Stokes v. Commissioner , 22 T.C. 415 ( 1954 )

W. Cleve Stokes, et al., ¹ Petitioners, v. Commissioner of Internal Revenue, Respondent

Stokes v. Commissioner

Docket Nos. 30929, 31148, 31657, 33800

United States Tax Court

22 T.C. 415; 1954 U.S. Tax Ct. LEXIS 196;

May 27, 1954, Filed May 27, 1954, Filed

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Decisions will be entered under Rule 50.

1. Held, that the deficiency notice dated September 15, 1950, relating to 1946, 1947, and 1949, involved in Docket No. 31657, addressed to W. Cleve Stokes and Alice Hill Stokes and which followed a second jeopardy assessment made on or about August 31, 1950, against petitioners was a valid deficiency notice and we have jurisdiction to hear and decide that proceeding.

2. Petitioner W. Cleve Stokes was engaged in the operation of a nursery in 1946, 1947, and part of 1948, and petitioner Alice Hill Stokes was operating the nursery after it was transferred to her November 9, 1948, and throughout the year 1949. The nursery kept its books on the cash basis and filed its income tax returns on that basis, charging against the sales made, the cost of plants and shrubs purchased in each of the taxable years. It also deducted the expenses incurred and paid in the operation of the nursery. It did not use inventories in the determination of its income and kept no inventories of growing plants and shrubs. Held, that petitioners, having elected to use the cash method of accounting, were not required to use inventories. Held, further, that under Regulations 111, section 29.22 (a)-7, petitioners in their operation of the nursery should have deducted in each of the taxable years only the cost of plants and shrubs sold. D. E. Alexander, 22 T.C. 234">22 T. C. 234, followed. Petitioners' deductible expenses incurred and paid in the operation of the nursery each year have been stipulated and these are deductible, in addition to the cost of plants and shrubs sold.

3. Petitioner W. Cleve Stokes made certain transfers of assets without consideration to his wife, Alice Hill Stokes, in 1947. He also made other such transfers to her in 1948 and 1950. Held, the transfers made in 1947 were not made while Stokes was insolvent and he was not rendered insolvent thereby. Held, further, he was insolvent when the transfers of 1948 and 1950 were made and Alice Hill Stokes is liable as transferee to the extent of the fair market value of the property which she received as a result of these transfers.

Hugh R. Dowling, Esq., for the petitioners.

Arthur L. Nims, Esq ., and J. Frost Walker, Esq., for the respondent.

Black, Judge.

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BLACK

On February 26, 1954, our report in these proceedings was promulgated as a division decision, 21 T. C. No. 89. On April 27, 1954, we issued an order reading, in part, as follows:

After further consideration of the issue concerning petitioners' tax accounting as a farmer, and for good cause appearing, it is

ORDERED: That this Division Decision be recalled, vacated, and set aside for further consideration of the issue designated as Issue 1 in the report.

Further consideration has now been given to Issue 1 in the report heretofore promulgated and the holding on that issue has been changed following D. E. Alexander, 22 T.C. 234">22 T. C. 234, as will more fully appear hereafter.

The following report in these proceedings takes the place of the one promulgated February 26, 1954.

The respondent has determined deficiencies in income taxes and penalties as follows:

Docket	Taxpayer	Calendar	Income	Penalties
No.		year	tax
30929	W. Cleve Stokes	1946	$ 39,559.71	$ 19,779.85
		1947	47,859.79	23,929.90
		1948	67,535.37	33,767.69
31148	W. Cleve Stokes and Alice Hill Pye
	Stokes	1949	3,191.59	1,595.80
31657	W. Cleve Stokes and Alice Hill	1946	24,633.79	12,316.90
	Stokes (additional deficiencies).	1947	11,184.00	5,592.00
		1949	1,445.82	722.91

Subsequently, in amended answers in Docket Nos. 30929 and 31148, respondent affirmatively asked that the deficiencies be increased by the amounts shown in Docket No. 31657.

In Docket No. 33800, respondent determined total transferee liability for Alice Hill Pye Stokes, transferee, for the years 1946, 1947, and 1948, as follows:

Income tax deficiencies	$ 190,772.66
Penalties	95,386.34
Interest	31,201.18
Total	$ 317,360.18

The four proceedings have been consolidated.

