*748 For a number of years the petitioner maintained two separate trading accounts with his broker, one designated as the "regular" account and the other as the "special" account. It was agreed that the two accounts were to be considered together for the purpose of determining the amount of margin required of petitioner but in all other respects they were treated separately and the trading in one account had no relation to trading in the other. In the regular account petitioner maintained a long position in General Motors stock and it was understood between him and the broker that none of that stock was to be sold except for the protection of the broker, and then only after notice to the petitioner. From time to time petitioner made short sales of General Motors stock through the special account. On February 7, 1932, the broker, acting upon instructions from petitioner, closed the special account by using General Motors shares held in the regular account for the purpose of covering the short position of the special account. Held, that the gain realized resulted from short sales within the meaning of section 23(s) of the Revenue Act of 1932 and the entire amount of the gain so*749 realized is taxable as ordinary income.
*1367 This proceeding involves a deficiency in income tax in the sum of $18,760.48 for the year 1932. The only issue presented is whether certain sales of securities made by the petitioner through a brokerage firm constitute short sales resulting in ordinary gain or long sales resulting in capital gain.
FINDINGS OF FACT.
The petitioner is an individual citizen residing in Plymouth Hills, Michigan. For the past eight years he has been sales manager for the Hudson Motor Car Co. Prior to that time he held similar positions with the Pontiac Motor Car Co. and the Oakland Motor Car Co.
On September 24, 1937, the petitioner and his wife, Helen G. Tracy, opened a joint trading account with the brokerage firm of Watling, Lerchen & Hayes of Detroit, Michigan. This account was used for purchases and sales of various securities and is hereinafter referred to as the "regular" account. In order to be able to better identify certain shares of stock which he bought and sold*750 the petitioner instructed the brokerage firm on July 24, 1929, to open another joint trading account for himself and wife, which was to be designated as the "special" account. On August 2, 1929, petitioner wrote a letter to the brokerage firm stating that he and his wife guaranteed the special account opened for them and authorized the firm to consider the special account collectively with the general account for marginal purposes.
On May 31, 1929, the regular account showed a debit balance of $177,408.13, representing petitioner's indebtedness to the brokers. On that date he had on deposit in that account the following securities:
500 shares Cloplin Sales Corporation
2,300 shares General Motors common
200 shares Hiram Walker
200 (rights) Hiram Walker
525 shares Hupmobile
1,100 shares Hudson
121 shares New York Central
From May 31, 1929, to February 7, 1932, the regular account reflected flected the following transactions in General Motors common stock:
| Shares of General Motors common stock | |||
| Date | Bought | Sold | Balance on deposit |
| May 1929 | 2,300 | ||
| Nov. 1929 | 3,000 | 5,300 | |
| Feb. 1929 | 2,000 | 3,300 | |
| Apr. 1930 | 5,000 | 8,300 | |
| May 1930 | 4,875 | 13,175 | |
| Oct. 1930 | 9,755 | 22,930 | |
| Dec. 1930 | 2,055 | 20,875 | |
| Sept. 1931 (transfer) | 3,000 | 23,875 | |
| Feb. 7, 1932 | 23,875 | ||
*751 *1368 There were no purchases or sales of General Motors common stock recorded in the regular account between January 1, 1931, and February 7, 1932. The 3,000 share increase in September 1931 resulted from an additional deposit to the account made by the petitioner. On February 7, 1932, the regular account showed a debit balance in the sum of $700,317.61, at which time the following securities were on deposit:
200 shares Allied Chemical & Dye
200 shares Air Reduction
23,875 shares General Motors common
21 shares General Motors 5% preferred
1,015 shares Goldman Sachs PO
600 shares Hiram Walker PO
100 shares Hershey Chocolate
11,200 shares Hudson
1,250 shares Intl. Vitiman PO
100 shares N. Y.Honduras Rossario PO
210 5/40 shares Paramount Publix
On July 31, 1929, the special account showed a credit balance in favor of the petitioner and his wife in the amount of $153,919.61, and a short position of 2,000 shares of General Motors common stock. Purchases and sales of General Motors common stock recorded in the special account from July 1929 to February 7, 1932, are as follows:
| Shares | Position | |||
| Date | Bought | Sold | Long | Short |
| July 31, 1929 | 2,000 | |||
| Oct. 30, 1929 | 2,000 | |||
| Nov. 13, 1930 | 2,000 | 2,000 | ||
