Opinion
Docket No. 65071.
1960-06-15
AYRTON METAL COMPANY, INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Joseph W. Burns, Esq., and Simon Gluckman, Esq., for the petitioner. Charles M. Greenspan, Esq., for the respondent.
Joseph W. Burns, Esq., and Simon Gluckman, Esq., for the petitioner. Charles M. Greenspan, Esq., for the respondent.
The petitioner and Metal Traders, both corporations engaged in the business of buying and selling various types of ores, agreed orally in November of 1947 to purchase the output of the Churquini antimony mine in Bolivia on a joint account basis, sharing profits and losses equally and selling the ore only on mutually satisfactory terms. It was understood that the joint account was to continue so long as it had a contract with the mine owner to purchase Churquini ore. During the existence of the joint account, three contracts were signed with the mine owner. The first contract, which was in effect from January 1 to September 30, 1948, was completed successfully. The term of the second contract was from October 1, 1948, to December 31, 1949, while the third contract was to have begun January 1, 1950, and was to have ended April 30, 1950. In December of 1949, shortly before the completion of the second contract but after the signing of the third contract, a dispute arose over the amount of profit earned under the second contract. After extensive negotiations, it was agreed that the profits under the second contract approximated $52,000, and settlement was made on that basis with petitioner receiving $26,000. The third contract was taken over by Metal Traders with petitioner being no longer liable for losses and having no share in the profits. With respect to trading in Churquini ore, if any, in the period after expiration of the third contract, it was agreed that petitioner should receive a ‘commission’ on the purchases thereof by Metal Traders based upon profits realized, but in no event less than 2 per cent of the purchase price of the ore. In December of 1951 and after negotiation of the amount due petitioner under the ‘commission’ agreement, Metal Traders paid petitioner $40,000 as the amount owing. Held, that the $26,000 payment received in the fiscal year 1950 was the petitioner's share of the profit earned by the joint venture under the second contract and is taxable as ordinary income. Held, further, that the $40,000 received by petitioner in the fiscal year 1952 under the new arrangement was likewise ordinary income.
Respondent determined deficiencies in income and excess profits taxes against the petitioner as follows:
+------------------------------------+ ¦Year ended Aug. 31— ¦Deficiency ¦ +-----------------------+------------¦ ¦1950 ¦$6,216.73 ¦ +-----------------------+------------¦ ¦1951 ¦12,810.68 ¦ +-----------------------+------------¦ ¦1952 ¦10,276.47 ¦ +------------------------------------+
On brief, the petitioner waived its claim to a deduction of $4,967.08 for the fiscal year 1950.
The only issue for decision is whether certain payments to the petitioner of $26,000 in its fiscal year ended August 31, 1950, and $40,000 in its fiscal year ended August 31, 1952, are taxable as capital gains or as ordinary income. If the $40,000 payment constitutes ordinary income, there will be a reduction in the petitioner's unused excess profits credit carryback in the year ended 1951.
FINDINGS OF FACT.
The petitioner is a New York corporation with its principal office in New York City. It filed its income tax returns for the fiscal years ending August 31, 1950, and August 31, 1951, with the collector of internal revenue for the third district of New York, and for the year ending August 31, 1952, with the district director for Upper Manhattan.
During the taxable years involved herein the petitioner was engaged in the metal trading business, buying and selling various types of ores. Its officers were Richard Ayrton, president, and Heinrich Meyer, vice president, each of whom directed the management of the corporation.
In 1947, Richard Ayrton's brother, Samuel Ayrton, who operated a metal trading business in London, learned of the possibility of purchasing the Empresa Minera Santiago Wright antimony mines near Atocha, Bolivia, hereafter referred to as the Churquini Mine. The mine owner, Mrs. Theodosia Monson, a resident of London and referred to hereafter as the owner, had inherited the mine from her brother 7 years previously. She was having difficulty in obtaining someone to manage the mine, and its was not producing any income for her. In an effort to sell the mine, she appointed James Bennett as her representative in London. Bennett, a friend of Samuel Ayrton, informed him of the situation. Samuel Ayrton, in turn, discussed the availability of the Churquini Mine with his brother and asked him to contact a metal trading firm in New York with a Bolivian representative who might be able to manage the mine and investigate the possibility of buying it. A Bolivian agent was necessary because of the problems of foreign exchange control, financial and legal restrictions, and management of the mine. Neither of the Ayrtons had any affiliations there.