A stipulation has been filed whereby several issues have been settled and will be given effect under Rule 50. It has been agreed in this stipulation that petitioner W. Cleve Stokes has additional income which was not reported on his individual tax returns as follows:

1946	$ 81,131.07
1947	59,763.41
1948	61,713.37

It has also been agreed that petitioners W. Cleve Stokes and Alice Hill Pye Stokes had additional income of $ 14,838.68 for the taxable year ended December 31, 1949, which was not reported on their 1949 joint income tax return. It has also been agreed that all or part of any deficiencies which the Court may determine to be due from petitioner W. Cleve Stokes for the years 1946, 1947, and 1948, are due to fraud with intent to evade tax, and that the 1946, 1947, and 1948 individual income tax returns filed by W. Cleve Stokes are false and fraudulent with intent to evade tax due to the Government. It has also been agreed that no part of any deficiency which the Court may determine to be due from the petitioners W. Cleve Stokes and Alice Hill Pye Stokes for the year 1949 is due to fraud with intent to evade tax, and that the 1949 joint income tax return filed by these petitioners was not false or fraudulent.

The parties agree that the tax consequences resulting from the operation of the nursery for the years in question remain an issue before the Court, and that in addition to the adjustments stipulated above, the taxable net income of the petitioners for the years 1946 through 1949 may be further adjusted pursuant to the Court's decision on the nursery issue.

The issues remaining are as follows:

1. In Docket No. 31657, petitioners contest respondent's determination of additional deficiencies and penalties as follows:

(a) The aforesaid notice of deficiency is invalid in its entirety in that it was sent contrary to the provisions of Section 272 of the Internal Revenue Code.

(b) In the alternative, if the said notice of deficiency is not invalid in its entirety, then it is invalid as to the petitioner, Alice Hill Stokes, for the years 1946 and 1947 in which years she filed a separate return.

(c) In the alternative, if the said notice of deficiency is not invalid in its entirety, then the Commissioner erred as set forth in each of the further assignments of error herein.

2. Whether for the years 1946 to 1949, the costs of nursery plants and shrubs purchased, which petitioners deducted in full, should be disallowed except to the extent they represent cost of goods sold as determined by the respondent.

3. In Docket No. 33800, in which respondent determined transferee liability against Alice Hill Stokes, petitioner contests liability as transferee to any extent for any gifts to her by her husband prior to 1948 on the ground that he was solvent at all times when the gifts were made and was not rendered insolvent by reason of such gifts. As to the nursery gift made to her by her husband in 1948, she concedes that her husband was insolvent at the time the gift was made but she contests her liability as transferee on other grounds. As to the gift of 100 shares of bank stock in 1950, petitioner Alice Hill Stokes does not contest her transferee liability.

FINDINGS OF FACT.

Petitioners W. Cleve Stokes and Alice Hill Stokes (also known as Alice Hill Pye Stokes) are husband and wife residing in Montgomery, Alabama. W. Cleve Stokes filed individual income tax returns for the years 1946, 1947, and 1948 with the collector of internal revenue for the district of Alabama. W. Cleve Stokes and Alice Hill Stokes filed a joint income tax return for 1949 with the collector of internal revenue for the district of Alabama.

On or about June 14, 1950, the Commissioner made jeopardy assessments against the petitioners to collect asserted deficiencies in income taxes and penalties, as follows:

Year	Petitioner	Tax	Penalty
1946	W. Cleve Stokes	$ 39,559.71	$ 19,779.85
1947	W. Cleve Stokes	47,859.79	23,929.90
1948	W. Cleve Stokes	67,535.37	33,767.69
1949	W. Cleve Stokes and Alice Hill Pye Stokes	11,786.24	5,893.12

The jeopardy assessments referred to above were followed by two deficiency notices. The first, dated July 12, 1950, related to 1946, 1947, and 1948, and was addressed to W. Cleve Stokes. The second, dated August 2, 1950, related to 1949 and was addressed to W. Cleve Stokes and Alice Hill Pye Stokes. On or about August 31, 1950, the Commissioner made additional jeopardy assessments against the petitioners, as follows:

Year	Petitioner	Tax	Penalty
1946	W. Cleve Stokes	$ 24,633.79	$ 12,316.90
1947	W. Cleve Stokes	11,184.00	5,592.00
1949	W. Cleve Stokes and Alice Hill Pye Stokes	10,040.57	5,020.29

The additional jeopardy assessments referred to above were followed by a deficiency notice dated September 15, 1950, relating to 1946, 1947, and 1949, and addressed to W. Cleve Stokes and Alice Hill Stokes.

