Kronner v. United States

• Decision Date: 03 March 1953
• Docket Number: No. 49512.,49512.
• Citation: Kronner v. United States, 110 F.Supp. 730, 126 Ct.Cl. 156 (Fed. Cl. 1953)
• Parties: KRONNER et al. v. UNITED STATES.
• Court: U.S. Claims Court

110 F. Supp. 730

KRONNER et al. v. UNITED STATES.

No. 49512.

United States Court of Claims.

March 3, 1953.

J. Marvin Haynes, Washington, D. C., for the plaintiffs. N. Barr Miller, F. Eberhart Haynes, Oscar L. Tyree, Washington, D. C., were on the briefs.

J. H. Sheppard, Washington, D. C., with whom was Ellis N. Slack, Acting Asst. Atty. Gen., for the defendant. Lee A. Jackson and Andrew D. Sharpe, Washington, D. C., were on the briefs.

Before JONES, Chief Judge, and LITTLETON, WHITAKER, MADDEN and HOWELL, Judges.

HOWELL, Judge.

The original plaintiffs in this proceeding were Ernest E. Wemp and Lila A. Wemp, husband and wife, of Detroit, Michigan. After the hearing before a Commissioner of this court, Ernest E. Wemp died, and Lila A. Wemp and William O'Neill Kronner, as duly qualified executors of his estate, were substituted in his stead.

This suit was instituted to recover a portion of the income taxes paid by Mr. and Mrs. Wemp for the years 1943 through 1947. The income involved was received by the late Ernest E. Wemp, hereinafter referred to as Wemp, from the Borg-Warner Corporation of Detroit, Michigan, under a written agreement executed September 15, 1921, between Wemp and the Long Manufacturing Company, hereinafter referred to as Long, which company was later acquired by Borg-Warner. The subject matter of this agreement was the patent rights to Wemp's invention of a new type clutch to be utilized in motor vehicles.

The question before the court in this proceeding is whether those payments received by Wemp annually under this agreement should be taxed as ordinary income, as was done, or as receipts from the sale of a long term capital asset within the provisions of section 117 of the Internal Revenue Code, 26 U.S.C. § 117 (1946). To avail themselves of the benefits of section 117, the burden is upon the taxpayers to establish (1) that the property in question is a "capital asset" as defined in section 117, (2) that there has been a "sale or exchange" of that property, and (3) that it has been held for more than six months prior to the "sale or exchange".

The plaintiffs in their claims for refund filed with the Commissioner of Internal Revenue, and in this suit, contend that the agreement of 1921 constituted an assignment or sale of a capital asset held for a period of more than six months with the payments received thereunder representing the purchase price, and that, therefore, those payments should be taxed at the lesser capital gain rates.

The defendant contends (1) that the patent rights covered by the agreement are not a capital asset within the provisions of section 117, (2) that even if they are, the 1921 agreement was not a sale, and (3) if it be found that a sale of a capital asset has taken place, Wemp did not hold the patent rights for the time required under section 117.

The definition of "capital assets" as it appears in section 117(a) (1) reads as follows:

"Capital Assets. The term `capital assets' means property held by the taxpayer (whether or not connected with his trade or business), but does not include stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business".

The applicable regulation issued thereunder reads in part:

"Sec. 29.117-1 * * * The term `capital assets' includes all classes of property not specifically excluded by section 117(a) (1)."

Defendant contends that the patent rights on Wemp's clutch invention are not a capital asset within the meaning of this definition because the patent rights constituted property held by Wemp for sale to customers in the ordinary course of his business. In urging that Wemp was engaged in the business of inventing, the defendant points to the fact that the clutch design was one of several created by Wemp prior to 1921, that after 1921 he spent his working hours in improving his clutch and obtaining patents thereon and that after he once began to receive payments under the 1921 agreement said payments represented his only substantial source of income.

