T.C. Memo. 2010-222
UNITED STATES TAX COURT
BARRY LEE FARRIS, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 6314-09. Filed October 12, 2010.
Craig E. Barrere, for petitioner.
Kimberly A. Kazda, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
KROUPA, Judge: Respondent determined a $14,187 deficiency,
a $2,837 addition to tax for failure to file a return timely
under section 6651(a)(1) and a $2,837 accuracy-related penalty
under section 6662(a) with respect to petitioner’s Federal income
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tax for 2006.1 After concessions, the sole issue before this
Court is whether the payments petitioner received from Cardinal
Health Technologies, LLC (Cardinal Health) in 2006 constituted
ordinary income or long-term capital gain.2 We hold the payments
should be treated as ordinary income.
FINDINGS OF FACT
Some of the facts have been stipulated and are so found.
The stipulation of facts and the stipulation of settled issues
and their accompanying exhibits are incorporated by this
reference. Petitioner resided in Pollock Pines, California at
the time he filed the petition.
Petitioner invented a method and apparatus for transferring
fluid from a vial into a syringe without using a needle
(needleless syringe). The needleless syringe made it possible to
fill a medical syringe without exposing the liquid contents to
airborne contaminants. Petitioner applied for and received four
patents with the United States Patent and Trademark Office (PTO)
for the needleless syringe (needleless syringe patents).
In March 2004 petitioner assigned his entire right, title
and interest in and to all needleless syringe patents to Cardinal
1
All section references are to the Internal Revenue Code in
effect for 2006, and all Rule references are to the Tax Court
Rules of Practice and Procedure, unless otherwise indicated.
2
Petitioner concedes liability for the deficiency, addition
to tax for failure to file a return timely and accuracy-related
penalty.
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Health, a pharmaceutical manufacturing and packaging business,
for “$1 and for other good and valuable consideration.” The
assignment agreement did not define “other good and valuable
consideration” or provide for any other compensation or payment.
Instead, it stated that petitioner’s “receipt of * * * [the $1
and other good and valuable consideration] is hereby
acknowledged.”3 The parties recorded and filed the assignment
agreement with the PTO in July 2005.
Three months after signing the assignment agreement,
petitioner entered into a sales representative agreement
(representative agreement) with Cardinal Health. The
representative agreement stated that petitioner would devote
approximately forty hours per week for two years performing
services as an independent contractor for Cardinal Health. All
petitioner’s services related solely to Cardinal Health’s Smart
Amp Products. The representative agreement did not define “Smart
Amp Products.” It stated, however, that petitioner had
“extensive knowledge and experience” regarding such products.
Petitioner agreed to use his “best efforts” to perform all
normal, routine services of a sales representative and train
3
Petitioner’s counsel stated at trial that Cardinal Health
paid petitioner an up-front lump sum. The assignment agreement
does not reference a lump sum payment, however, and petitioner
failed to present evidence regarding any such payment.
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Cardinal Health personnel on the use of Smart Amp Products.4 The
representative agreement enumerated several services petitioner
would perform including developing a strategy for generating
sales for Smart Amp Products and establishing business
relationships with potential customers. Cardinal Health agreed
to pay petitioner $7,500 per month, which represented “full
consideration for the services * * * [petitioner] * * *
rendered.” The representative agreement contained an “Entire
Agreement” clause stating that “the [representative] [a]greement
constitutes the entire agreement between the parties” relating to
petitioner’s services and Cardinal Health’s payments, and the
parties have no other agreements relating to the representative
agreement’s subject matter. The representative agreement stated
that petitioner would begin providing services to Cardinal Health
in May 2004, even though the agreement was not signed until June
2004, and the parties treated June as the start of the 2-year
contract.
Petitioner received the final five monthly checks from
Cardinal Health totaling $37,500 in 2006.5 Petitioner failed to
4
Petitioner’s counsel at trial stated that petitioner never
performed the services described in the representative agreement.
Petitioner presented no evidence, however, to suggest the parties
failed to abide by the representative agreement, and this Court
will not accept counsel’s bald assertion as fact. See, e.g.,
Smith v. Commissioner, T.C. Memo. 2001-313.
5
Petitioner reported the payments he received from Cardinal
(continued...)
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report the payments and failed to file a timely Federal income
tax return for 2006.6 Respondent examined petitioner’s Federal
income tax return for 2006 and issued petitioner the deficiency
notice.
Petitioner timely filed a petition with this Court. The
parties filed a stipulation of settled issues in which petitioner
admitted that he received $37,500 from Cardinal Health in 2006.
Petitioner challenges only the characterization of the unreported
income.
OPINION
We are asked to decide whether the payments petitioner
received from Cardinal Health constitute ordinary income or long-
term capital gain. Petitioner claims that the payments he
received in 2006 were from the sale of the needleless syringe
patents and should therefore be characterized as long-term
capital gain. Respondent argues that the payments received
constitute ordinary income from the performance of sales and
training services described in the representative agreement. We
5
(...continued)
Health in 2004 and 2005 on timely filed Federal income tax
returns. Those years are not at issue nor are they binding. See
Auto. Club of Mich. v. Commissioner, 353 U.S. 180, 183-184
(1957); Demirjian v. Commissioner, 457 F.2d 1, 6-7 (3d Cir.
