Hallahan v. Commissioner , 14 B.T.A. 584 ( 1928 )

STEPHEN J. HALLAHAN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

ARTHUR K. POPE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

FRANCIS S. SNOW, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

HOLTEN B. PERKINS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Hallahan v. Commissioner

Docket Nos. 6848-6851.

United States Board of Tax Appeals

14 B.T.A. 584; 1928 BTA LEXIS 2953;

December 6, 1928, Promulgated

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1. PARTNERSHIP - PROFITS DISTRIBUTIVE TO NONPARTNERS. - Two members of a partnership of four died. Thereupon a new partnership was organized by the two remaining, together with three new parties. By the new articles of partnership it was agreed that the estates of the deceased members of the former partnership would be paid a fixed percentage of the profits of the new partnership for three years, but such estates would assume no liability under the new contract of partnership. This arrangement was agreed to by the executors of the two estates, and distributions were made to the two estates as called for. Held, that the partnership agreement provided for the sale of the interests of the deceased partners to the surviving partnership. Held, further, that the amounts paid to the estates of the deceased partners should be allocated, for income-tax purposes, to a single interest in the new partnership which received, ultimately, the capital assets purchased by the new partnership from the estates of the deceased partners.

2. PARTNERSHIP INTEREST HELD IN TRUST - DISTRIBUTION OF INCOME - BENEFICIAL INTEREST. - Petitioner, the son of the senior partner in a firm, entered into a written agreement with his father that, in case he succeeded the latter in the firm, he would hold the partnership interest for the latter and his estate. Upon the death of the father, intestate and leaving petitioner and two others as his only heirs, petitioner carried on the business, holding his father's interest in his own name and received the profits distributable to such interest and paid each month a fixed proportion of them to the other two heirs. Held, that the partnership interest was held by petitioner in trust and profits received by him and paid over to other heirs, representing the income upon their shares of such partnership interest, are not to be included in petitioner's taxable income.

John N. O'Donohue, Esq., and John F. Malley, Esq., for the petitioners.

Dwight H. Green, Esq., for the respondent.

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SMITH

These proceedings, consolidated for purposes of hearing, are upon appeals by the four petitioners from determinations by the respondent of the individual income-tax liability of each for the calendar years 1917, 1918, 1919, and 1920, as set out in deficiency notices mailed to each under date of July 9, 1925. The questions raised by each appeal are in respect to respondent's determination of the amounts in the years mentioned distributable to them individuals as profits of a partnership business operated by them, and which has resulted in asserted deficiencies for the four years as follows:

Year	Hallahan	Pope	Snow	Perkins
1917	$398.27	$1,455.22	$589.35	$412.35
1918	1,409.05	4,808.17	1,549.76	630.57
1919	993.14	3,567.34	1,074.05	436.11
1920	1,906.27	5,100.30	1,015.27	495.77

A similar issue is presented in each proceeding, this being whether payments made in the years in question by the partnership to the estates of two deceased partners represented distributions of profits or capital expenditures in acquisition of the interests of these estates in the partnership assets. The appeal of Arthur K. Pope presents an additional issue as to whether the portion of partnership profits received by him but then paid over to his mother and brother in accordance with an agreement with his father, from whom he received his partnership interests, that such interest would be held by him in trust for the former's estate, represents a portion of his taxable income.

FINDINGS OF FACT.

In the year 1905 a partnership, to do a general fire insurance business in Boston, Mass., under the firm name of Cyrus Brewer & Co., was formed by Arthur W. Pope and Arthur B. Gilmore of that city. The name of Cyrus Brewer & Co. had long been identified with the insurance business in Boston, the original partnership under that name having begun business in 1879. To the partnership thus formed Arthur W. Pope contributed the assets and good will of the old business of Cyrus Brewer & Co., of which he was the owner, Gilmore contributed no capital. The division of profits was fixed at two-thirds to Pope and one-third to Gilmore, and it was provided that upon the death of Pope his son, Arthur K. Pope, would succeed him in the partnership, Gilmore being given the right in such event to receive a full one-half interest in subsequent profits on payment of $9,000 to the estate of Pope.

At the time the above partnership agreement was made the son referred to, Arthur K. Pope, executed the following "declaration":

DECLARATION, May 29, 1905 - Arthur K. Pope.

I, Arthur K. Pope, the son of Arthur W. Pope, hereby declare that in the event that I shall become a partner in the firm of Cyrus Brewer & Company, now conducting the insurance business at No. 30 Kilby Street in Boston, under articles of copartnership dated May 29, 1905, as set forth in said articles, I will hold the interest, rights and property so accruing to me as a partner in said firm, for the benefit of said Arthur W. Pope and his legal representatives.

ARTHUR K. POPE.

BOSTON, May 29, 1905.

In June, 1905, Arthur W. Pope died intestate and Arthur K. Pope took over his authority and interest in the partnership without execution of new articles of partnership and Gilmore exercised his option and obtained a full one-half interest in future profits.

