*3288 The petitioner's wife executed a valid deed of trust conveying certain personal property, none of which belonged to the petitioner, to the petitioner as trustee with the power, inter alia, to invest and reinvest the trust funds and to pay the income from the trust to himself for life. After his death the income was to be paid to the wife for life and at the death of the survivor the principal was to be divided equally among their children. Held, the Commissioner was in error in determining that certain bank deposits in the trustee's account, representing the amounts realized by him from a sale of the trust property, were income to the petitioner as an individual.
*240 This is a proceeding for the redetermination of a deficiency for the calendar year 1920 in the total amount of $46,725.37, representing a deficiency in tax of $37,380.30 and a penalty of $9,345.07. It is alleged that the determination of the Commissioner was based on the following errors:
(1) In alleging that H. D. Ruos is the taxpayer and in charging*3289 him with the alleged deficiency in tax.
(2) In failing to acknowledge that H. D. Ruos, Trustee, is the taxpayer and in failing to consider the transactions upon which the alleged tax was computed as being transactions arising solely out of the trust.
(3) Computing the alleged tax upon the whole amount of proceeds derived from the sale or other disposition of the assets of the trust without allowing any deductions therefrom in the way of value at date of acquisition or for cost.
(4) In alleging a deficiency in tax.
(5) In alleging a penalty for failure to file a return.
*241 FINDINGS OF FACT.
The petitioner is an individual residing at Doylestown, Pa. About the year 1898, he began to manufacture agricultural implements, renting for the purpose a factory at Doylestown owned by his brother. In 1901, the petitioner failed and his business was placed in the hands of a receiver. His machinery and agricultural implements, with the exception of a portion representing his exemption under the bankruptcy laws were sold at the receiver's sale to his brother. The property representing the petitioner's exemption was given by him to his wife. Shortly thereafter the manufacturing*3290 business was resumed by the petitioner's brother and another as partners and aboout 1906 the business was incorporated under the name of the Doylestown Agricultural Co. hereinafter referred to as the company.
The petitioner has been employed in the business on a salary basis continuously since the formation of the partnership by the partners and by their successor, the corporation. He has never applied for or received his discharge from bankruptcy.
On April 15, 1920, the petitioner's wife Lillian H. Ruos executed a deed of trust transferring to the petitioner as trustee certain property described as follows in the trust deed:
Two Hundred and Seventy-two (272) shares of the Preferred Capital Stock of Doylestown Agricultural Company, a corporation organized under the Laws of the State of Delaware and engaged in business in Doylestown, Pennsylvania;
Two Hundred and Eighty-One (281) shares of the Common Capital Stock of said Doylestown Agricultural Company;
Two notes given by said Company dated April 1, 1911, both drawn payable to the Settlor, one for Five Thousand Nine Hundred and Ninety Two and 40/100 Dollars ($5,992.40) and the other for Two Thousand Six Hundred and Sixty*3291 Five Dollars ($2,665.);
Note given by said Company for Five Thousand Nine Hundred and Ninety-Two and 40/100 Dollars ($5,992.40), dated April 1, 1911, drawn payable to Emma Ruos and by her assigned to the Settlor;
Note given by said Company for Five Thousand Four Hundred and Fifty and 33/100 Dollars ($5,450.33), dated March 26, 1920, drawn payable to Isaiah B. Mills and by him assigned to the Settlor; and
Three other claims held by the Settlor against said Doylestown Agricultural Company aggregating Two Thousand Nine Hundred and Seven and 65/100 Dollars ($2,907.65).
It was provided that the trustee should pay the income thereof to himself for life and thereafter to the settlor for life. Upon the death of the survivor, the principal was to be distributed in equal shares to the three named children of the settlor, or their issue per stirpes, with the right of participation reserved for any children of the settlor and the petitioner born after the date of the trust deed, or, if dead, their issue, per stirpes. The trustee was authorized to retain or to change investments of the trust fund and to invest the *242 same in any manner without restriction except the obligation*3292 of good faith in making such investments. The petitioner as trustee was also empowered to pay at any time to any of the children named a part of the principal not to exceed one-third. The income and the principal in the hands of the trustee were impressed with a spendthrift trust designated to prevent a liability for any debts or obligations of any of the beneficiaries. The deed of trust provided that upon the death or resignation of the petitioner, the settlor's son Joseph R. Ruos and the Bucks County Trust Co. of Doylestown should be successor trustees with no power to make reinvestments except in such securities as should be authorized by the laws of Pennsylvania for the investment of trust funds.
For several years previous to the execution of the deed of trust, the petitioner and his wife had discussed the advisability of placing the property owned by her and any which she might subsequently acquire in trust to preserve it for the benefit of their children. Lillian H. Ruos had had no business experience and wished the property to be managed by her husband for their common benefit but also to have it protected from his creditors. The petitioner, therefore, consulted an attorney*3293 of Doylestown as to the legal formalities necessary to carry out their intentions and after several consultations with the petitioner and his wife the attorney prepared the deed of trust.
