Graham
v.
Comm'r of Internal Revenue

This case is not covered by Casetext's citator
Tax Court of the United States.Jun 29, 1956
26 T.C. 730 (U.S.T.C. 1956)
26 T.C. 730110 U.S.P.Q. 454

Docket No. 54516.

1956-06-29

THORNTON G. GRAHAM AND JESSIE C. GRAHAM, HUSBAND AND WIFE, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Edmund Burroughs, Esq., for the petitioners. Frank W. Hardy, Esq., for the respondent.


Edmund Burroughs, Esq., for the petitioners. Frank W. Hardy, Esq., for the respondent.

INCOME TAX— SALE OF PATENT— LONG-TERM CAPITAL GAIN.— The petitioner and another individual, as co-owners of a patent, entered into a contract which by its terms transferred all their right, title, and interest in the patent to a corporation the majority of the stock of which was owned by them, there being, however, a substantial minority interest in the corporation. Held, that the transaction was at arm's length and effective as an assignment of the patent, and that the amounts received by the petitioner under the contract constituted long-term capital gain under section 117 of the Internal Revenue Code of 1939, rather than ordinary income.

The respondent determined a deficiency in the petitioners' income tax liability for the taxable year ended December 31, 1951, in the amount of $24,006.76.

The question presented is whether payments received by the petitioner Thornton G. Graham, under an agreement purporting to convey all of his interest in certain patent rights, are taxable as ordinary income or as long-term capital gain.

FINDINGS OF FACT.

The facts are stipulated and are found as stipulated, the stipulation being incorporated herein by this reference.

Thornton G. and Jessie C. Graham are husband and wife, who reside in Kent, Ohio. Their joint return for the taxable year ended December 31, 1951, was filed with the collector of internal revenue for the northern district of Ohio. Jessie C. Graham appears as a petitioner only by reason of having joined in the income tax return, and when the term ‘petitioner’ is used herein it refers to Thornton G. Graham.

The petitioner, from the time he graduated from college with a civil engineering degree until his retirement in 1953, has been constantly engaged in the rubber industry.

The petitioner never invented or patented any device himself. He was never interested personally in the promotion or sale of any patent other than the patent involved in this litigation. At some time during the period from 1926 to 1929 he became acquainted with Albert T. Matthews, who lived in Silvertown, Georgia, and they became close personal friends.

During the year 1929 Matthews conceived the idea of perfecting a new type of ventilated awning and he had such an awning built and installed at his home. He had never before patented or attempted to patent any device except a wick oiler for twisting rings, upon which he obtained a patent years previously but which was never developed or used commercially.

While visiting Matthews, the petitioner was shown this awning. Matthews and the petitioner orally agreed at that time that the petitioner would take up the matter of patenting the awning with attorneys and that they would, if a patent was secured, carry on together the promotion of the awning, with each owning a one-half interest in the patent and each bearing one-half of any and all expenses connected with the patenting of the awning and its development and promotion. The petitioner obtained the services of a patent attorney, and an application for patent was prepared in the name of Albert T. Matthews. This application was duly filed in the United States Patent Office on December 7, 1932. Under date of February 9, 1937, patent No. 2,069,893 was issued to Matthews, covering his five claims with respect to the invention of an awning structure allowing the air underneath the awning to circulate and escape throughout the whole area of the awning.

After patent No. 2,069,893 had been issued to Matthews, he, in accordance with the oral agreement made between him and the petitioner, assigned a one-half interest in the awning patent, and any reissue thereof, to the petitioner on December 27, 1937. This assignment was duly recorded in the United States Patent Office on January 5, 1938.

At the same time that the assignment was made by Matthews, he and the petitioner executed a written agreement reciting the terms of their original oral agreement. The written agreement, which also was duly recorded in the United States Patent Office on January 5, 1938, provided, among other things, that no sale of the patent or of any right, license, or interest therein should be made without the written consent thereto of both parties to the agreement; that the parties would account to each other for any moneys or other considerations which they might receive from the sale, lease, or licensing of any rights in connection with the patent, and would share equally in all income so derived; that they would equally bear all expenses arising in connection with the patent; and that the agreement would be binding upon and inure to the benefit of the heirs and assigns of each party.