The partnership thus constituted was carried on until November 30, 1907, when William T. Ulman was admitted to the partnership and new articles of partnership executed, whereby the interests in profits of the three partners were fixed at 37 1/2 per cent each for Pope and Gilmore and 25 per cent for Ulman.

This contract embodied the following provisions:

Ninth, In case of the decease of any one of the partners the two surviving partners shall have an option upon the share or interest in the partnership of the deceased partner, and the price to be paid therefor shall be the proportionate share of the deceased partner in the profits of the business for the three years succeeding the date of his decease, or at their option a cash payment equivalent thereto if the same can be determined upon by the survivors and the legal representatives of the deceased. Said option shall be exercised, if at all, within sixty days of said decease.

Tenth, Upon the decease of one of the partners, in case said option shall not be so exercised or the termination of the partnership from any other cause, a true and perfect account of all matters connected with said partnership shall be made, and the expenses, leases, profits and partnership assets shall be divided between the partners in the same proportions as at that time shall govern the division of any profits.

On April 1, 1910, Alfred M. Bullard was admitted as a special partner. This individual contributed the assets and business of A. M. Bullard & Co. an insurance broker house and his compensation was fixed at $6,600 per annum so long as the agencies constituting the assets of his contributed business were not withdrawn, this sum being provided to be an absolute obligation of the firm and as between the partners he was exempted from liability for any losses incurred by the firm. The partnership agreement of November 30, 1970, then in force, was ratified and continued in effect, changed only by the special arrangements and agreements covering the admission of the new partner.

In December, 1916, both Arthur B. Gilmore and William T. Ulman died, and on February 10, 1917, a new partnership was formed by Arthur K. Pope, Alfred M. Bullard, Francis S. Snow, Stephen J. Hallahan, and Holten B. Perkins, articles of partnership being executed, the pertinent portions of which are as follows:

These agreements and articles of co-partnership are hereby entered into between Arthur K. Pope of Hingham, Francis S. Snow of Newton, Stephen J. Hallahan and Holten B. Perkins of Boston, all in the Commonwealth of Massachusetts, and by them with Alfred M. Bullard of Milton, Massachusetts, as specially set forth in article three hereof.

Arthur B. Gilmore and William T. Ulman, both partners of Cyrus Brewer & Company, having died in December, 1916, the surviving members of the partnership, namely, Alfred M. Bullard and Arthur K. Pope, associate with themselves Missrs. Snow, Hallahan and Perkins aforesaid, to form a partnership as of January 1, 1917, for the future conduct of the business of Cyrus Brewer & Company.

1.

The name and style of the partnership shall be Cyrus Brewer & Company.

2.

The partnership shall continue for three years from January 1, 1917, unless renewed or continued for a further period by written agreement made prior to November 1, 1919.

3.

All the rights and interest of said Bullard and his estate as set forth by the partnership agreement between him and said Gilmore, Pope, and Ulman, dated April 1, 1910, are adopted and all liabilities to him and his estate are assumed, by this new firm and made a part hereof.

4.

The rights and interests of the estate of said Gilmore and Ulman because of their membership in the original partnership dated November 30, 1907, between them and said Arthur K. Pope as modified by said agreement, with Alfred M. Bullard, are set forth in article nine, and the liabilities to them are assumed by this new firm as therein set forth.

* * *

9.

The interests and proportions of each of the new partners, Snow, Hallahan and Perkins in the profits are as follows:

After the payment of all obligations hereunder to said Bullard, said Snow shall receive in each of the years 1917, 1918, and 1919, 13.26% of the profits of the firm, said Hallahan shall receive 12.13% of said profits, and said Perkins shall receive 6.61% of said profits. The balance of said profits, 68%, shall be divided equally between said Pope, the estate of said Gilmore, and the estate of said Ulman. The said estates are in no wise parties hereto and are hereby expressly held harmless from any liability hereunder.

10.

In the event of the death of any partner or partners the surviving partner or partners shall continue the business on the same terms and conditions as set forth herein during the balance of the term hereof. Those continuing the business after 1919 shall assume any and all obligations to the estate or estates of deceased partners.

11.

In the event of the death of a partner during 1917, 1918 or 1919 his ownership and all interest shall at once cease except that his estate shall be paid all capital or undrawn profits he may have had in the business and also shall be paid as follows:

As to Bullard: as provided in agreement above noted dated April 1, 1910.

As to Pope: from date of death, for three years, one-third of the net profits of said three years (after deducting any amount due said Bullard or his estate).

It is agreed that if Pope dies during 1917, 1918, or 1919 the surviving partners shall continue the partnership for three years from date of his death thus extending the termination of this agreement beyond the year 1919.

As to Snow, Hallahan and/or Perkins (severally) each to receive for three years from death (from the survivors of this partnership during 1917, 1918 or 1919 and from those continuing the business after 1919) the following proportion of interest, at time of death, in the profits of Cyrus Brewer & Company.

Dying during 1917 - 1/3 of said interest

Dying during 1918 - 2/3 of said interest

Dying during 1919 - 3/3 of said interest

12.

