Opinion
Docket No. 175.
1944-07-21
DAVID SMALL, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Thomas N. Tarleau, Esq., for the petitioner. Walt Mandry, Esq., for the respondent.
Income from a long term irrevocable trust of which petitioner was grantor and trustee, and over which the trustee had broad powers of management, held, not taxable to petitioner. Sec. 134, Revenue Act of 1943. Thomas N. Tarleau, Esq., for the petitioner. Walt Mandry, Esq., for the respondent.
In this proceeding petitioner challenges deficiencies in income tax in the amounts of $8,097.62 and $36,153.66 for the calendar years 1938 and 1939, respectively.
The question presented is whether the income from a certain trust is taxable to petitioner under either section 22(a) or section 167 of the Revenue Act of 1938.
FINDINGS OF FACT.
The facts have all been stipulated and are found accordingly.
Petitioner, David Small, an individual residing at 314 Summit Avenue, Syracuse, New York, filed his income tax returns for the calendar years 1938 and 1939 on a cash and calendar year basis with the collector of internal revenue for the twenty-first New York district of Syracuse, New York.
On December 28, 1938, petitioner executed and delivered an agreement of trust and transferred to himself as trustee 250 shares of capital stock of the Walsh Construction Co., an Iowa corporation. Petitioner was the sole trustee of this trust during 1938 and 1939, when stock of the Walsh Construction Co. constituted the entire corpus of the trust, and dividends thereon and a small amount of bank interest constituted its sole source of income. The company issued a stock certificate for these shares in the name of petitioner as trustee under the trust involved.
The stock originally transferred was valued for gift tax purposes at $925 per share, and petitioner filed a gift tax return and paid the gift tax due thereon.
Petitioner married Florence Jane Small in May 1936. Their children are four daughters, born on the following dates: Jean Wilke Small, April 1937; Jane Louise Small, April 1938; Joan Frances Small, October 1941; and Sheila Small, April 1943.
By the terms of the trust the trustee was ‘to pay the net income therefrom in equal shares to the from time to time then surviving children and the then surviving issue, taken collectively, of deceased children of‘ petitioner and his wife, Florence Jane Small. Upon the termination of the trust, which was to endure during the lives of petitioner's two daughters, Jean Wilke Small and Jane Louise Small, the trustee was to divide the principal into as many equal shares as there were surviving children and the number of children deceased leaving surviving issue, and distribute the shares. Surviving children of petitioner were to receive their shares immediately and the shares set aside for surviving issue of deceased children were to be paid over to them in such proportions as their deceased parent directed in his will, or in default to such surviving issue in equal shares per stirpes. If at the termination of the trust there was no surviving child or surviving issue of a deceased child of petitioner and his wife, Florence Jane Small, then the trustee was to pay over the principal to David T. Small, son of petitioner by a prior marriage, if he was living, and, if not, to his surviving issue. If at the termination of the trust any part of the principal was payable to a minor, the trustee was empowered, in his discretion, to hold and administer such principal for the benefit of the minor during his or her minority and to pay the net income therefrom to the minor during that period.
The trust provided that when income was payable to a minor the trustee ‘shall pay to such minor or apply to his or her use‘ only such sum as the trustee, in his discretion, shall deem proper for the support, maintenance, education, and appropriate luxuries of the minor. Any surplus income was to be set aside and accumulated and paid over to the minor upon his or her attaining the age of 21, but if the minor died before attaining that age, the accumulations of income should be paid to his or her estate. Application of income to the use of a minor was to be made either directly or by payment to the guardian or the person with whom the minor resided. Title to income was to vest in the minor when paid or segregated for him.
It was provided that in the event that the income from the trust, at any time while petitioner or his wife was trustee, should in his or her sole discretion be deemed insufficient for the comfort, care, maintenance, and/or support of the children or issue of deceased children, the trustee might in his or her discretion pay to such children or issue of such children, out of principal, such additional amount as he deemed necessary or advisable. It was provided that the trustee in making such payments to one child or to the issue of one child, to the exclusion of others, should charge the entire trust estate and not the ultimate share set apart for the child for whose benefit the payment was made. It was provided, however, that no such distributions of this character were authorized if the effect would be to reduce the fair market value of the principal to an amount less than $500,000. No distributions of this type were made during the years in question and the fair market value of the corpus was never as large as $500,000. Another term of the trust provided that if, during the term of the trust and after the death or resignation as trustee of both petitioner and his wife, the income payable to a child or the issue, taken collectively, of a deceased child in any calendar year should be less than $10,000, the then trustee was authorized and directed to pay to such child or issue of a deceased child a sum, out of principal, equal to the deficiency between such income and $10,000.
