Opinion
Docket Nos. 19725 19726.
1950-06-9
MAMIE TINDALL, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.J. M. TINDALL, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Wm. Q. Boyce, Esq., for the petitioners. D. Louis Bergeron, Esq., for the respondent.
Respondent determined that a partnership existed between petitioner J. M. Tindall and his son in a cotton oil mill business during the taxable years ended May 31, 1945 and 1946, and distributed two-thirds of the losses incurred by that business to petitioners, in accordance with the purported partnership agreement of May 31, 1944. Held, on the facts, it was not the intention of petitioner J. M. Tindall and of his son, either at the time the agreement was entered into or during the taxable years in question, in good faith and acting with a business purpose to join together in the present conduct of the business, and respondent erred in determining that petitioner J. M. Tindall and his son were partners in the business during those years, and in not allocating all of the losses of that business during those years to petitioners. Wm. Q. Boyce, Esq., for the petitioners. D. Louis Bergeron, Esq., for the respondent.
Respondent determined deficiencies in income tax and 5 per cent negligence penalties in the following amounts:
+---------------------------------------------------------+ ¦Petitioner ¦Docket No.¦Fiscal year ¦Deficiency¦Penalty¦ +-------------+----------+-------------+----------+-------¦ ¦ ¦ ¦ended— ¦ ¦ ¦ +-------------+----------+-------------+----------+-------¦ ¦Mamie Tindall¦19725 ¦(May 31, 1945¦$5,906.46 ¦$295.32¦ +-------------+----------+-------------+----------+-------¦ ¦ ¦ ¦(May 31, 1946¦1,303.95 ¦65.20 ¦ +-------------+----------+-------------+----------+-------¦ ¦J. M. Tindall¦19726 ¦(May 31, 1945¦5,667.49 ¦283.37 ¦ +-------------+----------+-------------+----------+-------¦ ¦ ¦ ¦(May 31, 1946¦1,170.75 ¦58.54 ¦ +---------------------------------------------------------+
The proceedings were consolidated for hearing.
The issue is, Did respondent err in determining that petitioner J. M. Tindall and his son, James R. Tindall, were partners in a cotton oil mill business during the taxable years ended May 31, 1945 and 1946, and in not allocating all of the losses of that business during those taxable years to petitioners? In the event they are sustained on the partnership issue, petitioners also claim the right to carry back a net operating loss from the taxable year ended May 31, 1946, to the taxable year ended May 31, 1945, in the amount of $4,759.68. No issue was raised by petitioners nor proof adduced at the hearing as to respondent's assertion of 5 per cent penalties for the taxable years.
FINDINGS OF FACT.
J. M. Tindall and Mamie Tindall, petitioners herein, have been married approximately 28 years. They are residents of Shamrock, within the second collection district of Texas, where they file their individual income tax returns in accordance with the community property laws of the State of Texas. J. M. Tindall, as head and manager of the community, will be referred to as petitioner.
James R. Tindall, son of petitioners, had been a premedical student for over one year at Oklahoma A. & M., located approximately 175 miles from Shamrock, Texas, prior to his induction in the Army on Mary 31, 1943. He received no income in excess of his Army pay as an aviation cadet of $75 per month, less than his $1,500 military exemption allowed by statutes, and therefore reported no income during the taxable years here involved. At the time of his discharge on February 13, 1946, he was a private, first-class. Upon his discharge from the Army he reentered Oklahoma A. & M., graduating therefrom in June or July, 1949, after majoring in business economics. Shortly thereafter he went to work for petitioner. He had never previously worked for petitioner or been in any business in his life.
In 1942 petitioner acquired a cotton oil mill located in Wheeler, Texas, which he removed to Twitty, Texas, and rebuilt during 1943. He continued to operate the mill individually until the end of the fiscal year May 31, 1944. In addition to being a partner in other partnerships, petitioner owned individually additional cotton oil mills, as well as being interested in various other business enterprises.