Upon the organization of the company in 1906, Lillian H. Ruos received one-fourth of its common and preferred stock, amounting to 65 shares of preferred and 67 of common, which were given to her as part payment for the property which the petitioner had held as an exemption. The remainder of the common and preferred stock was divided equally between Isaiah B. Mills, John J. Coates and Emma Ruos, the wife of the petitioner's brother. After receiving her one-fourth share of the capital stock, Lillian H. Ruos sold 60 shares of the common stock for which she received a judgment note in the amount of $6,000. This note was never paid by the maker and when execution was had thereon nothing was realized. Shortly before the date of the deed of trust Joseph R. Ruos repurchased the said 60 shares and transferred them as a gift to his mother Lillian H. Ruos.
John J. Coates had never paid anything for the stock assigned to him and the same was later given back to Joseph A. Ruos, the petitioner's brother*3294 and was by him transferred as a gift to Lillian H. Ruos shortly before the execution of the trust agreement. At the same time Emma Ruos transferred her stock to Lillian H. Ruos without consideration as a gift.
A short time before April, 1920, the stock which had been issued to Isaiah B. Mills and a judgment note of the company in the amount *243 of $5,450.33 held by Mills, were purchased by Joseph R. Ruos for $11,000, for which amount he gave his note. This stock and the judgment note were given by Ruos to his mother and the note given by him to Mills was paid later during the year 1920 by the petitioner as trustee out of the trust funds.
The remaining notes transferred to the petitioner by the deed of trust were received by the settlor in the following manner:
The judgment note of the company to the settlor in the amount of $5,992.40 represented an additional payment for the assets of the petitioner which were exempt from the bankruptcy proceedings. The judgment note of the company to the settlor in the amount of $2,665 was given in payment for a loan made by the settlor to the company. The judgment note of the company to Emma Ruos in the amount of $5,992.40 was*3295 assigned to the settlor by the owner without consideration on April 12, 1920. The amount of $2,907.65, referred to in the trust deed as three other claims held by the settlor against the company, represented three checks given by the company in April and May of 1918 to the petitioner in the amounts of $972.65, $1,200, and $735. These checks were never cashed by the petitioner, but were turned over by him to his wife.
In accordance with the terms of the trust deed the stock, notes and checks mentioned therein were transferred by the settlor to the petitioner in his capacity as trustee. There was given by the settlor to the trustee a memorandum of transfer of the stock showing the numbers of the certificates transferred and having affixed thereto Pennsylvania stock transfer stamps canceled as of April 15, 1920, covering the entire amount of the stock so transferred. On May 12, 1920, the petitioner as trustee used certain trust funds in the amount of $3,942.42 to purchase from his brother two promissory interest-bearing notes of the company payable to Mary Kohl in the amounts of $2,500 and $1,300. On the same date the face value of these notes was paid by the company to the petitioner*3296 as trustee.
On April 10, 1920, the petitioner as an individual entered into an agreement in writing with W. W. Murphy, a representative of the General Motors Co., whereby the petitioner agreed to deliver or cause to be delivered 272 shares of preferred stock and 254 shares of common stock of the agricultural company for a total amount of $80,720. In accordance with this agreement the stock mentioned therein was transferred by the petitioner as trustee to the General Motors Co. and the petitioner received therefor the amount of $80,720. About May 13, 1920, the General Motors Co. which then held the great majority of the agricultural company's stock, purchased from the trustee the notes and checks of the agricultural company held by the trust, paying therefor the amount of $26,807.78.
*244 The amounts received by the petitioner as trustee were deposited in the Bucks County Trust Co. in an account styled "H. D. Ruos, Trustee," the pass book showing the following deposits:
| 1920 | Amount |
| April 17 | $80,720.00 |
| May 13 | 26,807.78 |
| Sept. 10 | 286.04 |
| Dec. 31 | 400.00 |
| 1921 | |
| Feb. 16 | 250.00 |
| Total | 108,463.82 |
The trustee's account with the trust company was closed*3297 as of February 16, 1921. The money received by the petitioner as trustee and deposited in the trustee's account was expended by him as follows:
| Purchase of real estate from Henry Fell and | |
| Charles E. Heed, Trustee, by Henry D. Ruos, | |
| Trustee | $11,250.00 |
| Expended for repair of the above property | 1 12,000.00 |
| Payment of note of Joseph R. Ruos | 11,000.00 |
| Repurchase in 1921 by petitioner as trustee, | |
| from General Motors Co. of all the capital stock | |
| of the agricultural company held by the General | |
| Motors Co | 48,500.00 |
| Purchase of two notes of the agricultural | |
| company held by Mary Kohl, as set forth above | 3,942.42 |
| Gift to Joseph A. Ruos | 1 20,000.00 |
| Total | 1 106,692.42 |
Since the repurchase from the General Motors Co. the stock of the agricultural company has been held by the petitioner in his capacity as trustee. Since its organization the agricultural company has paid no dividends on its stock but its financial condition has been sound and it has been at all times capable of meeting its obligations.
