*178 Decision will be entered under Rule 50.
Where income of a trust is payable to a divorced wife to be used for her support and the support and education of children of the husband-grantor, the husband having no continuing obligation under state law to support the wife, held, only so much of the trust income as is actually used for the support and education of the minor children is taxable to the grantor. Helvering v. Stuart, 317 U.S. 154">317 U.S. 154, distinguished.
*992 The Commissioner determined the following income tax deficiencies for the year 1938:
| Petitioner | Docket No. | Amount |
| Walter L. Ferris | 108291 | $ 1,266.07 |
| Violet Cooper Ferris | 108292 | 356.27 |
Three issues common to both proceedings have been settled by stipulation. In Docket No. 108292 these were the only issues raised by the pleadings and the deficiency will be recomputed under Rule 50 in accordance with the stipulation. The sole remaining issue, which is*179 presented only in Docket No. 108291, is whether petitioner Walter L. Ferris is taxable upon the entire income of a trust of which he was grantor.
FINDINGS OF FACT.
Petitioners are husband and wife, who resided during the tax year in California. Their individual income tax returns for the year 1938 were filed on a community property basis with the collector for the sixth district of California. The husband, Walter L. Ferris, will be referred to herein as the petitioner.
Petitioner was formerly a resident of Connecticut, where in 1912 he married his former wife, Alice Cheney Ferris. Four children were born of the marriage. A divorce ensued in 1920. Petitioner and Alice Cheney Ferris, the former wife, were remarried in 1923. In 1930 they were again divorced. This latter divorce was granted by a Connecticut court upon the wife's complaint. She was granted custody of the children. The final divorce decree was silent as to *993 alimony and contained in reservation of jurisdiction or control over the parties.
Approximately one month after their remarriage in 1923 petitioner created a trust, of which the First National Bank & Trust Co. of New Haven was named trustee, for the*180 benefit of his wife and children. The trust corpus was 2,000 shares of the preferred stock of the Roxbury School, Inc. The income was to be paid in monthly installments to the wife "for her use and for the support of said children." The trust instrument contained a proviso that in any event during petitioner's lifetime the trustee should pay to him any net income of the trust received by it in excess of $ 5,200 in any calendar year. Powers of management were granted the trustee, but the instrument provided that during petitioner's lifetime the trustee "will not sell or dispose of the said stock of the Roxbury School, Inc., without his consent, but will at his direction sell the same."
A further trust indenture was executed by petitioner and the First National Bank & Trust Co. of New Haven on March 24, 1930, shortly before the second divorce, by which petitioner conveyed to the trustee all his right, title, and interest in and to the trust fund created by the 1923 trust agreement, including any income therefrom to which he was or would become entitled and his right to approve or disapprove the sale of the preferred stock of the Roxbury School, Inc. Additional property was also *181 conveyed to the trustee. The trustee was directed to pay to petitioner $ 2,400 per annum or 20 percent of the trust income, whichever was less; to pay premiums upon life insurance policies on the life of petitioner, which policies were irrevocably payable to the wife; 1 and to pay the balance of the income to the wife in substantially equal monthly payments, "to be used by her for her support and the support and education of their said children * * *." The indenture provided that if in any year the net income from the trust payable to the wife, plus the income payable to her under the terms of the 1923 trust, should exceed the sum of $ 12,500, the surplus over that figure should be divided into three equal shares, one to be paid to the wife and the other two to petitioner. The trust indenture contained the following pertinent paragraph:
It is intended that said Alice Cheney Ferris shall use the income she receives from this Trust for the support and maintenance of herself and children, and to save said Walter L. Ferris harmless from any obligation for the support of any of them. If she shall fail to do so, the Trustee shall pay to said Walter L. Ferris, from the income which would*182 otherwise have been paid to said Alice Cheney Ferris, the amount of any obligations incurred by her or by said children which he, without having agreed to do so, shall be obliged to pay.
*994 The income of the trust during 1938 amounted to $ 7,818.72, of which $ 1,200 was spent for the support, maintenance, and education of a minor child, the other three children having become of age prior to the tax year. The minor was a son twenty years of age, who attended college during the tax year. The sum of $ 1,200 was the only amount expended from any source upon his support, maintenance, and education during 1938. The income to which petitioner was entitled, 20 percent, or $ 1,563.74, was not withdrawn*183 by him, but was left in the trust for the use of the wife and children.
