Opinion
Docket Nos. 4134 7200.
1947-01-29
L. B. FOSTER, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
S. Leo Ruslander, Esq., for the petitioner. Brooks Fullerton, Esq., for the respondent.
1. RES JUDICATA.— A decision of this Court holding the income of a trust for a prior year not taxable to the petitioner-grantor, under section 167, held not res judicata in these proceedings involving the Etitioner's liability for tax on the income of the same trust under section 22(a) and the doctrine of Helvering v. Clifford, 309 U.S. 331.
2. TRUST INCOME— TAXABILITY TO GRANTOR UNDER SECTION 22 (a).— The income of a trust created in 1918 for the benefit of grantor's wife and children held not taxable to grantor where he retained a measure of control over the administration of the trust fund, but no beneficial interests in either the income or corpus of the trust.
3. TRUST INCOME— TAXABILITY TO GRANTOR UNDER SECTION 167 (a)(3).— The income of a trust used to pay the premiums on policies of insurance on grantor's life, after being first deposited in the bank account of the beneficiary (grantor's wife) for that and other limited purposes, held taxable to the grantor under section 167(a)(3). S. Leo Ruslander, Esq., for the petitioner. Brooks Fullerton, Esq., for the respondent.
These proceedings involve income tax deficiencies for 1940, 1941, and 1943, as follows:
+--------------------------------+ ¦ ¦Year ¦Amount ¦ +---------------+------+---------¦ ¦Docket No. 4134¦1940 ¦$5,438.26¦ +---------------+------+---------¦ ¦Docket No. 7200¦( 1941¦13,501.60¦ +---------------+------+---------¦ ¦ ¦( 1943¦19,983.04¦ +--------------------------------+
The major issue on the merits relates to petitioner's tax liability under section 22(a) on the income from a family trust which he established in 1918. There are two minor issues involving the deductibility from trust income of interest paid on a loan to the trust and of attorney fees paid by the trustee. Petitioner also raises the issue of res judicata based on several prior decisions by this Court involving questions relating to petitioner's dealings with or relationship to the same trust.
FINDINGS OF FACT.
The petitioner is a resident of Pittsburgh, Pennsylvania. He filed his income tax return for the years 1940 to 1943, inclusive, with the collector of internal revenue for the twenty-third district of Pennsylvania, at Pittsburgh.
On May 15, 1918, petitioner created a trust, transferring to the Fidelity Title & Trust Co. of Pittsburgh miscellaneous securities which were set up in the trust books at a total par value of $131,000. The trust agreement provided:
AND WHEREAS, the party of the first part (the grantor) is desirous of transferring said stocks and bonds to the Trustee, to be held by it in trust for the purposes of providing an income for the living expenses of the party of the first part, his wife and children, as hereinafter set forth, the said income to be free and clear of all of the debts, contracts, engagements, alienations and anticipations of all of the beneficiaries of, and free and clear of all levies, attachments, executions and sequestrations against any or all of the beneficiaries named herein.
The trust agreement further provided, in so far as here material that the trustee should keep the trust funds invested and pay over the income therefrom quarterly to the grantor's wife during his lifetime, provided she should continue to live with him as his wife. In case she should predecease the grantor, or for any reason cease to live with him as his wife, the income was to be paid to him for his life, ‘as Guardian for, and to be used in such manner as he shall deem right and proper for the maintenance and support of, such lawful child or children of the first party as may then be living * * * . ‘ Upon the grantor's death, his wife surviving and living with him as his wife at that time, the income was to be paid to her for life ‘for the purpose of being expended for her own living expenses and for the maintenance, education and support of the lawful child or children of the party of the first part living at the time of his death.‘ Upon the death of both the grantor and his wife, or upon the death of the grantor when they should not be living together as husband and wife, the income was to be paid to their surviving children, or to their guardian if under twenty-one years of age, ‘for the support and education of said children and in such amount to each child as said Trustee may in its discretion deem wise and best for the interest of such child or children * * * .‘
The trust was to terminate when the youngest child became forty years of age, provided the grantor and his wife were then both deceased or provided the grantor had previously died at a time when he and his wife were not living together as husband and wife, and the trust assets were to be distributed equally to the grantor's lawful children, or their lawful issue per stirpes.
