Oakley v. Commissioner , 24 B.T.A. 1082 ( 1931 )

RICHARD H. OAKLEY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Oakley v. Commissioner

Docket No. 45778.

United States Board of Tax Appeals

24 B.T.A. 1082; 1931 BTA LEXIS 1542;

December 7, 1931, Promulgated

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Held, that a bona fide partnership was created by certain agreements herein and that petitioner is taxable on but one-fourth of the income thereof.

J. D. Peeler, Esq., for the petitioner.

R. W. Wilson, Esq., for the respondent.

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VAN FOSSAN

This proceeding was brought to redetermine deficiencies in the income tax of the petitioner for the years 1923, 1924, 1925, and 1926 in the sums of $2,731.78, $5,763.59, $3,861.51, and $2,429.25, respectively.

The petitioner alleges that the respondent erred in adding to the petitioner's net income for each of the years involved the other partners' share in the net income of a partnership known as the Oakley Paint Manufacturing Company.

FINDINGS OF FACT.

The following facts were stipulated:

On December 31, 1922, the petitioner, Richard H. Oakley, executed an assignment of certain properties to Beatriz Oakley individually, Beatriz Oakley as trustee for Barbara Oakley, a minor, and to Beatriz Oakley, trustee for Jean Oakley, a minor. The said assignment was delivered to and accepted by Beatriz Oakley individually and as trustee on December 31, 1922. On December 31, 1922, Richard H. Oakley and Beatriz Oakley, as grantors, transferred to Beatriz Oakley as trustee for Barbara Oakley, a minor, and Jean Oakley, a minor, certain property. The said trust was accepted by Beatriz Oakley as trustee, on December 31, 1922.

On December 31, 1922, articles of copartnership were entered into by and between Richard H. Oakley, Beatriz Oakley individually, and Beatriz Oakley as trustee for Barbara Oakley and Jean Oakley, minors, under the name of "Oakley Paint Manufacturing Company."

On December 31, 1922, Richard H. Oakley and the Oakley Paint Manufacturing Company, described as a copartnership, entered into a lease agreement covering certain real estate.

Prior to December 31, 1922, the business and assets which were transferred unto the so-called copartnership of the Oakley Paint Manufacturing Company, had been owned and operated by Richard H. Oakley individually, under the name of "Oakley Paint Manufacturing Company."

During the year 1923 and previous years the records and books of the business were very poor and inadequate (being single entry). There was no regular bookkeeper and the records were kept by the stenographers and clerks in the office. No entry was made on the books during the year 1923 setting forth the existence of the alleged partnership, or setting up capital accounts for Beatriz Oakley, individually or as trustee.

Early in January, 1924, Theodore Martin was employed as office-manager. He undertook to set up complete records on the double-entry system, but was unable to complete the work. At his suggestion certified public accountants were employed to make a complete audit of the 1923 operations, and to set up the books correctly on the double-entry system.

The audit report of the accountants, dated February 16, 1924, sets up capital accounts in the balance-sheet as of December 31, 1923, as follows:

R. H. Oakley - Capital Account December 31, 1922 Adjusted	$18,637.48
Add: 1/4 of Net Profits Year Ending December 31, 1923	7,692.57
Total	26,330.05
Less - Withdrawals during year	1,663.94
		$24,666.11
Beatriz Oakley - Capital Account December 31, 1922, Adjusted	$18,637.48
Add: 1/4 of Net Profits Year Ending December 31, 1923	7,692.57
Total	26,330.05
Less - Withdrawals during year	1,663.94
		$24,666.11
Jean Oakley - Capital Account December 31, 1922, Adjusted	18,637.47
Add: 1/4 of Net Profits Year Ending December 31, 1923	7,692.57
Total	26,330.04
Less - Withdrawals during year	1,663.94
		24,666.10
Barbara Oakley - Capital Account December 31, 1922, Adjusted	18,637.48
Add: 1/4 of Net Profits Year Ending December 31, 1923	7,692.56
Total	26,330.04
Less - Withdrawals during year	1,663.94
		24,666.10
Total Capital Accounts		98,664.42