If this partnership is terminated at the close of 1919 then to each living partner shall belong the following after full distribution of 1919 profits and any share of working capital which he may have contributed.

To Pope: the name and good will of Cyrus Brewer & Company, the lease, physical property and records, together with all liabilities to A. M. Bullard and any deceased partner.

To Snow, Hallahan and/or Perkins (severally) the ownership of the brokerage accounts on which each received a commission on the 1916 books.

On the same date the following memorandum of approval was signed by the executors of the estate of the two deceased partners:

We have examined the new partnership papers of Cyrus Brewer & Company entered into February 10 between Messrs. Bullard, Pope, Snow, Hallahan and Perkins and accept the percentages to be paid the estates of Arthur B. Gilmore and William T. Ulman as set forth in article 9 as correct and satisfactory.

The partnership thus formed on February 10, 1917, existed throughout whole of the period provided for in the partnership agreement and was continued for a further period of three years under a second agreement entered into on October 31, 1919, the material provisions of which were as follows:

1.

The name and style of the partnership shall be Cyrus Brewer & Company.

2.

The partnership shall continue for three years from January 1, 1920, and for such further time as said Alfred M. Bullard shall live, or that otherwise may be necessary to carry out the terms of this agreement, and thereafter until terminated at the end of six months' written notice from any partner or partners desiring to withdraw given to all the other partners.

3.

Said Alfred M. Bullard shall be the senior member of the firm of Cyrus Brewer & Company, and his name shall properly appear as such in all places where the names of the partners are set forth, written or printed. And said Alfred M. Bullard shall receive as his compensation as a member of said firm as his salary the sum of six thousand six hundred (6,600) dollars per annum but shall not otherwise participate in the earnings or profits of the said firm. As between the several parties hereto he shall not be liable for any of the debts of the firm.

8.

The following salaries shall be paid
to Alfred M. Bullard	$6,600
to Arthur K. Pope	15,000
to Francis S. Snow	11,500
to Stephen J. Hallahan	11,500
to Holten B. Perkins	5,000
payable one-twelfth each month.

9.

So long as the partnership shall continue as provided in paragraph 2, the profits, after the payment of salaries provided for in paragraph 8, shall be divided among said Pope, Snow, Hallahan and Perkins, or the survivors of them, in the following proportions: To said Pope such sum as will amount, when added to his salary aforesaid, to 35 shares out of the total amount to be divided between them, or the survivors of them, for both salaries and profits taken together as a whole; to said Snow and Hallahan such sum to each as will amount to 27 shares on the basis above named, and to said Perkins such sum as will amount to 11 shares on the basis above named - Provided, however, that in each of the three years following the decease of either of them the estate of the deceased partner shall share in the profits (including salaries as aforesaid) in the same manner and proportion as if the deceased were living until the end of said three years.

10.

In the event of the death of any partner or partners the surviving partner or partners shall continue the business on the same terms and conditions as set forth herein during the balance of the three years named in paragraph 2 and for such further time as said Alfred M. Bullard shall live or that otherwise may be necessary to carry out the terms of this agreement. Surviving partners so continuing the business as herein agreed after the decease of any partner shall and do hereby assume any and all obligations to the estate or estates of deceased partners.

11.

In the event of the death of a partner during the continuance of this partnership, his ownership and all his interest shall cease at once, except that his estate shall be paid all capital or undrawn profits he may have had in the business and also shall be paid as follows:

The estate of said Bullard sixty-six hundred (6600) dollars for the year succeeding his death, and the estate of each of the other partners for each of the three years succeeding his death in such amount and proportion as set forth or referred to in the proviso at the end of paragraph 9.

12.

If this partnership can be terminated in full accordance herewith and is so terminated either at the close of the three year term, namely, December 31, 1922, or at a later time as provided in paragraph 2, then after the payment or making provision mutually satisfactory to all interests concerned for the payment of all debts and obligations hereunder, the existing or surviving partners shall divide the proceeds of the assets in the proportion of their several interests in the profits.

Nothing in this clause of the agreement, however, shall alter the other provisions herein set forth defining the rights of the estates of deceased partners and the arbitrary extension of the agreement in case of the decease of any partner or its continuance during the life of said Bullard.

The new partnership composed of Pope, Bullard, Snow, Hallahan and Perkins paid to the estates of the two deceased partners, Gilmore and Ulman, the amounts which those two partners had contributed to the paid-in capital of the former partnership, and during the three calendar years 1917, 1918, and 1919 paid to each of those estates amounts equal to 22 2/3 per cent of the profits of the new partnership for each of those years, and during the calendar year 1920 paid to each of those estates 22 2/3 per cent of that portion of the profits received in that year which consisted of commissions on insurance written in the calendar year 1919. The amounts representing such profits so paid were as follows:

Estate	1917	1918	1919	1920
Arthur B. Gilmore	$15,280.30	$15,855.37	$15,491.39	$3,512.20
William T. Ulman	15,280.30	15,855.33	15,491.39	3,512.20