Thereafter it developed from further experimentation that improvements could be made upon the awning and these improvements resulted in increasing the number of claims for patent upon the awning from 5, as set forth in patent No. 2,069,893, to 10 claims. Accordingly, on February 7, 1939, an application was made to the United States Patent Office for a reissue patent, covering 10 claims. This application was allowed, and on April 18, 1939, reissue patent No. 21,053 was issued in the name of Matthews upon the 10 claims.

It soon became evident that the ventilated awning was popular and a success commercially. However, the awning device was easily imitated and many awning makers commenced to do business with ventilated awnings which were infringements of the Matthews patent. For a period of approximately 8 years, from 1940 through 1948, there was constant litigation in the courts in enforcing the patents against various infringers. Various Federal and State courts held that the Matthews patent had been infringed.

In view of the results of this litigation Frank D. Mason, of Dallas, Texas, who was engaged in the business of making awnings of a type similar to the ventilated awning patented by Matthews, came to the conclusion that he would have to acquire a license under the Matthews patent or face expensive litigation. Accordingly, Mason did acquire a sublicense from Joe W. Hawley, of Houston, Texas, who on March 16, 1940, had acquired from the petitioner and Matthews an exclusive license to make, use, and sell the products covered by the Matthews patent throughout the States of Texas, Oklahoma, Louisiana, and Arkansas, and to sublicense others to make, use, and sell in that territory.

Thereafter, Mason came to the conclusion that it would be a profitable venture for him to acquire a license from the petitioner and Matthews for territory other than the territory already licensed to others. Accordingly, he contacted the petitioner and Matthews and proposed that he would organize a corporation which would acquire from the petitioner and Matthews the right to license makers of awnings throughout the United States under the Matthews patent, except for the four States of Texas, Oklahoma, Louisiana, and Arkansas, which were covered by the exclusive license to Hawley, and except for certain counties in the States of Tennessee, Missouri, and Mississippi, as to which Thajo Billingsley, of Memphis, Tennessee, had already been granted the exclusive right to make, use, and sell. At the outset it was Mason's proposal that he and certain friends and business associates would organize and finance the corporation entirely, and he and his attorney held meetings with Matthews and the petitioner to discuss such a corporation and the granting of the license in question to it by the petitioner and Matthews.

National Ventilated Awning Company (herein sometimes called the corporation or the company) was organized as a Texas corporation on January 10, 1945, and at that time a license was given to the corporation to license others throughout the United States to make, use, and vend the products under the patent and to collect royalties from such users. The license did not give the corporation itself the right to make, use, and vend the products under the patent.

The petitioner and Matthews, as well as Mason, furnished capital to the corporation. There was paid in to the corporation in 1945 the amount of $30,000, and capital stock in that amount was issued, divided into 300 shares of stock of a par value of $100 each. The stockholdings in the corporation during the year 1945 were as follows:

+-----------------------------------------------------------------------------+ ¦ ¦Shares issued¦Shares issued¦Shares ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦Name of stockholder ¦Jan. 16, 1945¦July 2, 1945 ¦outstanding ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦ ¦ ¦ ¦Dec. 31, 1945¦ +-----------------------------------+-------------+-------------+-------------¦ ¦Frank D. Mason ¦65 ¦65 ¦130 ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦John L. Ericson ¦5 ¦5 ¦10 ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦Thornton G. Graham (the petitioner)¦21 ¦19 ¦40 ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦Robert C. Graham ¦20 ¦20 ¦40 ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦Albert T. Matthews ¦21 ¦19 ¦40 ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦Mrs. Josephine S. Matthews ¦20 ¦20 ¦40 ¦ +-----------------------------------+-------------+-------------+-------------¦ ¦Total ¦152 ¦148 ¦300 ¦ +-----------------------------------------------------------------------------+

Frank D. Mason was president of the corporation and controlled its operations. Mason, his attorney, Paul T. Carrington, and John Ericson, an employee of the corporation, were three of the five directors. Matthews and the petitioner were the other directors, but Matthews never attended any meetings. The petitioner, since the corporation was located in Dallas, seldom attended meetings of the board of directors.

During the period from 1945 to 1949 the corporation operated under the license above mentioned.

