Opinion
Docket Nos. 43839 43840.
1956-11-30
R. E. L. FINLEY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.JERLINE DICK FINLEY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Phil E. Daugherty, Esq., and C. E. Ram Morrison, Esq., for the petitioners. Charles J. Sullivan, Esq., and Francis S. Gettle, Esq., for the respondent.
Phil E. Daugherty, Esq., and C. E. Ram Morrison, Esq., for the petitioners. Charles J. Sullivan, Esq., and Francis S. Gettle, Esq., for the respondent.
Petitioner and J. Floyd Frazier were controlling stockholders of the Midwest Materials Company, a corporation engaged in general construction work and in the supplying of materials used in construction work. On August 25, 1941, petitioner and J. Floyd Frazier transferred their stock in the corporation to their wives. On August 31, 1941, the corporation was dissolved and its assets distributed to the two wives. On September 1, 1941, petitioner and J. Floyd Frazier formed a partnership, Midwest Materials and Construction Company, to engage in general construction work. Also on September 1, 1941, the two wives formed a purported partnership, the Finley-Frazier Company, whose function was to rent the construction equipment and operate certain gravel quarries. Midwest Materials and Construction Company, in its operations over the years here involved, had unrestricted use over the construction equipment and other assets of Finley-Frazier. No lease arrangement, or any other arrangements, were ever negotiated for the use of such assets, nor were any records kept by Construction or by Finley-Frazier covering the daily use of such assets. In 1942 and 1943 the two wives transferred the titles of 19 trucks to their children. At no time during the years 1942 through 1945 did the petitioner ever intend to relinquish his unrestricted control over the use and maintenance of these assets. Held, the several steps culminating in the ownership by the wives of the construction equipment assets and the gravel quarries were integrated steps in a plan to divert income from petitioner and J. Floyd Frazier to their wives and are not to be recognized for Federal income tax purposes; held, further, no gift was intended in 1942 and 1943 of the 19 trucks to the children of petitioner and J. Floyd Frazier where it appears that petitioner and J. Floyd Frazier did not intend to relinquish unrestricted control over the use of such equipment; held, further, certain deductions for expenditures for the purchase of liquor are disallowed on the ground that such expenditures violate the statutes of Oklahoma, Boyle, Flagg & Seaman, Inc., 25 T.C. 43, followed; held, further, deductions for payment to county officials disallowed as ordinary and necessary business expenditures; held, further, deductions by Jerline Dick Finley for certain farm expenditures were personal expenditures and therefore disallowed.
The respondent determined deficiencies in the petitioners' income tax for the years 1943, 1944, and 1945 as follows:
+-------------------------------------------------+ ¦Docket No. ¦Petitioner ¦ ¦ ¦ +------------+-------------------+-----+----------¦ ¦ ¦ ¦(1943¦$53,945.60¦ +------------+-------------------+-----+----------¦ ¦43839 ¦R.E.L. Finley ¦(1944¦24,749.90 ¦ +------------+-------------------+-----+----------¦ ¦ ¦ ¦(1945¦14,690.97 ¦ +------------+-------------------+-----+----------¦ ¦ ¦ ¦(1943¦6,087.93 ¦ +------------+-------------------+-----+----------¦ ¦43840 ¦Jerline Dick Finley¦(1944¦3,489.14 ¦ +------------+-------------------+-----+----------¦ ¦ ¦ ¦(1945¦2,630.68 ¦ +-------------------------------------------------+
The issues in these consolidated proceedings are (1) whether the income from certain equipment rentals and gravel royalties and other income items should be attributed to the Midwest Materials and Construction Company, a partnership in which R. E. L. Finley is a partner; (2) whether certain amounts paid by Midwest Materials and Construction Company as salaries should be allowed as deductions under section 23(a) of the 1939 Internal Revenue Code in computing the net income of the partnership; (3) whether certain amounts expended by Midwest Materials and Construction Company for the purchase of whiskey, in violation of Oklahoma statutes, are deductible under section 23(a) by the partnership; (4) whether certain amounts paid by Midwest Materials and Construction Company to officials and employees of Oklahoma County, Oklahoma, are deductible expense under section 23(a); (5) whether certain travel, promotional, and entertainment expenses claimed by R. E. L. Finley were properly disallowed by the respondent; and (6) whether Jerline Dick Finley is entitled to a deduction for losses and expenses incurred in connection with the operation of a farm in which she owned an interest.
FINDINGS OF FACT.
Some of the facts have been stipulated and they are herein incorporated by this reference.
