1940 BTA LEXIS 967">*967 Compensation under contracts requiring petitioner to supply musical material for certain motion pictures held to constitute ordinary income rather than gain from the sale of capital assets. Sabatini v. Commissioner, 98 Fed.(2d) 753.
42 B.T.A. 668">*668 This proceeding was brought for a redetermination of a deficiency of $11,092.80 in petitioner's income tax for the year 1935.
The question involved is whether a sum received by petitioner pursuant to certain contracts with RKO Studios, Inc., represented ordinary income for services rendered, or proceeds from the sale of capital assets.
FINDINGS OF FACT.
Petitioner, an individual with his principal place of business at 799 Seventh Avenue, New York, New York, for over thirty-three years has been an author and composer of songs and a producer. During this period he has composed approximately seven hundred songs. He writes songs for publication on a royalty basis and composes musical scores for stage attractions which he produces1940 BTA LEXIS 967">*968 in conjunction with others. In the latter case he receives royalties as composer and a share of the profits as a producer.
In November 1934 petitioner was in California on a vacation with his wife. He was approached to do a picture for Fred Astaire and Ginger Rogers and on November 27, 1934, petitioner after negotiations entered into a written contract with RKO Studios, Inc., hereinafter referred to as "RKO." This contract by its terms "engage [d] and employee [d]" petitioner to render his services exclusively to RKO as a composer and lyricist to write and compose for it "the 42 B.T.A. 668">*669 music and lyrics for the production musical numbers (hereinafter sometimes collectively referred to as the 'Musical Material')", necessary and suitable in connection with the book of a dramatico-musical work tentatively entitled "Top Hat", which was currently in the process of being written. The agreement, inter alia, provides:
You [petitioner] hereby accept such employment and agree to perform your services hereunder conscientiously and to the full limit of your ability. You agree to commence the rendition of your services hereunder upon the execution hereof, and, subject to the1940 BTA LEXIS 967">*969 further provisions hereof, to complete and deliver the Musical Material to us [RKO] on or before March 31, 1935; however, you will deliver to us installments of the Musical Material as the same are completed by you. * * * In writing and composing the Musical Material you agree to consider, and wherever in your judgment desirable, to accept our suggestions.
In the event that you complete the Musical Material prior to March 31, 1935, you will remain available in Los Angeles, California until and including March 31, 1935.
* * *
It is distinctly understood and agreed that you may work at such times of the day and night and at such place or places in and about the City of Los Angeles, California, as shall suit your convenience.
2. For your services hereunder and for all rights herein granted and/or agreed to be granted to us, we will pay you the minimum guaranteed amount (hereinafter called "minimum guaranteed compensation") of Seventy-five Thousand Dollars ($75,000.00) * * *
* * *
4. You hereby do further expressly give, grant, transfer, sell, assign and set over unto us, our successors and assigns, the right to utilize and/or make recordations of the Musical Material, 1940 BTA LEXIS 967">*970 or any part thereof; to make copies of such recordations and to produce and/or reproduce and/or license and/or sublicense the production and/or reproduction thereof or any part or parts thereof, publicly or otherwise, in connection with the production, exhibition, distribution, exploitation and/or advertising of the photoplay referred to in Article 1, including all rights necessary for the use of the Musical Material in connection with said photoplay, and the right to broadcast and license others to broadcast the Musical Material, or any part thereof, by radio in connection or in conjunction with radio programs advertising said photoplay * * *.
The agreement also provides that the musical material written by petitioner under the contract but not used in the photoplay reverts to petitioner as his sole and exclusive property; that all rights in the musical material not expressly granted to RKO, including, but not limited to, the so-called publication and mechanical instrument rights, are reserved for petitioner; that petitioner would not license the use in other motion pictures of any of the musical material for three years, and thereafter only to a limited extent; that petitioner1940 BTA LEXIS 967">*971 guarantees that RKO would not have to pay any royalty fee to any one in the exercise of the rights granted it; that petitioner would have musical material copyrighted wherever published or offered for sale, 42 B.T.A. 668">*670 have the notice of copyright affixed, and assign to RKO under the copyrights for the original and renewal terms the rights granted it under the contract; that petitioner appoint RKO his attorney to institute and prosecute proceedings for the protection of the rights granted it, bringing suit, if it desires, in petitioner's name; that petitioner makes certain warranties as to the originality of the musical material and the exclusiveness of the grant to RKO.
