1948 U.S. Tax Ct. LEXIS 48">*48 Decision will be entered for the respondent.
1. Petitioner's wife and two sons made no contributions of capital originating with them to the business, did not aid in its management and control and did not otherwise perform vital additional services. Held, income of business taxable in full to petitioner, notwithstanding purported family partnership arrangement. Commissioner v. Tower, 327 U.S. 280">327 U.S. 280, and Lusthaus v. Commissioner, 327 U.S. 293">327 U.S. 293, followed.
2. Respondent mailed a notice of deficiency to petitioner within three years from time he filed his return for taxable year. Subsequent to termination of three-year period internal revenue agent in charge mailed letter to partnership reallocating substantially all of its income to petitioner. Held, deficiency was determined within the time prescribed by statute, internal revenue agent's letter not being a notice of deficiency.
11 T.C. 696">*697 The Commissioner determined a deficiency of $ 28,000.12 in income and victory taxes for the 1948 U.S. Tax Ct. LEXIS 48">*49 calendar year 1943. The year 1942 is also involved because of the Current Tax Payment Act. The issues are (1) whether all the net income of a partnership is taxable to petitioner, and (2) whether the deficiency was determined within the time prescribed by statute.
FINDINGS OF FACT.
The petitioner, Joseph J. Morrison, is an individual and resides at Watertown, New York. He filed his income tax return for the calendar year 1943 with the collector of internal revenue for the twenty-first district of New York, at Syracuse, New York.
Petitioner entered the furniture business at the age of seventeen as a partner with his uncle, W. H. Van Buren. A year later petitioner bought out his uncle and thereafter, until January 2, 1940, continued the business as a sole proprietorship. In 1922, subsequent to his entering the furniture business, petitioner married Margareatte B. Morrison. Their living quarters were above the store and Mrs. Morrison assisted in the business, waiting on customers and doing the bookkeeping, putting in most of the working hours daily from 1922 until 1924, when their first child was born. From 1924 through 1938 Mrs. Morrison assisted intermittently in the business. 1948 U.S. Tax Ct. LEXIS 48">*50 For all the years through 1939 petitioner reported in his income tax returns the income from the business known as "Morrisons Furniture Store" as taxable to him individually.
In 1939 Mrs. Morrison was credited, for the first time, with a salary in the amount of $ 6,000, although her activities during that year did not differ markedly from those of previous years. This money was not drawn by her during the year, but was credited to her in a lump sum in December 1939. Also, in December 1939, petitioner made a gift of $ 4,000 to Mrs. Morrison which was credited to her capital account 11 T.C. 696">*698 in the subsequent family partnership. The profits of Morrisons Furniture Store in 1939 were the largest in its history, the net income for that year being $ 29,864.13, as compared with the previous year's total of $ 9,048.65. On January 2, 1940, articles of copartnership were drawn up and signed by petitioner and his wife, the partnership keeping the name of "Morrisons Furniture Store." The total capital of the partnership at the time of its formation was $ 154,000. Of this, each partner had a half interest of $ 77,000, and each partner was to share equally in the profits and losses of the1948 U.S. Tax Ct. LEXIS 48">*51 partnership. Of Mrs. Morrison's $ 77,000, $ 10,000 consisted of her $ 6,000 salary for 1939 and the $ 4,000 gift from petitioner, both received a few days before the formation of the partnership. The remainder of her capital contribution, $ 67,000, consisted of a gift from petitioner, made simultaneously with the formation of the partnership, on which he paid a gift tax. After the formation of the partnership Mrs. Morrison continued intermittently to perform various duties in connection with the furniture store, such as buying materials and stock work. The articles of copartnership provided that petitioner was to give his full time to the business. As to his wife, there was this provision:
It is further mutually agreed that said Margareatte B. Morrison, Party of the Second Part, shall not be required to give all of her time to the affairs and interests of said co-partnership but that she will devote at least a part of her working time to the affairs and interests of said co-partnership business, and when the demands of the business shall warrant, the said Party of the Second Part hereby agrees that she will give her entire working time to said business and to its interests.
