<strong><em>Lieu v. Commissioner</em>, 24 T.C. 1068 (1955)</em></strong>

A nonresident alien’s activities in the U.S. must constitute a trade or business to be subject to U.S. income tax on capital gains, with the determination based on the scope and nature of the activities and whether they are primarily for investment or commercial purposes.

<strong>Summary</strong>

The Tax Court of the United States considered whether a nonresident alien was “engaged in trade or business in the United States,” thereby making his capital gains taxable under the Internal Revenue Code of 1939. The alien, represented by attorneys in the U.S., made significant investments in stocks, bonds, and commodities through resident brokers. The court held that these activities, while extensive, were related to the maintenance of a personal investment account and did not constitute a trade or business. Additionally, the alien’s investments in citrus groves, managed by corporations, were deemed separate from his personal business activities. Therefore, the capital gains were not taxable.

<strong>Facts</strong>

The petitioner, a nonresident alien who did not enter the U.S. until June 22, 1948, had substantial assets held by attorneys in New York City. Between 1942 and 1948, the attorneys, acting as custodians and with power of attorney, made numerous transactions in securities and commodities on his behalf. These transactions were conducted through resident brokers. The petitioner also invested in citrus groves in Florida; however, the groves were owned and operated by corporations in 1948, in which the petitioner was a stockholder, but not directly involved in management. The Internal Revenue Service determined a tax deficiency, arguing that the petitioner was engaged in trade or business in the U.S., and therefore, his capital gains were taxable.

<strong>Procedural History</strong>

The Commissioner of Internal Revenue determined a deficiency in the petitioner’s income tax for 1948. The petitioner challenged this determination in the Tax Court, arguing that he was not engaged in a trade or business within the United States, and thus, his capital gains were not taxable. The Tax Court considered the case based on stipulations of facts and found in favor of the petitioner.

<strong>Issue(s)</strong>

1. Whether the petitioner’s activities in buying and selling stocks and commodities through resident brokers constituted being “engaged in trade or business in the United States” within the meaning of section 211(b) of the Internal Revenue Code of 1939?

2. Whether the petitioner’s investment in and ownership of citrus groves, operated by corporations, constituted engaging in a trade or business within the U.S. during the relevant period?

<strong>Holding</strong>

1. No, because the court found that the petitioner’s trading activities in stocks and commodities were related to the maintenance of a personal investment account, and not a trade or business.

2. No, because the groves were owned and managed by separate corporations, in which the petitioner had no direct involvement in management or operation after incorporation, and those activities were thus not attributable to him.

<strong>Court’s Reasoning</strong>

The court analyzed whether the petitioner’s activities constituted engaging in a trade or business, focusing on the nature and extent of his transactions. The court considered the frequency of the transactions, the use of resident brokers, and whether the activities were more akin to investment or commercial endeavors. The court distinguished the case from others where a taxpayer was directly involved in operations of a business. The court found that the activity here more resembled a personal investment strategy. The court explicitly pointed out that, “If petitioner himself had given the buy and sell orders to the brokers, his transactions in securities and commodities would not have been sufficient to characterize him as being ‘engaged in trade or business in the United States’ because the last sentence of section 211(b) explicitly excludes such transactions.” The court also considered the citrus groves. Because the groves were owned and managed by separate corporations, the court reasoned that any activities of the corporations were not directly attributable to the petitioner, as the parties stipulated that he did not directly or indirectly participate in the management or operation of the groves after incorporation. This lack of direct involvement meant the groves did not create a trade or business for the petitioner.

<strong>Practical Implications</strong>

This case provides a framework for determining when a nonresident alien’s investment activities in the U.S. rise to the level of a trade or business. Attorneys should focus on: the degree of the alien’s involvement, the purpose of the activities (investment vs. commerce), and the extent of the transactions. The case highlights that using brokers for investment, without more, doesn’t automatically create a U.S. trade or business. The ruling suggests that clients should clearly delineate between personal investments and business activities to avoid potential U.S. tax liabilities. Later cases may distinguish this case if an alien’s involvement in business operations is more direct and extensive. The holding on the corporate ownership of the citrus groves underscores the importance of corporate form; absent piercing the corporate veil, the activities of the corporation were not attributed to the petitioner.