The trustee was granted various powers of management of corpus and accumulations of income held for a minor. These included: The power to invest in securities or other properties of any kind, whether or not legal for trustees in the State of New York, and to sell and reinvest the proceeds; to retain without obligation to dispose of for the duration of the trust any property becoming unproductive; to sell for cash or on credit, secured or unsecured, any properties at any time for such prices and upon such terms as the trustee might determine; to exchange any properties upon such terms as the trustee might determine for any other properties; to lease any real property for such duration as the trustee might determine, including a period in excess of the duration of the trust, upon such terms as seem proper to the trustee to include in any such lease; to exercise any conversion privilege or subscription right available in connection with any securities or other properties; to deposit the stock of the Walsh Construction Co. under a voting trust agreement; to consent to any amendment of the certificate of incorporation of the Walsh Construction Co.; and to enter into any agreement with the company or its other stockholders whereby limitations shall be imposed on the sale of such stock; to consent to the reorganization, consolidation, and merger or readjustment of the finances of any corporation, company or association; to consent to the sale, mortgage, pledge or lease of all or part of the property of any company or association an interest in which is held by the trust, to do any act with reference thereto, including the exercise of options, making of subscriptions or agreements, the exchange or deposit of any such securities or other properties, and the payment of subscriptions, expenses or assessments which might be deemed advisable or necessary in connection therewith, and to receive as a result thereof any securities or other properties of any kind without any limitation to legal or nonlegal investments or to productive or nonspeculative securities or other properties or otherwise, and to retain the same; to vote personally or by proxy any stock constituting a part of the corpus; to borrow money from himself individually or from another upon such terms as may be arranged for the purpose of purchasing securities or other properties or accomplishing any other purpose of the trust.
The indenture also provided:
In general, in exercising the foregoing powers to perform, enforce and exercise or not as may be determined in respect of the trust estate all of the acts, rights and powers which may be performed, enforced or exercised by persons owning similar property in their own right and to make, deliver or receive any instruments in writing necessary or convenient to carry the said powers into effect.
The trustee was also empowered in distributing the trust estate to distribute it in money or in kind or partly in each and to allocate to any share an undivided interest in any property or property unlike the property allocated to any other share. Upon termination the trustee was empowered to sell any property constituting part of the trust estate or to retain it until distribution. The trustee was authorized to hold securities in bearer form and any corporate trustee was authorized to cause any security held to be registered in the name of his nominee without the addition of words indicating that the security was held in a fiduciary capacity without thereby increasing or decreasing his liability. The above powers were granted not only to petitioner as trustee, but also to any successor, substitute, or additional trustee, however appointed. By its terms the trust was irrevocable.
It was provided that in case of death or resignation of petitioner as trustee he should be succeeded by the New York Trust Co., Florence Jane Small, David T. Small, and Fred Baker Smith as cotrustees, while alternate trustees were named in the event that any designated successor trustee should not serve or qualify. It was provided that neither petitioner nor any other individual who might serve as trustee should receive compensation of any nature for their services and no trustee was ever to be required to furnish any bond or other security for the faithful performance of his or her duties. It was stated that the agreement was to be construed and regulated by the laws of the State of New York and the trustees should not be required to account in any court other than one of the courts of that state.
The indenture also contained the following:
TWENTY-THIRD: The Grantor has discussed from time to time in detail and at length with his son David T. Small and with The New York Trust Company, certain carefully considered and definite plans as to the manner in which he desires his children by his wife Florence Jane Small to be maintained, reared and educated. It is his desire that such children be afforded every opportunity to participate in the blessings of the Catholic Church. It is his belief that, during the term of this trust, it would be desirable to maintain the property at 314 Summit Avenue, Syracuse, New York (if acquired as part of the trust estate) as the home for his said children, until the youngest has become twenty-one years of age. It is also the Grantor's belief that, during the term of this trust, it would be desirable, upon the death of the Grantor and his present wife, Florence Jane Small, that if Frances Katherine Dixon is willing to take over the duties of caring for the said children and the maintenance of their home during their respective minorities, that she be employed by the Trustee at a salary not in excess of $250 per month, which amount the Grantor deems reasonable. Therefore, without intending or desiring to place any limitation or restriction upon the absolute and unlimited discretion of the Trustee, and with the sole purpose of amplifying and extending the powers of the Trustee, authority is hereby conferred upon the Trustee to maintain the said premises and employ the said Frances Katherine Dixon for the purpose aforesaid and to pay for the same out of the moneys payable to the life beneficiaries hereunder. The Trustee shall make such payments out of the income of the trust estate and such payments shall be charged against the general fund and shall not be allocated against the particular share of any child or issue.