The Commissioner included in petitioner's gross income the total income of the trust for the year 1938, with the statement that "the information and evidence available indicate that the said trust income was used to discharge your legal obligation for the support and maintenance of your children and divorced wife."
OPINION.
The facts of this case bring it squarely within the decision of the Ninth Circuit Court of Appeals in . It was there held that under Connecticut law a husband is discharged of the duty to support his wife by a final decree of divorce which makes no provision respecting alimony, and consequently he is not to be taxed upon income of a trust used for the wife's support. . The Court, however, recognized the husband's continuing obligation to support and educate minor children and ruled that the father was taxable upon trust income to the extent it was used to satisfy that liability.
The income of the trust in the present case for the current tax year *184 was $ 7,818.72. Twenty percent of this sum, or $ 1,563.74, was distributable to petitioner. This latter amount is taxable to him, whether distributed or not. Revenue Act of 1938, sec. 162 (b). In addition, the sum of $ 1,200 was expended for the support and education of petitioner's minor son; and, inasmuch as petitioner's legal obligation was thereby discharged, he is taxable on this amount under section 22 (a). . There is no basis in the record for concluding that the $ 1,200 used for the son or any part of it was paid out of the $ 1,563.74 which petitioner was entitled to receive but which he left in the trust. Hence, both of these sums are taxable to petitioner.
We do not know what was done with the balance of $ 5,054.98 of trust income. It was distributable to the divorced wife by the terms of the trust instrument and presumably was used for her own purposes or for the other three children, who in the tax year were adults. At any rate it was not used to discharge any of petitioner's *995 legal obligations. We do know that it was not received by petitioner nor was it used for the support or education*185 of his minor child.
In order to tax petitioner upon this $ 5,054.98 of income which he did not receive, directly or indirectly, we must be able to point to some provision of the Revenue Act of 1938 justifying such action. Income of a trust, though not received by a grantor, may be taxed to him under section 22 (a) if he has reserved the equivalent of full ownership and control of the corpus. . It is not contended that such a situation obtains here, and obviously it does not. Section 22 (a) may also be invoked to tax to a grantor income actually used to pay his debts, for that section authorizes "the laying of the tax against the one who through the discharge of his obligation enjoys the benefit of the income as though he had personally received it." This principle, of course, requires that petitioner be taxed upon the $ 1,200 expended on his son; but it would be extending the scope of section 22 (a) and Douglas v. Willcuts beyond any limits suggested by decided cases to hold that section 22 (a) taxes income to an obligor solely on the ground*186 that it may have been used to pay his obligations, where in fact it is used for other purposes that do not benefit the obligor taxwise. Such a theory, if valid, would be akin to the sparingly applied doctrine of constructive receipt, and would presuppose the existence not only of a debt or obligation, but of an untrammeled discretion on the part of the debtor to have the debt or obligation satisfied with the income in question -- a right so absolute that it could be said he had turned his back upon funds that were his for the asking. The $ 5,054.98 of income in controversy here could not be taxed to petitioner under section 22 (a) upon any such theory. This amount was payable to his divorced wife, along with the $ 1,200 which she expended on the minor child, and the extent that she would devote trust income to the child's support was a question to be determined by her in the first instance. It is true, perhaps, that the wife's determination was not final, because petitioner retained a protective right of reimbursement, in the nature of a veto power, in the event she expended an insufficient amount on the child and petitioner was obliged to make up the deficiency. Such a right*187 to reimbursement, however, was not present as the facts existed in the tax year, and therefore it could not be said that petitioner had voluntarily forsaken an amount of $ 5,054.98 that was unconditionally available to him. We think it follows that he is taxable under section 22 (a) only upon the sum of $ 1,200.
No contention is made that section 166 applies by virtue of a power to revest corpus in petitioner, and we are therefore left to consider only section 167. The first paragraph of that section, dealing with income that is or may be accumulated, is inapposite, for the entire *996 income of the present trust was currently distributable. Subsection (2) of section 167 (a) reads as follows:
SEC. 167. INCOME FOR BENEFIT OF GRANTOR.
