Huron River Syndicate v. Commissioner

*859 By this proceeding petitioner challenges the determination of a deficiency in income tax for the year 1936 in the sum of $103.63, with a penalty of $25.91, and a deficiency in excess profits tax for 1936 in the sum of $165.30, with a penalty of $41.33.

The issues are whether petitioner is an association taxable as a corporation; whether delinquent filing of a capital stock tax return was sufficient to eliminate excess profits tax liability; and whether the asserted penalties should be sustained.

FINDINGS OF FACT.

Petitioner, trustee of the so-called Huron River Syndicate, is an individual whose address is 1726 Dime Bank Building, Detroit, Michigan.

In the year 1922 Walter F. Haass and a group of 28 other persons agreed among themselves to purchase certain farmlands, together with certain personal property situated thereon, known as*1263 the Strong farm, located in Berlin Township, Monroe County, Michigan. The purchase was made under date of September 11, 1922, by Walter F. Haass, acting as trustee and taking title in his own name for those interested in the enterprise, who were business associates and relatives. The purchase price for the property was $126,000, which was paid in cash. A total of $130,000 was raised to pay the purchase price, including the unpaid mortgage, and to bear incidental expenses. This amount was contributed by the group interested in the purchase.

The property purchased consisted of farm property located on the Huron River, with certain railroad facilities. A part of the property was adaptable for commercial or industrial use. The property was purchased for resale. It was anticipated that a part of the land would be subdivided and the property sold as small acre-and-a-half farms or for residential purposes and that the remainder of the property located near the railroads would be sold for commercial or industrial purposes.

After the acquisition of the property and on or about September 15, 1922, petitioner executed an instrument in writing in the form *860 of a declaration*1264 of trust, which he had informed the parties would protect them in every way. The instrument referred to petitioner as "trustee" and recited the facts with respect to the acquisition of the property; and that for the purpose of acquiring the property for the purchase price of $126,000, and the "expense of improving, building upon, maintaining, managing, tilling and otherwise caring for" the premises as was deemed desirable by the trustee, the sum of $130,000 had been supplied by the persons therein named, referred to as the "beneficiaries", and in the amounts indicated.

Article I of the instrument provided with reference to the powers and duties of the trustee as follows:

The Trustee has full and complete power to manage, control, incumber, sell and dispose of said premises; which power includes in addition to all others, the following (the enumeration of which shall in no way be construed as excluding other powers not specifically enumerated and set forth) viz:

A. The power to borrow money and give agreements for payment thereof and secure the payment thereof by mortgage of said premises or any part thereof as often as he deems it necessary so to do, to raise money to carry*1265 out the purposes of his trust and to pay any obligations incurred in connection therewith.

B. The power to subdivide and plat the said premises or any part or portion thereof with power to vacate said plats and re-subdivide and in any such subdivision to dedicate lands for street and alleys and public places.

C. Power to sell and convey the said premises or any part thereof and to perform and carry out any existing contracts for sale of any part or parts of said premises, and to contract for the sale of said premises or any part or parts thereof on partial payment and on payment of the purchase price under any such contracts to convey. D. The power to improve the premises or any portion thereof:

By the laying of sewers, water mains, gas mains or other conduits;

By placing and maintaining electric wires;

By constructing streets, bridges and culverts;

By building stores, houses and other structures;

By repairing, altering, building and improving houses, barns, and structures now upon the premises;

By filling and grading the lands or any portion thereof and by draining said lands;

By building docks, bulk-heads; dredging cuts; constructing railroad sidings and*1266 tracks, and in short, causing to be done, any improvements which, to the Trustee shall seem desirable.

E. The Trustee has all the rights and powers in relation to said premises possessed by sole and absolute owner in fee simple thereof, excepting as by the express terms of this declaration excluded, restricted or modified.

F. The Trustee has the duty to manage the premises to the best of his ability for the best interests of said beneficiaries; and in the performance of said duty, he is under obligation to keep proper books of account, which shall be subject to inspection and audit by a Committee of said beneficiaries at any reasonable time or times. It is the duty of the Trustee from time to time to make to the beneficiaries proper report of his doing.

The instrument further provided that the trustee:

* * * whenever he so desires, has authority to and shall whenever a majority in interest of the said beneficiaries shall request him in writing so to do, *861 cause to be formed a corporation, the capital stock therein to be issued to the beneficiaries in proportion to the beneficial interest of each, and assign to said corporation the assets in his hands as Trustee, *1267 on the assumption by said corporation of the liabilites if said Trustee as Trustee; * * * and the said Walter F. Haass, shall if elected and appointed director, President and Manager of said corporation, perform as nearly as may be, the duties which he has undertaken hereunder as Trustee.