On January 1, 1949, the petitioner and Matthews entered into a written agreement with the corporation which, by its terms, canceled and superseded the 1945 license agreement with the corporation, and which provided in part as follows:

3. Patentees (the petitioner and Matthews) hereby assign and transfer to Company all their right, title and interest in, to and under Reissue Letters Patent of the United States No. 21,053 and any improvements thereof and any reissue of said improvements now or hereafter before expiration of Reissue Letters Patent No. 21,053 owned or controlled by Patentees, including all rights of recovery for past and future infringement, subject, however, to prior licenses identified under (a) and (b) above, and subject to the covenants and understandings stated in this agreement.

4. Patentees hereby assign and transfer to Company all their right, title and interest, including the right to collect all monies due to Patentees, in the licenses identified under (a) and (b) above, to wit:

(a) License Agreement to Joe W. Hawley of Houston, Texas, dated March 16, 1940 as amended by Supplemental Agreement dated February 28, 1947 (present holder of license being Hawley Manufacturing Company of Houston, Texas).

(b) License Agreement to Thajo Billingsley of Memphis, Tennessee, dated February 15, 1944, as amended by letter agreement dated August 16, 1945. and Company agrees not to alter the aforesaid licenses (a) and (b) without written consent of Patentees.

5. In the event that either or both of the prior licenses identified under (a) and (b) above shall become and be void and of no effect, or shall have been terminated or shall expire, then the territory thus made available shall automatically be added to the territory covered by this agreement and Company shall thereafter have the same rights in the added territory as it is now given in other territory.

8. Company agrees to pay to Patentees, for the rights and property assigned and transferred to Company, the entire amount of royalties required to be paid, by the holders of the licenses identified as (a) and (b) above, for operations under those licenses, an amount equal to recoveries for infringement as specified in Section 11 below, and in addition an amount equal to the sum of 30% of the net royalties collected by Company on metal ‘Ventilated Awnings', and three and three-quarters cents ($.0375) per square foot for each square foot of the area comprising the upper surface of the awnings included in both layers of slats, on all awnings other than metal ‘Ventilated Awnings' made, used or sold by Company and its licensees but in no event shall such additional amount be less than 30% of all minimum royalties to which Company shall have become entitled from all licenses outstanding during the second month preceding. Payments shall be made not later than the last day of each month, for all awnings sold by Company and by all Company's licensees during the next preceding month, and each payment shall be accompanied by a written report setting forth in detail the quantity of products sold under the license by Company and its licensees during the month in question, the net selling price thereof, identity and address of purchasers, and the computation of the amounts of payments due. Net royalties in the case of metal ‘Ventilated Awnings' are defined as total royalties collected by Company from licensees licensed to make metal ‘Ventilated Awnings' less payments to other licensees out of such royalties.

11. In the event of any claimed infringement of the Reissue Letters Patent No. 21,053 or of any other patents covered by the provisions of this agreement, Company shall notify Patentees in writing, whereupon Patentees shall have the option for 90 days after such notice to require Company to commence appropriate action to abate said infringement or recover damages or both, at Patentees expense, with counsel of Patentees selection. The expense of any such action is to be paid in the first instance by Company and, after written approval by Patentees or by Thornton G. Graham on behalf of Patentees, is to be deducted from payments otherwise due to Patentees under the provisions of Section 8 of this agreement, and an amount equal to the recoveries is to be paid by Company to Patentees. If Patentees do not exercise such option, Company shall be free to prosecute such action as it may deem appropriate as its own expense and shall be entitled to retain any amounts recovered by reason thereof. In any such action brought by Company, it is agreed that Patentees shall have the right to be represented by counsel of their own selection at their own expense.

12. The obligations of this agreement, including the obligation of Company to make the payments specified in Section 8 of this agreement, shall continue until expiration of the last to expire of the letters patent subject to the terms of the agreement (including, in addition to Reissue Letters Patent No. 21,053, any improvements contributed by Patentees as well as improvements contributed by Company or by licensees) unless the agreement is sooner terminated as provided in Section 13 below.

13. If Company shall fail to perform any of the terms and conditions of this agreement and continues to do so for a period of thirty days after receiving written notice from the Patentees or either of them specifying the default, then at any time after the expiration of such thirty-day period of notice, the Patentees may, at their option, immediately terminate this agreement.

