Kilpatrick v. Commissioner of Internal Revenue, 15501.

• Decision Date: 09 November 1955
• Docket Number: No. 15501.,15501.
• Citation: 227 F.2d 240
• Parties: Lillian KILPATRICK, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. COMMISSIONER OF INTERNAL REVENUE, Petitioner, v. Lillian KILPATRICK, Respondent.
• Court: U.S. Court of Appeals — Fifth Circuit

227 F.2d 240 (1955)

Lillian KILPATRICK, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

COMMISSIONER OF INTERNAL REVENUE, Petitioner, v. Lillian KILPATRICK, Respondent.

No. 15501.

United States Court of Appeals Fifth Circuit.

November 9, 1955.

William R. Frazier, Hill & Frazier, James P. Hill, Jacksonville, Fla., for petitioner.

H. Brian Holland, Asst. Atty. Gen., Ellis N. Slack, Sp. Asst. to the Atty. Gen., R. P. Hertzog, Acting Chief Counsel, Int. Rev. Service, Rollin H. Transue, Sp. Atty. Int. Rev. Service, Carolyn R. Just, Atty., Dept. of Justice, Washington, D. C., for respondent.

Before HUTCHESON, Chief Judge, and BORAH and CAMERON, Circuit Judges.

BORAH, Circuit Judge.

These petitions for review involve the income tax liability of taxpayer, Lillian Kilpatrick, for the years 1942 and 1943. The Tax Court found deficiencies in income taxes for the years in question of $34,491.76 and $21,130.98, respectively, plus a fifty percent fraud penalty for each of those years.

The findings of fact and conclusions of the Tax Court are reported in 22 T.C. 446. To the extent that they need here be stated, they are summarized as follows: The taxpayer was an experienced business woman. In the year 1914 she began operating a ladies' ready-to-wear and dress shop in Marianna, Florida and in 1931 she moved to Millville, a suburb of Panama City, Florida, where she conducted the same type of business. In 1935 she purchased a store in the business district of Panama City and moved her shop to this more desirable location. In the same year taxpayer employed Clyda and Velma Sutherland to work in the business at a weekly salary of either $12.00 or $15.00, which salary continued until 1936 when the Sutherlands moved into the taxpayer's living quarters above the store, and the three women began sharing expenses. During the years 1936 through 1942, the Sutherlands received no salary but withdrew from the business receipts only their ordinary and necessary living expenses. However, no record was maintained of such withdrawals during those years and no attempt was made to account for same. In the proceedings before the Tax Court, it was stipulated that the taxpayer in 1942 expended a total of $6,404.15 for Clyda and Velma Sutherland on mortgages in connection with the purchase of properties, on life insurance policies, and for shares under contracts with the Investors Syndicate.

On January 1, 1943, taxpayer entered a partnership agreement with Clyda and Velma Sutherland in which the taxpayer retained a fifty percent interest in the business and each of her former employees was designated owner of a twenty-five percent interest therein. This agreement made no reference to the contributions of the respective co-partners, nor does it contain the slightest suggestion that the Sutherlands' interest represented compensation for services previously rendered. During the years 1942 and 1943, taxpayer reported net taxable income of $8,470.36 and $7,542.16, respectively, whereas the Commissioner determined that the understatement of taxable income was in excess of $92,000 for the years in question.

The Commissioner, in the absence of the records of taxpayer and the partnership which were burned or otherwise destroyed prior to September 10, 1946, determined taxpayer's net income for 1942 on the basis of the increase in her net worth plus nondeductible personal expenditures. It was stipulated that she had an increase in net worth in 1942 of over $54,000, and the 1942 deficiency consists of numerous itemized amounts of unreported income and certain adjusted unallowable deductions. Among these items, only the aforementioned $6,404.15 of payments made by taxpayer on behalf of the Sutherlands are here in contest. The 1943 deficiency is primarily attributed to taxpayer's understatement of her share of partnership income in the amount of $35,362.33¹

In brief, taxpayer is here claiming that she should have been allowed a deduction of $6,404.15 in 1942 and a further deduction in 1943 of $45,427.08, the stipulated value of one-half the partnership business assigned to the Sutherlands, both of these sums being alleged to have been ordinary, necessary and reasonable expenses incurred in the conduct of her business as compensation for services rendered by employees. These "deductions" were not claimed as such on the income tax returns filed by the taxpayer in 1942 and 1943, and Clyda Sutherland did not report any of the amounts as income received by her. Thus, the problem here is whether the Commissioner should have treated such sums as legitimate deductions in computing taxpayer's income under the net worth plus nondeductible expenditures theory.

In her petition for review a number of questions are raised by the taxpayer, but it is necessary to consider only the contentions that the Tax Court erred: (1) in admitting testimony and judgments, entered upon pleas of nolo contendere, convicting the taxpayer and Clyda Sutherland for income tax evasion in the years 1943 and 1944, and 1945, and in using such evidence for impeachment purposes; (2) in holding that the deficiencies for the years 1942 and 1943 were not overthrown by the taxpayer's proof; and (3) in finding that parts of the deficiencies in 1942 and 1943 were due to fraud with intent to evade tax under Section 293(b) of the Internal Revenue Code of 1939, 26 U.S.C.A. § 293(b).

We think that the Tax Court was correct in holding that the records of prior convictions of taxpayer and of the witness Clyda Sutherland were admissible for impeachment purposes, and in permitting the government's cross-examination with respect to their convictions. By statute the Tax Court is bound by the rules of evidence applicable in the Courts of the District of Columbia,² and admission of the evidence in question was specifically authorized by the District of Columbia Code.³ In its consideration of the testimony and judgments of conviction the Tax Court said:

"We think they are admissible for impeachment purposes as would be any conviction of a crime committed by any witness, and that they may be noted as a part of the background of the present case. We refrain from deciding, for reasons which will presently appear, whether it is permissible to consider petitioner\'s plea as evidence on the fraud issue * * * we are giving no consideration to petitioner\'s prior conviction on this fraud issue."

It...