Kniffen v. Comm'r of Internal Revenue
| Decision Date | 20 December 1962 |
| Docket Number | Docket No. 85516. |
| Parties | ARTHUR L. KNIFFEN AND LILLIAN KNIFFEN, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Urban C. Bergbauer, Jr., Esq., for the petitioners.
Dean E. Sharp, Esq., for the respondent.
1. Held, that the transfer by petitioner Arthur Kniffen in 1957 of his sole proprietorship assets and liabilities (including a $44,625.79 liability owing to his transferee corporation) to his controlled corporation constituted a partially taxable exchange under sections 351 and 357, L.R.C. 1954.
2. Held, that petitioners did not receive taxable interest income in the amount of $3,139.10 during 1957.
3. Held, that petitioners did not receive taxable income in the amount of $7,000 during 1957, resulting from the exchange of a promissory note.
4. Held, petitioner is not entitled to deduct business expenses in the amount of $22,466.31 for 1957.
5. Held, petitioners did not receive taxable income in 1957 in the amount of $,2458.23 as a result of furnishing office services to several related corporations.
6. Held, petitioner realized taxable income in 1957 in the amount of $465.30 resulting from a sales commission.
7. Held, petitioner realized taxable income in 1957 in the amount of $50 resulting from a lease deposit.
The respondent determined deficiencies in petitioners' income tax for the years and in the amounts as follows:
+--------------------+
¦Year ¦Deficiency ¦
+------+-------------¦
¦1955 ¦$2,384.95 ¦
+------+-------------¦
¦1957 ¦10,779.48 ¦
+--------------------+
The issues presented for our decisions are:
(1) Whether the transfer by petitioner Arthur L. Kniffen in 1957 of the assets and liabilities of his sole proprietorship to his controlled corporation constituted a taxable exchange under sections 351 and 357 of the Internal Revenue Code of 1954.
(2) Whether petitioner realized interest income in the amount of $3,139.10 in 1957.
(3) Whether petitioner realized taxable income in 1957 resulting from the exchange of a promissory note in the amount of $7,000 during that year.
(4) Whether petitioner is entitled to deduct business expenses in the amount of $22,466.31 for 1957 which were not paid during that year.
(5) Whether petitioner realized taxable income in 1957 in the amount of $2,458.23 as a result of furnishing offices to several related corporations.
(6) Whether petitioner realized taxable income in 1957 in the amount of $465.30 resulting from a sales commission.
(7) Whether petitioner realized taxable income in 1957 in the amount of $50 resulting from a lease deposit.
Additional issues presented by the pleadings have been disposed of by stipulation of the parties.
Some of the facts have been stipulated and are found accordingly.
Petitioners Arthur L. Kniffen and Lillian Kniffen are husband and wife residing at St. Louis, Mo. They filed joint Federal income tax returns for 1955 and 1957 with the director of internal revenue at St. Louis, Mo.
Petitioners prepared and filed their income tax return for 1957 on the cash receipts and disbursements method.
During 1955, 1956, and January, February, and March, 1957, Arthur L. Kniffen was engaged in the business of purchasing, selling, and renting real estate under the name of Arthur L. Kniffen Real Estate Co., sometimes hereinafter referred to as the proprietorship.
Issue 1. Section 351— Partially Taxable Exchange.
