SCOTUS Reports

Tag: stock sales

  • Crow v. Commissioner, 79 T.C. 541 (1982): Distinguishing Business from Nonbusiness Capital Losses in Net Operating Loss Calculations

    Crow v. Commissioner, 79 T. C. 541 (1982)

    Capital losses on stock sales are classified as business or nonbusiness for net operating loss calculations based on their direct relationship to the taxpayer’s trade or business.

    Summary

    In Crow v. Commissioner, the Tax Court addressed whether capital losses from the sale of Bankers National and Lomas & Nettleton stocks were business or nonbusiness capital losses for net operating loss (NOL) calculations. Trammell Crow, a real estate developer, purchased Bankers National stock hoping to secure loans, but no such relationship developed. Conversely, he bought a significant block of Lomas & Nettleton stock to keep it out of unfriendly hands, given their crucial financial relationship. The court ruled the Bankers National loss as nonbusiness due to its indirect connection to Crow’s business, but deemed the Lomas & Nettleton loss as business-related due to its direct impact on maintaining a favorable business relationship.

    Facts

    Trammell Crow, a prominent real estate developer, purchased 24,900 shares of Bankers National Life Insurance Co. in 1967 following a suggestion from an investment banker, hoping to establish a lending relationship. Despite attempts, no such relationship materialized, and Crow sold the stock at a loss in 1970. Separately, Crow acquired a significant block of 150,000 shares of Lomas & Nettleton Financial Corp. in 1969 to prevent the stock from falling into unfriendly hands, given Lomas & Nettleton’s crucial role in financing Crow’s real estate ventures. He sold 41,000 shares of this block at a loss in 1970.

    Procedural History

    The Commissioner disallowed a portion of Crow’s NOL carryback from 1970 to 1968 and 1969, classifying the losses from the stock sales as nonbusiness capital losses. Crow petitioned the U. S. Tax Court, which heard the case and issued a decision on September 27, 1982.

    Issue(s)

    1. Whether the loss on the sale of Bankers National stock was a business or nonbusiness capital loss for purposes of computing the NOL under section 172(d)(4) of the Internal Revenue Code.
    2. Whether the loss on the sale of Lomas & Nettleton stock was a business or nonbusiness capital loss for purposes of computing the NOL under section 172(d)(4) of the Internal Revenue Code.

    Holding

    1. No, because the Bankers National stock was not directly related to Crow’s real estate business, the loss was classified as a nonbusiness capital loss.
    2. Yes, because the Lomas & Nettleton stock was purchased to maintain a favorable business relationship, the loss was classified as a business capital loss.

    Court’s Reasoning

    The court applied the statutory requirement that losses must be “attributable to” the taxpayer’s trade or business to qualify as business capital losses. For Bankers National, the court found no direct connection to Crow’s real estate business, as the purchase was primarily an investment with an indirect hope of securing loans. The court emphasized that the stock was not integral to Crow’s business operations, and the failure to establish a lending relationship further supported this classification.
    For Lomas & Nettleton, the court found a direct business nexus. The purchase was motivated by a desire to keep the stock out of unfriendly hands, given the critical role Lomas & Nettleton played in financing Crow’s projects. The court noted the significant premium paid for the stock as evidence of this business purpose. The court also considered the legislative history of section 172(d)(4), which was intended to allow losses on business assets to be included in NOL calculations.
    The court rejected the Commissioner’s alternative argument to treat gains on other stock sales as ordinary income, finding insufficient evidence that these securities were held for business purposes.

    Practical Implications

    This decision clarifies the criteria for classifying capital losses as business or nonbusiness for NOL calculations. Practitioners should focus on demonstrating a direct relationship between the asset and the taxpayer’s business operations. For real estate developers and similar businesses, this case suggests that stock purchases aimed at securing financing or maintaining business relationships can be classified as business assets if they are integral to the business’s operations.
    The ruling may influence how businesses structure their financing and investment strategies, particularly when seeking to offset business gains with losses. It also underscores the importance of documenting the business purpose behind asset acquisitions. Subsequent cases, such as Erfurth v. Commissioner, have cited Crow in affirming the validity of the regulations governing NOL calculations.

