*2980 1. Conclusion reached in V. J. Bulleit,3 B.T.A. 631">3 B.T.A. 631, to the effect that a transaction, in which the petitioner, along with other stockholders in the Old Dominion Oil Co. paid in certain amounts under an agreement for the acquisition of certain leases and upon the fulfillment of the terms of the agreement received stock which had a greater value than the amount of cash paid in, was a transaction which gave rise to profit, is affirmed, and also the market value of the stock there established.
2. Petitioner, as a member of a committee appointed to liquidate the affairs of a corporation, received from this committee a certain amount in 1920 as his share of the profits from a pipe-line venture to which he was a party. Subsequent to this payment, other stockholders objected to the payment and suits were instituted to settle the controversy, but the amount received was still retained by the petitioner at the time of the hearing in this proceeding. Under an agreement reached between the parties, which at the time of the hearing in this proceeding was awaiting the approval of the court, the greater amount of that received by the petitioner was to be retained by*2981 him. Petitioner reported his income on the receipts and disbursements basis. Commissioner's action in considering the entire amount received as taxable income in 1920 sustained.
3. Statute of limitations held not to have run against the assessment of the deficiencies here in question.
4. The evidence is insufficient to establish the allegations of fraud with respect to the preparation of the returns for 1919 and 1920.
5. Negligence is likewise not established as to the return for 1919, but the evidence is sufficient to justify the imposition of the negligence penalty on account of the omission of certain items in 1920.
*374 This proceeding involves deficiencies in income tax and fraud penalties determined by the Commissioner for 1919, 1920, and 1921 as follows: 1919, deficiency, $9,864.97 and penalty, $4,932.49; 1920, deficiency, $15,983.14 and penalty, $7,991.57; and 1921, deficiency, $74.13 and penalty, $37.07. Respondent, in his answer, conceded that the fraud penalty should not be imposed for 1921. In an amended answer, the respondent*2982 alleged that if the Board should find that fraud had not been established for 1919 and 1920, it should find, in any event, that a penalty for negligence should be imposed for these two years.
FINDINGS OF FACT.
Petitioner is a resident of Louisville, Ky. During 1918, 1919, and 1920, he was a stockholder in the Old Dominion Oil Co. (hereinafter inafter *375 sometimes referred to as the Dominion Company), a Kentucky corporation organized December 31, 1917.
Prior to August 5, 1918, the directors of the Dominion Company had been conducting negotiations for the purchase of certain oil leases owned by the Southwestern Petroleum Co. and the Cliff Petroleum Co. and by August 2, 1918, the negotiations had progressed to the extent that a stockholders' meeting was called by the Dominion Company for August 5, 1918, for the purpose of explaining the proposed transaction to the stockholders. At this meeting the directors described the nature of the properties to be purchased and the benefits which would flow to the stockholders as the result of their acquisition. In addition, the directors stated the consideration which was to be paid for the properties and outlined plans by which*2983 the project might be financed. At the conclusion of the explanation, a resolution was adopted confirming the actions of the directors in these negotiations and authorizing them to complete the negotiations and sign the contract. At the same meeting a further resolution looking to the financing of the transaction was adopted, which read in part as follows:
RESOLVED: That for the benefit of the Old Dominion Oil Company two separate corporations be organized with a capital stock of $100,000.00 each under such names and titles as may hereafter be selected by the Board of Directors, the Executive Committee or officers of said corporation, and that the stockholders of the Old Dominion Oil Company be given the privilege of subscribing to the capital stock of said corporations not in excess of 20% of their present holdings in the Old Dominion Oil Company to each of the said foregoing corporations. That said corporations be conducted until such time as in the wisdom and prudence of the Executive Committee or officers of said Old Dominion Oil Company sufficient payments can be made upon the foregoing contracts with the Southwestern Petroleum Company and others that the property of said*2984 corporations can be deeded to, merged with, or consolidated with the Old Dominion Oil Company and said transfer to the Old Dominion Oil Company of said properties shall be for the consideration of the return to each of the stockholders investing in either or both of the foregoing corporations to be organized, the sum or sums of money invested therein, or its equivalent and a like amount of stock in the Old Dominion Oil Company. And the directors and officers of said corporation, Old Dominion Oil Company, are now and hereby authorized to take such steps, sign such amended articles, affix their signatures to such necessary contracts, papers, leases and assignment of leases as may be required to contract with either or both of the foregoing corporations to be organized, and to transfer all of said property to the Old Dominion Oil Company hereafter when in the judgment of said directors and officers the conditions of said transfer may be made to the benefit of said Old Dominion Oil Company, the purpose being to organize and carry on the foregoing two corporations solely for the use and benefit of the Old Dominion Oil Company, and not otherwise, and to effectually carry out said purposes, *2985 said officers and directors are now and hereby ordered and directed to do any and all necessary and proper things to be done and to sign any and all papers, contracts, leases, transfers of leases and otherwise.
*376 The "two separate corporations" referred to in the foregoing resolution were not organized, but the contract in question for the acquisition of the oil leases was entered into on August 12, 1918, and approved at a meeting of the board of directors of the Dominion Company on August 16, 1918. The contract set out that the consideration to be paid for the leases was $400,000, of which $200,000 was to be paid in cash and $200,000 in the following manner:
One-half of the working interest in the oil produced on said leases and each of them (and by the use of the expression "working interest" is meant the gross production, less the royalty interest or oil reserved by the landowner or other person heretofore interested in the oil and gas or oil and gas rights in said premises) shall be the property of the Petroleum Companies as soon as and when produced, until the sum received from the sale of said one-half of said working interest shall amount to the sum of Two Hundred*2986 Thousand Dollars, ($200,000.00).
