Docket No. 19711.
Briggs G. Simpich, Esq., for the petitioner. A. J. Friedman, Esq., for the respondent.
1. For several years prior to December 1, 1945, petitioner was a member of a partnership engaged in the canvas business. Both prior and subsequent to his marriage in March 1945, his wife was employed in the office of the partnership as a secretary-bookkeeper. On November 30, 1945, when the partnership's sales had doubled those of the preceding year, petitioner purchased the interest of his partner and entered into an oral agreement of partnership with his wife. Held, under the facts, the petitioner and his wife did not in good faith and acting with a business purpose intend to join together in the conduct of the business as partners, and respondent correctly included the entire income of the business for the years 1945 and 1946 in the gross income of petitioner. Commissioner v. Culbertson, 337 U.S. 733, followed.
2. Respondent correctly determined that the amount of losses sustained in 1945 and 1946 from the business of operating a training stable should be reduced by the cost of boarding and training horses owned and used by petitioner and his wife. Briggs G. Simpich, Esq., for the petitioner. A. J. Friedman, Esq., for the respondent.
The Commissioner determined a deficiency in income tax for the taxable year 1945 in the amount of $1,129.52 and a penalty thereon in the amount of $169.43, and an income tax liability for the taxable year 1946 in the amount of $5,796.09. The basic questions presented to us for solution are:
(1) Did respondent err in determining that the Cobb Canvas Co. was not a bona fide partnership between petitioner and his wife, Ida E. Cobb, during the period December 1 through December 31, 1945, and the calendar year 1946, and that, therefore, petitioner is taxable upon all of its net income for those years?
(2) Did respondent err in determining that the farm loss of Maple Knoll Farm during the calendar years 1945 and 1946 be reduced by the petitioner's estimated value of the personal use of horses?
FINDINGS OF FACT.
Petitioner resides at 14300 Plymouth, Michigan. He filed his income tax return with the collector of internal revenue at Detroit, Michigan. He has a seventh grade education and since 1935 he has been engaged in manufacturing and repairing articles made of canvas. He began this business associated with his brother as a partner and in 1938 he and his brother took in one H. L. Carson as a partner. His brother died in 1941 and a new partnership was formed between petitioner and Carson.
On November 30, 1945, petitioner purchased Carson's one-half interest in the partnership, paying therefor approximately $7,800 in cash, and in addition thereto petitioner conveyed to Carson a one-half interest in certain real estate which had a value of approximately $5,000. At the time of the purchase petitioner assumed all of the old partnership indebtedness and he agreed that he, together with his wife Ida E. Cobb, would execute a mortgage to Carson on a half interest in some real estate which petitioner owned to indemnify Carson against liability for any unpaid debts of the old partnership. The written agreement between Carson and Cobb was designated ‘Dissolution of Co-Partnership‘ and was prepared by petitioner's attorney. In this agreement was the following provision:
The co-partnership shall stand dissolved as of November 30th, 1945. From and after said date, the said Dewey F. Cobb and Ida E. Cobb, his wife, shall become co-partners as the COBB CANVAS COMPANY, and shall open an account in their own name and shall do business as said COBB CANVAS COMPANY, heretofore conducted by both of the parties hereto; that the said Harold L. Carson has withdrawn and that therefore all credit extended is on the basis of the credit rating of the new company.
Petitioner's wife did not sign this agreement and it does not purport to be a partnership agreement between petitioner and his wife.
Ida E. Cobb left school at the age of 15, with one-year of high school education. She married her first husband in 1930, separated from him in 1937, and divorced him in 1942. She has one daughter by this marriage aged 17 years at the time of the hearing.
Petitioner was a personal friend of Ida's mother and step-father and in 1937 he gave Ida part time employment in the Cobb Canvas Co. This work consisted of keeping the books and answering the telephone. In 1938 Ida became a full time employee and received approximately $8 per week. At this time the partnership was operating on a small scale, and in 1939 the partners themselves earned but $652.98 each. As the business grew Ida's salary advanced, at undetermined dates, to $18, then to $20, to $25, and finally, before her marriage to petitioner in 1945 she was receiving $35 a week.
