Opinion
Docket Nos. 35387 35388.
1952-09-30
ADELE TROUNSTINE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.ESTATE OF NORMAN S. GOLDBERGER, DECEASED, ADELE TROUNSTINE, EXECUTRIX, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
George B. Levy, Esq., for the petitioners. Arthur L. Nims, Esq., for the respondent.
1. Where the managing member of a joint venture wrongfully withhold profits earned in 1933, which were recovered by the entitled decedent's estate in 1944 as the result of a court decree and the entitled decedent knew nothing of the wrongfully withheld profits in 1933 and his estate was without knowledge of them at, and for 3 years after, his death, held, the defrauded party's estate received gross income in 1944, the year of recovery.
2. Wrongfully withheld profits earned in 1933 and recovered in 1944 by the entitled decedent's estate, held, distributable to the beneficiary under the decedent's will pursuant to the provisions of section 162 of the Internal Revenue Code.
3. Where the decree restored the position of status quo and required the successful litigant to return to the defendants certain shares of stock simultaneously with the satisfaction of the judgement, held, the transaction does not constitute a sale or exchange within the meaning of section 117 of the Internal Revenue Code. George B. Levy, Esq., for the petitioners. Arthur L. Nims, Esq., for the respondent.
The respondent determined deficiencies in income tax and a delinquency penalty for the calendar year 1944 as follows:
+-----------------------------------------------------+ ¦Deficiency ¦ ¦ ¦ +------------------------------+----------+-----------¦ ¦Petitioner ¦Tax ¦25 per cent¦ +------------------------------+----------+-----------¦ ¦ ¦ ¦penalty ¦ +------------------------------+----------+-----------¦ ¦Adele Trounstine ¦$17,115.34¦ ¦ +------------------------------+----------+-----------¦ ¦Estate of Norman S. Goldberger¦1,044.23 ¦$261.06 ¦ +-----------------------------------------------------+
The respondent, by amended answers, asks an increased deficiency in each proceeding.
The cases were consolidated for hearing and the issues presented are as follows:
1. Did the proceeds of a suit brought by the executrix of the estate of Norman S. Goldberger in connection with a certain joint venture entered into by the decedent in 1933 constitute gross income to the estate in 1944, the year in which the proceeds were received?
2. Did the estate of Norman S. Goldberger realize a short term capital gain taxable to the estate as the result of its disposal of certain shares of stock in 1944?
3. To what deduction, if any, was the estate of Norman S. Goldberger entitled in 1944 for income distributable to the beneficiary and were the proceeds taxable to the beneficiary, Adele Trounstine, in that year?
4. Did the respondent correctly determine a 25 per cent delinquency penalty against the estate of Norman S. Goldberger for failure to file a Federal income tax return for 1944?
FINDINGS OF FACT.
The facts stipulated by the parties are found accordingly.
Adele Trounstine, the individual petitioner herein resides in Long Branch, New Jersey. Her Federal income tax return for 1944, the year herein involved, was filed with the collector of internal revenue for the first district of New Jersey.
Norman S. Goldberger, whose estate is a petitioner herein, died a resident of New Jersey on March 3, 1936, and an estate tax return was duly filed on behalf of the estate. No tax return was filed on behalf of the estate for 1944. Norman S. Goldberger died testate, leaving a last will which was duly admitted to probate on March 16, 1936, by the Surrogate of the County of Monmouth, New Jersey. Letters testamentary were duly issued thereon and granted to petitioner Adele Trounstine, widow of Norman S. Goldberger, then known as Adele Goldberger, who duly qualified as, and continues to be, the executrix.