Paragraph seventh of the trust agreement provided:
During the lifetime of the party of the first part the Trustee shall not sell or reinvest any of the assets or funds of said trust estate without the written consent of the party of the first part being first had and obtained. The party of the first part shall have the right during his lifetime to direct the Trustee to sell or dispose of the assets of said trust estate, and the reinvestment of the money or funds so realized shall be made only as consented to by the party of the first part, as herein provided. The recommendation of said party of the first part shall be, if acted upon, sufficient warrant to said trustee to invest in the manner recommended. In the event of the failure of the Trustee and the party of the first part to agree upon such investment or reinvestment, the matter shall be submitted to the then judges of the Orphans Court of Allegheny County, whose decision shall be final and binding upon the parties.
The petitioner sold additional securities to the trust in 1923 and claimed losses on the sales in his income tax return for that year. The Commissioner disallowed the deduction on the ground that the petitioner was the equitable owner of the trust corpus and the sales were without substance. On petition to this Court we decided the issue in petitioner's favor. See Lee B. Foster, 22 B.T.A. 717.
Petitioner made additional sales of securities to the trust during 1924 and 1925 and claimed losses thereon in his returns for those years, which the Commissioner likewise disallowed. The petitioner again resorted to this Court and upon authority of our decision for the prior year we allowed the deductions claimed. See 26 B.T.A. 1328.
From the period 1918 to 1927, inclusive, petitioner delivered to the trustee 14 policies of insurance on his life, of a face amount of $155,000. He named the trustee beneficiary of each policy. One of the policies in the amount of $50,000 was surrendered by the trustee in 1933.
On July 18, 1931, petitioner's wife transferred to the trust a residence located at 5533 Aylesboro Avenue, Pittsburgh, at a valuation of $37,500. This property was purchased by petitioner with his own funds on October 1, 1917, but title was taken in his wife's name. The property has been used continuously by petitioner and his wife as a residence since petitioner acquired it.
In 1935 the petitioner, with several of his associates, again petitioned this Court against the assessment of a deficiency for the taxable year 1929. Initially the proceeding involved questions not here material. At the hearing, however, the Commissioner, by amendment to his answer, asserted affirmatively that all of the income of the trust under consideration for 1929 was taxable to the petitioner because under the trust agreement it was to be used for the maintenance and support of his wife and children. We ruled against the Commissioner on that issue in a memorandum opinion entered September 26, 1935. We further decided in that opinion that a certain portion of the trust income for 1929, which was used by the trustee to pay the premiums on the life insurance policies which petitioner had transferred to the trust, was taxable to him under the provisions of section 167 of the Revenue Act of 1928 (now section 167(a)(3) of the Internal Revenue Code).
Additional securities, consisting of 2,615 shares of L. B. Foster Co. preferred stock, were transferred to the trust during the years 1931 and 1932, at a valuation of $183,050. (The stipulation of facts does not show by whom this transfer was made, but presumably the shares were petitioner's.)
The value of the trust property as shown in the trustee's books at July 31, 1927, was $176,336.50. By August 31, 1929, it had increased in value to $514,244.11. During that period, 1927 to 1930, inclusive, both the trustee, on behalf of the trust, and petitioner, on his own behalf, traded extensively in the securities market. The trust was indebted on its note to the Fidelity Title & Trust Co. of Pittsburgh for $241,000. The principal activity of the trust during the period 1929 to 1940 in the securities market consisted of selling securities and applying the proceeds to the payment of the Fidelity Title & Trust Co. note. The reported value of the trust assets at December 31, 1940, as shown on the trust books, was $542,855.80, while the balance due on the note was $132,140.93.