In 1937 she worked but an hour or two a day. She opened the partnership books. Thereafter her duties included bookkeeping, taking orders over the telephone, and handling funds that came in and were paid out. As the business increased, it acquired more accounts and, as Ida became familiar with canvas, she was able to handle some business over the telephone. There were from 300 to 500 different customer accounts.
As the business grew petitioner employed a superintendent and hired as many as 20 or 30 employees. He was general manager of the business and spent his time on the inside, while Carson was primarily the outside salesman. The superintendent had authority over the employment and discharge of other employees. During 1943 petitioner was away from the plant for over 3 months, at which time Ida, who was then his fiancee, had charge of the office.
Ida and petitioner were married in March of 1945 after an engagement of approximately three years.
On November 30, 1945, immediately after the dissolution of the Cobb-Carson partnership, petitioner and his wife entered into a verbal agreement to continue the old business in the style of a partnership under its former name of Cobb Canvas Co. Thereafter both Cobb and his wife signed checks on the Cobb Canvas Co. bank account.
Petitioner and Carson, as individuals outside of their partnership relation, held title to real estate occupied by the Cobb Canvas Co. On September 20, 1947, petitioner and his wife executed four notes payable to Carson and his wife each in the sum of $500 as part payment for Carson's half interest in said real estate.
Books of account were set up by the Cobb Canvas Co. in the early part of December 1945, which showed the capital accounts of the two alleged partners as follows:
+-----------------------------------------------------------------------------+ ¦ ¦Dewey Cobb ¦Ida Cobb ¦ +-------------------------------------+-------------------+-------------------¦ ¦ ¦Debit ¦Credit ¦Debit ¦Credit ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/ 1/45 J1-Opening ¦ ¦$910.98 ¦ ¦$910.97 ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦2-Correction to debit Fire Loss ¦ ¦1,446.05 ¦ ¦1,446.06 ¦ ¦Reserve ¦ ¦ ¦ ¦ ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/31/45 Profits 1945 ¦ ¦1,129.49 ¦ ¦1,129.50 ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/31/45 Cash (net) contributed ¦ ¦545.31 ¦ ¦ ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/31/46 Profits 1946 ¦ ¦12,883.03¦ ¦12,883.03¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/31/46 Rents ¦ ¦600.00 ¦ ¦ ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/31/46 Drawings ¦$8,821.67¦ ¦$7,815.21¦ ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/31/46 Addn. Profits 1946 ¦ ¦61.93 ¦ ¦61.94 ¦ +-------------------------------------+---------+---------+---------+---------¦ ¦12/31/46 Addn. Drawings ¦10.00 ¦ ¦ ¦ ¦ +-----------------------------------------------------------------------------+
Partnership returns of income on Form 1065 were filed by the Cobb Canvas Co. for the month of December 1945 and for the year 1946. These returns list petitioner and Ida Cobb as partners and show an equal division of partnership income in schedule I as follows:
+-------------------------------+ ¦ ¦Dewey Cobb ¦Ida Cobb ¦ +---------+-----------+---------¦ ¦Dec. 1945¦$1,129.49 ¦$1,129.50¦ +---------+-----------+---------¦ ¦Year 1946¦12,944.97 ¦12,944.96¦ +-------------------------------+
Before her marriage, petitioner's wife worked from eight to ten hours a day at least five days a week. After her marriage, she worked three days a week and in consequence reduced her salary to $25 per week. Her duties were substantially the same as theretofore and another woman was employed to assist her with the general office work.
The net income of Cobb Canvas Co. for the period of January 1, 1939, to November 30, 1945, was as follows:
+-----------------------------------+ ¦COMPARATIVE STATEMENT OF NET INCOME¦ +-----------------------------------¦ ¦ ¦ ¦ +-----------------------------------+
(No partner's salary deducted) Lee Cobb—Dewey Cobb—H. L. Carson Calendar year 1939 $1,958.95 Calendar year 1940 9,047.73 Fiscal period to 4-30-41 2,591.09 Dewey Cobb—H. L. Carson Fiscal period 5-1 to 12-31-1941 5,417.73 Calendar year 1942 10,335.52 Calendar year 1943 11,739.38 Calendar year 1944 18,151.80 Fiscal period to 11-30-1945 36,744.19 Fiscal period 12-1-1945 to 12-31-1945 2,258.99 Calendar year 1946 25,889.93
Petitioner and his wife reported one-half of the ‘partnership gains‘ of the Cobb Canvas Co. for the month of December 1945 in the amount of $1,129.49 each and for the year 1946 in the amount of $12,944.96 each.