14. In the event of the termination of this agreement before expiration of the last to expire of the letters patent (whether such termination is brought about under the provisions of Section 13 above or in any other manner) ownership of all patents and licenses herein assigned to Company shall immediately revert to Patentees, and ownership of all other patents subject to the terms of this agreement and of all other licenses granted by Company under any of the said patents shall immediately be transferred to and vest in Patentees, * * *

It was provided that sublicenses granted by the corporation before January 1, 1949, were to continue in effect as licenses under rights acquired by the corporation pursuant to this agreement. In the contract the corporation undertook to prosecute, in accordance with its discretion, the business of making, using, and selling the patented article and of licensing such persons, firms, or corporations as it deemed suitable. It agreed that such license granted by it should require the licensee to pay royalties to the corporation, and provide for minimum royalties, the amount to be based generally upon the extent of the territory covered by the license, its population, and its trade possibilities. It agreed that each licensing agreement should be in such form as to permit transfer of the corporation's interest in the license to the petitioner and Matthews in the event of termination of this agreement for any reason whatsoever. It further agreed that each licensing agreement would provide that the licensee should report infringements to the corporation and that the licensee should have no right to bring suit to enjoin infringement or to recover for infringement; that the licensee submit any improvement in the product to the corporation and aid in the prosecution of any application for patent for the benefit of the corporation; that the licensee would render monthly reports to the corporation; and that the corporation would be permitted access to examine records of the licensee relating to manufacture, selling, and use of the product. The corporation also agreed to require assignment to it of any improvements of any product covered by the agreement which might be developed by any officer or employee of the corporation and to require assignment to it of any patents or patent applications. The petitioner and Matthews were given the right to examine all books and records of the corporation covering all its transaction and licenses and its collection of royalties and its manufacture and sales pursuant to this agreement. In addition, they could require the corporation at its expense to cause to be made an examination of the books and records of any of the corporation's licenses. The agreement, by its terms, was to inure to the benefit of and be binding on the petitioner and Matthews and their respective heirs, personal representatives, and assigns and the corporation and its successors and assigns.

On the same date that the new agreement was executed, January 1, 1949, the petitioner and Matthews signed a document, which was duly recorded in the United States Patent Office, and which provides in part as follows:

BE IT KNOWN that in consideration of the sum of One Dollar $1.00) from THE NATIONAL VENTILATED AWNING COMPANY aforesaid, the receipt of which is hereby acknowledged, and other good and valuable consideration, we, the said ALBERT T. MATTHEWS and THORNTON G. GRAHAM, by these presents, do sell, assign, transfer and set over unto THE NATIONAL VENTILATED AWNING COMPANY aforesaid, the entire right, title and interest in and to the said Letters Patent, including all rights of recovery for past and future infringement of said Letters Patent, the same to be held and enjoyed by the said THE NATIONAL VENTILATED AWNING COMPANY, for its own use and behoof and for its legal representatives, to the full end of the term for which said Letters Patent are granted, as fully and entirely as the same would have been held by us had this assignment and sale not been made.

The stockholders in the corporation on December 31, 1946, from January 1, 1949, to January 1, 1951, and on December 31, 1951, were as follows:

+-----------------------------------------------------------------------------+ ¦Shares outstanding ¦ ¦ ¦ ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Name of Stockholder ¦Dec. 31, 1946¦Jan. 1, 1949 ¦Dec. 31, 1951¦ ¦ ¦ ¦to ¦ ¦ +----------------------------------+-------------+--------------+-------------¦ ¦ ¦ ¦Jan. 1, 1951 ¦ ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Frank D. Mason ¦260 ¦390 ¦799 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦John L. Ericson ¦20 ¦30 ¦30 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Thornton G. Graham (the ¦120 ¦60 ¦102 ¦ ¦petitioner) ¦ ¦ ¦ ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Robert C. Graham ¦40 ¦60 ¦40 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Albert T. Matthews ¦80 ¦60 ¦87 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Mrs. Josephine S. Matthews ¦80 ¦60 ¦87 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Sara M. Britt ¦_ ¦40 ¦50 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Janet Graham Bullock ¦_ ¦40 ¦40 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Charles T. Graham ¦_ ¦40 ¦40 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Jessie C. Graham ¦_ ¦40 ¦102 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Betty M. Nixon ¦_ ¦40 ¦50 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Martha M. Thompson ¦_ ¦40 ¦50 ¦ +----------------------------------+-------------+--------------+-------------¦ ¦Total ¦600 ¦900 ¦1,477 ¦ +-----------------------------------------------------------------------------+

Robert C. Graham, Janet Graham Bullock, Charles T. Graham, and Jessie C. Graham are members of the petitioner's immediate family. Mrs. Josephine S. Matthews, Sara M. Britt, Betty M. Nixon, and Martha M. Thompson are members of the immediate family of Albert T. Matthews.