The petitioner borrowed $10,750 from the trust on October 2, 1928, and gave the trustee his promissory note for that amount. The money was used by petitioner to purchase a lot near Atlantic City, where he and his wife intended to build a summer home. The petitioner repaid $2,000 of the principal of the note up to December 31, 1930, and in 1941 paid the interest to July 1, 1941. Subsequently, he paid the interest to December 31, 1943. The balance of the note, amounting to $8,750, is still carried on the trustee's books as an asset of the trust.
During the taxable period under consideration two bank accounts were maintained in the name of Pauline L. Foster, petitioner's wife, one at the Peoples-Pittsburgh Trust Co., opened in January 1940, and one at the First National Bank at Pittsburgh, opened September 18, 1941. The only checks drawn on the First National account were for payment of the premiums due on the insurance policies held by the trustee, interest on an insurance loan, income taxes, and bank charges. The petitioner was reimbursed out of the account for the premiums which he had paid on policies when the trust lacked sufficient funds for that purpose. The account at the Pittsburgh Trust Co. was handled by petitioner as attorney in fact for his wife. She has suffered from diabetes for a number of years and has entrusted the handling of the account to the petitioner. Petitioner signed all of the checks on that account and apparently used the account for any purposes he saw fit. A statement made up from the canceled checks and stubs by petitioner's accountant for the years 1940 to 1943, inclusive, shows numerous withdrawals for household purposes, loans to individuals, and other uses not explained. Also, there were numerous unexplained withdrawals in each of the years identified only by the letter ‘R‘, which, the accountant explained, meant that the amounts were for petitioner's personal use and were to be repaid to Pauline Foster. The aggregate of those items was $1,145.29 in 1940, $774.07 in 1941, and $1,197.02 in 1942.
A tabulation prepared by the accountant from petitioner's checks and stubs and other records shown loans and repayments by petitioner to his wife aggregating $4,133.91 in 1940 and $2,898.95 in 1941, and a balance of $3,916.48 owing to petitioner by his wife in 1942.
Another tabulation made up from petitioner's canceled checks and stubs shows that during 1940 to 1943, inclusive, the petitioner drew on his individual bank account for food, medicine, and other household expenses and cash for his wife's use in the respective amounts of $7,750.74, $10,103.06, $16,292.62, and $7,512.97.
The petitioner reimbursed his wife for all of the funds withdrawn from her account for his personal use.
The trustee, prior to 1940, always paid the premiums on the policies of insurance on petitioner's life, which had been assigned to the trust, when there were sufficient funds or that purpose. Petitioner himself paid them when the trust did not have the funds. In 1940 the trustee paid premiums of $819.95 and the petitioner paid the balance. In 1941 the petitioner paid some of the premiums and the trustee paid some. The petitioner was reimbursed for the funds so advanced to the trust by a check drawn on his wife's account at the First National on September 26, 1941, in the amount of $2,753.44. After the Pauline L. Foster account was opened at the First National, September 18, 1941, the premiums were all paid by checks drawn on that account. There were three checks in 1941, aggregating $1,234.75. One check for $455.30, dated September 26, 1941, was issued to Fidelity Trust Co., trustee, as ‘Reimbursement for insurance premiums paid.‘ The trust income, totaling $5,300, was deposited in the account during the period September 18 to December 31, 1941. All of the premiums for 1942 and 1943 were paid by checks drawn on that account and signed by Pauline L. Foster. The aggregate amounts so paid in 1942 and 1943 were, respectively, $4,272.82 and $4,001.38. The checks given in payment of these amounts were all filled out by the trustee and forwarded to petitioner's wife for her signature. She signed and returned the checks to the trustee and the trustee then delivered them to the insurance companies. It was the custom of the trustee in the administration of irrevocable trusts to look after the payment of premiums on insurance policies held in the trusts.
