Pool v. Commissioner of Internal Revenue, 15399.

• Decision Date: 18 December 1957
• Docket Number: No. 15399.,15399.
• Citation: 251 F.2d 233
• Parties: Edward POOL and Lottie Pool, Edward Pool, Lottie Pool, William K. Murphy, Edna Murphy, William K. Murphy and Edna Murphy, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Court of Appeals — Ninth Circuit

251 F.2d 233 (1957)

Edward POOL and Lottie Pool, Edward Pool, Lottie Pool, William K. Murphy, Edna Murphy, William K. Murphy and Edna Murphy, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 15399.

United States Court of Appeals Ninth Circuit.

December 18, 1957.

Irving I. Axelrod, Mitchell, Silberberg & Knupp, Los Angeles, Cal., for petitioners.

Charles K. Rice, Asst. Atty. Gen., S. Dee Hanson, Ellis N. Slack, A. F. Prescott, Melva M. Graney, Attys., Dept. of Justice, Washington, D. C., for respondent.

Before LEMMON and BARNES, Circuit Judges, and YANKWICH, District Judge.

YANKWICH, District Judge.

In this review of the determination of income tax deficiencies against the taxpayers for the calendar years 1946, 1947 and 1948, six consolidated cases are involved. The decisions of the Tax Court were entered on August 20, 1956. The deficiencies were as follows:

                  For the years 1946-1947 Edward Pool               5,697.02
                                                                   86,828.50
                  For the years 1946-1947 Lottie Pool               5,697.02
                                                                   86,828.50
                  For the year 1948 Edward and Lottie Pool         18,651.22
                  For the years 1946-1947 William K. Murphy         3,410.79
                                                                   98,401.48
                  For the years 1946-1947 Edna Murphy               3,410.79
                                                                   98,401.48
                  For the year 1948 William K. and Edna Murphy     17,349.60
                

It is the contention of the taxpayers that the decisions are clearly erroneous and should be set aside.¹ It is also argued that these are cases in which the Tax Court misapplied the law to proved facts.² In the main, it is asserted that the Tax Court erred in treating the income derived from the sales of two sets of duplexes owned by the petitioners as ordinary income under Section 22 of the Internal Revenue Code of 1939.³ To the contrary, it is insisted that the sales should have been treated as the liquidation of an investment and the income subjected to the tax called for by the capital gain provision of Section 117(j) of the Internal Revenue Code of 1939.⁴

I

The Criteria Under 117(j)

Cases of this character present difficulties because there is no agreement among the courts as to what primary element in the transaction determines its character. In a recent case this Court, after enumerating some of the elements which the various Courts of Appeals have considered, at times, determinative, states the conclusion that, in the last analysis, the question is one of fact:

"What is and what is not trade or business and when property is or is not held for sale to customers are questions of fact.

"Provisions similar to the one under discussion have been part of our tax statutes for many years. Courts have sought to evolve criteria by which to determine whether a person or an association was engaged in business. More particularly, they have tried to establish criteria by which to determine whether real property is held for investment or sale to customers in the ordinary course of business. Many tests have been proposed by this and other courts. Among them are: (1) the nature of the acquisition of the property, (2) frequency and continuity of sales over a period of time, (3) the nature and extent of the taxpayer\'s business, (4) the activity of the seller about the property, such as the extent of his improvements or his activity in promoting sales, (5) the extent and substantiality of the transaction and the like. * * * But in the last analysis, each case must be determined upon its own specific facts, for none of these incidences are present in all cases."⁵

Cases, old and new, in this Circuit have, at times, emphasized one or another of these criteria. Thus, in a case preceding the one just cited, this Court said:

"We have heretofore decided that a mere series of sales for the primary purpose of liquidation does not solve the problem. Ehrman v. Commissioner, supra, 9 Cir., 120 F.2d 607. The holder may well have acquired and held the property for an ordinary turnover profit and found that it could not be sold for a reasonable price without submitting it to conditions prevalent to a trade or business. In such case the owner has changed the status of his holding, whether or not it was contrary to his first desire."⁶ (Emphasis added.)