The sharp increase of revenue beginning in 1945 was due to the procurement by Cobb Canvas Co. of a large supply of used canvas from the United States Navy. There was a very large demand for tents, awnings, and tarpaulins, due to war shortages, and this used canvas, when reconverted by Cobb Canvas Co. was sold at a large profit. The gross sales of the company for 1945 were $133,497.95 and for 1946 were $118,866.46.
At undetermined times before her marriage Ida loaned petitioner various amounts aggregating $1,200. She received notes for these loans, but after her marriage these notes were destroyed and the money was never repaid. Petitioner's wife did not have an individual bank account or safe deposit box before or after her marriage. She and petitioner wrote checks for funds as needed, with which they paid their personal and household expenses and financed the Maple Knoll Farm at Plymouth, hereinafter mentioned. There was no segregation of funds between petitioner and his wife.
Ida began riding horses in 1937 and in 1941 and subsequent years she took lessons to qualify her to show saddle horses in competition. She has since become an outstanding horsewoman and has won many prizes. Petitioner is a horse fancier, but he rides only for his own pleasure. As a result of contacts made by petitioner and his wife through their interest in riding horses, they sold or rented some canvas equipment to various outdoor horse shows. The partnership income for 1944 from this source was approximately $700; in 1945 it was approximately $1,400. The record contains no figures for subsequent years.
Petitioner and his wife did not in good faith and acting with a business purpose intend to join together in December 1945 in the conduct of the business of the Cobb Canvas Co. as partners.
In the spring of 1945 petitioner and his wife made their home at a tract owned by petitioner known as Maple Knoll Farm. There they kept their own riding horses. They employed a trainer and started to take in horses belonging to others for training, their purpose being to use the fees derived therefrom to offset the cost of training their own horses. They have purchased show horses from time to time and Ida Cobb has ridden practically every day. Petitioner rode very seldom. They opened a separate joint bank account for Maple Knoll Farm.
Ida Cobb prepared the 1946 partnership return for Maple Knoll Farm, in which fees charged others for boarding and training their horses were reported as gross receipts, and in arriving at the amount of gross profit or loss the cost of training, labor, feed, and other supplies were deducted, including costs of maintaining and training horses used by petitioner and wife. At the insistence of petitioner she also included therein an item of income as follows: ‘2 Horses used personally by partners at $100 per mo., 12 mos., $1,200.00‘
The Maple Knoll Farm return for 1945 was prepared in a similar manner, except that it did not include any item for horses personally used by petitioner and his wife, and reported a farm loss of $2,383.95 which petitioner deducted in his return. The respondent in his deficiency notice for that year reduced the amount of the claimed loss for ‘Personal use of horses‘ in the amount of $1,200.
The first question is whether the income of the Cobb Canvas Co. for the taxable years is income of a partnership composed of petitioner and his wife, or is the income of the petitioner alone. The Supreme Court of the United States, in Culbertson v. Commissioner, 337 U.S. 733, has stated that a test to be applied in arriving at the answer to such a question is whether ‘the parties in good faith and acting with a business purpose intended to join together in the present conduct of the enterprise.‘ To the same effect see Commissioner v. Tower, 327 U.S. 280. In these cases the Court points out that the intent is to be determined from a consideration of the agreement, the conduct of the parties in the execution of its provisions, their statements, the relationship of the parties, their respective abilities and capital contributions, and any other facts throwing light on their true intent.
Ida Cobb did not contribute to the partnership capital. She lent the petitioner, at different times before her marriage to him, amounts aggregating $1,200, but there is no evidence that this amount ever reached the partnership. In fact, the petition herein affirmatively alleges that it did not. In respect of both the partnership with Carson and with Ida Cobb the petition says:
Neither Harold L. Carson or Ida E. Cobb contributed money to the partnership, but both contributed valuable services which was part of the consideration in the acquisition of their partnership interest.
