*76 Decision will be entered under Rule 50.
Money transferred by decedent to one of his sons as trustee for himself and 9 brothers and sisters with the understanding that it was to be returned to the decedent in exchange for promissory notes payable respectively to each of decedent's 10 children, held, not completed gifts. Consequently the loans represented by 19 of the 20 notes so given and not paid off prior to decedent's death, held not to be indebtedness contracted bona fide and for an adequate and full consideration in money or money's worth so as to be deductible from decedent's gross estate under section 812 (b) (3), Internal Revenue Code. One of such notes having been paid off by decedent during his lifetime and later the daughter to whom the payment was made having loaned decedent $ 3,000 of her own money obtained from other sources in consideration for his note, held, said later note was a bona fide obligation, the amount of which was deductible from decedent's gross estate.
*918 The respondent determined an estate tax liability*78 of $ 14,340.64. The issue presented for decision is whether respondent erred in disallowing deduction from the gross estate, as debts of the decedent, the amount represented by 20 notes executed by the decedent, payable to each of his 10 children, in the amount of $ 3,000 each and interest thereon. One other adjustment in the notice of deficiency was not assigned as error and is not contested by petitioners. The case was presented by a partial stipulation of facts and supplement thereto, and oral and documentary evidence. All facts stipulated are so found and are incorporated herein by this reference.
FINDINGS OF FACT.
John Edward Connell, hereafter referred to as decedent, a resident of San Francisco, California, died in that city on August 21, 1949. The estate tax return was filed with the collector of internal revenue at San Francisco on April 20, 1950.
Decedent was 71 years of age at the time of his death and was survived by 10 children. Petitioners herein are 3 of those children; viz., Alma C. Gaffney, Frank E. Connell, and J. Emmett Connell, all residents of San Francisco. They are executrix and executors, respectively, of decedent's last will and testament.
Decedent *79 retired from business in 1928 and during the years in question was not engaged in any business.
In 1944 decedent possessed several parcels of real estate situated in San Francisco which were encumbered by mortgages. He sold one of the parcels of real estate and apparently used a part of the proceeds in the transactions involved herein.
Thus, a check in the amount of $ 30,733.35 payable to decedent was drawn by the California Pacific Title Co. on the Clay-Montgomery Branch of the Bank of America. Of the proceeds of that check, $ 1,000 was deposited by decedent in his commercial account in the Castro-Market Branch of the Bank of America. The balance of $ 29,733.35 was, on December 29, 1944, transferred by decedent to his *919 son, petitioner J. Emmett Connell, hereafter referred to as the trustee, as trustee for himself, his brothers, and sisters. It was deposited December 30, 1944, in a savings account in the name of "J. Emmett Connell, Trustee" in the Polk-VanNess Branch of the Bank of America, hereinafter referred to as the savings account. The transfer from the decedent to the trustee was made on condition that the money would be kept intact and would be returned to decedent*80 in exchange for notes to be executed by him.
On January 6, 1945, the money was returned to the decedent pursuant to this plan, and at that time decedent executed 10 promissory notes in the amount of $ 3,000 each, with interest at 5 per cent per annum. Thus, on January 6, 1945, $ 29,700 was withdrawn from the savings account and used by the trustee to purchase a cashier's check payable to the decedent who deposited it in the Castro-Market Branch of the Bank of America on that same day.
On January 11, 1945, decedent transferred $ 29,850 to the trustee on the same conditions and with the same understanding that it would be returned to the father in exchange for notes. Thus, the savings account on January 11, 1945, shows a deposit of $ 29,850 made by the trustee in currency, the proceeds of a check in the amount of $ 29,700 drawn by decedent on January 10, 1945, on his account at the Castro-Market Branch of the Bank of America, plus an additional $ 150 from an unknown source.
On or about this time the money was returned to the decedent, and he executed 10 more notes for $ 3,000 each, 1 in favor of each of his 10 children. Thus, on January 13, 1945, $ 29,750 was withdrawn from the savings*81 account by the trustee to purchase a cashier's check payable to the decedent, and this check was used by decedent on January 13, 1945, in making payment of $ 30,000 on his indebtedness to the Hibernia Savings and Loan Society, which held a mortgage on some of his property in San Francisco.
