as noted above, rejected both arguments. Specifically, the District Court found that Bette had parted with all substantial rights in the formula and that LPC was granted the right to disclose the formula. Accordingly, the court held that Bette had sold the formula to LPC. The court further held, in the light of expert and other testimony reviewed in its opinion, that the formula was not subject to the allowance for depreciation because it was not a “wasting asset whose useful life could be measured with reasonable accuracy.” On the basis of these and other findings, the District Court held that Bette was entitled to treat the proceeds of the transfer as long-term capital gain.
We think the judgment of the District Court collaterally estops respondent from relitigating the same issues in the instant case. In Montana v. United States, 440 U.S. 147, 153-154 (1979), where the United States had financed and controlled litigation instituted in a State court by one of its public contractors, and it was held that the United States was bound by the judgment rendered in that prior litigation, the Supreme Court explained:
Under collateral estoppel, once an issue is actually and necessarily determined by a court of competent jurisdiction, that determination is conclusive in subsequent suits based on a different cause of action involving a party to the prior litigation. * * * To preclude parties from contesting matters that they have had a full and fair opportunity to litigate protects their adversaries from the expense and vexation attending multiple lawsuits, conserves judicial resources, and fosters reliance on judicial action by minimizing the possibility of inconsistent decisions. [Fn. ref. omitted.]
See also Blonder-Tongue v. University Foundation, 402 U.S. 313, 328-329 (1971); Commissioner v. Sunnen, 333 U.S. 591, 597-602 (1948); Cromwell v. County of Sac, 94 U.S. 351, 352-353 (1876).
The issues in the instant case are precisely the same as those actually and necessarily determined in the District Court in the suit for refund brought by Bette. Indeed, they stem from a joint notice of deficiency issued to Robert and Bette for 1972, 1973, and 1974. Although the notice for 1975 was mailed to Robert and Betty Jo, as a consequence of Robert's divorce and remarriage, it nonetheless raises precisely the same issues with respect to the same secret formula and the same contract as were involved in the earlier years (with the exception, as we shall discuss, of an alternative determination based on section 483). The United States was a party to the refund suit in the District Court and had a full and fair opportunity to litigate its position. We hold that respondent is estopped by the District Court judgment. Compare Starker v. United States, 602 F.2d 1341, 1344-1350 (9th Cir. 1979).
It is true, as respondent emphasizes, that Robert is the moving party in this Court and seeks to “offensively” use the District Court judgment to serve his cause even though he was not a party to the refund suit. In Parklane Hosiery Co. v. Shore, 439 U.S. 322 (1979), the Supreme Court pointed out that permitting such “offensive” use of collateral estoppel may increase the total amount of litigation by discouraging potential plaintiffs from joining or intervening in the first action brought by another similarly situated plaintiff and that, in some circumstances, it may be unfair to a defendant. Nevertheless, the Court approved the use of offensive collateral estoppel on these terms (439 U.S. at 331):
We have concluded that the preferable approach * * * is not to preclude the use of offensive collateral estoppel, but to grant trial courts broad discretion to determine when it should be applied. The general rule should be that in cases where a plaintiff could easily have...
To continue reading
Request your trial
-
Kroh v. Comm'r of Internal Revenue
...attempted to litigate the same issue against a second taxpayer in a second proceeding. Starker v. United States, supra; Graham v. Commissioner, 76 T.C. 853 (1981); Walsh v. United States, 520 F. Supp. 377 (N.D. Tex. 1981). For purposes of res judicata, the Supreme Court has recognized that ......
-
Vallone v. Comm'r of Internal Revenue
...G.M. Leasing Corp. v. United States, 429 U.S. 338, 359 (1977) and cases cited therein. 10 Petitioners, who rely on Graham v. Commissioner, 76 T.C. 853 (1981), overlook the fact that this Court applied collateral estoppel in that case because ‘the issues in the case are precisely the same as......
-
Furst v. United States
...It said the Government was barred from relitigating the issues already decided by the district court in decedent's case. Graham v. Commissioner, 76 T.C. 853 (1981). On September 28, 1979, decedent filed formal claims for refund with the IRS on Form 1040X for the years 1973 and 1974. Amended......
-
Wright v. Commissioner
...unless the Commissioner reduces the amount of his claim. Estate of Ming v. Commissioner, supra, at 522. See also Graham v. Commissioner Dec. 37,928, 76 T. C. 853, 858 (1981); Rule Thus, once petitioner filed his petition with this Court, he was required to contest his tax liability in this ......