At the hearing respondent moved for permission to file amended answers in Docket Nos. 30929 and 31148, and the motion in respect to each docket was granted. In the amended answers respondent asked for increased deficiencies in taxes and penalties, as follows:

		Increased deficiency
Docket No.	Year
		Tax	Penalty
30929	1946	$ 24,633.79	$ 12,316.90
	1947	11,184.00	5,592.00
31148	1949	3,559.94	1,779.97
		or, alternatively,	or, alternatively,
		12,154.59	6,077.29

Also, at the hearing, respondent by leave granted by the Court was permitted to amend his answer in Docket No. 33800 so as to ask for additional liabilities of Alice Hill Stokes as transferee to correspond to the increases in deficiency asked for in Docket No. 30929.

W. Cleve Stokes commenced to operate a nursery business located at Fairground Road in Montgomery, Alabama, about September 1946. He continued to operate the nursery until November 9, 1948, on which date he transferred it to his wife, Alice Hill Stokes, without consideration. The nursery was known variously as McLean Wayside Nursery, Stokes-McLean Nursery, and W. Camellia Stokes Nursery. The nursery specialized in growing, cultivating, and selling camellias and azaleas.

The records of the nursery were consistently kept from the beginning of its operation on a cash receipts and disbursement basis and the results so reported on the petitioners' income tax returns. The books of the nursery did not take into account the plants on hand, either as capital assets or as closing inventory, at the end of each year. All operating statements for the nursery on which petitioners' returns were based consistently deducted the full amounts spent for plants and shrubs each year. The following statement represents certain data relative to the nursery business during the periods named, which have been stipulated:

	1946	1947	1948	1949
Sales	$ 904.80	$ 17,124.38	$ 19,469.58	$ 23,420.26
Shrubs purchased during year	6,597.06	25,464.34	23,174.18	24,076.17
Cost of labor capitalized	500.00	2,250.00	2,250.00
Deductible expenses	2,429.04	16,323.55	21,892.17	30,185.80

On the returns for the years in question losses were claimed from the operation of the nursery and were adjusted by respondent's agent as shown in the table below:

		Per adjustment
Year	Per returns	by agent
1946	($ 147.57)	($ 147.57)
1947	(32,169.13)	(797.83)
1948	(33,451.56)	(4,261.49)
1949	(39,266.60)	(2,505.12)

On the returns petitioners deducted in each of the taxable years 1946, 1947, 1948, and 1949, all amounts expended in the purchase of plants and shrubs for the nursery in each particular year, regardless of whether all such plants and shrubs were sold in those years. Petitioners as a general rule made a markup of 100 per cent on each plant or shrub purchased, that is to say, if a plant or shrub was purchased for $ 1, its sale price was marked up to $ 2. We find that of the sales made by petitioners in the nursery business in each of the taxable years, 50 per cent of the amount of such gross sales represented the purchase cost of such plants and shrubs sold.

During 1947, 1948, and 1950, petitioner W. Cleve Stokes made gifts to his wife, Alice Hill Stokes, without consideration, as shown below:

Jan. 7, 1947	$ 30,000 cash
Feb. 28, 1947	6,000 cash
June 13, 1947	5,000 cash
Nov. 9, 1948	Stokes nursery property
May 29, 1950-100 shares of stock of Union Bank and Trust Company

Each of the cash gifts made in 1947 was used by petitioner Alice Hill Stokes to apply on the purchase price of certain parcels of real estate purchased by her in Montgomery, Alabama.

Of the first $ 30,000 gift named above, $ 5,000 represents a cash deposit placed on August 6, 1946, to purchase the real property located on Bell Street in Montgomery from A. P. Tyson and wife. The property was paid for in full on January 7, 1947, the date of its purchase, when W. Cleve Stokes paid $ 25,000 and had title to the property placed in the name of Alice Hill Stokes. The entire gift of $ 30,000 was made on January 7, 1947, and none of it was made in 1946.

The cash gift of $ 6,000 made on February 28, 1947, was used by Alice Hill Stokes to make the downpayment on the purchase of the so-called Arrington property located at the corner of Church and Molton Streets in Montgomery, which was purchased from the Arrington estate. This property was purchased for $ 56,000, of which $ 6,000 was paid in cash as the downpayment. On March 25, 1947, the balance of $ 50,000 was borrowed on a mortgage to complete the cash payment. The mortgage contains the following language:

The indebtedness secured by this mortgage is the joint obligation of both of the grantors, and the said Alice Hill Stokes is in no way acting as surety for her husband, the money secured by this mortgage having been used as a part of the purchase price of the first parcel of real estate hereinabove described.