On March 31, 1957, the total assets of Arthur L. Kniffen Real Estate Co. at their adjusted basis were as follows:
+-----------------------------------------------------------+
¦Real estate rental properties ¦$165,547.67¦ ¦
+-----------------------------------+-----------+-----------¦
¦Less: Reserve for depreciation ¦7,368.36 ¦$158,179.31¦
+-----------------------------------+-----------+-----------¦
¦Geyer Road land ¦ ¦45,541.60 ¦
+-----------------------------------+-----------+-----------¦
¦Lake Tishomingo lot ¦ ¦599.46 ¦
+-----------------------------------+-----------+-----------¦
¦Furniture and fixtures ¦6,910.25 ¦ ¦
+-----------------------------------+-----------+-----------¦
¦Less: Reserve for depreciation ¦2,740.75 ¦4,169.50 ¦
+-----------------------------------+-----------+-----------¦
¦Escrow deposits ¦ ¦498.11 ¦
+-----------------------------------+-----------+-----------¦
¦Notes and deeds of trust receivable¦ ¦38,644.00 ¦
+-----------------------------------+-----------+-----------¦
¦Savings and loan share accounts ¦ ¦4,975.83 ¦
+-----------------------------------+-----------+-----------¦
¦Accounts receivable: ¦ ¦ ¦
+-----------------------------------+-----------+-----------¦
¦Catalina Builders, Inc. ¦ ¦22,577.72 ¦
+-----------------------------------+-----------+-----------¦
¦Kniffen Homes Sales, Inc. ¦ ¦4,406.23 ¦
+-----------------------------------+-----------+-----------¦
¦Ram Construction, Inc. ¦ ¦1,485.85 ¦
+-----------------------------------+-----------+-----------¦
¦Others ¦ ¦4,803.30 ¦
+-----------------------------------+-----------+-----------¦
¦Total ¦ ¦285,880.91 ¦
+-----------------------------------------------------------+
The total liabilities of the proprietorship as of March 31, 1957, were as follows:
+------------------------------------------------+
¦Liabilities ¦
+------------------------------------------------¦
¦Accounts payable: ¦ ¦
+-------------------------------------+----------¦
¦Kniffen Subdivision Sales, Inc. ¦$44,625.79¦
+-------------------------------------+----------¦
¦Kniffen Home Dist., Inc. ¦6,680.15 ¦
+-------------------------------------+----------¦
¦Arthur L. Kniffen, Sr. ¦830.10 ¦
+-------------------------------------+----------¦
¦Other credit balances ¦37.96 ¦
+-------------------------------------+----------¦
¦Customer accounts ¦4,582.89 ¦
+-------------------------------------+----------¦
¦Accounts payable ¦23,167.87 ¦
+-------------------------------------+----------¦
¦Accrual payroll taxes ¦1,497.65 ¦
+-------------------------------------+----------¦
¦Deferred commissions ¦4,223.28 ¦
+-------------------------------------+----------¦
¦Equity of others in property and note¦15,689.23 ¦
+-------------------------------------+----------¦
¦Notes payable ¦191,897.57¦
+-------------------------------------+----------¦
¦Rental deposits ¦895.00 ¦
+-------------------------------------+----------¦
¦Total ¦294,127.49¦
+------------------------------------------------+
Arthur L. Kniffen transferred the foregoing assets and liabilities to Kniffen Subdivision Sales, Inc., on March 31, 1957, in exchange for 1,000 shares of its no-par stock. The corporation assumed all of the above-listed liabilities. Prior to the transfer of his proprietorship assets and liabilities to Kniffen Subdivision Sales, Inc., on March 31, 1957, Kniffen owned 48 out of its 50 issued shares, and he owned 1,048 out of the 1,050 issued shares of the corporation immediately after the transfer.
The transfer by Kniffen of his proprietorship assets and liabilities to the corporation was made for the purpose of consolidating the records and operations of different segments of his business, and for the further purpose of limiting his personal liability.
Immediately prior to the transfer by petitioner of his individual proprietorship assets and liabilities to the corporation, and at the time the exchange was formally completed, the books of account of Arthur Kniffen disclosed that the basis of his assets exceeded the total amount of his liabilities. With this understanding Kniffen Subdivision Sales, Inc., authorized the issuance to petitioner of 1,000 shares of no-par stock and a promissory note in the amount of $6,405.55.1
Beginning about April 1, 1957, petitioner's newly employed accountant conducted a thorough audit of his books resulting in the discovery of substantial losses in bank deposits caused by the embezzlement of funds by a previous employee. Because of this bank deposit shortage the liabilities of Arthur Kniffen as of March 31, 1957, actually exceeded the basis of his assets as of that date. As a result of this disclosure the promissory note for $6,405.55, which had been authorized by the corporation and which subsequently was executed by its vice president, was never delivered to petitioner, nor was it even seen by him. The note has never been negotiated and no payment to petitioner in connection therewith or as a substitute therefor has been made.
Included among the liability accounts transferred by Kniffen to the corporation and assumed by it on March 31, 1957, was an indebtedness in the amount of $44,625.79 due and owing by petitioner to the corporation. Prior to the exchange, this account was reflected on the books of the corporation as an account receivable.
After the transfer of petitioner's proprietorship assets and liabilities to the corporation on March 31, 1957, its books showed no balance under ‘accounts receivable, Arthur L. Kniffen Real Estate Co.’ (a sole proprietorship).
The real estate rental properties transferred by petitioner to the corporation on March 31, 1957, and having a total adjusted basis of $158,179.31, consisted of 11 houses which were valued on the records of Kniffen Subdivision Sales, Inc., on April 1, 1957, at $189,100.
The Geyer Road land which was transferred by petitioner to Kniffen Subdivision Sales, Inc.,...
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