Arthur W. Pope, on his death, left as surviving heirs, his widow, Fannie H. Pope, and two sons, Arthur K. Pope, the petitioner, and Kenneth B. Pope, at that time a minor. Arthur K. Pope from the time he succeeded his father in June, 1905, paid over to his mother, Fannie H. Pope, personally, one-third of all profits received by him from the partnership and also one-third of such profits as guardian of his brother, Kenneth B. Pope, a minor, until the latter became of legal age, following which the payments of Kenneth B. Pope were made to the latter personally. The division of the profits was made on this basis for approximately three years following the death of Arthur W. Pope, at which time, by agreement between Arthur K. Pope, his mother, and brother, the division was changed to the basis of one-fourth of the profits to each of the latter, Arthur K. Pope retaining one-half as his share. Arthur K. Pope continued this arrangement and has made the payments each month to his mother and brother of one-fourth to each, of all profits received by him from the partnership up to and including the calendar years 1917, 1918, 1919, and 1920. The total amounts of the profits of the partnership paid by Arthur K. Pope to his mother and brother, as described, during the taxable years 1917, 1918, 1919, and 1920 were as follows:

	1917	1918	1919	1920
Fannie H. Pope	$4,275.88	$4,082.67	$3,862.83	$9,231.17
Kenneth B. Pope	4,275.88	4,082.67	3,862.81	9,231.17
Total	8,551.76	8,165.34	7,725.64	18,462.34

OPINION.

SMITH: In filing their income-tax returns for the years 1917, 1918, 1919, and 1920, each of the petitioners excluded the payments made to the estates of Arthur B. Gilmore and William T. Ulman in computing the amount of partnership income available for distribution to themselves, whereas the respondent, for each of those years, added to the amount of net income reported by the partnership the amounts paid to the estates of Gilmore and Ulman and included in the gross income of each of the partners a proportionate part of such amounts.

The petitioners insist that the payments made to the estates represented partnership profits, the two estates having a right to participate in earnings of the partnership during those years and that the amounts paid were not distributable to partners as profits in the partnership.

The agreement of November 30, 1907, creating the partnership of Gilmore, Pope and Ulman, contained the following provisions:

Ninth, In case of the decease of any one of the partners the two surviving partners shall have an option upon the share or interest in the partnership of the deceased partner, and the price to be paid therefor shall be the proportionate share of the deceased partner in the profits of the business for the three years succeeding the date of his decease, or at their option a cash payment equivalent thereto if the same can be determined upon by the survivors and the legal representatives of the deceased. Said option shall be exercised, if at all, within sixty days of said decease.

Tenth, Upon the decease of one of the partners, in case said option shall not be so exercised or the termination of the partnership from any other cause, a true and perfect account of all matters connected with said partnership shall be made, and the expenses, leases, profits and partnership assets shall be divided between the partners in the same proportions as at that time shall govern the division of any profits.

These provisions were ratified and continued in force by the agreement of April 1, 1910, under which Alfred M. Bullard was admitted to the partnership, and they were in effect at the time of the deaths of the two partners, Gilmore and Ulman, in December, 1916. They were also ratified and continued in effect by the new partnership agreement of February 10, 1917.

Upon the death of Gilmore and Ulman the old partnership stood dissolved. The surviving partners and the estates of the two deceased partners were the owners of the partnership assets. Each had a right to demand an accounting and a distribution of the assets, but such action would have destroyed to a large extent the value of the main asset of the partnership, which was its life as a going business. It was manifestly to the interest of the parties to effect some arrangement whereby this asset would be conserved. It was also realized that the business could not continue without the acquisition of new partners to give the personal services formerly rendered by the two deceased partners.

To meet this situation a new partnership was formed under the agreement of February 10, 1917, which consisted of Pope, Bullard, Snow, Hallahan, and Perkins. The two first named contributed to this new partnership their interests in the partnership assets of the old firm, together with their services, and the three last named contributed their services. The estates of the deceased partners, Gilmore and Ulman, through their representatives, who participated in the arrangement, contributed to the new partnership their interests in the assets of the old partnership under an agreement whereby each estate was to share in the profits of the new partnership to the extent of 22 2/3 per cent each for the three calendar years 1917, 1918, and 1919, it being understood and agreed that they were not parties to the partnership agreement as such and assumed no liability thereunder. These two estates were also paid the amounts which the two deceased partners had contributed to the cash capital of the old partnership.

These two estates were not parties to the agreement of February 10, 1917, but the proof shows that they actually participated through their executors in the arrangement made, and the latter executed on the same day a written acknowledgment of their agreement to the arrangement effected and following this they accepted and were paid the specified proportion of the profits of the business for the years 1917, 1918, and 1919.

The partnership agreement of February 10, 1917, and the agreement made with the partnership by the executors of the two estates did not result in the creation of a partnership relation as to those estates in view of the expressed intention of the parties that no such relationship should exist, and it is admitted by all of the parties to the proceedings before us that at no time was either of the estates a partner in the firm of Cyrus Brewer & Co.

