Funai v. Comm'r of Internal Revenue

Full title: H. V. FUNAI, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Court: Tax Court of the United States.

Date published: Nov 2, 1949

13 T.C. 696 (U.S.T.C. 1949)

Opinion

Docket No. 20884.

1949-11-2

H. V. FUNAI, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Robert J. Heberle, Esq., for the petitioner. Paul E. Waring, Esq., for the respondent.

HARLAN

Petitioner, his wife, and two others operated a business as a partnership under a name which did not disclose the names of all of the partners. The partnership was licensed to do business as such. Petitioner's wife contributed vital services prior to taxable years and filed an income tax return reporting income as disclosed by the partnership return. However, petitioner actually received and dominated all of the income from the partnership to which his wife was entitled under the partnership agreement, reinvested said income in his own name, and retained to himself the proceeds of the sale of partnership capital. Held, the partnership was not intended by the husband and wife to be a functioning partnership as between them and the partnership income is taxable to the petitioner husband. Robert J. Heberle, Esq., for the petitioner. Paul E. Waring, Esq., for the respondent.

The Commissioner determined deficiencies in petitioner's income tax for the following years in the following amounts:

+---------------+ ¦1943¦$2,675.51 ¦ +----+----------¦ ¦1944¦2,695.56 ¦ +----+----------¦ ¦1945¦216.30 ¦ +---------------+

These deficiencies result from the Commissioner's determination that income reported on a partnership return by petitioner as income of a partnership between him and his wife was in fact the income of petitioner alone during the taxable years.

FINDINGS OF FACT.

Petitioner and Viola Funai were married in 1930. They have three children, one born in 1931, another in 1936, and a third in 1944. In 1931 petitioner formed a partnership with one Bannister to conduct a chicken business, at which time petitioner contributed capital, part of which came from the savings of Viola in the total amount of $325. This partnership dissolved in 1933 and all of the capital contributions of both partners, except $50 in cash and a truck which Bannister received, had been dissipated. Petitioner, however, continued to operate under the name of Marshall Poultry Co. as a sole proprietor, and his wife assisted him in the operation of the business.

Petitioner and his wife worked for long hours. The store was open for 17 hours on Saturday and 11 hours for the other week days. In 1934 a grocery department was opened, over which Viola took supervision. She purchased 95 per cent of the groceries, priced the merchandise, prepared advertising circulars, and kept such books and records as were kept, and until 1939 she received no salary, but took from the cash register such funds as she needed personally. Petitioner, in the meantime, operated the poultry department and had little to do with the grocery division.

Prior to 1940 the income from the business was reported and taxed as that of petitioner. Sometime in 1939 petitioner agreed with L. J. Whitehead, who was then one of his employees, to sell Whitehead a third interest in the business and accordingly in January 1940 an inventory of the business was taken, which showed physical assets amounting to $15,624.89. Sometime in May an agreement was entered into between H. V. Funai and Viola C. Funai, as parties of the first part, and L. J. Whitehead, as party of the second part, whereby parties of the first part sold to Whitehead a third interest in Marshall Poultry Co. for $5,208.93, $500 of said consideration being paid in cash and the remainder to be paid out of the earnings of the business. This agreement was to be effective as of January 1, 1940. It contained a provision allowing the parties to the contract to have a drawing account, to be arranged by agreement, and then provided:

That such net profits as may exist after the payment of expenses and the aforementioned drawing accounts shall be divided between the parties to this in proportion to their respective holdings; that is to say 2/3rds to the parties of the first part and 1/3rd to the party of the second part; but it is further agreed that the parties of the first part shall be the sole judges of when said division shall be made. * * * It is further mutually agreed that H. V. Funai is to have complete control of the operation of said business.

The $500 cash was paid by Whitehead to petitioner personally. The remainder of the purchase price was received by H. V. Funai during the ensuing year, but there is no evidence that any part of said purchase price was ever received by Viola Funai.

