Hochschild v. Comm'r of Internal Revenue
| Decision Date | 11 June 1946 |
| Docket Number | Docket No. 1084. |
| Parties | HAROLD K. HOCHSCHILD, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Attorney's fees in litigation against petitioner and others to impress trust upon stock, held to have been expended in defense of title and a capital expenditures, rather than being deductible under section 23(a), as a business or nonbusiness expense; except that a portion of such fees allocable to plaintiff's claim to interim dividends, held further deductible as expenditures connected with the collection of income. John F. Dooling, Esq., for the petitioner.
Scott Dahlquist, Esq., for the respondent.
This proceeding was brought for a redetermination of a deficiency of $4,238.71 in the petitioner's income tax for the year 1939.
Certain items are conceded by petitioner. The litigated issue is whether a fee paid attorneys is deductible under section 23(a) of the Internal Revenue Code. An alternative contention by petitioner is that the amount involved is deductible as a loss under section 23(e).
The facts appear from a stipulation of the parties. They are hereby found accordingly.
Petitioner is a resident of New York City, and he filed his return for the tax period in question with the collector of internal revenue for the second district of New York.
The American Metal Co., Ltd. (hereinafter called the Metal Co.), is a New York corporation, organized in 1887. Petitioner has held various offices in the Metal Co. continuously since 1916, and from November 27, 1934, to the present has been a director and president. During the years 1918 through 1939 petitioner at all times owned not less than 4.5216 per cent of the common stock of the Metal Co.
The highest and lowest selling prices of the common stock of the Metal Co. on the New York Stock Exchange during the year 1938 were 45 and 23, respectively, and the highest selling price of such stock on December 30, 1938, was 37 7/8.
Climax Molybdenum Co. (hereinafter called Climax) was organized in Delaware on January 17, 1918. Petitioner at various times has held offices in Climax of director, treasurer, and secretary. From 1918 through 1929, petitioner's holdings of Climax's stock represented from 3 per cent to 5.826 per cent of its stock. Thereafter and through the end of 1939 petitioner owned not less than 5.6 per cent of such capital stock, and during the year 1939 held 141,122 shares of such stock out of 2,520,000 shares then outstanding.
The highest and lowest selling prices of the capital stock of Climax on the New York Stock Exchange during the year 1938 were 60 1/4 and 32 1/2 respectively, and the highest selling price on December 30, 1938, was 59 7/8.
There was a practice of long standing in the Metal Co., at least until 1918, whereby officers, directors, stockholders, and employees were permitted to take participations in new business ventures of the Metal Co.; there had been more than forty such ventures prior to 1916. Under the policy referred to there were no fixed proportions as between the Metal Co. and the other joint participants in new ventures, such participations being determined in the discretion of the management. This was with the consent of the then stockholders of the Metal Co.
In November 1916 the management of the Metal Co. formed a syndicate, consisting of the Metal Co. and a number of its officers, employees, and stockholders (including petitioner), to acquire an option on certain molybdenum properties at Climax, Colorado, from a group represented by Heckendorf. The arrangement was that the Heckendorf group would receive a 25 per cent interest in any company formed to exploit the molybdenum properties and the Metal Co. syndicate would receive a 75 per cent interest. The interests of the syndicate participants in the 75 per cent share in the option were as follows:
+-------------------------------------------------------------------+
¦ ¦Per cent ¦
+--------------------------------------------------------+----------¦
¦Metal Co ¦70 ¦
+--------------------------------------------------------+----------¦
¦Petitioner ¦1 ¦
+--------------------------------------------------------+----------¦
¦Other officers, employees, and stockholders of Metal Co.¦29 ¦
+-------------------------------------------------------------------+
In late 1917 the option on the molybdenum properties was exercised and upon the exercise of the option definitive participations in 75 per cent of the venture available to the Metal Co. and its associates were fixed at 10 per cent to the Metal Co., 4 per cent to petitioner, and 86 per cent to other officers, stockholders, and employees of the Metal Co. Each participant thereupon became liable for and paid the latter that percentage of all the expenses incurred since the original acquisition of the option. Petitioner thus became liable for and paid at December 31, 1917, 4 per cent of all expenses incurred to that date in the molybdenum venture.