Decedent had been making regular payments of principal and interest on that loan prior to liquidation. Thus he made, inter alia, the following payments:
| Jan. 1, 1944 | $ 7,000 |
| Jan. 13, 1945 | 30,000 |
| May 10, 1945 | 5,000 |
| Jan. 18, 1946 | 25,000 |
The notes were held by J. Emmett Connell as trustee. All 20 notes were put into a safe-deposit box in the trustee's name. On 2 notes, 1 in the name of Alma Connell and 1 in the name of Donald Connell, the trustee noted thereon payments designated as "interest." None of the other notes bear any indorsements indicating payment of interest thereon. One note in Alma Connell's name was paid off in *920 decedent's lifetime and one note in Donald Connell's name was paid off subsequent to decedent's death; otherwise, no payments were ever made on principal, and the notes continued to remain unpaid.
Thus, on January 23, 1946, decedent paid one $ 3,000*82 note in the name of his daughter, Alma Connell. On or about July 18, 1946, Alma drew a check against her own bank account for $ 3,000 and gave it to her father in return for his note for $ 3,000 bearing interest at 5 per cent per annum. 1 This note is one of those in issue in this proceeding. Immediately prior to this transaction, Alma had deposited approximately $ 3,200 in her account. The funds were derived from the sale of stocks and bonds owned by her in the approximate amount of $ 1,795, and $ 1,439 was derived from her retirement fund upon her resignation as an employee of the city of San Francisco.
Decedent intended, by the transaction set forth above, to get rid of the mortgage, to help his children financially, and to get an income tax reduction for the alleged interest payments which would not otherwise be deductible since none of the children were dependents during the periods concerned. Thus, in a letter written by the trustee to the Internal Revenue Agent *83 in Charge, San Francisco, California, on November 25, 1950, it was stated:
Estate of J. E. Connell, deceased, August 21, 1949.
Dear Sir: A short time after the death of one of my Dad's partners, in two sizeable apartment house deals, he told me he felt he had serious problems.
He had a mortgage of approximately $ 80,000.00 on Market Street, $ 100,000.00 on one apartment house and $ 65,000.00 on the other apartment house. It also appeared to him that the heirs of his deceased partner were going to have trouble. In addition to this the other partner was in very poor health. The question what to do was bothering him. Also he had long been planning to help his children in some financial way as the increased cost of goods and living was causing some of them a very difficult time. He said that he had just concluded to sell the apartment houses and first rid himself of the burden of those mortgages, then take the remaining proceeds and give it equally to his children.
The problem of how best to put his program in actual operation was evident. Dad still needed money to finance his mortgage. If he gave money directly to the children he would be obliged to allow the mortgage to *84 remain on Market Street property and pay interest thereon. If he paid the mortgage to the bank he would, to accomplish his purpose, have to give the children undivided interests in the Market Street Property. Neither of these possible plans seemed practical because there were ten children. However, it was obvious to Dad that something should be done; his income taxes were becoming an increasing burden to him and inflation was becoming a real problem to some of the children. It would accomplish nothing for him to give the children money from time to time to meet increased living costs because they were not dependents under the income tax law and the payments would not decrease Dad's taxable income.
In December 1944, after the sale of the second apartment house, Dad transferred approximately $ 3,000.00 in cash to each of the ten children. This was done *921 thru a trustee. In January 1945 Dad borrowed $ 3,000.00 from each of the ten children and made another transfer of cash to each of the ten children. This last transfer was likewise borrowed back from the children. In this way Dad was in a position to pay off the mortgage, pay the interest to the children and at the same*85 time get an income tax deduction.
* * * *
Payments by checks signed by the decedent were made to the children as follows: $ 150 to each child on December 15, 1945; $ 225 to each on June 11, 1946; and $ 150 to 9 of the children on December 7, 1946. One of the children, Alma C. Gaffney, received a check for $ 75 on the latter date. These checks were not paid through J. Emmett Connell as trustee but were personally delivered to each of decedent's children by the decedent after he had called the family together in his home. Some of the children had no knowledge of the existence of the notes but were told that the checks were returns on an investment decedent had made for them. There was no descriptive matter on the checks to show the purpose of their issuance.
Decedent did not file Federal gift tax returns in either of the years 1944 or 1945. Within 15 months after the death of the decedent, the petitioners herein filed with the collector of internal revenue of the first district of California an estate tax return showing a tax liability of $ 1,931.18. Included among the deductions claimed by the executors under the head of "Schedule K -- Debts of Decedent" were the amounts represented*86 by the notes involved herein, described as follows:
| Ten notes dated Jan. 6, 1945, for $ 3,000, each due to each of | |
| the persons named on page two | $ 30,000 |
| Interest at 5 per cent to Aug. 21, 1949 | 998 |
| Nine notes dated Jan. 11, 1945, and one note dated July 1, 1946, | |
| for $ 3,000, each due to each of the persons named on page two | 30,000 |
| Interest to Aug. 21, 1949 | 809 |
OPINION.