It is insisted by the petitioners that the option given surviving partners to purchase the interest of a deceased partner was not exercised and could not be exercised, as it was conditional upon the death of one partner and could only be exercised by the remaining partners in the continuance by them of the partnership. They contend that the death of two partners created a condition which made the exercise of the option impossible.

However, it is not necessary to determine whether or not the option in question could have been exercised, as we are of the opinion that the settlements made with the estates of the two partners were occasioned by and were in substantial accord with the provisions of the several partnership agreements relative thereto. Even should it be considered that the agreement with the estates was an undertaking of the surviving general partner, Pope, and special partner, Bullard, and the three new partners, Snow, Hallahan, and Perkins, who constituted the new partnership of Cyrus Brewer & Co., our decision with respect to the relationship of all parties concerned would not necessarily be altered thereby.

We have previously held in Willard C. Hill et al.,14 B.T.A. 572">14 B.T.A. 572, which case presented substantially the same agreement as the one here under review, that the agreement therein considered provided for the sale of the interest of a deceased partner to the surviving partners; that the transaction constituted a purchase of capital assets, and that there should be included in the net income of each surviving partner his distributive share of all amounts paid in accordance with the terms of the partnership agreement to the estate of a deceased partner. In the instant case we are convinced that the intention of all parties concerned, including the parties to both the old and new partnership agreements, was to prevent an accounting and distribution upon dissolution of the partnership, which action would have been less beneficial to all of them and which would have prevented the estate of a deceased partner from getting out of the partnership the real value of the deceased partner's interest. Consequently, we hold that here the partnership agreements under review and the separate agreement made with the new partnership and the executors of the estates of Gilmore and Ulman constituted a sale of the interests of the two estates to the new partnership.

The net income of a partnership, under all the revenue acts, is to be computed in the same manner and on the same basis as in the case of an individual, and in the case of an individual it is provided that in computing net income there shall be allowed as deductions all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for salaries or other compensation for personal services actually rendered. Since the payments made to the estates of Gilmore and Ulman obviously are not deductible expenses, they must be included in the net income of the partnership available for distribution.

It is contended, however, that the payments to the two estates consisted of profits paid to them as such and that the petitioners were not and should not be held liable to income tax in respect thereof. Relative to this position of petitioners we said, in Willard C. Hill et al., supra:

* * * The profits of a partnership belong to the partners. They may choose to make any disposition which they wish of such profits. They may bind themselves to pay over those profits or a portion of them for the acquisition of a capital asset. We think that no valid claim may be made that the partners are not liable to income tax in respect of their shares of the partnership profits merely because by an agreement voluntarily entered into they have bound themselves to pay those profits for the acquisition of such capital asset. A partner may not avoid the income tax under an agreement by which his share or a portion of his share of the profits of the partnership are to be paid to the estate of a deceased partner in the acquiring of such deceased partner's interest in the assets of a prior partnership.

The amounts distributable to the partners who participated in partnership profits on a percentage basis, namely, Pope, Snow, Hallahan, and Perkins, were computed by the respondent in accordance with the following percentages:

	Per cent
Arthur K. Pope	41.46
Francis S. Snow	24.24
Stephen J. Hallahan	22.20
Holten B. Perkins	12.10
	100.00

The foregoing percentages were determined by considering the whole amount available for distribution to the partners as being equal to 100 per cent of the net income of the partnership and adding to the percentages specified in the partnership agreement of February 10, 1927, that figure which would result in the same relationship among the partners on the basis of 100 per cent as resulted under the partnership agreement on a basis of 54 2/3 per cent, that is, the formula employed in each case was as follows: The percentage provided for in the partnership agreement bore the same relation to 54 2/3 per cent as the percentage employed by the respondent in computing the deficiency bore to 100 per cent.

With this method employed by the respondent we can not agree. An examination of the history of Cyrus Brewer & Co. reveals the fact that the interest therein of Arthur W. Pope and, subsequent to his death, that of his estate, was from the beginning greatly in excess of that of any other partner, and the partnership agreement of February 10, 1917, clearly indicates that the business, at least up until December 31, 1919, was considered by all to be principally that of Pope, inasmuch as that agreement provided for the major portion of the business, namely, the name and good will of Cyrus Brewer & Co., the lease, physical property and records were to go to him and that Snow, Hallahan, and Perkins were to receive only the brokerage accounts on which each had received a commission during the last year that the old partnership was in existence. It is further noted that the partnership entered into under the agreement of February 10, 1917, terminated coincident with the expiration of the three-year period that payments were to be made to the estates of Gilmore and Ulman. While there was no direct evidence on this point, we are convinced that the interest of the two estates in the old partnership which were purchased by the new partnership ultimately went to Pope and that, considering the effect of the agreement of February 10, 1917, as a whole, the interest of Snow, Hallahan, and Perkins in the partnership which terminated December 31, 1919, was limited to ownership of the brokerage accounts on which each received a commission on the 1916 books. Consequently, we are of the opinion that the net income of the partnership for income-tax purposes should be distributed as follows:

	Per cent
Pope	68.00
Snow	13.26
Hallahan	12.13
Perkins	6.61
	100.00

Arthur K. Pope, one of the petitioners, assigns error on the part of respondent in including as a part of his taxable income for the years 1917, 1918, 1919, and 1920, that portion of the profits received by him in these years from the partnership of Cyrus Brewer & Co. which he in turn paid over to his mother and brother under an agreement made with his father, from whom he received his original partnership interest, that he would hold the same in trust for the latter's estate.

