Opinion
Docket No. 10489.
1948-03-22
J. M. HENSON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Herbert Johnson, Esq., for the petitioner. F. L. Van Haaften, Esq., for the respondent.
Petitioner on August 1, 1943, gave his wife a bakers supply business which he had been operating under the name of J. M. Henson Co. in Atlanta, Georgia. Mrs. Henson was a housewife, with no business experience, and she no part in the operation of the business. The name of the business was not changed; it continued to operate as before, with petitioner as directing head. Held, the net income of the business for the period August 1 to December 31, 1943, is taxable to petitioner. Robert E. Werner, 7 T.C. 39, followed. Herbert Johnson, Esq., for the petitioner. F. L. Van Haaften, Esq., for the respondent.
The Commissioner has determined a deficiency of $18,030.39 in petitioner's income tax for the year 1943. In determining this deficiency the Commissioner made three adjustments to the net income as disclosed by petitioner's return for 1943. Two of these adjustments are minor in character and are not contested. The principal adjustment was adjustment (b), explained in the deficiency notice as follows:
+----------------------------------------------------------------+ ¦(b)¦Net profit from business has been increased by the amount of¦ +----------------------------------------------------------------¦ ¦$24,023.54 as computed and explained below: ¦ ¦ +-----------------------------------------------------+----------¦ ¦(1)¦Deductions from rental income disallowed ¦$685.20 ¦ +---+-------------------------------------------------+----------¦ ¦(2)¦Club dues disallowed ¦175.00 ¦ +---+-------------------------------------------------+----------¦ ¦(3)¦Profit on sale peanuts increased ¦814.56 ¦ +---+-------------------------------------------------+----------¦ ¦(4)¦Portion of your profit from J.M. Henson Company ¦ ¦ +---+-------------------------------------------------+----------¦ ¦ ¦which was reported by your wife ¦22,348.78 ¦ +-----------------------------------------------------+----------¦ ¦Total increase ¦$24,023.54¦ +----------------------------------------------------------------+
The petitioner contests only item (4) of adjustment (b) above.
FINDINGS OF FACT.
The petitioner resides in Atlanta, Georgia. His return for the calendar year 1943 was filed with the collector for the district of Georgia.
Petitioner and his wife were married in 1925.
Prior to 1938 petitioner was engaged in the selling of cottonseed products as a broker. In that year he was approached by Walter LeFevre, who was interested in the bakers supply business, with a proposition with a view to having petitioner go in business with him. At the time petitioner was unacquainted with the bakers supply business. The proposition was that the petitioner was to finance the operation and LeFevre would operate it, thus permitting petitioner to continue to operate the cottonseed brokerage business. It was contemplated that both businesses would be operated from the same location. As a result, there was organized a corporation known and operated as United Bakers Supply Co., with an outstanding capital stock of which petitioner owned 51 per cent and LeFevre owned 49 per cent. About October 31, 1938, the corporation was dissolved and thereafter the business was operated as a sole proprietorship by petitioner, under the name of J. M. Henson Co., sometimes hereinafter referred to as the company.
The company was engaged in the wholesale merchandising of bakers supplies, including bakery equipment, milk, and peanuts, selling to bakeries, confectioners, institutions, and hotels. In 1938 the business lost about $7,000 and petitioner then dropped the cottonseed brokerage business to attend to the bakers' supply business. About 1939 LeFevre left and L. R. Evans was employed. Evans did the buying, selling, and shipping for the business. During this time the petitioner signed the checks and operated the business, with Evans assisting him. Prior to August 1, 1943, petitioner withdrew as compensation $300 per month for his services to the business.
On or about May 1, 1941, petitioner was approached by C. L. Wood, who had been interested in the manufacturing and selling of ice cream, working for dairies and various ice cream companies, with a view to establishing a similar business. As a result petitioner started a new business under the name of Dairy & Ice Cream Supply Co. It was not a partnership, but Wood was to have one-half of the net profits for his services. The Dairy & Ice Cream Supply Co. carried a line of merchandise for use in supplying dairies and ice cream plants.
The two businesses were located in the same building and used the same offices, equipment, bookkeeper, and stenographic help. They did not have the same salesmen or customers. Separate sets of books were kept and different letterheads were used. The inventories were also kept separate. The bank accounts were separate. All of the details of administrative expense accounts were kept on the books of J. M. Henson Co. and at the end of the year the expenses were prorated between the two businesses on the basis of gross sales. A certified public accountant has audited these businesses ever since the Dairy & Ice Cream Supply Co. was formed and in his audit he found that all accounts were kept separate and distinct. It was necessary to do this because there were three people besides petitioner sharing in the profits of the Dairy & Ice Cream Supply Co. and only one shared the profits of J. M. Henson Co. At no time did petitioner ever instruct his bookkeeper or accountants as to making particular entries or that he wanted to accomplish certain purposes. He was no accountant and knew little about accounting procedure. If one business received orders for materials that were handled by the other business, they were sold at cost to the associated business.