At a meeting of the stockholders of the Dominion Company, held on August 17, 1918, the following resolutions were adopted:
RESOLVED: That the contract made by the officers and directors of this Company with the Southwestern Petroleum Company and the Cliff Petroleum Company, as shown by the minutes of the meeting of directors of this company, held August 16, 1918, be and the same is now and hereby in all things, confirmed and ratified, and that the officers and directors be further advised to pay the sum of Thirty Thousand ($30,000.00) to M. C. Clay and W. J. Flesher, and be authorized and directed to accept Six Thousand ($6,000.00) Dollars rebate on some of the cash payments mentioned in said contract by reason of the royalties being somewhat higher than the original negotiations on the M. J. Brandenburg lease of 19.25 acres.
Said resolution so offered was unanimously carried, there being no stockholder voting in the negative, and it was so ordered.
Whereupon the following resolution was offered by Charles W. Schindler, and seconded by Michael Zier, both stockholders of record, and personally in attendance at said stockholders' meeting:
*2987 RESOLVED: That the officers and directors be and they are now and hereby authorized and directed to amend the Articles of Incorporation of the Old Dominion Oil Company, increasing the authorized capital stock from Five Hundred Thousand ($500,000.00) Dollars to Seven Hundred and Fifty ($750,000.00) Thousand Dollars, and that the president and a majority of the Board of Directors be authorized and directed to execute such amended Articles of Incorporation, and record the same and file the same with the Secretary of State of the Commonwealth of Kentucky, in order to effect such increase, and that the officers and directors of said corporation be authorized and directed to do any and all other necessary and proper things to be done and sign all other necessary and proper papers to be signed, in order to effectually carry out this resolution and amend said Articles of Incorporation, increasing the capital stock from Five Hundred Thousand $500,000.00) Dollars to Seven Hundred and Fifty Thousand ($75,000.00) Dollars.
*377 After a full discussion the motion was unanimously carried and the following amended articles of incorporation were presented. [Form of such amended articles*2988 was omitted.]
After which your committee reported, which report was unanimously adopted, that the Old Dominion Oil Company's contract with the Southwestern Petroleum Company and the Cliff Petroleum Company be sold and assigned to and assumed by each of the stockholders of the Old Dominion Oil Company agreeing thereto equally and ratably, in proportion to their present holdings of stock in the Old Dominion Oil Company; and that each agreeing stockholder furnish the necessary sums of money required of him to pay the gross sum of $200,000.00 in cash to the Southwestern Petroleum Company and the Cliff Petroleum Company, as provided in and by the contract of August 12th, 1918.
There being $500,000.00 of outstanding capital stock of the Old Dominion Oil Company, this will require a payment by each of said stockholders of forty per cent of their present holding of stock in the Old Dominion Oil Company.
That when each of said stockholders have paid said sums of money equivalent to forty per cent of their present stockholdings in the Old Dominion Oil Company, aggregating a total of $200,000.00, that they and each of them making such payments be the owners of all of the right, title*2989 and interest in and to the aforesaid contract of August 12th, 1918, in proportion to their said respective payments; and that the officers of the Old Dominion Oil Company be required to and keep a record of all said payments so made by each of its said several stockholders, with a contract running to each of them individually, which likewise shall run to all of them jointly and severally, to pay to them out of the oil-runs from the property purchased in and by the said contract of August 12th, 1918, the full sum of $200,000.00 in cash, without interest, along with and at the times that the $200,000.00 in oil mentioned in said contract of August 12th, 1918, is paid to the Southwestern Petroleum Company and the Cliff Petroleum Company.
That further, when each of said payments have been fully made out of the oil-runs from said properties, namely, $200,000.00 to the Southwestern Petroleum Company and the Cliff Petroleum Company, and $200,000.00 to the stockholders furnishing the aforesaid $200,000.00 in cash, as shown by the books of the company, then that there be immediately purchased from said parties said contract by issuing to each party this company's stock at par value equal*2990 to the amount of money paid by him. That is to say, when the properties purchased by and as the result of the oil-runs under said contract of August 12th, 1918, has paid for itself in full, then and not until then shall stock be issued to each of the parties furnishing aforesaid funds. The consideration being that the furnishing of said $200,000.00 in cash without interest, for the period necessary and proper that may be required to secure all of said money from the production of oil-runs on the property so purchased enables said Old Dominion Oil Company to own the property purchased in and by the contract of the 12th day of August, 1918, without paying for it out of its own resources, and without being at any expenditure whatever on account of the purchase price of the property, or any other sum than the amounts required to drill in and operate said property. It is understood and the sums mentioned herein to be paid are to be produced from said properties out of the net working interest after the payment of all royalties, and that one-half of said net working interest is to go to the Southwestern Petroleum Company and the Cliff Petroleum Company, and the other half of said net*2991 working interest is to be credited and ultimately paid to the parties furnishing the said $200,000.00, as shown by the books of the corporation, and as mentioned herein; and that *378 the stock issue following thereafter is to be paid to the same parties furnishing said funds in the exact proportion to the amount of money so furnished by them.
And further, that when each of said parties so furnishing said $200,000.00 have been fully paid, as mentioned herein, without interest, and stock issued to them, as mentioned herein, and the Southwestern Petroleum Company and the Cliff Petroleum Company have likewise been paid the $200,000.00 mentioned in the contract of August 12th, 1918, then the property is to become the sole and absolute property of the Old Dominion Oil Company, and all the rights, interest and privileges mentioned in the contract of August 12th, 1918, shall automatically revert to and become the absolute property of the said Old Cominion Oil Company.
The plan of financing, referred to in the minutes of August 15, 1918, was not carried out, but subscription blanks were prepared, which showed the names of the proposed companies and were as follows:
We, the undersigned, *2992 hereby subscribe to shares of the capital stock of the Cave Fork Oil Company, a corporation to be organized under the laws of the State of Kentucky, with an authorized capital of $100,000.00, for the use and benefit of the stockholders of the Old Dominion Oil Company, as more fully set forth in the statement from the meetings of the Board of Directors and stockholders. And we hereby subscribe a like amount to the capital stock of the Bald Rock Oil Company, a corporation to be organized under the laws of the State of Kentucky with an authorized capital of $100,000.00 for the same purpose.