OPINION.
LEMIRE, Judge:
The petitioner contends, first, that the question of his liability for tax on the income of the trust for the years involved under section 22(a) is res judicata by reason of the prior decisions of this Court in Lee B. Foster, 22 B.T.A. 717; L. B. Foster, 26 B.T.A. 1328, and L. B. Foster et al., Docket Nos. 67039, 67085-67087 (memorandum opinion, Sept. 26, 1935).
The first two of these cases involved identical issued, namely, the question of the petitioner's right to loss deductions resulting from the sale of securities to the Pauline L. Foster trust. The deductions were allowed on the theory that the trust was a separate and distinct tax entity. No such issue is involved in the instant case, and those decisions are not res judicata of any question now under consideration.
The third case involved, initially, several issues unrelated either to the issues involved in the prior cases or those present in the instant case. The question of petitioner's liability for tax on the income of the trust was there raised for the first time by an amended answer filed by the Commissioner at the hearing. The Commissioner made the contention that the trust income for 1929 was taxable to the petitioner under section 167 of the Revenue Act of 1928. We held against him on that question, citing Theodore P. Grosvenor, 31 B.T.A. 574; Schweitzer v. Commissioner, 75 Fed.(2d) 701, reversing Edmund O. Schweitzer, 30 B.T.A. 155; Percy H. Clark, 31 B.T.A. 1082; Commissioner v. Yeiser, 75 Fed.(2d) 956; and Franklin Miller Handly, 30 B.T.A. 1721. However, petitioner was held taxable under section 167 on that portion of the trust income which was used by the trustee to pay the premiums on the policies of insurance on petitioner's life then held in the trust.
The Grosvenor case was later reversed by the Supreme Court on authority of Douglas v. Willcuts, 296 U.S. 1. The Schweitzer case was reversed by the Circuit Court of Appeals for the Seventh Circuit (75 Fed.(2d) 702) on the same principle.
We think the respondent is correct in his contention that the previously decided cases relied upon by the petitioner are not res judicata in this proceeding. Although the statutory law has remained substantially the same since those cases were decided, there can be no doubt that the doctrine of Helvering v. Clifford, 309 U.S. 331, has given rise to an entirely different approach to the question of a grantor's liability for tax on the income of certain types of family trusts. Whether or not this change in the construction or application of the statutory law is sufficient to render the rule of res judicata inapplicable is a question that we do not have to decide here. See, however, Tait v. Western Maryland Ry. Co., 289 U.S. 610; Blair v. Commissioner, 300 U.S. 5; Commissioner v. Arundel-Brooks Concrete Corporation, 152 Fed.(2d) 225, and other cases cited in Joseph Sunnen, 6 T.C. 431. We said in the Sunnen case that:
* * * Until the rule is more clearly defined * * * we do not believe the doctrine of the Blair case requires a holding that any new legal concept enunciated in a subsequent decision, when the statutory law remains the same, renders the doctrine of res adjudicata inapplicable where the controlling facts and issues are identical. * * *
The question of petitioner's liability for tax on the income of the trust, under the provisions of section 22(a), is now before us for the first time. That is an entirely different question from the one decided in the prior proceeding, which dealt with petitioner's liability under section 167. In Helvering v. Stuart, 317 U.S. 154, where we had considered only the effect of section 166 (R. Douglas Stuart, 42 B.T.A. 1421), the Supreme Court remanded the case to us for consideration of the applicability of sections 167 and 22(a).
Whether the income of a trust is taxable to the grantor under section 22(a) depends not only upon the expressed provisions of the trust agreement and the rights and powers therein reserved to the grantor, but also upon the manner in which the trust is administered and the conduct of the grantor in his relations with the trustee and the beneficiaries. Although the trust agreement may remain unaltered, as it did in the instant case, these latter factors may change from year to year. It is only where the same essential facts, as well as the same general question and the same law, are present that the rule of res judicata is applicable. Blair v. Commissioner, supra; United Business Corporation of America, 33 B.T.A. 83.
