*145 Decisions will be entered under Rule 50.
The husband-petitioner created a trust for the benefit of his minor son and conveyed to it a 42 per cent interest in his business. The settlor was not a trustee. The trustees became a special partner in a partnership in which the settlor and others were general partners for the operation of the business theretofore conducted by the petitioner as a sole proprietorship. One of the trustees insisted on, and received, the trust's distributive share of profits as soon as they were available for distribution.
1. Held, that the trust was a bona fide partner and that its distributive share of partnership profits was not income of the petitioners.
2. Held, further, that the settlor did not have any rights in the trust corpus or income sufficient to make the income of the trust taxable to him and his wife.
*715 The respondent determined deficiencies in income taxes of the petitioners as *146 follows:
| Year | Amount | |
| Petitioner | 1944 | $ 145,292.17 |
| Edward D. Sultan | 1945 | 183,632.00 |
| 1946 | 60,694.17 | |
| Olga L. Sultan | 1946 | 17,091.57 |
The issue to be decided is whether the distributive portion of partnership income payable to, and paid to, a trust created by the settlor and which became a special partner in the operation of a business was income to the settlor. The settlor's wife is involved only because of the community property law of Hawaii which became effective on June 1, 1945.
FINDINGS OF FACT.
The petitioners are, and at all times material to these proceedings were, husband and wife, and residents of the Territory of Hawaii. Their income tax returns were filed with the collector of internal revenue for the district of Hawaii. They have one child, Edward D. Sultan, Jr. (whose name was changed from Edward Dolph Sultan) born December 28, 1927.
Edward D. Sultan, one of the petitioners, and herein usually referred to as the petitioner, has been in the wholesale jewelry or jewelry manufacturing business since he was about 10 years old. In the *716 early part of 1941, he was in the wholesale jewelry business as an individual in Honolulu. That business consisted*147 of dealing in watches, diamonds, silverware, general jewelry lines, and everything associated with a jewelry business.
The petitioner is primarily a salesman. The manager of the business was his brother, Ernest W. Sultan, who received as compensation 25 per cent of the net profits of the business. The petitioner devoted most of his time to selling in the Far East and in the Pacific Islands. Ernest, in addition to managing the office part of the business, made some selling trips prior to 1940. Ernest had no financial interest in the business but was very valuable to it because of his knowledge of the jewelry business.
For some time prior to August 1941, the petitioner had been considering ways of protecting his family in the event of his illness or death, and also of interesting his son in the business. The son, who was 13 years old in 1941, was interested in the study of journalism and not in the jewelry business. The petitioner at that time was almost constantly in the care of doctors. In 1940, while the petitioner was on a trip, his brother Ernest became seriously ill and was away from the office for a few weeks.
Another brother of the petitioner, Gabriel, was a full time*148 salesman of the petitioner's merchandise in California. The petitioner's sister, Marie Hilda Cohen, was in San Francisco, where she and her husband owned a warehouse and they frequently supplied warehouse space for the petitioner's merchandise while it was awaiting shipment to Honolulu. In the early part of 1941, it was difficult to obtain shipping space. The petitioner's sister was a capable business woman.
The petitioner discussed with his brothers and sister possible methods of having his business carried on for the protection of his wife and son and of interesting his son in the business. He also discussed the matter with his wife, with a relative in the United States who was a lawyer, and with counsel in Honolulu. Out of these discussions there was evolved the idea of the creation of a trust and the formation of a partnership. The petitioner knew of one instance in which a jewelry business that was in bad financial shape had been rehabilitated under the management of a trust company. He wanted a trust company as trustee of the trust to be created for his son for the benefit of the advice that it could give and for the management that it could provide in the event that *149 he was not able to carry on the business. He wanted his brothers and sister associated with him in the business for the assistance they could give as they had in the past.
The Bishop Trust Company, Limited, an Hawaiian corporation, conducted a trust company business in the Territory of Hawaii. Its *717 main business was the administration of estates, trusts, guardianships, agency accounts, and it acted as transfer agent, and similar business. In its fiduciary capacity, it often operated businesses in connection with its administration of estates or trusts.