Respondent disallowed deduction of the alleged debts of decedent (and interest thereon) represented by the notes in issue, explaining, "the liability was not contracted bona fide and for an adequate and full consideration in money or money's worth" and "that the transaction which brought into existence the notes here claimed as a deduction was a transfer within the meaning of section 811 (c) of the Internal Revenue Code."
The respondent on brief makes no argument with respect to section 811 (c), and it is our opinion that the matter may be disposed of without reference thereto.
The question thus to be decided is whether or not the alleged debts were contracted bona fide and for full consideration in money or *922 money's worth. Sec. 812(b)(3), I. R. C.; 2 Regs. 105, secs. 81.29 and 81.36. *87 If there was not a gift of money to the trustee in each transaction, petitioners concede there was at most a gift of the notes without consideration and therefore no deduction can be allowed. Lang's Estate v. Commissioner, 97 F. 2d 867; cf. Preston v. Commissioner (C. A. 2), 132 F.2d 763">132 F. 2d 763; Johnson v. Commissioner, infra. If there were gifts of the money made, there was consideration for the notes, and the notes were deductible.
*88 We must examine the acts of the alleged donor to determine whether there was a bona fide gift to the trustee in each instance. If the decedent did not have a clear and unmistakable intention to divest himself of the title, dominion, and control of the funds, he failed to make such delivery of the subject matter of the gift as is required by the law for a gift in praesenti. Guaranty Trust Co., 35 B. T. A. 916, affd. 98 F.2d 62">98 F. 2d 62. Under the law of the State of California, the essential elements of a gift inter vivos are an intention to make a donation then and there and an actual or constructive delivery at the same time of a nature sufficient to divest the giver of all dominion and control and invest the recipient therewith. Castelhun v. San Francisco Savings & Loan Society, 56 Cal. App. 220">56 Cal. App. 220, 205 P. 65">205 P. 65; In re Hall's Estate, 154 Cal. 527">154 Cal. 527, 98 P. 269">98 P. 269. The necessity for delivery of the thing given with intention to vest in the donee control over it is pointed out in Union Mutual Life Insurance Co. v. Broderick, 196 Cal. 497">196 Cal. 497, 238 P. 1034">238 P. 1034:*89
Furthermore, in determining the question of the validity of a gift, the matter of the intent with which the delivery is made is always an important and essential element to be considered. Unless the donor intends to divest himself completely of control and dominion over the property given, the gift is incomplete and ineffectual. * * * [Emphasis added.]
See also Beebe v. Coffin, 153 Cal. 174">153 Cal. 174, 94 P. 766">94 P. 766, wherein it is stated:
But the essential of delivery of the immediate surrender of all dominion and control over the subject of the gift is as absolutely necessary in the one class of gifts as in the other. Falling short of such unconditional delivery, a gift is incomplete. * * * [Emphasis added.]
*923 An obligation to return or repay the thing received is irreconcilably in conflict with the theory of gift. See Townsend v. Sullivan, 3 Cal. App. 115">3 Cal. App. 115, 84 P. 435">84 P. 435.
Upon review of the stipulation and the facts, it is our opinion that the decedent did not make absolute gifts to the trustee. Thus, the parties stipulate that the decedent father imposed as a condition*90 before the transfers to the trustee the requirement that the sums be kept intact and returned to him in exchange for his notes. Cf. Hynes v. White, 47 Cal. App. 549">47 Cal. App. 549, 190 P. 836">190 P. 836. The effect of this condition was to prevent the vesting of title to the moneys in the trustee, for under it the decedent never divested himself completely of control and dominion over the sums transferred. Cf. Noe v. Card, 14 Cal. 576">14 Cal. 576 (1860); Gould v. Van Horne, 43 Cal. App. 145">43 Cal. App. 145, 187 P. 35">187 P. 35; Hynes v. White, supra; see also 24 Am. Jur. 754.
The facts in this proceeding are similar to those in Guaranty Trust Co. v. Commissioner, (C. A. 2) 98 F. 2d 62, affirming the Board of Tax Appeals, 35 B. T. A. 916; and to Johnson v. Commissioner, (C. A. 2) 86 F.2d 710">86 F. 2d 710, cited and followed in the Guaranty case.