The petitioner consulted the attorney who had prepared the deed of trust as to the necessity of filing income-tax returns for the year*3298 1920. At this consultation the petitioner stated that his income, aside from interest on Liberty bonds, was less than $2,000, and he was advised by the attorney that it was not necessary for him to file a return for that year, either individually or as trustee. The petitioner has never filed a return for the year 1920.
The Commissioner included in the petitioner's income the amount of $108,223.82, computed as follows:
Received from General Motors Corp. on April 17, 1920, and deposited in the Bucks County Trust Co. of Doylestown, Penna., on that date in the account of H. D. Ruos, Trustee, being proceeds from the sale to the General Motors Corp. of:
| 272 shs. preferred capital stock of Doylestown | |
| Agricultural Co. at $110 | $29,920 |
| 254 shs. common capital stock of Doylestown | |
| Agricultural Co. at $200 | $50,800 |
| 80,720 | |
| Received from Doylestown Agricultural Co. on May 13, 1920, | |
| and deposited in the Bucks County Trust Co. of Doylestown, | |
| Penna., on that date in the account of H. D. Ruos, | |
| Trustee, being collection in full from the Doylestown | |
| Agricultural Co. upon the notes of that Company | 26,807.78 |
| Deposited in Bucks County Trust Co. of Doylestown, Penna., | |
| September 10, 1920, in account of H. D. Ruos, Trustee | 286.04 |
| Deposited in Bucks County Trust Co. of Doylestown, Penna., | |
| December 31, 1920, in account of H. D. Ruos, Trustee | 400.00 |
| Deposited in Bucks County Trust Co. of Doylestown, Penna., | |
| May 17, 1920, in account of Lillian H. Ruos | 10.00 |
| Total | 108,223.82 |
*3299 *245 OPINION.
MURDOCK: The copy of the deficiency notice attached to the pleadings does not indicate the method by which the deficiency was computed. The Commissioner has made no argument nor has he filed a brief and therefore we have no expression from him in regard to the basis for or the correctness of his determination. He has admitted only that he has included in the petitioner's income the amounts deposited in the Bucks County Trust Co. in the petitioner's trustee's account.
We are unable to perceive any theory under which the two largest items so deposited, representing the amounts received from the sale of the agricultural company's stock and notes and from the payment of its checks, were income to the petitioner.
The latter testified that soon after he received the three checks from the agricultural company in 1918, in payment for his services, he gave them to his wife. But regardless of what he did with the checks they represented income to him, not in 1920, but in 1918, where, as in this case, the maker was solvent and able to take care of its obligations.
The petitioner has attempted to show that at various times before the execution of the deed*3300 of trust all of the stock and notes were assigned to Lillian H. Ruos, his wife. The evidence to prove these assignments was vague and confusing in regard to the dates upon which the transfers were made and the reasons which moved the donors to transfer the property without consideration. However, we are convinced that as an individual he had no title to the stock or notes immediately prior to the execution of the deed of trust.
Whether or not Lillian H. Ruos was the owner of all of the property designated in the trust deed, nevertheless the petitioner *246 acquired no individual title thereto by this deed. The transfer was made by Lillian H. Ruos to the petitioner as trustee and she had been reliably informed as to the legal effect of the transfer. The result of the execution of the deed of trust was to preserve the corpus of the property, so deeded, or its proceeds upon a sale, for the settlor's children, with the right to have it managed by her husband during his lifetime and to have the income thereof administered for their common benefit, free from any liability to his creditors. The trust which she executed was a valid one and no merger of any interest resulted, *3301 nor was any legal title placed in the petitioner as an individual. Cf. ; ; ; ; . Therefore, any title to the corpus received through Lillian H. Ruos rested in the petitioner as trustee and not as an individual. The profit, if any, included in the amounts received upon the sale to the General Motors Co., represented a gain in corpus and was neither income received by the petitioner individually, nor income distributable to him as a life beneficiary of the trust. See as to the question of income, ; ; ; . Therefore, the Commissioner was in error in including in the petitioner's income the amounts of $80,720 and $26,807.78, or any part thereof.
The petitioner has offered no evidence as to the three amounts of $286.04, $400, and $10 deposited in the Bucks County Trust Co., and determined by the Commissioner to represent income to*3302 the petitioner and in the absence of any evidence the Commissioner's determination with respect to these three amounts is held to be correct. We are unable to determine whether the petitioner received any taxable income during the year for which he failed to make a return, but to the extent that the penalty asserted by the Commissioner was based upon the tax erroneously determined to be due by the petitioner as shown above, the assertion of such penalty was error.
Judgment will be entered under Rule 50.
Footnotes
1. Approximate. ↩