R. E. L. Finley and his wife, Jerline Dick Finley, are residents of Oklahoma City, Oklahoma, and they filed individual Federal income tax returns for the years 1942, 1943, 1944, and 1945 with the then collector of internal revenue for the district of Oklahoma. R. E. L. Finley shall hereinafter be called the petitioner.
Midwest Materials Company (hereinafter called Materials) was incorporated in 1935 to engage in general construction and to supply materials used in construction work. In January 1941, the outstanding stock of Materials was owned as follows:
+--------------------------------+ ¦ ¦No. of shares ¦ +----------------+---------------¦ ¦J. Floyd Frazier¦44 1/2 ¦ +----------------+---------------¦ ¦R.E.L. Finley ¦44 1/2 ¦ +----------------+---------------¦ ¦W.D. Shoemaker ¦1 ¦ +--------------------------------+
Materials reported the following amounts of income during the years of its operation:
+---------------------------------------------------------+ ¦1935 ¦None ¦ +---------------------------------------------+-----------¦ ¦1936 ¦($2,312.56)¦ +---------------------------------------------+-----------¦ ¦1937 ¦759.60 ¦ +---------------------------------------------+-----------¦ ¦1938 ¦(616.66) ¦ +---------------------------------------------+-----------¦ ¦1939 ¦(3,699.43) ¦ +---------------------------------------------+-----------¦ ¦1940 ¦(19,497.32)¦ +---------------------------------------------+-----------¦ ¦1941 (initially reported $800.11 adjusted to)¦8,341.13 ¦ +---------------------------------------------------------+
On August 25, 1941, the petitioner and J. Floyd Frazier transferred to their wives, Jerline D. Finley and Gladys H. Frazier, substantially all their stock in Materials. Petitioner filed a gift tax return on March 10, 1942, with the Oklahoma Tax Commissioner reporting a gift of 43 1/2 shares of Material's stock to his wife under date of August 31, 1941. In the gift tax return the stock was given a valuation of $6,820.73. On August 25, 1941, the following information appeared on the stock records of Materials:
+-----------------------------------------------------------+ ¦Certificate No.¦Date ¦Certificates issued to¦No. of¦ +---------------+-------------+----------------------+------¦ ¦ ¦ ¦ ¦shares¦ +---------------+-------------+----------------------+------¦ ¦14 ¦Aug. 25, 1941¦Jerline D. Finley ¦43 1/2¦ +---------------+-------------+----------------------+------¦ ¦13 ¦Aug. 25, 1941¦Gladys H. Frazier ¦43 1/2¦ +---------------+-------------+----------------------+------¦ ¦12 ¦Aug. 25, 1941¦J.F. Frazier ¦1 ¦ +---------------+-------------+----------------------+------¦ ¦11 ¦Aug. 25, 1941¦R.E.L. Finley ¦1 ¦ +---------------+-------------+----------------------+------¦ ¦10 ¦Aug. 25, 1941¦W.D. Shoemaker ¦1 ¦ +-----------------------------------------------------------+
On August 27, 1941, a resolution was adopted at a special meeting of the stockholders of Materials proposing liquidation of the corporation, and the resolution to liquidate was ratified at a special meeting, held on the same date, of the corporation's board of directors, consisting of J. Floyd Frazier, R. E. L. Finley, and W. D. Shoemaker. On August 30, 1941, under a ‘Master Assignment’ executed by the president of the corporation and approved by the board of directors, ‘all of the Midwest Materials Co. including machinery, equipment, contract, accounts receivable, and other assets of every kind and character’ were distributed to Gladys H. Frazier and Jerline D. Finley in exchange for the stock in their name. Materials was dissolved under date of August 31, 1941. The following net assets were available for distribution to Materials' stockholders on August 30, 1941:
+---------------------------------------------------------------+ ¦Accounts receivable ¦$75,529.16 ¦ +---------------------------------------------------+-----------¦ ¦Machinery and equipment ¦67,544.74 ¦ +---------------------------------------------------+-----------¦ ¦Furniture and fixtures ¦461.19 ¦ +---------------------------------------------------+-----------¦ ¦Leaseholds ¦1,100.00 ¦ +---------------------------------------------------+-----------¦ ¦Total ¦$144,635.09¦ +---------------------------------------------------+-----------¦ ¦Liabilities of Materials paid by Finley and Frazier¦109,438.80 ¦ +---------------------------------------------------+-----------¦ ¦Net assets ¦$35,196.29 ¦ +---------------------------------------------------------------+
On September 1, 1941, R. E. L. Finley and J. Floyd Frazier formed the Midwest Materials and Construction Company, a partnership, hereinafter referred to as Construction. Immediately upon its formation Construction took over and completed at least four of Materials' unfinished construction contracts. Construction maintained an office in Oklahoma City. It did not own any office equipment but used the office equipment formerly owned by Materials. W. D. Shoemaker, who was engaged in public accounting and tax work and had been a director and stockholder of Materials, supervised Construction's bookkeeping and accounting records from September 1, 1941, to June 1943. Clara Johnson was Construction's first full-time bookkeeper and was associated with Construction from March 1943 to December 1945. W. D. Shoemaker and Clara Johnson were assisted by Anita Ellerbee, who maintained Construction's payrolls on a part-time basis. Construction did not have any other full-time employees except when it had construction jobs in progress.