On August 28, 1941, the petitioner Edward D. Sultan created the Edward D. Sultan Trust, naming as trustees Ernest W. Sultan and Bishop Trust Company, Limited. The trust instrument recited the delivery to the trustees of the sum of $ 42,000 by the settlor, to be used to purchase a 42 per cent interest in a partnership known as Edward D. Sultan Co. Income was to be accumulated until the settlor's son, Edward Dolph Sultan, became 21 years of age, but with discretion in the trustees to pay out not more than $ 3,600 per year for the maintenance, support and education of the beneficiary. Beginning at age 21, the beneficiary *150 was to receive $ 300 per month; at age 25 he was to receive a portion of the accumulated income in a lump sum. At the beneficiary's age of 30 years, the trust was to terminate and he was to receive the trust corpus, together with any cash in the estate not in excess of $ 20,000. Any remaining cash was to be used to purchase an annuity for the beneficiary. If the beneficiary died before age 30, corpus and income were to go to the wife of the settlor or, in the event of the happening of specified events, to the settlor's sister and brothers.
The trust instrument gave the trustees the usual powers to hold and manage the trust property, collect the income, and invest and reinvest. The trustees were not restricted to investments of the type that are permitted by law, with provisos that during the lifetime of the settlor the trustees were to obtain the settlor's consent to investments, and upon the settlor's death they were to be restricted to legal trust investments. However, the trustees could in any event make loans or advances to the partnership without liability for resulting losses. The trust was irrevocable. The corporate trustee was given custody of all money and securities*151 in the trust estate. The settlor reserved the right to transfer additional property to the trust. Under the terms of the trust instrument neither the corpus nor income of the trust was ever to be paid to the settlor. The trust was conditioned upon obtaining court approval for the purchase of a 42 per cent interest in Edward D. Sultan Co., and approval of the trustees becoming a special partner therein. If such approval was not obtained within 60 days, the trust indenture was to be null and void.
On August 30, 1941, a partnership was formed under the name of Edward D. Sultan Co. It was a special partnership. The general partners were Edward D. Sultan, Ernest W. Sultan, Marie Hilda Cohen, and Gabriel L. Sultan. The trustees of the Edward D. Sultan trust were a special partner. The initial capital of the partnership *718 was $ 100,000. Contributions of capital and partnership interests were as follows:
| Interest | ||
| Partner | Contribution | (per cent) |
| Edward D. Sultan | $ 46,000 | 46 |
| Ernest W. Sultan | 4,000 | 4 |
| Marie Hilda Cohen | 4,000 | 4 |
| Gabriel L. Sultan | 4,000 | 4 |
| Trustees of Edward D. Sultan Trust | 42,000 | 42 |
The partnership was to acquire the assets and carry on*152 the business theretofore conducted by Edward D. Sultan. The general partners actively engaged in the business were to receive compensation for services rendered in such amounts as the general partners might agree on, and such compensation was to be charged as an expense in computing net profits. As long as Ernest W. Sultan was active in the business, he was to receive 25 per cent of the net profits. The remainder of the profits was to be divided in proportion to the capital contributions of the partners. The provision for Ernest W. Sultan to receive 25 per cent of the net profits was stricken from the agreement by amendment dated June 9, 1942. Profits could be withdrawn at such time as the general partners deemed advisable.
Only the general partners had authority to transact partnership business and incur obligations. The policy of the partnership was to be established by the general partner or partners owning the majority in interest of the capital. No general partner could assign or mortgage his or her interest, but any partner could purchase the interest of any other partner. The special partner could assign its interest with the consent of the general partners.
Proper *153 partnership books of account were to be kept. The books were to be audited periodically and copies of auditors' reports were to be furnished to each partner. Annual accounts were to be taken showing the interest of each partner and copies thereof were to be sent to each.
The partnership could be terminated by a majority in interest of the general partners on 2 months' written notice. Edward D. Sultan had the option to purchase the interest of any deceased general partner or of any partner who gave notice of termination. Such purchase was to be at book value without allowance for good will.