We now and hereby attach our check for the sum of $ , and agree to pay on the 1st day of September, 1918, $ , and on the 1st day of October, 1918, $ , with the understanding that when the net amount of $100,000.00 worth of oil has been run by each of said corporations, the sum so subscribed by us is to be repaid to us in cash by the Old Dominion Oil Company and a like amount of the stock of the Old Dominion Oil Company set aside and issued to us at said time without the payment of any other or further sum of money than the payments now and hereby made by us; it being understood and agreed that*2993 this subscription to these separate corporations is made for the profit, use and benefit of each of us as stockholders of the Old Dominion Oil Company, and that this subscription is made in several duplicates, each one of which may be treated as an original, and an exact copy of which is retained by me.
These subscription blanks were signed by substantially all of the stockholders, but in those instances where stockholders did not assume these obligations, they were assumed by other stockholders. The subscriptions were paid and the cash was used by the Dominion Company to pay the amount required in cash on the purchase price of the leases here in question.
The leases were operated by the Dominion Company. The oil was transported through the pipe line of the Cumberland Pipe Line Co., which company delivered one-half to the Southwestern Petroleum Co. and Cliff Petroleum Co. until the payments called for in oil were satisfied. The Dominion Company received the amounts on account of the other half of oil produced. The cash so received by the *379 Dominion Company from this oil production was not accumulated in a separate fund, but was included in the general receipts of*2994 the Dominion Company. No fund was accumulated and set aside for the specific purpose of paying to the stockholders $200,000 on account of this amount of cash so paid by them.
At the time the contract for the acquisition of the leases in question was entered into, the petitioner held 200 shares of stock in the Dominion Company of a par value of $20,000 and paid on account thereof $8,000 in cash (40 per cent of $20,000). As a result, the petitioner became entitled to receive 80 shares of Dominion Company stock under the agreement with respect to the purchase of the leases and otherwise participate in the distribution which was to be made on the fulfillment of this agreement. In October, 1918, petitioner acquired other stock of the Dominion Company from Charles G. Strater on account of which the 40 per cent contribution had not been made, and paid in $1,800 in order to entitle him to participate along with the other stockholders with respect to this stock to the extent of 18 shares. Also, in May, 1919, petitioner acquired from James R. Duffin and others, who had made their 40 per cent contribution, 47 3/5 rights to participate in the distribution upon the fulfillment of the agreement*2995 under which the leases were acquired. The cost of these rights was $17,612. These rights to participate or share in the agreement with respect to the purchase of the leases were recorded separately from stock on the Dominion Company's books and were traded in apart from the stock. As a result of the rights obtained on account of the original contribution and the purchases subsequently made, as indicated above, petitioner had at the termination of the agreement 145 3/5 rights which represented a total cost of $27,412.
The par value of the capital stock of the Dominion Company was $100 per share at the time of the acquisition of the leases and so remained until July 31, 1919, when the par value was changed to $1 per share, 100 shares being issued for each share previously held. At this time, July 31, 1919, a consolidation was effected between the Dominion Company, the Belle Point Oil Co., and the Sinking Springs Oil Co., the stock of the Dominion Company being increased at this time to 5,000,000 shares of a par value of $5,000,000.
On July 31, 1919, there were issued to the petitioner 14,560 shares of stock of the Dominion Company on account of the 145 3/5 rights (changed to*2996 a basis of 14,560 in the reduction of the par value of the stock) to stock under the lease-acquisition agreement and 14,560 shares in lieu of the cash or equivalent which was referred to in the resolution of the stockholders of August 17, 1918, the stockholders electing to take stock instead of cash. The petitioner reported no taxable income on account of this transaction on the ground that the *380 funds furnished, or payments made, were contributions of capital. The respondent contends that a taxable profit resulted to petitioner of the difference between the amount invested and the market value of the stock received.
During 1918 the Dominion Company was considering the construction of a pipe line to some of its oil fields and on October 22. 1918, entered into the following agreement with George H. Schroer:
THIS AGREEMENT made this the 22nd day of October, A.D. 1918, by and between the Old Dominion Oil Company, a corporation duly organized under the laws of the State of Kentucky, first party, and George H. Schroer, of Louisville, County of Jefferson, State of Kentucky, second party. Witnesseth:
That whereas, the first party has a large production of crude petroleum*2997 on Big Sinking Creek, and its tributaries in the Lee CountyKentucky, and elsewhere, and has heretofore purchased and does now own a half interest in the following property with the second party.
Whereas, the second party has leases for the right of way and some equipment for the purpose of building a pipe line from Bell Point, on the L. & N. Railroad, and up and along the meanderings of Contrary Creek to the Big Sinking Oil District, and does not at this time have the money with which to carry on the construction and pay for the material.
Now, therefore, it is now and hereby agreed and understood by and between each of the parties hereunto that for and in consideration of One Hundred ($100,00) Dollars, cash, receipt of which is hereby acknowledged, and other good and valuable consideration, the second party does now and hereby sell, transfer and deliver to the first party all of the leases for said right of way. and all the equipment, as per itemized statement hereunto attached and marked "Exhibit Number One," which he has purchased and paid for, and any and all other interest that he, in any manner, may have in and to said pipe line, and any and all other property, rights, *2998 powers and privileges belonging to him in any manner whatever for the purpose of constructing said pipe line.
First party as a further consideration in the premises herein hereby agrees to build said pipe line in co-operation with the second party from Bell Point to the Big Sinking District, and especially to what is known as the Nannie Bryant, Liberty Bryant, and N. J. Brandenburg leases, and to keep an accurate, careful and correct account of all of the necessary and proper expenditures made in building and constructing said pipe line.
