Opinion
No. 4486.
April 18, 1932.
Petition by Edward Hines, for review of an order of the Board of Tax Appeals redetermining income taxes in accordance with determination of Commissioner, the appeal being prosecuted in the name of Loretta A. Hines and others, as executors, after the death of Edward Hines, during pendency of appeal.
Affirmed.
This appeal is taken from an order of redetermination of the United States Board of Tax Appeals, and involves the income taxes of Edward Hines, hereinafter referred to as Hines, for the year 1922. The statute authorizing the appeal is Revenue Act 1926, c. 27, 44 Stat. 9, 109, §§ 1001-1003 (26 USCA §§ 1224 and note, 1225, 1226).
Edward Hines, at the time of his death, was president of Edward Hines Lumber Company, hereinafter referred to as lumber company, and had held that office continuously since about 1892. He died during the pendency of his appeal to this court, and petitioners are his executors.
Prior to or about 1917 the lumber company contracted with Speedway Park Association, hereinafter referred to as Speedway, to furnish lumber for constructing an automobile speedway. During a part of 1917, Hines was absent from the city, and during his absence delegated to the secretary of the lumber company certain authority in the management thereof. While Hines was absent, said secretary, acting for the lumber company, in excess of his authority and without the knowledge of Hines, entered into what appeared to be a moral guaranty of certain indebtedness of the Speedway, which involved the lumber company to the extent of several hundred thousand dollars.
Upon Hines' return the opening date of the Speedway, as advertised, was close at hand, and it was quite apparent that the plant would not be ready by that time unless said indebtedness guaranty was paid and money was furnished to pay the labor and other things necessary to complete the project. On Hines' recommendation this indebtedness was paid by the lumber company, and, as a result thereof, it received $1,194,000 par value of mortgage securities of the Speedway, which was twelve-thirteenths of the Speedway's total outstanding mortgage securities. Later, in order to get complete control of the Speedway, the lumber company purchased from certain stockholders their stock interest in the Speedway, and paid them therefor $64,177.94. Hines concluded that if the property of said Speedway could be held for several years it would increase materially in value. He also felt a personal responsibility, as president of the lumber company, in having it make the aforesaid expenditures on behalf of the Speedway, and he personally offered the lumber company $550,000 for its claim against the Speedway and for its mortgage securities which the lumber company had taken over. That offer was accepted, and Hines thereupon took over the claim and securities.
In December, 1917, the war had stopped all activities of the Speedway, and in the spring of 1918 Hines began negotiations with the government looking to its taking over the Speedway property for a hospital. The government was partial to building a frame hospital on the Speedway site. Hines much preferred a fireproof building, and suggested that its cost would not greatly exceed the cost of a frame building. In support of his suggestion, Hines procured Shank Co., contractors, to submit a proposal to construct said fireproof building at a certain price, which proved to be satisfactory to the government, and a contract embodying that proposal was entered into in March, 1920.
In order to induce the government to construct a fireproof building, Hines agreed to and did contribute $1,000,000 toward the erection of it, and also indemnified Shank Co. against any loss sustained by it in its erection.
The cost of the hospital, known as the Edward Hines Jr. Hospital, was $5,049,840.32, and the amount received from the government under the contract was $3,282,498.79, making a loss to Hines, after deducting his contribution, of $767,341.53. Of this loss $282,632.15 was paid by Hines in 1920, $467,362.23 in 1921, and $17,347.15 in 1922.
At the time Hines purchased Speedway's mortgage securities from the lumber company he did not have, nor did he at any time have, any trade, occupation, or business except that of being president of the lumber company and its affiliated subsidiary organizations; and when he was reimbursing Shank Co. for its losses in the construction of the hospital there was no one to whom he could look for reimbursement, nor did he then expect to be reimbursed.
In an audit of Hines' return for 1920 he was allowed a deduction for loss of $282,632.15; for 1921 he was allowed as a loss said sum of $467,362.23, and his net loss for that year was $389,483.27. In determining Hines' tax liability for 1922, respondent allowed as a deduction for loss said sum of $17,347.15, but refused to apply the 1921 net loss against the net income of $35,515.33 determined for 1922.
Respondent asserted a deficiency in income tax for 1922 of $1,927.73, but in his amended answer claimed that the allowance of $17,347.15 as a deduction for that year was an error. The Board thereupon redetermined Hines' deficiency in the sum of $5,899.93.
William S. Bennet, of Chicago, Ill., for petitioners.
G.A. Youngquist, Asst. Atty. Gen., Sewall Key and F. Edward Mitchell, Sp. Assts. to Atty. Gen., C.M. Charest, Gen. Counsel, Bureau of Internal Revenue, and William Cutler Thompson, both of Washington, D.C. (Stanley B. Pierson, Sp. Atty., Bureau of Internal Revenue, of Washington, D.C., of counsel), for respondent.
Before EVANS and SPARKS, Circuit Judges, and BALTZELL, District Judge.
The sole issue herein involved is the deductibility from income of Hines of the amount paid by him as a result of his guaranty to protect Shank Co. from loss incurred by them in the erection of the Edward Hines Jr. Hospital.