The Finley-Frazier Company, hereinafter called Finley-Frazier, an alleged partnership consisting of Jerline Dick Finley and Gladys H. Frazier, was formed on September 1, 1941, for the purpose of renting construction equipment acquired from Materials and also for the purpose of selling gravel. Finley-Frazier filed partnership returns for the years 1942 to 1945, inclusive, showing an equal distribution of net income in each year to the alleged partners. Finley- Frazier's accounts were kept in the back of the same books in which Construction kept its combination cash receipts and disbursements journal. The accounts of Finley-Frazier were kept by employees of Construction under the supervision of the petitioner and J. Floyd Frazier. No bank account was maintained by Finley-Frazier and any receipts for equipment rentals from third parties which were not paid directly to Jerline Dick Finley or Gladys H. Frazier were deposited in the bank account of Construction. Construction maintained an account on its books in the name of Finley-Frazier. Some payments for equipment rentals were made directly to Jerline Dick Finley and Gladys H. Frazier. Other payments were made to Construction, which credited such rentals to the Finley-Frazier account. Gravel royalties and miscellaneous receipts were also credited by Construction to the Finley-Frazier account, and at times the gravel royalty payments were made directly to Jerline Dick Finley and to Gladys H. Frazier. Construction charged the Finley-Frazier account with payments made by Construction on behalf of Finley-Frazier. No formal invoices covering the rental of equipment were rendered by Finley-Frazier. Finley-Frazier did not have a telephone in its own name. Jerline Dick Finley and Gladys H. Frazier made infrequent visits to the office of Finley-Frazier.
Construction made payments to Finley-Frazier for the rental of equipment used by Construction on its various projects. Construction did not keep any equipment rental records showing equipment rented by it or the periods when such rented equipment was in actual use. No written lease was ever executed by Construction and Finley-Frazier during the years 1942 through 1945 covering the use of equipment, nor were there any negotiations between Construction and Finley-Frazier concerning the rental of the equipment by Construction. Some pieces of equipment held in the name of Finley-Frazier were sold from time to time during the years 1942, 1943, and 1944 and capital gains were realized from such sales.
On June 11, 1942, Construction submitted a financial statement to the First National Bank and Trust Company of Oklahoma City, and, in the balance sheet contained in such statement, listed machinery and equipment with a ‘net’ valuation of $51,184.34. The following note appeared on the balance sheet: ‘Equipment owned by Mrs. R. E. L. Finley and Mrs. J. F. Frazier— operated by this company.’ On subsequent financial statements submitted by Construction to the First National Bank and Trust Company there was indicated, under ‘Affiliated Concerns,‘ the fact that construction equipment was rented from Finley-Frazier.
Construction submitted a form designated ‘Standard Questionnaire and Financial Statement for Bidders' to the Oklahoma State Highway Commission on four different occasions. In the questionnaires covering the periods ended August 31, 1943, December 31, 1943, and December 31, 1944, there were included detailed schedules listing the equipment and assets of Finley-Frazier, and in the sections of the questionnaire designated as the ‘Contractor's Financial Statement’ there appeared consolidated balance sheets of Construction and Finley-Frazier. In the questionnaire covering the period ended June 30, 1945, the section designated as ‘Contractor's Financial Statement’ did not include financial data concerning Finley-Frazier but did contain the following information:
The management of the Midwest Materials and Construction Company advised that equipment owned by The Finley-Frazier Company, an associated co-partnership, was available on a rental basis for use in fulfilling contracts. Inasmuch as a family relationship exists between the two firms, namely the partners of The Finley-Frazier Company are the wives of the partners of The Midwest Materials and Construction Company, certain data relative to the financial condition of The Finley-Frazier Company had been included herein, in supplemental schedules, at the request of the management. Such statements have been included for information purposes only and do not represent assets, liabilities, or net worth of the Midwest Materials and Construction Company.