Originally the partnership was to continue until April 30, 1943, and thereafter from year to year until terminated by a general partner on 6 months' notice. By amendment dated February 2, 1945, the term was extended to January 31, 1946, and thereafter from year to year.
By bill of sale dated as of the close of business on August 30, 1941, the petitioner Edward D. Sultan transferred to the partnership all *719 of the rights, property, assets, privileges, and business formerly carried on by him, having a stated value of $ 100,000. He received back demand notes made by him on August 28, 1941, *154 payable to the trustees of the Edward D. Sultan trust in the amount of $ 42,000 and to Ernest W. Sultan, Marie Hilda Cohen, and Gabriel L. Sultan, each in the amount of $ 4,000. He also received a 46 per cent interest in the partnership.
The required certificate of partnership and affidavits were filed and publication was duly made.
On September 5, 1941, the trustees of the Edward D. Sultan trust filed in the First Circuit Court of the Territory of Hawaii a petition to become a special partner in Edward D. Sultan Co., and to invest $ 42,000 in the partnership for a 42 per cent interest therein. On September 9, 1941, the court entered an order in which it instructed, authorized, and directed the trustees to become a special partner in the partnership and to invest $ 42,000 therein.
On or before March 15, 1942, the petitioner Edward D. Sultan filed a gift tax return for the year 1941 in which he reported a gift of $ 42,000 to the Edward D. Sultan trust. The respondent determined that the value of the 42 per cent interest in the partnership was greater than the reported amount of $ 42,000 and that additional gift tax was due in the amount of $ 81.99, which amount the petitioner paid.
*155 Ernest W. Sultan managed the partnership business until he became ill in 1942 and was required to leave the islands. The petitioner at that time took over the management. Ernest recovered quickly and, at the request of the petitioner, he opened a buying office in New York for the partnership and continued in the service of the partnership as a buyer.
The corporate trustee was given annual auditor's statements of the partnership business, and the petitioner gave it oral interim statements. The petitioner discussed business policies with officers of the corporate trustee, and conferred frequently with the other trustee on partnership matters.
The partnership made it a regular practice to pay for merchandise on the day of receipt of the invoice even though delivery to it was delayed, sometimes for months, due to the demand for shipping space and restrictions on shipment by parcel post. This practice, and an expansion of the business following the outbreak of World War II, brought about a need for more capital in the business. In order to provide the needed capital and to improve the partnership's credit rating, the partners agreed in 1942 or 1943 to leave earnings in the amount *156 of $ 100,000 in the business to be used as working capital. This matter was discussed with officers of the corporate trustee.
The petitioner and his brother Ernest W. Sultan received compensation *720 for services rendered to the partnership for the periods and in the amounts as follows:
| Fiscal period | Edward D. Sultan | Ernest W. Sultan |
| Sept. 1, 1941 to Jan. 31, 1942 | $ 6,500.00 | $ 23,000.00 |
| Feb. 1, 1942 to Jan. 31, 1943 | 20,431.13 | 95,169.99 |
| Feb. 1, 1943 to Jan. 31, 1944 | 42,000.00 | 60,000.00 |
| Feb. 1, 1944 to Jan. 31, 1945 | 42,000.00 | 60,000.00 |
| Feb. 1, 1945 to Jan. 31, 1946 | 42,000.00 | 50,000.00 |
| Feb. 1, 1946 to Jan. 31, 1947 | 64,000.00 | 15,000.00 |
During the existence of the special partnership, the trustee was quite insistent on having the special partner's distributive share of profits paid over to it as soon as possible after financial statements were prepared. Payments of the trust's distributive share of the partnership profits were made to the corporate trustee as follows:
| Payments made | |
| June 23, 1942 | $ 24,754.29 |
| March 15, 1943 | 3,000.00 |
| March 23, 1943 | 108,913.64 |
| Oct. 8, 1943 | 2,198.94 |
| March 15, 1944 | 16,640.00 |
| June 14, 1944 | 19,000.00 |
| Sept. 2, 1944 | 21,000.00 |
| Sept. 21, 1944 | 97,457.03 |
| March 12, 1945 | 83,029.40 |
| March 17, 1945 | 50,000.00 |
| March 21, 1945 | 25,000.00 |
| April 6, 1946 | 42,000.00 |
| May 21, 1946 | 99,698.24 |
| Jan. 14, 1949 | 2, 155.75 |
| March 14, 1949 | 10,000.00 |
| April 28, 1949 | 85,357.62 |
*157 In 1948, the partnership business fell off, due partly to increased competition. In January 1949 the petitioner purchased the interests of the three other general partners, namely, Ernest W. Sultan, Marie Hilda Cohen, and Gabriel L. Sultan. A formal bill of sale was executed, wherein the three selling partners agreed to the termination of their interests in the partnership.