In 1944 the estate of Norman S. Goldberger was a successful litigant in an action against Bauer, Pogue & Co. Inc., et al. This lawsuit arose out of a certain joint trading account entered into by the decedent, hereinafter referred to as Goldberger, and the brokerage firm of Bauer, Pogue & Co. Inc., et al., hereinafter referred to as defendants, in 1933. Goldberger had been the majority stockholder of Fidelio Brewery, Inc. Between June 6 and June 8, 1933, the defendants had profitably sold 334,000 shares of Fidelio stock, and Goldberger and the defendants had other stock in the same company which they concluded could be profitably marketed. For the purpose of dealing in that stock, the parties entered into an agreement forming a joint venture on or about June 8, 1933. This agreement was confirmed in writing on June 9, 1933. The agreement was substantially to the effect that defendants would manage a joint trading account for the mutual benefit of defendants, Goldberger and one George E. Tribble, and that the parties to the agreement would grant the account options to purchase Fidelio Stock at $3 per share in the following amounts:
+------------------------------------+ ¦Norman S. Goldberger ¦50,000 shares¦ +----------------------+-------------¦ ¦Bauer, Pogue & Co. Inc¦50,000 shares¦ +----------------------+-------------¦ ¦George E. Tribble ¦15,000 shares¦ +------------------------------------+
By the terms of the written agreement Goldberger was to receive 50/115ths of the net profits of the joint venture. The joint venture was active from June 8, 1933, to August 2, 1933, and during its operation the defendants secretly traded in Fidelio stock for their own profit and without Goldberger's knowledge. These secret dealings were violative of the fiduciary relationship existing between the defendants and Goldberger as the result of the venture. An accounting was rendered to Goldberger by the defendants on September 11, 1933, which indicated that there was due to him the sum of $71,847.58. It was later judicially determined that Goldberger should have received from the defendants an additional sum of $60,163.73 against which 12,756 1/2 shares of his stock should have been optioned.
Goldberger died innocent of any knowledge of any wrong done to him by the defendants in 1933. The wrongfully withheld profits were not reported by him, of course, in his 1933 income tax return. In 1936 his estate was administered and the assets distributed pursuant to his will while the estate was completely ignorant of the wrong done to Goldberger by the defendants in 1933.
In 1939, after acquiring knowledge of the defendants' wrongful dealings, Adele Trounstine as executrix commenced suit against the defendants in the Supreme Court of the State of New York. On or about September 27, 1939, the action was removed to the United States District Court for the Southern District of New York upon petition of the defendants, and the estate's action against Bauer, Pogue & Co. Inc., et al., was tried in that court on December 1 and 2, 1941. An interlocutory judgment, directing an accounting before a Special Master, was entered on April 14, 1942. Hearings were thereafter held before the Special Master, who filed a report in which he determined the amount due and owing to Goldberger's estate. In that report the Special Master also found that the defendants were entitled to receive from the estate 12,756 1/2 shares of the stock of Fidelio Brewery, Inc., as a condition to the collection by the estate of the amount found to be due to it. However, the Special Master found that the defendants had failed in 1933 to deliver back to Goldberger 693 shares of that stock and accordingly recommended that the estate be required to deliver 12,063 1/2 shares.
Objections to the Special Master's report were filed by each of the parties, and on September 17, 1943, the District Court filed its final opinion in passing on the objections and confirming the report of the Special Master with certain modifications. In this opinion the court found the estate was entitled to interest upon the amount found due to be computed from September 11, 1933. It also directed that the Special Master's fee of $4,500 and the expense of $599.25 for stenographers' minutes furnished the Special Master be allowed as disbursements in the estate's bill of costs. The District Court filed a further memorandum opinion dated October 6, 1943, determining the amount to be recovered by the estate, and further directed that the estate be required to return to the defendants 12,063 1/2 shares of the stock of Fidelio Brewery, Inc., simultaneously with the payment of the judgment. The defendants appealed to the United States Court of Appeals for the Second Circuit, which affirmed the judgment with an opinion reported in 144 F.2d 379. Certiorari was denied by the Supreme Court of the United States in 323 U.S. 777. The judgment was satisfied by the delivery to the estate of a check for $108,453.59 upon the delivery of 12,063 1/2 shares of Fidelio Brewery, Inc. stock by the estate to the defendants as directed by the final decree.