The first party does now and hereby give the second party an option to purchase in his own name and for his own use and benefit a one-half interest in and to said pipe line, pumps, storage tanks, loading stations and sidetracks, and all other matters connected therewith upon the repayment to the first party of the net one-half of the exact sum so expended by it, plus six per cent (6%) interest for the period the money is in use until the first day of February, 1919. Said option is not transferable, or assignable, but is to be held and owned by said second party, his heirs, executors, administrators and assigns, as his own property, and is to*2999 be so continuously held when purchased by said second party. It is clearly the intention of the parties that the one-half interest of the second party is not to be sold, transferred and conveyed to any other, or competing oil company, or any other or competing pipe line. But if it is at any time to be sold, it is to be sold to the first party, upon the exact basis the first party is selling to the second party, viz: actual cost plus six per cent (6%) interest, less any earnings that may have been received by the second party.
*381 That in the event said second party exercises his option, as stated herein, and becomes the owner of a one-half interest in and to said pipe line, the business of said pipe line shall be kept separate and apart in the accounting departments of the Old Dominion Oil Company, so that the net earnings may at all times be properly shown and the first party shall at all times consult with the second party in regard to the prudent business management of said pipe line, and shall jointly make such reasonable, prudent arrangements to purchase, buy and sell or otherwise handle the oil belonging to the Old Dominion Oil Company, or that may hereafter be purchased*3000 by it, and that they can reasonably make a profit upon by purchasing, selling, handling or storing, from other leases, in order to use as much of the capacity of said pipe line as can reasonably and profitably be used. That the manner in which said business may be carried on will depend largely upon competition is said field and the ability of the parties hereunto to furnish the necessary capital, equipment and storage to carry on said business profitably. In any event, if said option be exercised both of the parties herein shall mutually, equally, and ratably, furnish said necessary capital, as may be so required, and shall mutually plan and carry on the business done on and through said pipe lines.
It is distinctly understood that the oil run through said pipe line belonging to the Old Dominion Oil Company shall be charged to that department of accounting at the same rate that other oil of like quality and kind, under similar conditions, is charged to said pipe line, the intention being to make the operation and conduct of said pipe line as a separate department of the Old Dominion Oil Company profitable, and carrying it on as a separate business department for the profit of*3001 the parties hereunto. But nothing herein contained shall require or compel the Old Dominion Oil Company to run its oil in and through said pipe lines if it can do better by delivering its oil to other pipe lines for shipment of other markets.
Financial difficulties arose in securing funds with which to build the pipe line and in order to overcome these difficulties, four directors and stockholders of the Dominion Company, namely, Charles C. Stoll, R. V. Board (petitioner), W. E. Massey, and James R. Duffin, joined with the Dominion Company and Schroer in financing the undertaking.
On January 25, 1919, after the construction of the pipe line had been completed, an agreement was entered into which reads in part as follows:
THIS AGREEMENT, made by and between the Old Dominion Oil Company, a corporation duly organized under the laws of the State of Kentucky, first party, and George Schroer, Charles C. Stoll, Robert V. Board, William E. Massey, and James R. Duffin, second parties, WITNESSETH:
THAT, WHEREAS, the contracts and agreements heretofore entered into by and between the Old Dominion Oil Company and George H. Schroer for the building of a pipe line from the Big Sinking*3002 district to Belle Point, together with its pumping station, storage tanks, loading racks, and side-track facilities, have now been completed and fulfilled, and the entire property costing the sum of $ , as per itemized statement hereunto attached and made a part hereof; and,
*382 WHEREAS, said second parties own a one-half interest therein by the payment of one-half of the foregoing sum to the first party, which payment is now and hereby made in cash, receipt of which is acknowledged hereby, by the first party; and
WHEREAS, it may require some additional sums to make connections, and equip and improve the said pipe line;
It is now and hereby agreed and understood, as follows:
1. That the said foregoing pipe line shall be operated by one in the name of the Old Dominion Oil Company as a separate department of its business, and it shall receive as its own from said department, to be intermingled with all of its other funds and profits, the one-half net earnings of said pipe line. All of the oil purchased from producers in the Big Sinking field, or elsewhere, shall be purchased in the name of and with the funds and credit of the Old Dominion Oil Company, but a separate*3003 account shall be kept of the same in connection with the said pipe line department, in the following manner, to-wit: The first and second parties shall mutually agree upon a general manager for the entire pipe line properties, under whom the entire operations of the pipe line shall be conducted, from the gauging of the oil in the field at the production tanks to the delivery of the oil in the tank cars at Belle Point; and each of the parties hereunto shall mutually agree, under the advice and counsel of said general manager, in regard to the employment of all of the necessary additional labor to properly conduct and carry on said pipe line, and all of said expense shall be paid out of the current earnings of said pipe line department. The oil shall be sold F.O.B. cars Belle Point, Kentucky, sight-draft, bill-of-lading attached, in the name of and under contracts made by and between the purchasers and the Old Dominion Oil Company.
A separate bank account shall be opened in some bank in the City of Louisville under the name "Old Dominion Oil Company, Pipe Line Department," and all of said sight-drafts and bills-of-lading attached, shall be deposited in and credited to said account. *3004 All of the purchases of oil made by the Old Dominion Oil Company shall be paid out of and charged to said account, and a separate set of books shall be kept at Belle Point, Kentucky, showing all of said purchases, and all of said sales. All of the expenditures, of every kind and character in connection with said pipe line department shall likewise be paid out of said account, so that the net profit at any given time shall be represented by the net balance in bank to said account in the name of said pipe line department. Except as it is a half owner therein, the Old Dominion Oil Company shall not be liable for any losses that may be sustained by reason of the operation and conduct of said pipe line department, and shall receive no other profit, or profits, in any manner whatever, except by reason of its said one-half interest therein. The gross profit to said pipe line department shall be primarily represented by the difference in price at which it buys the oil at the production tanks in the field, and the price at which it sells the oil F.O.B. tank cars at Belle Point, Kentucky. From this gross profit shall be paid all of the expenses, and all of the permanent improvements, and*3005 all other expenses, of every kind and character, made for and on account of this pipe line department.