The agreement continues in paragraph 10 thereof as follows:
(b) Should you, at our request, during the production of said photoplay, perform your services hereunder in any place other than the City of Los Angeles, California and its environs within a radius of twenty-five (25) miles thereof, we agree to pay the expense of necessary first-class board, lodging and transportation for you * * * reasonably incurred by you in the rendition of such services.
And in paragraph 11:
(f) We shall not be liable for any1940 BTA LEXIS 967">*972 compensation or fee to any agent in connection with this agreement or the services to be rendered by you hereunder.
And, paragraph 12:
12. Notwithstanding anything elsewhere herein contained, if on February 1, 1935, we shall not have completed at least a treatment of the book of said dramatico-musical work, you will, nevertheless, endeavor, to the best of your ability, to complete the Musical Material prior to April 1, 1935, bur in the event that you are unable so to do by reason of our failure to have completed such a treatment, you will deliver to us hereunder six (6) musical numbers with lyrics therefor, suitable in connection with and adapted to the general subject matter of the story idea underlying said book. Upon the delivery of said musical numbers to us as aforesaid, your obligation hereunder will cease and determine.
In the picture "Top Hat" were the following songs:
Top Hat, White Tie and Tails
Cheek to Cheek
No Strings (I'm Fancy Free)
Isn't This s Lovely Day
The Piccolino
"Top Hat, White Tie and Tails" had been written prior to November 1934, for a work, "More Cheers", which was not produced; "Cheek to Cheek" was rewritten for the picture, the lyric1940 BTA LEXIS 967">*973 from a previous song by that name and the melody from a part of a song entitled "Moon Over Napoli", which had been composed for "More Cheers"; the melody for "The Piccolino" had been written for and used in the first Music Box Review in 1922; and "No Strings (I'm Fancy Free)" and "Isn't This a Lovely Day" were completely written expressly for the picture "Top Hat."
Petitioner wrote at least ten songs for "Top Hat" which were never used.
42 B.T.A. 668">*671 Irving Berlin, Inc., of which petitioner is an officer, registered claim for the unpublished and the published copyrights on the words and music of above named songs on the dates indicated below:
| Unpublished | Published | |
| Top Hat, White Tie and Tails | Feb. 28, 1935 | July 25, 1935 |
| Cheek to Cheek | Dec. 19, 1934 | July 3, 1935 |
| No Strings (I'm Fancy Free) | Mar. 22, 1935 | July 25, 1935 |
| Isn't This a Lovely Day | Mar 8, 1935 | July 3, 1935 |
| The Piccolino | Jan. 28, 1935 | July 25, 1935 |
On March 15, 1935, petitioner entered into another agreement with RKO Studios, Inc. It is of similar import as the November 1934 agreement, although it varies to some extent.
Paragraph 1 of the March contract provides in part:
1. Subject1940 BTA LEXIS 967">*974 to the terms and conditions hereinafter set forth, you hereby agree to write and compose the music and lyrics for the production musical numbers (hereinafter sometimes collectively referred to as the "Musical Material") necessary and suitable in connection with a musical revue tentatively entitled "LEND ME YOUR EARS", which we are currently having written and upon which we intend to base a so-called feature length motion picture * * *.
Paragraph 2 provides in part:
2. As consideration for your performance of your agreements hereunder and for all rights herein granted and/or agreed to be granted to us, we will pay you * * *.
Further provisions of the March contract are identical or substantially similar except that in paragraph 4 the grant to RKO is limited to the original term of the copyright and does not extend to a renewal term.
The March 15, 1935, agreement was revised and amended by an agreement dated May 29, 1937, which for present purposes did not alter the import of the prior agreement. Paragraph 1 was amended by adding the following: "But in no event shall you be required hereunder to remain in Los Angeles more than two (2) months."