Prior to May 31, 1944, James R. Tindall owned no property, real or personal. Petitioner decided that his son should have something to come back to when he was discharged from the Army. As a result, on May 31, 1944, while the son was on a three-day pass, they executed the following agreement:
THE STATE OF TEXAS
COUNTY OF WHEELER
WHEREAS, J. M. Tindall is the owner and operator of a cotton oil mill located in Twitty, Texas; and,
WHEREAS, he desires to sell a one-third (1/3rd) interest in said operation to his son, James Ray Tindall, after which same will be operated as a partnership;
THEREFORE, KNOW ALL MEN BY THESE PRESENTS: That I, J. M. Tindall, in consideration of Thirty Thousand Dollars ($30,000.00) to me paid and secured to be paid by James Ray Tindall, do hereby bargain, sell and convey unto James Ray Tindall a one-third (1/3rd) interest in the Tindall Cotton Oil Mill located in Twitty, Texas, said interest conveyed being a one-third interest in and to said buildings in which said mill operates, machinery and equipment of every nature whatsoever used directly or indirectly in connection with said mill. The said sum of $30,000.00 shall be payable at the rate of $3,000.00 per year and shall draw interest at the rate of Four Per Cent (4%) per annum, the first payment being due on or before May 31, 1947, and a similar payment of $3,000.00 on or before May 31st of each succeeding year until said note and all interest thereon is fully paid, said interest payable annually.
It is agreed and understood that this agreement shall operate not only as a Bill of Sale, but shall also operate as a chattel mortgage giving unto the said J. M. Tindall a chattel mortgage lien against all property herein conveyed until said payment is made in full; and this instrument shall also operate as a note to the said J. M. Tindall evidencing the agreement herein made.
It is agreed and understood from this date on there is here now created a partnership between J. M. Tindall and James Ray Tindall which partnership shall be known as Tindall and Son Cotton Oil Mill in which concern the said J. M. Tindall shall have a two-thirds (2/3rds) interest and the said James Ray Tindall a one-third (1/3rd) interest, which said partnership shall continue until mutually dissolved or dissolved by operation of law.
It is agreed and understood that said partnership shall operate at Twitty, Texas, or at such other places as may be mutually agreed upon between the parties hereto.
It is agreed and understood that both parties hereto will share in all profits of said partnership to the extent of 2/3rds for J. M. Tindall and 1/3rd for James Ray Tindall and they shall likewise be liable for any loss in the proportion above set forth.
It is agreed and understood that accurate books and accounts will be kept by said partnership and that each party hereto shall have free access to said books and may have same audited at any time that either partner hereto may desire.
It is agreed and understood that neither partner hereto will sell his interest in said partnership without first giving to the other partner the right to buy the same at the same price at which said partner may be able to sell his interest to any other person which means that either partner hereto shall have the right to buy the interest of the other partner at and for any sum he may get should he sell to a party other than to the partner herein.
It is agreed and understood that the said J. M. Tindall shall be in operation of said partnership and shall conduct the affairs thereof but shall be conducted as a partnership and an account made to said partnership in accordance with the interest of each one therein.
WITNESS our hands to this agreement made in triplicate, each copy of which shall be considered an original, and which will be considered also as a Bill of Sale, Chattel Mortgage, Note and Partnership Agreement, this the 31st day of May, 1944.
(Signed) JAMES R. TINDALL J. M. TINDALL
On July 24, 1944, with the written consent of the petitioners, James R. Tindall, then 19 years old, had his minority disabilities removed by the District Court of Wheeler County, Texas, a court of competent jurisdiction. Paragraph III of his petition to that court stated:
That your petitioner has become the owner of certain property, both real and personal, and that it has become necessary for him to assume management and control of said property, and to contract and perform other functions in connection therewith.
On October 15, 1945, J. M. Tindall & Son Cotton Oil Mill filed a partnership return of income for the fiscal year ended May 31, 1945, wherein it reported a loss of $6,692.60 from the operations of the cotton oil mill, which amount was shown to be distributable as follows:
+--------------------------------+ ¦J. M. Tindall ¦(2/3)¦$4,461.74¦ +----------------+-----+---------¦ ¦James R. Tindall¦(1/3)¦2,230.86 ¦ +----------------+-----+---------¦ ¦Total loss ¦ ¦6,692.60 ¦ +--------------------------------+
The return, prepared by an independent accountant, was executed by petitioner as a partner, and it reported that the alleged partnership was organized on June 1, 1944.