The father of this petitioner originally owned the interest in the old firm of Cyrus Brewer & Co. now represented by the interest of this petitioner in the present firm. The petitioner received this interest under an agreement to hold it in trust for the estate of his father and the latter died intestate, leaving a widow, a minor son, and petitioner as his surviving heirs. The record shows that this agreement has been acted upon and given effect continuously since the death of the father, the petitioner each month paying over to his mother and brother an agreed and definite portion of the profits received by him from the partnership.

Respondent takes the position that the transaction was in effect an assignment by petitioner of a portion of his income and accordingly the total amount is taxable to him individually under the rule laid down in Ormsby McKnight Mitchel,1 B.T.A. 143">1 B.T.A. 143, as approved in Mitchell v. Bowers, 9 Fed.(2d) 414. In this respondent has overlooked the fact that petitioner's mother and brother did not receive their interest in the share of the partnership standing in the name of petitioner from the latter, but inherited it from Arthur W. Pope. Petitioner received that interest under an express agreement to hold it in trust for the estate of his father. He and his mother and brother were the sole heirs and entitled to the estate. The authorities are uniform that in the case of property, title to which is taken under an express agreement to hold in trust for one or more beneficiaries, an express trust is created and the one in whose name the property stands is no more than a trustee. Odell v. Moss,70 Pac. 547; 137 Cal. 542">137 Cal. 542; Gritten v. Dickerson,66 N.E. 1090">66 N.E. 1090; 202 Ill. 372">202 Ill. 372; Newman v. Schwerin,109 Fed. 942; Craig v. Harless,76 S.W. 594">76 S.W. 594; 33 Tex. Civ. App. 257">33 Tex.Civ.App. 257; Rice v. Rice,65 N.W. 103">65 N.W. 103; 107 Mich. 241">107 Mich. 241; Wilkinson v. Stitt,56 N.E. 830">56 N.E. 830; 175 Mass. 581">175 Mass. 581.

This petitioner, under the rule stated, is, as to the interests of his mother and brother in the parnership interest passing to him on his father's death, merely a trustee and any profits distributed to him are received in trust to the extent of their interests just as any other income of trust property is received. He has no beneficial interest in them. He has surrendered no interest when he pays them over to his mother and brother and the latter did not receive them as the result of an agreement made by them with petitioner. Their rights accrued as heirs of Arthur W. Pope and their agreement with petitioner as to the proportionate amounts to be paid over to them was but an incident in the performance of the trust assumed by petitioner. The rights of the parties in interest to determine an equitable division can not be questioned.

Can it be said, merely because they are profits upon a partnership interest standing in petitioner's name, that they are distributable to him and must be included in the net personal income upon which he individually must pay a tax? We have had substantially this same situation presented to us before and have drawn definitely the distinction between those cases of which Ormsby McKnight Mitchel,supra, is an example, where the beneficial interest in the income alone has been assigned by the party owning the corpus, and those in which the income is produced by property belonging to two jointly, although the ownership of only one was disclosed and the total income actually collected by that party, who then accounted to his undisclosed copartner in interest for the latter's share. In these cases we have held the individual receiving the total income taxable on only the portion in which he individually had the beneficial interest, the portion paid his associate being merely received by him in trust for such party. C. R. Thomas,8 B.T.A. 118">8 B.T.A. 118; see also William W. Parshall,7 B.T.A. 318">7 B.T.A. 318; Ralph L. Hinckley,6 B.T.A. 312">6 B.T.A. 312; Harry P. Kelley,9 B.T.A. 832">9 B.T.A. 832.

In accordance with the foregoing, we hold that one-half of petitioner Arthur K. Pope's distributive share of the profits of Cyrus Brewer & Co. should not be included in his taxable income.

The deficiency will be redetermined in accord with the foregoing findings of fact and opinion.

Reviewed by the Board.

Judgment will be entered under Rule 50.

TRUSSELL

TRUSSELL, dissenting: I am unable to agree with that portion of the majority opinion and decision holding that the percentages of net profits actually distributed to the estates of Gilmore and Ulman must be treated for the purposes of the enforcement of income-tax liabilities as partnership profits distributable to Arthur K. Pope, and I am also in disagreement with the determination of the respondent holding that these same percentages of profits should have been treated as partnership profits distributable to the four petitioners herein in the proportions set forth in the respondent's deficiency notices.