The sum of $108,453.59 was made up of the following items:
+----------------------------------------------------------------------------+ ¦Net profit as found by the Master ¦$78,723.86 ¦ +----------------------------------------------------------------+-----------¦ ¦Add expenses claimed by defendants disallowed ¦1,030.51 ¦ +----------------------------------------------------------------+-----------¦ ¦Also the cost of stock in the Valenti and Williams accounts ¦ ¦ +----------------------------------------------------------------+-----------¦ ¦(defendants' nominees) improperly credited ¦6,118.00 ¦ +----------------------------------------------------------------+-----------¦ ¦Making a total net profit of ¦$85,872.37 ¦ +----------------------------------------------------------------+-----------¦ ¦Goldberger's share, 50/115ths of this net profit would be ¦$37,335.81 ¦ +----------------------------------------------------------------+-----------¦ ¦To which should be added the cost of the stock optioned from him¦ ¦ +----------------------------------------------------------------+-----------¦ ¦at $3 per share ¦56,406.00 ¦ +----------------------------------------------------------------+-----------¦ ¦And the cost of the stock as to which the option should have ¦ ¦ +----------------------------------------------------------------+-----------¦ ¦been exercised at $3 per share ¦38,269.50 ¦ +----------------------------------------------------------------+-----------¦ ¦A total of ¦$132,011.31¦ +----------------------------------------------------------------+-----------¦ ¦Deduct payments made to Goldberger in 1933 of ¦71,847.58 ¦ +----------------------------------------------------------------+-----------¦ ¦Balance due plaintiff of ¦$60,163.73 ¦ +----------------------------------------------------------------+-----------¦ ¦Plus interest: ¦ ¦ +----------------------------------------------------------------+-----------¦ ¦Sept. 11, 1933, to Mar. 3, 1936 (from termination of ¦ ¦ +----------------------------------------------------------------+-----------¦ ¦account to date of testator's death) ¦8,834.07 ¦ +----------------------------------------------------------------+-----------¦ ¦Mar. 3, 1936, to Oct. 13, 1943 (testator's death to date ¦ ¦ +----------------------------------------------------------------+-----------¦ ¦of judgement) ¦27,585.02 ¦ +----------------------------------------------------------------+-----------¦ ¦Oct. 28, 1943, to Dec. 6, 1944 (interest during appeal ¦ ¦ +----------------------------------------------------------------+-----------¦ ¦period) ¦6,746.52 ¦ +----------------------------------------------------------------+-----------¦ ¦Costs and disbursements per final decree ¦5,124.25 ¦ +----------------------------------------------------------------+-----------¦ ¦Total ¦$108,453.59¦ +----------------------------------------------------------------------------+
Out of the judgment so recovered, the following amounts were expended:
+--------------------------------------------------------------------+ ¦Bernheimer and Zucker: ¦ ¦ +---------------------------------------------------------+----------¦ ¦Attorneys' fees ¦$21,799.29¦ +---------------------------------------------------------+----------¦ ¦Disbursements ¦1,925.31 ¦ +---------------------------------------------------------+----------¦ ¦Sidney Rosenbaum: ¦ ¦ +---------------------------------------------------------+----------¦ ¦Attorney's fees ¦21,799.29 ¦ +---------------------------------------------------------+----------¦ ¦Disbursements ¦152.93 ¦ +---------------------------------------------------------+----------¦ ¦Special Master's fee ¦4,500.00 ¦ +---------------------------------------------------------+----------¦ ¦Adele Trounstine, reimbursement of expenses advanced ¦250.00 ¦ +---------------------------------------------------------+----------¦ ¦Total expenses (including $5,124.25 allowed by the court)¦$50,426.82¦ +---------------------------------------------------------+----------¦ ¦Amount paid for stock to be returned to defendants ¦14,428.20 ¦ +---------------------------------------------------------+----------¦ ¦ ¦$64,855.02¦ +--------------------------------------------------------------------+
The balance of the amount recovered, amounting to $43,598.57, was paid to Adele Trounstine as ancillary executrix.
The last mentioned sum was in turn paid to Adele Trounstine individually as beneficiary of the residuary trust created under clause FIFTH of the last will and testament of Norman S. Goldberger, deceased. Clause FIFTH of the will reads as follows:
FIFTH: If my wife, ADELE D. GOLDBERGER, be living at the time of my death, I give, devise and bequeath all the rest, residue and remainder of my estate, of every kind and description, whether real, personal or mixed and wherever located, of which I may die seized or possessed or to which I may be in any way entitled, unto my Trustees hereinafter named, in trust, nevertheless, to have and to hold the said rest, residue and remainder upon and for the following trusts and purposes; that is to say:
I hereby authorize my said Trustees to take into their possession or control as soon after my death as feasible and to hold or to sell or otherwise dispose of the whole or any part or parts of the said trust estate, at such prices, upon such terms and subject to such conditions and in such manner, in all respects, as they in their discretion shall think fit, and to invest and reinvest any moneys in the trust estate or coming into the hands of the Trustees, receiving and disposing of the income derived from the trust estate as hereinafter directed.