* * *
4. At the end of each and every four months from the date hereof, a full and complete audit and settlement of said pipe line department shall be made, and a full distribution made of the net profits arising therefrom, in accordance with the terms and conditions of this contract. It being understood, however, that said profits shall be divided in the following manner, to-wit: Old Dominion *383 Oil Company 6/12; George H. Schroer 2/12; Charles C. Stoll, Robert V. Board, William E. Massey, and James R. Duffin, 1/12 each.
On August 5, 1920, the Dominion Company sold all of its assets to the Superior Oil Co., and thereafter dissolved. The stockholders in their meeting looking to the dissolution of the company, appointed W. E. Massey, James R. Duffin and the petitioner as a committee to liquidate the Dominion Company, the resolution appointing them reading as follows:
RESOLVED that the contract just read between the Old Dominion Oil Company and the Superior Oil Corporation be and the same is now and hereby accepted, ratified and confirmed, together with the agreement*3006 referred to therein called the pooling agreement with the Atlantic Refining Company, and that the officers and directors of the Old Dominion Oil Company be, and they are now and hereby authorized and directed to affix the signature of the corporation thereunto and to sign all such deeds, leases, conveyances, bills of sale, contracts, assignments, or other papers necessary and proper to be signed to effect said contract and carry out the terms and conditions thereof; and to pass all such motions, resolutions and generally take such action as may be necessary and proper in order to effect said contract and carry out its terms and conditions, we, and each of us now and hereby appoint James R. Duffin, Robert V. Board and William E. Massey, for each of us individually, as our true and lawful attorneys in fact, and do now and hereby authorize them or either of them for us and in our name and stead to sell, assign, transfer and make over all or any part of our individual stock in said Old Dominion Oil Company and to make distribution of the funds or fund or proceeds received therefrom to the just and lawful creditors of said corporations and the duly recorded stockholders thereof, and to*3007 substitute one or more persons with like power, hereby ratifying and confirming all that the Attorney or his substitute or substitutes shall lawfully do by virtue hereof. And further when all of said matters and things have been duly and properly done and performed to take all such steps as are necessary and proper to wind up the affairs of said corporation, Old Dominion Oil Company, as provided by the laws of the State of Kentucky.
The foregoing committee or trustees qualified and proceeded to distribute the funds received from the sale of the Dominion Company properties. In making the distribution in 1920 each of the trustees received $18,130.66 as his share of certain proceeds arising out of the sale of the pipe line, these assets being included in the sale to the Superior Oil Co. Certain stockholders objected to this distribution to the trustees, and suits were brought to settle the controversy, which suits had not been finally settled at the time of the hearing in this proceeding.
During 1920 petitioner was president of the Kentucky Wagon Manufacturing Co. He was paid a salary and, in addition, had an agreement with the company under which he was to receive certain commissions, *3008 based on the net earnings of the company. The Wagon Company kept its books and rendered its returns on the accrual basis. The petitioner kept few, if any, books of account, but rendered his *384 returns on the receipts and disbursements basis. At the close of 1920 the Wagon Company credited to petitioner's account $14,942.64 on account of commissions earned in 1920. These commissions were not paid to the petitioner in 1920, nor were they unqualifiedly subject to his withdrawal in such year.
The petitioner filed his return for 1919 on March 15, 1920, and his return for 1920 on March 15, 1921. A written consent was executed October 20, 1924, which reads as follows:
In pursuance of the provisions of subdivision (d) of Section 250 of the Revenue Act of 1921 R. V. Board of Louisville Ky., and the Commissioner of Internal Revenue, hereby consent to a determination, assessment, and collection of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of the said R. V. Board, for the year 1919 under the Revenue Act of 1921, or under prior income, excess-profits, or war-profits tax Acts, or under Section 38 of the Act*3009 entitled "An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes", approved August 5, 1909. This waiver is in effect from the date it is signed by the taxpayer and will remain in effect for a period of one year after the expiration of the statutory period of limitation, or the statutory period of limitation as extended by any waivers already on file with the Bureau, within which assessments of taxes may be made for the year or years mentioned.
(Signed) ROBERT V. BOARD,
Taxpayer.
D. H. BLAIR,Commissioner.
Attest -
HENRY H. MATHIS,
Internal Revenue Agent.
The deficiency notice for 1919 and 1920 was mailed on December 3, 1925, and the petition was filed on December 24, 1925. The additional tax and penalty here in controversy with respect to 1919 were assessed on March 9, 1926.
During 1919 and 1920 petitioner was president of the Kentucky Wagon Manufacturing Co., a large corporation which employed from 800 to 1,400 persons. At the same time he was president of the Ohio Refining Co. and also a director of the Old Dominion Oil Co., in which latter company he was actively interested. During*3010 the World War, he was a "dollar a year" man, serving as chairman of the committee which had charge of the purchase of horse-drawn vehicles, and also represented the French Government with respect to the purchase of certain war materials in the United States. These governmental activities continued into the years here involved in connection with settling various contracts which the petitioner had been responsible for negotiating during the war period.
During the taxable years petitioner had in his employ Miss May Hare, who had acted as stenographer and secretary to the president of the Kentucky Wagon Manufacturing Co. for approximately twenty years. In her capacity as secretary to the petitioner she was entrusted with his personal files and records and was largely relled *385 upon by him as to the record-details of his various business transactions, both personal and as connected with the Wagon Company. Miss Hare died approximately two years prior to the time when the hearing was held in this case. Petitioner then secured another secretary, who proceeded to make changes in his filing system and, through a misunderstanding as to certain records which might be dispensed*3011 with, the new secretary destroyed practically all records, correspondence, canceled checks, etc., with respect to the years here involved.