  • Estate of Weiskopf v. Commissioner, 77 T.C. 135 (1981): Determining When Trusts Cease to be Estate Beneficiaries for Tax Attribution Purposes

    Estate of Edwin C. Weiskopf, Deceased, Anne K. Weiskopf and Solomon Litt, Executors, Petitioner v. Commissioner of Internal Revenue, Respondent, 77 T. C. 135 (1981)

    A trust ceases to be a beneficiary of an estate for tax attribution purposes when it receives its full distribution and irrevocably settles its tax liability with the estate.

    Summary

    Estate of Weiskopf involved the tax treatment of stock sales by an estate to related corporations. The estate distributed stock to trusts for the decedent’s grandchildren and entered into a tax apportionment agreement, approved by the New York Surrogate’s Court, that fixed the trusts’ estate tax liability. The Tax Court held that the trusts were no longer beneficiaries of the estate at the time of the stock sales, as they had received their full distribution and irrevocably settled their tax liability. This decision severed the attribution of stock ownership from the trusts to the estate under IRC section 318, allowing the estate’s stock sales to be treated as capital gains rather than dividends.

    Facts

    Edwin C. Weiskopf died in 1968, owning substantial stock in five corporations. His will directed that Technicon U. S. preferred stock be transferred to trusts for his grandchildren. The estate sold stock in four other corporations: Technicon Ireland, Technicon Australia, Technicon Canada, and Mediad. The estate and the trusts entered into a tax apportionment agreement on December 12, 1968, which was approved by the New York Surrogate’s Court on December 30, 1968. Under this agreement, the trusts paid the estate $631,072. 29 as their share of estate taxes, based on valuations at the time of Weiskopf’s death.

    Procedural History

    The Commissioner of Internal Revenue issued notices of deficiency for the estate’s income tax for the years 1969, 1970, and 1971, and for estate tax. The estate petitioned the U. S. Tax Court for a redetermination of these deficiencies. The parties settled the estate tax issue, resulting in a refund to the estate. The sole remaining issue before the Tax Court was whether the estate’s stock sales should be treated as capital gains or dividends under the constructive ownership rules of IRC section 318.

    Issue(s)

    1. Whether the trusts were still beneficiaries of the estate at the time of the stock sales, such that the estate constructively owned stock in the corporations through the trusts under IRC section 318?

    Holding

    1. No, because the trusts had received their full distribution and irrevocably settled their estate tax liability with the estate, they were no longer considered beneficiaries of the estate for the purposes of IRC section 318.

    Court’s Reasoning

    The court relied on Treasury Regulation section 1. 318-3(a), which states that a person ceases to be a beneficiary of an estate when they have received all entitled property, no longer have a claim against the estate, and there is only a remote possibility that the estate will seek the return of property or payment from the beneficiary. The court found that the tax apportionment agreement, approved by the Surrogate’s Court, irrevocably determined the trusts’ estate tax liability. Despite the possibility of subsequent adjustments to the estate’s value, the agreement permanently fixed the trusts’ liability to the estate. The court distinguished Estate of Webber v. United States, where no such agreement had been made. The court also noted that Commissioner v. Estate of Bosch did not apply, as the issue was the effect of the agreement between the estate and trusts under New York law, not the binding effect of the Surrogate’s Court decree on the IRS.

    Practical Implications

    This decision clarifies that a trust can cease to be a beneficiary of an estate for tax attribution purposes through a combination of full distribution and an irrevocable tax apportionment agreement. Estates and trusts can use such agreements to plan their tax liabilities and avoid attribution of stock ownership under IRC section 318. Practitioners should ensure that such agreements are properly documented and approved by the relevant state court to be effective. This case may influence how estates structure distributions and tax apportionment to minimize tax liabilities. Later cases applying this principle include Estate of O’Neal v. Commissioner, where a similar agreement was upheld.

  • Malkan v. Comm’r, 54 T.C. 1305 (1970): Substance Over Form in Determining Taxpayer of Stock Sale Gains

    Malkan v. Commissioner, 54 T. C. 1305 (1970)

    A sale of stock cannot be attributed to a trust for tax purposes if the taxpayer, rather than the trust, negotiated and controlled the sale.