The cash gift of $ 5,000 made June 13, 1947, by petitioner W. Cleve Stokes to his wife, Alice Hill Stokes, was used to make the downpayment on the purchase of the so-called Minnis property located at the corner of Church and Molton Streets in Montgomery from Maggie P. Minnis. This property was immediately adjacent to the Arrington property purchased in the preceding February. This property was purchased for $ 50,000, of which $ 5,000 was paid in cash at date of purchase and a purchase money mortgage secured by this property was executed for the remaining $ 45,000. The mortgage reads, in part, as follows:

This is the joint obligation of both Mortgagors and the said Alice Hill Stokes is in no way acting as surety for her husband, the mortgage the due date of which is hereby extended being a purchase money mortgage.

On May 29, 1950, when W. Cleve Stokes transferred 100 shares of stock in Union Bank and Trust Company, Montgomery, Alabama, their fair market value was $ 3,400.

On November 9, 1948, petitioner W. Cleve Stokes made a gift to his wife of the entire nursery property by delivering to her a deed to the property. The nursery property consisted of approximately 10.8 acres of land upon which there were situated a brick house, a frame house, and a log cabin, as well as miscellaneous nursery equipment listed in the balance sheets, and growing nursery plants. Within less than 6 months after Stokes acquired this nursery property a destructive insect called the white fringe beetle was discovered on the property in March 1947. The United States Department of Agriculture immediately imposed a quarantine on this property in March 1947, which had an adverse effect on the value of the nursery to prospective purchasers. As a result of a severe freeze in 1950, approximately 100,000 azalea plants and an undetermined number of camellia plants on the nursery property were killed.

On or about January 21, 1952, W. Glenn Parker, a nephew of W. Cleve Stokes, purchased the property for $ 30,000. Due to the spreading of Montgomery residential property and the expansion of highway, sewer, water, and other facilities, the land itself enhanced in value during this entire period. Subsequently, in October 1952, part of the land was sold for small building lots for $ 17,500. The tract sold comprised approximately 10 acres of land, and did not include the brick house or the frame house.

The value of the Stokes nursery as of November 9, 1948, was $ 40,000, but from this value should be subtracted the mortgage which was against the property at that time. In other words, the value of Stokes' equity in the nursery property was $ 40,000, less the mortgage which was against the property. W. Cleve Stokes was solvent when he made the gifts of $ 30,000 to his wife January 7, 1947, $ 6,000 to her on February 28, 1947, and $ 5,000 to her on June 13, 1947, and he was not rendered insolvent by the making of said gifts, or any of them. W. Cleve Stokes was insolvent on November 9, 1948, when he transferred the nursery property and on May 29, 1950, when he transferred the 100 shares of Union Bank and Trust Company stock to his wife, Alice Hill Stokes.

On June 14, 1950, respondent filed a jeopardy assessment against petitioner W. Cleve Stokes in the amount of $ 317,360.18, and on the same date filed a jeopardy assessment against Alice Hill Stokes in the identical amount of $ 317,360.18. Liens were recorded on that date and at all times thereafter respondent "managed the operation of the nursery" and exercised complete financial control over the financial affairs of this nursery property, including the requirement that all proceeds from nursery sales and from rental on the Arrington and Minnis properties at the corner of Church and Molton Streets be deposited into the nursery account and that all withdrawals from such account first have the specific approval of respondent's representatives. The nursery continued to lose money after the jeopardy assessment was made and the lien recorded as aforesaid on June 14, 1950, and respondent insisted that the nursery property be sold. Extensive efforts were made to find a buyer for the property at the highest figure and the only buyer who could be found offered a purchase price of $ 30,000 therefor, including all growing plants and shrubs, equipment, and improvements. This was the highest price which could be obtained for the property and the offer was accepted in the late fall of 1951. The sale was consummated in January 1952, at which time respondent issued a release of his lien and in return therefor received the entire net proceeds of $ 16,120 remaining after payment of the mortgage balance and sale expenses. On January 24, 1952, respondent credited the transferee account of Alice Hill Stokes with payment in the amount of $ 16,120.

OPINION.

Some of the major issues originally raised in these proceedings have been settled by stipulation and will be given effect under Rule 50. The remaining questions before the Court are the following: (1) Was it proper for petitioners to deduct the full cost of the nursery plants and shrubs in the year purchased or should those costs be deducted as "cost of goods sold" to the extent of 50 per cent of the sales price as determined by respondent, and (2) to what extent is Alice Hill Stokes liable as a transferee of the assets of W. Cleve Stokes for taxes and penalties for the years 1946, 1947, and 1948?