Since December 28, 1938, petitioner maintained three accounts with the Syracuse Trust Co. at Syracuse, New York. The first account is maintained in the name of ‘David Small, Trustee under Agreement of Trust dated December 28, 1938‘; the second is maintained in the name of ‘David Small, as Trustee for Benefit of Jean Wilke Small under Agreement of Trust dated December 28, 1938‘; and the third in the name of ‘David Small, as Trustee for Benefit of Jane Louise Small under Agreement of Trust dated December 28, 1938.‘ During the years 1938, 1939, and 1940 income received and deposited to the account of ‘David Small, Trustee under Agreement of Trust dated December 28, 1938‘ was withdrawn and deposited, one-half to each of the other two accounts just described. On December 3, 1941, petitioner opened the third account in the name of ‘David Small, as Trustee for Benefit of Joan Frances Small.‘ During the years 1941 and 1942 income received and deposited to the account of ‘David Small, Trustee under Agreement of Trust dated December 28, 1938,‘ was withdrawn and deposited, one-third to each in the three other accounts mentioned. Amounts accumulated in each of the three accounts have been invested separately by petitioner as trustee for each of the named beneficiaries in United States bonds and in stock of the Walsh Construction Co. purchased from the company in 1939, and repurchased by the company at the same price in 1940. The financial records of the trusts are kept in separate safe deposit boxes in the Syracuse Trust Co., Syracuse, New York.
For the years 1938 and 1939 United States fiduciary income tax returns on Form 1041 were duly filed with the collector for the twenty-first New York district at Syracuse by petitioner as ‘Trustee under Agreement of Trust dated December 28, 1938‘; by petitioner as ‘Trustee for Benefit of Jean Wilke Small under Agreement of Trust dated December 28, 1938‘; and by petitioner as ‘Trustee for Benefit of Jane Louise Small under Agreement of Trust dated December 28, 1938.‘
The Walsh Construction Co. is a corporation organized by Patrick Walsh in 1899 and engaged in construction contract work. Since some time prior to 1938 the officers have been Thomas Walsh, president; William Durkin, vice president; Henry Gill, vice president; David Small, vice president; E. P. Walsh, treasurer; and M. A. Kennedy, secretary. During 1938 the directors were, and since that date have been, Thomas Walsh, William Durkin, and petitioner. Thomas W. and E. P. Walsh are sons of Patrick Walsh. Petitioner is not related to them by blood or marriage, nor to William Durkin, Henry Gill, or M. A. Kennedy.
The outstanding stock of the Walsh Construction Co. on December 28, 1938, and December 31, 1939, was all voting stock. On these dates the owners thereof were as follows:
+----------------------------------------------------------------------------+ ¦ ¦Dec. ¦Dec. ¦ ¦ ¦28, ¦31, ¦ +------------------------------------------------------------+-------+-------¦ ¦ ¦1938 ¦1939 ¦ +------------------------------------------------------------+-------+-------¦ ¦ ¦Shares ¦Shares ¦ +------------------------------------------------------------+-------+-------¦ ¦Thomas Walsh, and members of his family ¦2,099 ¦2,536 ¦ +------------------------------------------------------------+-------+-------¦ ¦William Durkin, and members of his family ¦681.5 ¦823.5 ¦ +------------------------------------------------------------+-------+-------¦ ¦M.A. Kennedy ¦69.5 ¦84.5 ¦ +------------------------------------------------------------+-------+-------¦ ¦David Small ¦269 ¦325 ¦ +------------------------------------------------------------+-------+-------¦ ¦David T. Small ¦500 ¦778 ¦ +------------------------------------------------------------+-------+-------¦ ¦David Small, trustee for David T. Small ¦144 ¦_____ ¦ +------------------------------------------------------------+-------+-------¦ ¦Florence Jane Small (wife of David Small) ¦125 ¦151 ¦ +------------------------------------------------------------+-------+-------¦ ¦David Small, trustee under agreement of trust dated Dec. 28,¦250 ¦302 ¦ ¦1938 ¦ ¦ ¦ +------------------------------------------------------------+-------+-------¦ ¦Total stock outstanding ¦4,138 ¦5,000 ¦ +----------------------------------------------------------------------------+
In 1938 petitioner's family owned outright or beneficially 1,288 shares of the Walsh Construction Co. and in 1939 they owned 1,556 shares.
