Shumlin v. Comm'r of Internal Revenue

• Decision Date: 20 February 1951
• Docket Number: Docket No. 23368.
• Citation: 16 T.C. 407
• Parties: HERMAN SHUMLIN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Tax Court

16 T.C. 407

HERMAN SHUMLIN, PETITIONER,

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 23368.

Tax Court of the United States.

Promulgated February 20, 1951.

Jacob Rabkin, Esq., for the petitioner.

Sheldon V. Ekman, Esq., for the respondent.

Cash payment by motion picture company for release of part of petitioner's rights against it resulting from royalty contract covering play of which petitioner in the course of his business had been the producer, held, ordinary income not capital gain; held, further, deduction for expenses incurred in petitioner's business as a theatrical producer allowed.

Petitioner assails respondent's determination of a deficiency of $11,548.64 in income and victory tax for 1943. The year 1942 is involved under the Current Tax Payment Act of 1943. One adjustment is not contested and concessions of the parties have disposed of one issue. The remaining issues are whether certain income, arising out of a transaction involving motion picture rights, constituted ordinary income or capital gain, and whether respondent correctly disallowed certain deductions claimed as business expense Some of the facts were stipulated.

FINDINGS OF FACT.

The stipulated facts are hereby found.

Petitioner filed his returns with the collector of internal revenue for the third district of New York.

Petitioner, a theatrical producer, has produced approximately 25 stage plays during a period of about 20 years, his activities consisting of choosing plays for production, bringing together playwrights, actors, and other professional participants and supervising financial and business arrangements. He operated under agreements granting to the producer either part ownership of the motion picture rights or participation rights to a share of the proceeds of sale of motion picture rights. Motion picture rights to about three-fourths of the plays produced by petitioner have been sold, and he has received sums of money, either from the purchaser or author, resulting from the sale of those rights.

On February 17, 1941, petitioner entered into a ‘Dramatic Production Contract‘ with Lillian Hellman whereby she leased to him the exclusive right to produce and present, in the United States and Canada, the stage production of a play written by her which was later named ‘Watch on the Rhine.‘ The contract provided for royalties to her of 10 per cent of all gross weekly box office receipts. It further provided that petitioner should be entitled to receive a specified share of moneys resulting from the proceeds of certain subsidiary rights, 40 per cent being the agreed percentage with respect to motion picture rights.

The contract was made subject to the provisions of the ‘Minimum Basic Agreement‘ negotiated by The Dramatists' Guild with theatrical producing managers, which had been signed by petitioner, and which provided, among other matters: That petitioner should rehearse, produce and present the play; that if the play were produced in Manhattan, and should run for 3 weeks' consecutive performance, then petitioner should have ‘the exclusive lease for first-class production in United States for so long as he shall continue so to produce the play for at lease seventy-five (75) times in any one year‘; that ‘The author shall retain for his sole benefit, complete title, both legal and equitable, in and to all rights whatsoever (including, but not by way of limitation, motion picture rights * * * )‘; that 3 weeks after the initial performance motion picture rights might be sold or leased free of any claim by petitioner and without the latter's consent; that petitioner's objections to a proposed motion picture release date should be given due consideration; that petitioner should have ‘no right, title or interest, legal or equitable, in the motion picture rights‘ other than the right to receive his share of the proceeds; that petitioner should have ‘no recourse, in law or equity, against any purchase or lessee of such rights,‘ his only recourse, if aggrieved, to be against the author; that no claim by petitioner should constitute a cloud on the title to those rights, and that if petitioner should present the play for 3 weeks' consecutive performances in Manhattan, pay all royalties when due, and otherwise duly comply with all the terms of the agreement, then petitioner should receive the agreed percentage from the sale or lease of the subsidiary rights.

On March 4, 1941, petitioner assigned all his rights in the contract with Hellman to the Watch on the Rhine Company, a partnership, hereinafter called petitioner's Company, in which he owned 90 per cent and Kermit Bloomgarden owned 10 per cent interests. The assignment conformed with petitioner's practice, in the production of plays, to form a partnership or corporation, having as its sole purpose the production of a single play. Petitioner's Company produced the play, its production being the only activity of the Company. The play ran in Manhattan from April 1941 to February 1942, and thereafter played on the road, closing in February 1943.

Subsequently Hellman consulted with petitioner regarding a sale of the motion picture rights to Warner Bros. Pictures, Inc., hereinafter called Warner Bros. On December 30, 1941, Hellman entered into a contract with Warner Bros. warranting that she was the sole owner of all motion picture rights in the play, and selling those rights for $150,000 to be paid in installments in 1942, 1943 and 1944, plus 15 per cent of the gross motion picture receipts in excess of a special sum.

Thereafter Hellman consulted with petitioner concerning an offer by Warner Bros. to substitute additional fixed cash payments for the percentage arrangement. Warner Bros. desired petitioner to be a party to such an agreement. He agreed with the understanding that his Company's share would be paid first.

Thereafter Hellman consulted with petitioner concerning an offer by

On December 27, 1943, an agreement was entered into between Lillian Hellman and petitioner's Company, as parties of the first part, and Warner Bros. as party of the Second part. Hellman released her rights to 15 per cent of the motion picture gross receipts under the contract of December 30, 1941. The agreement recited the representation of the parties of the first part that petitioner's Company was entitled to 40 per cent of all sums payable under the contract of December 30, 1941; stated that petitioner's Company had approved that contract, and that it represented that it had not assigned any of its rights thereunder; stated that two fixed cash installments remained due under the lump-sum payment provision of that contract, and recited the desire of Warner Bros. to be relieved of its obligations under the percentage arrangement. In lieu of a percentage of gross receipts, Warner Bros. agreed to pay a consideration of $175,000 two sums of $33,775 each to be paid to petitioner's Company on December 1, 1943 and June 1, 1944 and other installments to be paid to Hellman's representative. Petitioner's Company consented to and approved the arrangements and undertakings thus made. The agreement provided that the parties of the first part released Warner Bros. from all claims relating to the motion picture, except the obligations to pay the cash installments specifically provided in the two agreements.

Warner Bros. produced a motion picture based upon the play, and paid sums pursuant to the agreements. Warner Bros. employed petitioner as a director for this and another motion picture.

During 1942 and 1943 an accounting firm kept petitioner's books of account and prepared his tax returns. The firm maintained a cash book in which entries were made periodically in the regular course of business and within a reasonable time after the recorded transactions. The entries were taken from check books maintained by petitioner's office, in which all expenditures by check were recorded. The accounting firm, consulting with petitioner when it deemed necessary, separated business from personal expenses, charging the latter to petitio...