Weaver v. Comm'r of Internal Revenue, Docket No. 61628.

• Decision Date: 29 May 1959
• Docket Number: Docket No. 61628.
• Citation: 32 T.C. 411
• Parties: W. H. WEAVER AND EDITH H. WEAVER, HUSBAND AND WIFE, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Tax Court

32 T.C. 411

W. H. WEAVER AND EDITH H. WEAVER, HUSBAND AND WIFE, PETITIONERS,
v.
COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 61628.

Tax Court of the United States.

Filed May 29, 1959.

[32 T.C. 412]

Claude C. Pierce, Esq., and Stanley Worth, Esq., for the petitioners.

Ralph V. Bradbury, Esq., for the respondent.

1. Held, that two corporations of which the petitioners were shareholders were collapsible corporations within the meaning of section 117(m) of the Internal Revenue Code of 1939, and that gain derived by the petitioners upon the redemption of some of their stock is to be considered as gain from the sale or exchange of property which is not a capital asset. R. A. Bryan 32 T.C. 104, followed.

2. The petitioner used his personal funds and proceeds of loans upon which he was personally liable for the acquisition of land and construction of houses thereon. After completion of construction he transferred the properties to four corporations wholly owned by him in exchange for stock and the assumption by the corporations of the full amount of the loans on the properties. The amount of the loans which the petitioner had obtained and which the corporations assumed was $157,798.04 in excess of the cost of the land and buildings to the petitioner. The corporations immediately obtained FHA-secured loans and with the proceeds paid off the assumed indebtedness. Held, that the principal purpose of the petitioner with respect to the assumption of the liabilities was a purpose to avoid Federal income tax on the exchange and that gain is to be recognized to the extent of the indebtedness assumed. (Secs. 112(b)(5), 112(k), and 112(c), I.R.C. 1939.) Held, further, that at least $157,798.04 of the gain was attributable to the buildings and is to be considered as gain from the sale or exchange of property which is neither a capital asset nor property described in section 227(j). (Sec. 117(o), I.R.C. 1939.)

ATKINS, Judge:

Respondent determined deficiencies in income tax of the petitioners in the amounts of $127,841.68 and $195,226.67 for the years 1951 and 1953, respectively.

The issues are whether redemptions in 1951 and 1953 of class B stock by Bragg Development Company and Bragg Investment Company in the years 1951 and 1953 resulted in ordinary income to the petitioner-shareholders, pursuant to the provisions of section 117(m) of the Internal Revenue Code of 1939, and whether the petitioner W. H. Weaver realized income under section 22(a) or section 112(k) in 1953 in the amount of $157,798.04 as a result of transactions involving four other corporations. The issue with respect to section 112(k) was raised by the respondent in an amended answer.

FINDINGS OF FACT.

Some of the facts are stipulated and the stipulations are incorporated herein by this reference.

The petitioners are husband and wife who reside in Greensboro, North Carolina, and timely filed joint income tax returns for the calendar years 1951 and 1953 with the collector or district director of internal revenue for the district of North Carolina. Their income was reported on the cash receipts and disbursements method of accounting. The petitioner W. H. Weaver is hereinafter sometimes referred to as Weaver or the petitioner.

In 1949 and during the years in question the petitioners, together with their families owned all of the stock of a corporation, W. H. Weaver Construction Co., Inc., which was engaged in the construction business. At that time R. A. Bryan and C. B. McNairy with three other individuals owned another construction corporation, T. A. Loving & Co.

Facts as to Bragg Companies Issue.

Sometime in 1949 the United States military authorities at Fort Bragg, North Carolina, issued an invitation to bid for the construction, financing, and management by private enterprise of 1,000 family-housing units on land forming a part of the Fort Bragg Military Reservation. These units were to be constructed primarily for use by military and Government civilian personnel, and the rental rates to be charged were to be within specified limits. The successful

[32 T.C. 413]

bidder was to manage the housing development project and receive a lease for a term of 75 years, the annual rental to be $3 per acre. This construction was to be financed by insured mortgages under the provisions of Pub. L. 211, 81st Cong., 1st Sess., approved August 8, 1949, which added Title VIII to the National Housing Act, which title is popularly known as the Wherry Act.

The two corporations above mentioned, T. A. Loving & Co. and W. H. Weaver Construction Co., formed a joint venture known as Loving-Weaver for the purpose of bidding on this construction. Each corporation owned a 50 per cent interest in the joint venture. The joint venture was the successful bidder.