During the period from July 6, 1942, to December 31, 1943, title to 19 trucks was transferred on the records of the Motor Vehicle Division of the Oklahoma Tax Commission to Robert Wesley Finley, Jacqueline Finley, and Jay Frazier as follows:
+-----------------------------------------------------------+ ¦ ¦Transfer date ¦Trucks transferred ¦ +-----------------+---------------+-------------------------¦ ¦ ¦(July 6, 1942 ¦Nos. 10, 12, 16 ¦ +-----------------+---------------+-------------------------¦ ¦Jacqueline Finley¦(Dec. 31, 1943 ¦No. 18 ¦ +-----------------+---------------+-------------------------¦ ¦ ¦(July 6, 1942 ¦Nos. 11, 19 ¦ +-----------------+---------------+-------------------------¦ ¦R.W. Finley ¦(July 13, 1942 ¦No. 21 ¦ +-----------------+---------------+-------------------------¦ ¦ ¦(Dec. 31, 1943 ¦Nos. 8, 23 ¦ +-----------------+---------------+-------------------------¦ ¦ ¦(July 6, 1942 ¦Nos. 5, 9, 13, 14, 15, 20¦ +-----------------+---------------+-------------------------¦ ¦Jay Frazier ¦(July 18, 1942 ¦No. 22 ¦ +-----------------+---------------+-------------------------¦ ¦ ¦(Dec. 31, 1943 ¦Nos. 4, 6, 17 ¦ +-----------------------------------------------------------+
At the time of their transfer trucks No. 4-6, 8-17, 19, and 20 were registered in the name of Materials. Trucks No. 18-23 were purchased by Construction in 1942 for the account of Finley-Frazier and title was registered in the following names:
+----------------------------------------------------------+ ¦ ¦ ¦Date new ¦ +---------+------------------------------+-----------------¦ ¦Truck No.¦Name in which truck registered¦title transferred¦ +---------+------------------------------+-----------------¦ ¦18 ¦Finley and Frazier ¦May 4, 1942 ¦ +---------+------------------------------+-----------------¦ ¦19 ¦R.W. Finley ¦July 6, 1942 ¦ +---------+------------------------------+-----------------¦ ¦20 ¦Jay Frazier ¦July 6, 1942 ¦ +---------+------------------------------+-----------------¦ ¦21 ¦R.W. Finley ¦July 13, 1942 ¦ +---------+------------------------------+-----------------¦ ¦22 ¦Jay Frazier ¦July 18, 1942 ¦ +---------+------------------------------+-----------------¦ ¦23 ¦Finley and Frazier ¦June 4, 1942 ¦ +----------------------------------------------------------+
Robert Wesley and Jacqueline, children of the petitioner and Jerline Dick Finley, were 20 and 21 years of age, respectively, in 1942. In the fall of 1943, Robert Wesley entered the Armed Forces. Jacqueline married Dan M. O'Shea in 1943 and accompanied her husband to his military post of duty in California. Jay Frazier's father was petitioner's partner in the Midwest Materials and Construction Company. Construction maintained complete control over the use and maintenance of the trucks during the years here involved. These trucks were used primarily on construction jobs and other work done by Construction. The records of Construction show the following payments, designated as truck rentals, to Robert Wesley Finley, Jacqueline Finley O'Shea, and Jay Frazier:
+---------------------------------------------------------+ ¦Year ¦R.W. Finley¦J.F. O'Shea¦Total ¦Jay Frazier¦Total ¦ +-----+-----------+-----------+-------+-----------+-------¦ ¦1942 ¦$3,380 ¦$3,380 ¦$6,760 ¦$6,760 ¦$13,520¦ +-----+-----------+-----------+-------+-----------+-------¦ ¦1943 ¦8,380 ¦8,380 ¦16,760 ¦16,760 ¦33,520 ¦ +-----+-----------+-----------+-------+-----------+-------¦ ¦1944 ¦3,840 ¦3,840 ¦7,680 ¦7,680 ¦15,360 ¦ +-----+-----------+-----------+-------+-----------+-------¦ ¦Total¦$15,600 ¦$15,600 ¦$31,200¦$31,200 ¦$62,400¦ +---------------------------------------------------------+
Robert Wesley Finley was full-time student at the University of Oklahoma at Norman, Oklahoma, in 1942 and 1943, and while attending the university he worked at various times for Construction. He went into the armed services in the fall of 1943. Jay Frazier was also a full-time student at the University of Oklahoma in the spring and fall sessions of 1942, and he was enrolled in the university's accelerated program in 1943. At various times in 1942 and 1943 he worked for Construction. During the years 1942 through 1944 the following payments designated as wages, were made by Construction to Robert Wesley Finley and Jay Frazier:
+-------------------------------------------------+ ¦ ¦1942 ¦1943 ¦1944 ¦Total ¦ +--------------------+------+------+------+-------¦ ¦Robert Wesley Finley¦$2,540¦$2,625¦$600 ¦$5,765 ¦ +--------------------+------+------+------+-------¦ ¦Jay Frazier ¦2,540 ¦2,625 ¦600 ¦5,765 ¦ +--------------------+------+------+------+-------¦ ¦ ¦$5,080¦$5,250¦$1,200¦$11,530¦ +-------------------------------------------------+
Leaseholds valued at $1,100 were among the assets of Materials distributed to Jerline Dick Finley and Gladys H. Frazier in 1941. These leaseholds were treated as part of the assets of Finley-Frazier after September 1, 1941. On December 31, 1943, Finley-Frazier showed, in addition to the leaseholds, real estate in the amount of $2,594.85, and on December 31, 1944, the real estate account of the alleged partnership amounted to $4,666.45. The changes in the real estate account of Finley-Frazier are as follows:
+-----------------------------------------------------------------------------+ ¦Date ¦Account balance ¦ +-----------------------------------------------------------+-----------------¦ ¦Aug. 31, 1943 ¦$2,594.85 ¦ +-----------------------------------------------------------+-----------------¦ ¦Dec. 30, 1943, Pottawatomie County land acquired by J. ¦3,116.35 ¦ ¦Floyd Frazier and sold to Finley-Frazier ¦ ¦ +-----------------------------------------------------------+-----------------¦ ¦ ¦$5,711.20 ¦ +-----------------------------------------------------------+-----------------¦ ¦Tract in Pottawatomie County (S.E.S.W. 19-8-5) abandoned ¦1,044.75 ¦ ¦sometime in 1943 ¦ ¦ +-----------------------------------------------------------+-----------------¦ ¦Balance of real estate account on Dec. 31, 1943 ¦$4,666.45 ¦ +-----------------------------------------------------------------------------+
Legal title to four tracts of land in Pottawatomie County, Oklahoma, was in the names of Jerline Dick Finley and Gladys H. Frazier. These tracts were acquired on February 7, 1940, January 6, 1941, March 17, 1943, and November 18, 1943.
Construction obtained gravel from these various properties for use on construction jobs and other work and made gravel royalty payments to Finley-Frazier as follows:
+-----------------+ ¦Year ¦Amount ¦ +------+----------¦ ¦1943 ¦$3,799.60 ¦ +------+----------¦ ¦1944 ¦19,210.12 ¦ +------+----------¦ ¦1945 ¦11,458.30 ¦ +-----------------+
Construction also extracted gravel from a tract of land in McClain County, Oklahoma, designated as the Newcastle farm. Title to Newcastle farm was in the names of Jerline Dick Finley and Ben Arnold, and all gravel royalty payments paid by Construction during the years here involved for gravel extracted from this particular tract were made directly to Jerline Dick Finley and to Ben Arnold.
On September 15, 1942, Jerline Dick Finley purchased an undivided one-half interest in an 83-acre farm in Arcadia, Oklahoma, owned by Irene Dick Berry and Harry L. Berry, husband and wife. Irene Dick Berry is the sister of Jerline Dick Finley. The interest was purchased by Jerline Dick Finley in order to help her sister and brother-in-law out of financial difficulties. The terrain of the Arcadia farm was ‘very rugged.’ At the time of the purchase of the interest by Jerline, the farm had a small, 3-room house and a barn. Subsequent to the purchase of the undivided one-half interest in 1942, terracing work was commenced on the farm, and various steps were taken to improve the quality of the soil. Work was also done toward restoring the farmhouse and the barn. No income was reported from the Arcadia farm by Jerline Dick Finley on her individual income tax returns for the years 1942, 1943, 1944, and 1945.