On October 15, 1945, petitioners filed their individual income tax returns for the fiscal year ended May 31, 1945, reporting a net loss of $9,085.45 from their various business enterprises and no tax liability. In arriving at this loss, petitioners treated $4,461.74 as deductible from gross income as their community share of the partnership loss reported in the partnership return.
On August 15, 1946, J. M. Tindall & Son Cotton Oil Mill filed a partnership return of income for the fiscal year ended May 31, 1946, wherein it reported a loss of $50,492.49 from the operations of the cotton oil mill, which amount was shown to be distributable as follows:
+---------------------------------+ ¦J. M. Tindall ¦(2/3)¦$33,661.66¦ +----------------+-----+----------¦ ¦James R. Tindall¦(1/3)¦16,830.83 ¦ +----------------+-----+----------¦ ¦Total loss ¦ ¦50,492.49 ¦ +---------------------------------+
The return, prepared by an independent accountant, was executed by petitioner as a partner, and reported that the alleged partnership was organized on June 1, 1944.
On August 15, 1946, petitioners filed their individual income tax returns for the fiscal year ended May 31, 1946, reporting a loss of $12,865.84 from their various enterprises and no tax liability. In arriving at this loss, petitioners treated $33,661.66 as deductible from gross income as their community share of the partnership loss reported in the partnership return.
On or about April 28, 1947, petitioner and his son executed the following instrument:
THE STATE OF TEXAS
COUNTY OF WHEELER
WHEREAS by instrument dated May 31, 1944, J. M. Tindall did bargain, sell and convey unto James Ray Tindall a one-third interest in the Tindall Cotton Oil Mill located in Twitty, Texas, being a one-third interest in the buildings in which said mill operates, machinery and equipment of every nature whatsoever used directly or indirectly in connection with said mill, the consideration being $30,000.00 payable $3,000.00 per year with interest at four per cent per annum, the first payment being due on or before May 31, 1947, and a similar payment on or before May 31 of each succeeding year and,
WHEREAS it was agreed and understood that such instrument should operate not only ws a bill of sale but also as a Chattel Mortgage giving the said J. M. Tindall a lien against all the property conveyed;
NOW, THEREFORE, in consideration of the full and complete cancellation of said indebtedness for all intents and purposes, and $10.00 cash in hand paid by J. M. Tindall to James Ray Tindall, the said James Ray Tindall does hereby bargain sell and convey unto the said J. M. Tindall his undivided one-third interest in the Tindall Cotton Oil Mill located at Twitty, Texas, said interest conveyed being a one-third interest in and to said buildings in which said mill operates, machinery and equipment of every nature whatsoever used directly or indirectly in connection with said mill; and the said J. M. Tindall does hereby release said Chattel Mortgage as contained in the above described instrument for all intents and purposes and a signed copy of this instrument shall be sufficient instructions to the County Clerk to release said Chattel Mortgage Lien. Witness our hands in triplicate, each copy of which shall be considered an original, this the 28th day of April 1947.
(Signed) J. M. TINDALL JAMES RAY TINDALL
After an examination of the alleged partnership's books and records for the fiscal years 1945 and 1946, the internal revenue agent in charge, on December 15, 1947, advised the alleged partnership of his determination showing corrected losses as follows:
+--------------------------------------+ ¦ ¦5/31/45 ¦5/31/46 ¦ +-----------------+---------+----------¦ ¦Loss per returns ¦$6,692.60¦$50,492.49¦ +-----------------+---------+----------¦ ¦Loss as corrected¦10,607.42¦48,965.11 ¦ +-----------------+---------+----------¦ ¦Increase ¦3,914.82 ¦ ¦ +-----------------+---------+----------¦ ¦Decrease ¦ ¦1,527.38 ¦ +--------------------------------------+
These losses were shown to be distributable as follows:
+-------------------------------------------+ ¦ ¦5/31/45 ¦5/31/46 ¦ +----------------------+---------+----------¦ ¦J. M. Tindall (2/3) ¦$7,071.61¦$32,643.41¦ +----------------------+---------+----------¦ ¦James R. Tindall (1/3)¦3,535.81 ¦16,321.70 ¦ +----------------------+---------+----------¦ ¦Total losses ¦10,607.42¦48,965.11 ¦ +-------------------------------------------+
On September 3, 1947, after conferences with the internal revenue agent and his independent accountant, petitioner, as a partner in J. M. Tindall & Son, signed a Form 875, ‘Acceptance of Revenue Agent's Findings by a Partnership, ‘ showing the above increase in loss, $3,914.82 for the fiscal year 1945, and the above decrease in loss, $1,527.38 for the fiscal year 1946.