In February 1949 the petitioner offered to purchase, and the trustees of the Edward D. Sultan trust agreed to sell, the trust's interest in the partnership. The price agreed upon, in an exchange of letters, was a sum equivalent to the capital investment of the trust in the partnership, plus the amount of the unpaid profits accumulated to January 31, 1949. At that time, the beneficiary of the trust, Edward D. Sultan, Jr., had attained his majority, and had been active in the partnership business during his summer vacations from college.
The officers of the corporate trustee gave thorough consideration to the petitioner's offer before accepting it. They were aware of the need for additional capital in the business and of the possible decrease in the business of the partnership. They decided that it would be*158 to the best interest of the trust to sell its share of the partnership to the petitioner. The cotrustee, Ernest W. Sultan, approved the sale.
The agreement was carried out through the medium of a bill of sale whereby the petitioner and the trustees of the Edward D. Sultan trust, as the "seller", sold the assets and business of the partnership *721 to a new partnership known as Edward D. Sultan Co., in which the partners were the petitioner Edward D. Sultan, the petitioner Olga L. Sultan, and Edward D. Sultan, Jr.
The new partnership started with a capital of $ 250,000. Of this amount, the petitioner Edward D. Sultan contributed $ 127,500, the petitioner Olga L. Sultan contributed from her own funds $ 60,000, and Edward D. Sultan, Jr., contributed $ 62,500. The son, Edward D. Sultan, Jr., obtained the amount of his contribution by way of a loan made to him by the Bishop Trust Company, Limited, from the corpus of the Edward D. Sultan trust. The money was loaned on the note of the son, which note was endorsed by both of the petitioners. As additional security for the loan, Edward D. Sultan, Jr., assigned to the trust company his remainder interest in the trust and his right*159 to monthly payments of $ 300 which began when he reached the age of 21 years.
The petitioner never received from the trust any of its income. During the years involved in these proceedings, the petitioner Edward D. Sultan supported his wife and son from his own income.
At August 28, 1950, the end of the last fiscal year of the trust prior to the hearing of these proceedings, the trustees of the Edward D. Sultan trust held intact the corpus of the trust estate, which consisted of the following items: cash, $ 9,842.58; United States Government bonds, $ 171,872.61; note receivable of Edward D. Sultan, Jr., $ 60,782.14, the total of which amounted to $ 242,497.33.
The Edward D. Sultan trust duly filed Federal fiduciary tax returns each year and paid the tax shown to be due thereon. The partnership, Edward D. Sultan Co., filed its partnership tax returns on an accrual and fiscal year basis ending on the 31st day of January. Its first return was filed on that basis for the fiscal year ended January 31, 1942. Returns on that basis were filed for subsequent years ending January 31, 1943 to 1949, inclusive.
By virtue of the Hawaiian community property law, which became effective as of *160 June 1, 1945, the petitioner Olga L. Sultan was entitled to one-half of all of the income of her husband, the petitioner Edward D. Sultan, from and after that date. The entire deficiency proposed against the petitioner Olga L. Sultan arises by reason of her community property interest in the income of her husband.
The petitioner Edward D. Sultan, Ernest W. Sultan, Marie Hilda Cohen, Gabriel L. Sultan and the Edward D. Sultan trust really and truly intended to join together for the purpose of carrying on the business of Edward D. Sultan Co. and sharing in its profits and losses.