I direct the Trustees to pay over to ADELE D. GOLDBERGER, my wife, quarter-annually or oftener in their discretion, all the net income derived from the trust estate up to the sum of Fifty Thousand Dollars ($50,000), as well as all income in excess of Sixth Thousand Dollars ($60,000) in each year. Whenever the net income for any year shall exceed Fifty Thousand Dollars ($50,000), said Trustees shall pay such excess net income up to but not exceeding Ten Thousand Dollars ($10,000) in any year to my sister, LENA NEUBERGER, during her life. If the said LENA NEUBERGER shall not be living at the time this trust shall take effect or if she shall predecease my said wife, ADELE D. GOLDBERGER, it is my intention that in such event all of said income shall be paid over to my wife, ADELE D. GOLDBERGER. It is my intention that my said sister shall receive a part of the net income of the trust estate only for such years in which the net income shall exceed Fifty Thousand Dollars ($50,000) shall be less than Ten Thousand Dollars ($10,000), the deficit below Ten Thousand Dollars ($10,000) shall not be made up to her out of the income for any other period.
The Trustees acting at the time shall have unlimited and uncontrolled discretion as to the method of calculating the amount of the net income for any year and in determining the items to be included or excluded in such calculation, and the determination of said Trustees as to the interpretation and intention of this paragraph of my will and as to the amount, if any, payable to my said sister for any year shall be conclusive upon my said sister and upon all other persons.
I hereby direct that if the income from the said trust estate shall be insufficient to pay my said wife Twelve Thousand Dollars ($12,000) in any year, the Trustees shall at her request pay over to her out of the principal of the trust estate the amount necessary to make up such sum of Twelve Thousand Dollars ($12,000), disposing of any securities or other property in said trust estate for that purpose.
Prior to receipt of $43,598.57, the only payments theretofore made to Adele Trounstine as such trust beneficiary aggregated $79,272.61, which were made both from the income and principal of the estate and constituted payment to her of the entire residuary estate after payment of taxes, administrative expenses, debts, and specific legacies.
OPINION.
HILL, Judge:
On December 6, 1944, the estate of Norman S. Goldberger, plaintiff in a lawsuit against Bauer, Pogue & Co. Inc., et al., received a check for $108,453.59 in satisfaction of a judgment rendered against the defendant corporation. The respondent determined, as reflected in notices of deficiency and his amended answers, that the estate thereby received gross income in 1944 against which it was entitled to deduct certain costs of litigation and amounts currently distributable to the beneficiary under Goldberger's will.
The petitioners contend that the excess of the proceeds of the judgment over allowable expenses constitutes corpus of the estate. They further contend that the principal amount of $60,163.73 was joint venture income earned in 1933 and therefore taxable in that year under the provisions of the Revenue Act of 1932, sections 182(a) and 1111(a)(3), providing in general that income of partnerships and joint ventures is taxable to the partners or coadventurers in the year earned whether distributed or not.
The proposition that proceeds recovered by litigation are income in the year actually received if they would have been income in the earlier year out of which the litigation arose would seem to be a well settled principle of law. North American Oil Consolidated v. Burnet, 286 U.S. 417. The principle has been applied in various cases involving widely divergent factual situations, e.g., United States v. Safety Car Heating & Lighting Co., 297 U.S. 88; Swastika Oil & Gas Co. v. Commissioner, 123 F.2d 382, certiorari denied 317 U.S. 639.
The taxability of the proceeds of a lawsuit depends upon the nature of the claim and the actual basis of the recovery in the suit. See Nicholas W. Mathey, 10 T.C. 1099, 1107, affd. 177 F.2d 259, certiorari denied 339 U.S. 943.
In the instant case the petitioners admitted that the estate was compensated for wrongfully withheld profits, and where the taxpayer is compensated for lost profits, the amount of the recovery is income.
We think the purpose of sections 182(a) and 111(a)(3) of the Revenue Act of 1932 was to prevent the arbitrary shifting of income by members of a partnership and/or a joint venture from year to year so as to obtain unmerited tax benefits. The $60,163.73 is held to be income to the estate of Norman S. Goldberger in 1944 for the reason that until that time the estate had no uncontested right to receive these wrongfully withheld profits. The recovery was the product of the decree rendered by a court. Until the decree the estate had no established or uncontroverted right to the funds, did not receive them, and could not have reported them as income in prior years. Swastika Oil & Gas Co. v. Commissioner, supra.