(a) Where any part of the income of a trust --
* * * *
(2) may, in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income, be distributed to the grantor;
* * * *
then such part of the income of the trust shall be included in computing the net income of the grantor.
While the section speaks only of distributions that may be made to the grantor, the Supreme Court *188 has recently held, and upon this case the Commissioner on brief places his entire reliance, that it also covers income that may be distributed in discharge of the grantor's legal obligations. . In other words the Court superimposed upon the language of section 167 (a) (2) the doctrine of Since payment of a debt is the equivalent of actual receipt of the income by the debtor, income which "may" be paid on a grantor's indebtedness is to be regarded as the equivalent of income which "may" be paid to the grantor himself within the meaning of 167 (a) (2).
It is essential, however, in considering section 167 (a) (2) that its limitation be kept in mind. That limitation is that the discretion to distribute to the grantor or in discharge of his obligations must be vested in the grantor or in a person "not having a substantial adverse interest in the disposition of such part of the income." The Supreme Court was careful to point out this limitation, saying:
Among these involved problems of statutory construction, we observe the time-tried admonition of restricting*189 the scope of our decision to the circumstances before us. We are not here appraising the application of Section 167 to cases where a wife is the trustee or beneficiary of the funds which may be used for the family benefit. * * * We are dealing with a trust for minors where the trustees, without any interest adverse to the grantor, have authority to devote so much of the net income as "to them shall seem advisable" to the "education, support and maintenance" of the minor. [Italics added.]
The query in the case at bar, therefore, is whether or not the $ 5,054.98 of income in question could have been used to discharge petitioner's obligation to his minor son in the discretion of petitioner or of a person not having a substantial adverse interest in such disposition of the income. In the Stuart case adversity of interest raised no real question, for the discretion to distribute income or accumulate it for the minor's future benefit was lodged in the trustees. The trustees were the grantor, his wife, and his brother, none of whom had any *997 possible beneficial interest in the trust. Here, strictly speaking, there was no discretion lodged in anyone by the terms of the*190 trust instrument. The income was distributable to the wife "in substantially equal monthly payments." The only exception to this was in the event petitioner should be obliged to pay any obligations incurred by the wife or the children. And even if this occurred there was no discretion placed in the trustee, for the instrument provides that in that event "the trustee shall pay to said Walter L. Ferris" the amount of obligations so paid by him.
We can not escape the conclusion that under such circumstances it was the duty and privilege of the wife, as a practical matter, to determine how much of the income she would use for her own support and how much would be devoted to the minor child. The son was sent to college in the tax year and $ 1,200 of the income received by the wife was used to meet his expenses. This was all that was expended for the son's support and education, and the $ 1,200 so expended was trust income. The petitioner had absolutely no discretion to apply more of the trust income to the welfare of the child. During the tax year petitioner was not required to pay from his own funds debts incurred by or in behalf of the minor for his necessaries. So long as this*191 situation prevailed petitioner had no right to any of the income or to direct that more of it be used for the child, and the wife had a right to retain what she did. She was the beneficiary entitled to retain the income that was not used for the support and education of the children, and certainly no authority need be cited for the proposition that a person entitled to retain income has an interest therein adverse to giving it to another. Petitioner's right of reimbursement gave him no discretion, and the wife, with a very real and adverse interest, might well ignore any request made by him that additional funds be paid for the benefit of the child. Unless and until petitioner should be obliged to pay debts incurred in behalf of the child, he had nothing to say concerning the wife's disposition of the income.
The Commissioner, however, argues that there was a possibility that all of the trust income may have been necessary to adequately support the minor child. His brief reads in part:
Looking at the trust instrument as a whole there can be no doubt but that the minor child would have had a claim for trust income to an extent which was necessary to properly educate, maintain and*192 support him which would have been superior to any claim of the children who had reached their majority. Suppose there had been only $ 1,200.00 income in 1938. The trustee could have, in its discretion, used it all for the support and maintenance of the minor son, Jeffrey Ferris. That such a situation could arise was not improbable and certainly there was always present a possibility that all of the trust income would be used for the support, maintenance and education of children of the petitioners. *998 That possibility of use always existed which, under the decision of the Supreme Court in the Stuart case, supra, is all that is required to make it all taxable to the petitioner.