| Apr. 23, 1930 | 1,900 | 100 | ||
| May 2, 1930 | 100 | |||
| May 8, 1930 | 2,400 | 2,400 | ||
| May 9, 1930 | 1,000 | 3,400 | ||
| May 20, 1930 | 3,000 | 400 | ||
| June 11, 1930 | 500 | 900 | ||
| June 19, 1930 | 2,000 | 1,100 | ||
| June 30, 1930 | 2,000 | 3,100 | ||
| Oct. 15, 1930 | 200 | 2,900 | ||
| Oct. 17, 1930 | 7,000 | 9,900 | ||
| Jan. 6, 1931 | 900 | 9,000 | ||
| Jan. 7, 1931 | 1,000 | 8,000 | ||
| Feb. 10, 1931 | 1,900 | 9,900 | ||
| Mar. 31, 1931 | 2,000 | 7,900 | ||
| Apr. 22, 1931 | 10,000 | 17,900 | ||
| Apr. 27, 1931 | 2,000 | 15,900 | ||
| Apr. 30, 1931 | 2,000 | 17,900 | ||
| May 1, 1931 | 5,000 | 12,900 | ||
| May 12, 1931 | 5,000 | 17,900 | ||
| May 29, 1931 | 2,000 | 15,900 | ||
| June 1, 1931 | 2,000 | 2,000 | 15,900 | |
| June 8, 1931 | 1,000 | 14,900 | ||
| June 15, 1931 | 500 | 14,400 | ||
| June 25, 1931 | 3,000 | 11,400 | ||
| July 9, 1931 | 5,000 | 16,400 | ||
| Nov. 30, 1931 | 1,000 | 17,400 | ||
| Dec. 1, 1931 | 1,000 | 18,400 | ||
| Dec. 2, 1931 | 1,000 | 19,400 | ||
| Dec. 18, 1931 | 1,000 | 20,400 | ||
| Jan. 5, 1932 | 2,000 | 22,400 | ||
| Feb. 7, 1932 | 22,400 | |||
*752 On February 7, 1932, the special account showed a credit balance of $569,946.66, and a short position of 22,400 shares of General Motors*1369 common stock. All of the sales of General Motors common stock reflected in the special account during the year 1931 are shown on the account as short sales and none of such sales were reported in petitioner's income tax return for that year. On his return for 1931 the petitioner reported the receipt of $73,934.92 as dividends from General Motors stock standing in his name and $12,902.50 as dividends credited to his regular account on General Motors stock which had not been transferred to his name. In computing the net amount of dividends to be reported on his 1931 return petitioner deducted the sum of $43,950 representing a dividend charge to the special account for short sales of General Motors stock.
The securities deposited in the regular account were endorsed in blank or were in such form as to be available for transfer. They were used by the brokers as collateral in obtaining loans. The brokers agreed that they would not sell any of the securities in this account unless it became necessary for their own protection and in*753 that event, as a courtesy to the petitioner, they would notify him before doing so. It was the petitioner's desire to keep all his General Motors stock and to sell as little as was necessary to keep his account in proper condition. During the period between January 1, 1931, and February 7, 1932, he requested the brokers to make all his purchases and sales of General Motors stock for the special account. When such sales were made the brokers would not use the stock on deposit in the regular account to make the deliveries but would use borrowed stock. The shares sold were not identifiable until the sales were covered. The petitioner received monthly statements from the brokers showing the short position in the special account and at all times knew that the brokers had used borrowed stock to effect delivery on all sales of General Motors stock made in the special account.
On February 8, 1932, the petitioner instructed the brokers to close the special account and to transfer the balance to the regular account. On that date the brokers advised the petitioner by letter that the special account had been closed and that they would "make the delivery of 22,400 shares General Motors*754 previously sold in the 'special' account from the shares we have been carrying in your name in the W. R. and Helen Tracy 'regular' account." All of such shares which at that time were in Detroit were taken down out of loans and sent by the brokers to their correspondent in New York to reduce their net position with such correspondent.
The petitioner and his wife filed a joint income tax return for the year 1932 in which they reported the sale of 22,400 shares of General Motors common stock as a sale of capital assets. The respondent determined that such sales were short sales, resulting in ordinary income.
*1370 OPINION.
TURNER: The respondent contends that the sales of General Motors common stock reflected in the special account constituted short sales within the meaning of section 23(s) of the Revenue Act of 1932, 1 and that, as to the 22,400 shares which were delivered in 1932, the gain realized must be considered as gain from sales of stock which were not capital assets. The petitioner contends that all the sales reflected in the special account are long sales and that such sales made prior to 1932, to the extent of 20,400 shares, were closed transactions and*755 not taxable in 1932, and further that the sale of 2,000 shares in January 1932 must be treated as a sale of capital assets.