For the purpose of carrying out the project the Bryan-McNairy interests and the Weaver interests caused two corporations to be organized under the laws of North Carolina on or about March 15, 1950. These were Bragg Investment Co., Inc., hereinafter referred to as Investment, and Bragg Development Co., Inc., hereinafter referred to as Development. The Federal Housing Administration required that two corporations be formed, instead of one, to carry out the initial proposal for constructing the 1,000 units, because of the size of the proposed FHA-insured loans. Each of these corporations kept its books and filed its income tax returns on an accrual method and on the basis of a fiscal year ending the last day of February.

The charter of each of the corporations stated that the object for which it was formed was to provide housing for rent or sale, to improve and operate, and to sell, convey, assign, mortgage, or lease any real estate and any personal property. Each charter provided that so long as any property of the corporation was encumbered by a mortgage or deed of trust insured by the Federal Housing Commissioner it should not engage in any business other than the construction and operation of a rental housing project or projects.

In the case of each corporation the authorized capital stock consisted of 100,000 shares of class A common stock having a par value of $1 per share, 3,999 shares of class B common stock having a par value of $100 per share, and 100 shares of preferred stock having a par value of $1 per share.

Under the certificate of incorporation the preferred stock carried the right to noncumulative dividends at 5 cents per share before any dividend or distribution upon the common stock, the class B stock was entitled to noncumulative dividends of 6 per cent out of current net earnings before payment of any dividends on the class A stock and had priority, upon dissolution, over the class A stock. The class B common stock could be retired at $100 per share after the payment of all interest and principal due and after making provision for payment of operating expenses, etc., and after the establishment of a reserve fund for replacements. The original charter provided that

[32 T.C. 414]

no such stock could be retired until after the completion of the improvements on the property, or before the final endorsement for mortgage insurance by the Federal Housing Commissioner. The class A common stock had the exclusive voting privilege, except in the case of specified defaults, in which case the preferred stock had the right to elect directors. Upon liquidation the class A common stock was entitled to the entire assets after the payment of the preferred stock and the class B common stock.

Each certificate of incorporation also provided that the preferred stock might be retired and should be retired upon, but in no event before, the termination of any contract of mortgage insurance covering any indebtedness to which the FHA was a party. It was also provided that the corporation should not, without approval of the holders of the majority of the shares of the preferred stock, assign, transfer, dispose of, or encumber any real or personal property, including rents, except as permitted by the terms of the mortgage, and should not consolidate or merge with any other corporation, go into voluntary liquidation, effect any plan of reorganization, redeem or cancel any of its shares of preferred stock, or amend the certificate of incorporation.

Each corporate charter was amended on or about October 23, 1951, to provide inter alia that the class B common stock could be redeemed only with funds representing earned or donated surplus and only after receipt of written approval of the holder of the majority of the shares of preferred stock, after submission of financial statements and satisfactory evidence that no default existed and that redemption would not jeopardize the interest of the mortgage holder or the insurer. It was further provided that any stock so redeemed should be retired and canceled.

Investment and Development each issued its preferred and class A common capital stock for cash at $1 par value per share, on April 17, 1950, as follows:

+-------------------------------------------------------+
                ¦Type of stock¦Number ¦Name in which issued ¦
                +-------------+---------+-------------------------------¦
                ¦ ¦of shares¦ ¦
                +-------------+---------+-------------------------------¦
                ¦Preferred ¦100 ¦Federal Housing Administration.¦
                +-------------+---------+-------------------------------¦
                ¦A common ¦10 ¦C. B. McNairy. ¦
                +-------------+---------+-------------------------------¦
                ¦A common ¦120 ¦W. H. Weaver. ¦
                +-------------+---------+-------------------------------¦
                ¦A common ¦30 ¦Edith H. Weaver. ¦
                +-------------+---------+-------------------------------¦
                ¦A common ¦25 ¦C. B. McNairy, III. ¦
                +-------------+---------+-------------------------------¦
                ¦A common ¦25 ¦Rowena A. McNairy, Trustee. ¦
                +-------------+---------+-------------------------------¦
                ¦A common ¦65 ¦Ruby M. Bryan, Trustee. ¦
                +-------------+---------+-------------------------------¦
                ¦A common ¦25 ¦R. A. Bryan. ¦
                +-------------------------------------------------------+
                

Each...