Respondent disregarded the alleged Finley-Frazier partnership and added its income for the years 1942, 1943, 1944, and 1945 to the income of Construction, which increased petitioner's distributable income from the latter partnership in each of the years. Respondent disallowed the deductions for equipment rentals and gravel royalties paid by Construction to Finley-Frazier. Also disallowed were certain deductions claimed by Construction for liquor purchases and for payments to county officials, and certain unsubstantiated deductions claimed by petitioner for traveling and entertainment expenses. Respondent also disallowed certain deductions claimed by Jerline Dick Finley in connection with the Arcadia farm. Respondent also disregarded the transferees in 1942 and 1943 of the 19 trucks to Robert Wesley Finley, Jacqueline Finley O'Shea, and Jay Frazier and increased the income of the Midwest Materials and Construction Company by the amounts paid to them as equipment rentals by the partnership in the years here involved. Respondent disallowed the deduction of certain payments made by Construction salaries to Robert Wesley Finley and Jay Frazier in 1942, 1943, and 1944.
Petitioner and his partner in construction, J. Floyd Frazier, had unrestricted control over the maintenance and use of the assets of the alleged Finley-Frazier partnership as well as the various sources of gravel, with the exception of the Newcastle farm, during the years here involved. There was no intent on the part of the petitioner, during the years here involved, to give up his unrestricted control over the use and maintenance of these assets.
The farm in Arcadia, Oklahoma, was not operated by its owners as a trade or business but was held solely for their personal use.
Construction is entitled to the following deductions for payments of salaries:
+---------------------------------+ ¦ ¦(Robert Wesley Finley¦$1,000¦ +----+---------------------+------¦ ¦1942¦(Jay Frazier ¦1,000 ¦ +----+---------------------+------¦ ¦ ¦(Robert Wesley Finley¦750 ¦ +----+---------------------+------¦ ¦1943¦(Jay Frazier ¦500 ¦ +----+---------------------+------¦ ¦1944¦Jay Frazier ¦600 ¦ +---------------------------------+
OPINION.
MULRONEY, Judge:
The principal issue is whether the Finley-Frazier partnership, consisting of Jerline Dick Finley and Gladys H. Frazier, is to be recognized for Federal income tax purposes. Materials, a corporation organized to engage in General construction work and to supply materials used in construction work, was controlled by petitioner and J. Floyd Frazier. In 1941 there took place a series of integrated steps which were, briefly, as follows: (1) Petitioner and J. Floyd Frazier transfer their stock in Materials to their wives; (2) materials is liquidated and the assets, including machinery, equipment, contract, and accounts receivable, are distributed to the wives; (3) the wives from an alleged partnership, Finley-Frazier, for the purpose of renting construction equipment and selling gravel; and (4) petitioner and J. Floyd Frazier form a partnership, Construction, to engage in general construction work. The various steps all took place within a week. Construction thereafter used the construction equipment which was in the name of Finley-Frazier and made payments called equipment rentals over the tax years here involved to Finley-Frazier. Construction also obtained its gravel requirements from various tracts which were in the name of Finley-Frazier and made payments designated as gravel royalties to Finley-Frazier.
We are convinced from a study of all the evidence that the various steps taken by the parties cannot be recognized for Federal income tax purposes. Petitioner and J. Floyd Frazier, individually and through their partnership, Construction, exercised complete control over the assets which had been owned by Materials and had then been ostensibly distributed to their wives. It is not essential to list all the items of evidence which show persuasively that the petitioner and J. Floyd Frazier did not at any time intend to give away the ownership and control over the assets of Materials, but some of the more significant items can be mentioned. No leases covering the use of the various items of construction equipment by Construction were ever prepared, nor is there any evidence of any binding agreements of any other sort covering the use of such equipment; Construction made no attempt to keep records indicating the extent of its liability for the use of such equipment; the affairs of Finley-Frazier were completely in the hands of petitioner and J. Floyd Frazier; the almost total unfamiliarity of the wives with the affairs of Finley-Frazier; and the unrestricted control by petitioner and J. Floyd Frazier over the maintenance and use of the various items of equipment without any attempt to make any accounting to Finley-Frazier. This unrestricted control of petitioner and J. Floyd Frazier over the affairs of Finley-Frazier extended to the various tracts of land, with the exception of the Newcastle farm, used to quarry gravel, and consequently the gravel royalties paid by Construction to Finley-Frazier may be disregarded as without substance. Petitioner has not introduced evidence sufficient to enable us to make a contrary finding.