During1948 U.S. Tax Ct. LEXIS 48">*52 1940 and 1941 profits continued to increase, the net income for 1940 being $ 59,768.87, and for the first seven months of 1941, $ 52,405.98. On August 1, 1941, a four-member partnership was formed, consisting of petitioner, his wife, and their two sons, John and Patrick. At that time the two sons were respectively seventeen and sixteen years of age and were attending high school. Petitioner was then thirty-nine. Simultaneously with the formation of the partnership petitioner and Mrs. Morrison each gave each son a one-eighth interest in the partnership, so that each of the four parties had a one-fourth interest. Under the articles of copartnership each of the four partners was to share equally in the profits and losses of the partnership. Petitioner and Mrs. Morrison paid gift taxes on these gifts. The sons had worked in the store during vacations and after school hours since they were twelve, and the older son had received afternoons off from high school in conjunction with a selling course he was taking in order to work in the store. Prior to the formation of the partnership the sons had been paid at the rate of 25 cents an hour for their services in the store. Under the1948 U.S. Tax Ct. LEXIS 48">*53 four-member partnership agreement the sons were to "perform services for the 11 T.C. 696">*699 co-partnership of which they are capable at such times as they are free from requirements of their education." As in the two-member partnership agreement there were provisions that petitioner give his full time to the business, but that his wife not be required to give all her time. After the formation of the partnership the duties of the sons remained substantially the same as they had been theretofore, except that they were relieved of some of their heavier duties in the store, such as uncrating furniture. Neither son was given the privilege of writing checks for the partnership. Simultaneously with the four-member partnership agreement petitioner and Mrs. Morrison signed an emancipation agreement whereby they waived any rights to the earnings of their sons, both minors. In 1943 petitioner filled out his classification for draft purposes and stated that he had no dependents. He was accordingly classified 1-A H.
The older son, John, finished high school in June 1943 and entered the Navy July 10, 1943. The younger son, Patrick, finished high school in January 1944 and entered the Navy March1948 U.S. Tax Ct. LEXIS 48">*54 3, 1944. The four-member partnership was dissolved August 1, 1944, and was incorporated as of that date. In this corporation petitioner was president and treasurer; his wife, vice president and secretary; John, assistant secretary; and Patrick, assistant treasurer. Petitioner's salary was $ 15,000, his wife's $ 7,000, and each son's $ 900. Each member of the family received a quarter of the stock at the time of the formation of the corporation. Later there were other transactions in the stock, so that at the time of trial the sons owned the controlling interest in the business. The older son was discharged from the Navy November 17, 1945, and the younger son on May 21, 1946. After leaving the service both sons entered the business and devoted their full time to it.
In 1942 the four-member partnership formed a realty corporation for the purpose of taking title to the building in which the store was located. In this corporation petitioner received 66 shares of stock, his wife 64 shares, and his sons each 60 shares.
During the fiscal year ended July 1943, while the four-member partnership was still in existence, petitioner withdrew from the partnership account a total of $ 23,671.89. 1948 U.S. Tax Ct. LEXIS 48">*55 Mrs. Morrison withdrew during the same period $ 15,132.39. John withdrew $ 10,846.57 and Patrick withdrew $ 10,749.14. The excessive drawings on the part of the petitioner were for the purpose of settling his father's estate and paying income taxes. Some time after the drawings, notes were given by petitioner to the other three partners covering the amounts. Those notes were paid with interest in full in January 1947.
The Commissioner mailed notice of deficiency to petitioner March 14, 1947. The partnership net income was reallocated for the fiscal 11 T.C. 696">*700 years ended July 31, 1942 and 1943, so that Mrs. Morrison was held to have received $ 1,600 for each year -- $ 600 as compensation for services and $ 1,000 as return of 10 per cent on a capital investment of $ 10,000 -- and the remainder of partnership net income was treated as taxable to petitioner alone. A letter from the internal revenue agent in charge, addressed to the partnership and detailing the reallocation, was mailed March 21, 1947.
OPINION.
The first and primary issue in this case is whether the income from the partnership known as Morrisons Furniture Store for the calendar years 1942 and 1943 is taxable, with1948 U.S. Tax Ct. LEXIS 48">*56 adjustments, in its entirety to petitioner, or whether it is taxable equally to all four members of the partnership, petitioner, his wife, and their two sons. The case is in many respects similar to Commissioner v. Tower, 327 U.S. 280">327 U.S. 280, and Lusthaus v. Commissioner, 327 U.S. 293">327 U.S. 293, decided by the Supreme Court in favor of the position here held by respondent.
In the Tower case the taxpayer transferred shares of stock of the corporation he controlled to his wife on the condition that she place the corporate assets represented by these shares into the new partnership of himself and his wife. The taxpayer, treating the stock transfer to his wife as a gift, later paid a gift tax on it. Three days after the stock transfer the corporation was liquidated and a partnership formed. According to the books the value of the donated stock became the wife's contribution to the partnership. In that case the Court said:
We do not need to decide this issue [whether the gift was ineffective for tax purposes because it was conditional and therefore incomplete]. The question here is not simply who actually owned the capital 1948 U.S. Tax Ct. LEXIS 48">*57 attributed to the wife on the partnership books. A person may be taxed on profits earned from property where he neither owns nor controls it. * * * The issue is who earned the income and that issue depends on whether this husband and wife really intended to carry on business as a partnership.