There is no agreement between the parties here nor is there any evidence that the essential facts were the same during the taxable years now before us, as during the year (1929) involved in the prior proceeding. On the contrary, the evidence shows changes in the factual situation. For instance, in 1940 an account was opened in the name of petitioner's wife at the Peoples-Pittsburgh Trust Co. in which deposits of trust income were made and on which petitioner was able to draw at will under a power of attorney given to him by his wife.
The question of petitioner's liability under section 22(a) and the doctrine of Helvering v. Clifford, supra, for tax on the income of the trust for the years here involved is one that has never been judicially determined. It must now be decided on the merits and upon the evidence adduced in these proceedings.
The declared purpose of the trust was to provide income for the living expenses of petitioner and his wife and their children. The wife's interest was contingent upon her continuing to live with petitioner as his wife, or, in the event of his predeceasing her, having been living with him at the time of his death. The provisions of the trust agreement governing the distribution of the trust income require that it all by paid to the wife, without any condition or restriction as to its use, as long as the petitioner is living and she is living with him as his wife. The petitioner retained no power under the trust agreement to alter or amend any of the provisions of the trust, or to withdraw any of the principal or income, or to change any of the beneficial interests. The children both became of age prior to 1940.
The principal power which the petitioner retained as grantor was to direct the investment of the trust funds. All sales and purchases of trust securities were subject to his approval. While, as we have often pointed out, this is a fact to be considered along with the other evidence, it is not sufficient in itself to bring the trust within the rule of Helvering v. Clifford. The grantor here did not stand to realize any economic gain from the trust by any right to buy or sell to the trust at his own terms or for his own advantage. This was not within the powers which the grantor reserved and, generally, would not be sanctioned by the laws governing the administration of trusts. All that the petitioner did here was to leave matters so that in the administration of the trust he could add his own knowledge and experience to that of the trustee for the best interest of the trust. The facts in this respect are much like those in David L. Loew, 7 T.C. 363 (July 12, 1946). We held in that case, after reviewing Helvering v. Clifford, supra; Commissioner v. Buck, 120 Fed.(2d) 775; Stockstrom v. Commissioner, 151 Fed.(2d) 353, and other related cases, that the reservation by the grantor of the powers, among others, to direct the investment of the trust funds and to receive the income of the trust for the benefit of his minor children, did not bring the trust within the rule of the Clifford case.
Here, the income was not to be paid, and in fact was not paid, to petitioner, as fiduciary or otherwise, but, with one or two exceptions, was all deposited in the wife's bank accounts. Petitioner had access to the funds only by reason of the power of attorney which the wife gave him to handle one of the accounts for her. He could not lawfully, or under any provision of the trust agreement, make any use of the funds for his purposes. In handling the account for his wife he did from time to time appropriate some of the income for his own uses, but the evidence is, and the respondent admits the fact, that he repaid those amounts. Respondent's requested finding of fact numbered 10, based upon the petitioner's testimony, is that ‘At times, petitioner used the funds of the trust for his own personal use but later reimbursed the trust.‘
The respondent has not determined in his deficiency notices, nor has he made any contention in his brief, that the income of the trust, except for the amounts used to pay the premiums on policies of insurance on petitioner's life, is taxable to the petitioner under section 167 and the doctrine of Douglas v. Willcuts, supra.
On the evidence of record in these proceedings, we hold that the petitioner is not taxable on the income of the trust under the provisions of section 22(a).