The returns for 1919 and 1920 were prepared by Dan Raibourn, assisted by petitioner and Miss Hare. Petitioner had known Raibourn for many years, both as an employee of the Kentucky Wagon Co. and in another corporation with which petitioner and Raibourn were connected. In preparing the returns in question, Raibourn secured the information as to salaries and commissions received from the Kentucky Wagon Co. from that corporation's books, but as to the other items, he relied largely on the information furnished by Miss Hare and petitioner.
In an examination of these returns by a revenue agent, many inaccuracies were found, some of which are not now in controversy, and some being in favor of the petitioner and some against him. Among the items as to which errors were assigned by the Commissioner as a basis for the allegation of negligence were the following:
(a) Profit on various sales of Flesher Petroleum stock in 1919. Reported by petitioner, $3,417.25. Found by respondent, $18,213.23.
(b) Salary, Ohio Refining Company, $5,000. Received*3012 in 1920 or 1921, but not reported as income in either year.
(c) Salary, 1920, Old Dominion Oil Company, $6,000. Not reported.
(d) Profit in 1920 on sale of pipe line. Reported, none. Found by respondent, $18,130.66.
(e) Profit in 1919 on the issue here in controversy as to the acquisition of certain oil leases by the Old Dominion Oil Company and issuance of stock to petitioner on account of payments or contributions made by him. No profit reported by petitioner. Profit now contended for by the respondent, $23,548.
The petitioner also understated the deductions to which he was entitled for 1919 on account of interest and charitable contributions in the respective amounts of $2,798.51 and $200.
OPINION.
LITTLETON: The first issue is whether taxable profit was realized by petitioner, a stockholder of the Old Dominion Oil Co., and, if so, how much, in the transactions in which oil leases were acquired from the Cliff Petroleum Co. and the Southwestern Petroleum Co., under an arrangement in which funds were furnished by stockholders of the Dominion Company for the purchase of the leases and later stock was issued by the Dominion Company to these stockholders on *386 *3013 account of the funds so furnished. This same transaction was before the Board in . On the evidence there presented we held that the transaction amounted to an investment on the part of the stockholders when the funds were furnished or invested for the acquisition of the leases, and that taxable profit arose at the time the stock was issued to the stockholders, the amount of the taxable profit being the difference between the amount invested and the market value of the stock received.
While additional evidence has been presented in this proceeding which we did not have before us in a consideration of the Bulleit case, we fail to find anything which would alter the conclusion there reached. Some confusion exists in the record because of the fact that the original plan of financing the acquisition of the leases contemplated the formation of two corporations and the payments which were made were on the basic of subscriptions which were signed for the capital stock of these proposed corporations. The corporations were not formed, but a revised plan was adopted whereby the stockholders who became parties to the transaction were to receive*3014 stock of the Dominion Company and cash instead of stock of the proposed corporations and cash when the transaction was finally completed. This agreement with respect to the payment of cash to the stockholders was likewise not followed, though the record is not clear as to what supplemental agreement was entered into, if any, other than in the final settlement with the stockholders, the stockholders elected to take stock of the Dominion Company instead of cash in satisfaction of the liability on account of the funds furnished by them. That is, instead of receiving $200,000 in cash from the Dominion Company, the stockholders elected to take stock of the Dominion Company of a par value of $200,000. In addition, they also received Stock of a par value of $200,000 as contemplated in the resolution of the stockholders dated August 17, 1918.
The petitioner objects to the decision in the Bulleit case and urges that this transaction amounted to a contribution to the capital of the Dominion Company by the stockholders on account of which stock was to be issued, and that any attempt to impose a tax on account of this transaction disregards substance, and looks only to the form of what*3015 transpored. The petitioner further contends that the opinion is in error in considering that the stockholders acquired the leases and later sold them to the Dominion Company. The answer to this question presents the usual difficulty of distinguishing between form and substance, and this is peculiarly true in this instance for the reason that deviations were made from the form which the original transaction was supposed to take and these changes were not always reduced to formal agreements, or at least evidence to that effect was not presented. We are in entire accord with the petitioner that *387 in determining whether a particular transaction is subject to income tax, the substance, and not the form, is to be regarded. In fact, in deciding the Bulleit case, we sought to determine the substance of that which transpired, the intention of the parties in entering into the agreements in question and the manner in which these agreements were carried out. When viewed in this light, the logical answer seems to be that the stockholders entered the transaction with the expectation, and with representation made to them which might lead them to believe, that more would be realized*3016 from the venture than was risked therein, and, in fact, it was because we found that more had been realized than had been invested that we said a taxable profit resulted. In return for the payment of $200,000 in cash these stockholders received stock, property which had a value in excess of $200,000. Instead of receiving cash equal to the amount of cash paid in, $200,000, and stock of a par value of $200,000, they elected to take stock of a par value of $400,000. Impliedly, the petitioner says that if cash had been received instead of stock, a taxable profit might have resulted, but that since only stock was received, no taxable profit did result. In support of this position, petitioner cites , which involved a case where, in a plan of reorganization, a cash dividend was declared and the stockholders given the privilege of having the amount of cash to which a stockholder was entitled applied on a subscription to additional stock which was then issued. The court there held that Davison, who elected to have his cash applied on his stock subscription, did not thereby receive taxable income, even though those who received*3017 cash would be taxable. But that if far from being an analogous situation to the one here involved. Here there was no dividend declaration of any kind, nor did all of the stockholders participate in the issuance of stock at the completion of the transaction such as would occur in a dividend declaration, the stockholders who shared in the distribution being only those who became parties to the agreement and paid in their share of the $200,000. While most of the stockholders paid in their pro rata share, in a few instances the obligation was assumed and paid by other stockholders. These payments were made in order to entitle the stockholders to share in the benefits to be derived from the lease-acquisition transaction. This is not the same as the Davison case. Likewise, the dissimilarity between , from which the petitioner quotes at length, and the instant case, is equally apparent.