Richard Ayrton contacted Metal Traders, Inc., hereafter referred to as Metal Traders, one of the world's largest dealers in antimony ore. It had a representative in La Paz who supervised its purchases of ore from other antimony mines in Bolivia. Metal Traders, a New York corporation with its principal office in New York City, is a wholly owned subsidiary of Metal Traders, Ltd., of London.
In October of 1947, Richard Ayrton and Heinrich Meyer met with representatives of Metal Traders and its parent corporation in New York City to consider the Churquini Mine proposition. It was decided orally that the petitioner and Metal Traders would contract to purchase the mine output rather than the mine itself. The ore was to be bought on a joint account basis, an arrangement commonly employed in the metal trading business. Pursuant to this arrangement, it was agreed that profits and losses would be shared equally, that the ore would be bought and sold only on mutually satisfactory terms, that Metal Traders would supervise the mine and supply all of the capital necessary for buying the ore, that the petitioner would supply the contract with the owner, and that Metal Traders would manage the joint account and arrange for sales of the ore. If it became necessary to advance funds for the operation of the mine on behalf of the joint account, Metal Traders was to obtain bank loans, charging the interest thereon against the joint account. The joint account related only to the Churquini Mine, and Metal Traders was free to deal in antimony ore from other sources on its own behalf.
It was understood that the joint account was to exist so long as it had a contract with the owner to purchase Churquini ore. Any continuation of ore purchases after any contract had terminated would require a further affirmative agreement to that effect between the petitioner and Metal Traders.
The estimated price per unit was adjusted downward from the actual sale price to allow for freight costs of about 35 cents per unit to Antwerp and about 50 cents per unit to Yokohama.
The record does not explain the shortage of 0.360 tons of ore.
When the third contract expired on April 30, 1950, Metal Traders continued to purchase antimony ore without a contract with the owner, bidding in competition with other metal trading firms. Having learned in February from its Bolivian representative that the owner had offered to sell the Churquini Mine to certain persons who were unable to buy it and that it could be purchased at a reasonable price, Metal Traders on November 28, 1950, bought the mine from her for 30,000 pounds sterling, equivalent to $84,000.
The purchase of the mine by Metal Traders precipitated another dispute with the petitioner, this time involving the amount of ‘commission’ to be paid under the new arrangement. The petitioner demanded more than the minimum 2 per cent of the purchase price of the ore, claiming that Metal Traders had made substantial profits since the termination of the joint account. At first the petitioner asked for $75,000 but after extensive negotiations Metal Traders finally agreed to pay $40,000. The terms of the compromise were contained in a contract dated December 19, 1951, which stated:
On January 24, 1950 it was agreed between Ayrton Metal Company, Inc. (hereinafter called ‘Ayrton’) and Metal Traders, Inc. (hereinafter called ‘Metal Traders') that Ayrton would assign to Metal Traders its interest in the joint venture marketing arrangement for the output of the Churquini Mine in consideration of:—
(1) A payment of Twenty Six Thousand Dollars ($26,000.00) in full and final settlement of Ayrton's interest in the Churquini second and
(2) At least two percent (2%) of the contract purchase price of all Ore purchased by Metal Traders from the Churquini Mines subsequent to the third contract, under an arrangement which would continue in force so long as the Churquini Mine remained in the ownership of Mrs. Theodosia Monson.
Subsequent to making the aforesaid Agreement, Metal Traders entered negotiations with Mrs. Monson to purchase the Churquini Mine and the negotiations were concluded on November 28, 1950, on which date Metal Traders acquired ownership of the properties.