During the calendar year 1942 petitioner reported the following income on his Federal income tax return:
+----------------------------------------+ ¦J. M. Henson Co ¦$19,017.47¦ +-----------------------------+----------¦ ¦Dairy & Ice Cream Supply Co ¦10,012.01 ¦ +-----------------------------+----------¦ ¦Purchase and sale of peanuts ¦10,602.08 ¦ +-----------------------------+----------¦ ¦Rents ¦6,714.83 ¦ +-----------------------------+----------¦ ¦Total ¦46,346.39 ¦ +-----------------------------+----------¦ ¦Less Georgia state income tax¦1,285.27 ¦ +-----------------------------+----------¦ ¦Net taxable income ¦45,061.12 ¦ +-----------------------------+----------¦ ¦Taxable liability reported ¦21,255.89 ¦ +----------------------------------------+
Mrs. J. M. Henson, hereinafter sometimes referred to as Mrs. Henson, was at all times through the taxable year 1943 a housewife, with no business experience. On or about August 1, 1943, petitioner went to his attorney and told him to draw up the necessary papers to make a gift to his wife of the business of J. M. Henson Co. Pursuant thereto the following document, omitting formal parts, was drawn by the attorney and signed by petitioner in his attorney's office:
FOR AND IN CONSIDERATION of the sum of One Dollar ($1.00), receipt of which is hereby acknowledge, I, J. M. HENSON, hereby give, sell, assign, transfer and convey to MRS. JOHN MC MCKAMIE HENSON, the stock of goods, wares, merchandise, equipment, and the furniture and fixtures thereunto appertaining, and all the books and other debts or accounts now due and owing J. M. HENSON, d/b/a J. M. HENSON COMPANY at 158 Piedmont Avenue, N.E., Atlanta, Fulton County, Georgia. The business hereby conveyed consists of a Bakers Supply Business owned and engaged in by the Grantor and the Peanut Business owned and engaged in by the Grantor. It does not include the Grantor's business known as The Dairy and Ice Cream Supply Company nor any part thereof. The grantee assumes and agrees to pay all accounts payable of said business.
Since the expense of taking an inventory of the business now would be prohibitive and would upset the business during the busy season, no inventory will be taken at this time. The net profit of the J. M. HENSON COMPANY for the first seven (7) months of the year 1943 is to be determined by ascertaining the percentage of net profit to sales for the year 1943 in each of the three merchandise groups, i.e., peanut, milk, and other merchandise, and applying these percentages to the actual sales in each group for the first seven (7) months of operation. The total of the three will be the net profit to be retained by the Grantor.
No inventory of the company was taken as of August 1, 1943. The time required to take such an inventory would have been two or three days. The inventory as of January 1, 1943, was $7,901.32 and as of January 1, 1944, was $13,810.11.
On or about August 1, 1943, Mrs. Henson wrote the following letter, omitting formal parts, to the Fulton National Bank, Atlanta, Georgia:
My husband has given to me that part of his business known as the J. M. Henson Company located at 158 Piedmont Avenue, N.E. He is now acting as Manager of the business and has full authority to sign checks, drafts, notes, and any and all forms of indebtedness for the J. M. Henson Company as fully and completely as I myself could do.
On or about August 31, 1943, petitioner filed an affidavit with the Clerk of the Superior Court, Fulton County, Georgia, which reads as follows:
Georgia, Fulton County.
Personally appeared before me John McKamie Henson who on oath deposes and says that the business conducted is Bakers Supplies— Materials, equipment, and machinery, and that Mrs. John McKamie Henson is the sole owner of and doing business in Fulton County at 158 Piedmont Avenue, N.E. Atlanta, Georgia, under the name and style of J. M. Henson Company.
This affidavit is made in accordance with the Act of the Georgia Legislature approved August 15, 1929, and amended March 20, 1943.
On or about September 1, 1943, the following notification was published in paper circulated in Fulton County, Georgia:
APPLICATION TO REGISTER A BUSINESS TO BE CONDUCTED UNDER TRADE NAME STATE OF GEORGIA— County of Fulton.
Clerk's Office, Superior Court.
