1931 BTA LEXIS 2204">*2204 1. Section 703, Revenue Act of 1928, provides that, in determining the net income of a beneficiary or of an estate for any taxable year, under prior revenue acts, the amount of estate, inheritance, legacy, or succession taxes paid or accrued within such taxable year, shall be allowed as a deduction to the estate if the deduction has been claimed by the estate, and to the beneficiary if the deduction has been claimed by the beneficiary, but not by the estate, and that the term "claimed" means claimed in the return. An estate filed a fiduciary return of income, on the face of which deduction was taken of the Federal estate tax in arriving at the distributable income, and in showing the portion of the net income retained by the fiduciary and not distributed, the undistributed gross income was not diminished in arriving at the undistributed net income. The fiduciary reported the undistributed net income so computed in its own income-tax return, and the beneficiaries, in making up their income-tax returns placed their distributive shares of the net income of the estate, as shown by the fiduciary return, among the items of their individual gross income, and no deductions for the estate1931 BTA LEXIS 2204">*2205 tax were claimed, either by the estate or the beneficiaries, on the face of their income-tax returns. held:
(a) That the return referred to in section 703 is not the fiduciary return of income, but is the statutory tax return which provides the initial assessment, and the "claim" must be construed to mean the substantial application of the amounts of inheritance taxes against gross income in arriving at the taxable net.
(b) That it clearly appeared from the income-tax returns of the beneficiaries and the estate and the fiduciary return of income that the fiduciary did not in fact apply the tax against its own taxable income and did not claim the deduction, and that it applied the deduction entirely against the income of the beneficiaries, and that such returns may be examined together to ascertain the fact.
2. The amount of the taxable income of the beneficiaries from the estate is redetermined on the evidence, and the deduction for Federal estate tax is directed to be applied against it, according to their proportionate interests, in arriving at the correct deficiency or overpayment.
21 B.T.A. 1336">*1337 The respondent determined deficiencies in income tax for the year 1926 of $5,682.75 as to Frances E. B. Lentz, and $4,761.26 as to LaFayette Lentz.
The issues are: (1) Whether the petitioners, beneficiaries of the estate of William O. Lentz, deceased, are entitled to deductions in computing their net income, of their proportionate shares of the Federal estate tax paid in respect of said estate in 1926; (2) the amount of income from said estate distributable to petitioners for 1926; and (3) whether the petitioners have made overpayments of tax, and, if so, the amount thereof.
FINDINGS OF FACT.
The petitioners are individuals residing, respectively, at Jenkintown and Cynwyd, Pa., and are the widow and son of William O. Lentz.
William O. Lentz died on November 16, 1925, leaving a last will and testament devising and bequeathing his residuary estate to the Girard Trust Co., of Philadelphia, hereinafter referred to as the Trust Co., in trust to hold, manage, and invest the corpus or principal, and, after1931 BTA LEXIS 2204">*2207 deduction of all proper charges, taxes and expenses, to apply out of the net income not more than $4,000 per annum for the upkeep and care of the buildings and grounds of his property known as "West Wood," so long as the same should be occupied by his wife, Frances E. B. Lentz, as a residence, and to pay over all of the net income thereafter remaining, from the date of his death, periodically, two-thirds to Frances E. B. Lentz, for the use of herself and the support of his sons, Horace and Francis, and one-third to his son LaFayette Lentz, for and during the term of the natural life of Frances E. B. Lentz. The will directed that all inheritance, estate and transfer taxes imposed by the Commonwealth of Pennsylvania or any other State, or by the United States be paid out of the residuary estate, with an exception not here material, and Frances E. B. Lentz, LaFayette Lentz, and the Trust Co. were appointed executors. On November 23, 1925, the will was admitted to probate in Montgomery County, Pennsylvania, the executors named therein qualified, and letters testamentary were granted to them.
During the year 1926 the Trust Co. paid from the corpus of the estate the Federal estate tax1931 BTA LEXIS 2204">*2208 on the estate of William O. Lentz in the amount of $85,944.08, and the transfer inheritance tax due the Commonwealth of Pennsylvania in the amount of $31,910.65.