The increase in outstanding stock in 1951 and the change in relative percentage holdings of Mason and Matthews and the petitioner and their families, was due to the issuance on January 25, 1951, of 325 shares to Mason in exchange for assets of Mason Awning Company of Dallas, Inc., and to the issuance on July 2, 1951, of 84 shares each to Mason, the petitioner, and Matthews in exchange for assets of the Slats-O-Wood Awning Company of Houston, Texas.

On January 1, 1949, officers of the corporation were: Frank D. Mason, president and treasurer; Thornton G. Graham (the petitioner), vice president; John L. Ericson, secretary; and Paul Carrington (Mason's attorney), assistant secretary. The directors of the corporation at that time were Frank D. Mason, John L. Ericson, Paul Carrington, Albert T. Matthews, and T. G. Graham (the petitioner).

During 1951 the officers of the corporation were: Frank D. Mason, president; Thornton G. Graham (the petitioner), vice president; John L. Ericson, secretary; Harold E. Johnson, treasurer and assistant secretary. The petitioner served as vice president without salary and gave little attention to the company's operations. During the year 1951 the board of directors consisted of Frank D. Mason, John L. Ericson, Harold E. Johnson, Albert T. Matthews, and the petitioner. During the year, Matthews attended no meetings of the board of directors and the petitioner attended meetings on February 24, June 4, and October 29.

During the years 1949, 1950, and 1951, the expenses of litigation in connection with the Matthews patent and the infringement recoveries from such litigation were as follows:

+--------------------------------------------------------------+ ¦ ¦Legal and ¦ ¦ +--------------------------------+--------------+--------------¦ ¦ ¦infringement ¦Infringement ¦ +--------------------------------+--------------+--------------¦ ¦Year ¦expenses ¦receipts ¦ +--------------------------------+--------------+--------------¦ ¦1949 ¦$59,872.67 ¦$37,700.00 ¦ +--------------------------------+--------------+--------------¦ ¦1950 ¦27,629.81 ¦17,282.47 ¦ +--------------------------------+--------------+--------------¦ ¦1951 ¦26,021.56 ¦35,282.78 ¦ +--------------------------------+--------------+--------------¦ ¦Total ¦$113,524.04 ¦$90,265.25 ¦ +--------------------------------+--------------+--------------¦ ¦ ¦90,265.25 ¦ ¦ +--------------------------------+--------------+--------------¦ ¦Excess of expenses over receipts¦$23,258.79 ¦ ¦ +--------------------------------------------------------------+

The petitioner treated the transaction of January 1, 1949, as a sale to the corporation of the patent, and for the year 1951 reported in the joint return as long-term capital gain an amount of $48,643.73, which he received from the corporation under the contract of January 1, 1949. He included one-half of such amount in his adjusted gross income. The amount of $48,643.73 was computed as follows:

+---------------------------------------------------------------------+ ¦1950 royalty paid in 1951 ¦$6,795.68 ¦ +---------------------------------------------------------+-----------¦ ¦1950 royalties earned (less legal expenses of $26,021.56)¦69,677.63 ¦ +---------------------------------------------------------+-----------¦ ¦Infringement recoveries ¦35,282.78 ¦ +---------------------------------------------------------+-----------¦ ¦Total ¦$111,756.09¦ +---------------------------------------------------------+-----------¦ ¦Adjust to cash basis: ¦ ¦ +---------------------------------------------------------+-----------¦ ¦Deduct 1951 royalties paid in 1952 ¦14,431.55 ¦ +---------------------------------------------------------+-----------¦ ¦Total income--cash basis ¦$97,324.54 ¦ +---------------------------------------------------------+-----------¦ ¦Expenses incurred ¦37.06 ¦ +---------------------------------------------------------+-----------¦ ¦Net income ¦$97,287.48 ¦ +---------------------------------------------------------+-----------¦ ¦1/2 to Mr. Albert Matthews, Thomaston, Ga ¦48,643.75 ¦ +---------------------------------------------------------+-----------¦ ¦1/2 to Mr. T.G. Graham (the petitioner), Kent, Ohio ¦$48,643.73 ¦ +---------------------------------------------------------------------+

The respondent, in determining the deficiencies, held that the amount of $48,643.73 was taxable as ordinary income and, therefore, increased the petitioner's reported adjusted gross income by $24,321.87.