As I read it, the record of this action clearly establishes that on or about February 10, 1917, the four petitioners herein named, together with one Alfred M. Bullard and the representatives of the estates of Arthur B. Gilmore and William T. Ulman, entered into a business agreement by virtue of which they all agreed to participate in the carrying on of a general insurance agency business under the name and style of Cyrus Brewer & Co., and to continue said business from January 1, 1917, to December 31, 1920. Toward the carrying on of this business the two estates and the four petitioners contributed an office leasehold and such office equipment as is commonly required by a concern carrying on a fire insurance agency business. Arthur K. Pope contributed his interest in the good will of the name of Cyrus Brewer & Co. which he had inherited from his father in June, 1905. Arthur B. Gilmore had come into a prior partnership upon an agreed basis with petitioner Pope upon payment to the estate of the elder Pope of a cash consideration of $9,000, and thereupon petitioner Pope and the said Gilmore participated equally in the profits of the then organization of Cyrus Brewer & Co. In 1907 William T. Ulman came into that organization, whereupon the interests were modified so that Pope and Gilmore were entitled to 37 1/2 per cent each and Ulman to 25 per cent of the gains and profits. In 1910 Alfred M. Bullard was taken into this organization as a special partner contributing the assets and insurance business theretofore conducted under the name and style of A. M. Bullard & Co., and the organization agreed to pay said Bullard the sum of $6,600 per year so long as the agencies constituting the assets of his contributed business were not withdrawn.

The record of this action further establishes that the insurance agency business is a business of personal service and that any person connected with an insurance agency organization over a period of years by virtue of the intimate knowledge which he obtains through the solicitation of business, the adjustment of losses, and all his contact with purchasers of insurance protection, builds up for himself a personal good will and that upon the withdrawal of such person, either by death or otherwise, from the organization with which he has been connected, such personal good will is a continuing factor in the getting of business, and that custom has established that such personal good will has a capital value for a period of approximately three years after the withdrawal or death of the person creating it and that at the end of such period of three years any capital value of that personal good will ceases to exist as a recognizable factor in the getting of insurance business.

Arthur B. Gilmore had been connected with the predecessor organization since prior to 1905; William T. Ulman had been connected with this prior organization since 1907. In the business agreement of February 10, 1917, all the facts herein above outlined, together with the established customs of the insurance agency business, were duly recognized and thereupon the estates of Arthur B. Gilmore and William T. Ulman, through their legal representatives, contributed to the continuing organization the personal good will of the deceased limited to the period of three years.

The previously existing arrangements with Alfred M. Bullard were continued and Pope, Hallahan, Snow, and Perkins contributed to said business by virtue of said agreement their personal services and thus were made up the total of the capital elements and personal services contributed to the business to be conducted under the business agreement of February 10, 1917.

The record further shows that there were distributed to the two estates by the organization thus created, in addition to the shares of profits agreed to be paid them for the three years in question, the capital interests of those estates in the tangible assets, and it can not be said, in my opinion, that there remained after the period in question any asset, tangible or intangible, in the possession or ownership of these petitioners representing an interest formerly belonging to Gilmore or Ulman or their estates.

When men make agreements for the carrying on of a business in which profits are anticipated, they provide for the distribution of such profits to the persons or the estates contributing business-getting elements to such business. This is what was done in the instant cases. No one purchased or agreed to purchase the contributions of others; they only agreed to divide the gains and profits in a ratio deemed by them to be proportionate to the contributions of each contributor, whether as general partners, special partners, or as in these actions the estates of former associates, and the relations with respect to gains and profits, as established by the agreement, fixed the rights of all the contributors and during the period of the continuance of said agreement no one of these contributors received or had any right to receive any quantum of gains and profits other than the amount fixed by the agreement. The United States in its capacity as a sovereign levying and collecting income taxes is not now and never has been endowed with authority either to modify or ignore the established, fixed and lawful agreements of men engaged in carrying on a business which produces or is capable of producing taxable income, unless or until it shall be established that such agreements necessarily result in the escape of some part or all of taxable income from bearing its just share of Federal taxation, and no indication of such result can be discerned in the record before us. The agreement has not been hidden and a mere glance at its provisions will disclose to any tax-enforcing official where he can find the persons subject to the tax and the amounts of the gains and profits received or distributable to each of such persons.

A situation similar in many respects to the one here presented was before us recently in James Brown,10 B.T.A. 1036">10 B.T.A. 1036. In that case one member of a partnership died on April 2, 1920. The articles of partnership provided that in such cases the estate of the deceased member should be paid his proportionate share of the profits of the business for the balance of the year in which the death occurred and the salary to which he would have been entitled for services rendered during that period had he lived, and that at the close of the year his estate should be paid his capital interest less his interest in the name and good will of the business, the last named asset remaining the property of the surviving partners. This provision of the articles of partnership was carried out and, in determining the distributive shares of the remaining partners in the profits of the partnership for that year, we held that the sums paid the estate representing profits and salary for the period from the date of death to the close of the taxable year should be excluded. In that case we said:

The profits of the partnership to which the surviving partners were entitled were not the total profits, but the total profits less the amount which all agreed should go to the estate of a deceased partner. There was not, therefore, receipt by these surviving partners of the total profits and then a distribution to the estate, but they were entitled in the first instance to receive only their share of the partnership profits and the remainder was a share of the profits which accrued to the Delano estate.