21 B.T.A. 1336">*1338 On March 15, 1927, the Trust Co. filed a fiduciary return of income for the estate for the calendar year 1926 on Form 1041. The items of income and deductions set forth in this return are as follows:
| INCOME | |||
| Interest on Bank Deposits, Notes, | |||
| Mortgages, and Corporation Bonds | $4,647.91 | ||
| Profit from Sale of Real Estate, Stocks, | |||
| Bonds, etc | 39,262.79 | ||
| Dividends on Stock of Domestic Corporations | 107,244.85 | ||
| Interest from Tax-free Covenant Bonds | 24,043.01 | ||
| Total Income | $175,198.56 | ||
| DEDUCTIONS | |||
| Interest Paid | 411.70 | ||
| Taxes Paid: | |||
| Real Estate | $1,822.50 | ||
| Personal Property | 1,475.91 | ||
| 3,298.42 | |||
| Federal Estate Tax | 85,944.08 | ||
| Pennsylvania Inheritance Tax | 31,910.65 | ||
| Commissions for Collecting Income | 7,183.12 | ||
| Total Deductions | 128,747.97 | ||
| Net Income | 46,450.59 |
This return also contained a statement of the beneficiaries' share of income and credits as follows:
| Dividends | Balance of | Income Tax | |
| Net Income | Paid at | ||
| Source on | |||
| Tax-Free | |||
| Covenant | |||
| Bonds | |||
| Mrs. E. Brooks Lentz | $4,791.87 | $320.58 | |
| Mr. LaFayette Lentz | 2,395.93 | 160.28 | |
| Est. Wm. O. Lentz, Deceased Girard Trust | |||
| Company Gains | $39,262.79 | ||
| Totals | $7,187.80 | $39,262.79 | $480.86 |
1931 BTA LEXIS 2204">*2209 On March 15, 1927, the Trust Co., as executor of the estate of William O. Lentz, filed an income-tax return for the calendar year 1926 on Form 1040, in which it reported as income the net amount of profit from the sale of stocks and bonds and other property of the estate in the amount of $39,262.79. No deductions were shown on this return, and the tax of $3,394.42 shown thereon was paid by the Trust Co. in 1927.
The petitioner, Frances E. B. Lentz, filed an individual income tax return for the calendar year 1926, as follows:
| INCOME | |
| Interest on tax-free covenant bonds upon which a | |
| tax was paid at the source | $420.00 |
| Income from partnerships, fiduciaries, etc. | |
| Est. Helen Brooks Arnsbry | 91.42 |
| Est. Helen Brooks Arnsbry | 272.10 |
| Est. Mary H. Arsbry | 1,197.21 |
| Est. Wm. O. Lentz | 219.60 |
| Est. Wm. O. Lentz (free-bond interest herein | |
| $83.33) | |
| Dividends on stock of domestic corporations | 14,970.74 |
| Total Income | $17,171.07 |
| DEDUCTIONS | |
| Contributions | 221.00 |
| Net Income | $16,950.07 |
21 B.T.A. 1336">*1339 This return showed no tax to be due. Of the income reported, the item of $219.60 and dividends in the amount of $4,791.87 constituted the only income from the estate1931 BTA LEXIS 2204">*2210 of William O. Lentz.
The petitioner, LaFayette Lentz, filed an individual income-tax return for the calendar year 1926, as follows:
| INCOME | ||
| Salaries, Wages, Commissions, etc | $38,623.43 | |
| Interest on bank deposits, notes, corporation bonds, | ||
| etc | 174.50 | |
| Interest on tax-free covenant bonds upon which a tax | ||
| was paid at source | 1,271.41 | |
| Dividends on stock of domestic corporations | 39,363.22 | |
| Total Income | $79,432.56 | |
| DEDUCTIONS | ||
| Interest paid | $10,778.79 | |
| Taxes paid | 413.61 | |
| 11,192.40 | ||
| Net Income | $68,240.16 |
This return showed a tax due of $7,926.78. The dividends on stock of domestic corporations shown therein consist of dividends received from the estate of William O. Lentz in the amount of $2,395.93, and dividends received from sources other than the estate in the amount of $36,967.29.
The Trust Co. kept the accounts of the estate, and the other executors (the petitioners) had nothing to do with them. Interest accrued and dividends declared up to the death of William O. Lentz (November 16, 1925) were treated as principal or corpus, both in the accounts of the Trust Co. and in the first and final account of 21 B.T.A. 1336">*1340 the executors approved1931 BTA LEXIS 2204">*2211 on October 25, 1926, by the Orphans' Court of Montgomery County.