A preliminary issue which was raised by the pleadings and at the hearing concerns the validity of the deficiency notice upon which Docket No. 31657 is based. Respondent contends that the language of section 272 (f) of the Internal Revenue Code referring to the making of jeopardy assessment permits the issuance of a second notice. Petitioners pleaded that the Commissioner is prohibited by section 272 (f) from issuing more than one deficiency notice in respect to the same taxable year and they still insist upon the correctness of this position in their brief.

Concededly, if the Commissioner merely determines an additional deficiency to be due after a petition to the Tax Court has been filed from the original notice, the Commissioner is limited to assertion of the increased deficiency by means of affirmative allegations in his answer. However, where a jeopardy assessment is involved, section 273 (b) requires that a notice be mailed within 60 days after the making of the assessment, if the assessment is made before any notice in respect of the tax to which the jeopardy assessment relates has been mailed under section 272 (a). And here, no notice had previously been mailed with respect to the tax liability to which the second assessment related.

The two exceptions contained in section 272 (f), referred to above (a third exception relates to fraud), are stated in the disjunctive, indicating that the Commissioner is required to follow dissimilar methods of procedure, depending upon whether he is merely asserting an increased deficiency or is making a jeopardy assessment. It would appear that the Commissioner was authorized to make the second assessment in the instant case since section 273 (c) permits him to make a jeopardy assessment "in respect of a deficiency greater * * * than that notice of which has been mailed to the taxpayer, despite the provisions of section 272 (f) prohibiting the determination of additional deficiencies, and whether or not the taxpayer has theretofore filed a petition with the [Tax Court]." Since the Commissioner was authorized to make the second jeopardy assessment in the instant case, he was required to send a second notice subsequent to the making of the second assessment. Had he failed to do so, we think that under the decisions of this Court the assessment would have been rendered invalid. Cf. J. H. Reese, 15 B. T. A. 1261, appeal dismissed (C. A. 5, February 14, 1930). The second notice was thus, in fact, mandatory by statute.

But even if we are wrong in the above holding and the deficiency notice issued in Docket No. 31657 was invalid, the Commissioner was permitted, upon a timely motion filed at the hearing, to amend his answers in the other docket numbers and affirmatively ask for increases in the deficiencies which correspond to those which he determined in Docket No. 31657. It is true, of course, that where the Commissioner amends his answer and affirmatively pleads that he should be granted increased deficiencies, the burden of proof to sustain his affirmative allegations is upon him. However, in the instant case the question is not one of where the burden of proof lies. The parties have stipulated the amounts of income which petitioner W. Cleve Stokes omitted from his 1946, 1947, and 1948 returns and the amounts of income which petitioners W. Cleve Stokes and Alice Hill Stokes omitted from their joint return filed for the year 1949. This will, of course, enable a correct computation of net income for all the taxable years under Rule 50. The amounts of net income of petitioners are to be adjusted only by the net operating losses of the nursery in each of the taxable years. There again the facts have been stipulated which will enable the determination of the operating losses of the nursery under Rule 50, depending upon our decision on Issue 1 as to how the plants purchased in each of the taxable years by the nursery should be treated in the determination of the profits or losses from the operation of the nursery.

Therefore, it seems clear to us that these matters which the parties argue so much about in their briefs will be taken care of in a computation under Rule 50.

Issue 1.

In the latter part of 1946, W. Cleve Stokes commenced to develop a nursery for the purpose of buying, selling, and growing camellias and azaleas. The operating losses claimed in 1946 to 1949 were, in large measure, the result of the nursery's practice of charging off as an expense deduction the entire cost of plants and shrubs purchased during a given year, regardless of the number of plants actually sold in that year.

Respondent contends that petitioners' method of accounting distorts income and is not authorized by the Code or regulations. Respondent contends that the gross profit of petitioners should be determined by deducting the cost of plants and shrubs only as "cost of goods sold," and in the absence of inventories he determined "cost of goods sold" to be 50 per cent of total sales. Petitioners contend that since its inception the nursery consistently kept its books on the cash basis and is entitled under the law and respondent's regulations for farmers to deduct the full costs of plants and shrubs purchased in the year when they were purchased. The cost of these shrubs and plants in the year of purchase is not in dispute.

Respondent argues that petitioners' nursery was more analogous to a retail store than a farm. However, Regulations 111, section 29.22 (a)-7, contains the following broad definition:

As herein used the term "farm" embraces the farm in the ordinarily accepted sense, and includes stock, dairy, poultry, fruit, and truck farms; also plantations, ranches, and all land used for farming operations. * * *

Moreover, in I. T. 1368, I-1 C. B. 72, a nurseryman is referred to as a farmer, and in O. D. 995, 5 C. B. 63, florists are treated like farmers.