    Summary

    Arnold Malkan attempted to attribute the sale of 10,500 shares of General Transistor Corp. stock to four family trusts he established, arguing he had transferred the shares to the trusts before the sale. However, the U. S. Tax Court determined that Malkan himself sold the shares, as he negotiated the sale terms before creating the trusts and actively participated in the sale’s closing. The court applied the substance-over-form doctrine, holding that the trusts were mere conduits for the sale. Additionally, the court ruled that the basis for the sold shares should be calculated using the first-in, first-out (FIFO) method, starting from the shares Malkan placed in escrow before the public offering.

    Facts

    Arnold Malkan, an attorney and shareholder in General Transistor Corp. (GTC), decided to sell his GTC stock due to disagreements with management. Before the sale, he discussed creating trusts for his family. On June 26, 1958, Malkan agreed to sell 73,888 shares through a public offering and placed 16,000 shares in escrow. On July 15, he prepared trust instruments, but they were not executed until July 18. Negotiations continued, and by July 21, the terms of the sale were finalized. The trusts were reexecuted on July 21 to clarify their New Jersey situs. On July 22, Malkan signed the underwriting agreement as both an individual and trustee. The sale closed on July 29, with Malkan reporting the gain from the sale on his personal tax return.

    Procedural History

    The Commissioner of Internal Revenue determined a deficiency in Malkan’s 1958 tax return, asserting that Malkan, not the trusts, sold the 10,500 shares and that the basis should be calculated using the FIFO method. Malkan petitioned the U. S. Tax Court, which heard the case and issued its opinion on June 17, 1970.

    Issue(s)

    1. Whether the sale of 10,500 shares of GTC stock was made by Arnold Malkan or by the four trusts he created as settlor-trustee.
    2. What was the proper basis for the shares sold by Malkan?

    Holding

    1. No, because the sale was negotiated and controlled by Malkan personally before the trusts were created, and he actively participated in the closing as an individual.
    2. The basis should be calculated using the FIFO method, starting from the 16,000 shares placed in escrow on July 14, 1958, because they were the first transferred shares.

    Court’s Reasoning

    The court applied the substance-over-form doctrine, emphasizing that the sale’s reality, not its formalities, determines tax consequences. Malkan negotiated the sale terms before creating the trusts and signed the underwriting agreement both personally and as trustee. The trusts were merely conduits for the sale, as Malkan intended them to hold the sale proceeds, not the shares themselves. The court cited Commissioner v. Court Holding Co. to support its decision, rejecting Malkan’s reliance on cases where trusts were found to have made sales independently. For the basis calculation, the court ruled that the 16,000 shares placed in escrow constituted a transfer under the FIFO rule, as Malkan relinquished control over them before the closing.

    Practical Implications

    This case underscores the importance of substance over form in tax law, particularly in transactions involving trusts. Taxpayers cannot use trusts to shift tax liability if they control the underlying transaction. Practitioners should advise clients to carefully structure transactions to avoid the appearance of using trusts as mere conduits. The FIFO method’s application to determine basis serves as a reminder to identify shares sold to avoid unfavorable tax consequences. Subsequent cases have cited Malkan in similar contexts, reinforcing its principle that the taxpayer who negotiates and controls a sale cannot shift the tax consequences to a trust.

  • Currie v. Commissioner, 53 T.C. 185 (1969): Capital Gains Treatment for Stock Held by Investment Syndicate

    Currie v. Commissioner, 53 T. C. 185 (1969)

    Stock held by an investment syndicate for over six months qualifies for long-term capital gains treatment if not held for sale to customers in the ordinary course of a trade or business.

    Summary

    In Currie v. Commissioner, the Tax Court held that stock sold by a syndicate organized to acquire and hold shares of Northwestern National Life Insurance Co. was a capital asset, qualifying for long-term capital gains treatment. The syndicate, managed by J. C. Bradford, purchased the stock below market value and sold it after over six months. The court found that the syndicate was not engaged in the business of selling securities to customers but was instead holding the stock as an investment, thus the gains were not ordinary income but capital gains.

    Facts

    In mid-1962, a syndicate was formed to acquire 51% of Northwestern National Life Insurance Co. ‘s common stock from another syndicate, which had previously obtained an option to purchase the stock. The second syndicate, managed by J. C. Bradford, exercised the option and bought the stock at a price below the current market value. Over six months later, in mid-1963, the syndicate sold a portion of the stock to a group of underwriters who then sold it in a public offering. The syndicate was subsequently liquidated.