OPINION.

ATKINS, Judge:

The sole question presented is whether the amount of $48,643.73 received by the petitioner in the year 1951 from the corporation pursuant to the provisions of the contract of January 1, 1949, constitutes long-term capital gain, only one-half of which is to be taken into account in computing net income under the provisions of section 117 of the Internal Revenue Code of 1939.

SEC. 117. CAPITAL GAINS AND LOSSES.(a) DEFINITIONS.— As used in this chapter—(1) CAPITAL ASSETS.— The term ‘capital assets' means property held by the taxpayer (whether or not connected with his trade or business), but does not include—(A) stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business;(B) property, used in his trade or business, of a character which is subject to the allowance for depreciation provided in section 23(l), or real property used in his trade or business;(4) LONG-TERM CAPITAL GAIN.— The term ‘long-term capital gain’ means gain from the sale or exchange of a capital asset held for more than 6 months, if and to the extent such gain is taken into account in computing net income;(b) PERCENTAGE TAKEN INTO ACCOUNT.— In the case of a taxpayer, other than a corporation, only the following percentages of the gain or loss recognized upon the sale or exchange of a capital asset shall be taken into account in computing net capital gain, net capital loss, and net income:100 per centum if the capital asset has been held for not more than 6 months;50 per centum if the capital asset has been held for more than 6 months.

The respondent treated the full amount as ordinary income. Apparently he does not contend that the petitioner's interest in the patent in question was not a capital asset or that it was not held for more than 6 months. In any event, the evidence clearly shows that it did constitute a capital asset, in the hands of the petitioner, held for more than 6 months before the execution of the contract of January 1, 1949.

The respondent's position is that the agreement of January 1, 1949, did not constitute a sale of the petitioner's interest. He contends first that the transaction was not at arm's length since the petitioner and his co-owner of the patent, Matthews, owned the controlling stock interest in the corporation, and that in effect this was a device to convert ordinary income in the form of royalties into capital gain. He states that the petitioner and Matthews, by virtue of their majority stock ownership, could at any time cause the corporation to rescind or alter the contract. The respondent further contends that even if the transaction were at arm's length, the provisions of the agreement itself are insufficient to constitute the transaction a sale.

We do not agree with the respondent's first contention. The organization of the corporation came about as a result of the suggestion of Frank D. Mason, who at first intended to himself organize and finance a corporation, to receive from petitioner and Matthews the right to grant licenses to others. When the corporation was organized in 1945 the petitioner and Matthews did contribute capital, and their combined interest amount to 53 1/2 per cent, but Mason also contributed capital and he and Ericson owned the remainder, 46 2/3 per cent of the stock, Mason owning 43 1/3 per cent. In 1945 the corporation was granted the right by the petitioner and Matthews to license others and collect royalties, but not to itself make, use, and vend the products under the patent. The corporation operated under this arrangement until January 1, 1949, when the contract in question was executed. Mason was president of the corporation and controlled its operations, and the petitioner and Matthews were but two of the five directors. Matthews never attended meetings of the board and the petitioner attended only occasionally. The same situation existed after the execution of the January 1, 1949, contract, including the year 1951, except that in that year Mason became the owner of the majority of the stock.

Considering that Mason and Ericson had a substantial minority interest in the corporation, not controlled by the petitioner and Matthews, we cannot conclude that the contract of January 1, 1949, was not at arm's length. By that contract the corporation, and hence Mason and Ericson indirectly as stockholders, acquired substantially more rights in the patent than had hitherto been granted. We do not believe that the petitioner and Matthews could arbitrarily, by virtue of their majority stockholdings, rescind or alter the contract. Undoubtedly the minority interest would have the right to prevent such action if it were detrimental to the corporation. Upon the basis of the whole record, we are of the opinion that the corporation was not set up or utilized by the petitioner and Matthews as a mere device to minimize taxes. It carried on a regular business. Under the circumstances it cannot be considered as their alter ego or agent. Such cases as Campana Corporation v. Harrison, (C.A. 7) 114 F.2d 400, cited by the respondent, involving dealings between corporations wholly owned by the same stockholders, are not in point here. We conclude as a fact and hold that the contract of January 1, 1949, was executed and carried out by the parties acting at arm's length.

