Myers v. Comm'r of Internal Revenue

• Decision Date: 26 February 1946
• Docket Number: Docket No. 6037.
• Parties: EDWARD C. MYERS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Tax Court

6 T.C. 258

68 U.S.P.Q. 346

EDWARD C. MYERS, PETITIONER,

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 6037.

Tax Court of the United States.

Promulgated February 26, 1946

Petitioner was the inventor of a rubber-covered flexible steel track, the conception of which invention and drawings he completed prior to January 1, 1930, but had not filed application for a patent at that time. On January 9, 1932, in consideration of certain annual payments to be made to him, denominated ‘royalties‘ in the agreement, petitioner granted to B. F. Goodrich Rubber Co. an exclusive license to use, manufacture, and sell the invention. Held, (1) the exclusive license to Goodrich amounted to a sale by petitioner of his invention; (2) it was the sale of property which petitioner had held for more than 24 months; and (3) the invention was not property held by petitioner primarily for sale to customers in the ordinary course of his trade or business. The gain which petitioner realized in 1941 from the sale in 1932 is taxable at capital gain rates provided in section 117, Internal Revenue Code, and not as ordinary income, as the Commissioner has determined. Harvey W. Peters, Esq., for the petitioner.

Carroll Walker, Esq., for the respondent.

The Commissioner has determined a deficiency of $6,000.63 in petitioner's income tax for the year 1941. The deficiency results from three adjustments which the Commissioner made to the net income of petitioner as disclosed by the return which he filed for the taxable year. None of these adjustments is contested. However, petitioner not only claims that there is no deficiency, but alleges an overpayment of $16,068.07, based on the following assignment of error:

(a) The Commissioner erred in the determination whereby $78,110.95 received by the petitioner from The B. F. Goodrich Company in 1941 is considered to be royalties and taxable as ordinary income, whereas said $78,110.95 represents installment proceeds of the sales price of an invention, a capital asset held over 24 months, and is taxable as a long-term capital gain.

FINDINGS OF FACT.

The petitioner is an individual who resides in Wilmette, Illinois. The return for the period here involved was filed with the collector of internal revenue for the district of Illinois at Chicago, Illinois.

During the year 1941 the petitioner received the sum of $78,110.95 from the B. F. Goodrich Co., Akron, Ohio, sometimes hereinafter referred to as Goodrich, under an agreement executed and delivered January 9, 1932, said agreement being amended only as to the percentage payments by supplemental agreements executed and delivered September 23, 1940, and October 15, 1940. Pertinent provisions of the January 9, 1932, agreement are as follows:

WHEREAS the Licensor hereby warrants and represents as a condition for the obligations of Goodrich hereunder that he has invented certain new and useful Improvements in a Rubber Covered Flexible Track . . . , for which application for letters patent of the United States, bearing serial No. . . . , was filed on the . . . day of . . . , 193. . . , and is the owner of the entire right, title and interest in and to the said application and the invention thereof and that no license or right such as to be in conflict with the provisions hereof has heretofore been granted or agreed to be granted, AND

WHEREAS the Licensee desires to obtain a license to make, use and sell devices embodying and made in accordance with or by the use of the invention covered by said application and letters patent to be issued thereon.

NOW, THEREFORE, in consideration of the mutual promises contained herein, and other valuable consideration hereby acknowledged, the parties have agreed together as follows:

1. The Licensor hereby grants to the Licensee an exclusive license, together with the right to grant sublicenses, to make, use and sell throughout the United States, its territories and possessions, under said application and all letters patents now or hereafter, within the life of this agreement, owned, controlled, or subject to licensing by the Licensor upon any subject matter of the above-identified application, or any improvement thereon, and to employ in its manufacture thereunder the invention or inventions of such application and letters patent covering procedure of apparatus useful in such manufacture, as shall be owned, controlled, or subject to licensing by the Licensor.

6. If by reason of its operating under the license herein granted Licensee or any of its sublicensees or any customer of any of them shall be sued for infringement of any letters patent not owned by Licensor, Licensee shall have the right to reimburse the expense of defending such suit or suits and to pay all profits or damages assessed therein from royalties which otherwise would be payable hereunder.