In the latter part of 1940, after the agreement with Whitehead had been in existence for almost a year, H. V. Funai was preparing to fill out his income tax return for 1940 when a field examiner from the Bureau of Internal Revenue inspected his 1939 return. The inspector informed him that if he made out partnership returns for himself and his wife he would probably save some income tax. This he accordingly did.

Under the individual proprietorship H. V. Funai kept the business bank account at the Southern Bank & Trust Co. in the name of Marshall Poultry Co. Both he and Viola were authorized to draw checks on this account. In 1937, when moneys accumulated in excess of the needs of the business, a joint account bearing interest was created at the Morris Plan Bank. Later on, as the accumulations grew, three savings accounts were created at the First Federal Savings & Loan, one in H. V. Funai's name, one in Viola's name, and one in the joint names of both. The purpose of these separate accounts was not to supply individual banking for Viola and petitioner, but so that the money deposited would be kept in accounts in amounts less than $5,000 in order to procure the benefit of Federal insurance. After Whitehead became associated with the business the Marshall Poultry Co. account was kept as formerly.

There were no capital accounts set up on the books showing the various interests of the parties. Profits were divided when H. V. Funai decided that there was more money in the business account than was needed for operating purposes, and dividend checks were issued.

On December 18, 1940, Viola received such a check for $300. It was endorsed by her and under the endorsement was written ‘Credit to account of H. V. Funai. ‘ On February 4, 1941, she received a check for $300, endorsed by her in blank and cashed at the Morris Plan Bank.

During the year 1940 Viola worked on a full time basis of not less than five days a week. She hired some of the employees, purchased most of the groceries, kept some of the accounts, waited on the public, and took care of the cash. During that year H. V. Funai, Viola Funai, and Whitehead each drew a salary of $30 a week for services rendered to Marshall Poultry Co.

Petitioner filed a ‘partnership return of income‘ in the name of Marshall Poultry Co. for the year 1940. In 1940 a notice of assessment was issued by the city of Richmond to H. V. Funai, Mrs. H. V. Funai, and Louis J. Whitehead, trading as Marshall Poultry Co., for a retail business license. Similar licenses were procured for the year 1941. During 1941 Viola worked on an average of 4 1/2 days a week and the three individuals continued to draw their respective salaries of $30 a week. There is no testimony as to the amount of profits that were distributed at that time although a partnership income tax return was filed for 1941.

In November 1942 it was decided to abandon the grocery division of the business and concentrate on the poultry branch. This reduced the amount of work for petitioner and his wife and her hours grew less. At the same time a new agreement was entered into between H. V. Funai and Viola Funai, as parties of the first part, and L. J. Whitehead and Rhea Whitehead, parties of the second part, whereby the first parties conveyed to the second parties an additional 16 2/3 per cent interest in Marshall Poultry Co. By this agreement the profits of the business were to be divided one-half to the parties of the first part and one-half to the parties of the second part. It was also agreed that ‘H. V. Funai is to have complete control of the operations of the business.‘ Whitehead paid to H. V. Funai $1,889.70 for the increased capital interest in the partnership, but there is no evidence that Viola received any part of this amount for any interest in the business she may have held. The new agreement was to take effect as of January 1, 1943.

After the liquidation of the grocery business and up to January 1, 1943, Viola sold poultry, took in cash, wrapped packages, swept the floors, and did other odd jobs. There is no testimony as to the amount of time she devoted to the business during the latter part of 1942. During this time she had almost nothing to do with the operation of the poultry department, which had become the main branch of the business.

A partnership return of income was filed for the year 1942.

During 1943 Viola's connection with the business was to assist in the sales of poultry. She worked three days a week, Tuesday, Friday, and Saturday, and because of the approaching birth of their third child she was away from the store much of the time in the latter part of the year. In 1944 she was at the store very little. The child was born during that year and during 1945 she was not at the store. During 1943 and 1944, however, she continued to draw her salary of $30 a week.