We have here nothing more than an attempt to shuffle income around within a family group. A similar attempt was before this Court in Catherine G. Armston, 12 T.C. 539, affirmed sub nom. Armston Co. v. Commissioner, 188 F.2d 531. The Court of Appeals said, at page 533:
The evidence here conclusively reveals that the Company's right to use the equipment supposedly sold to Catherine Armston was in no wise affected by the alleged transfer of title. The only logical motive and purpose of the arrangement under consideration was the creation of ‘rentals', which would form the basis for a substantial tax deduction, and thereby reduce the Company's income and excess profits taxes from the year 1943. It was merely a device for minimizing tax liability, with no legitimate business purpose, and must therefore be disregarded for tax purposes. * * *
We also regard the alleged gifts of some 19 trucks in 1942 and 1943 by Jerline Dick Finley and Gladys H. Frazier to their children, Robert Wesley Finley, Jacqueline Finley, and Jay Frazier, as without substance. Petitioner and J. Floyd Frazier still maintained unrestricted control over the use and maintenance of such trucks and there were no arm's-length attempts by the children to rent or otherwise use such equipment. We are persuaded from all the evidence that this alleged gift was nothing more than an attempt on the part of the family groups to atomize their income still further. It was a formal transfer which must be disregarded for tax purposes. Hilda M. Royce, 18 T.C. 761; Catherine G. Armston, supra.
Some of the equipment rentals were paid by Construction directly to Jerline Dick Finley and Gladys H. Frazier rather than to Finley-Frazier. We do not consider these payments in any different light from the payments designated as rentals and paid directly to Finley-Frazier. Some of the equipment held in the name of Finley-Frazier was sold at various times in 1942, 1943, and 1944 and the capital gains reported on the partnership returns of Finley-Frazier for those years. In view of our finding as to the nature of the Finley-Frazier partnership we regard these gains, as did the respondent, as gains attributable to Construction, and through Construction, to the petitioner, to the extent of his distributive share of the income of Construction for those years. Respondent is sustained in his disallowance to Construction of the equipment rental and gravel royalty payments and the corresponding increase in petitioner's distributive share of income from Construction.
Construction deducted certain amounts in the years 1942, 1943, and 1944 as salary payments to Robert Wesley Finley and Jay Frazier. Identical amounts were paid to them in each of the years; $2,540 in 1942, $2,625 in 1943, and $600 in 1944. There is some evidence that the two did perform some work for Construction during portions of this period. Both of them were full-time university students in 1942 and 1943. Robert Wesley entered the Armed Forces in the fall of 1943. Jay Frazier, during 1943, was enrolled in an accelerated academic program with classes throughout the year. Both testified, but they were vague as to hours worked, rates of pay, and other pertinent details. No time records or payrolls of Construction were introduced in evidence which would give this Court some indication of the amount of work done by Robert Wesley and Jay. We have considered the meager evidence on this point, and bearing heavily against the petitioner who is responsible for the uncertainty, we have found that the proper deductions by Construction during the years here involved for salary payments to Robert Wesley and Jay Frazier are, for Robert, $1,000 in 1942 and $750 in 1943, and for Jay, $1,000 in 1942, $500 in 1943, and $600 in 1944. Cohan v. Commissioner, 39 F.2d 540.
Respondent disallowed the deduction by Construction in 1942 of $652.50 as a business expense on the ground that such expenditures represented purchases of whiskey by the partnership, which purchases were illegal under the Oklahoma statutes. Under Oklahoma statutes it is unlawful within the State to traffic in intoxication liquors.
Petitioner concedes these expenditures were for whiskey, purchased for entertainment and the promotion of goodwill. It is well settled that expenditures of this nature, which are contrary to the State law, are not deductible as ordinary and necessary business expenses. Boyle, Flagg & Seaman, Inc., 25 T.C. 43; Lorraine Corporation, 33 B.T.A. 1158.