The capital account as of December 31, 1923, totaled $98,664.42, and was set up on January 1, 1924, in the new ledger under the name "R. H. Oakley Capital Account." Subsequently, during the year 1924, as of January 1, 1924, $73,998.31 was debited to the R. H. Oakley Capital Account, and credited to the accounts of Beatriz Oakley, Jean Oakley and Barbara Oakley, in the amounts of $24,666.11, $24,666.10, and $24,666.10, respectively. At all times subsequent thereto, the capital accounts have been carried for Richard H. Oakley, Beatriz Oakley, Jean Oakley, and Barbara Oakley, on the books, and a fourth of the income of the business has been credited to each of said accounts for the year 1924 and all subsequent years.

Under the various agreements set forth above were included 147.69 common shares of Western Avenue Golf Club, an unincorporated association. Said shares were represented by original certificate No. 5, issued to R. H. Oakley, and original certificate No. 17 for 67.69 shares, originally issued to J. M. O'Brien and T. A. Morrisey, trustees, and endorsed by them to Richard H. Oakley on December 31, 1922. Certificate No. 5 was endorsed by Richard H. Oakley, transferring 36.92 shares to Beatriz Oakley, trustee; 6.16 shares to Beatriz Oakley, trustee, and the remainder to R. H. Oakley. Certificate No. 17 was endorsed on December 31, 1922, by Richard H. Oakley, transferring 30.76 shares to Beatriz Oakley, trustee, and 36.92 shares to Beatriz Oakley individually.

New certificates were issued to the various parties by the Western Avenue Golf Club, as follows:

Date	Certificate	Number of	Issued to
	No.	shares
Dec. 31, 1922	128	36.92	Beatriz Oakley, trustee.
Dec. 31, 1922	129	36.92	Beatriz Oakley, trustee.
Dec. 31, 1922	130	36.92	Beatriz Oakley, trustee.
Dec. 31, 1922	131	36.93	R. H. Oakley.

On or about May 8, 1924, said certificates numbered 128, 129, 130 and 131 were sold by the various parties, and the proceeds thereof, $18,461.25, were turned over to the partnership. On May 31, 1924, journal and ledger entries were made, crediting the Richard H. Oakley, Beatriz Oakley, Jean Oakley and Barbara Oakley capital accounts with $4,615.32, $4,615.31, $4,615.31, and $4,615.31, respectively, representing the proceeds of the sale of the Western Avenue Golf Club shares.

On February 17, 1925, Richard H. Oakley, Beatriz Oakley individually, and Beatriz Oakley, trustee, filed with the County Clerk of Los Angeles, State of California, a certificate of doing business under fictitious name.

For each of the calendar years 1923, 1924, 1925, and 1926, a partnership return was filed in the name of the Oakley Paint Manufacturing Company, on Form 1065, setting forth an interest of one-fourth in R. H. Oakley, Beatriz Oakley, Jean Oakley, and Barbara Oakley, respectively. Separate returns were filed by each of the above-named individuals, including thereon one-fourth of the net income of the business for the years 1923, 1924, 1925, and 1926. Upon audit the Commissioner of Internal Revenue refused to approve the partnership return and the returns of Beatriz Oakley, Jean Oakley, and Barbara Oakley, but instead has added as income of Richard H. Oakley, petitioner herein, the entire amount of the net income of the business for each of the years in question, resulting in the entire deficiency set forth in the deficiency letter of August 7, 1929.