The trustee was given the authority to appoint U. Grant Race as his attorney in fact or substitute him or "other suitable person" as trustee and convey the property to him.

With reference to the "Disposition of Profits and Trust Property" article V of the instrument provides:

The proceeds arising out of the operation and management of the premises, shall after paying interest, taxes, expense of management and mainterance, including fees of the said Trustee, expense of improvements and such obligations arising out of the purchase of the premises heretofore or hereafter purchased, as shall become due or shall in the opinion of the Trustee be desirable to pay, and all other proper expenses and obligations arising hereunder, be divided among the beneficiaries in proportion to the contribution by and the interest of each as hereinafter in the within paragraph set forth, and in the sale of the premises, *1268 then after paying the said purchase price, interest, taxes and all other expenses hereinbefore set forth, and including the compensation of the said Trustee, the net profits then remaining and on termination of the said trust, all trust property then remaining, shall be divided between the beneficiaries in proportion to the contributions by and the interest of each, which expressed in fractions is as follows:

[There follows a list of fractional interests of the 29 beneficiaries.]

Article VII defines "interests" as follows:

The interests of the beneficiaries as in the preceding paragraphs set forth, are the actual interests of each as of the date of this Declaration of Trust, and are not interests in the property enumerated and forming the subject of said trust, but are the rights to the performance of said trust and the distribution of the net profits to be derived therefrom and distribution of any trust property remaining on termination of said trust according to the foregoing declaration. Said interest is personal estate and not real estate.

No provision was made in the instrument for the limiting of liability of any beneficiary nor for releasing the liability of any*1269 beneficiary if he should undertake ot dispose of his interest. No provision was made for the issuance of certificates of beneficial interests or other indicia of ownership, nor were any means provided for the transfer of such interests. No provision was made for periodical dividends. No name was given to the enterprise. For purposes of convenience it has been called the Huron River Syndicate. The enterprise had no seal, no officers, no board of directors, no bylaws, no stationery, no books other than a cash book, no minute book, and no capital stock.

All contracts and deeds were entered into in the name of Walter F. Haass, who at all times held title to the property individually, but as trustee of the group.

*862 Pursuant to the terms of the instrument some of the property was subdivided, improved, and sold, and some of it was allowed to remain in the condition in which purchased. No additional lands were purchased, and the trustee had no authority to make reinvestments or further purchases. Of the 500 acres of land originally purchased, from 150 to 200 acres remain rnsold. As property was sold the proceeds were used for payment of fees, commissions for sale, taxes, *1270 and other expenses, the balance being distributed to the "beneficiaries" proportionately to their respective interests.

The trustee consulted with the other "beneficiaries" often. He did not consult with them on every sale he made, not with all of them, nor on routine matters, but some of them discussed most major transactions in detail. He consulted with many of them on general operations and management.

Transfers of beneficial interests were made from time to time.

During all years the parties regarded the enterprise as a joint venture, the income of which was returnable individually by them, and Haass filed information returns (on Form 1099) with respect to the disposition of such income ot the "beneficiaries." This method was followed until 1938, when respondent requested that partnership returns for the joint venture be filed for the years 1935, 1936, and 1937. On examining these returns respondent for the first time treated the joint venture as an association and determined the proposed deficiency.

On October 7, 1940, petitioner tendered to and deposited with the collector of internal revenue at Detroit, Michigan, a 1936 return of capital sotck tax showing a declared*1271 value of capital stock in the amount of $14,000, together with a check for $24.60, being the amount of capital stock taxes and interest shown as due. At the time of the hearing the return and check were being held by the collector pending instructions from Washington. Such capital stock tax return was not demanded or requested by the collector.

Petitioner is an association taxable as a corporation.

The failure to file a corporate return for 1936 was not due to reasonable caise.

OPINION.

OPPER: The primary issue is petitioner's taxability as an association similar to a corporation. ¹ Petitioner contends that this record more nearly resembles , *863 than , relied upon by respondent.