The tentative title of the1940 BTA LEXIS 967">*975 picture was changed to "Follow the Fleet." In that picture were the following songs:
Get Thee Behind Me, Satan
I Would Rather Lead a Band
Let's Face the Music and Dance
I'm Putting All My Eggs in One Basket
Here Am I, But Where Are You
We Saw the Sea
Let Yourself Go
Of the above, "I would Rather Lead A Band" and "Face the Music and Dance" were written especially for the picture; "Get 42 B.T.A. 668">*672 Thee Behind me, Satan" was part of the score of "More Cheers"; "I'm Putting All My Eggs in One Basket" was written in 1932 for a show called "Face the Music" but was not used then. "Here Am I, But Where Are You" was part of a song petitioner had written years before, called "Reaching For The Moon", the lyric of the verse being written into a new song for "Follow The Fleet"; "We Saw the Sea" was based on material that petitioner had used in a wartime show called "Yip, Yip, Yaphank", but was rewritten for "Follow the Fleet"; and "Let Yourself Go" was a song that was originally written for "Face the Music", but was also rewritten for "Follow the Fleet."
Irving Berlin, Inc., registered claim for the unpublished and published copyrights on the words and music of the above named1940 BTA LEXIS 967">*976 songs on the dates indicated below:
| Unpublished | Published | |
| July 12, 1934 | ||
| Get Thee Behind Me, Satan | Sept. 21, 1934 | Jan. 11, 1936 |
| I Would Rather Lead a Band | Sept. 12, 1935 | Jan. 11, 1936 |
| Let's Face the Music and Dance | June 14, 1935 | Jan. 11, 1936 |
| I'm Putting All My Eggs in One Basket | Nov. 8, 1935 | Jan. 11, 1936 |
| Here Am I, But Where Are You | Aug. 16, 1935 | Jan. 11, 1936 |
| We Saw the Sea | Sept. 12, 1935 | Jan. 11, 1936 |
| Let Yourself Go | Aug. 30, 1935 | Jan. 11, 1936 |
Prior to November 27, 1934, petitioner had sold motion picture rights in only two songs. These were sold to "MGM" for a picture called "Hallelujah."
Petitioner stayed in California long after he was required to do so by his contract for "Top Hat"; he watched production and remained to help as much as possible and to gain experience. In the case of "Follow the Fleet" he remained until he had finished his score pursuant to the contract.
In performing his work under the contracts petitioner attended conferences during the day at the studio with relation to the picture and worked on the necessary music and lyrics at night at his office at the Beverly-Wilshire Hotel in Los Angeles, California, 1940 BTA LEXIS 967">*977 where he had a secretary to assist him.
During the calendar year 1935 petitioner received a total of $150,000 from RKO Studios, Inc., pursuant to the above mentioned contracts of November 27, 1934, and March 15, 1935. Petitioner reported this amount in his Federal income tax return for that year as being received from the "Sale of Music Rts", deducting $25,414.75 as "Cost", leaving a "Profit" of $124,585.25, which he reported as 100 percent taxable as a capital gain. This was offset by capital losses of $38,534.62, resulting in a capital gain of $102,758.91.
42 B.T.A. 668">*673 In his notice of deficiency respondent determined that the $124,585.25 was not capital gain, but was ordinary income as compensation for services rendered, or even if the contracts were contracts of sale there was no sale of "capital assets" within the definition of that term by the applicable revenue act.
OPINION.
OPPER: The question is whether income which petitioner received from the use of his songs in two motion pictures is taxable as capital gain or ordinary income. Petitioner took the former view and in his tax return the income, while conceded to be taxable in full, was treated as partly offset1940 BTA LEXIS 967">*978 by capital losses. Respondent has determined a deficiency based on the assumption that petitioner's compensation was ordinary income and that capital losses could not be deducted from it. The correctness of this action petitioner contests here.