* * * *
There can be no question that a wife and husband may, under certain circumstances, become partners for tax, as for other purposes. If she either invests capital originating with her or substantially contributes to the control and management of the business, or otherwise performs vital additional services, or does all of these things she may be a partner as contemplated by 26 U.S. C. §§ 181, 182, 26 U. S. C. A. Int. Rev. Code, §§ 181, 182. * * * But when she does not share in the management and control of the business, contributes no vital additional service, and where the husband purports in some way to have given her a partnership interest, the Tax Court may properly take these circumstances into consideration in determining whether the partnership is real within the meaning of the federal revenue laws.
In the case at bar petitioner's wife invested1948 U.S. Tax Ct. LEXIS 48">*58 no capital originating with her. Out of her total capital contribution of $ 77,000, $ 67,000 11 T.C. 696">*701 was received by her as a gift from her husband simultaneously with the formation of the two-member partnership. The remaining $ 10,000 was received by her from her husband out of the profits of the business only a few days before the formation of the partnership, $ 4,000 as an outright gift and $ 6,000 as a purported "salary" for 1939. We can not, upon examination of the record, regard this $ 6,000 as a true salary and hence capital originating with Mrs. Morrison. 1939 is the only year in which Mrs. Morrison was ever paid a salary. By her own testimony her activities and duties in the business during 1939 were a mere continuation of her prior activities and duties in the business. Moreover, this money was allowed to remain in the business during the entire year of 1939, and immediately thereafter, upon the formation of the partnership on January 2, 1940, the entire $ 6,000 was invested in the business by Mrs. Morrison as part of her capital contribution.
Thus, looking at Mrs. Morrison's capital contribution of $ 77,000, we can say, in the language of the Tower case, "No1948 U.S. Tax Ct. LEXIS 48">*59 capital not available for use in the business before was brought into the business as a result of the formation of the partnership."
Nor can it be said that Mrs. Morrison made a contribution to the building up of her husband's business to any greater extent than the ordinary wifely responsibilities would call for under similar circumstances. When the business was new in the early days of their marriage Mrs. Morrison assisted her husband at the store in such ways as her duties in the home would permit until their first child was born, and thereafter she assisted intermittently as her individual responsibilities permitted and the business needs required. The record fails to disclose any discussion of compensation of any kind being paid for her services.
Nor upon examination of the record can we find that petitioner's wife substantially contributed to the control and management of the business during the taxable years 1942 and 1943, the years at issue here. In this regard the case at bar is clearly distinguishable from the recent family partnership cases of Weizer v. Commissioner, 165 Fed. (2d) 772, 775 (CCA-6, Jan. 26, 1948), and Woosley v. Commissioner, 168 Fed. (2d) 3301948 U.S. Tax Ct. LEXIS 48">*60 (CCA-6, June 2, 1948), as well as from Canfield v. Commissioner, 168 Fed. (2d) 907 (CCA-6, July 12, 1948), in all of which decisions by this Court in favor of the Commissioner were reversed, the Circuit Court holding in each case that the wife was a bona fide partner for tax purposes with her husband.
Mrs. Morrison was a registered buyer and had, in her own words, made "several" purchases of interior decorating materials. But though she stated that she signed some checks for purchases, not a single such check was produced in court. The burden of proof is on petitioner to show that his wife was a partner with him, with a partner's 11 T.C. 696">*702 control of the business, and we can not find that he has sustained this burden. The Commissioner has determined that a salary of $ 600 was a reasonable compensation for her services, and there is not sufficient evidence in the record to refute this determination.
In contrast with the meager evidence of Mrs. Morrison's participation in the business, we have ample proof that petitioner was indeed its dominant figure. There is first the fact that he alone of the four partners gave full time to the business. There1948 U.S. Tax Ct. LEXIS 48">*61 is next the fact that he signed most, perhaps all, of the checks for the partnership. Then there is the fact that his drawings from the partnership were considerably larger than those of his partners. To be sure, this money was repaid by him, but the fact remains that he was able to make these excessive drawings. Then it is significant that, when the partnership was finally dissolved and a corporation was formed, petitioner became its president at a salary of $ 15,000, whereas his wife's salary was only $ 7,000, and his sons', $ 900. All this evidence gives us a picture of a man who was not a partner, but, in reality, a sole proprietor.
