Docket No. 6407.
Claude B. Cross, Esq., for the petitioner. Joseph D. Donohue, Esq., and Charles P. Reilly, Esq., for the respondent.
On April 1, 1941, petitioner and his brother agreed to dissolve their partnership of public accounting and real estate tax practice, with petitioner taking the accounting practice and his brother the tax practice. At that time there was a considerable number of real estate tax cases pending which the partnership had taken on a contingent fee basis, and the brothers agreed that these cases ‘shall be liquidated by‘ the two brothers and ‘the net profit arising from said liquidation shall belong to‘ the two brothers in equal shares. On April 30, 1941, petitioner executed a deed of gift in which he gave to his wife all of his right, title, interest and equity ‘reserved under the terms of said dissolution agreement pertaining to the tax business.‘ Held, petitioner rather than his wife is taxable on one-half of the net profits arising from the liquidation of the tax cases that were liquidated between April 30, 1941, and the balance of the taxable year. Claude B. Cross, Esq., for the petitioner. Joseph D. Donohue, Esq., and Charles P. Reilly, Esq., for the respondent.
This proceeding involves the determination by the respondent against petitioner of a deficiency in income tax for the calendar year 1941 in the amount of $9,042.64.
The deficiency results from three adjustments to the net income as disclosed by petitioner's return. By an appropriate assignment of error petitioner contests one of the three adjustments; the other two were in petitioner's favor. The contested adjustment is labeled ‘Income from partnership in liquidation $19,064.90‘ and is partly explained in a statement attached to the deficiency notice as follows:
This increase of $19,064.90 represents the portion of the income of the partnership Lubets and Lubets in liquidation (as disclosed by the partnership return (Form 1065) filed for the year 1941 under the name and style of ‘Moses and Lillian Lubets, Liquidation Trustees for Lubets and Lubets, 185 Devonshire Street, Boston, Massachusetts.‘) which was actually and/or constructively received by you during the said year 1941 and which is now held to be taxable to you for that reason under section 22 of the Internal Revenue Code, instead of to your wife, Lillian Lubets. The difference between the amount you reported from this source, $ none, and the amount deemed to be taxable to you, $19,064.90, has been included in your taxable income herein.
Petitioner conceded at the hearing that he was taxable on at least $4,536.90 of the adjustment above referred to.
FINDINGS OF FACT.
Petitioner is an individual, residing in Brookline, Massachusetts. His income tax return for the calendar year 1941 was filed with the collector for the district of Massachusetts.
Petitioner and his brother, Moses Lubets, formed an accounting partnership in 1922 under the firm name of Lubets & Lubets.
For several years prior to April 1, 1941, Lubets & Lubets had been engaged, in addition to their accounting practice, in the business of acting on a contingent fee basis for taxpayers in having appraisals made of real estate and endeavoring to secure for the taxpayers a reduction in the assessed value of their real estate.
On April 1, 1941, petitioner and Moses agreed to dissolve their partnership. The material provisions of this agreement are as follows:
I. DISSOLUTION OF PARTNERSHIP
The partnership heretofore carried on by said partners in the business of accounting and tax consultants, under the name Lubets & Lubets, wherein said partners were entitled to share equally in the profits and liable for the losses, shall be deemed to have been dissolved by mutual consent as and from the 31st day of March, 1941.
A. Transfer of Accounting Practice
Said Moses Lubets hereby gives, grants and conveys to said Robert Lubets, all his right, title and interest in and to the accounting practice and goodwill arising therefrom formerly carried on by said Lubets & Lubets.
B. Transfer of Tax Practice
Said Robert Lubets hereby gives, grants and conveys to said Moses Lubets, all his right, title and interest in and to the real estate tax practice, clientele and goodwill connected therewith formerly carried on by said Lubets & Lubets as tax consultants, but subject, nevertheless, to the limitations hereinafter set forth and subject to the provisions of Clause III * * * .
It is further mutually agreed that Moses Lubets and Robert Lubets shall retain equal interests in the real estate tax consultant business of said Lubets & Lubets limited, nevertheless, to those cases arising from the assessments of taxes prior to the tax year 1941. (All fees or profits realized from real estate tax consultant clients of Lubets & Lubets arising from the assessments of taxes for the tax year 1941 and thereafter shall belong entirely to said Moses Lubets.) All uncompleted real estate tax consultant business arising from cases prior to the 1941 tax assessment, shall be liquidated by said Moses Lubets and Robert Lubets in accordance with the provisions of Clause III, hereinafter set forth.