Viola Funai did not invest, during the years 1942 to 1945, inclusive, any capital originating with her in the Marshall Poultry Co.

On January 6, 1945, H. V. Funai sold certain fixtures formerly used by Marshall Poultry Co. to Albert L. Williams for $3,941.96. He also sold to Williams a cash register for $250 and a Ford Truck for $500.

On March 6, 1945, H. V. Funai, party of the first part, as vendor, and A. L. Williams, party of the second part, as vendee, entered into an agreement as follows:

* * *

That for the sum of money and consideration hereinafter mentioned, the said Vendor does hereby sell and the said Vendee does hereby purchase the name (trade) ‘Marshall Poultry Company‘ which has been heretofore used as the name of a certain poultry business located at 418 East Marshall Street, Richmond, Virginia, by the said Vendor.

The said Vendor does hereby covenant and agree that he has the right to sell to the said Vendee the above-mentioned name.

The consideration for the sale and purchase of the subject of this contract is the sum of One Thousand ($1000.00) Dollars, * * *

The money received by H. V. Funai from the sale of the fixtures formerly used by the Marshall Poultry Co. to Albert Williams in 1945 was divided equally between H. V. Funai and Louis Whitehead.

The petitioner, on his individual income tax return for the taxable year 1945, reported the sale of a one-half interest in a partnership in the sum of $2,050 and a half interest in the trade name in the sum of $500. The individual income tax returns filed in the name of Viola Funai for the taxable years 1942, 1943, and 1944 do not reflect any income resulting from the ownership by her of real estate or other property.

H. V. Funai testified that he did not know in which account his half of the proceeds from the sale of the fixtures formerly used by the Marshall Poultry Co. were deposited or for what purpose they were used.

The partnership returns for 1940 and 1941 show the partnership income divided one-third to petitioner, one-third to Viola, and one-third to Whitehead. The 1942 partnership return shows petitioner and Viola as receiving each 32 per cent, and the two Whiteheads each receiving 18 per cent. The returns for 1943 and 1944 show each party receiving 25 per cent of the income.

Petitioner's income tax returns for the years 1942, 1943, and 1944, and 1945 show the following:

+---------------------------------------------------------+ ¦ ¦1942 ¦1943 ¦1944 ¦1945 ¦ +----------------------+-------+--------+--------+--------¦ ¦Dividends and interest¦$361.60¦$388.58 ¦$450.73 ¦$420.29 ¦ +----------------------+-------+--------+--------+--------¦ ¦Rentals ¦572.88 ¦1,113.89¦1,379.73¦2,092.42¦ +---------------------------------------------------------+

Petitioner and his wife, during the taxable years, did not intend that their interests in Marshall Poultry Co. should be a partnership interest and no such partnership for income tax purposes existed during that period.

OPINION.

HARLAN, Judge:

Viola Funai contributed no actual cash originating with her to the capital of Marshall Poultry Co. The small and undetermined contribution from her savings which she advanced to petitioner in his first partnership venture was exhausted when petitioner started his individual proprietorship in 1934. However, by very hard work on the part of Viola and her husband, the capital of his individual proprietorship was built from zero in 1934 to $15,825 on May 10, 1940. Viola had worked conscientiously and for long hours in the management of the grocery and in the supervision of employees. Her services were vital to the business enterprise and above those of a salaried employee.