Furthermore, the services rendered by Ida E. Cobb prior to the partnership were not of such an uncompensated and essential character as to constitute the equivalent of capital contribution to the partnership later established, so as to bring this case within the law set forth in a number of cases relied upon by petitioner. Paul L. Kuzmick, 11 T.C. 288; Samuel Goodman, 6 T.C. 987. During the course of her service Ida developed into a very capable secretary. This is worthy of special comment in view of her limited business experience and her educational handicaps. Yet the record does not disclose any facts which would elevate her services above those of an able secretary or show that her services were greater than the value received. Carson testified in a most vague and unconvincing manner that customers at various times had expressed a desire to employ Ida at a salary greater than she was receiving, but the customers were not named by him nor did they testify, and he failed wholly to give us the amount of salary which Ida was receiving at the time the offers were made. Such an offer would have an entirely different meaning if made before Ida received her various increases in salary.
According to the evidence the services rendered by Mrs. Cobb for the company were those that a secretary-bookkeeper would ordinarily perform in a business of this kind, such as keeping the books, paving the debts, watching accounts receivable keeping track of money received and paid out, and, in addition, taking orders over the phone. At some undisclosed time in 1945, a girl was employed by the company to do general office work, and this probably explains why the working days of Mrs. Cobb were reduced from five to three in 1945, thus giving her additional time to devote to her horse activities and to getting their new home arranged.
After the oral partnership agreement, Ida's services were of less importance to the business than before the agreement. While she testified that after the agreement she exercised more care in supervising collections and expenditures than formerly because of Carson's absence, such testimony conflicts considerably with her claim that while Carson was with the firm she had ‘complete‘ charge of the office, including the financial matters.
The fact also that after her marriage in 1945 she reduced her own salary because of her reduced hours at the office, taken in conjunction with the fact that she spent less time at the office after the partnership than she did before, would indicate that she herself appraised her services less as a partner than as a secretary.
Ida Cobb became interested in riding horses in 1937, and in 1941 she began to take riding lessons to learn how to show horses at shows. She and the petitioner bought their first show horse after their marriage in the spring of 1945 and hired an expert trainer to teach her to exhibit show horses, ann she worked quite a lot in the stable during that year. Other horses were purchased, and Mrs. Cobb testified that they had to be exercised every day, that she rode them every chance she got-practically every day, that she is considered quite an accomplished rider, and that she has won over 75 prize ribbons. She also testified that it took a lot of work and courage to learn how to handle the horse for show purposes, and that riding and exhibiting the horses took ‘an awful lot out of me, especially during the show season.‘ It is quite apparent from the evidence that Mrs. Cobb during the taxable years devoted a substantial amount of her time to preparing for an participating in horse shows.
Ida listed as an important vital service to the partnership her riding and training of show horses. According to her testimony this produced the rental of tents to various horse shows. Such rental amounted to $700 in 1944 and $1,400 in 1945. Since the alleged partnership existed only during December of 1945 and since outdoor shows are not usually held in December, it is probable that none of this revenue, even if significant in amount, benefited the business. She was unable to give any amounts received by the partnership from this source in subsequent years. Furthermore, her activities in this line would have had a much closer connection with her husband's riding and training stable at Maple Knoll Farm than with Cobb Canvas Co.
Among other factors in this case that militate against the bona fides of this partnership is the manner in which the partnership profits were distributed. Both petitioner and his wife drew money as desired and spent it for household and family needs, as well as for supporting the training stables at Maple Knoll Farm. Ida had no bank account or other means of separating her income from the funds of her husband. It is interesting to note, furthermore, that this family partnership was formed in the year that the business profits increased from $18,151.80 to $36,744.19. It is difficult to accept petitioner's contention that, when he sought legal counsel to dissolve his partnership with Carson and to lay the foundation for the new partnership with his wife, the subject of income tax was not considered by him or his counsel. The attorney who handled this transaction did not testify. The only apparent change in Ida's activities after the alleged partnership was that she then personally wrote some checks on the joint bank account to pay for household expenses and the expenses of the petitioner's training stable. This is hardly of enough value to petitioner's business to bring this case within the provisions of the Tower case, supra, or the recent case of Culbertson v. Commissioner, 337 U.S. 733, in which the Court says:
If upon a consideration of all the facts it is found that the partners joined together in good faith to conduct a business, having agreed that the service or capital to be contributed presently by each is of such value to the partnership that the contributor should participate in the distribution of profits, that is sufficient.