II. DIVISION OF ASSETS
All the assets of Lubets & Lubets now allocated to the accounting department shall be evaluated by said Moses Lubets and Robert Lubets and after the payment of all outstanding liabilities, shall be divided equally between said Moses Lubets and Robert Lubets, after balancing the capital accounts of each partner on the books of Lubets & Lubets.
All the assets of Lubets & Lubets now allocated to the tax department shall be divided equally between said Robert Lubets and Moses Lubets. Such assets as are required for the liquidation of the tax cases of Lubets & Lubets shall remain undistributed until final distribution between Moses Lubets and Robert Lubets shall be made at the termination of the liquidation proceedings. It is agreed that a bank balance of Six Thousand ($6,000.00) Dollars shall be maintained for the liquidation account hereinafter set forth.
III. LIQUIDATION OF REAL ESTATE TAX MATTERS
A. All real estate tax matters as hereinbefore set forth involving tax years prior to but not including the tax year 1941, shall be liquidated by both Moses Lubets and Robert Lubets as liquidating trustees, the consent of both being required on any matter. The failure of either liquidating trustee to give his prior consent or to object to any action taken by the other liquidating trustee in the course of such liquidation shall not be deemed to be a waiver of his right thereafter to object.
B. For such period as the parties hereto may hereafter agree upon, said liquidating trustees shall receive the following weekly salaries:
+---------------------+ ¦Robert Lubets ¦$25.00¦ +--------------+------¦ ¦Moses Lubets ¦100.00¦ +---------------------+
together with such reasonable expenses, including travel, hotel and similar expenses as are property chargeable as a liquidation expense. Each liquidating trustee shall submit weekly to the other a written itemized list of any such expenses incurred by him during the prior week.
C. After the deduction of the salary and expenses of said Moses Lubets and Robert Lubets as set forth in the foregoing paragraph, and the further deduction of all other proper expense for appraisals, rent, telephone, supplies, stenographic services, etc., the net profit arising from said liquidation shall belong to said Moses Lubets and Robert Lubets in equal shares.
D. For the purposes of the liquidation requirements, and for those purposes only, the name of Lubets & Lubets shall be continued to be used, until such time as it shall no longer be required in the liquidation process, or until such earlier time as may be agreed upon by said Robert Lubets and Moses Lubets.
After the tax cases through the tax year 1940 have been finally disposed of, neither Robert Lubets nor Moses Lubets shall use the name ‘Lubets & Lubets‘ at any future time nor for any other purpose, it being mutually agreed that each will conduct his own prive business under a name other than ‘Lubets & Lubets‘. It is further agreed that the name ‘Lubets‘ shall not be used by either party signatory hereto in any firm name which either party shall hereafter select or adopt for the conduct of his own real estate tax business.
E. A bank account shall be maintained at the National Rockland Bank of Boston. This account shall be the depositary for all funds received from the liquidation of the business of Lubets & Lubets real estate tax cases, and shall be used to pay all salaries and expenses payable during the course of the liquidation process. Said funds shall be withdrawn only by the signatures of both Moses Lubets and Robert Lubets together— neither to have the right of individual withdrawals.
It is agreed that should said deposit account at the time of the execution of this agreement or at any time during the term of the liquidation be less than Five Thousand ($5,000.00) Dollars, each will contribute equally such sum as may be necessary to increase the total deposit account to Six Thousand ($6,000.00) Dollars. If said deposit account at any time during the term of liquidation exceeds Seven Thousand ($7,000.00) Dollars, the sum exceeding Six Thousand ($6,000.00) Dollars shall be withdrawn and divided equally between said Robert Lubets and Moses Lubets.
IV. In the event that said Moses Lubets and Robert Lubets are unable to agree upon any matter requiring their mutual agreement under any clause of this document, the matter shall be submitted to arbitration. * * * Such arbitration proceeding shall be a condition precedent to bringing any action, suit or proceeding in any court for the establishment of any rights or causes of action arising from this agreement.