However, the question, in my opinion, goes further than this and the liability of the partners, for tax upon the total profits of that partnership would not be determined by a showing that capital assets were contributed by the two estates under an agreement whereby those estates would receive a certain proportion of the net profits for a fixed period, without becoming partners, and without a capital interest distributable to them at the termination of that period.

The fact that a partnership relation does not exist because the intention of the parties is to the contrary does not preclude the making of an agreement whereby one not a partner shares in the profits of a partnership. As the court said in London Assurance Co. v. Drennan,116 U.S. 461">116 U.S. 461:

Persons cannot be made to assume the relation of partners as between themselves, when their purpose is that no partnership shall exist. There is no reason why they may not enter into an agreement whereby one of them shall participate in the profits arising from the management of particular property without his becoming a partner with the others, or without his acquiring an interest in the property itself so as to effect a change of title.

The rights of the estates under this agreement were to receive profits alone and to receive these as such. If there were no profits they would be entitled to nothing. No obligation was placed upon petitioners by the contract to pay any specified amount. It is not thought questionable that the estates under this arrangement could maintain against the partnership a suit for an accounting of the profits. Coward v. Clawton,55 Pac. 147; 122 Cal. App. 451">122 Cal.App. 451; Clark v. Pierce,17 N.W. 780">17 N.W. 780; 52 Mich. 151">52 Mich. 151; Hallet v. Cumston,110 Mass. 32">110 Mass. 32.

Under such circumstances, can it be said that these profits, to which the estates were entitled by the formal agreement made, were distributable to the partners? I think not. I can not accept a theory holding that profits are distributable to and constitute a portion of the individual taxable income of a partner upon facts which show that such profits were not only never received by him, but that he had at no time a beneficial or other interest in them and that the right to receive and the beneficial interest was at all times in other parties to whom they were actually distributed.

In the case of R. E. Thompson v. Commissioner of Internal Revenue, 28 Fed.(2d) 247, the court held that where a partnership sold certificates entitling the holders to a share in its future earnings, the certificate holders did not become partners, nor did they obtain under the terms of the certificates a capital interest in the partnership assets, but were during the period of participation the beneficial owners of the money which they contributed, and the relation created was one of agency on the part of the partners, to manage the property, and that the money paid in by the certificate holders was capital in so far as the partnership was concerned and the profits distributed to them were the earnings of such capital.

In the present case, if the conclusion of fact in the foregoing opinion that the two estates contributed capital assets for which they were to receive a proportion of the earnings of the partnership, is correct, the condition would be analogous, in that respect, to the one presented in the cited case, as the partnership did not take title to those assets upon the conclusion of that arrangement, for the agreement provided for the participation by the two estates in the earnings of the partnership as thereby constituted, and the partners in the new firm had no right of alienation, as to these assets, during the period of participation in earnings by the two estates.

The effect of the decision in the present case is that where one acquires property from another, who reserves, however, the income therefrom for a certain period, the one acquiring the property, although he does not receive the income during that period and at no time had a right to receive it, is nevertheless considered, for income-tax purposes, as having actually received it and his taxable income is to be increased to that extent.

A situation in many respects similar to the one in the case at bar was recently before the United States District Court for the Western District of Louisiana in the suit of Frank J. Looney v. United States, 26 Fed.(2d) 481. In that case the plaintiff and another party had both claimed the right to drill for oil on a certain property and the dispute had been settled by an agreement whereby plaintiff received all rights in the property belonging to such other party and in consideration of the transfer the latter was to receive $200,000 to be paid out of the oil produced from the property. The $200,000 was so paid and in determining plaintiff's income-tax liability the Commissioner had included such amount as income received by him, treating, as he had done in the case before us, the purchase by plaintiff of the other party's rights as a capital transaction and similar in all respects to one in which he had received the full return from the property and then paid the sum in question for the interest conveyed to him. The court in its opinion, after distinguishing those cases in which one possessed of a right to receive income directs that it be paid another, said:

However, I do not think the situation is different to what it would have been had the firm of Foster, Looney & Wilkinson purchased a valuable building and in doing so agreed that the vendors should receive the rents of 1921, either as a part of the purchase price or in settlement of some adverse claim against the said building. In either event, their right to receive and enjoy the whole revenues would have been reduced just so much and being so reserved, would never have passed to the purchasers' income. In other words, both in the illustrated instance and in the case at hand, I think the result was to convey the property subject to the right on the part of the vendors to take the revenues to the extent indicated and that they would not and did not pass to Foster, Looney & Wilkinson as income, for which they were bound to account.

I think the reasoning of the court in the above case is correct. The theory of the majority opinion in the present case, and the conclusion reached is, in my opinion, unsound.

SIEFKIN agrees with this dissent.