However, there is not the slightest evidence in the record that Viola Funai, in rendering the services to her husband's business, had a remote idea that she was acting as her husband's partner, and from all of the facts in this record Viola performed her activities in the promotion of her duties as a wife and her interest in increasing the family income. Certainly her husband had no idea of a partnership relationship between him and his wife, as he filed individual income tax returns and did not hold his individual proprietorship out to the public as a partnership. In fact, even after the agreement entered into with Whitehead in May of 1940 the petitioner had no idea of filing partnership returns as between him and Viola until he was advised to do so by a representative of the Internal Revenue Department. It is interesting to note, furthermore, that the agreement with Whitehead does not indicate an intent by the Funais to establish a partnership relationship between themselves. The agreement provided that H. V. Funai and Viola Funai, parties of the first part, jointly owned two-thirds of the business and L. J. Whitehead owned the other one-third. There is no statement in said agreement that Viola Funai in her individual capacity has any interest in the partnership and H. V. Funai in his individual capacity was designated as ‘having complete control of the operation of said business.‘ There is no question that as between H. V. Funai and L. J. Whitehead a partnership did exist and that so far as the public relationship was concerned Viola was represented as also being a partner in the business, but as between Viola and H. V. Funai the evidence that these two individuals intended to operate as a partnership is decidedly tenuous. All of the acts that she performed after the partnership with Whitehead were probably less arduous but of exactly the same character as those which she did while her husband was under his individual proprietorship. At both times she bought was under his individual proprietorship. At both times she bought supplies for the business, had authority to write checks, employed and discharged help, and performed other necessary functions in the business, but she did these things in the same way in the Whitehead partnership as she did in the individual proprietorship.

In November 1942 an agreement was made between Funai and his wife, as one party, and L. J. Whitehead and his wife Rhea, as the other party, whereby the Whiteheads acquired an additional 16 2/3 per cent interest in the business and whereby each of the parties should thereafter receive one-fourth of the profits. This agreement did not provide when the new partnership was to begin, but petitioner testified that it was to be as of January 1, 1943. By the time of the agreement the grocery business was abandoned and the entire efforts of the partnership were concentrated on the poultry business. A line of dressed poultry was added and Viola became more active in the poultry division.

Moreover, the entire record herein wholly fails to show that from 1940 on through the taxable years Viola Funai exercised that most important privilege and that normal function of a partner— the receipt and control for her own use and benefit of any of the partnership profits. The only possible exception to this statement might be the February 4, 1941, check issued to Viola for $300 and cashed at the Morris Plan Bank. However, the account at this bank was a joint account of petitioner and Viola and from all of the evidence it is apparent that petitioner dominated and controlled the joint account. There is nothing in the evidence to show that this deposit was any exception. So far as the testimony and evidence in this case are concerned, it seems apparent that the petitioner herein controlled and dominated the income of the partnership and the partnership capital to the extent of the interest of the petitioner and his wife, just as he did prior to 1940, when he was operating as an individual proprietorship capital by the petitioner is a strong factor in removing the petitioner's business from the tax benefits of a partnership relationship between him and his wife during the taxable years. ‘It is the command of the taxpayer over the income which is the concern of the tax laws. ‘ Commissioner v. Tower, 327 U.S. 280.

In the case at bar Viola, by her industry and ability prior to the taxable years, contributed largely to the creation of the income of Marshall Poultry Co., but there is no persuasive evidence before us that she ever actually received from her own disposition any part of that income. Three dividend checks payable to her and endorsed by her are in evidence. Two were deposited in the bank to the credit of H. V. Funai. The other one was cashed at the Morris Plan Bank, where she and her husband kept their joint account. The only bank account referred to in the record as being in her name was arranged by her husband, according to his testimony, not that she might have an independent bank account, but that the family funds could be in three accounts of less than $5,000 each and thus be protected by insurance. There was no testimony that Viola had anything to do with opening the account, that she ever deposited anything therein, or that she ever withdrew anything therefrom.

After 1940 petitioner's income from rentals, interest, and dividends, as disclosed by his personal income tax returns, grew very rapidly. The money producing these investments came from Marshall Poultry Co. Viola's income tax returns meanwhile were constantly confined to the declared income from the alleged partnership. Petitioner testified unconvincingly that the real estate from which his rentals came was purchased in the joint names of himself and wife, but this was not corroborated in any way and Viola said nothing on the subject. The stocks and bonds purchased by petitioner admittedly from Marshall Poultry Co. income, from which substantial capital gains and ordinary income were received, are not claimed by petitioner to be the joint property of petitioner and his wife.