Therefore, we must hold that the wife of petitioner was not his partner for tax purposes.
Nor is it possible to believe that the two sons of petitioner were, after the formation of the four-member partnership in 1941, partners in any real sense. These sons were at that time seventeen and sixteen years of age. They were still attending high school. Each continued to attend high school until about a month before he entered the naval service. During 1943 the younger son was still in school, and the older son was in school for half the year and1948 U.S. Tax Ct. LEXIS 48">*62 in the Navy for most of the remainder of the year. Up to the time they became partners, the sons were paid for their services in the store at the rate of 25 cents an hour. Though there is some indefinite evidence to the effect that the duties of the sons increased in responsibility after the formation of the four-member partnership, the fact remains that they were able to give to the business only such time as they could spare from school. Their father, the petitioner, was at this time an experienced businessman who had run the business as a sole proprietorship for years. He was in the prime of life and able to give his full time and energies to the business. It can not be said that petitioner has sustained the burden of showing that his two sons controlled and managed the business as his partners.
Nor did the sons contribute to the partnership any capital originating with them. Their capital contribution at the time of the formation of the four-member partnership consisted entirely of the interests they received from their parents at that time and on which the parents paid gift taxes. As was said in the Tower case, "the result of the partnership was a mere reallocation1948 U.S. Tax Ct. LEXIS 48">*63 of income among the family members."
11 T.C. 696">*703 In holding that the two sons of petitioner were not his partners for tax purposes, we are not unmindful of the recent case of Culbertson v. Commissioner, 168 Fed. (2d) 979 (CCA-5, June 30, 1948), reversing Tax Court memorandum opinion dated June 24, 1947. In that case, a partnership was formed as a result of a father buying out his partner and then, in pursuance of an express agreement with the retiring partner, selling this interest to his four sons, who gave their notes therefore. The Circuit Court, looking at the fact that the father's partner was ill and aging, that the sons had special interest and skills in cattle breeding, and that the father had, moreover, no reason to expect any imminent increase in profits, found that he had formed a partnership with his sons in good faith and not for the purpose of avoiding taxes. Furthermore, said the court:
When it is fully expected, intended, and agreed that the incoming partner will render services to the partnership, the government should not be heard to say: "I will not recognize you as a partner even though you in good faith entered into it. I took1948 U.S. Tax Ct. LEXIS 48">*64 you into the Army to fight a war and you did not perform services for the partnership as you had agreed to do."
Petitioner in the instant case may have expected that his sons would eventually take over and run the business, as do fathers in many businesses. But the fact remains that the sons did not actually render services during the taxable years in question which would make them partners in a tax sense. Actually, the war did not affect the younger son's capacity to contribute services to the partnership at all during those years, 1942 and 1943, since he was not in the Navy until 1944; and the older son did not enter the Navy until mid-1943. Moreover, in view of petitioner's undoubted motive of tax-saving in setting up the partnership when he did, and in view of the extreme youth even of the older son and of the fact that the father was only thirty-nine at the time of the formation of the partnership, and in view of the experience and dominant role of the father in the business, it is highly doubtful whether the older son would have rendered such services during the latter half of 1943 even if a war had not intervened.
In view, then, of the important fact differences between 1948 U.S. Tax Ct. LEXIS 48">*65 the instant case and the Culbertson case, we can not regard the latter as controlling here, and we must hold that the sons were not partners with petitioner for tax purposes in this case.
On the second question, whether the deficiency for 1943 was determined within the time prescribed by law, petitioner contends in his petition that respondent:
* * * improperly and erroneously seeks to reallocate the partnership net income by an untimely Treasury Department letter issued from Buffalo, New York, on March 21, 1947, beyond the time limitation (March 15, 1947) when any such reallocation could have been made.
11 T.C. 696">*704 This contention of petitioner is without merit. The letter referred to was merely supplemental to the notice of deficiency and detailed the reallocation of partnership income. It was, moreover, addressed to the partnership. This proceeding is for the determination of petitioner's income and victory tax liability for the calendar year 1943. Therefore, the statutory period of limitation for the mailing of the notice of deficiency for 1943 expired on March 15, 1947, three years after the filing of the return by petitioner. The notice of deficiency was mailed to petitioner1948 U.S. Tax Ct. LEXIS 48">*66 on March 14, 1947, as alleged by petitioner in his petition and admitted by respondent in his answer, and hence was timely.
We hold, therefore, that the Commissioner did not err in including the net income of the partnership, as adjusted by respondent, in the gross income of petitioner, and that therefore the determination of deficiency should be approved.
Decision will be entered for the respondent.