As to the contention made that the decision in the Bulleit case is in error in considering that the leases were acquired by the stockholders, we deem it a sufficient answer to say that even if we should concede*3018 that title to the leases was not acquired, the stockholders at least *388 acquired valuable contract rights through the payment in of $200,000, upon which they were entitled to realize after certain conditions were fulfilled. The rights were entirely separate and distinct from the stock of the stockholders and were so treated on the books of the Dominion Company. That these rights were bought and sold entirely apart from the stock is evidenced by the fact that the petitioner in this proceeding, in May, 1919, acquired 47 3/5 rights, which entitled him to participate in the benefits which would accrue on the completion of the lease acquisition transaction, but in such purchase he did not subscribe to or acquire stock. These rights which he then acquired were of the same character as those which he acquired at the inception of the lease transaction. It would be idle, therefore, to say that something partaking of the nature of property was not acquired when these payments were made and likewise that there was not a realization upon such investments when the rights were exchanged for stock of the Dominion Company. And, further, it is equally clear that unconditional right to*3019 these leases did not exist in the Dominion Company until after the agreement with the stockholders had been completed by the issuance of stock in satisfaction of the funds furnished on account of the purchase price of the leases. The mere fact that the cash was paid by the stockholders to the Dominion Company, which, in turn, used it to acquire the leases, would not mean that the Dominion Company thereby became the unconditional owners of the leases or that the stockholders did not acquire rights on account of their payments which must be satisfied before the Dominion Company became the unconditional owners of the leases. To follow the petitioner's theory would, in truth, be regarding form and not substance.
This leaves for consideration the question as to the amount of profit realized by the petitioner. His original investment was $8,000. In addition he acquired certain stock on which the 40 per cent obligation had not been met and paid on account thereof $1,800. Also, he purchased 47 3/5 rights for which he paid $17,612. This made a total investment of $27,412. In the Bulleit case we found the fair market value of this stock to be $1.75 at the time of receipt. While*3020 in this proceeding additional evidence was presented as to the value of this stock, such as the sale of rights, sale of stock prior and subsequent to July 31, 1919, the basis used in the consolidation which was effected between the Dominion Company and the Belle Point Oil Co., and other evidence of value, we are of the opinion that the fair market value of $1.75 as determined in the Bulleit case is supported by the evidence, and it is accordingly sustained. This makes a total value for that which was received of $50,960 (29,120 shares at $1.75 per share), or a taxable profit realized on the transaction of $23,548 ($50,960 less $27,412).
*389 The next issue relates to the pipe-line transaction, the substance of which seems to have been as follows: In 1918 the Dominion Company and one Schroer entered into a contract for the construction of a pipe line to certain oil fields of the corporation, but before the agreement was carried out difficulties arose which were met by financial assistance from five of the stockholders of the Dominion Company, one of whom was the petitioner. We do not know the details of the understanding between the parties with respect to this financial*3021 assistance given by these stockholders, but after the pipe line was completed the parties executed an agreement from which it appears that Schroer and the five stockholders are recognized as the owners of a one-half interest in the pipe line. The Dominion Company sold its assets in 1920 to the Superior Oil Co. and included among these assets was the pipe line. The petitioner, along with two other stockholders who were parties to the pipe line transaction, was appointed as a liquidating committee for the Dominion Company. When this committee came to dispose of the funds received on account of the pipe line, they paid to each member of the committee $18,130.66 and a like amount to the other two stockholders who were parties to the transaction. The evidence is not clear what this amount represented, though the respondent treated this amount as profit to the individuals. Also, in the opening statement for the petitioner at the hearing it was stated that the members of the committee "set aside to themselves $18,130.66 for their proportionate part of the profits claimed to have been realized from the sale of the pipe line." Further, the allegation in the petition is that the amount*3022 distributed to these individuals was the amount which they claimed in excess of that which they had contributed. After the payments had been made the other stockholders objected to these payments, and contended that these amounts should be returned to the Dominion Company. On the other hand, the members of the Committee set up a claim of $120,000 for services in connection with the liquidation. Actions were instituted in the courts with respect to the controversies, and these actions were still pending at the time of the hearing, though counsel for petitioner, who likewise represented the members of the committee in the court proceedings, testified that a compromise agreement had been reached, which was awaiting the approval of the court, under which the members of the committee would withdraw their claim for services and also pay to the stockholders some $12,000.
The question is whether this amount of $18,130.66 which was received by the petitioner in 1920 and is still retained by him was properly included by the respondent in petitioner's gross income for 1920. The petitioner contends that there could have been no gain to *390 him on account of the sale of the pipe*3023 line for the reason that the evidence does not show that petitioner ever owned an interest in the pipe line and that an attempt to have him considered as such would be opposed to the statute of frauds. But whether petitioner was acquiring an interest in the pipe line which would require compliance with the statute of frauds we do not find it necessary to determine, since it does not appear to be questioned that he acquired rights of some nature when he assisted in financing the pipe-line venture and that he was entitled to the benefits which flowed therefrom. The substance of the transaction is that petitioner agreed to assist and did assist in the financing of a certain venture, and our question is whether what he received over that which he risked in the venture is taxable income. The evidence does not show what he contributed to the undertaking, or, in fact, that he did more than serve as a coindorser with the other parties on the notes through which funds were secured, but we certainly deem it fair to consider that the amount which is now sought to be taxed and which the committee distributed to the petitioner represented the amount to which the committee considered the petitioner*3024 was entitled as his share of the proceeds of the venture. If the taxpayer realized more out of this venture than he put into it (and we do not understand this to be disputed), it is difficult to conceive that this excess should be exempt from taxation on the grounds stated by the petitioner. Again, substance, and not form, must be our guide.