We find the following additional facts:

In 1912 the petitioner started the paint manufacturing business in Los Angeles, Calif. He had little experience and but small capital. By his own endeavors and continued hard work he gradually built up a fairly profitable but limited trade. During 1922 he suffered an attack of jaundice, due to overwork. Consequently he became alarmed concerning his family's future in case of his own death or disability. He feared that if the business should be liquidated through the courts the resulting estate would be very meager. Thereupon he consulted his attorney, James M. O'Brien, who suggested, but did not advise, formation of a corporation. The petitioner, unfamiliar with that form of business activity, feared that its initial cost and the expenses of maintaining it would be too great. The petitioner, his wife, Beatriz Oakley, and O'Brien held a number of conferences on the subject and O'Brien outlined and advised the procedure whereby a partnership could be formed in which the petitioner, his wife, and each of their two children would share equally. Thereupon he prepared the requisite documents, but advised the petitioner to delay the execution thereof until the end of the year. The instruments were duly executed on December 31, 1922, in good faith, with no secret understanding inconsistent therewith and wholly in accordance with the request of the petitioner and his wife that O'Brien should effect a legal, binding transfer of the properties to the partnership so constituted.

The assignment dated December 31, 1922, transferred a one-fourth interest in the business and assets of the Oakley Paint Manufacturing Company to the petitioner's wife, Beatriz Oakley, individually, a like interest to her as trustee for Barbara Oakley, their minor child, and a similar interest to her as trustee for Jean Oakley, their minor child. The assignment was irrevocable. It provided that a copartnership should be created by the parties to the end that such business might continue to be conducted with the sole authority vested in the petitioner to manage the business and to bind the co-partnership. It also provided that Beatriz Oakley should have exclusive power and authority over the shares of the minor partners and that, if she should resign her trust, the petitioner might appoint himself or any other person as trustee. The assignment was made as a gift, but was stated therein to have been made in consideration of love and affection.

The trust created by the agreement dated December 31, 1922, was irrevocable by the petitioner, but was terminable by the trustee, Beatriz Oakley, with the consent of the petitioner. The corpus of the trust consisted of 147.69 common shares of Western Avenue Golf Club, a business trust, and also the stock of materials, equipment and all other assets of the business then being conducted under the name of the Oakley Paint Manufacturing Company. The trust property was divided into four equal parts and distributed to the petitioner and to his wife individually and as trustee for each minor child.

The articles of copartnership, dated December 31, 1922, provided that the partners were to engage in the business of manufacturing, buying and selling paints and paint products; that the partnership should continue for five years and thereafter until terminated by any of the partners; that all debts, liabilities, expenses, obligations and losses should be borne equally by the partners; that all gains and profits should be shared equally by the partners, but that distribution of partnership income was to be made only at the sole discretion of the petitioner; and that until such disposition of profit was so made it should remain in the working capital of the partnership. The petitioner was to devote his entire time to the business and to have complete and exclusive charge and control of it. Early in 1923 the petitioner informed certain of his friends concerning the establishment of the partnership and also explained the various transactions to his insurance broker and to his banker.

During the years in question withdrawals for household expenses were made weekly by checks payable to Beatriz Oakley, which were charged to the petitioner's personal account and at the end of each year were adjusted by prorating among all four partners and so entered on the books of the company.

In 1926 the petitioner included in his income-tax return the sum of $12,000 which he reported as salary from the partnership for that year and which was used for household expenses.

The respondent disapproved the partnership returns on the ground that the gifts and the partnership were not bona fide and held the business to be a sole proprietorship.

OPINION.

VAN FOSSAN: The sole issue in this proceeding is whether or not the individual business of the petitioner theretofore conducted under the name of Oakley Paint Manufacturing Company was properly and legally transformed into a partnership through the various documents executed by the petitioner and his wife on December 31, 1922.

The respondent's counsel contends that unless the petitioner made a valid gift of a portion of his property on that date he was still the owner thereof and taxable with the income derived from it. He cites the rule laid down in , in which we said:

To constitute a gift in contemplation of law, there must be(1) an intention on the part of the donor to give - that is, to surrender complete control and dominion over the property to the donee; (2) there must be an acceptance of the gift by the donee; and (3) there must be a transfer of title accompanied by delivery of the property.