The only remaining issue is petitioner's liability for tax on the amounts of trust income used to pay the premiums on the policies of insurance upon his life. On this question it is the respondent who raises the plea of res judicata, based upon our prior decision in L. B. Foster et al., supra. What we decided in that case was that petitioner was taxable on the premiums paid out of the trust income by the trustee during the taxable year 1929. The question as to what premiums were paid by the trustee, or paid out of the trust income in any taxable year is one of fact, to be determined from the evidence. The law (sec. 167(a)(3), I.R.C.) is clear enough as to the tax consequences, once the facts are determined. It requires the inclusion in gross income of the grantor of any part of income of a trust which ‘is, or in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income may be, applied to the payment of premiums upon policies of insurance on the life of the grantor * * * .‘ There was no provision in the trust agreement for the payment of the premiums out of the trust income, or corpus, and, hence, none of the trust income can be said to have been so payable in the discretion of the grantor or any other person. Nevertheless, some of the premiums were actually paid by the trustee out of the trust income, presumably with the knowledge and consent of the trustee, the grantor, and his wife. Plainly, those payments fall within the provisions of section 167(a)(3), as did the payments for 1929 upon which we ruled in L. B. Foster et al., supra.
The more troublesome question here is the one of fact as to what amounts of trust income were applied to the payment of the premiums. The trustee's accounts show $829.95 of premiums paid by the trustee in 1940, but none in the other years. Some of the 1940 and 1941 premiums were paid by the petitioner out of his own funds, but he was reimbursed for those payments by check drawn on his wife's account at the First National Bank, in which the distributable income of the trust was all deposited after January 18, 1941. After that account was opened all the premiums were paid by checks drawn on it and signed by the petitioner's wife.
If the wife had voluntarily paid the premiums with her own funds which she was free to spend in any manner she saw fit, without any direction from the petitioner or the trustee, we would have to hold, under our prior decisions, that the premiums were not paid out of trust income and were therefore not taxable to the petitioner under section 167(a)(3). See Stephen Hexter, 47 B.T.A. 483; George F. Booth 3 T.C. 605. On the evidence before us, however, we cannot make that finding. All of the parties seem to have understood and intended that the premiums were to be paid out of trust income deposited in the wife's account at the First National Bank. The evidence indicates that the account was opened principally for that purpose. The payment of insurance premiums, income taxes (of the wife), interest on the insurance loan, and nominal bank charges were the only purposes for which the account was ever used. All of the deposits in the account were of income from the trust. The trustee prepared the insurance premium checks, had the wife sign them, and then forwarded them to the insurance companies. We do not think that it was ever intended that the trust income deposited in the account should be subject to the wife's unfettered use and enjoyment. We think that the arrangement of paying premiums through the special account standing in the wife's name amounted to no more than an attempt to make it appear that they were being paid out of the wife's own funds rather than out of trust income. The parties were undoubtedly cognizant of this Court's ruling in L. B. Foster et al., supra; that the petitioner must be taxed on the trust income which the trustee applied to payment of premiums.
The facts here are not unlike those in Henry A. B. Dunning, 36 B.T.A. 1222; petition for review dismissed, 97 Fed.(2d) 999 (C.C.A., 4th Cir.). There the trust instrument did not provide for the payment of premiums on the policies of insurance on the grantor's life, but his wife paid them, at his suggestion, out of her distributable share of trust income. We held that the amount of the premiums so paid was taxable income to the grantor.
We can not doubt that the petitioner here was a party to the plan for payment of the premiums out of trust income. He had decided to discontinue paying the premiums himself, upon the advice of his attorney, so that the policies might not be included in his gross estate, and had made no other provisions for their payment. There is no suggestion that he was not fully able to pay the premiums himself, or that he intended to drop the policies and lose the money invested in them, or that the wife voluntarily offered to pay the premiums to protect her interests in the policies as a beneficiary of the trust. Cf. George F. Booth, supra.
To the extent that the premiums for any of the tax years involved were paid out of trust income either directly by the trustee or by checks drawn on the wife's account at the First National Bank, they should be included in computing the net income of the petitioner-grantor under section 167(a)(3).
Reviewed by the Court.
Decision will be entered under Rule 50.