Respondent has been lenient in his regulations governing the methods of accounting of farmers because of the difficulty of maintaining inventory records of growing crops and the unpredictable effect of nature. Consequently, a farmer is allowed to choose either the cash or accrual basis, his election thereby becoming binding. Regulations 111, section 29.22 (c)-6, states as follows:

Sec. 29.22 (c)-6. Inventories of Livestock Raisers and Other Farmers. -- A farmer may make his return upon an inventory basis instead of the cash receipts and disbursements basis. It is optional with the taxpayer which of these methods of accounting is used, but, having elected one method, the option so exercised will be binding upon the taxpayer for the year for which the option is exercised and for subsequent years unless another method is authorized by the Commissioner as provided in section 29.41-2.

In I. T. 1368, I-1 C. B. 72, respondent states, in part:

While farmers may report their gross income upon the accrual basis (in which an inventory to determine profits is used) they are not permitted to inventory growing crops for the reason that the amount and value of such crops on hand at the beginning and end of the taxable year cannot be accurately determined. * * * Nurserymen may inventory their young trees only where they have reached a marketable size and stage of development and where the market value is definitely known. * * *

This ruling goes so far as to forbid nurserymen to use an inventory except in certain situations; even where allowed it is only permissible and not mandatory. In O. D. 995, 5 C. B. 63, the respondent ruled:

Florists are not required to use inventories of growing plants for the purpose of calculating their net income for income tax purposes and should not compute the cost of goods sold during the year by using an inventory value of growing plants on hand at the beginning and end of the taxable year.

It seems clear from the foregoing that petitioners in their nursery business are to be classed as farmers and had the right to use the cash basis of accounting and they did not have to secure the permission of the Commissioner to do so. They were not required to use inventories in their computation of income or losses from the nursery business. As a matter of fact, they made no attempt to keep inventories. They had none. It was their right to have none. While it is true that petitioners in their nursery business had the right to use the cash basis of accounting and not to use inventories, and to deduct in each taxable year all of their deductible expenses incurred and paid in that year, the cost of plants and shrubs purchased in that year cannot be classed as a deductible expense. That cost has to be recovered in the year when the plants and shrubs are sold.

The applicable regulation is Regulations 111, section 29.22 (a)-7, and it reads, in part, as follows:

Sec. 29.22 (a)-7. Gross Income of Farmers. -- A farmer reporting on the basis of receipts and disbursements (in which no inventory to determine profits is used) shall include in his gross income for the taxable year (1) the amount of cash or the value of merchandise or other property received during the taxable year from the sale of live stock and produce which were raised during the taxable year or prior years, (2) the profits from the sale of any live stock or other items which were purchased, and (3) gross income from all other sources. The profit from the sale of live stock or other items which were purchased after February 28, 1913, is to be ascertained by deducting the cost from the sales price in the year in which the sale occurs, except that in the case of the sale of animals purchased as draft or work animals or solely for breeding or dairy purposes and not for resale, the profit shall be the amount of any excess of the sales price over the amount representing the difference between the cost and the depreciation theretofore allowed (but not less than the amount allowable) in respect of such property as a deduction in computing net income. [Emphasis supplied.]

Under the foregoing regulation, when the petitioners sold plants and shrubs in any particular year, in determining their gross profit from such sales, they should have deducted from the amounts received from such sales the cost of plants and shrubs sold. This method petitioners did not follow. They should have done so. See D. E. Alexander, 234">22 T. C. 234. In the Alexander case, the taxpayer was engaged in the cattle business as a cattlefeeder; he purchased cattle and yearlings which he fed from 9 to 18 months and he then sold them as beef cattle. He regularly kept his books and reported his income on a cash basis. Under his method of accounting, he consistently charged off and deducted as an operating expense the cost of cattle in the year of purchase. He did not defer the cost of cattle until the year of sale. Under the foregoing facts, we held that, although the taxpayer was on a cash basis and did not use inventories, he was required nevertheless by Regulations 111, section 29.22 (a)-7, to defer deduction of the cost of cattle until the year of sale. In the Alexander case, we said:

Petitioner's contention that, in order to comply with the regulation, he would have to use inventories, and that the respondent, in determining the deficiencies, used reconstructed inventories, is without support in the record. As set forth in the Findings of Fact, the respondent determined the deficiencies by adjusting the amount of the deduction claimed in each of the taxable years as cost of feeder cattle. He did not compute cost of sales by using inventories. * * *

We think the same may be said in the instant case and the same regulation as was applied in the Alexander case, supra, must be applied here. Petitioners, in their nursery business, as we have already said, are to be classed as farmers and section 29.22 (a)-7 is designed to cover the computation of the gross income of farmers.