Petitioner accordingly acquired on April 1, 1918, 1,500 shares of Climax or 4 per cent of the 37,500 shares of stock of Climax issued to the Metal Co. and its associates.
Climax issued additional stock in 1920-1921 and petitioner then acquired 1,500 additional shares, 321 of which were surrendered by him in 1926 in compromise of litigation between Climax and the Metal Co. The stock of Climax was split 10 shares for 1 in 1929, and 3 shares for 1 in 1935. Petitioner derived taxable dividend income from his holdings of Climax stock after 1933 as follows:
+-------------------+
¦1933 ¦$10,097.68 ¦
+-----+-------------¦
¦1934 ¦10,085.86 ¦
+-----+-------------¦
¦1935 ¦103,540.21 ¦
+-----+-------------¦
¦1936 ¦144,487.00 ¦
+-----+-------------¦
¦1937 ¦245,752.40 ¦
+-----+-------------¦
¦1938 ¦316,688.40 ¦
+-----+-------------¦
¦1939 ¦450,680.40 ¦
+-----+-------------¦
¦Total¦1,281,331.95 ¦
+-------------------+
At all times since 1916 petitioner has been a full-time salaried employee or officer of the Metal Co. (except for periods during World War I and World War II, when he was in the War Department or the armed forces of the United States.
At the time of the institution of the litigation hereinafter described, Metal Co. owned and now owns a larger number of shares of Climax than any other two stockholders.
On December 31, 1938, a stockholders' derivative action was commenced in the Supreme Court of the State of New York, County of New York, by Alfred Turner, a stockholder of the Metal Co., against the Metal Co., the petitioner, and others for relief on the ground of alleged breaches by petitioner and others of their fiduciary duties to the Metal Co. in respect of the Climax venture. In part, the complaint charged that the directors, officers, and employees of the Metal Co. (including petitioner), believing the Climax venture to be of great value, after acquiring it for the Metal Co. in December 1916, caused the Metal Co. to relinquish to them in various proportions 30 per cent of the 75 per cent of the Climax venture acquired for the Metal Co.; that late in 1917, believing the Climax venture was of greater value than originally supposed, they further reduced the interest of the Metal Co. and acquired for themselves in various proportions 90 per cent of the 75 per cent of the venture available to the Metal Co., leaving the Metal Co. with only 10 per cent of the 75 per cent. The complaint further charged that the stock of Climax was issued in pursuance of this later allocation of interests to the petitioner and other officers, directors, and shareholders of the Metal Co. The complaint further charged that, after the organization of Climax, the Metal Co. was caused by the defendants to spend money on behalf of Climax and to extend to it the use of the Metal Co.'s facilities, services, and personnel, all of which were necessary to the development of Climax, and none of which were paid for by Climax. The complaint claimed that the Climax stock acquired by the petitioner and the other officers, directors, and employees was impressed with a trust in favor of the Metal Co., and that Climax and the same defendants, including petitioner, were also indebted to the Metal Co. for the value of the money spent and facilities, services, and personnel made available to Climax by the Metal Co. And it was alleged that the defendants conspired to these ends. The relief prayed for by the complaint was that the Climax stock held by the defendants, including petitioner, be impressed with a trust in favor of the Metal Co.; that petitioner and the other individual defendants be ordered to assign and transfer their Climax stock to the Metal Co.; that the petitioner and the other individual defendants be ordered to account to the Metal Co. for all money and benefits received by them by way of profit or dividend on their Climax stock; and that Climax and the individual defendants, including petitioner, account to the Metal Co. for all sums due to it from Climax.
The answer of petitioner and the other defendants traversed every material allegation of the complaint and pleaded affirmatively the good faith of the defendants, the knowledge and acquiescence of the stockholders of the Metal Co. in the disposition made of Climax, the risky and speculative nature of the Climax venture, the defendants' offer in 1920 to transfer their individual interests in Climax to the Metal Co. at cost and the refusal of the Metal Co. to accept this officer, and many other facts respecting the estoppel of the Metal Co. and its stockholders to assert any claim against the defendants. They also pleaded the statute of limitations.
The case came on for trial on May 19, 1941, and, after a trial which occupied twenty-four trial days, an opinion, decision, and...
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