We have heretofore noted, however, contrary to respondent's suggestion, that the trustee had no discretion in the matter. Furthermore, we are not here concerned with a situation where the income amounted to only $ 1,200. If it did, and all of it was used for the minor, the answer would be simple. But here the income was $ 7,818.72; and $ 1,200, and only that sum, was expended on the son. We do not understand that respondent is contending that $ 1,200 was inadequate to properly maintain the*193 son during the tax year. There is no argument made that because of the father's financial ability a reasonable amount to be expended for a child in the circumstances exceeded the amount that was actually disbursed. Nor does respondent suggest that decision must go against petitioner for failure to prove the negative.
There has been no suggestion from anyone in this case that the son was inadequately supported on $ 1,200. Consequently, we would not feel warranted in deciding this case against petitioner for failure to sustain a burden of proof.
Moreover, in our opinion, an argument that $ 1,200 was inadequate to properly support the child during the tax year, if presented, would be entirely beside the point. The question we have to decide under section 167 is whether the mother had a substantial adverse interest in the controverted income. The fact of inadequacy of the amount used would have no bearing whatever upon that question. What would it matter if petitioner himself had thought, and even testified, that the mother had treated their son with niggardliness? This would only serve to emphasize the mother's adverse interest in the income which she preferred to retain for herself. *194 It is perhaps conceivable that a court, upon application of the child, may have ordered the wife to use a greater sum for his support or education; but that possibility does not remove the wife's adverse interest in the $ 5,054.98 of income that is the subject of the present dispute.
It is to be emphasized that the instant case is one which the Supreme Court expressly declared it was not deciding in the Stuart case, supra. Since, for the foregoing reasons, the wife in the case at bar had a substantial adverse interest, we are of opinion that section 167 and the Stuart case do not apply.
We conclude that $ 5,054.98 of the trust income is not taxable to petitioner. ;
Petitioner and his present wife each deducted $ 866.67 as business expenses, $ 395.37 as losses, and $ 170 as a bad debt. These amounts were *999 disallowed. The parties have stipulated that the community is entitled to deductions of $ 578.02 on account of business expenses and of $ 340 for a bad debt. The loss deductions are waived. Effect will be given to these stipulations*195 in the recomputation.
Decision will be entered under Rule 50.
Disney, J., dissenting: I am unable to agree with the majority opinion. My analysis of the pertinent language of the trust indenture convinces me that Alice Cheney Ferris did not possess the discretion upon which the majority opinion relies to give her an adverse interest. Though it is provided that it was the intent that she should use the trust income for the support and maintenance of herself and children, she was required to save Walter L. Ferris harmless from any obligation for the support of any of them and if she should fail to do so, trustee was required to pay from trust income and to Walter L. Ferris the amount of any obligations which he should be obliged to pay, including those incurred by the children. This in turn includes the minor child. In other words, the trustee had the duty first of all, it seems to me, to see that Walter L. Ferris was saved harmless from any obligation for the support of the children, including the minor child and including any obligations which such minor child might incur. Such obligations, of course, to be binding upon the parent-settlor would have to be those*196 reasonably necessary considering the means and station in life of the parent. The record does not indicate such station in life nor the financial ability of the trustor. The trust income for the taxable year other than 20 percent payable to the petitioner was $ 6,254.98. In my opinion, under Douglas v. Willcuts, 296 U.S. 1">296 U.S. 1, and Helvering v. Stuart, 317 U.S. 154">317 U.S. 154, the entire trust income was taxable to petitioner, in the absence of any showing that his financial position and station in life would not have rendered him liable had the minor child incurred obligations which would have bound him in amounts equal to such trust income. The Stuart case indicates to me that we must consider not merely the amount actually used for the support of the minor child, but any amount which under the trust indenture might have been used for that purpose from trust income, and, observing from the language of the indenture that such trust income was to save the settlor harmless from obligation to support and maintain, among others, a minor child, it appears to me that the trust income, so far as we know from this record, was*197 all subject to such call and therefore taxable to the settlor.
Footnotes
1. Counsel for both parties stated at the hearing that there was no issue here regarding taxation of the trust income to the grantor by reason of the payment of premiums on life insurance policies on the grantor's life. We therefore do not consider the tax effect of such payment or the application of section 167 (a) (3).↩