Ward v. Commissioner of Internal Revenue

• Decision Date: 22 June 1955
• Docket Number: No. 14152.,14152.
• Citation: 224 F.2d 547
• Parties: Dwight A. WARD, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent. Hanna P. WARD, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
• Court: U.S. Court of Appeals — Ninth Circuit

224 F.2d 547 (1955)

Dwight A. WARD, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

Hanna P. WARD, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

No. 14152.

United States Court of Appeals Ninth Circuit.

June 22, 1955.

A. Calder MacKay, Arthur McGregor, Adams Y. Bennion, Richard N. Mackay, Stafford R. Grady, Los Angeles, Cal., for petitioners.

H. Brian Holland, Asst. Atty. Gen., Ellis N. Slack, Hilbert P. Zarky, Alonzo W. Watson, and David O. Walter, Sp. Assts. to Atty. Gen., Washington, D. C., for respondent.

Before STEPHENS and CHAMBERS, Circuit Judges, and YANKWICH, District Judge.

YANKWICH, District Judge.

Before us are the petitions of Dwight A. Ward and Hanna P. Ward to review decisions of the Tax Court entered on August 13, 1953, 20 T.C. 332 decreeing that there were deficiencies in the petitioners' income taxes for the year 1946 in the respective amounts of $8051.46 and $2444.45. The determination of the Tax Court was made on petitions from a determination of the Commissioner of Internal Revenue finding deficiencies in the respective amounts of $11,221.46 and $1,965.95.

Petitioners are husband and wife, the wife's case being here merely because of her community interest under California law. Throughout the proceeding the record in the husband's case was used as that in the wife's case, because this controversy arose out of the business carried on by the husband as one of the partners in a commercial enterprise.

The reference to "taxpayer" will mean petitioner Dwight A. Ward.

For many years prior to November 1, 1945, taxpayer was an equal partner with his two brothers Harry Ward and D. T. Ward in a partnership which conducted the business of manufacturing refrigerators under the name of "Ward Refrigerator & Mfg. Co.", at Los Angeles, California. Because of disputes as to the management of the business between the taxpayer and his two brothers, the two brothers filed, on November 1, 1945, in the Superior Court of the State of California, for the County of Los Angeles, a petition for the dissolution of the partnership and the appointment of a receiver. On the same day, the Court appointed R. E. Allen receiver, and ordered him to operate the business, and, upon proper application to the Court, to sell it.

The business was sold at a public sale to taxpayer's two brothers for the price of $820,000.00, the Order confirming the sale being entered by the Court on February 14, 1946. Taxpayer had a one-third interest in the partnership. The cost basis of his one-third interest in the partnership on the date of sale was $140,756.64. His one-third share was $211,111.26. Taxpayer received the proceeds from the sale on the dates and in the amounts following: February 5, 1946, to April 3, 1946, $2,800.00; March 12, 1946, $14,500.00; April 22, 1946, $173,000.00; April 25, 1946, $2,785.17; May 14, 1946, $956.46; January 2, 1947, $2,073.34; January 2, 1947, $14,926.66, and, some time in 1947, $69.63, making a total of $211,111.26.

The purchase price for the taxpayer's partnership interest was paid to the receiver in cash about May 14, 1946. The payment of $17,000.00, consisting of the two amounts paid on January 2, 1947, was delayed because of a notice of attachment served on Allen, the receiver, by Walter Webb in an action instituted by him against the taxpayer for personal services alleged to have been rendered to him personally, and not to the partnership, during the two years prior to April, 1946. The attachment was issued on April 19, 1946, after the filing of the complaint. Upon being served with the statutory notice, the receiver drew a check for $17,000.00 upon the receivership funds to himself as trustee, which he deposited in a separate bank account as a special trust account to abide the outcome of the action. Appropriate entries on the receiver's books to reflect the segregation of the amount were made. The receivership fees were paid to Allen on April 5, 1946. However, as is customary when funds are in the hands of the receiver to take care of contingencies that might arise later, he was not actually discharged until March 21, 1947.

Taxpayer excluded $17,069.63 from the reported selling price of the partnership interest, but used the total cost basis as an offset in computing the amount of taxable gain reported in his return.

After a trial of the issues in Webb v. Ward, the Court awarded to the plaintiff $11,000.00, subject to the offset of an amount claimed to have been paid to Webb by Ward. After discussions with the Court and negotiations between counsel, it was agreed that payments of $8926.66 should be offset against the award, and a final judgment was entered in favor of Webb, on January 2, 1946, for the sum of $2073.34. On the same day the attachment was released, and the receiver paid to Webb the amount of his judgment and gave to taxpayer a check for the balance in the trust account, $14,926.66. The Tax Court found that taxpayer's gain in the sale, including the amount of $17,000.00, was realized in 1946, although payment of the amount was deferred, by reason of the attachment, until 1947. Section 111, Internal Revenue Code of 1939, 26 U.S.C., 1952 ed., § 111.