During the period January 24, 1950, Metal Traders purchased 1,040 tons of Antimony Ore from the Churquini Mine. These purchases were subject to payment to you of at least 2% of the contract purchase price in accordance with the Agreement made on January 24, 1950. We offered to pay you 2% of the contract purchase price on the aforesaid 1,040 tons, but you declined this settlement claiming to be entitled to a far greater sum. The matter became the subject of protracted discussions and has been finally resolved by a compromise whereby Metal Traders has agreed to pay Ayrton the sum of Forth Thousand Dollars ($40,000.00) shall be in full and final settlement of any and all claims of Ayrton with respect to any and all rights which originated out of the joint venture marketing arrangement and the assignment thereof, pursuant to the Agreements of January 24, 1950. It is further agreed that the aforesaid sum of Forty Thousand Dollars ($40,000.00) shall include the claim of $8,400.00 as asserted by Mr. Richard Ayrton for his interest in the joint venture marketing arrangement.
No articles of partnership were filed with the State of New York, and no partnership tax returns, either State or Federal, were filed with respect to the Churquini joint account. No taxable year was established for the Churquini account. Distributions of profit, if any, were made upon the completion of each contract to purchase ore.
The petitioner reported the payments of $26,000 and $40,000 as gains upon the sale of a capital asset on its income tax returns. The respondent determined the payments to be ordinary income.
Decision will be entered under Rule 50. With respect to the duration of the joint account, Kurt Friedlander, vice president of Metal Traders, testified as follows:‘Q. If either one wanted to discontinue the relationship—A. If either one wanted to discontinue, he could get out for the future, after the present contracts were finished.Q. What was agreed should the contract with Mrs. Monson not be renewed; in other words, this first contract had a limited duration; is that correct?A. Right.Q. Now, what was the understanding of the parties as to the continuance of the joint account?A. I think a fair statement would be that if both partners wanted to continue the joint account after the expiration of the first contract, they would continue to do so provided they could do it, provided Mrs. Monson would agree.Q. Would continue to sell the ore?A. That is right.Q. Otherwise the joint account would terminate?A. That is right.' 2. The evidence in the record is conflicting as to the total amount of ore actually shipped to Japan by the joint account. The amount appears to have been either 857.187 tons or 861.711 tons.
During the existence of the joint account, it had three contracts with the owner:
The first contract was in effect from January 1 until September 30, 1948. It was negotiated on behalf of the joint account by Samuel Ayrton and was signed on January 8 by Metal Traders as the buyer and by the owner as the seller. She was unaware of the petitioner's participation in the purchase of the ore, and, in fact, was led to believe that Metal Traders was merely paying the petitioner a commission. Under the contract, Metal Traders agreed to purchase the entire output of the Churquini Mine and to advance up to 75 per cent of the price of the ore to be delivered. Metal Traders was granted an option to purchase the mine at any time before the expiration of the agreement upon the payment of a price of 40,000 pounds sterling.
The second contract began October 1,1948, and continued through December 31, 1949. It also provided for the purchase by Metal Traders of the mine output and for the advance of up to 75 per cent of the purchase price of ore. The option to buy the mine was extended to December 31, 1949. By the end of the first contract Metal Traders, acting for the joint account, had advanced approximately $38,000 more than the mine was entitled to receive for the ore which had been delivered and if the excess was to be recovered, it was necessary to continue to purchase Churquini ore, deducting the advances from the price paid for it.
Unlike the first and second contracts, the third contract provided for the purchase of 360 tons of antimony ore to be delivered between January 1 and April 30, 1950, rather than for the purchase of the mine output. The agreement, which was reached on October 20, 1949, contained a provision that no Churquini production for 1950 would be sold to other buyers without the consent of Metal Traders until the 360 tons had been delivered, and the option to purchase the mine which had been granted to Metal Traders under the first and second contracts was discontinued. Due to a sharp drop in the antimony market during the latter part of 1949, the price to be paid for the ore under the third contract was approximately 37 per cent less than the price paid by the joint account under its previous contracts.