This and other courts have stated repeatedly that "there is no fixed formula or rule of thumb"⁷ for determining whether property is held primarily for sale to customers in the ordinary course of the taxpayer's business. The reason is that the problem usually arises in

"situations where the taxpayer is engaged in some activity apart from his usual occupation and the question is whether this activity amounts to a business."⁸

Even the management of one's own property may or may not be "a business" depending on circumstances.⁹ And in dealing with the sale of lands the applicable rule has been well summed up by the Court of Appeals for the Fifth Circuit:

"An occasional sale of land held as an investment is not such a business though profit results. The word, notwithstanding disguise in spelling and pronunciation, means busyness; it implies that one is kept more or less busy, that the activity is an occupation. It need not be one\'s sole occupation, nor take all his time. It may be only seasonal, and not active the year round. It ordinarily is implied that one\'s own attention and effort are involved, but the maxim qui facit per alium facit per se applies, and one may carry on a business through agents whom he supervises."¹⁰

And Courts of Appeals, including this one, have warned that, in the end, the decision in each case must depend upon the particular facts in the case.¹¹ The Court of Appeals for the Tenth Circuit expressing itself in accord with this view has stated:

"Neither is it possible in the resolution of these questions to adopt fixed indices from which the answer can be reached. There are, however, certain factors which have been recognized as helpful guides in seeking a just and correct result. Among these are the purposes for which the property was acquired, the activities of the taxpayer and his agents with respect thereto such as making improvements on the property, conducting a sales campaign either through advertisements or the employment of real estate agents, the frequency and continuity of sales as differentiated from isolated sales, as well as any other factor reasonably tending to show that the transaction was in furtherance of or in the course of the taxpayer\'s occupation or business."¹²

These warnings are significant because the taxpayers in this case would have us abandon the flexible formulas which Courts have established in favor of a rigid formula that "would fit" the variety of cases which has arisen. Thus, they would place in one group cases in which the original intention is obscure.¹³ In another group they would include cases in which the character of the property was changed.¹⁴ In the third group they would gather cases where there is an original investment purpose and a later decision to sell.¹⁵ The taxpayers urge that the present case is in the latter group and that the Tax Court erred in not so ruling.

It is not necessary for us to determine the validity of the rigorous distinctions which the taxpayers have sought to introduce into the cases which have dealt with the problem. What they have done is the very thing against which this and other courts have warned. They have taken one or another of the criteria which have been resorted to and sought to enshrine it as a rigid category. The teachings of the cases is that this cannot and should not be done. The excellence of our jurisprudence is its flexibility. In applying general statutory language to particular situations, courts best conform to the tradition of growth of our system when they adapt realistically general principles to different or constantly changing situations. In applying tax statutes, the best result is always achieved when we avoid harsh crystallizations.

II The Undisputed Facts in the Case

If we apply the criteria referred to above¹⁶ to the situation before us, we cannot say that the decision of the Tax Court was clearly erroneous.¹⁷ Nor are we convinced that the Tax Court applied the wrong principles of law to admitted facts.¹⁸

1. Stipulated Facts.

In determining the matter it is necessary to go, with some detail, into the background out of which the controversy arises. Many of the facts were not disputed. In outline, the following facts were stipulated. They are given (with some omissions and changes of language) in the form in which they appear in the stipulations.

Edward Pool and Lottie Pool are husband and wife. At all times herein material, they filed their federal income tax returns on a cash and calendar year basis with the Collector of Internal Revenue for the Sixth District of California. Separate returns were filed for the years 1946 and 1947 but joint returns were filed for the year 1948.

William K. and Edna Murphy are husband and wife. At all times herein material, they filed their returns on a cash and calendar year basis with the Collector of Internal Revenue for the Sixth District of California. In 1946 and 1947 each filed separate returns. In 1948, however, they filed joint returns.

Artcraft Builders, Inc. (hereinafter referred to as "Artcraft") is a California corporation. Until 1944 its principal place of business was at Los Angeles, California. Since 1945 its principal place of business has been at Long Beach, California.

Artcraft was organized as a California corporation on March 10, 1941. Four thousand shares of Class A preferred stock and 21,000 shares of Class B Common stock were authorized. Class A and Class B stock were entitled to equal voting rights, share for share. The Class A shares carried the right to cumulative dividends at the rate of 8 per cent.

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