Hirsch v. CIR

• Decision Date: 22 March 1963
• Docket Number: No. 17779.,17779.
• Citation: 315 F.2d 731
• Parties: Clement L. HIRSCH, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Court of Appeals — Ninth Circuit

315 F.2d 731 (1963)

Clement L. HIRSCH, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 17779.

United States Court of Appeals Ninth Circuit.

March 22, 1963.

Shearer & Fields, Jacob Shearer and Bernard Shearer, Beverly Hills, Cal., for appellant.

Louis F. Oberdorfer, Asst. Atty. Gen., Robert L. Walters, Meyer Rothwacks, Gilbert E. Andrews, and Earl J. Silbert, Attys., Dept. of Justice, Washington, D. C., for appellee.

Before JERTBERG and BROWNING, Circuit Judges, and PENCE, District Judge.

PENCE, District Judge.

This is another tax case involving the question of whether the Tax Court correctly held that the petitioner-appellant (taxpayer) was not entitled to deduct from his federal income taxes certain expenses paid and a worthless debt suffered by him, as not having been incurred in the taxpayer's trade or business.

Such facts as found by the Tax Court which we deem here pertinent may be summarized as follows:

The Las Vegas Thoroughbred Racing Association, organized to build a racetrack in Las Vegas, Nevada, was financially unsuccessful and became the subject of a bankruptcy proceeding. As part of a plan of reorganization, the Las Vegas Jockey Club was incorporated in March 1953. Under the plan, the Jockey Club issued $2,000,000 of 6 per cent mortgage bonds and $42,500 par value Class A stock. Holdings of bonds and Class A stock were proportionate, with one thousand shares of $0.02 par value stock held for each $1,000 in bonds. In addition, Class B stock was issued to a minority group, consisting of preferred stockholders and bondholders of Jockey Club's predecessor, the Las Vegas Thoroughbred Association. Taxpayer invested about $90,000 in par value Jockey Club mortgage bonds and the accompanying Class A stock.

The (so-called Luke-Smith) plan of reorganization contemplated that the funds would be used to purchase the real property of Thoroughbred Racing Association, to furnish money for amounts due to the United States, the State of Nevada, and other government agencies and creditors, to pay for costs of administration of the proceeding, to complete the racing plant, and to provide sufficient capital for operating expenses.¹ The plan was confirmed by the District Court in February 1953.

The board of directors of Jockey Club consisted of fifteen members, including Clement Hirsch (taxpayer), Louis Smith and Raymond Roberts. Three of the members of the board, including Roberts (and Ernest Cragin), represented the holders of Class B stock. A five-member executive committee of Jockey Club, which included Hirsch, Smith (Smith's attorney, Kenneth Graf; Ernest Cragin, representing the Class B stockholders; and Arthur Brick), carried on the day-to-day operation of the Club. Smith was elected president, and Hirsch vice-president of the Jockey Club in March 1953.

On May 12, 1953, a petition for an order to show cause in the Thoroughbred Association proceedings was filed in the District Court by Roberts, in which taxpayer and all other officers and members of the executive committee were charged with mismanagement of the affairs of Jockey Club.² The petition charged, among other things, that Jockey Club funds had been channelled into overconstruction of the plant improvements and that funds for operating capital had been depleted. In connection with these charges, Roberts asserted that the court should consider whether the Jockey Club had and should bring a cause of action against its officers and the members of the executive committee by reason of the asserted mismanagement. Hearings on this petition were held before a Special Master in May and June of 1953.³

Hirsch was told by Smith and by attorney Graf, that if money were not raised to provide operating capital, the members of the executive committee would be subject to liability for mismanagement. Smith requested all Jockey Club bondholders to advance to the Club an amount of money equal to 20 per cent of their bond holdings. Not all bondholders so advanced the money, and some, including Smith and taxpayer, furnished more than 20 per cent. Smith advanced $60,000 and taxpayer $20,000. Graf advanced no money. The $316,200 advanced provided needed funds to permit the Jockey Club to open its racing meeting about Labor Day, 1953.⁴

As a result of poor attendance and the receipt of insufficient funds from parimutuels, the Jockey Club cancelled the racing meeting prior to completing the full schedule. Several weeks later a second attempt was made to open the track on a more modest scale.⁵ This also failed after several days, and no further racing was conducted.