On April 30, 1941, petitioner executed an instrument which is set forth in full (except for petitioner's signature) as follows:
DEED OF GIFT
This indenture made this 30th day of April 1941 between Robert Lubets of Brookline and Lillian Lubets, wife of said Robert Lubets, also of Brookline,
WHEREAS said Robert Lubets is desirous of providing for the better support and maintenance of his said wife, Lillian Lubets, and
WHEREAS said Robert Lubets entered into an agreement with Moses Lubets dated April 1, 1941 dissolving the partnership of Lubets & Lubets, and
WHEREAS under said dissolution agreement separate dispositions are made of the accounting business and the tax business of Lubets & Lubets, and
WHEREAS under said dissolution agreement the accounting business was transferred to said Robert Lubets, and
WHEREAS under said dissolution agreement certain rights, privileges, advantages, monies and profits in the tax business were served to said Robert Lubets.
NOW THEREFORE, IN CONSIDERATION OF the natural love and affection which said Robert Lubets bears for his said wife, Lillian Lubets, and with the full intention of transferring by way of gift every right, privilege, advantage and all money and profits reserved to said Robert Lubets in the tax business under said dissolution agreement, said ROBERT LUBETS hereby GIVES, GRANTS, CONVEYS and ASSIGNS unto said LILLIAN LUBETS, her heirs and assigns forever, free from any control of any kind on the part of said Robert Lubets TO HAVE and TO HOLD the same for her sole use and benefit, all the RIGHT, TITLE, INTEREST and EQUITY of said Robert Lubets reserved under the terms of said dissolution agreement pertaining to the tax business, all as shown by the books of Lubets & Lubets relating to the Tax Department on and as of the date of these presents consisting principally of cash and accounts receivable and including all monies on hand or in the bank account of said Lubets & Lubets tax account and which is presently due to said Robert Lubets or which may become due at any time during the liquidation process under said dissolution agreement.
The tax business referred to in the dissolution agreement and in the deed of gift consisted of accounts receivable, cash on deposit, files, books of account, records, good will, and the contingent interest in applications for abatement then pending before various boards of assessors and appeals then pending before the appellate tax board, belonging to owners who had entered into contingent contracts with Lubets & Lubets to pay them for the securing of reductions in the assessed value of their real estate, either as the result of settlements reached with the assessors, or by decision reached by the appellate tax board. Many of the tax cases that were undisposed of on April 1, 1941, had been pending for several years.
In order to secure reductions in applications for abatement and appeals, some or all of the following steps would be taken:
a. Examination of properties and locations.
b. Analysis of neighborhood trends.
c. Analysis of sales and rentals in the neighborhood of the property.
d. Preparation of preliminary appraisals.
e. Ascertaining fair value of property through the employment of expert appraisers.
f. Assisting attorneys employed by the taxpayers by furnishing to them statistical information relative to sales, rentals, reproduction cost, depreciation, and obsolescence for the proper presentation of the application for abatement in conferences with the assessors, and for the presentation of evidence on the appeals when heard by the appellate tax board.
At the time of the deed of gift on April 30, 1941, only about 2 percent of the pending cases had had any of the steps taken which are outlined in the preceding paragraph. No such work had yet been done on about 98 percent of the pending cases.
The accounts receivable included in the deed of gift consisted of amounts billed by Lubets & Lubets to the taxpayers prior to May 1, 1941. During the year 1941 Lillian Lubets received $5,671.13 as her share from the collection of accounts receivable outstanding on May 1, 1941.
Petitioner concedes that the said amount of $5,671.13, less 20 percent for expenses reasonably attributable to the realization of these accounts receivable, should properly be added to his gross income for the taxable year in question. $5,671.13 minus $1,134.23 (20 percent of $5,671.13) equals the $4,536.90 referred to in our opening statement.
Petitioner's wife, Lillian Lubets, performed no services for the partnership prior to or subsequent to the dissolution agreement of April 1, 1941.
On May 1, 1941, there were pending in the appellate tax board various appeals which had previously been entered by the respective taxpayers. Some work had been performed by Lubets & Lubets prior to this date on all of said pending cases of which there were approximately 100 to 125 different taxpayers. Some of the pending cases involving one taxpayer involved more than one tax year. Petitioner personally had performed services prior to May 1, 1941, on some of the contingent cases which later accounts receivable.