All of the ore purchased by the joint account under the first contract was sold, and Metal Traders paid the petitioner its share of the profits. By letter dated July 7, 1949, Metal Traders sent the petitioner a check in the amount of $18,532.04, ‘in settlement of the Joint Account profit under the first contract with Churquini.’ This amount was reported by the petitioner in its income tax return for the fiscal year ended August 31, 1949, as ordinary income.
In November of 1949, as the second contract was nearing completion, a controversy developed between the petitioner and Metal Traders over the method of accounting for the profits earned under that contract. Six months earlier Metal Traders had agreed to sell 783 tons of antimony ore at a price of $4.99 per unit, c.i.f. Yokohama, to the Japanese Ministry of International Trade and Industry. The sale was negotiated as a sale for the joint account, and there was close collaboration between the petitioner and Metal Traders in setting the price low enough to assure that the entire order would be obtained. The petitioner's officers understood that the sale would consume the entire tonnage from the Churquini Mine for the balance of the second contract. However, the shipments to Japan were required to be made by the end of November at which time the mine had not produced enough ore to complete the order. As a result, Metal Traders, in filling the order, used 419.623 tons
of antimony ore from its own stocks. Metal Traders contended that the transaction to that extent thus became a sale by it of its ore and was not a transaction of the joint account. On the other hand, the petitioner argued that in computing the profit earned by the joint account, the Japanese sale would be treated as having been made up entirely of Churquini ore in accordance with the original plan. Under the petitioner's view, Metal Traders was to account for the total tonnage produced by the Churquini Mine from July to December of 1949 on the basis of $4.99 per unit regardless of whether the ore shipped in fulfillment of the Japanese sale was in fact Churquini ore.
A settlement offer was made by Metal Traders whereby it would account to the petitioner under the second contract only for the Churquini production actually delivered to Japan at $4.99 per ton, would take any loss on the sale of the remaining ore produced under the second contract, and would allow the petitioner to be released from its agreement under the third contract covering the future purchase of 360 tons. This offer was rejected by the petitioner.
Heinrich Meyer, the petitioner's vice president, met with representatives of Metal Traders on December 28, 1949, to discuss their disagreement. Metal Traders proposed a new settlement offer of $26,000, an amount approximately equal to one-half of the estimated profit on sales of Churquini ore produced under the second contract on the basis of the petitioner's contention that the Japanese sale was entirely for the joint account. The calculations upon which Metal Traders based its offer were made on a restaurant tablecloth during lunch. The profit was determined by the following rough estimates:
+-----------------------------------------------------------------------------+ ¦Sales of Ore ¦Tons ¦Units ¦Price per ¦Cost per¦Profit per¦Net ¦ ¦ ¦ ¦ ¦unit 1 ¦unit ¦unit ¦profit ¦ +------------------------+-----+------+-----------+--------+----------+-------¦ ¦Compagnie Metallurgique ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦de la Campine ¦ ¦ ¦ ¦ ¦ ¦ ¦ +------------------------+-----+------+-----------+--------+----------+-------¦ ¦Belgium; and W.R. Grace ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦& ¦ ¦ ¦ ¦ ¦ ¦ ¦ +------------------------+-----+------+-----------+--------+----------+-------¦ ¦Co., New York ¦400 ¦24,000¦$5.40 ¦$4 ¦$1.40 ¦$33,600¦ +------------------------+-----+------+-----------+--------+----------+-------¦ ¦Ministry of ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦International Trade and ¦ ¦ ¦ ¦ ¦ ¦ ¦ +------------------------+-----+------+-----------+--------+----------+-------¦ ¦Industry, Japan ¦780 ¦46,800¦4.40 ¦4 ¦.40 ¦18,720 ¦ +------------------------+-----+------+-----------+--------+----------+-------¦ ¦Total ¦1,180¦70,800¦ ¦ ¦ ¦52,320 ¦ +------------------------+-----+------+-----------+--------+----------+-------¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +-----------------------------------------------------------------------------+
The details of the offer were forwarded to Samuel Ayrton in a letter written by Heinrich Meyer, dated December 29, 1949. In explaining the terms of the offer, Meyer stated:
It is therefore their desire to terminate with us their joint account in Churquini and they proposed to pay us the round sum of $26,000 for the second contract. They have calculated this sum as follows:
360 tons to Campine plus 40 tons to Grace makes 400 tons at a cost price of $4 per unit f.o.b. Antofagasta; sales price $5.40 f.o.b. Antofagasta equal to $1.40 profit on basis of 60% equals $33,600. 780 tons sold to Japan at a cost price of $4 f.o.b. Antofagasta and sales price of $4.40 f.o.b. Antofagasta which is 40¢ per unit profit equal to $18,720. They figure the costs for freight and insurance from Antofagasta to Antwerp at around 35¢ per unit and from Antofagasta to Japan around 50 cent per unit. Therefore they propose to pay us approximately half of the above amount which is equal to $26,000.