    Procedural History

    The Commissioner of Internal Revenue determined that the stock was not a capital asset, asserting that it was held for sale to customers in the ordinary course of the syndicate’s business, and thus the gains should be taxed as ordinary income. Petitioners contested this, claiming the stock was held as an investment. The Tax Court, after consolidation of related cases, ruled in favor of the petitioners, holding the stock to be a capital asset and the gains as long-term capital gains.

    Issue(s)

    1. Whether the Northwestern stock held by the syndicate was a capital asset under Section 1221 of the Internal Revenue Code of 1954.

    Holding

    1. Yes, because the stock was held by the syndicate as an investment and not primarily for sale to customers in the ordinary course of a trade or business.

    Court’s Reasoning

    The court applied the legal rule from Section 1221, which excludes from the definition of capital assets “property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business. ” The court reasoned that the syndicate’s purchase of the Northwestern stock at a price below market value and its holding for over six months indicated an intent to invest rather than to engage in the business of selling securities. The court distinguished between traders and dealers, noting that the syndicate was a trader, holding the stock for its own account and not selling to customers as a dealer would. The court also noted that the syndicate had no commitment from any prospective purchaser at the time of purchase, further supporting the investment intent. The court rejected the Commissioner’s argument that the syndicate’s intent to sell to underwriters constituted holding for sale to customers, emphasizing that the syndicate did not purchase on behalf of or at the order of any customer. The court’s decision was influenced by the policy of allowing capital gains treatment for investments held for more than six months, as intended by the Revenue Act of 1934.

    Practical Implications

    This decision clarifies that investment syndicates can qualify for capital gains treatment on stock sales if the stock is held as an investment and not as inventory for sale to customers. It underscores the importance of the holding period and the intent at the time of purchase in determining whether an asset is held for investment or for sale in the ordinary course of business. For legal practitioners, this case provides guidance on structuring investment syndicates to ensure capital gains treatment. It also has implications for businesses and investors in determining how to classify gains from stock sales for tax purposes. Subsequent cases have cited Currie v. Commissioner to support the principle that the nature of the holding, rather than the eventual sale, determines capital asset status.

  • Cardinal Corp. v. Commissioner, 52 T.C. 119 (1969): When Corporate Receipts from Invalid Contracts Are Not Taxable Income

    Cardinal Corp. v. Commissioner, 52 T. C. 119 (1969)

    Money received by a corporation from invalid stock purchase contracts is not taxable income if it is treated as received in exchange for stock under IRC Section 1032.

    Summary

    In Cardinal Corp. v. Commissioner, the Tax Court ruled that $402,524. 71 received by Cardinal Corporation from its preferred shareholders was not taxable income. The shareholders had sold common stock under contracts later deemed invalid under Kentucky law due to their fiduciary roles as directors. The court applied IRC Section 1032, holding that the funds were received in exchange for stock. Additionally, the court allowed deductions for legal and actuarial fees related to state investigations into these stock sales, affirming these as ordinary and necessary business expenses under IRC Section 162(a).

    Facts

    Cardinal Corporation issued contracts in 1956 to its preferred shareholders, allowing them to purchase common stock. These shareholders, most of whom were directors, entered into an agreement with Buckley Enterprises to sell the stock to the public, receiving $402,524. 71 in profits. In 1958, following a state investigation, it was determined that these contracts were invalid under Kentucky law due to the shareholders’ fiduciary duties. Consequently, the shareholders returned their profits to Cardinal. The IRS sought to include this amount in Cardinal’s gross income for 1958.

    Procedural History

    The IRS issued a notice of deficiency to Cardinal Corporation for the tax years 1958 and January 1 to November 10, 1959, including the $402,524. 71 in gross income and disallowing deductions for legal and actuarial fees. Cardinal petitioned the U. S. Tax Court, which heard the case and ruled in favor of Cardinal on the tax treatment of the $402,524. 71 and the deductibility of the fees.

    Issue(s)

    1. Whether the $402,524. 71 received by Cardinal Corporation in 1958 was includable in its gross income.
    2. Whether Cardinal Corporation could deduct legal fees of $17,264. 75 paid in 1958.
    3. Whether Cardinal Corporation could deduct actuarial fees of $5,909. 73 paid in 1958.