On March 13, 1942, petitioner filed a gift tax return reporting therein a gift to his wife of $4,529.48 cash and accounts receivable in the amount of $11,000. At the same time Lillian Lubets filed a donee tax return.
On his individual income tax return for the taxable year 1941 petitioner reported, among other things, income from salaries and other compensation for personal services of $300, and income from the partnership of Lubets & Lubets of $14,061.23. The latter amount was for the period from January 1 to April 30, 1941.
Lubets & Lubets in March 1942 filed on Form 1065 a partnership return of income, signed and prepared only by petitioner, for the period beginning January 1 and ending April 30, 1941, wherein there was reported an ordinary net income of $28,422.46, which was distributed among the partners in schedule J of the return as follows:
+-----------------------------------+ ¦Robert Lubets, Brookline¦$14,061.23¦ +------------------------+----------¦ ¦Moses Lubets, Salem ¦14,361.23 ¦ +------------------------+----------¦ ¦Total ¦28,422.46 ¦ +-----------------------------------+
In March 1942 petitioner also prepared on Form 1065 a partnership return of income for ‘Moses and Lillian Lubets, Liquidation Trustees for Lubets & Lubets, ‘ for the period beginning May 1 and ending December 31, 1941, which return was signed by Lillian Lubets and wherein there was reported an ordinary net income of $38,729.81, which was distributed in schedule J of the return as follows:
This net income of $38,729.81 is the result of a reported gross income of $49,467 less deductions of $10,737.19. The $5,671.13 mentioned above and in footnote 1 is included in the amount of $49,467. The deductions reported of $10,737.19 represent approximately 20 percent of the gross income of $49,467.
+------------------------------------+ ¦Moses Lubets, Salem ¦$19,964.91¦ +-------------------------+----------¦ ¦Lillian Lubets, Brookline¦18,764.90 ¦ +-------------------------+----------¦ ¦Total ¦38,729.81 ¦ +------------------------------------+
In March 1942 petitioner also prepared on Form 1040 an individual income tax return for Lillian Lubets for the calendar year 1941, which was signed by Lillian Lubets and wherein there was reported income from ‘Moses Lubets & Lillian Lubets, Liquidation Trustees for Lubets & Lubets,‘ of $18,764.90. The only other items reported in this return were interest received of $32.17, contributions paid of $50, taxes paid of $10, and a claimed earned income credit of $1,400.
The respondent determined that petitioner rather than his wife was taxable on the above mentioned distributive share of $18,764.90, which he increased to $19,064.90, which increase of $300 he explained in the statement attached to the deficiency notice as follows:
The increase of $300.00 in the amount reported by Lillian Lubets and the amount allocated to you herein represents partner's salary of $300.00 received by you which was deducted as expense on line 14 of page 1 of the partnership return. In explanation (b) following an offsetting adjustment has been made for this item since you reported it separately on line 1 of page 1 of your return.
Both petitioner and the firm of Lubets & Lubets were on a cash basis.
Petitioner did not at any time receive any part of the above amount of $18,764.90. This was retained by Lillian Lubets and treated by her as her own property.
As of April 30, 1941, the books of account and records of Lubets & Lubets were changed to reflect the transfer of capital account in the amount of $18,542.70 from Robert Lubets to Lillian Lubets. Between June 28 and December 19, 1941, Lillian Lubets withdrew from her capital account $13,385.50. On December 31, 1941, her capital account was credited with $18,524.22 of net profits and charged with additional drawings of $8,750, thus leaving a credit balance in her account on January 1, 1942, of $14,931.42.
Prior to April 1 or May 1, 1941, petitioner was consulted with reference to employment of appraisers and in connection with offers of settlement. After May 1, 1941, petitioner had nothing to do with the employment of or selecting of appraisers, or passing upon them, or passing upon offers that might be received from assessors.
From the time of the dissolution of the partnership of Lubets & Lubets until the fall of 1941, Moses Lubets maintained his own office as a tenant of petitioner and paid rent to petitioner.
The partnership of Lubets & Lubets was not terminated by the agreement of dissolution and was still in existence on December 31, 1941. During that time the partnership was in the process of winding up its affairs.