After a careful consideration of all the evidence, we conclude, as stated in our findings, that petitioner and his wife did not in good faith and acting with a business purpose intend to join together in December 1945 in the conduct of the business of the Cobb Canvas Co. as partners.
The remaining issue involves the question of the proper allocation of the expenses of the operation of Maple Knoll Farm for the years 1945 and 1946 between business and personal expenses. At this farm the petitioner maintained some horses for himself and his wife for their own pleasure. They also boarded and trained horses for others. The fees charged others for boarding and training their horses were reported as gross receipts of the business, and in arriving at the amount of gross profit or loss the costs of training, labor, feed and other supplies were deducted, including costs of maintaining and training horses used by petitioner and his wife. In the return for 1946 filed by the Maple Knoll Farm, $1,200 was included in gross income for maintenance of petitioner's horses. In the 1945 return of the Maple Knoll Farm, no amount was included for maintenance of their horses and all the respondent, in determining the deficiency for that year, reduced the amount of a farm loss claimed by petitioner by $1,200.
The petitioner now contends that the respondent erred in reducing the loss from operation of Maple Knoll Farm claimed for 1945 by $1,200 and also erred in permitting $1,200 to be deducted from the expense of the farm as a personal expense for 1946.
The petitioner argues in support of his contention that Maple Knoll Farm was not a farm for pleasure; that it was strictly a business proposition; and that is borne out by the fact that the respondent has so treated it in allowing the losses from its operation in 1945 and 1946 as deductions in computing petitioner's taxable income for those years. We do not agree with the petitioner. The evidence indicates that the Maple Knoll Farm was purchased because both petitioner and his wife were fond of horses, and that the idea of boarding and training horses for other originated at the time Ida Cobb decided to learn how to show horses at horse shows and bad as its objective the reduction or elimination of the cost of maintaining and training their own horses through profits realized from fees charged others for boarding and training horses. The farm was operated partly for profit and partly for pleasure. In so far as petitioner engaged in boarding and training horses for others, he was engaged in business for profit, but the cost of maintaining the horses owned by him and his wife was a personal expense. In reporting the income from the farm, petitioner was entitled to deduct from gross receipts only expenses attributable to operating it as a business for profit. In his 1946 return he accomplished this by deducting from gross receipts all of the expense of operation, whether business or personal, and then including in income as an offset the cost of maintaining horses owned by him and his wife. The respondent did substantially the same thing when he reduced the loss claimed from the operation of the stable for 1945 by the amount of $1,200. In the absence of any evidence that the expense of maintaining the horses owned by petitioner and his wife in 1945 and 1946 did not amount to $1,200, the petitioner's claim that respondent erred in his treatment of this expenditure in each year must be and is disallowed.
Reviewed by the Court.
Decision will be entered for the respondent.
DISNEY, J., concurs only in the result.
BLACK, J., dissenting: The holding of the majority opinion that Ida E. Cobb was not a partner in the Cobb Canvas Co. is based upon an ultimate finding of fact which reads as follows:
Petitioner and his wife did not in good faith and acting with a business purpose intend to joint together in December 1945 in the conduct of the Cobb Canvas Company as partners.
It seems to me that this finding is wholly unjustified by the facts of record in this case as set out in the findings of fact. To use the language of the United States Court of Appeals for the District of Columbia in the recent case of Wenig v. Commissioner, 177 Fed.(2d) 62, reversing a memorandum opinion of the Tax Court:
We neither question nor depart from the findings of basic facts as made by the Tax Court. But we think its conclusions are not within the realm of legitimate inference from the record as a whole or from the specific facts found. * * *
Such is my view in the instant case. Based upon the undisputed evidence in the record, I think there should be an affirmative finding that Ida E. Cobb was a partner during the period in question and should be so recognized. It seems to me that to hold under the facts we have here that she was not a partner does violence to the rationale of the Supreme Court's decision in Commissioner v. Culbertson, 337 U.S. 733.
My reasons for believing that Mrs. Cobb should be recognized as a partner under the facts of the instant case under the Supreme Court's decision in the Culbertson case are stated more fully in a dissenting opinion which I have written in the W. F. Harmon, 13 T.C. 373. Reference is hereby made to my dissent in that case for a more complete statement of my views.