No capital account was set up on the partnership books and there is no evidence in the record that as between petitioner and Viola any capital account was ever recognized. The petitioner received the money in all cases when capital items were sold and would not testify as to what disposition was made of this money. There is no evidence in the record that any of it ever came under the control of Viola. When she was on the stand it was noticeable that her attorney did not require of her concerning the receipt by her of the partnership income or of any part of the money received from the disposal of partnership capital. Neither did she volunteer any testimony on this most important issue before the Court.

The partnership report for 1942 strongly indicates that both H. V. Funai and L. J. Whitehead were more interested in making a report that would be beneficial tax-wise than accurate as to details. According to petitioner's testimony, the four-party partnership was not to start until January 1, 1943. If so, the 1942 partnership report should have declared 33 1/3 per cent of the income to each of the three former partners and Rhea Whitehead would have received none. However, if the partnership began on November 11, 1942, when the agreement was dated, Funai, his wife, and L. J. Whitehead would each have received one-third of the partnership income for five-sixths of a year and one-fourth thereof for one-sixth of a year, or a total of 32 per cent of the income, and Rhea would have received one-fourth of one-sixth, of 4 per cent of the income. The report was filed, however, divides the income 32 per cent each to the Funais and 18 per cent each to the Whiteheads. This division does not seem to have any basis in any theory of the case before the Court, although it would no doubt be helpful in filing the income tax returns of the Whiteheads. Furthermore, since there is nothing in the evidence showing that Rhea contributed anything either to capital or services, it is interesting to note that her share, at least on paper, of the partnership income equals Viola's. There is thus an atmosphere of unreality about the division of this partnership income which seems to indicate that H. V. Funai and L. J. Whitehead were not greatly interested in the actual distribution of income to their respective wives. Furthermore, when Whitehead purchased his one-third interest for $5,200, petitioner was unable to testify as to what disposition was made of the money or as to whether Viola received any part thereof. The same condition is true as to the amounts received by petitioner in final liquidation of the partnership. Whitehead received his half, but there is no indication that Viola received anything. The bill of sale of the business name ‘Marshall Poultry Company‘ was drawn up between Williams and petitioner as individuals and signed by petitioner as an individual in exactly the same manner as though that name had never become a partnership asset.

From the whole record, it is our conclusion that the Funai portion of the partnership income during the taxable years was received by petitioner and treated by him as his own income to the same extent as if his wife were but an employee.

If this Court were to find, under the facts in this record, that a bona fide partnership for tax purposes existed in the taxable years between Viola Funai and H. V. Funai, it would fail to follow the law as laid down by the Supreme Court of the United States in the recent case of Commissioner v. Culbertson, 337 U.S. 733, in which the court says:

The question is not whether the services or capital contributed by a partner are of sufficient importance to meet some objective standard supposedly established by the Tower case, but whether, considering all the facts— the agreement, the conduct of the parties in execution of its provisions, their statements, the testimony of disinterested persons, the relationship of the parties, their respective abilities and capital contributions, the actual control of income and the purposes for which it is used, and any other facts throwing light on their true intent— the parties in good faith and acting with a business purpose intended to join together in the present conduct of the enterprise * * * .

See also Commissioner v. Tower, supra.

In the case at bar the evidence that Viola Funai ever received under her own dominion and control any of the funds arising from the alleged partnership business, or that she ever rendered any service to the business except to perform her duty as a helpful wife and to advance her family welfare, is purely negligible, if any, and it is certainly not sufficient to overcome the presumption of the correctness of the Commissioner's finding that as a matter of fact the business relationship between petitioner and his wife was not that of a functioning partnership. We can only conclude that the apparent family partnership between petitioner and his wife was not intended by the parties thereto to be a real functioning partnership during the taxable years.

Reviewed by the Court.

Decision will be entered for the respondent.