In the Guaranty case the court stated:
The question is whether gifts were completed before the agreements that the moneys *91 should be loaned to Mr. Peterson were made. If such was the case, and full legal and equitable rights in the moneys passed to Mrs. Peterson individually and thereafter to her as trustee of the various trusts, the trust estate furnished "full consideration in money or money's worth" for the notes upon which the claims which the taxpayer seeks to deduct rest, Judson v. Hatch, 171 App. Div. 246, 157 N. Y. S. 182; Matter of Hendricks' Estate, 163 App. Div. 413, 148 N. Y. S. 511; Stewart v. Whittemore, 3 Cal. App. 213">3 Cal. App. 213, 84 P. 841">84 P. 841. On the other hand, if the checks and proceeds reached Mrs. Peterson upon the condition or under the agreement that there should be loans of identical amounts to her husband by the trusts which she was to set up there were not completed gifts but only a circulation of funds from Mr. Peterson, or his banks, to his wife, from her individually to herself as trustee, from her as trustee to him, and from him back to his banks to restore his accounts and wipe out his borrowings in cases where he borrowed in order to carry*92 out the various transactions. If, because the transfers to Mrs. Peterson were conditioned upon loans to her husband, the trusts were not in fact furnishing the moneys, which came only from his own funds, the corpus of each trust would consist wholly of a note of Peterson that was no more than an unenforceable gratuitous "promise to make a gift," based upon neither money nor money's worth. Johnson v. Commissioner, 2 Circ., 86 F. 2d 710, 713; Holmes v. Roper, 141 N.Y. 64">141 N. Y. 64, 36 N.E. 180">36 N. E. 180. American Law Institute, Restatement Trusts, sec. 26. [Emphasis added.]
The Board of Tax Appeals had found that all of the steps were component parts of single transactions and that the entire arrangement was agreed upon in such a way that the funds were to be used in only one way; viz., to set up trusts and then to be returned to the alleged donor. Thus the Board concluded that there was a lack of intention on the part of the petitioner to divest himself of complete dominion *924 over the funds transferred to his wife. They similarly regarded three subsequent transactions. Accordingly, it was held that the notes were not given for*93 full consideration in money or money's worth and the claims based upon them were not deductible under section 303 (a) (1) of the Revenue Act of 1926.
In the Johnson case the court stated:
* * * Everything was done at the same time and as part of one transaction. Not for an instant did Mr. Johnson lose control of his "gift," nor did Mrs. Johnson or the trustee have possession of it free from a duty to return it to him. See In re Schmidlapp's Estate, 236 N.Y. 278">236 N. Y. 278, 285, 140 N.E. 697">140 N. E. 697. To constitute a valid gift inter vivos the donor must have a clear and unequivocal intention to part with his property presently and forever. Snavely v. Henderson, 204 F. 978">204 F. 978, 979 (C. C. A. 8); Gannon v. McGuire, 160 N.Y. 476">160 N. Y. 476, 481, 55 N.E. 7">55 N. E. 7, 73 Am. St. Rep. 694">73 Am. St. Rep. 694. If the donor did not have the intention to part with present interest and control, the gift fails. In re Miller's Estate, 236 N.Y. 290">236 N. Y. 290, 140 N.E. 701">140 N. E. 701. The transaction at bar was no different than if Johnson himself had delivered*94 money to the Trust Company to hold until he should request its return as a "loan." The payment to Johnson of money which he himself supplied to the trustee for the very purpose cannot be a loan to him or furnish consideration for his note. Hence the practical and the legal effect of what was done was to set up a trust composed solely of Johnson's note given without consideration. * * * [Emphasis added.]
In the Johnson case the terms of the trust forbade the assignment of the notes given to the trustee by the alleged donor. In the instant case the notes in question are apparently negotiable. This factor is not determinative of the question before us for, as the court stated in the Johnson case:
* * * Nor could we hold, if in reality there was a loan by the trustee to Mr. Johnson, that it would be invalidated by the restriction in the trust deed forbidding the trustee to assign the note, or to enforce payment without the direction of the settlor. It is inherent in a demand note that the payee has the power to decide when to call the loan, or to determine not to enforce his rights at all. If the payee is a trustee, no reason is apparent why such decisions may not *95 be reserved to the settlor of the trust. So long as any one has the right to compel the borrower to pay upon demand, the debt remains; and the Board made no finding that there was any agreement that Mrs. Johnson should never direct the trustee to enforce payment. Although Mr. Johnson may have had such confidence in his wife's forbearance that he knew the note would not be collected during his life, nevertheless she was left legally free to direct the trustee to collect it. The distinction, though often hard to detect in fact, is perfectly clear in principle between creating rights which you trust will not be exercised and creating no legal rights at all; a transaction of the first kind changes existing legal relations between the parties, the other does not. * * *
The court then pointed to the pertinent and basic consideration; viz., that petitioner's premise was in error, for there was no gift in the first instance and this was the fatal flaw in the taxpayer's argument.