The undersigned does hereby certify that she is conducting a business at No. 158 Piedmont Avenue, N.E., in the City of Atlanta, County of Fulton, in the State of Georgia, under the name of
J. M. HENSON COMPANY
and that the business to be conducted is baker's supplies, materials, equipment and machinery, and that said firm is composed of the following person whose name and place of residence are as follows, to-wit:
MRS. JOHN MC MCKAMIE HENSON
No. 12 Chatham Road, N.W.,
Atlanta, Georgia
Filed in office, this 31st day of August, 1943.
/a/ J. W. SIMMONS,
Clerk Superior Court, Fulton County, Ga.
The business of the company continued to operate under the same name. Petitioner continued to receive $300 per month. Mrs. Henson had no office in the place of business. If the Dairy & Ice Cream Supply Co. needed money and the bakers supply business had a surplus, the J. M. Henson Co. would make an advance to the Dairy Co. Likewise the Dairy Co. made advances to J. M. Henson Co. if the need arose and the Dairy Co. had sufficient money on hand to enable it to do so. No interest was ever charged or paid on these accounts receivable or payable. The loans or borrowing between the two businesses were made on petitioner's instructions and the daily operations were not discussed with Mrs. Henson. Although Mrs. Henson and petitioner both had authority to draw on the bank account, petitioner exercised the authority and his wife did not.
On March 1, 1944, E. B. Taylor was employed at a salary of $300 per month. He is an experienced and well qualified man in the bakers supply business, and he has done the buying and has been in charge of selling for the J. M. Henson Co. since his employment began in 1944. Taylor's office is on one side of petitioner's office and R. W. Emerson, who is with the Dairy & Ice Cream Supply Co., has an office on the other side. In his position with the company Taylor had nothing to do with the finances. He never received any instructions from Mr. Henson. The terms of his employment were discussed with petitioner, but he understood that he was working for Mrs. Henson and that she was the owner of the business.
Shortly after the employment of Taylor in 1944 petitioner no longer drew $300 per month.
In 1945 the J. M. Henson Co., by Mrs. J. M. Henson, executed two notes in the sum of $5,000 each, payable to the order of the Fulton National Bank. These notes represented money borrowed from the bank for the company. The would not lend the money without Mrs. Henson's signature; the bank also required petitioner to endorse the notes.
The net profit of J. M. Henson Co. business for the year 1943 was $43,657.86, or more than twice the profit for the year 1942. The profit was reported on the income tax returns as follows:
+-----------------------------+ ¦Mrs. J. M. Henson ¦$22,348.78¦ +------------------+----------¦ ¦Petitioner ¦21,309.08 ¦ +------------------+----------¦ ¦Total ¦43,657.86 ¦ +-----------------------------+
The income from J. M. Henson Co. was the only item of income or deduction reported by Mrs. Henson in 1943 on her Federal income tax return. Petitioner's income as reported on his Federal income tax return for the year 1943 was as follows:
+--------------------------------------------------------------+ ¦J.M. Henson Co. (profits) ¦$21,309.08¦ +---------------------------------------------------+----------¦ ¦Dairy & Ice Cream Supply Co ¦25,197.37 ¦ +---------------------------------------------------+----------¦ ¦Real estate ¦2,008.66 ¦ +---------------------------------------------------+----------¦ ¦Salary, J.M. Henson Co ¦1,500.00 ¦ +---------------------------------------------------+----------¦ ¦ ¦50,015.11 ¦ +---------------------------------------------------+----------¦ ¦Less misc. expenses and deductions ¦3,028.87 ¦ +---------------------------------------------------+----------¦ ¦Net taxable income reported for income tax purposes¦46,986.24 ¦ +--------------------------------------------------------------+
No capital account or personal account was set up on the books of the company for Mrs. Henson during the year 1943. There were both a personal and a capital account on the company books for petitioner. After the end of the year an audit was made by a certified public accountant, who drew up in his work papers a proposed capital account for Mrs. Henson. By using the method set forth in the document executed August 1, 1943, an allocation of the year's income of the business was arrived at. The opening capital account entry of Mrs. Henson suggested by the auditor was computed as follows:
+-----------------------------------------------------------------------------+ ¦By transfer of petitioner's capital acct. as it existed January 1,¦$29,931.56¦ ¦1943 ¦ ¦ +------------------------------------------------------------------+----------¦ ¦Profit from 8/1/43 to 12/31/43 ¦22,348.78 ¦ +------------------------------------------------------------------+----------¦ ¦Total ¦52,280.34 ¦ +------------------------------------------------------------------+----------¦ ¦Less: 1943 Income Tax Declaration ¦1,851.64 ¦ +------------------------------------------------------------------+----------¦ ¦Capital Account 1/1/44 per auditor ¦50,428.70 ¦ +-----------------------------------------------------------------------------+
During the year 1944 the only withdrawals charged to the capital account of Mrs. Henson were as follows:
+--------------------------------------+ ¦Personal insurance and taxes¦$893.85 ¦ +----------------------------+---------¦ ¦Federal income taxes ¦9,577.75 ¦ +----------------------------+---------¦ ¦Georgia income tax ¦858.73 ¦ +----------------------------+---------¦ ¦Total ¦11,330.33¦ +--------------------------------------+
Petitioner continued to use the books of the company after August 1, 1943, as he did before. He maintained a personal account and charged his personal expenses to it. On January 1, 1944, after audit, he owed the company $9,135. He continued to charge items to the account and, though some repayments were made, he owed the business $10,817.40 (before audit) at January 1, 1945. The audit showed and recommended adjustments in 1944, among others, as follows:
+-----------------------------------------------------------------------------+ ¦To transfer from the business' ‘Taxes & License Expense‘ account ¦ ¦ ¦the following items charged thereto and charge them to petitioner's¦ ¦ ¦personal account: ¦ ¦ +-------------------------------------------------------------------+---------¦ ¦Unpaid 1943 Federal Income Tax ¦$3,529.60¦ +-------------------------------------------------------------------+---------¦ ¦Gift Tax (On 8/3/43 gift) ¦1,088.54 ¦ +-------------------------------------------------------------------+---------¦ ¦Three Installments on 1943 Declaration ¦5,645.34 ¦ +-------------------------------------------------------------------+---------¦ ¦Georgia Income Tax for 1943 ¦1,055.10 ¦ +-------------------------------------------------------------------+---------¦ ¦Total ¦11,318.58¦ +-----------------------------------------------------------------------------+
These adjustments brought the amount petitioner owed the business to $22,096.64. An adjustment was then recommended crediting petitioner's personal account and charging the Dairy & Ice Cream Supply Co. account on the J. M. Henson Co. books.
In 1944 petitioner filed a gift tax return disclosing the transfer of his interest in J. M. Henson Co. The reported value was $29,931.56. A donee's information return, dated March 10, 1944, was also filed. A deficiency in gift tax was determined by the Commissioner against the petitioner for the year 1943.
The income produced by J. M. Henson Co. during 1943 resulted from the use of its assets within the framework of the business organization which petitioner had built up and was not derived from the mere ownership of assets. Such income was essentially created by petitioner and not by petitioner's wife.
OPINION.
BLACK, Judge:
The question we have to decide in this proceeding is whether the profits of the business of J. M. Henson Co. from August 1, 1943, to the end of the year are taxable to Mrs. Henson, as petitioner contends, or are taxable to petitioner, as respondent contends.
Although no inventory was taken at the time of the gift from petitioner to his wife and closing entries were not made at that time, the certified public accountant for the company computed the net income of the business from January 1 to August 1, 1943, and also the net income of the business from August 1, 1943, to the end of the year. Respondent has not questioned the reasonable accuracy of the method used and, if we should hold that the income of the J. M. Henson Co. is taxable to Mrs. Henson from August 1, 1943, to the end of the year, he does not raise any question as to the correctness of the amount which has been apportioned to Mrs. Henson. He does contend, however, that after the gift to Mrs. Henson on August 1, 1943, petitioner, the donor, had such dominion and control over the assets and income of the business as to make the income taxable to petitioner under the doctrine of the Supreme Court in such cases as Lucas v. Earl, 281 U.S. 111; Helvering v. Clifford, 309 U.S. 331; and the more recent cases of Lusthaus v. Commissioner, 327 U.S. 293, and Commissioner v. Tower, 327 U.S. 280.