Although Wemp had perfected four inventions as of 1921, the clutch design was the only one ever offered for sale, and Long was the only party Wemp ever approached. Two of his other inventions were utilized by him while operating his own business from 1903 to 1905, and the patents thereto were sold as assets of that business. His other invention proved to be commercially impractical, and the patents expired without having been used. Wemp's activity in obtaining patents on four different inventions and the selling of only one did not serve to place him in the business of buying and selling inventions and patents. Dreymann v. C. I. R., 11 T.C. 153. The patents obtained by him on the improvements to his original clutch design subsequent to 1921 could hardly be ruled to have been properly held by him for "sale to customers in the ordinary course of his trade or business" since under the 1921 agreement, he parted with the right to make, sell and use said improved clutches.

The fact that in the years since 1921 the amounts received in exchange for his clutch patents represented the major portion of Wemp's income did not place him in the inventing business. One who sells a piece of property may receive the payments therefor over a period of years. Yet he would not, because those payments represent his only income, be held to have been engaged in the business of selling property. Such is often the case where a persons sells property held for investment purposes. Fahs v. Crawford, 5 Cir., 161 F.2d 315.

Defendant further contends in urging that Wemp was engaged in the business of inventing that all his patents secured subsequent to 1921 were not on improvements to his clutch but related to entirely different devices. In his testimony Wemp stated that all his patent applications after 1921 did not relate to improvements on his original clutch but were concerned with related parts of the motor vehicles. He explained that these devices were directed at reducing the noise level of the motor vehicles. He further stated that this problem was tied in with his clutch since the noise levels sought to be lowered were those resulting from the operation of his clutch.

We conclude, therefore, that the patent rights on Wemp's clutch which were the subject matter of the 1921 agreement were a capital asset within the meaning of section 117.

We next consider whether the 1921 agreement constituted a sale of the patent rights as contended by the plaintiffs, or a license as contended by the defendant. The following requirement appears in Section 117(a) (4):

"* * * Long-term capital gain. The term `long-term capital gain' means gain from the sale or exchange of a capital asset held for more than 6 months, * * *"

The 1921 agreement read in part as follows:

"* * * It is further agreed that the Manufacturer is hereby granted the sole and exclusive right to manufacture, vend, sell, license or re-license, or in any wise use the apparatus covered by the inventions of the Inventor, for the life of the patent, when issued, or any patents which may be taken in the future, as well as upon any improvements which may be made upon said invention, the intention being that if said device shall be perfected and shall be found to be practical from a manufacturing and sales standpoint, and the Manufacturer shall elect to manufacture said device, including any improvements thereon, commercially, that the exclusive right to so manufacture and vend the same or license others so to do, is hereby given to the Manufacturer." Italics ours.

In addition, this agreement contained provisions covering: (1) the manufacturer was to pay Wemp a sum equal to a certain percent of the selling price of the total number of the clutches sold each year, said percent varying according to the number sold; (2) patents to be obtained in the name of the inventor at the expense of the manufacturer; (3) that at such time as the clutch was proven to be commercially satisfactory Wemp was to receive the additional sum of $250.00 per month for services to be applied in introducing the clutch to the market (he was at the time of the execution of the agreement employed by Long at a salary of $250.00 per month); (4) that these salary payments were to continue until the production of the clutches reached certain totals at which time they were to cease; (5) that if the manufacturer should at any time find the production of the clutches impractical it could cancel the contract upon notice to Wemp; (6) that Long should use its best efforts in marketing the invention and upon failing to do so, Wemp upon notice could cancel the agreement; (7) that the inventor was to defend the manufacturer against any infringement suits and satisfy any judgment against the manufacturer as the result of such suits; (8) that any new inventions and patents in connection with the clutch which he should create during the life of the agreement were to be considered as part and parcel of the agreement and that the manufacturer might license others to manufacture and produce the invention, the fee for such licensing to be paid as agreed by Wemp and Long who were to divide said fee equally.

By April of 1922, the Long Manufacturing Company made its election under the agreement and began to manufacture, use, and sell the clutches. There were several amendments to this 1921 agreement to which reference will be made later.

Plaintiffs contend that the patent conferred upon Wemp the exclusive right to make, use, and sell his invention for the life of the patent. When Wemp executed the 1921 agreement, he granted all of these rights to Long and the payments received by Wemp thereunder represented the purchase price. Plaintiffs contend that the other provisions of the...