David T. Small, son of petitioner by a prior marriage, is 30 years of age, married, and lives at Greenwich, Connecticut. He is engaged in his own business.
Petitioner owns the property at 314 Summit Avenue, Syracuse, New York, which he and his family occupied as a residence. During the years 1938 and 1939 and thereafter petitioner was a man of substantial means, and he has had ample resources in his individual capacity to discharge all his duties of support to his minor children and has paid all their expenses from such independent funds. No part of the income or principal of the trust funds has been used for the maintenance, education, support, or appropriate luxuries of petitioner's minor children, but all the income has been accumulated in the accounts of ‘David Small, as Trustee for Benefit of Jean Wilke Small under Agreement of Trust dated December 28, 1938‘; ‘David Small, as Trustee for Benefit of Jane Louise Small under Agreement of Trust dated December 28, 1938‘; and ‘David Small, as Trustee for Benefit of Joan Frances Small.‘
The net income of the trust was $25,000 in 1938 and $59,634.46 in 1939. Petitioner's reported net income for these two years (not including any income of the trust) was $36,209.48 in 1938 and $84,004.42 in 1939.
Protective claims for refunds of the Federal income taxes paid by petitioner as trustee for the benefit of Jean Wilke Small and as trustee for the benefit of Jane Louise Small have been filed solely to protect his rights as such trustee in the event that the income of these trusts is ultimately held to be taxable to petitioner individually. Petitioner, as trustee, and Jean Wilke Small and Jane Louise Small, minors, by petitioner, their parent, have signed agreements that these claims may be disallowed in the event that it is held that the income of the trust created by the agreement of trust dated December 28, 1938, is not taxable as the income of petitioner individually. Petitioner, as grantor, has signed an agreement to indemnify the respondent in respect of any such refund.
OPINION.
OPPER, Judge:
The problem here is whether the controls retained by petitioner over the trust of which he was grantor-trustee, including the possible benefit available through the discretionary use of income for the maintenance of his dependents, are such as to make the trust income his own under section 22(a) and the principle of Helvering v. Clifford, 309 U.S. 331.
In Frederick Ayer, 45 B.T.A. 146, we were confronted with an essentially similar problem. There, as here, the grantor retained broad powers of management.
The corpus consisted of stock in a family corporation of which the grantor was a director. The trusts were long term trusts, and permitted payment for the ‘support, education, comfort and happiness‘ of the grantor's minor children. But there, also, no use was made of the income for that purpose. After rejecting, on the authority of E. E. Black, 36 B.T.A. 346, and similar cases, the claim that the trust was on the latter ground covered by the provisions of section 167, the Board also concluded that the grantor was not taxable under section 22(a). It distinguished White v. Higgins (C.C.A., 1st Cir.), 116 Fed.(2d) 312, by quoting from that opinion the statement that the grantor there ‘may at once pay any or all of the principal or income to herself‘ and by adding that as to the Ayer case ‘There are no such provisions.‘ It seems impossible to distinguish the Ayer proceeding from this one.
His wife was the cotrustee, but it was stipulated that:‘ * * * Decisions with respect to the administration and property of the trusts, including the determination of assets to be purchased or sold, were made by the petitioner, as trustee. * * * (The wife) took no active part in the administration of the trusts.‘The wife was also a remote remainderman, but could not be considered as having a substantial adverse interest. Fulham v. Commissioner (C.C.A. 1st Cir.), 110 Fed.(2d) 916, 918.
Of course on the subject of broad powers of management and their insufficiency to cause taxation to trustor the Ayer case offers authority, but in that respect requires no reestablishment.
Subsequent to the issuance of that opinion three further developments occurred. First, respondent accepted it as a matter of administrative practice and expressly acquiesced in it, 1942-1 C.B. 2, thereby augmenting the obligation of consistency if we would avoid discriminating inequitably among individual taxpayers. Second, the Supreme Court in November 1942 repudiated the theory of the Black case, Helvering v. Stuart, 317 U.S. 154, and thus cast doubt upon the correctness of the Ayer conclusion.