    Holding

    1. No, because the funds were received in exchange for stock under IRC Section 1032, as the contracts with the shareholders were invalid under Kentucky law, making the funds essentially payments for stock issuance.
    2. Yes, because the legal fees were for services rendered to Cardinal Corporation and were ordinary and necessary business expenses under IRC Section 162(a).
    3. Yes, because the actuarial fees were for services related to a state-mandated examination and were an ordinary and necessary business expense under IRC Section 162(a).

    Court’s Reasoning

    The court applied IRC Section 1032, which excludes from gross income amounts received in exchange for a corporation’s stock. The key issue was whether the $402,524. 71 was received in exchange for stock. The court found that the contracts with the shareholders were invalid under Kentucky law due to the fiduciary duties of the shareholders, most of whom were directors. This meant that Cardinal should be treated as having received the funds directly in exchange for the stock issued. The court cited Kentucky case law, including Zahn v. Transamerica Corp. , to support its conclusion that fiduciaries cannot profit at the expense of the corporation. For the legal and actuarial fees, the court found these to be ordinary and necessary expenses under IRC Section 162(a), as they were directly related to Cardinal’s business operations and state investigations.

    Practical Implications

    This decision clarifies that funds received under invalid contracts can be treated as received in exchange for stock, thus not taxable under IRC Section 1032. It underscores the importance of understanding state corporate governance laws, particularly regarding fiduciary duties, in tax planning and corporate transactions. Practitioners should be aware that legal and actuarial fees related to state investigations may be deductible as ordinary and necessary business expenses. This ruling could impact how corporations structure stock sales and manage their tax liabilities, especially in cases where shareholder agreements are challenged. Subsequent cases may reference this decision when addressing the tax treatment of funds received under disputed contracts.

  • McWilliams v. Commissioner, 5 T.C. 623 (1945): Disallowing Losses on Stock Sales Between Family Members via Stock Exchange

    5 T.C. 623 (1945)

    Sales of securities on the open market, even when followed by near-simultaneous purchases of the same securities by related parties, do not constitute sales “between members of a family” that would disallow loss deductions under Section 24(b) of the Internal Revenue Code.

    Summary

    John P. McWilliams and his family engaged in a series of stock sales and purchases through the New York Stock Exchange to create tax losses. McWilliams would sell stock and his wife or mother would simultaneously purchase the same stock. The IRS disallowed the loss deductions, arguing the transactions were indirectly between family members, prohibited under Section 24(b) of the Internal Revenue Code. The Tax Court, relying on a prior case, held that because the transactions occurred on the open market with unknown buyers and sellers, they did not constitute sales “between members of a family” and thus the losses were deductible.

    Facts

    John P. McWilliams managed his own, his wife’s, and his mother’s investment accounts. To establish tax losses, McWilliams would instruct his broker to sell specific shares of stock at market price for one account (e.g., his own) and simultaneously purchase a like number of shares of the same stock for another related account (e.g., his wife’s). The sales and purchases were executed on the New York Stock Exchange through brokers, with the purchasers and sellers being unknown to the McWilliams family. The wife and mother had separate estates and bank accounts.

    Procedural History

    The Commissioner of Internal Revenue disallowed the capital losses claimed by John P. McWilliams, Brooks B. McWilliams (John’s wife), and the Estate of Susan P. McWilliams (John’s mother) on their income tax returns for 1940 and 1941. The McWilliamses petitioned the Tax Court for a redetermination of the deficiencies. The cases were consolidated for hearing.

    Issue(s)

    Whether losses from sales of securities on the New York Stock Exchange, where similar securities are simultaneously purchased by related family members, are considered losses from sales “directly or indirectly between members of a family” within the meaning of Section 24(b)(1)(A) of the Internal Revenue Code, thus disallowing the deduction of such losses.

    Holding

    No, because the sales and purchases occurred on the open market with unknown third parties; therefore, they were not sales “between members of a family” as contemplated by Section 24(b)(1)(A) of the Internal Revenue Code.