After an examination of the books and records of the petitioners, on May 12, 1948, the Commissioner mailed to each petitioner a statutory notice of deficiencies in tax and 5 per cent penalties for the fiscal years 1945 and 1946. In arriving at their taxable net income for each year, respondent allowed as a deduction petitioner's share of the corrected partnership loss for each year, as previously determined above. Various adjustments to net income were made in the notices of deficiency in the form of additions to income from interest, rents and royalties, business, capital gain, partnerships, and other sources, and 5 per cent penalties were determined. In their petitions initiating these proceedings petitioners merely assign error in respondent's determination that petitioner J. M. Tindall and his son James R. Tindall were partners in the J. M. Tindall & Son Cotton Oil Mill during the taxable years and in respondent's consequent allocation of one-third of the operating losses of that business during the taxable years to James R. Tindall rather than to petitioners, along with the other two-thirds. Petitioners also claim in their petitions the right to carry back a net operating loss from the fiscal year ended May 31, 1946, to the fiscal year ended May 31, 1945, in the amount of $4,759.68.
It was not the intention of petitioner J. M. Tindall and of his son, James R. Tindall, either at the time the agreement of May 31, 1944, was entered into or during the fiscal years ended May 31, 1945, and May 31, 1946, in good faith and acting with a business purpose to join together in the present conduct of the business of the Tindall Cotton Oil Mill at Twitty, Texas, referred to in that agreement. James R. Tindall was not a partner with petitioner J. M. Tindall during the above fiscal years.
OPINION
JOHNSON, Judge:
We have before us in these proceedings the unusual situation of the Commissioner urging that there was a partnership between petitioner J. M. Tindall and his son during the taxable years here in question, and petitioners urging that there was not. This claim was first made by petitioners in their petitions initiating these proceedings. It is fundamental that a taxpayer appealing to this Court may set up as a ground of appeal from a proposed additional assessment a right to a deduction which was not claimed in the original return or at any hearing before the Commissioner. Gutterman Straus Co., 1 B.T.A. 243. We have disposed of this issue in our finding of fact that James R. Tindall was not a partner with petitioner J. M. Tindall during the fiscal years ended May 31, 1945 and 1946.
In making that finding we have been guided by the principles set forth by the Supreme Court in the recent case of Commissioner v. Culbertson (1949), 337 U.S. 733. In that case the Court said that one should not be taxed as a partner merely on the basis of ‘the intent to provide money, goods, labor, or skill sometime in the future,‘ and that ‘our decision in Commissioner v. Tower, supra (327 U.S. 380), clearly indicates the importance of participation in the business by the partners during the tax year.‘ In these proceedings it is plain from the facts that there was no participation by James R. Tindall, petitioners' son, in the business of the Tindall Cotton Oil Mill during the tax years. At the time of his signing the agreement of May 31, 1944, upon which signing respondent contends the son became a partner, the son was in the Army, home on a three-day pass. He remained in the Army until February 13, 1946. He then reentered Oklahoma A. & M., not going to work for petitioner until he graduated in 1949. He had never previously worked for petitioner in the cotton oil mill business or been in any business in his life. Obviously, James R. Tindall did not provide labor or skill to the alleged partnership during the taxable years ended May 31, 1945, and May 31, 1946. As the Supreme Court said in footnote 6 in its opinion in the Culbertson case:
Of course one who has been a bona fide partner does not lose that status when he is called into military or government service, and the Commissioner has not so contended. On the other hand, one hardly becomes a partner in the conventional sense merely because he might have done so had he not been called. The cases of Trapp v. Jones (Dist. Ct., W. Dist. Okla.), 87 Fed.Supp. 415, and Isaac Blumberg, 11 T.C. 663, cited by respondent in support of the proposition that the fact that the son was in military service at the time the alleged partnership was formed does not militate against his becoming a partner, are distinguishable for the reason that in both those cases the partnership had been formed prior to the entry of the son into the military service.