But thereafter Congress took the third step and in section 134 of the Revenue Act of 1943, see W. C. Cartinhour, 3 T.C. 482, 493, consummated a retroactive legislative repeal of the Stuart case
After the decision in the Stuart case respondent withdrew his acquiescence to Frederick Ayer, 1943 Internal Revenue Bulletin No. 13, p. 2.
and reinstated the rule exemplified by E. E. Black.
‘(a) INCOME FOR BENEFIT OF GRANTOR.— Section 167 (relating to income for benefit of grantor) is amended by adding at the end thereof the following subsection:'(c) Income of a trust shall not be considered taxable to the grantor under subsection (a) or any other provision of this chapter merely because such income, in the discretion of another person, the trustee, or the grantor acting as trustee or cotrustee, may be applied or distributed for the support or maintenance of a beneficiary whom the grantor is legally obligated to support or maintain, except to the extent that such income is so applied or distributed. * * * '‘
‘Your Committee believes that the rule in effect prior to the Stuart case is a sound rule and has inserted a provision in the bill to restore the old rule.‘ (Senate Finance Committee, S. Rept. No. 627, 78th Cong., 1st sess., p. 29.)
Under these circumstances, we view the result of the Ayer case as now reestablished, and hence as governing all similar situations, among which we place the present proceeding.
Respondent seeks to emphasize the clause of this trust instrument which refers to the grantor's ‘belief that, during the term of this trust, it would be desirable to maintain the property at 314 Summit Avenue, Syracuse, New York (if acquired as part of the trust estate) as the home for his said children, until the youngest has become twenty-one years of age.‘ Aside from the quite evident intention to limit this provision to the contingency of the grantor's death, the failure to acquire the property as part of the trust estate eliminates the necessary condition precedent to the application of the provision. Frank E. Wolcott, 42 B.T.A. 1151. Giving due consideration to the entire situation and applying the principle of Frederick Ayer, supra, we conclude that the trust income is not taxable to petitioner, and that respondent's determination was in error.
Reviewed by the Court.
Decision will be entered under Rule 50.
DISNEY, J., concurring: I can concur in the result reached in this case, but can not agree with all that is said in reaching that result. The majority opinion appears to consider the result in the Ayer case ‘as now reestablished‘ due to the Commissioner's acquiescence (later withdrawn), the decision in the Stuart case, the ‘retroactive legislative repeal‘ thereof by section 134 of the Revenue Act of 1943. As I view the matter, the result in the Ayer case has never been reestablished, but the basis for decision in this matter is purely statutory under section 134. So far as the Stuart case holds erroneous our conclusion in the Ayer case, it continues to be erroneous and is no authority on that point. The authority is section 134. That statute compels a result opposite from that reached in the Stuart case so far as concerns possible use of trust funds for support of trustor's minor children and appears to command such opposite result whether the matter be viewed under section 167 or section 22(a). Resort to, or reestablishment of, the Ayer case seems on that point therefore unnecessary. Moreover, that case seems, in any event, even if considered reestablished, to render no assistance with reference to the application of section 22(a) to possible use of trust funds for trustor's minor children, for such facts are not even mentioned in the discussion of section 22(a). Consideration of that section seems to be limited to other elements, particularly that of broad powers of management. If we should consider that section 22(a) was by the Ayer case considered as applied to the facts as to possible use of trust funds for minor children, we must note that the opposite result was reached in Whiteley v. Commissioner, 120 Fed.(2d) 782, which holds that if trust income is subject to direction by the father, the trustor, to the support of his minor children, such trust income is taxable to him under section 22(a) as well as 167, though in fact not so applied. In this respect, therefore, resort to the Ayer case or to the result therein does not seem to be in order.
1 We merely apply section 134 as denying taxation to the trustor, whether under section 22(a) or section 167, because of possible use of trust funds for his minor children. Further, the new statutory rule is applicable only to years beginning after December 31, 1942, unless a certain showing is made in order to apply it to earlier years, to wit, a showing in effect that consent has been filed that the trust will pay the tax. Unless the trustor is, within the terms of section 134, taxable upon the income the section seems to have no effect; so that we appear to be required to find him so taxable and then relieve him as to years earlier than 1943 upon a proper showing made. The sparse facts indicated in this case appear possibly to justify such relief. Assuming, as we did in W. C. Cartinhour, 3 T.C. 482, 493, that the parties will be able to agree upon the application of the new legislation, I concur in the result.