    Court’s Reasoning

    The Tax Court relied heavily on its prior decision in Pauline Ickelheimer, 45 B.T.A. 478, which involved similar transactions between a wife and a trust controlled by her husband. The court reasoned that because the securities were sold on the open market to unknown purchasers, the subsequent purchase of the same securities by a related party did not transform the transactions into indirect sales between family members. The court stated that, “It is apparent that the sales of the bonds were made to purchasers other than the trustee of the trust. The fact that petitioner’s husband as trustee purchased the bonds from the open market shortly thereafter does not convert the sales by petitioner and the purchases by her husband as trustee into indirect sales between petitioner and her husband as trustee.” The court found no legal basis to treat these open market transactions as indirect sales between family members, even though the transactions were designed to generate tax losses.

    Practical Implications

    This case clarifies that transactions on public exchanges, even if strategically timed to benefit related parties, are not automatically considered indirect sales between those parties for tax purposes. The key factor is the involvement of unknown third-party buyers and sellers in the open market. This ruling suggests that taxpayers can engage in tax-loss harvesting strategies without automatically triggering the related-party transaction rules, provided the transactions occur on a public exchange. However, subsequent legislation and case law may have narrowed the scope of this ruling. It is crucial to examine the current state of the law to determine whether such transactions would still be permissible.

  • Davis v. Commissioner, 4 T.C. 329 (1944): Treatment of Stock Selling Expenses for Tax Purposes

    4 T.C. 329 (1944)

    Selling expenses for securities by a non-dealer are not deductible as ordinary/necessary expenses but are treated as an offset against the selling price when determining gain or loss.

    Summary

    Don A. Davis sought to deduct expenses incurred during the registration and sale of Western Auto Supply Co. stock. The Tax Court addressed whether these expenses, including commissions paid to underwriters and legal fees, were deductible as ordinary and necessary non-trade or non-business expenses under Section 23(a)(2) of the Internal Revenue Code. Citing precedent, the court held that these expenses must be treated as an offset against the selling price when calculating capital gains, not as deductible expenses.

    Facts

    Don A. Davis, the principal stockholder and chief officer of Western Auto Supply Co., owned a significant amount of its Class A and Class B common stock. To facilitate a public offering and listing on the New York Stock Exchange, Western Auto was recapitalized. Davis engaged underwriters to sell 60,000 shares of his stock at $28.75 per share and paid them commissions. Davis also incurred expenses related to registering the stock with the Securities and Exchange Commission. Davis sought to deduct these expenses, as well as attorney fees, as ordinary and necessary non-business expenses.

    Procedural History

    Davis deducted the stock selling expenses and legal fees on his 1937 federal income tax return. The Commissioner of Internal Revenue disallowed these deductions, leading to a deficiency assessment. Davis petitioned the Tax Court for a redetermination of the deficiency.

    Issue(s)

    Whether selling commissions and registration expenses paid by a non-dealer in connection with the sale of stock are deductible as ordinary and necessary non-trade or non-business expenses under Section 23(a)(2) of the Internal Revenue Code.

    Holding

    No, because selling commissions and registration expenses are treated as an offset against the sale price when determining capital gain or loss, and not as deductible expenses under Section 23(a)(2) for non-dealers. The Tax Court also held that the legal fees were non-deductible personal expenses.

    Court’s Reasoning

    The Tax Court relied on the Supreme Court’s decision in Spreckles v. Helvering, which established that selling commissions paid in connection with the disposition of securities by a non-dealer are not deductible as ordinary and necessary expenses. The court reasoned that Section 23(a)(2) of the Internal Revenue Code, while allowing deductions for non-trade or non-business expenses, was not intended to alter this established principle. The court stated, “We think it clear that Congress had no intention of changing the language of this section as construed by the Treasury regulations, which construction before 1942 had received the approval of the Supreme Court.” The court also found that the registration expenses were similar to selling costs and should be treated as an offset against the sale price. Regarding legal fees, the court found that Davis failed to show they were proximately related to the production or collection of income.

    Practical Implications

    The Davis case reinforces the principle that non-dealers in securities cannot deduct selling expenses as ordinary business expenses. This ruling dictates that taxpayers selling stock must reduce the sale price or increase their cost basis by the amount of selling expenses when calculating capital gains. Legal professionals must advise clients that expenses incurred to facilitate the sale of stock will generally be treated as capital expenditures and not as deductible expenses against ordinary income. This treatment impacts tax planning and the overall financial outcome of stock sales. Later cases have consistently applied this principle, solidifying its role in tax law.