The parties differ as to the character and proper interpretation of the contracts between petitioner and RKO pursuant to which he was engaged to supply the musical material for the two motion pictures in question. It is respondent's contention that the contracts called for the rendition of personal services and hence that the compensation thereunder was clearly ordinary income, and that, if the contracts resulted in the acquisition by RKO of rights in petitioner's property, the transaction was not a sale but merely a license, with the result that its proceeds are not to be treated as gains from the sale or exchange of capital assets. Petitioner on the other hand takes the position that all or, in the alternative, at least a considerable portion, estimated by him at 50% in one instance and 40% in another, of the materials supplied were capital assets and that the effect of the contracts was a sale thereof resulting in the receipt of capital1940 BTA LEXIS 967">*979 gain.
Whether or not the contracts called solely for the rendition of personal services, it seems clear from their language and from the practical effect given to them in their performance by petitioner that some personal services on his part were involved. In order to comply with the provision that the material supplied by him be "necessary and suitable", petitioner spent a large part of his time in attending conferences and rehearsals. Even if we assume that the original work of composition is not to be regarded as the rendition of personal services, the most that can be said of the contract is that it was a hybrid arrangement, dealing in part with capital assets and in part with the performance of some personal services. Whether the compensation received is susceptible of apportionment, 42 B.T.A. 668">*674 and, if so, how this could be done, presents serious difficulties. 1 And it seems equally difficult to regard the work involved in such composition as other than the rendition of services of an intensely personal nature. It is true that to some extent, and presumably as the result of chance circumstance, the petitioner had on hand material resulting from his creative work in earlier1940 BTA LEXIS 967">*980 years which was available for and was adapted to use in the performance of the contract. But this was not called for thereby, and there can be no question that if petitioner had furnished suitable musical material which was the result of his current efforts his performance under the contract would have been complete. It seems questionable in the extreme whether the purely fortuitous contribution by petitioner of the result of labors performed by him in previous years is sufficient to transmute the present contract, even in part, into one resulting in the disposition of capital assets, assuming that unpublished or uncopyrighted musical and literary works can be considered as such.
These, however, seem to us questions which it is unnecessary to decide in this proceeding. For it is not sufficient to grant that the contracts dealt with capital assets. In order for income to be available for offset by capital losses there must be capital gain from "sales or exchanges" 2 of such assets. See 2 Paul & Mertens "Law of Federal Income Taxation", 532; 1940 BTA LEXIS 967">*981 ; affd., . We think the respondent is correct in suggesting that this was no sale, but at most a mere license to use the material in connection with specific motion picture productions. While there is no magic in words, and to call the contracts "licenses" rather than "sales" advances us little; yet the term is but a shorthand expression of the nature of the ultimate transaction, which, in its essence, appears not to be the final disposition of anything, 3 but a mere permission to use, in a restricted field and for a specific purpose, for a stipulated sum. The rights granted by petitioner under the contracts were limited to the use of the material in question in the motion pictures under production, and in the advertising and exploitation thereof. Such rights in the words and music of the songs as were not expressly granted or limited by the contract were retained by petitioner, even including the right to license their use in other motion pictures. The copyrights were to be his and assignment of rights thereunder to the motion picture company was confined to those expressly granted in order to fulfill the purpose1940 BTA LEXIS 967">*982 42 B.T.A. 668">*675 of the contract. In these circumstances "the author remained the owner of his works and merely licensed their use for a particular object for a period. There was no transfer of title necessary to a complete sale." (C.C.A., 2d Cir.). Accordingly, we conclude that the income in question is not to be regarded as capital gain but is subject to treatment as ordinary income.
Decision will be entered for the respondent.
Footnotes
1. Petitioner characterized it as "very difficult to answer" and his own estimate as "only a guess." ↩
2. Revenue Act of 1934, sec. 117(d). ↩
3. So much is almost conceded by petitioner, for in seeking to demonstrate that these were not personal service contracts his brief states: "the sole right obtained by RKO was the right to use the songs in motion pictures," and distinguishes the case of an employee where "the author had parted with his entire property in the work and had no interest left * * *." . ↩