The Edward D. Sultan trust was a bona fide trust created for the benefit of Edward D. Sultan, Jr., and the petitioners did not have any substantial control over, or interest in, the corpus or income thereof.
*722 OPINION.
The principal issue in these proceedings is whether the partnership organized under the name of "Edward D. Sultan Co." is to be recognized as a valid partnership and the income derived from its operations to be treated as the distributive income of the persons who were named in the partnership agreement as partners. The respondent, in his determination of deficiencies, has refused to*161 recognize the trust as a partner and has advised the petitioner Edward D. Sultan that the income received and reported by the trust is taxable to him.
The proceedings have been argued by both sides on two questions: (1) Should the trust be recognized as a bona fide partner; (2) whether the doctrine of the Clifford case * supports taxation of the trust income to the settlor of the trust.
The Partnership Question.
The question of whether a "family partnership is real for income tax purposes depends upon 'whether the partners really and truly intended to join together for the purpose of carrying on the business and sharing in the profits and losses or both. And their intention in this respect is a question of fact * * *.'" . In the Culbertson case, the Court also said that the question of recognition of family partnerships depends upon whether "the parties in *162 good faith and acting with a business purpose intended to join together in the present conduct of the enterprise."
The evidence in these proceedings establishes to our satisfaction that the parties to the original partnership agreement really and truly intended to join together for the purpose of carrying on the business that had theretofore been conducted by Edward D. Sultan as a sole proprietorship. The respondent, in taxing the partnership income to the petitioners, places stress on the control over the business that was in Edward D. Sultan. We had before us a similar situation in the case of . In that case, the taxpayer owned the majority of the shares of a corporation. He transferred some of his shares to four trusts for the benefit of his wife and three children, dissolved the corporation, and continued the business in partnership form, in which partnership the taxpayer was the general partner and the four trusts were limited partners. It was found as a fact in that case that the taxpayer "chose to use trusts rather than transfer the interests directly to his wife and children so that he *723 could retain *163 control over the business * * *." In that case, we had the questions of whether the taxpayer had made completed gifts of the stock and whether the trusts should be recognized as partners in the business of the taxpayer. Both were resolved in favor of the taxpayer. On the essential facts, there is little to distinguish these proceedings from the Stern case. In that case the taxpayer was the trustee of the trusts that he created. Here, we have independent trustees, and there is evidence that the corporate trustee was well aware of its independence and insisted on having distributed to it the portion of partnership earnings to which it was entitled under the partnership agreement. On the matter of control of the business, which remained in the settlor both in the Stern case and in these cases, we said in the Stern case:
He retained entire control in himself but that is of no particular significance since limited partners normally have no part in the control or management of the business.
The above language was quoted with approval in the case of .
We further said in the Stern case*164 that:
A substantial economic change took place in which the petitioner gave up, and the beneficiaries indirectly acquired an interest in, the business. There was real intent to carry on the business as partners. The distributive shares of partnership income belonging to the trust did not benefit the petitioner.
Upon appraisal of all of the evidence in these proceedings, it is our conclusion that the trust created by the petitioner Edward D. Sultan in 1941 should be recognized as a partner in the conduct of the business and that its distributive share of the partnership income was not income of the petitioners. The factual question, as we have said, is one of intention of the parties, and this is to be resolved "from testimony disclosed by their 'agreement, considered as a whole, and by their conduct in execution of its provisions.'" There cannot be any serious question as to the validity of the agreements in this case. Both the trust agreement and the partnership agreement were reduced to writing. The partnership agreement clearly makes the trust a "special partner" which, as we understand it, is the same, *165 in law, as a limited partner in the States in the United States. The conduct of the parties in execution of their agreement establishes the genuineness of their intention to form a partnership. The profits of the business no longer belonged to the petitioner Edward D. Sultan. The special partner had a right to a portion of the profits and it received its portion and paid the taxes due thereon.