They made this proposition under the condition that they take over everything which is left unsold from Churquini for 1949 and that they also take over the 360 tons which we recently bought at $2.50 f.o.b. mines for delivery up to April 1950. We have not to participate in any charges for anything and in losses and profits for the third contract. We have also nothing to do with any commissions they have to pay or any charges which may occur. In other words in paying us $26,000 in a round sum we are out of the Churquini joint account. Furthermore, they made it clear that if and when a fourth contract is negotiated with Churquini they would negotiate with (the mine supervisor) directly without reserving us any interest in such a deal.
In response to the letter, Ayrton advised the petitioner to hold our for $38,280 as its share of the profits earned by the joint account through the end of 1949. Several days later Ayrton suggested $32,000 as a settlement figure. When the petitioner and Metal Traders were unable to reach a compromise, they decided to allow Ayrton and Metal Traders, Ltd., to carry on negotiations in London. After extensive discussions continuing through the middle of January 1950, the petitioner and Metal Traders signed two contemporaneous agreements on January 24. One contract provided:
We refer to our recent discussions regarding the Churquini Joint Account business in Antimony Ore and now confirm the understanding whereby we shall pay you a sum of $26,000.00 in full and final settlement of all your interests in the Churquini Second and Third Contracts.
The other agreement provided:
This will confirm the arrangement whereby we will pay you a commission on all Antimony Ore purchased by us from Churquini subsequent to the Third Contract. The commission is to be fixed by us from time to time in accordance with the profit realized on each purchase but in no event shall the rate be less than 2% of the contract purchase price.
This arrangement will continue so long as the Churquini Mine remains in its present ownership, i.e., Mrs. Theodosia Monson, but may be subject to revision or termination at any time by mutual agreement.
As of January 24, the joint account was closed. In place of that quantity of its own ore which had been used in filling out the shipments of ore required under the Japanese contract, Metal Traders took over the balance of the Churquini ore covered by the second contract. The third contract was taken over by Metal Traders as its own, the petitioner being relieved of liability for losses thereunder and no longer being entitled to share in the profits, if any. With respect to future purchase of Churquini ore, if any, the joint account was superseded by the new arrangement.
The purchases and actual disposition of Churquini ore under the second contract through January 24, were as follows:
+-----------------------------------------+ ¦Sales ¦Tons ¦Amount received ¦ +----------+-------+----------------------¦ ¦ ¦ ¦ ¦ ¦ +----------+-------+----------+-----------¦ ¦Grace & Co¦39.386 ¦$12,931.51¦ ¦ +----------+-------+----------+-----------¦ ¦Campine ¦357.316¦117,747.02¦ ¦ +----------+-------+----------+-----------¦ ¦Japan ¦437.564¦120,432.81¦ ¦ +----------+-------+----------+-----------¦ ¦Hoboken ¦20.001 ¦3,888.90 ¦ ¦ +----------+-------+----------+-----------¦ ¦Campine ¦50.143 ¦15,981.28 ¦ ¦ +----------+-------+----------+-----------¦ ¦ ¦904.410¦ ¦$270,981.52¦ +----------+-------+----------+-----------¦ ¦ ¦ ¦ ¦ ¦ +-----------------------------------------+
Purchases Tons Cost of ore Churquini 1,342.393 $320,826.16 Less: Inventory on hand, Jan. 24, 1950 419.623 101,651.12 Cost of sales 1 904.770 219,175.04 Gross profit 51,806.48
OPINION.