The deed of gift made by petitioner to his wife on April 30, 1941, was not a completed valid gift of petitioner's interest in the partnership of Lubets & Lubets; but, so far as the deed of gift entitled petitioner's wife to receive petitioner's share of the partnership income during the winding up period, it was an assignment of income. The portion of net income realized in 1941 in the winding up of the partnership of Lubets & Lubets which was reported by Lillian Lubets in her income tax return is taxable to petitioner.
The question at issue is whether petitioner or his wife is taxable on one-half of the net profits arising from the liquidation of the tax business of Lubets & Lubets for the period from April 30 to December 31, 1941. The other one-half belonged to Moses Lubets and is not here involved. The parties are in agreement as to the amount of the one-half of the net profits here in question, namely, $18,764.90. Of this amount petitioner concedes that $4,536.90 is taxable to him, which leaves in issue the amount of $14,228. Although the contested adjustment is in the amount of $19,064.90, the additional $300 over the $18,764.90 is not in reality at issue, as is indicated by the explanation contained in the statement attached to the deficiency notice which is set out in the findings.
Petitioner, in contending that he is not taxable on the net profits of $14,228, argues that the deed of gift which he executed on April 30, 1941, was a valid gift of his entire interest in the winding up of the tax end of the partnership between himself and his brother; that the said gift completely terminated that partnership, which had been dissolved on April 1, 1941, but was still in the winding up stage; that thereafter the liquidation of the tax end of the original partnership of Lubets & Lubets was conducted as a new partnership between his wife and his brother; and that, therefore, one-half of the profits of the alleged new partnership were properly taxable to his wife.
The respondent's position is that, although there was an agreement to dissolve the partnership dated April 1, 1941, the partnership was not terminated at any time during 1941; and under sections 181 and 182 of the Internal Revenue Code petitioner's distributive share of the partnership income is taxable to him. The respondent further contends that the income of the partnership in dissolution was derived solely from personal services and that the alleged ‘Deed of Gift‘ was simply an anticipatory assignment of petitioner's income.
SEC. 181. PARTNERSHIP NOT TAXABLE.Individuals carrying on business in partnership shall be liable for income tax only in their individual capacity.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).
We think that the respondent's determination must be sustained. Chapter 108A of the Annotated Laws of Massachusetts provides with respect to the dissolution and winding up of partnerships, in part, as follows:
Sec. 29. Dissolution and Winding Up, Terms Distinguished.— The dissolution of a partnership is the change in the relation of the partners caused by any partner ceasing to be associated in the carrying on as distinguished from the winding up of the business.
Sec. 30. Termination, When Effected.— On dissolution the partnership is not terminated, but continues until the winding up of partnership affairs is completed.
Both petitioner and the respondent agree that the firm of Lubets & Lubets was dissolved by the dissolution agreement of the partners on April 1, 1941. They disagree as to when the partnership was terminated. As previously indicated, petitioner contends it was terminated by his execution of the deed of gift; whereas the respondent contends that the winding up of the affairs of the partnership of petitioner and his brother Moses continued on past the end of the taxable year 1941. We do not agree with petitioner that the partnership.of Lubets & Lubets was terminated by his execution of the deed of gift. The affairs of the partnership had not yet been completely wound up. There were still approximately 125 tax cases to be disposed of, in which petitioner and his brother by their agreement retained ‘equal interests.‘ This agreement between petitioner and his brother remained in full force and effect throughout the remainder of the taxable year in question. We do not think petitioner could terminate that agreement simply by making a gift of his interests therein to his wife. The gift, although effective as between the parties as an assignment of income, could not, in our opinion, effect a ‘winding up of partnership affairs.‘ Both petitioner and his brother had definite rights and obligations under their agreement. It would seem that before petitioner could contend that there was a termination of the partnership on April 30, 1941, it would be necessary that he submit proof that Moses Lubets accepted Lillian Lubets in substitution for petitioner, particularly in view of the provisions in clause III of their agreement, to the effect that ‘All real estate tax matters * * * shall be liquidated by both Moses Lubets and Robert Lubets as liquidating trustees, the consent of both being required on any matter‘ and that ‘The failure of either liquidating trustee to give his prior consent or to object to any action taken by the other liquidating trustee in the course of such liquidation shall not be deemed to be a waiver of his right thereafter to object.‘ Without such proof we can not find that Lillian Lubets and Moses Lubets formed a new partnership. One of the fundamental requirements of a partnership is consent of the parties, which is totally lacking in the instant proceeding. Furthermore, the evidence shows that Lillian Lubets performed no services whatever in connection with the winding up of the tax business in question and put in no capital of her own except that which she received from petitioner and which petitioner under clause III of the dissolution agreement was required to leave in the business while it was being wound up.