In March, 1930, after the filing of the original petition in this proceeding, the Trust Co., at the request of LaFayette Lentz, reaudited the accounts of the estate to determine whether the fiduciary return was correct, and, in addition to minor errors, discovered that the fiduciary return filed for 1926 included items of income accrued up to the death of decedent which were charged to principal in the accounts.
The income of the estate as shown by the books of the Trust Co. is as follows:
| Interest on bank deposits, notes, mortgages and | |
| corporation bonds | $4,569.43 |
| Profit from sale of bonds, etc | 39,262.79 |
| Dividends on stock of domestic corporations | 95,977.48 |
| Interest from tax-free covenant bonds | 15,596.05 |
| Total income | 155,405.75 |
The net income of the estate, without deduction for the Federal estate and Pennsylvania inheritance taxes is $145,448.23, and the distributive shares of the beneficiaries and the share of the estate are as follows:
| Frances E. B. Lentz: | |
| Dividends | $63,984.99 |
| Balance of net income | 8,138.64 |
| LaFayette Lentz: | |
| Dividends | 31,992.49 |
| Balance of net income | 2,069.32 |
| Estate of William O. Lentz: | |
| Gain from sale of bonds, etc | 39,262.79 |
| Total | 145,448.23 |
1931 BTA LEXIS 2204">*2212 The respondent allowed deductions to petitioners on account of the Pennsylvania inheritance tax and disallowed deductions on account of Federal estate tax, and increased their dividend income from the estate. This action, together with adjustment of other items in the returns not here in controversy, resulted in the determination of deficiencies of $5,682.75 and $4,761.26, respectively.
OPINION.
STERNHAGEN: The petitioners are beneficiaries of a trust created by the will of William O. Lentz, deceased. Together, although in separate petitions, they contest the determination by the Commissioner of deficiencies in their income taxes for 1926, the substance of which is his holding that they have erroneously taken a deduction for the Federal estate tax in respect of the decedent's estate. They 21 B.T.A. 1336">*1341 invoke section 703 1 of the Revenue Act of 1928 to support their right to their proportionate shares of the deduction for this tax. They contend that the deduction for the estate tax was not claimed by the estate, but was claimed by them as beneficiaries and that therefore it must be allowed to them in accordance with paragraph (2) of subdivision (a). The word "claimed" 1931 BTA LEXIS 2204">*2213 is defined in subdivision (b) to include a deduction taken in the return, and the petitioners contend that they each took the deduction in their several tax returns, and hence that it should be allowed to them proportionately. The respondent contends that petitioners did not claim the deduction in their returns, but that the estate, which admittedly paid the tax, claimed the deduction in its return.
1931 BTA LEXIS 2204">*2214 The difficulty arises from the fact that the distributable income of the estate was shown in the individual beneficiaries' tax returns somewhat differently from ordinary income otherwise derived. Instead of itemizing the classes of gross income and deductions which go to make up their distributive shares of net income from the estate, the beneficiaries merely placed their distributive shares of such net income among the items of their individual gross income, thus preventing immediate observation of the factors which made up their distributive shares of estate income and requiring further investigation to find whether the deduction for taxes was such a factor. 21 B.T.A. 1336">*1342 When, however, such investigation is made, the return of the fiduciary, Form 1041, called "Fiduciary Return of Income," is discovered. This does not purport to be a final tax return upon which an assessment is automatically made, but is a return required for administrative convenience which shows the items which make up the income of the estate and shows the persons to whom distribution is made and the amounts distributable. Upon the face of this return, the fiduciary showed that in arriving at the distributable1931 BTA LEXIS 2204">*2215 income, deductions were taken of the Federal and State inheritance taxes. But in showing the portion of the net income retained by the fiduciary and not distributed, it clearly appears that the undistributed gross income, viz., $39,262.79, was not diminished in arriving at the undistributed net income. In other words, the inheritance and estate taxes were applied entirely against the part of the estate income which was to be distributed to the beneficiaries. By this method the fiduciary's undistributed income was shown to be $39,262.79 and the beneficiaries' distributable share of $7,187.80 was divided between Frances E. B. Lentz and LaFayette Lentz, $4,791.87 to the former and $2,395.93 to the latter.
