Opinion
Docket No. 822.
1944-03-7
JAMES C. COUGHLIN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
N. A. Eisner, Esq., for the petitioner. T. M. Mather, Esq., for the respondent.
In 1941 the petitioner paid $4,000 in legal fees in connection with a proceeding for the perpetuation of testimony, brought by a brother seeking to establish some interest in the business properties of the petitioner, on behalf of the estate of their deceased mother. Held, the proceeding was fundamentally an attack on the petitioner's title, and costs incurred therein are capital expenditures, not deductible expenses within the meaning of section 23(a) of the Internal Revenue Code, as amended by section 121 of the Revenue Act of 1942. N. A. Eisner, Esq., for the petitioner. T. M. Mather, Esq., for the respondent.
This proceeding is for the redetermination of a deficiency in income tax for the year 1941 in the amount of $2,075.22. The question is whether an expenditure of $4,000 for legal fees is a deductible expense under section 23(a) of the Internal Revenue Code, as amended by section 121 of the Revenue Act of 1942.
FINDINGS OF FACT.
The petitioner, James C. Coughlin, is an individual residing in San Francisco, California. His income tax return for the period here involved was filed with the collection of internal revenue for the northern district of California.
In 1930 the petitioner and another organized the California Motor Express, Ltd., under the laws of the State of California, which corporation is engaged in the motor express business. Until 1938 the petitioner was the owner of three-fourths of its issued stock. In that year he acquired the remaining one-fourth, becoming the sole stockholder of the corporation. At all times he has managed the business.
In the year 1938 he also acquired the Redline Transfer Co. of Los Angeles, which has been since that time an individually owned business of the petitioner, conducting a local pickup and delivery service. Both this company and the stock of the California Motor Express, Ltd., are properties held for the production of income.
In the year 1940 the estate of the petitioner's deceased mother was in process of administration. The petitioner was one of the administrators. On July 22, 1940, Henry F. Coughlin, brother of the petitioner, filed a petition in the Superior Court of the State of California, in and for the city and county of San Francisco, praying for the perpetuation of the testimony of this petitioner, pursuant to sections 2083, et seq., of the Code of Civil Procedure of California. That petition alleged that Henry F. Coughlin expected to be a party to a contemplated action, and further alleged as follows:
That said action will contain several counts and will involve the following issues, namely: An action against the said James C. Coughlin as an individual, against the said James C. Coughlin transacting business in the County of Los Angeles, State of California, under the fictitious name and style of Redline Transfer Co., and against the California Motor Express, Ltd., a corporation organized and existing under and by virtue of the laws of the State of California, with its principal place of business in the City and County of San Francisco, therein, on all of the following grounds, namely: An action for specific performance, together with an action for the appointment of a receiver of the said corporation, together with an action to impress a trust, together with an action for damages on account of fraud and deceit, together with an action for rescission on account of fraud and deceit.
It was further alleged that Henry F. Coughlin expected to prove that the petitioner had been the confidential agent of the deceased mother; that prior to her death the mother had entrusted to the petitioner cash, stocks, bonds, express businesses, securities, and other property, which properties were held by him at the time of her death; that subsequent to her death the petitioner was appointed one of the administrators of her estate; and that since that time he has refused to deliver up those properties to the estate of the mother, but claims them as his own.
That petition was granted by order of the court directing the taking of the testimony of the taxpayer, and the taking of the deposition consumed one day. On December 18, 1940, the proceeding was dismissed.
In connection with that proceeding petitioner retained counsel, to whom he paid, in the year 1941, a fee of $4,000. The respondent disallowed the deduction of this amount on the grounds that it was a capital expenditure.
OPINION.
ARUNDELL, Judge:
The petitioner contends that the legal fee here involved was an ordinary and necessary expense paid for the conservation of property held for the production of income, within the meaning of section 23(a) of the Internal Revenue Code, as amended by section 121 of the Revenue Act of 1942.
SEC. 121. NON-TRADE or NON-BUSINESS DEDUCTIONS.(a) DEDUCTION FOR EXPENSES.— Section 23(a) (relating to deduction for expenses) is amended to read as follows:‘(a) Expenses.—‘(2) NON-TRADE OR NON-BUSINESS EXPENSES.— In the case of an individual, all the ordinary and necessary expenses paid or incurred during the taxable year for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income.‘(e) RETROACTIVE AMENDMENT TO PRIOR REVENUE ACTS.— For the purposes of the Revenue Act of 1938 or any prior revenue Act the amendments made to the Internal Revenue Code by this section shall be effective as if they were a part of such revenue Act on the date of its enactment.
The precise nature of the suit with which the petitioner was threatened is elusive because of the generality of the petition for the perpetuation of testimony. The petitioner has testified that he did not know the reason for the proceedings, but thought that the brother was on a ‘fishing expedition,‘ attempting to discover some basis for a claim against the petitioner on behalf of the mother's estate. It is evident from the facts alleged by the brother than the basis for the contemplated action lay in the thought that the mother had some interest in the petitioner's business and that as to such interest the petitioner was a mere agent. Fundamentally, then, the suit contemplated by the proceeding was a challenge to the petitioner's title to the properties.
It has long since been established, under section 23(a), that expenditures in defense of title to property constitute a part of the cost of the property, and are not deductible as expenses. The regulations have consistently so held, and court decisions have sustained the regulations. Morgan Jones Estate, 43 B.T.A. 691; affd. (C.C.A., 5th Cir.), 127 Fed.(2d) 231. That case concerned the deductibility of expenses incurred in a suit to remove a cloud upon the title caused by a forged mineral deed. The Circuit Court of Appeals for the Fifth Circuit said, in part:
It is immaterial that this petitioner was required to defend the title long after the property was first acquired, and at a time when he reasonably might have expected to incur no additional expense. The nature of a suit to cancel a cloud upon title to real estate remains constant whether the action be prosecuted at the time, or long after, the acquisition of title. It is a contest involving the ownership of the property itself, and the title to property held for profit is a capital asset.
To the same effect are Murphy Oil Co., 15 B.T.A. 1195; affirmed on this point, 55 Fed.(2d) 17; Moynier v. Welch, 97 Fed.(2d) 471; and Central Material & Supply Co., 44 B.T.A. 282; affirmed on this point sub nom. Farmer v. Commissioner, 126 Fed.(2d) 542.
The petitioner, however, contends that the 1942 amendment extending deductibility to certain nonbusiness expense has altered the rule by the phrase ‘expense paid or incurred * * * for the conservation * * * of property held for production of income,‘ and in argument and on brief he relies heavily on Lumpkin v. Bowers, 50 Fed.Supp. 874. That case has now been reversed by the Circuit Court of Appeals for the Fourth Circuit in the case of Bowers v. Lumpkin, 140 Fed.(2d) 927, in which decision the court makes clear that the phrase upon which the petitioner here relies was not intended to abrogate the settled rule relative to expenditures in defense of title to property, and that such expenditures are capital items to be added to the cost of the property.
It follows that the expenditure for legal fees is not an allowable deduction under section 23(a).
Decision will be entered under Rule 50.