The taxpayer has challenged the correctness of this finding as well as of the findings disallowing the sum of $4000.00 paid to Benjamin S. Parks, attorney, and $5000.00 paid to Roy C. Seeley, appraiser, claimed as deductions. Instead, the Tax Court allowed these sums as offsets against the selling price. For convenience of treatment and to avoid repetition, a more detailed analysis of the facts relating to these two matters will be given further on in the opinion. For the moment, we advert to certain general legal principles which apply to the situation.

Since 1948, the findings of the Tax Court have the same force as those of the "decisions of the district courts in civil actions tried without a jury". 26 U.S.C. § 1141(a). This section applies to reviews of the decisions of the Tax Court the rule that "findings of fact shall not be set aside unless clearly erroneous, and due regard shall be given to the opportunity of the trial court to judge of the credibility of the witnesses." Rule 52 (a), Federal Rules of Civil Procedure, 28 U.S.C.

This Court, in giving effect to the mandate of the Congress, expressed in the Amendment of 1948, has stated that it is not our function to retry cases on review, and that we will not disturb a finding or conclusion of the Tax Court "unless clear error appears". National Brass Works, Inc., v. C. I. R., 1953, 9 Cir., 205 F.2d 104, 107¹.

Another principle to be borne in mind is that upon a sale incidental to the dissolution of a partnership, whether by agreement of the parties or through judicial proceeding, — in fact, through any of the methods provided by State law, — the distributive shares received by the partners after sale are not income, but gain upon the sale of a capital asset within the meaning of Section 117(a) and (b) of the Internal Revenue Code, 26 U.S.C., 1952 ed., § 117(a) and (b). See, Stilgenbaur v. United States, 1940, 9 Cir., 115 F.2d 283, 286-287; United States v. Adamson, 1947, 9 Cir., 161 F.2d 942; Hatch's Estate v. C. I. R., 1952, 9 Cir., 198 F.2d 26, 29.

As the transaction upon which taxes were assessed was a sale upon dissolution of a partnership through court action in a proceeding in the State courts, California Corporations Code, § 15032, in which, for the purpose of dissolution and sale of the property, a receiver was appointed, it is well to state that, under California law, a receivership is an ancillary proceeding. California Code of Civil Procedure, § 564 et seq. The receiver in California is an officer of the court whose possession of property is that of the court for the benefit of all persons who may show themselves to be entitled to it. Adams v. Haskell, 1856, 6 Cal. 113; Pacific Ry. Co. v. Wade, 1891, 91 Cal. 449, 454-456, 27 P. 768, 13 L.R.A. 754; Tapscott v. Lyon, 1894, 103 Cal. 297, 37 P. 225; Highland Securities Co. v. Superior Court, 1931, 119 Cal.App. 107, 112-114, 6 P.2d 116; Chiesur v. Superior Court, 1946, 76 Cal.App.2d 198, 199, 200-201, 172 P.2d 763. When a receiver is appointed to sell the property of a partnership, he holds the proceeds of the sale for distribution to the parties entitled to them.

These general considerations must be borne in mind in determining the matters before us. For, while, generally, state rules are not necessarily binding in federal tax matters, where taxable situations arise from relationships entered into under state law, their nature and the rights of the parties under such law must be kept in view in determining the incidence of federal taxation. This is especially true in considering the first problem before the Court, — the refusal of the Tax Court to overturn the determination of the Commissioner that the taxpayer was taxable in 1946 upon his full share of the purchase price received for the sale of the partnership business, and in not allowing deduction from the amount received in 1946 of the sum of $17,000.00 attached in the hands of the receiver in the action instituted by Webb on April 19, 1946. California Code of Civil Procedure, §§ 537, 542(6).

Here again, it will be helpful to consider the nature of attachments. Under California law, an attachment is an auxiliary proceeding. It may be issued at the time of issuing the summons and its object is to attach the property of the defendant

"as security for the satisfaction of any judgment that may be recovered, unless the defendant gives security to pay such judgment * *." California Code of Civil Procedure, § 537. (Emphasis added.)

The attachment is merely a sequestration of the debtor's funds to abide the judgment. They still remain the property of the debtor and title to them passes to the attaching creditor only after a judgment in his favor has been entered, in which case the lien of the attachment is merged into that of...