And asserts that the first and third elements are lacking in the case at bar. We do not agree with this contention. Apparently the respondent confuses an interest in the going business of the Oakley Paint Manufacturing Company with the business itself and the assets thereof. By the assignment of December 31, 1922, the petitioner completely divested himself of all interest in and ownership of three-fourths of the enterprise known as the Oakley Paint Manufacturing Company and on the same day he transferred three-fourths of the common shares of the Western Avenue Golf Club held by him. The petitioner, his wife, and his attorney were fully aware that the petitioner so disposed of such interests. There were no reservations or secret agreements of any kind - nothing that would impute bad faith to the transaction. The intention and purpose of the petitioner to give to his wife individually and as trustee for their minor children the three-fourths interest in the paint business were clearly shown by the evidence. The concurrent assignment and transfer of the Western Avenue Golf Club certificates of interest (also known as common shares) were wholly consistent with that intent. The reason for making such a disposition of the petitioner's property was fully explained and appears sound. The method and means of accomplishing the desired result were entrusted to the petitioner's attorney. The subsequent acts of the petitioner, the adjustment of partnership books, the annual audit by outside accountants, the crediting of one-fourth of the income and the debiting of one-fourth of the withdrawals to each partner's account, unequivocally support this conclusion. .

It is conceded by the respondent that the donee accepted the gift.

The assignment and trust agreement definitely and completely transferred the title to the property of the petitioner, namely, the paint business carried on by the Oakley Paint Manufacturing Company and 147.69 shares of the Western Avenue Golf Club, and divested him of all control and dominion thereof. Certificates of interest in the Western Avenue Golf Club were issued to Beatriz Oakley, individually and as trustee, and hence the title thereto, accompanied by the delivery of the certificates, passed to her. Under the trust agreement the petitioner received 36.93 shares of the Western Avenue Golf Club and a one-fourth interest in the assets of the paint company. The delivery of the transferred interests in the paint business was accomplished by the instrument of assignment duly executed. Thus the requirements set forth in the Marshall case have been fully met.

The establishment of the trust and the formation of the partnership followed the assignment as sequential steps in the plan devised by the petitioner's attorney. We do not question the fact that the partnership agreement properly created a partnership composed of the petitioner, Beatriz Oakley, individually, and Beatriz Oakley as trustee for Barbara and Jean Oakley. We have held repeatedly that a husband may constitute his wife his partner by giving her an interest in the business. ; , and cases there cited; .

The respondent has based his denial of partnership status on his determination that the gifts and partnership were not bona fide and that hence he regarded the business as a sole proprietorship. We find in the record no evidence or suspicion of bad faith. The respondent's counsel claims that the control and dominion of the petitioner's business were as much his after as before the execution of the several instruments on December 31, 1922, and therefore the assignment did not represent a true gift. The provision of the assignment granting the petitioner the sole authority to conduct the business was contingent upon the formation of the partnership. The articles of copartnership contained a similar but amplified provision. Thus the petitioner's exclusive management of the business must be viewed in relation to the partnership and not to the gift of the interests in the business. Partners may agree to lodge in one partner the sole management of the business or some department thereof. 47 C.J. 831. In , we held:

Government counsel points emphatically to the fact that the three daughters were not able to withdraw their shares of the profits without restraint and that the father retained control over such withdrawals. From this he argues, untenably we believe, that the daughters did not possess a right to require a division of the profits. The right to demand a division of profits and the right to withdraw such profits are not synonymous. Nor is there anything inconsistent with the existence of the partnership relationship in the provision that except for personal needs the profits should remain in the business subject to the discretion delegated to one member. The right to demand an accounting was not foregone by the delegation of such management and control.

The partnership agreement of December 31, 1922, provided that the partners should share equally in profits and losses. The record discloses that from early in 1923 the existence of the partnership was made known to the friends and business associates of the petitioner. See . Hence, we are of the opinion that the petitioner has established that during the years under consideration he was a partner in the business carried on under the name of the Oakley Paint Manufacturing Company and is chargeable with one-fourth of the income thereof.

Judgment will be entered for the petitioner.