Petitioners made no attempt to prove the cost of plants and shrubs sold in any particular year. They rested their whole case on the proposition that they were entitled to deduct in each of the taxable years the entire cost of plants and shrubs purchased in that year. In our report promulgated February 26, 1954, we sustained petitioners in their contention. In this, we were in error. The cost of plants and shrubs purchased in each particular year has been stipulated and if all the plants and shrubs purchased in any given year had been sold in that year, then petitioners would be sustained. But such was not the case. Petitioners make no contention that such was the case.

Respondent in his determination of the deficiencies has purported to allow petitioners a deduction as the cost of plants and shrubs sold in the amount of 50 per cent of the sales price. In addition to this determination of the Commissioner there is some testimony in the record that petitioners, when they would purchase plants and shrubs, would use a markup of 100 per cent when they were sold. That is to say, if a shrub cost $ 1, it was given a price of $ 2 as sales price. Petitioners offered no testimony to contradict it. On the strength of this testimony we have made a finding "that of the sales made by petitioners in the nursery business in each of the taxable years 50 per cent of the amount of such gross sales represented the purchase cost of such plants and shrubs sold." In a computation under Rule 50 such figure for costs should be used. For illustration, take the year 1947. It is stipulated that the sales of the nursery in that year were $ 17,124.38 and that plants and shrubs purchased during that year cost $ 25,464.34. In computing petitioners' gross profits from the $ 17,124.38 sales in that year there should be deducted $ 8,562.19 as the cost of the plants and shrubs sold. Similar computations should be made for the other taxable years which are involved.

The amount of deductible expenses of the nursery which petitioners are entitled to deduct in each of the taxable years has been stipulated and those figures will, of course, be used in a computation under Rule 50. These deductible expenses have nothing to do with the cost of plants sold.

Issue 2.

The second major issue involves the transferee liability of Alice Hill Stokes because of the following transfers made by W. Cleve Stokes, all of which were made without consideration, to Alice Hill Stokes:

Jan. 7, 1947	$ 30,000 cash paid for real estate parcel.
Feb. 28, 1947	6,000 cash.
June 13, 1947	5,000 cash.
Nov. 9, 1948	Stokes nursery property.
May  29, 1950	100 shares of stock of Union Bank and Trust Company.

Petitioner W. Cleve Stokes concedes that the foregoing transfers were made by him to his wife without consideration. He also concedes that he was insolvent when he made the transfer of the nursery property to his wife in 1948 and the 100 shares of Union Bank and Trust Company stock in 1950. He denies that he was insolvent when he made the three 1947 transfers to Alice Hill Stokes.

On January 7, 1947, there was conveyed to petitioner Alice Hill Stokes by A. P. Tyson and wife a parcel of real estate located in Montgomery, Alabama, for which the consideration of $ 30,000 was paid by W. Cleve Stokes. The petitioners contend that since a downpayment of $ 5,000 was made to Tyson in May 1946, Alice Hill Stokes received a gift of that amount in 1946. If petitioners' contention is correct she would not be liable as a transferee for the $ 5,000, since respondent has made no showing of insolvency on the part of W. Cleve Stokes in 1946 and he makes no contention that Stokes was in fact insolvent in 1946. Respondent contends, however, that Alice Hill Stokes received no unconditional right to the amount in controversy until the real estate was actually conveyed to her on January 7, 1947, and on that date the full $ 30,000 paid for the property should be considered a transfer. On May 12, 1946, W. Cleve Stokes gave A. P. Tyson, Jr., a $ 5,000 binder on a piece of real property thus acquiring an inchoate interest in the property. The fact is, however, that he did nothing further until the early part of January 1947, at which time he delivered the remaining $ 25,000 to Tyson and caused the real estate in question to be conveyed to Alice Hill Stokes.