We turn to a consideration of the respondent's contention that the agreement itself is not sufficient to constitute an assignment.

It is well established that the transfer by the owner of a patent of the exclusive right to manufacture, use, and sell the patented article in a specific territory constitutes a sale of the patent, and that the question of whether an instrument constitutes an assignment or a license does not depend upon the name by which it is called but upon the legal effect of its provisions. Waterman v. Mackenzie, 138 U.S. 252; Kronner v. United States, (Ct. Cl.) 110 F.Supp. 730; Kavanagh v. Evans, (C.A. 6) 188 F.2d 234; Watson v. United States (C.A. 10) 222 F.2d 689; Edward C. Myers, 6 T.C. 258; Kimble Glass Co., 9 T.C. 183; Vincent A. Marco, 25 T.C. 544, on appeal (C.A. 9); Arthur C. Ruge, 26 T.C. 138; Halsey W. Taylor, 16 T.C. 376; Carl G. Dreymann, 11 T.C. 153. Cf. Cleveland Graphite Bronze Co., 10 T.C. 974, affd. (C.A. 6) 177 F.2d 200; and Lynne Gregg, 18 T.C. 291, affd. (C.A. 6) 203 F.2d 954.

Here the contract of January 1, 1949, is not in form a license. Rather, by its terms, the petitioner and Matthews did thereby ‘assign and transfer to the company all their right, title and interest in, to and under’ the patent and any improvements thereof and any reissue ‘including all rights of recovery for past and future infringement,‘ subject to prior license granted by the petitioner and Matthews to Hawley and Billingsley. An assignment in absolute form was executed by petitioner and Matthews and recorded in the United States Patent Office. The corporation agreed to pay to them for the rights and property assigned, the entire amount of royalties required to be paid by Hawley and Billingsley, an amount equal to recoveries for infringement as specified in section 11 of the contract, and in addition an amount equal to the sum of 30 per cent of the net royalties collected by the corporation on metal ‘Ventilated Awnings,‘ and 3 3/4 cents per square foot of the upper surface area of all awnings used or sold by the corporation and its licensees other than metal ‘Ventilated Awnings.’

The words of transfer used in the contract of January 1, 1949, are certainly sufficient to constitute the transaction an assignment unless there are other provisions which would negative the intent to transfer title. See Arthur C. Ruge, supra, and Kronner v. United States, supra.

We have set forth in the Findings of Fact various provisions of the contract, some of which the respondent contends evidence a continuing proprietary interest of the petitioner and Matthews in the patent. However, we are of the opinion that none of these provisions is inconsistent with the view that a sale was intended and accomplished. Thus, for example, provisions that the consideration to be paid is to be measured by a percentage of royalties received by the corporation, and that the contract may be canceled by the parties upon the occurrence of stated events or conditions do not defeat the sale. Edward C. Myers, supra; Commissioner v. Hopkinson, (C.A. 2) 126 F.2d 406, affirming 42 B.T.A. 580; Commissioner v. Celanese Corp., (C.A., D.C.) 140 F.2d 339, affirming an opinion of this Court; Kronner V. United States, supra; Hofferbert v. Briggs, (C.A. 4) 178 F.2d 743; and Allen v. Werner, (C.A. 5) 190 F.2d 840.

The respondent contends that the petitioner and Matthews did not sell their right to infringement recoveries and that they thus retained a substantial proprietary interest in the patent. He points to section 11 of the agreement, which is set forth in full in the Findings of Fact.

In Ellis, Patent Assignments (3d ed., 1955), it is stated:

Sec. 55. * * * The basic legal distinction between assignments and licenses has relation to the right or lack of right of the transferee to sue infringers in his own name without joining his transferor as party complainant. * * *

Sec. 56. * * * One test, therefore, as to whether an instrument is an assignment or a license is whether or not the transferee is given the right to maintain suit without making the transferor a party to the suit.

