Rickey v. Comm'r of Internal Revenue
| Decision Date | 31 March 1970 |
| Docket Number | Docket No. 5426-67. |
| Citation | 54 T.C. 680 |
| Parties | JOHN H. RICKEY, AND LORRAINE C. RICKEY, PETITIONERS v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Paul E. Anderson, C. Henry Veit, and William E. Anderson, Jr., for the petitioners.
Martin A. Schainbaum and Edward B. Simpson, for the respondent.
Held: 1. Petitioners may not report the gain realized from the sale of stock on the installment method of accounting since the payments received in the year of sale exceeded 30 percent of the selling price. Sec. 453(b)(2)(A)(ii).
2. Petitioners are not entitled to ordinary-loss treatment on the worthlessness of certain stock since the stock was not offered pursuant to a written plan within the intendment of sec. 1244.
Respondent determined deficiencies in petitioners' income tax for the taxable years 1962 and 1964 of $224,996.07 and $12,173.94, respectively.
Due to concessions by both parties, the issues remaining for our decision are: (1) Whether petitioners are entitled to report the gain from the sale in the year 1962 of stock of two corporations on the installment method of accounting as provided by section 453, I.R.C. 1954;1 and (2) whether petitioners are entitled to ordinary-loss treatment under section 1244 on a portion of the loss sustained by petitioners as a result of the liquidation and dissolution of Rick's Swiss Chalet, Inc.
Some of the facts have been stipulated and are so found.
Petitioners are husband and wife and resided in Palo Alto, Calif., at the time their petition in this case was filed. They filed their joint Federal income tax return for the years 1962, 1963, and 1964 with the district director, San Francisco, Calif. The returns were prepared on the calendar year cash basis method of accounting.
Petitioner John H. Rickey will hereinafter be referred to as petitioner.
Issue 1. Use of Installment Method
On September 8, 1947, petitioner incorporated a California corporation under the name of Rickey Enterprises (hereinafter referred to as Enterprises). Enterprises owned and operated a restaurant known as Rickey's at El Camino Real and West Charleston Road in Palo Alto. Sometime thereafter, but prior to the years here involved, Enterprises bought a bar and restaurant in the Southern Pacific Depot at Third and Townsend Streets in San Francisco, known as Rickey's Rendezvous Room. In addition, Enterprises acquired 90 out of 100 shares of the capital stock of Dinah's Shack, a corporation operating a restaurant located adjacent to Rickey's in Palo Alto. All of the stock of Enterprises was at all times material hereto owned by petitioner.
Rickey's Studio Inn Hotel (hereinafter referred to as Studio Inn) was incorporated as a California corporation on June 3, 1951. Petitioner was the owner of 50 percent of the stock with the other 50 percent being owed by two brothers, Alfred L. Marsten and Lewis A. Marsten, individually and as custodian for Alfred Patrick Marsten, a minor. Studio Inn constructed and operated a large motel at El Camino Real and West Charleston Road, Palo Alto, adjacent to the restaurant operated by Enterprises. Studio Inn later acquired and owned a restaurant named Rancho Rafael located in Marin County, north of San Francisco.
In 1962, negotiations commenced between petitioner and Hyatt Corporation of America (hereinafter referred to as Hyatt) for the purpose of selling the restaurant owned by Enterprises in Palo Alto and the motel owned by Studio Inn. The substance of the negotiations and the intent of the parties was set forth in a letter from petitioner to Hyatt dated March 12, 1962. The letter indicated that a purchase of assets was comtemplated, but that a purchase of stock might be necessary.
On March 31, 1962, petitioner and the Marstens, as the shareholders of Studio Inn, and petitioner as the shareholder of Enterprises, entered into a sales contract with Hyatt wherein Hyatt agreed to purchase all of petitioner's and the Marstens' stock in Studio Inn and all of petitioner's stock in Enterprise for the basic sum of $3,600,000. The $3,600,000 was deemed paid to the extent of $1,400,000 as a result of the continuation of the mortgage indebtedness of both corporations to Equitable Life Assurance Society. The balance of the basic purchase price, to wit, $2,200,000, was allocated in the following manner: $1,852,000 to the acquisition of stock of Studio Inn and $348,000 to the acquisition of the stock of Enterprises.