On October 15, 1953, a petition for an order to show cause was filed by Roberts in the Thoroughbred Association proceeding in the District Court. The petition alleged substantially the same matters which the May petition had contained, but was directed against the executive committee and all directors (thus including Roberts himself). On October 19, 1953, the District Court, in the matter of the Thoroughbred Association, issued an order to show cause why the directors should not be removed, why an operating receiver should not be appointed, (etc.). The order directed that a hearing be held on November 2, 1953, and also directed the Jockey Club to show cause why the trustee should not be empowered and directed to investigate the possibility of civil causes of action against the executive committee. After hearings running into February 1954, the Jockey Club filed a voluntary petition in bankruptcy in the District Court on February 19, 1954.

Hirsch traveled to and from Las Vegas during 1953 in connection with his activities in the Jockey Club.

In 1953, Hirsch paid a Reno, Nevada, law firm $1,000 to represent him and others in connection with the hearings on the order to show cause directed to him and to others on October 19, 1953.⁶

Apart from the above specific findings of the Tax Court, the record shows that Hirsch in 1953 received no compensation from Jockey Club, and when the latter subsequently became bankrupt, Hirsch did not file a claim for salary. His 1953 tax return reported income from the Victory Packing Company (of which he was the president) in the amount of $54,936.31, and income from Dog Town Packing Company (a partnership in which he was a partner) in the amount of $27,674.

Hirsch testified that when he first became a member of the executive committee, on a couple of occasions it was discussed that, when the track was successful, the members of the executive committee would be paid, and that whoever was on the spot operating the track would likewise be paid. His testimony concerning his operation of the track for the second racing meeting was that the Jockey Club had agreed to reimburse him all of his expenses, and if he continued to operate the track he was to receive a salary.⁷ The Jockey Club actually paid $1,244.14 of his expenses. He did not, however, receive any pay for any of his services. Under cross-examination he stated that his position as president of the Victory Packing Company was a "full time job", but he also testified that during the period from March through December, 1953, he was in Las Vegas half of that time because he was in charge of operations of the Jockey Club. He also went to Reno twice, once on a show cause order and once because Judge Foley wanted to see him about the way the track was being operated.

Hirsch's statements regarding the time spent in Las Vegas were corroborated by checks and hotel bills showing that, except for the month of August, he was in that city at some time during each month from March through December.

The record also shows that of the members of the executive committee, only Hirsch and attorney Graf testified before the Special Master in response to the May 15 order to show cause concerning the proposed budget and further financing, and that at a meeting of the directors on October 6, 1953, it was stated by president Smith that Hirsch had assumed the duties of "executive chief" of the Jockey Club.

In his 1953 income tax return, Hirsch deducted the $20,000 he advanced to the Jockey Club as a business bad debt. He also deducted as travel and entertainment expenses $2,869.89, a sum he claimed to have spent while in Las Vegas and traveling between Las Vegas and his California residence, all as ordinary and necessary business expenses incurred in connection with his activities in the Jockey Club. He also deducted as a business expense the $1,000 legal fee above referred to.

The Commissioner of Internal Revenue disallowed each of these deductions and determined a deficiency in income tax in the amount of $17,092.12. The Tax Court upheld the deficiency as determined by the Commissioner, ruling that while the $20,000 was a loan to the Jockey Club, taxpayer failed to show that his activities as an officer, director and executive member of the Jockey Club, out of which his expenses and bad debt were claimed to have flowed, constituted carrying on a "trade or business", within Section 23 of the Internal Revenue Code of 1939 (as amended by Secs. 121(a) and 124(a), Revenue Act of 1942, c. 619, 56 Stat. 798), Deductions from Gross Income. The Tax Court consequently found it unnecessary to rule upon the Commissioner's contention that the debt had not become worthless in 1953. From the decision of the Tax Court, taxpayer has prosecuted the instant appeal.

The wording of Section 23, by its deceptive simplicity, has spawned a multitude of decisions and opinions, each stemming from the problem of whether or not the deductions claimed were incurred in the taxpayer's trade or business, a status which, as Treasury Regulations 118 (1939 Code) referring to this Section state "is a question of fact in each particular case."⁸

The concluding words of Mr. Justice Cardozo in Welch v. Helvering, 290 U.S. 111, 116, 54 S.Ct. 8, 9, 78 L.Ed. 212 (1953) equally apply to the problem here: "Many cases in the federal courts deal with phases of...