It is further urged that the amount received by the petitioner should not be taxed in 1920 for the reason that it was paid by the committee in violation of their duties as trustees and that it could only be income to the petitioner when it was finally decided that it unconditionally belonged to him. Again, we find ourselves unable to agree with the petitioner's contention. The petitioner received the amount in question in 1920 and up to the time of this hearing was still retaining it. We must determine income-tax liability on the basis of what occurred rather than on the basis of what might have taken place. . Had the stockholders objected before payment and had payment not been made until the controversy was finally settled, we certainly could not have said that the petitioner, who reported*3025 on the receipts and disbursements basis, should have reported taxable income prior to its receipt. But what happened was that the petitioner received the amount in question in 1920 as representing the profits of a venture to which he was a party and we do not think that the mere fact that the payment has been questioned is sufficient to justify our saying that this was not taxable income when received. The evidence introduced with respect to the agreement for the settlement of the controversy between the trustees and the stockholders, which was awaiting the approval of the court *391 when this hearing was held, would permit the trustees to retain the greater part of that which they had received. Whether adjustment may be necessary on account of the part, if any, which they may be required to return is not before us. Accordingly, the action of the respondent in including the amount of $18,130.66 in taxable income is sustained.
The next issue relates to salaries and commissions of petitioner from the Kentucky Wagon Manufacturing Co. for 1919 and 1920. With respect to the salary or commission item of $7,892.75 for 1919, the petitioner conceded, in his brief filed after*3026 the hearing, that the evidence establishes that the respondent's treatment of this item is correct and, accordingly, abandoned the error assigned on account thereof. As to the item of $14,942.64, commissions earned in 1920 and placed to petitioner's credit at the end of 1920, but neither paid nor made unconditionally available for payment in 1920, we are of the opinion that the respondent was in error in including this item as a part of petitioner's taxable income for 1920.
Evidence was introduced at the hearing as to whether petitioner received a salary of $5,000 for 1920 in 1920 or 1921, the respondent having considered this salary as income for 1920 and the petitioner not having reported it as income in any year, though seeking at the hearing to show that it was not paid until 1921. The petitioner failed to avail himself of the privilege granted to amend his petition to make this properly an issue and in his brief stated that insufficient data was available to make necessary a change in the Commissioner. The Commissioner's action with respect to this point will accordingly not be disturbed.
The error assigned by the petitioner with respect to dividends received by him in*3027 the amount of $6,338.94 from the Old Dominion Oil Co. in 1920, is likewise easily disposed of in that the respondent, in his brief and at the final hearing, conceded that these dividends were nontaxable, and that his action in subjecting them to tax was in error. Prior to this confession of error, the parties entered into the following stipulation:
It is agreed by the parties to this appeal that in the year 1920, in the Commissioner's determination of dividends received from the Old Dominion Oil Company, the amount was understated, through clerical error, in the sum of $1,027.78, and it is also agreed that in the Commissioner's determination of dividends received by the appellant in 1920, from corporations other than the Old Dominion Oil Company, that the dividend amount was understated through clerical error in the amount of $1,216.00.
This agreement will, of course, require no correction with respect to dividends received from the Dominion Company, but appropriate adjustment, consistent with the stipulation, should be made on *392 account of dividends other than those received from the Dominion Company.
The Commissioner also conceded at the hearing that the petitioner*3028 in 1919 had failed to take deductions for interest in the amount of $2,798.51 and for charitable contributions in the amount of $200 to which he was entitled. Correction should be made accordingly.
With respect to the plea of the statute of limitation made by the petitioner for 1919, the petitioner appears to have overlooked the fact that a waiver was filed for 1919 which extended the time for the determination, assessment and collection of taxes for such year until March 15, 1926, and that such waiver was properly introduced in evidence. Since the deficiency notice was mailed on December 3, 1925, the deficiency is not barred by the statute of limitations. As to 1920, the return was filed on March 15, 1921, and the deficiency notice mailed on December 3, 1925, which was within the five years provided by statute for making such determination. The deficievcy for 1920 is accordingly likewise not barred by the statute of limitation.
The last issue relates to the allegation on the part of the Commissioner that the penalty for fraud, or in the alternative, for negligence, should be imposed on account of the preparation of the returns for 1919 and 1920. In his brief the respondent*3029 conceded, and we think properly so, that the evidence is insufficient to establish that the petitioner was actuated by fraudulent intentions in the preparation of these returns. This leaves only the question of negligence for consideration.
With respect to 1919, errors were undoubtedly made in the preparation of the return for this year, but we are unable to say that these occurred on account of negligence. Certainly, for example, in the instance of the profit which we have determined on the lease-acquisition transaction, we can well see how the petitioner might well have omitted this item from his return because he did not consider that taxable profit had arisen therefrom. In the instance of the other major item omitted, profit from the sale of Flesher Petroleum stock, many transactions were involved, and not only had the records pertaining to these transactions been inadvertently destroyed, but also the petitioner's confidential secretary who was relied upon for furnishing information to him and who assisted in the preparation of this return had died some two years prior to the hearing. We are thus left with little more evidence than that less income was reported than should*3030 have been, and the petitioner is at a decided disadvantage in making a complete defense to the increase shown. On the whole, we are not satisfied that negligence has been shown for 1919, and, accordingly, we are of the opinion that no penalty should be imposed on account of the deficiency for such year. As to 1920, we *393 likewise find items, such as the pipe-line venture, which could well have been omitted for reasons similar to those to which we referred in the lease-acquisition transaction, and the evidence supports such a conclusion rather than the allegation of negligence. But such considerations are not applicable in the instances where a salary of $6,000 from the Dominion Company and a salary of $5,000 from the Kentucky Wagon Manufacturing Co. were entirely omitted from the return. Undoubtedly, the petitioner was a very busy man furing this period and necessarily had to delegate many duties to others, but we are not aware that this is a good defense since in the final analysis, the responsibility for filing this return was on the petitioner. We are of the opinion that the failure to report these items is properly chargeable to negligence for which the petitioner*3031 is responsible, and that the 5 per cent penalty for negligence should accordingly be imposed on account thereof.
Judgment will be entered under Rule 50.