These proportions of the net income of the estate were carried by the three taxpayers into the gross income shown upon their separate tax returns, and thus upon the face of such tax returns it does not appear that any deductions were taken either by the fiduciary or the beneficiaries. This is what causes the Commissioner to insist that no claim for the estate tax was made by the beneficiaries in their returns. He treats the return on Form 1041 as a return contemplated by section1931 BTA LEXIS 2204">*2216 703(b)(1), and, pointing to the deduction appearing therein, argues that it constitutes a claim in its return.
This we think is palpably in error. The return referred to in section 703(b)(1) is the statutory tax return which provides the initial assessment, and the "claim" must be construed to mean the substantial application of the amounts of inheritance taxes against gross income in arriving at the taxable net. It is not reasonable to suppose that this beneficient provision, so plainly designed to override precise legal reasoning, should depend upon a narrow and formal construction of the word "claimed." Congress has provided that one or the other should have this deduction. Cf. . The fiduciary here did not in fact apply the taxes against its own taxable income and did not claim the deduction. It applied the deduction entirely against the income of the beneficiaries. This clearly appears from all the returns of the beneficiaries and the estate; and we see no reason why they may not be examined together to ascertain the fact.
21 B.T.A. 1336">*1343 The Commissioner allowed the beneficiaries the deduction of Pennsylvania inheritance1931 BTA LEXIS 2204">*2217 tax, which indicates perhaps that his determination overlooked the 1928 Act and was based on his view of the law as it was before that statute became effective. In our opinion, he should likewise allow the beneficiaries the deduction of the Federal estate tax according to their proportionate interests.
The petitioners have also established that their taxable income from the estate was otherwise incorrectly computed to their detriment. As shown in the findings, such taxable income of Frances E. B. Lentz is made up of dividends $63,984.99 and other taxable income $8,138.64, and of LaFayette Lentz, dividends $31,992.49 and other taxable income $2,069.32. The tax deduction should be applied as above stated in arriving at the correct deficiency or overpayment.
Reviewed by the Board.
Judgment will be entered under Rule 50.
Footnotes
1. SEC. 703. DEDUCTION OF ESTATE AND INHERITANCE TAXES - RETROACTIVE.
(a) In determining the net income of an heir, devisee, legatee, distributee, or beneficiary (hereinafter in this section referred to as "beneficiary") or of an estate for any taxable year, under the Revenue Act of 1926 or any prior revenue Act, the amount of estate, inheritance, legacy, or succession taxes paid or accrued within such taxable year shall be allowed as a deduction as follows:
(1) If the deduction has been claimed by the estate, but not by the beneficiary, it shall be allowed to the estate;
(2) If the deduction has been claimed by the beneficiary, but not by the estate, it shall be allowed to the beneficiary;
(3) If the deduction has been claimed by the estate and also by the beneficiary, it shall be allowed to the estate (and not to the beneficiary) if the tax was actually paid by the legal representatives of the estate to the taxing authorities of the jurisdiction imposing the tax; and it shall be allowed to the beneficiary (and not to the estate) if the tax was actually paid by the beneficiary to such taxing authorities;
(4) If the deduction has not been claimed by the estate nor by the beneficiary, it shall be allowed as a deduction only to the person (either the estate or the beneficiary) by whom the tax was paid to such taxing authorities, and only if a claim for refund or credit is filed within the period of limitation properly applicable thereto;
(5) Notwithstanding the provisions of paragraphs (1), (2), (3), and (4) of this subsection, if the claim of the deduction by the estate is barred by the statute of limitations, but such claim by the beneficiary is not so barred, the deduction shall be allowed to the beneficiary, and if such claim by the beneficiary is barred by the statute of limitations, but such claim by the estate is not so barred, the deduction shall be allowed to the estate.
(b) As used in this section, the term "claimed" means claimed -
(1) In the return; or
(2) In a claim in abatement filed in respect of an assessment made on or before June 2, 1924.
(c) This section shall not affect any case in which a decision of the Board of Tax Appeals or any court has been rendered prior to the enactment of this Act, whether or not such decision has become final. ↩