On final settlement of its claim against Bauer, Pogue & Co. Inc., et al., the estate was allowed interest in the sum of $43,165.61 on the principal amount of recovery. Section 22(a) of the Internal Revenue Code, which defines gross income, includes in that definition ‘gains, profits and income derived from * * * interest.‘ Thus, the sum of $36,419.09, representing interest from 1933 through 1943, and the sum of $6,746.52, representing interest during the appeal period, constituted interest income to the estate of Norman S. Goldberger.
The petitioners, relying upon section 42 of the Revenue Act of 1934, the law in effect at Norman S. Goldberger's death, would have us separate the amount of interest recovered into interest accrued on the principal amount of the recovery from 1933 to March 3, 1936, and from 1936 to date of the final judgment. Thus, say the petitioners, $8,834.07 represents interest accruable as of the date of the decedent's death, and required by section 42 of the Revenue Act of 1934 to be included in the last return of the decedent and hence barred by the statute of limitations long since. Until the final determination made by the court in 1944, the estate of Norman S. Goldberger had no uncontroverted or unconditioned right to interest. Goldberger's death could not sever to accrue a right, the existence of which was not finally determined until 8 years later. See Ralph E. Hedges, 18 T.C. 681.
The executrix was required by the District Court's decree to return to the defendants, Bauer, Pogue & Co., Inc., et al., 12,063 1/2 shares of Fidelio Brewery, Inc., stock simultaneously with the receipt of the judgment award. This was so because the object of the decree was to place the parties in the status quo as it would have existed in 1933 had it not been for the fraud of the venturer Bauer, Pogue & Co. Inc. It was necessary for the estate to purchase these shares on the open market at a cost of $14,428.20.
The respondent contends that this transaction resulted in the shares being constructively optioned pursuant to the terms of the 1933 agreement at $3 per share, or $36,190.50. Thus, reasons the respondent the estate realized a short term gain from a sale or exchange within the meaning of section 117(b) of the Internal Revenue Code (before amendment by the Revenue Act of 1951) of $21,762.30, against which the respondent would allow an allocation of the expenses of litigation of $15,866.99, leaving a net of $5,895.31 as the actual short term capital gain realized. Respondent contends that this net capital gain is taxable to the estate in 1944 even though actually distributed to the beneficiary, since section 162(c) of the Code provided a deduction to the estate only for income which is ‘properly paid or credited‘ to the beneficiary during the year, and relies upon Simon v. Hoey, 88 F.2dSupp. 754, affd. per curiam 180 F.2d 354, certiorari denied 339 U.S. 966.
It is not necessary for us to consider the respondent's position with respect to section 162(c) of the Code for the facts do not support his position with respect to the realization of a short term capital gain. The petitioners did not sell or exchange the shares of stock in question for the judgment. The transaction was not of a capital nature in any respect. When the shares of stock were returned they were returned in compliance with a condition precedent laid down in the District Court's decree to petitioners' right to recover the profits wrongfully withheld by the defendants and the interest due upon that sum.
The petitioners' argument that the gross amount of the recovery must be allocated between corpus and income in the estate of Norman S. Goldberger must go the way of the respondent's arguments relating to the existence of a capital gain. The FIFTH clause of Goldberger's will directed the trustees to pay over to the individual petitioner herein any income derived from the trust estate up to the sum of $50,000, as well as all income in excess of $60,000 in each year. We have seen that the recovery constituted income to the estate in 1944; therefore, it follows that the net of $43,165.61 ultimately received by Adele Trounstine qualifies as income distributable in 1944 under the will of her deceased husband, Norman S. Goldberger.
We hold that the estate of Norman S. Goldberger received gross income of $108,453.59 in its taxable year 1944, against which it was entitled to deduct expenses of the litigation in the amount of $64,855.02 and the sum of $43,598.57 as income currently distributable and hence taxable to the beneficiary, Petitioner Adele Trounstine, in that year under the provisions of section 162 of the Internal Revenue Code.
As to the respondent's argument relating to the 25 per cent penalty determined against the estate for failure to file, this issue is now moot as a result of our determination of no deficiency against the estate of Norman S. Goldberger.
Reviewed by the Court.
Decisions will be entered under Rule 50.