On numerous occasions this Court has passed on the validity of alleged inter vivos gifts. One necessary requirement is that the donor must intend absolutely and irrevocably to divest himself of the title, dominion, and control of the subject matter of the gift, in praesenti. Edson v. Lucas, 40 F.2d 398">40 F. 2d 398. Cf. J. D. Varnell, 28 B. T. A. 231. Even if it be assumed, however, that Stokes made the downpayment with the idea in mind that he would eventually give the real estate to his wife, the mere act of making the downpayment is insufficient to create a valid gift in praesenti. As stated in the Edson case, supra, there must be a conveyance, assignment, or transfer sufficient to vest the legal title in the donee. Here, this was not done until 1947, when, in fact, the legal title was finally vested in Alice Hill Stokes. Since the transfer of the Tyson property was not a completed gift until January 7, 1947, it follows that Alice Hill Stokes received a $ 30,000 gift on that date.

The fair market value of the property transferred on the date of transfer must be determined to find the extent of transferee liability, if any. There is, of course, no controversy as to the value of the transfers which were made in cash. We have reviewed carefully the exhibits and testimony relating to the value of the Stokes nursery and concluded as an ultimate fact that on November 9, 1948, its fair market value was $ 40,000, but that from this value must be deducted the outstanding mortgage against the property. The parties stipulated that the 100 shares of Union Bank and Trust Company stock had a total value of $ 3,400.

A general requirement for the imposition of transferee liability is that the transferor be insolvent or thereby rendered insolvent at the time of the transfer. Ruth Halle Rowen, 18 T.C. 874">18 T. C. 874, 881; Regs. 111, sec. 29.311-1. It has been stipulated that the transferor was solvent in 1946, and insolvent in 1948. Our inquiry, therefore, is whether when Stokes made the gifts in 1947 he was insolvent or whether he was rendered insolvent thereby and Alice Hill Stokes is liable as transferee to the extent of the value of the gifts which her husband made to her in 1947. Under section 119 of the Code respondent has the burden of proving transferee liability.

On January 7, February 28, and June 13, 1947, the dates of the three transfers, the respondent contends that the transferor, W. Cleve Stokes, was insolvent, while petitioners contend respondent has not proved insolvency but that, on the contrary, petitioner W. Cleve Stokes was solvent in 1947 when each of the three 1947 gifts were made and that he was not rendered insolvent thereby. There is much evidence in the record introduced by both respondent and petitioner on this question as to whether Stokes was insolvent when he made these gifts to his wife in 1947 or, if not insolvent when he made the gifts, whether he was rendered insolvent thereby. We do not think it would be practical to discuss this evidence in detail for it would make this opinion much too long. We have carefully considered this evidence and have concluded that Stokes was not insolvent when he made the gifts nor was he rendered insolvent by reason of making them. We have made findings as to that effect in our Findings of Fact. At the time Stokes made the gifts he was the owner and operator of two very profitable businesses: W. Cleve Stokes Company, a partnership in which he owned a three-fourths interest, and Stokes Truck and Equipment Company, which made large profits until its contract to sell GMC trucks was canceled on or about September 1, 1947. That Stokes received large amounts of income from these two businesses in 1947 has been stipulated and it is these amounts of income which are largely responsible for the deficiencies which the Commissioner has determined against Stokes for the year 1947. It may well be, as respondent contends, that Stokes was insolvent at the end of the year 1947. That fact we do not have to determine. The three gifts which Stokes made to his wife in 1947 were all given in the first half of the year, the last one having been given June 13, 1947. Therefore, even if it is assumed that respondent has established that Stokes was insolvent on December 31, 1947, that fact would not establish that he was insolvent when the three gifts were made during the first half of 1947 nor would it establish that the making of such gifts caused Stokes to become insolvent. Therefore, our conclusion is that the Commissioner has not proved that Stokes was insolvent at the time the three 1947 gifts were made to his wife nor that he was made insolvent thereby. Cf. Ruth Halle Rowen, supra, third point decided therein.

As we have already said, it has been stipulated that Stokes was insolvent in 1948 when the gift of the nursery property was made and in 1950 when the gift of the bank stock was made. The only question involved as to those gifts is as to the extent of Alice Hill Stokes' transferee liability because of these transfers to her. We have found that the value of the nursery property at the time of the gift was $ 40,000, less the amount of the mortgage which stood against the property at the time of the transfer. It has been stipulated that the value of the 100 shares of Union Bank and Trust Company stock was $ 3,400 at the time of the gift. These valuations will be used in a computation of transferee liability under Rule 50.

Decisions will be entered under Rule 50.

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Footnotes

• 1. The following proceedings are consolidated herewith: W. Cleve Stokes and Alice Hill Pye Stokes, Docket No. 31148; W. Cleve Stokes and Alice Hill Stokes, Docket No. 31657; Alice Hill Pye Stokes, Transferee, Docket No. 33800.↩