TURNER, Judge:
Two cash payments were received by the petitioner from Metal Traders, $26,000 in February of 1950 and $40,000 in December of 1951. The respondent determined these payments to be ordinary income. Briefly stated, the petitioner contends that its joint account arrangement with Metal Traders was a joint venture, that the payments were consideration for the purchase of its interest in the joint venture by Metal Traders, and that the gain should thus be treated as capital gain rather than as ordinary income.
After carefully examining the terms of the joint account agreement and the conduct of the parties in carrying out its provisions, we think it is clear that the arrangement between the petitioner and Metal Traders was a joint venture. Support for this conclusion may be found in the provisions for the sharing of profits and losses and for the sale of ore only on terms satisfactory to both the petitioner and Metal Traders. Although there is no all-conclusive definition of a joint venture, it is generally a combination of two or more persons seeking a joint profit in some specific venture without designating themselves a partnership or a corporation. A joint venture is usually for the purpose of engaging in a single project which could require several years for its completion, but in most other respects it resembles a partnership and embodies the idea of the mutual agency of its members. Dexter & Carpenter v. Houston, 20 F.2d 647; Beck Chemical Equipment Corporation, 27 T.C. 840, and cases cited therein.
The joint account was based on an oral agreement, but the terms of a joint venture may be informal and need not be reduced to writing. One member of the joint venture may also reserve the function of managing the common enterprise and financing its affairs, as did Metal Traders, without destroying the existence of the otherwise valid joint venture. Furthermore, the fact that the operations of the joint account were conducted wholly in the name of Metal Traders and that the mine owner was unaware of the petitioner's participation in the enterprise does not defeat the legal relationship. Beck Chemical Equipment Corporation, supra, and cases cited therein. Nor do we think it controlling that no articles of partnership or tax returns were filed for the joint account.
As to the $26,000 received in February of 1950, the facts show that as between the parties it was regarded as being representative of petitioner's share of the profits of the joint venture under the second contract, and we hold that it was ordinary income. For tax purposes, a joint venture is one of the various unincorporated enterprises included within the definition of a partnership under section 3797(a)(2) of The internal Revenue Code of 1939.
Like a partner, a member of a joint venture is required under section 182(c) of the 1939 Code
SEC. 3797. DEFINITIONS.(a) When used in this title, where not otherwise distinctly expressed or manifestly incompatible with the intent thereof—(2) PARTNERSHIP AND PARTNER.— The term ‘partnership’ includes a syndicate, group, pool, joint venture, or other unincorporated organization, through or by means of which any business, financial operation, or venture is carried on, and which is not, within the meaning of this title, a trust or estate or a corporation; and the term ‘partner’ includes a member in such a syndicate, group, pool, joint venture, or organization. * * *
to include in his net income, ‘whether or not distribution is made to him, * * * his distributive share of the ordinary net income of the partnership.’ Income received or accrued to a joint venture is taxable to its members whether or not distributed. Beck Chemical Equipment Corporation, supra. Therefore, the petitioner's distributive share of the income earned by the joint venture under the second contract is taxable to it as ordinary income. And this is true even though the actual receipt of the profits may be in connection with the closing of the joint venture. Tunnell v. United States, 259 F.2d 916; Leff v. Commissioner, 235 F.2d 439; United States v. Snow, 223 F.2d 103, certiorari denied 350 U.S. 831; LeSage v. Commissioner, 173 F.2d 826; Estate of William Goldstein, 29 T.C. 931; George F. Johnson, 21 T.C. 733; and Louis Karsch, 8 T.C. 1327. See also Hulbert v. Commissioner, 227 F.2d 399, affirming a Memorandum Opinion of this Court; and B. Howard Spicker, 26 T.C. 91, 99. A contrary result was reached in Meyer v. United States, 213 F.2d 278, and Swiren v. Commissioner, 183 F.2d 656.