7. The Licensee shall have the right initially at its own expense to bring and prosecute suits against apparent infringers of any letters patent included in the license herein granted and to reimburse the expense thereof from royalties which otherwise would be payable hereunder, and the Licensor agrees that the Licensee shall have the right to use his name as party plaintiff in any such suit or suits and agrees to sign all papers and perform all acts necessary or desirable to carry out the intent hereof, and all patent infringement suits brought by or against the Licensee, or its sublicensees, and pertaining to subject matter hereof, shall be promptly reported to the Licensor.

8. If the royalties paid by the Licensee hereunder on account of deliveries made hereunder shall be less than One Thousand Dollars ($1,000.00) for the calendar year 1933, Two Thousand Five Hundred Dollars ($2,500.00) for the calendar year 1934, or Five Thousand Dollars ($5,000.00) for any calendar year thereafter, and the Licensee for thirty (30) days after notice of such deficiency received from the Licensor within sixty (60) days after the end of the calendar year shall fail to pay or to tender to the Licensor an amount, which, taken with the royalties paid for such calendar year, shall aggregate the sum specified for such calendar year, the Licensor shall have the option, for a period of thirty (30) days next following such failure, to terminate the exclusiveness of the license herein granted, by delivering in writing to an executive officer of the Licensee, thirty (30) days advance notice of such termination, but this section shall apply only to calendar years subsequent to the issue of one or more letters patent included hereunder.

10. The Licensee shall have the right to terminate this agreement as to any letters patent included hereunder at any time after December 31, 1932, by sixty (60) days written notice mailed to the Licensor at his last known home address, or otherwise delivered to him, without, unless so specified by the Licensee, terminating it as to other letters patents included in the license herein granted, and the agreement and the license herein granted shall automatically terminate upon the expiration of all letters patents included hereunder, and/or upon the abandonment of any application included hereunder.

It was provided in this agreement that the ‘Licensee‘ was to pay the ‘Licensor,‘ quarterly, ‘a royalty of five percent (5%) of the amount of the sales price, after trade discounts * * * of all self-laying-track-members sold by the Licensee, or its sublicensee, and delivered during the preceding three calendar months, and embodying or made in accordance with any invention of the said application as defined by any allowed claim of, or by any claim of United States Letters Patent then issued and owned by the Licensor and granted upon subject matter of, the above-identified patent application. Devices sold under this agreement shall be subject to payment of royalty only on account of the first sale thereof.‘

On October 15, 1940, the ‘Licensor‘ and the ‘Licensee‘ entered into a supplemental agreement whereby the ‘royalties were reduced from five percent (5%) to two and one-half percent (2 1/2%).‘

The United States Patent Office granted a patent on December 31, 1935, on petitioner's invention and improvement of the rubber-covered flexible steel track, the application for said patent having been filed January 25, 1932.

Petitioner started work on the conception of his invention and improvement of the rubber-covered flexible steel track in 1927 by initiating a Patent Office search on the prior art on track laying tracks. Petitioner worked on developing the conception and design of the rubber-covered flexible steel track in the period 1928 to December 8, 1929. The stage of development of petitioner's conception and design of the invention and improvement of the rubber-covered flexible steel track is indicated by entries made by him in a 1929 diary and his entry of December 8, 1929, indicated completion of the conception and design by the words ‘Track design completed.‘ Conception of petitioner's invention and improvement thereon was completed on December 8, 1929. It was on that date that he completed drawings which showed the full details of his invention.

Petitioner was variously engaged as engineer, sales engineer, plant manager, and industrial engineer during the period 1929 to 1941, most of that time working for a fixed salary and some of the time working for a salary and commission. His employers were the Weir Co., the J. I. Case Co., and others. He was not engaged in the business of inventing and selling his inventions.

Petitioner reported the income received from Goodrich in 1941 as royalties and ordinary income in his original Federal income tax return for the year 1941.

Petitioner, by claim for refund duly filed with the collector of internal revenue on May 14, 1942, claimed an overpayment in tax in amount of $18,159 upon the basis that payments received from Goodrich in 1941 were long term capital gains from the sale of property, includible in...