The facts presented in the case of du , seem to be on all fours with the present case. There the taxpayer, more than two years prior to the taxable year, purchased certain shares of stocks which were left in the possession of his broker and carried in long accounts. Thereafter the taxpayer directed his broker to sell short, and his broker did sell short, the same number of shares of the same stocks as were deposited in his long accounts. The proceeds of the sales were credited by the broker to short accounts*756 of the taxpayer. Subsequently and during the taxable year the broker, acting upon the taxpayer's instructions, transferred from his long accounts to his short accounts the necessary number of shares of stock to cover the short sales. In deciding that such sales constituted short sales, the court said:
It will be observed that both transactions in the case at bar possessed, to a certain degree, a dual nature and reciprocal characteristics. When the petitioner covered the short sales by delivery of the securities held by him in the long accounts he disposed by one step of a long interest and of a short obligation. The price at which the short sales were made did in fact fix the price or value of the stock delivered by him from his long accounts. On the other hand, the sales made by the petitioner were short sales of the type known generally as "hedging sales" or "sales against the box." Such sales are made when the owner of stock desires to avoid the risk of future price fluctuations of stock owned by him. He has shares on hand and available but does not desire to dispose of them immediately for reasons which he deems sufficient. If the stock declines, he can cover at a profit. *757 If the stock increases in value, he can deliver the shares which he owns and avoid loss.
* * *
It is true that the petitioner purchased the stock in his long account for purposes of profit, and to say that the profit realized did not come from his original investment would be untrue. The fact remains, however, that he moulded the *1371 disposition of his long interest into the form and substance of short sales. When the petitioner once ordered his brokers to sell stock short, a covering process of some kind was inescapable. Had he covered the short sales by the purchase of securities upon the open market and had achieved a gain thereby, such a gain would have been the result of a short sale. Had he sold his long interest without relation to a short sale, the net gain, if any, would have been taxable solely under the provisions of Section 101 of the Revenue Act of 1932. But the petitioner has elected to make use of a short sales device to dispose of his long interest. It cannot be said that the sales made by the petitioner were short sales in form and not in substance for they were short sales in fact. * * *
*758 In , we held that where a taxpayer makes short sales of stock and thereafter covers such sales by delivering shares out of a quantity of stock which, on the date of the short sales he had held for more than two years, section 23(s), supra, applies and the entire gain is taxable as ordinary income. In our discussion of short sales in that case we referred to three principal purposes for which the device is generally used in connection with securities, the third of which seems to fit the facts of the present case, and in respect of which we said the following:
* * * In the third class are short sales made for the purpose of "hedging." These are called also "sales against the box." They occur when an owner of stock resorts to a short sale in order to avoid the risk of future price fluctuations. He owns sufficient securities to make delivery, but chooses to make a short sale involving the borrowing of shares for delivery, rather than to sell and make the delivery of the shares which he owns. The owner of a large block of stock, which gives him a measure of control over the affairs of the corporation, may desire to take*759 advantage of the current market price and yet retain his control in the corporation. He can accomplish his purpose by making a short sale. Later, if the stock declines, he can make a covering purchase and realize a profit, or, if the stock advances, he can make delivery of his own stock and lose control, or make a covering purchase and sustain a loss. Hedging is also resorted to by the "odd lot dealers" on the floor of the exchange in order to avoid the risk of owning a large block of stock. It is also adopted by professional speculators who seek to profit by buying in the cheaper and selling in the dearer market, where the same security is listed on two different exchanges. As authority for the statements in this paragraph, see Short Selling (1932) Meeker; The Work of the Stock Exchange (1922) Meeker; Short Selling (1933), Owen Taylor; Short Selling, For and Against (1932), Whitney and Perkins.
In the instant case the petitioner instructed his brokers to make the sales of General Motors stock in question for the special account, and not to sell any of such stock deposited in the regular account without giving him notice before doing so. It was agreed that the General Motors*760 stock deposited in the regular account would not be sold unless it became necessary to do so for the brokers' protection and it apparently never became necessary because the brokers, within the time limits prescribed by the rules of the New York Stock Exchange, covered all sales in the special account with borrowed stock. We think the important point is that when the various sales of General Motors stock were made for the special account it was not contemplated by *1372 either the petitioner or the brokers that a like number of shares of General Motors stock would be withdrawn from the regular account for delivery. The shares sold were unidentifiable at the time of the sale, there being no intention to sell the particular shares on deposit in the regular account. We think these facts bring the transactions in question within the meaning of short sales and on the authority of the cases cited we hold that section 23(s), supra, applies and the entire gain realized from the sales of the 22,400 shares is taxable as ordinary income.
Decision will be entered under Rule 50.
Footnotes
1. SEC. 23. DEDUCTIONS FROM GROSS INCOME.
In computing net income there shall be allowed as deductions:
* * *
(s) SAME - SHORT SALES. - For the purposes of this title, gains or losses (A) from short sales of stocks and bonds, or (B) attributable to privileges or options to buy or sell such stocks and bonds, or (C) from sales or exchanges of such privileges or options, shall be considered as gains or losses from gains or exchanges of stocks or bonds which are not capital assets. ↩