As we read section 11 of the contract, it was the intention of the parties that the corporation should have the right to sue for infringement in its own name. Thus, even thought the petitioner and Matthews reserved the option, for 90 days after notification of infringement, to stand the expense of any suit and become entitled to an amount equal to recoveries, it is to be noted that the provision is that they have the right to ‘require Company to commence appropriate action to abate said infringement or recover damages or both,‘ thus indicating that the two individuals did not retain the right to sue in their own names. Furthermore, if the two individuals should not exercise the option, the corporation is free to prosecute such action as it may deem appropriate at its own expense and shall be entitled to retain any amounts received. The respondent apparently is of the opinion that the right on the part of the petitioner and Matthews to an amount equal to any recoveries for infringement, in those instances where they elect to stand the expense of infringement suits, is inconsistent with the view that they have parted with all their proprietary interest in the patent. We think it is not inconsistent. It did not to any extent curtail the exclusive right granted to the corporation to make, use, and vend the invention. As we see it, any amount so received by the petitioner and Matthews would constitute a portion of the selling price of the patent. No reason is seen why the parties cannot fix the purchase price in these terms. The contract does not provide that the individuals are entitled to the recoveries as such, but that ‘an amount equal to the recoveries is to be paid by Company to Patentees (the petitioner and Matthews),‘ and that under section 8 of the contract the amount equal to the recoveries is included as a part of the consideration for the transaction. In this connection it is to be noted that in Watson v. United States, supra, one of the provisions of the contract obligated the patentee and assignee to act jointly in resisting infringement and fixed the manner in which damages recovered for infringement should be divided between them. The court viewed that provision as one designed to protect and safeguard the respective rights of both parties and, citing cases, stated:

It was not intended to reserve to Watson any property or proprietary right in the invention which was at variance with an assignment to the corporation of the right to manufacture, sell, and use carts throughout the life of the patent. * * *

It is our opinion that here also the provision was not intended to reserve to the individuals any proprietary right at variance with an assignment to the corporation of the exclusive right to manufacture, sell and use the invention throughout the life of the patent. We hold that any amount received by the petitioner as ‘infringement recoveries' constitutes a part of the proceeds from the sale of his interest in the patent.

The respondent also contends that the petitioner cannot avoid tax liability upon the royalties from the Billingsley and Hawley licenses as ordinary income merely by the device of permitting the corporation to collect them and pay them over as ‘selling price.’ He states that the so-called sale of these licenses, including the right to collect the royalties thereunder in exchange for the royalties collected, is no sale at all. However, the fact remains that the corporation did assume the duty and expense of collecting from Hawley and Billingsley, and we are of the opinion, from reading the whole contract, that collection of these amounts and paying them over was intended to be a part of the consideration for the whole transaction. By the contract the corporation would succeed to the right to exploit the patent in the territory covered by those licenses in the event they should ever be terminated. We conclude that it is proper to consider the amount received from these two licenses as a part of the selling price under the contract. In any event, the stipulated facts show that these were exclusive licenses granted to Billingsley and Hawley to make, use, and vend the patent article, in specified territories and presumably would have constituted sales to them under the principle set forth above. If so, even though the amounts in question had been received directly by the petitioner and Matthews they would constitute long-term capital gain to them, and hence the contract in question could not properly be viewed as a device to convert royalties into capital gain.

It is also to be noted that under the agreement any licenses which may have been granted during the interim from 1945 to January 1, 1949, by the corporation under the right given to it to license others throughout the United States, were to continue in effect as licenses under rights acquired by the corporation pursuant to ‘this agreement.’ We construe this to mean that the corporation would acquire all right, title, and interest in any such licenses, along with all the other rights in the patent, and that there remained in the petitioner and Matthews no proprietary rights thereto.

The respondent relies on the case of Switzer v. Commissioner, (C.A. 6) 226 F.2d 329, affirming an opinion of this Court. In that case individuals entered into a license agreement with their wholly owned corporation. The agreement provided that royalties which the licensee received under sublicenses thereafter granted should be transferred directly to the licensors who would reimburse the licensee for expenses incurred by the licensee in collecting the royalties. There also was a limitation on assignment of the the agreement by the licensee. In subsequent correspondence with the corporation the licensors referred to ‘our patents.’ The United States Court of Appeals for the Sixth Circuit affirmed the conclusion of this Court that the various factors in that case indicated the intent on the part of the individuals not to transfer an absolute title to the corporation. The factual situation is different in the instant case, as pointed out hereinabove.

It is held that the amount received by the petitioner in 1951, pursuant to the terms of the contract of January 1, 1949, constitutes long-term capital gain to him.

Decision will be entered under Rule 50.