But respondent maintains that the son, James R. Tindall, made a valid contribution of capital and that such contribution is evidentiary that he was a bona fide partner. We do not agree that the son made any contribution of capital to the alleged partnership. The agreement of May 31, 1944, recited that the consideration for the conveyance of a one-third interest in the cotton oil mill from petitioner to his son was $30,000, payable at the rate of $3,000 per year beginning May 31, 1947, with interest at the rate of 4 per cent per annum. Thus the son's alleged capital contribution consisted of a note for $30,000, which petitioner testified was to be payable out of profits. However, at the time the son signed the agreement for the purchase of a one-third interest he was a minor. Under the decisions of the Texas courts the contracts of a minor are voidable. Walker v. Stokes Bros. & Co. (Tex. Civ. App.), 262 S.W. 158. The son had his disabilities as a minor removed on July 24, 1944, two months after signing the agreement. Under Jones v. Teat (Tex. Civ. App.), 57 S.W.(2d) 617, the removal of the disabilities of a minor is as effective in changing his legal status to that of an adult as is the occurrence of his twenty-first birthday. Under that case, by the same token, a minor may effectively, subsequent to the removal of his disabilities, disaffirm before performance a contract which he had entered into prior to the removal of the disabilities. That is what happened here. The first payment on the note was not due until May 31, 1947. Before that time, on or about April 28, 1947, the indebtedness was canceled and the son reconveyed his one-third interest in the business to petitioner. Clearly, then, the agreement was executory and voidable at the time it was entered into by the son, an infant, and it was never ratified by him upon the removal of his disabilities, but was in fact avoided before performance by him. Thus the son never contributed any capital to the business, nor was he ever unconditionally bound to do so.
The cases cited by respondent in support of his argument that the son made a valid capital contribution are distinguishable. In Atkins v. United States (Dist. Ct., W. Dist. La.), 86 Fed.Supp. 342, the son, a minor, had his disabilities removed prior to signing the partnership agreement with his father. Moreover, though he borrowed $20,000 of the cash that he contributed from his father, giving a note therefor, he later repaid the note out of profits, thus making an actual contribution to the capital of the partnership. Similarly, in Green v. Arnold (Dist. Ct., N. Dist. Tex.), 87 Fed.Supp. 255, the two minors who were held to be partners had given notes as their capital contribution, which they later repaid out of profits. Here, as we have pointed out, the son's only contribution was a voidable note, which was never ratified, but, instead, was specifically avoided by him. The general rule is that an infant's disaffirmance of his contract nullifies it and renders it void ab initio. 43 C.J.S. 176. It is therefore our holding that the son made no capital contribution to the alleged partnership.
Looking at the evidence as a whole, then, it is our conclusion, as stated in our findings of fact, that it was not the intention of petitioner J. M. Tindall and of his son James R. Tindall, in good faith and acting with a business purpose, either at the time the agreement of May 31, 1944, was entered into or during the fiscal years ended May 31, 1945 and 1946, to join together in the present conduct of the business, in the test of Commissioner v. Culbertson, supra, of the Tindall Cotton Oil Mill at Twitty, Texas, referred to in that agreement. We have accordingly found that James R. Tindall was not a partner with petitioner J. M. Tindall during the taxable years here in question and we hold that respondent erred in determining that he was and in not allocating all of the losses of that business during those years to petitioners.
No issue was raised by petitioners nor was proof adduced at the hearing as to respondent's assertion of 5 per cent penalties for the taxable years. Therefore, we must hold that such penalties were properly asserted as to any deficiencies found in the hearing under Rule 50.
Petitioners also claim in their petitions the right to carry back a net operating loss from the taxable year ended May 31, 1946, to the taxable year ended May 31, 1945, in the amount of $4,759.68. Whether or not petitioners sustained a net operating loss in the taxable year ended May 31, 1946, which they are entitled to carry back to the taxable year ended May 31, 1945, and in what amount is matter of computation which should properly be decided in the hearing under Rule 50. See Hartwig N. Baruch, 11 T.C. 96, 100; affd. (C.A., 2d Cir., 1949 , 178 Fed.(2d) 402.
Decisions will be entered under Rule 50.