1972), affg. 54 T.C. 1691 (1970).
6
Petitioner filed his Federal income tax return for 2006
more than three months after the filing deadline.
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shall consider the parties’ arguments after first addressing the
burden of proof.
The Commissioner’s determinations are generally presumed
correct, and the taxpayer bears the burden of proving otherwise.
Rule 142(a). Section 7491(a) shifts the burden of proof to the
Commissioner in certain situations. Petitioner does not argue
that the burden of proof shifts to respondent under section
7491(a) and has not shown that the threshold requirements of
section 7491(a) were met. See Higbee v. Commissioner, 116 T.C.
438, 442-443 (2001). Accordingly, petitioner bears the burden of
establishing that the payments he received from Cardinal Health
constitute long-term capital gain, not ordinary income.
Generally, income a patent holder receives from the transfer
of substantially all rights to a patent shall be treated as long-
term capital gain. Sec. 1235(a). The parties agree that
petitioner transferred all of his rights in the needleless
syringe patents to Cardinal Health and that any income petitioner
received for the transfer of the patents constitutes long-term
capital gain. The parties differ on whether the payments
petitioner received in 2006 were for the needleless syringe
patents or for tangential sales and training services.
A patent transferor may render ancillary and subsidiary
services in connection with the sale and transfer of a patent
without affecting the capital nature of the total sale proceeds.
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See Ruge v. Commissioner, 26 T.C. 138 (1956); Gable v.
Commissioner, T.C. Memo. 1974-312. Ancillary and subsidiary
services include providing the transferee with technical
knowledge and consulting services that are an integral part of
the patent transfer. See Ruge v. Commissioner, supra; Gable v.
Commissioner, supra. A patent transferor will be deemed to have
received ordinary income, however, when the transferor receives
compensation for services that are unrelated or tangential to the
patent transfer. Gable v. Commissioner, supra. Petitioner
contends that the services provided for in the representative
agreement were incidental and subsidiary to the sale and transfer
of the needleless syringe patents. We disagree.
We first must determine whether the services rendered were
in connection with the transfer of the needleless syringe
patents. Petitioner transferred the needleless syringe patents
to Cardinal Health in the assignment agreement. Petitioner
acknowledged in the assignment agreement that he had received
full consideration for the needleless syringe patents. The
assignment agreement did not refer to any additional
consideration or any future agreement that the parties would
enter or any other agreement regarding the transfer of the
patents.
Petitioner and Cardinal Health entered into the
representative agreement more than three months later. The
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representative agreement did not refer to any transferred patents
or previous agreements. Rather, the representative agreement
dealt only with petitioner’s services as a sales representative
and employee trainer for Cardinal Health’s Smart Amp Products.
Cardinal Health paid petitioner under the representative
agreement for “full consideration for services rendered.”
Moreover, the “Entire Agreement” clause stated that the
representative agreement constituted the entire agreement between
the parties related to petitioner’s performance of services and
that the parties had no other agreements affecting petitioner’s
performance of services.
Petitioner argues that the Smart Amp Products are synonymous
with the needleless syringe patents and that any services
performed were connected to the sale of the patents. Neither
agreement between petitioner and Cardinal Health makes this
comparison, however, and petitioner has failed to provide the
Court with any documents or other evidence to support this
contention. Moreover, petitioner failed to testify or present
any other evidence that would show that he and Cardinal Health
intended the service payments to be in exchange for the patents.
Absent evidence to the contrary, we find that petitioner assigned
his needleless syringe patents in the assignment agreement and
the services performed under the representative agreement were
not in connection with the transfer of any patent.
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Moreover, we find that services petitioner performed under
the representative agreement were not ancillary and subsidiary to
the sale of the patents. Petitioner agreed to work forty hours
per week for two years as a sales representative for Cardinal
Health’s Smart Amp Products. Cf. Ruge v. Commissioner, supra
(patent transferor agreed to provide consulting services
affecting the operations of transferor’s patented invention not
to exceed 60 days per year). We recognize that Cardinal Health
may have hired petitioner because of his extensive knowledge and
experience. We note, however, that his job duties consisted
primarily of generating sales as opposed to providing Cardinal
Health with technical knowledge about Smart Amp Products. Cf.
Gable v. Commissioner, supra (patent transferor’s duties included
developing and researching technical information on the patented
invention). Moreover, petitioner agreed to use his “best
efforts” to perform the enumerated sales and training duties.
The Court has held that income received under similar “best
efforts” provisions constitutes ordinary income. See Ruge v.
Commissioner, supra; see also Kimble Glass Co. v. Commissioner, 9
T.C. 183 (1947).
We find that petitioner has not presented evidence to show
that the services he performed were ancillary and subsidiary to
the transfer of the patents. Petitioner has the burden of proof,
and he has failed to meet his burden. We find that the payments
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petitioner received from Cardinal Health in 2006 were for
services performed, as stated in the representative agreement,
and not for the sale of the patents. Accordingly, we hold that
petitioner received the $37,500 as ordinary income from Cardinal
Health in 2006.
We have considered all arguments made in reaching our
decision, and, to the extent not mentioned, we conclude that they
are moot, irrelevant, or without merit.
To reflect the foregoing,
Decision will be entered
for respondent.