*724 Both parties cite numerous cases in support of their positions. The Supreme Court has advised that family partnership cases are essentially factual. As such, previously decided cases are not particularly helpful. But a few may be mentioned for their background facts and as a help in pointing up the reasons for the conclusion we have reached in these proceedings. In most of the cases cited by the respondent, the settlors of the trusts were the trustees and had a substantial degree of control. ; ; . In the case of ,*166 affd. , the assets placed in trust were so heavily burdened with debt that it was obvious that the beneficiaries would receive no benefit from the trust for a long period of time. By way of contrast, in these proceedings the petitioner Edward D. Sultan definitely and irrevocably parted with a substantial portion of his business, and the income produced by that portion was no longer his. That income went to the trust company which was charged with holding and safeguarding the trust moneys and securities.
We conclude, as shown by our findings of fact, that the trust was a bona fide partner and that its income should not be taxed to the petitioners.
The "Clifford" Case.
In the Clifford case, trust income was taxed to the settlor because of the "bundle of rights which he retained." In many succeeding cases, it has been pointed out that some of the basic considerations in that case were the short term of the trust, the fact of the settlor being the trustee, the broad discretion in the settlor-trustee as to the determination of the income to be distributed, and the reversion of the corpus to the settlor. Here, the trust was to endure until*167 the beneficiary who was then 13 years old attained the age of 30 years -- in a period of 17 years. The settlor in these cases was not the trustee. The settlor, Edward D. Sultan, carefully selected others as trustees, and the evidence clearly establishes that the corporate trustee stood firm in its duty of protecting the beneficiary. It was insistent on having actual distribution made as soon as possible. It invested the moneys distributed to it, and at the time of the latest accounting it had a corpus in the amount of $ 242,497.33. In these cases there was no possibility of reversion to the settlor. None of the property or income of the trust estate under the terms of the instrument could ever be paid to the settlor. The factual differences between the trust in these cases and that in the Clifford case are so wide as to obviate the need for any extended discussion. We hold that the decision in the Clifford case has no application to these cases.
*725 Neither party raises the question of whether a trust can be a member of a partnership. Perhaps this is because we have heretofore decided that a trust can be recognized as a partner for tax purposes. ;*168 .
We conclude that the respondent erred in including in the income of the petitioners the distributive share of partnership income of the Edward D. Sultan trust.
Decisions will be entered under Rule 50.
Opper, J., dissenting: By definition the aspect of services has been eliminated in this case from the series of tests described in Culbertson. 1 That is because a limited partner is involved only to the extent of the property committed to the venture. Theodore D. Stern, 15 T. C. 521. But if we are to look only to the property we should, it seems to me, at least be satisfied that the usual attributes of ownership inhere in its putative owner. Cf. Helvering v. Clifford, 309 U.S. 331">309 U.S. 331. Here the trust was compelled to use the alleged gift to acquire an "interest" in the business; had no control of the property; could not sell or dispose of it; could not freely withdraw profits; was confined to its investment in the partnership business; and compelled to retain that investment unless the will of the general partners, including petitioner, permitted*169 otherwise.
As we said in Ralph C. Hitchcock, 12 T. C. 22, 30, 31: "These documents, taken in their entirety, negative any suggestion that the petitioner, as donor, intended to absolutely and irrevocably divest himself of the dominion and control of the subject matter of his purported gifts. * * * This is not a case where the children were at liberty at any time *170 to withdraw or assign their interests in the business or where they possessed an unqualified right to receive their full share of each year's earnings." This can scarcely be termed true ownership and eliminates the only basis on which the trust's participation in the partnership can be justified under the Culbertson tests. We have never gone so far, even in the Stern case, and I think we should not do so now. See Losh v. Commissioner (C. A. 10), 145 F. 2d 456; Feldman v. Commissioner (C. A. 4), 186 F.2d 87">186 F. 2d 87.
Footnotes
*. .↩
1. "* * * The question is * * * whether, considering all the facts -- the agreement, the conduct of the parties in execution of its provisions, their statements, the testimony of disinterested persons, the relationship of the parties, their respective abilities and capital contributions, the actual control of income and the purposes for which it is used, and any other facts throwing light on their true intent -- the parties in good faith and acting with a business purpose intended to join together in the present conduct of the enterprise. * * *" .↩