SEC. 182. TAX OF PARTNERS.In computing the net income of each partner, he shall include, whether or not distribution is made to him—(c) His distributive share of the ordinary net income or the ordinary net loss of the partnership, computed as provided in section 183(b).
It is the contention of the petitioner that not all of the Churquini ore purchased under the second contract had been sold when the joint account was terminated, so that the joint account realized no earnings under the second contract because it used the completed contracts method of accounting. The argument is that future losses might wipe out prospective profits. Particular reference is made to a sharp decline in the antimony market during the latter part of 1949. There are two answers to the petitioner's contention. One is that assuming the Japanese sale was made up entirely of Churquini ore, there was no inventory on January 24, 1950, because the remaining 419.623 tons is exactly the amount of ore shipped from Metal Traders' own stocks. By taking over the 419.623 tons, Metal Traders was only recovering the amount of ore it had shipped to Japan on behalf of the joint account. Another answer is that the joint account could not elect to use the completed contracts method of accounting under the existing regulations. Section 49.42-4 of Regulations 111
limits the use of that method of accounting to businesses with ‘building, installation, or construction contracts.’ A contract to purchase ore obviously does not fall within the scope of that section of the regulations.
SEC. 29.42.4. LONG-TERM CONTRACTS.— Income from long-term contracts is taxable for the period in which the income is determined, such determination depending upon the nature and terms of the particular contract. As used in this section the term ‘long-term contracts' means building, installation, or construction contracts covering a period in excess of one year from the date of execution of the contract to the date on which the contract is finally completed and accepted. Persons whose income is derived in whole or in part from such contracts may, as to such income, prepare their returns upon either of the following bases:(b) Gross income may be reported for the taxable year in which the contract is finally completed and accepted if the taxpayer elects as a consistent practice so to treat such income, provided such method clearly reflects the net income. If this method is adopted there should be deducted from gross income all expenditures during the life of the contract which are properly allocated thereto, taking into consideration any material and supplies charged to the work under the contract but remaining on hand at the time of completion.
As a result of the negotiations in London between Samuel Ayrton and Metal Traders, Ltd., petitioner agreed to accept $26,000 in settlement of its claim under the joint account. And though perhaps not precisely one-half of the profits under the second contract, this figure closely approximates petitioner's share of such profits, and was reflected as such in the course of arm's-length negotiations between parties. But whatever the exact amount which would have been disclosed by mathematical computations, the evidence of record does not convince or persuade us that petitioner's share of the profits was any lesser amount, and under the cases above the great weight of authority is that such profits are taxable as ordinary income, even though actual receipt may have been in connection with the closing of the joint venture.
With respect to the $40,000, the payment thereof by Metal Traders to petitioner was made under the second of two agreements entered into by the parties under date of January 24, 1950. By the first of the two agreements, the joint account was terminated, with the petitioner receiving $26,000, an amount calculated by the negotiators as approximating petitioner's share of profits under the second contract, and with Metal Traders taking over the third contract as its own, petitioner being relieved of any and all liability for loss and no longer being entitled to share in the profits, if any. By the second contract, Metal Traders agreed that it would pay petitioner a ‘commission’ of at least 2 per cent of the purchase price of Churquini ore bought by Metal Traders ‘subsequent to the Third Contract,‘ so long as the mine continued ‘in its present ownership.’ Metal Traders became the owner of the mine on November 28, 1950, and in settlement of a dispute which arose between the parties over the amount owed to petitioner under the ‘commission’ agreement, Metal Traders on December 19, 1951, paid the $40,000 to petitioner.
It is the contention of the petitioner that the ‘commission’ arrangement which was to become effective upon the end of the third contract was acquired by it in exchange for its interest in the joint venture and that the $40,000 received thereunder was capital gain.