The record, apart from the stipulation, offers no contravening evidence, hence no independent support for the allegation that there was *925 a bona fide gift. It does show that the alleged donees were not, *96 at least in some instances, aware of the existence of the alleged debt as late as 1 year after it was supposed to have come into existence. Thus, at the time decedent personally made the first distribution of the checks in evidence, which checks were unmarked, some of the recipients were under the impression that these checks represented returns on investments decedent had made for them. The letter the trustee wrote respondent, together with the testimony of this same trustee, do establish decedent's primary motivation in setting up the arrangement in question as a means of effecting distributions to his children and securing concurrent reduction of his income tax burden. These motivations, while insufficient in and of themselves to require disallowance, do establish the real purposes of these transactions. Under the circumstances, as the Board stated in the Guaranty case:
The courts and this Board have looked through the forms of transactions to their substance, particularly where an effort to reduce or avoid the payment of taxes is the evident real purpose of the transactions. Such intent was admitted in the Johnson case. We are convinced that such purpose was also*97 present in the mind of decedent here, who held himself out to be a "donor" in transactions which were unreal in view of the means at his command to make a bona fide valid gift at the time without resorting to such complex procedure of creating forms without substance in fact or in law. * * * In the following decisions the separate transactions in a preconceived plan were not regarded as having effected gifts or sales of property; Commissioner v. Dyer, 74 Fed. (2d) 685; S. A. Macqueen Co. v. Commissioner, 67 Fed. (2d) 857; Shoenberg v. Commissioner, 77 Fed. (2d) 446. In Jackson v. Commissioner, 64 Fed. (2d) 359, and the following decisions it was held that attempted gifts and sales were not consummated; J. L. McInerney, 29 B. T. A. 1; affd. McInerney v. Commissioner, 82 Fed. (2d) 665, where it was held there was no bona fide gift. It is noted that all arrangements had been completed in advance and that the transfer of property to a wife was an incident in a plan; Adolph Weil, 31 B. T. A. 899;*98 affd. 82 Fed. (2d) 561; certiorari denied, 299 U.S. 552">299 U.S. 552; Theodore C. Jackson et al., Administrators, 32 B. T. A. 470; Joseph Blumenthal, 30 B. T. A. 125; D. A. Belden, 30 B. T. A. 601; F. Coit Johnson, 33 B. T. A. 1003; affd. Johnson v. Commissioner, supra.
Further, since the parties to the transactions were all members of the same family, the comments of the Supreme Court in Burnet v. Wells, 289 U.S. 670">289 U.S. 670, are pertinent: "The solidarity of the family is to make it possible for the taxpayer to surrender title to another and to keep dominion for himself, or, if not technical dominion, at least the substance of enjoyment." See also F. Coit Johnson, 33 B. T. A. 1003, at 1008.
With respect to the disallowance of an amount represented by 1 note in the name of Alma Connell (and interest accumulated thereon), respondent offers no contentions on brief. Rather he concedes that this note was not part of the arrangements*99 covering the transactions questioned with respect to the other 19 notes. It is stipulated that the *926 face amount of this note, $ 3,000, was lent to decedent and that it was Alma's own money. Under the circumstances, we hold that, with respect to the amount represented by this note, respondent erred in his determination. With respect to the amount represented by the other 19 notes, we hold, under the facts, that respondent did not err in his determination.
Decision will be entered under Rule 50.
Footnotes
1. The note itself is dated July 1, 1946.↩
2. SEC. 812. NET ESTATE.
For the purpose of the tax the value of the net estate shall be determined, in the case of a citizen or resident of the United States by deducting from the value of the gross estate --
* * * *
(b) Expenses, Losses, Indebtedness, and Taxes. -- Such amounts --
* * * *
(3) for claims against the estate, and
* * * *
The deduction herein allowed in the case of claims against the estate, unpaid mortgages, or any indebtedness shall, when founded upon a promise or agreement, be limited to the extent that they were contracted bona fide and for an adequate and full consideration in money or money's worth; * * *↩