The provisions of the contract setting forth the term of payment of the purchase price are as follows:
(2-b) Of said sum * * * to be paid for said hotel company stock, $852,000 is to be evidenced by promissory notes * * * to be executed and delivered by Hyatt to hotel stockholders each for his respective pro-rata amount * * * . The balance of said basic price is to be paid in cash— $250,000 at the time of closing; and the difference between said sum and 29% of the sales price adjusted as provided in Paragraphs 5 and 15 hereof within thirty (30) days after completion of the audit hereinafter provided for, and the balance as so adjusted on January 2, 1963. Of said sum * * * to be paid for said restaurant company stock, $148,000 is to be evidenced by a promissory note * * * to be executed and delivered by Hyatt to Rickey, * * * and the balance of said basic price is to be paid in cash as follows: $100,000 at the time of closing; and the difference between said sum and 29% of the sales price adjusted as provided in Paragraphs 5 and 15 hereof within thirty (30) days after completion of the audit hereinafter provided for, and the balance as so adjusted on January 2, 1963.
Paragraph 5 of the sales contract set forth the basis upon which the basic purchase price was negotiated and fixed and provided for adjustments to be made in the basic purchase price, if necessary. The pertinent provisions of paragraph 5 in this respect are set forth below:
(5) Anything herein to the contrary notwithstanding, it is understood and agreed by the parties that the purchase price to be paid for said shares of stock was negotiated and fixed upon the basis that the assets of each company at the time of closing, described in Exhibit E, would equal the liabilities of each aggregate principal amount of $1,400,000. Therefore, said purchase price shall be increased by the amounts, if any, that the principal of said indebtedness owed to Equitable is less, at the time of closing, than $1,400,000, and by the amount, if any, that the assets of either or said companies as listed in Exhibit E exceed the liabilities of said companies, other than said indebtedness owed to Equitable.
(5-a) Conversely, said purchase price shall be decreased by the amounts, if any, by which at the time of closing said indebtedness to Equitable exceeds $1,400,000.00 (excluding the amount of any additional borrowings made by said companies from Equitable with the prior written consent of Hyatt) and the liabilities of said companies other than said indebtedness to Equitable exceed the same assets of said companies as listed on Exhibit E.
Exhibit E referred to in paragraph (5) and subparagraphs thereunder is set forth below:
The terms of the contract provided that the value of the assets listed in Exhibit E and the amount of any increase or decrease in the purchase price of the stock was to be determined by an audit of the affairs of both corporations as of March 31, 1962.
The formal closing of the sale of stock in the two corporations occurred on April 2, 1962, at which time the shareholder of record of all of the stock in both corporations became Hyatt. On that date the petitioner received $125,000 in cash as the downpayment for his stock in Studio Inn and $100,000 as the downpayment for his stock in Enterprises. Also, pursuant to the terms of the contract, petitioner received promissory notes in the amount of $426,000 and $148,000 for his stock in Studio Inn and Enterprises, respectively. Simultaneous with closing, Hyatt liquidated both corporations.
Pursuant to the provisions of the contract, Harris, Kerr, Forster & Co. made an audit of Studio Inn and Enterprises for the 9-month period ended March 31, 1962. The audit was conducted under the direction of Louis Forman, head of the tax department and a partner of Harris, Kerr, Forster & Co. Audit reports of the financial condition of Studio Inn and Enterprises as of March 31, 1962, were submitted on June 26, 1962, and June 27, 1962, respectively.
Prior to the submission of the audit reports, Forman sent a letter to Hyatt and petitioner dated June 22, 1962, wherein three schedules were attached setting forth amounts involved in the sale of Studio Inn and Enterprises, including the determination of the purchase price of the capital stock and information concerning the payments required thereon. The schedules were prepared under Forman's supervision.
The schedules attached to the June 22, 1962, letter are set forth below:
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Rickey v. C. I. R., 26-775
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