We think the case of Burnet v. Leininger, 285 U.S. 136, is similar in some respects to the instant case. In that case the taxpayer was a member of a partnership known as the Eagle Laundry Co. He assigned one-half of his partnership interest to his wife. The Supreme Court, after quoting sections of the Revenue Acts of 1918 and 1921 (which are substantially the same as those of the present code), stated:
* * * Upon these findings * * * it cannot be maintained that the agreement between the respondent and his wife made her a member of the partnership. That result could not be achieved without the consent of the other partner or partners, and there is no finding of such consent. The mere communication of the fact that the agreement had been made was not enough. * * * His wife took no part in the management of the business and made no contribution to its capital. * * * Upon the facts as found, the agreement with Mrs. Leininger cannot be taken to have amounted to more than an equitable assignment of one-half of what her husband should receive from the partnership. * * *
Petitioner contends that the Leininger case is distinguishable from the instant proceeding for several reasons. His first reason is ‘that there is no evidence that Moses Lubets did not consent to the substitution of Lilliam Lubets in place of Robert Lubets.‘ Neither is there any evidence that he did so consent. His second reason is ‘that the evidence clearly shows that Robert Lubets exercised no further control over the business and took no further part in the management thereof.‘ Under the dissolution agreement petitioner had certain rights and obligations which were not erased by executing the deed of gift. Although petitioner may have taken no active part in the winding up of the tax business of the partnership, nevertheless, he continued to have certain rights and obligations in connection therewith which would not relieve him from reporting the share of the profits due him under the agreement. Petitioner's remaining reasons for distinguishing the Leininger case from the instant case are:
* * * that the capital account was transferred on the books of the partnership to Lilliam Lubets; that Lillian Lubets exercised complete control over this account; that Robert Lubets received none of the income in question; that the capital account of Robert Lubets was closed out. It is further submitted that the drawings by Lilliam Lubets set forth on Page 8 of this Brief clearly establishes knowledge and consent of Moses Lubets to the acceptance of Lillian Lubets as his partner.
We do not regard these distinctions as controlling in view of the specific agreement between petitioner and his brother as to how the tax business of the partnership was to be wound up.
Petitioner's briefs contain considerable argument in an attempt to bring the instant case within the rule of Blair v. Commissioner, 300 U.S. 5, and other similar cases holding that, if the gift is of income-producing property, then the income from such property is taxable to the donee. In Harrison v. Schaffner, 312 U.S. 579, the Supreme Court concluded as follows:
* * * we leave it to future judicial decisions to determine precisely where the line shall be drawn between gifts of income-producing property and gifts of income from property of which the donor remains the owner, for all substantial and practical purposes. Cf. Helvering v. Clifford, supra.
In the instant proceeding the principal subject matter of the gift was petitioner's interest in the outcome of the tax cases that were pending at the time of the dissolution agreement and were still pending on April 30, 1941, the date of the deed of gift. These cases were all taken on a contingent fee basis. Only if the partnership was successful in getting the tax assessment reduced would there be a fee. Petitioner had a one-half interest in such fee after all expenses were paid. Under the dissolution agreement with his brother, petitioner had certain rights and obligations, and for his services he was to be paid a weekly salary of $25 and his expenses. Under such circumstances we think the gift which petitioner made to his wife was one of ‘income from property of which the donor remains the owner, for all substantial and practical purposes.‘ Harrison v. Schaffner, supra. We sustain the respondent's determination. Burnet v. Leininger, supra. Cf. Lucas v. Earl, 281 U.S. 111; Helvering v. Horst, 311 U.S. 112; Helvering v. Eubank, 311 U.S. 122; and Richard S. Doyle, 3 T.C. 1092; affd., 147 Fed. (2d) 769.
Decision will be entered for the respondent.