Petitioner's contention is that on August 1, 1943, he made a completed gift of the business of the company to his wife and, therefore, the profits of the business from that date were no longer taxable to him. Petitioner devotes a considerable part of his brief to a discussion of authorities which lay down rules for determining when a completed gift has been made. He quotes from the leading case of Edson v. Lucas, 40 Fed.(2d) 398, on the subject of gifts, as follows:
After a gift is once complete and the title has passed to the donee, the fact that the donor subsequently has possession of the property given does not affect the validity of the gift. Garrison v. Union Trust Co., supra; Adams v. Hagerott, supra. The retention by the donor of some beneficial interest in the property or some right to share in the income or proceeds therefrom, which is not inconsistent with the passing of the full legal title or with the immediate possession and control of the property by the donee, does not defeat the gift. Northern Trust Co. v. Swartz, 309 Ill. 586, 141 N.E. 433; Eaton v. Blood, 201 Iowa 834, 208 N.W. 508, 44 A.L.R. 1516 and note; Candee v. Connecticut Savings Bank of New Haven, 81 Conn. 372, 71 A. 551, 22 L.R.A.(N.S.) 568. * * *
We are not disposed to question that petitioner made a sufficient transfer to his wife on August 1, 1943, of the assets and business of J. M. Henson Co. to justify the imposition of the gift tax. The petitioner filed a gift tax return in which he reported the gift and paid tax thereon, and respondent has determined a deficiency in petitioner's gift tax for 1943 based upon a higher valuation than petitioner returned. We do not have that gift tax deficiency before us, and we make no attempt to decide it. We do seem it appropriate to state, however, that, as we understand respondent's contention, it is not made upon the basis that petitioner did not make a taxable gift to his wife in 1943, but it is made upon the proposition that, notwithstanding the gift, petitioner retained such dominion and control over the subject matter of the gift as to make him taxable with the profits of the business. Cf. James A. Hogle, 7 T.C. 986; affd., 165 Fed(2d) 352; Barbara M. Lockard, 7 T.C. 1151; affd., 166 Fed.(2d) 409. Respondent cites the Clifford case and the Lusthaus and Tower cases, all supra, in support of his contentions; also other Supreme Court cases which have dealt with subjects closely akin to the questions involved in those cases.
We shall not indulge in a detailed discussion of those cases and what they hold. They are familiar cases and require no discussion at this particular time. Respondent cites a recent Tax Court case which we think is very closely in point. It is the case of Robert E. Werner, 7 T.C. 39. In that case the facts were briefly these: The taxpayer was doing business as a sole proprietor in Detroit under the name of Equipment Co. ad furnished money to purchase a factory building and machinery in Indiana, title to which was taken in his wife's name. The Indiana concern was named Tri-State Tool Works and a certificate was filed stating that taxpayer's wife was sole proprietor thereof. Taxpayer's wife had been a registered nurse, had little or no business experience, knew very little about the technicalities of the business, and did not control or manage Tri-State's operations. Equipment Co. made all disbursements for Tri-State; materials and equipment required by Tri-State were ordered through Equipment Co.; Equipment Co. purchased all Tri-State's output; Tri-State had no bank account; Tri-State's profits for the taxable year existed only as a credit entry on Equipment's books. Under the foregoing facts, we held that Tri-State's profits for 1941 were taxable to Werner, whose experience and organization created them, rather than to his wife, who had no business experience and took no part in the management of the business.
We think that on the authority of the Werner case we must hold that under the facts of the instant case petitioner was taxable on the income of the J. M. Henson Co. from August 1, 1943, to the end of the year, rather than his wife, who had no business experience and took no part in the management of the business. Cf. Albert Nelson, 6 T.Cl. 764. It is true, of course, that there are certain differences in the facts of the Werner case from those of the instant case, but we do not think these differences are enough to justify opposite results in the two cases.
Neither part has cited Simmons v. Commissioner, 164 Fed.(2d) 220. That case was decided after the briefs in the instant case were filed. However, we think it is appropriate that we take some note of that case. In the Simmons case the Circuit Court held with respect to the taxable year 1943 that in those cases in which the original partners transferred to their wives parts of fractional partnership interests, the wives did not become partners for income tax purposes. It also held, however, that in those cases in which prior to the taxable year the original partners severed all partnership interests, the wife in each instance became the sole owner of the interest and was a valid partner in the partnership for income tax purposes. In making this latter holding the court said:
The gift of only a part of his interest left undisturbed the taxpayer's economic interest in the partnership. Thereafter as before, he had the same supervision and control; he still continued to speak for the joint interest. But the gift of his whole interest removed the petitioner altogether from the partnership. Following the transfer the taxpayer had no vestige of right or control in the partnership, and it is undisputed that he in fact exercised non.
It can not be said that petitioner, after the execution of the written assignment of the assets of the company to his wife on August 1, 1943, exercised no further dominion over the business. As a matter of fact the evidence shows that during the remainder of the year 1943 the business went on substantially the same as before, with petitioner in full directing charge. The facts which show this are fully stated in our findings of fact and need not be here repeated. It is sufficient to say that, when these facts are weighed and considered, we do not think that our holding herein that the income of the business of J. M. Henson Co. for the period here in question is taxable to petitioner is in conflict with anything that the court held in Simmons v. C ommissioner, supra.
We express no opinion as to the income of the J. M. Henson Co. business in 1944— we do not have that year before us.
Reviewed by the Court.
Decision will be entered for the respondent.