Petitioners contend, however, that Hines' loss was initiated when he bought the mortgage securities in December, 1917, and was not caused by his indemnifying contract with Shank Co. in March, 1920. With this contention we cannot agree. The purchase of the securities may have indirectly and eventually led to the execution of the guaranty contract, but it is certain that said purchase of securities in no way obligated Hines to execute the guaranty contract. There is no evidence of record that Hines sustained any loss in the entire transaction over and above the sum of $767,341.53, which he paid under his guaranty contract in the respective years of 1920, 1921, and 1922. This represented the difference between the cost of the hospital and the contract price received from the government, plus Hines' contribution of $1,000,000. We think there is no causal connection between Hines' purchase of the bonds and his loss under his indemnifying contract.
It cannot be denied that Hines sustained losses in 1921 and 1922 in the manner and amounts as hereinbefore set forth. Whether or not such losses are deductible from his income for those years depends upon the statutes set forth in the margin.
Revenue Act of 1921, c. 136, 42 Stat. 227, 231, 239:
"Sec. 204. (a) That as used in this section the term `net loss' means only net losses resulting from the operation of any trade or business regularly carried on by the taxpayer (including losses sustained from the sale or other disposition of real estate, machinery, and other capital assets, used in the conduct of such trade or business); * * *
"(b) If for any taxable year beginning after December 31, 1920, it appears upon the production of evidence satisfactory to the Commissioner that any taxpayer has sustained a net loss, the amount thereof shall be deducted from the net income of the taxpayer for the succeeding taxable year; and if such net loss is in excess of the net income for such succeeding taxable year, the amount of such excess shall be allowed as a deduction in computing the net income for the next succeeding taxable year; the deduction in all cases to be made under regulations prescribed by the Commissioner with the approval of the Secretary."
"Sec. 214. (a) That in computing net income there shall be allowed as deductions: * * *
"(4) Losses sustained during the taxable year and not compensated for by insurance or otherwise, if incurred in trade or business;
"(5) Losses sustained during the taxable year and not compensated for by insurance or otherwise, if incurred in any transaction entered into for profit though not connected with the trade or business; * * *"
The Board held that Hines' loss in 1921 was the result of an isolated transaction and was not a net loss resulting from the operation of any trade or business regularly carried on by Hines within the meaning of section 204(a), supra. It also held that the Commissioner erred in allowing a deduction of $17,347.15 in the same transaction for the year 1922, as representing a loss incurred in trade or business, or incurred in a transaction entered into for profit though not connected with the trade or business within the meaning of section 214(a), (4), and (5), supra.
We think both rulings of the Board are correct. It is quite obvious from the record that the activities which resulted in the losses to Hines were no part of the operation of any trade or business regularly carried on by him; but they constituted a distinct and isolated transaction, wholly separate from his trade or business, which was that of president of the lumber company. The lumber company had no interest in either the Speedway or the hospital after it sold the Speedway securities to him in December, 1917.
It is also apparent from Hines' testimony that in carrying out the projects of relieving the lumber company, and in guaranteeing the erection of the hospital, he had no thought of making a financial profit. The gist of his testimony is that in the purchase of the securities he was trying to protect his good name with the lumber company, which he very commendably thought was in issue by reason of an unwise deal of the secretary of that company, who was his brother-in-law, and on that account he said that he felt morally obligated to protect the lumber company by purchasing the bonds. If at that time he really intended, as he testified, to profit by the purchase of the securities, that fact would have quite a tendency to relieve the pressure of the moral obligation which he says was then impelling him. Later he guaranteed the construction of the hospital in a certain manner and at a certain price, and his purpose was to do that thing regardless of what personal obligation it might cast upon him, for he testified that he did not expect to be reimbursed therefor.
Similar questions have frequently been before the courts, and necessarily the determination of each case has depended upon the particular facts of the case then before the court. Under the particular facts of this case we are convinced that Hines' losses were not deductible under the statutes cited. Rogers v. United States (Ct.Cl.) 41 F.2d 865; Pabst v. Lucas, 59 App. D.C. 154, 36 F.2d 614; Goldberg v. Commissioner, 59 App. D.C. 147, 36 F.2d 551; G. Angelo Co. v. Commissioner (C.C.A.) 36 F.2d 193; Bedell v. Commissioner (C.C.A.) 30 F.2d 622; Avery v. Commissioner (C.C.A.) 22 F.2d 6, 55 A.L.R. 1277; Flint v. Stone Tracy Co., 220 U.S. 107, 31 S. Ct. 342, 55 L. Ed. 389, Ann. Cas. 1912B, 1312; and Washburn v. Commissioner (C.C.A.) 51 F.2d 949.
Petitioners rely on Washburn v. Commissioner, supra, to support their contention, but the facts in that case relative to the trade or business regularly carried on by the taxpayer were very much different from those in the instant case, and the court, we think, properly held that Washburn's loss was occasioned by the operation of his regular trade or business, and hence it was deductible. The court in that opinion said: "Obviously in every case a business to be regularly carried on must be characterized by a continuing activity in some field of business endeavor. The loss contemplated by the statute is an operating loss, and the party claiming it must be the operator of the trade or business in which the loss occurs."
The difference between that case and the one at bar is one of fact and not of law, and the same may be said as to the other cases cited by petitioners.
Petitioners also contend that there was error in the court's ruling because respondent introduced no evidence after amending his answer, and the burden was upon respondent to sustain the added facts. There is no merit in this contention. The evidence to sustain the amendment was already in the record, and the amendment merely caused the answer to conform to the facts proven.
The decree of the Board is affirmed.