Although the meaning of the word ‘commission’ as used in the second of the agreements signed on January 24, 1950, was not spelled out, it is definite by specific wording of the agreement that it was to relate to Churquini ore purchases by Metal Traders ‘subsequent to the Third Contract,‘ and was to cover or represent the extent and nature of petitioner's participation in such subsequent dealing in Churquini ore. Also, it is equally apparent, we think, that the operations in respect of which the ‘commission’ was to be paid were not only new and prospective in character, but, except that the one followed the other, the parties were the same and both had to do with the dealing in Churquini ore, the ‘commission’ arrangement and the joint venture were not otherwise related. That such was the intent and purpose of the parties under the two agreements signed on January 24, 1950, is corroborated by Kurt Friedlander, vice president of Metal Traders, in his testimony, as follows:
Q. As a result of these discussions, was not an agreement made by which Metal Traders would pay $26,000 plus two percent, at least two percent on purchases?
A. They were two completely distinct things. Firstly, there was $26,000, which was paid in lieu of the profit out of the second and third contracts; secondly, we committed ourselves to pay a minimum two percent commission; more if the business would stand it, and that was in lieu of their continuing the joint account.
At January of 1950, there had been a sharp decline in the antimony market and the profit or loss prospects under the third contract were not definite or clear. The petitioner relinquished its right to any profit and was relieved of its liability for any loss under that contract, in consideration for the taking over by Metal Traders of the 360 tons of ore to be purchased through April 30, 1950.
When the joint account was established in 1947, the petitioner and Metal Traders understood that it was to exist so long as they had a contract with the owner for the purchase of Churquini ore. Neither they nor the owner was committed to make any new or further contract, and as between petitioner and Metal Traders, they were free to work out any further or prospective arrangement they might be able to agree upon, whether it be a continuation comparable to the existing operation or something new and different, or if they were so inclined they could let the matter die. In short, even if there had been no dispute, there would have been no continuation of the joint account or any other arrangement, in the absence of some affirmative action on their part. The fact is that there never was any joint venture between petitioner and Metal Traders for any period after April 30, 1950, the terminal date of the third contract, and since the parties without question were dealing at arm's length, they must have concluded that the new and different arrangement with respect to prospective dealing in Churquini ore, if any, would be a more satisfactory arrangement than would result from a joint venture for exploiting a new contract with the owner.
And while it is true that the settlement agreement of December 19, 1951, did contain some language to the effect that the payment by Metal Traders of the $26,000 in January of 1950 and the agreement to pay a ‘commission’ of at least 2 per cent in respect of Churquini ore purchases ‘subsequent to the Third Contract’ had been in consideration of the assignment by petitioner of its interest in the ‘joint venture marketing arrangement,‘ and with respect to the negotiating of the amount of the ‘commission’ due petitioner it did refer to computations based on ore purchases from January 24, 1950, to November 28, 1950, part of which period was covered by the third contract, and further contained provisions to the effect that the $40,000 should ‘be in full and final settlement of any and all claims of Ayrton with respect to any and all rights which originated out of the joint venture marketing arrangement and the assignment thereof,‘ it is patent, we think, that the rights of the parties under the joint venture, which was coexistent with the three contracts, had already been settled by the first of the January 24, 1950, agreements, the ‘commission’ agreement, also of January 24, 1950, covering Churquini ore purchases ‘subsequent to the Third Contract.’ As between petitioner and Metal Traders, no elements of a sale or exchange of capital assets were involved, but rather, the payments were based on and measured by the purchase and sale of ore in the conduct of an ore-selling business. And that would be true, we think, even if in fact there had been a reopening and a new settlement as to petitioner's share of the earnings of the joint venture under the three contracts, the last of which had expired April 30, 1950. It follows, we think, and we hold, that the earnings under the ‘commission’ arrangement were ordinary income.
With respect both to the $26,000 and the $40,000, respondent's determination is sustained.