Like all proceedings of this nature, the present controversy must be decided upon its individual facts. We*1272 think these bring it more nearly within the rule of the Del Mar case than of Commissioner v. Gerstle.Three important distinctions from the latter appear to us to require this outcome: First, in the agreement which these individuals made, it is expressly provided that their interests "are not interests in the property" but are rights to "the distribution of the net profits to be derived therefrom and distribution of any trust property remaining on termination", and that this interest "is personal estate and not real estate"; whereas in the Gerstle case, which was held to be a joint venture, "it seems clear that the members were equitable owners of the real property acquired." The latter is, of course, a relationship consistent with a true trust, while the former more nearly resembles the interest of a corporate stockholder. Second, these individuals expressly agreed that if, as was permitted, the enterprise should be transformed into a de jure corporation, the duties which petitioner would then perform as director, president, and manager would be "as nearly as may be the duties which he has undertaken hereunder as trustee"; thus indicating that his relationship*1273 to the participants in the enterprise was to be as nearly as possible comparable to that of the managing officer of a corporation. No such provision appears in the agreement construed in the Gerstle case. Finally, the priginal purpose of the Gerstle syndicates was the purchase and immediate resale of the respective properties and only business reverses were responsible for its modification; while in the present case it was at all times contemplated that the enterprise would engage in subdivision and development, an undertaking similar to that involved in ; so that it is questionable whether the Gerstle ventures were originally intended as the vehicle for carrying on a business. This is a prerequisite to taxability as a corporation, , and in fact the Board found that the Gerstle syndicates "were not organized with the idea of remaining in existence for any substantial length of time or of actively operating in business, as is generally the case when corporations are created," and Judge Denman concurred in the Gerstle opinion in*1274 the express ground that "whatever may be the form of the syndicates, they did not control after the frustration of the plan for immediate resale." For the same reason ; certiorari denied, , also cited by petitioner, is equally inapplicable. For there "the trust instrument shows no plan to carry on a business in buying, selling, leasing or dealing in real estate."

Of the five salient characteristics of an association taxable as a *864 corporation, which , catalogs, three are readily discernible in this proceeding. Title to the property was taken for the benefit of the enterprise by petitioner and provision was made for succession by a trustee or corporation; management and control were centralized in petitioner; and death of the individual participants would not cause any change in the constitution of the venture. Here, as in , "the fourth feature, the transfer of interests without affecting the continuity of the enterprise, was not expressly*1275 provided for, but such transfers actually were made." There were, to be sure, no certificates or other documents evidencing the respective interests. But, as the Supreme Court observed in : "While the faculty of transferring the interests of members without affecting the coutinuity of the enterprise may be deemed to be characteristic, the test of an association is not to be found in the mere form of evidence of interests or in a particular method of transfer." Finally, while there was no express limitation of liability, absence of this single feature is "insufficient to remove the taxpayer from the corporate class." .

It is in the nature of things improbable that such an issue as the present will ever be free from doubt, or that controversies presenting such sharp and simple facts as to leave no room for uncertainty will often find their way into the field of litigated controversy. But we are of the opinion that in the present case the preponderance of all the facts leans appreciably in favor of respondent; that they are distinguishable from those in *1276 , for the reasons above set forth and on grounds similar to those thought to be sufficient for the same distinction in the Del Mar case; and that on this issue respondent's action was correct.

The second question, petitioner's right to obtain the benefit of a capital stock tax return filed out of time, is conceded by respondent to have been disposed of contrary to his contention by , and On this issue petitioner is accordingly to be sustained.

Finally, petitioner contests the imposition of penalties for failure to file corporate returns. The question under the Revenue Act of 1936, section 291, ² is whether there was reasonable cause for the failure. We should be more easily persuaded of the justification for the omission to file corporate returns if there had been a voluntary filing of the documents proper on any permissible theory. Cf. . But petitioner never filed fiduciary returns, which would have been appropriate on the assumption*1277 that there was a true trust, nor partnership returns, called for in a joint venture, except for the three latest years and then only when the respondent so demanded. The trustee testified to his familiarity with the provision of law requiring the filing of association returns, which is the same section ³ as that classifying joint ventures as partnerships and trustees as fiduciaries; and see, e.g., Revenue Act of 1932, sections 189, 142. If the reasonable cause for failure to file corporate returns was the assumption that petitioner was not an association taxable as a corporation, that fails to explain the apparent indifference to the filing of the returns which would have been necessary under petitioner's own theory. Information returns, the only ones regularly and voluntarily filed, would fail to supply respondent with that factual material to which he was entitled, even upon petitioner's assumptions. Cf. The record lacks the slightest effort to explain the consistent failure to file any returns of income whatever. We are not convinced that petitioner has sustained its burden of proving that failure to file the*1278 returns required was due to "reasonable cause." See . Respondent's imposition of the delinquency penalty is approved.

Decision will be entered under Rule 50.