Okla. Stat. Ann. tit. 37, Intoxication Liquors, ch. 1, sec. 1, p. 480:Sec. 1. Manufacture, sale or furnishing— * * *It shall be unlawful for any person, individual or corporation to furnish * * * any spirituous, vinous, fermented or malt liquors, * * * or to manufacture, sell, barter, give away or otherwise furnish any liquors or compounds of any kind or description whatsoever whether medicated or not which contain more than three and two-tenths (3.2%) per cent of alcohol, measured by weight, and which is capable of being used as a beverage, * * * . A violation of any provisions of this section shall be a misdemeanor, and shall be punished by a fine * * * , and by imprisonment * * *Oklahoma's prohibition ordinance is as follows (Prohibition Ordinance, Ratified Sept. 17, 1907. In force Nov. 16, 1907, Okla. Stat. Ann., Constitution, arts. I-IV, p. 577):The manufacture, sale, barter, giving away, or otherwise furnishing, except as hereinafter provided, of intoxicating liquors within this State, or any part thereof, is prohibited for a period of twenty-one years from the date of the admission of this State into the Union, and thereafter until the people of the State shall otherwise provide by amendment of this Constitution and proper state legislation. Any person, individual or corporate, who shall manufacture, sell, barter, give away, or otherwise furnish any intoxicating liquor of any kind, * * * contrary to the provisions of this section, * * * or who shall ship or in any way convey such liquors from one place within this State to another place therein, except the conveyance of a lawful purchase as herein authorized, shall be punished, on conviction thereof, by fine * * * and by imprisonment * * *
Respondent disallowed the deduction by Construction of payments in the year 1942 amounting to $1,484.50 on the ground that such payments were made to officials and employees of Oklahoma County, Oklahoma, and as such are in violation of public policy and therefore not deductible. Respondent argues that these payments to county officials were made to influence such officials in the performance of their official duties. Payments made to obtain political influence are not deductible expenses. Harden Mortgage Loan Co., 47 B.T.A. 1043, affd. 137 F.2d 282, certiorari denied 320 U.S. 791; T. G. Nicholson, 38 B.T.A. 190. Petitioner has not met his burden of proof in establishing that these payments to the various officials were not for the sole purpose of obtaining political influence in connection with county construction work. In Harden Mortgage Loan Co., supra, the Court of Appeals said:
Payments made for exerting political influence are not ordinary and necessary business expenses. The burden was upon the taxpayer to establish its right to the deduction. It may be that some portion of the amounts paid to the partnership was actual selling commissions, but the burden of proving the deductible amounts and segregating them from the nondeductible was upon the taxpayer and it did not meet that burden. We conclude that the Tax Court did not err in disallowing the deduction of the amounts paid the partnership, as ordinary and necessary business expenses.
We hold that the respondent was correct in disallowing the deduction of the expenditures in the year 1942 amounting to $1,484.50.
Petitioner claimed deductions of $9,466.42, in 1942, $9,865.32 in 1943, $6,758.89 in 1944, and $9,009.68 in 1945 as promotional, traveling, and entertainment expenses. These amounts do not represent reimbursements to petitioner from Construction. Respondent disallowed these deductions in full on the ground that they were unsubstantiated. Petitioner's testimony is the only evidence with respect to these claims. Such testimony does not reveal the exact amounts expended, other than estimates, the date of the expenditures, the persons entertained, or the nature of the various expenditures. Petitioner did give some testimony as to some 8 or 10 construction jobs going on at the same time at distances of from 8 to 100 miles from the main office of Construction and the necessity of supervising such jobs. The evidence before us is not very satisfactory and we have grave doubts that all the amounts claimed were ordinary and necessary expenses in connection with the business of the partnership, but we are convinced that petitioner did pay out some amounts for entertainment and travel expenses in connection with the business of the partnership, but we are convinced that petitioner did pay out some amounts for entertainment and travel expenses in connection with work of Construction for which he was not reimbursed. Frederick S. Klein, 25 T.C. 1045. Applying the doctrine of Cohan v. Commissioner, supra, and again bearing against the petitioner who is responsible for the meager record, we hold that the petitioner is entitled to deductions for unreimbursed travel and entertainment expenses for the years 1942 through 1945 in amounts equal to 33 1/3 per cent of the amounts claimed by the petitioner on his returns for those years.
Respondent disallowed deductions taken by Jerline Dick Finley for salary paid to Harry Berry, her brother-in-law, during the years here involved, for work done by him on the Arcadia farm in which she owned a one-half interest. Also disallowed were deductions for various expenses and losses claimed by Jerline Dick Finley in connection with the Arcadia farm during the years 1942 through 1945. Respondent bases his disallowance of these deductions on the ground that this was a family farm, and that the expenditures were personal in nature and therefore nondeductible. Sec. 24(a)(1) and (a)(2), 1939 Code. There is in evidence from which this Court can consider this farm as a business venture. Jerline Dick Finley, according to her testimony, purchased the one-half interest in 1941 to help her sister and brother-in-law out of certain financial difficulties. There is no indication that subsequent to this the farm was devoted to producing income. It was not a trade or a business of any kind. Certain expenditures were made over the years 1942 through 1945 in remodeling the farmhouse and the barn and in improving the state of the soil, but these improvements, standing alone, are not indicative of profit-making motives. An examination of the income tax returns filed by Jerline Dick Finley for the years 1942 through 1945 does not reveal, in connection with the farm, any income from any source. We have examined the evidence carefully and conclude that the expenditures and losses incurred by Jerline Dick Finley in connection with the Arcadia farm during the years 1942, 1943, 1944, and 1945 were personal in nature and not deductible under section 23(a) or (e) of the 1939 Internal Revenue Code.
Decisions will be entered under Rule 50.