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Republic Automotive Parts, Inc., Petitioner v. Commissioner of Internal Revenue, RespondentRepublic Automotive Parts, Inc. v. CommissionerDocket No. 7541-74August 30, 1977, Filed
United States Tax Court *59
Decision will be entered for the respondent .Petitioner licensed a Brazilian corporation to use petitioner's trade name, trademark, and technical knowhow in exchange for 5-percent royalty payments. The agreement provided for a 15-year term. Petitioner retained the right to terminate the agreement if the licensee did not maintain the quality of the products sold under petitioner's trade name and trademark, and licensee could not assign its interest without petitioner's written consent. An American corporation subsequently induced the licensee to breach the agreement. Petitioner sued the American corporation in tort and recovered $ 400,000 judgment.
Held , amounts received by petitioner under the judgment award were not capital gains undersec. 1221 orsec. 1231 .Sidney Bender Daniel J. Westerbeck Tietjens,Judge .TIETJENS*822 OPINION
The respondent determined a deficiency in Federal income tax against the petitioner for taxable year 1969 in the amount of $ 77,239. The issue is whether amounts received by petitioner from Borg-Warner Corp. as tort damages for wrongfully inducing the breach of a contract between the petitioner and a third party were capital gains or ordinary income.
The petitioner, Republic Automotive Parts, Inc. (Republic), is a Delaware corporation with offices at 20200 East Nine Mile Road, St. Clair Shores, Mich. 48083. Petitioner filed its corporate income tax return for taxable year 1969 with the Internal Revenue Service Center in Cincinnati, Ohio.
The facts of this case have been fully*61 stipulated pursuant to
Rule 122, Tax Court Rules of Practice and Procedure. The stipulations and exhibits attached thereto are incorporated herein by reference.Organized in 1923, petitioner has been engaged in the business of manufacturing (through others) and distributing automotive parts, primarily gears, for the replacement *823 market. During the early 1950's, petitioner was engaged in the export and sale of its products to Brazil. Petitioner had registered its trade name and insignia trademarks in Brazil and developed an active sales program there. By 1952, petitioner had become the largest seller of gears to Brazilian distributors.
In 1955, the Brazilian government acted to encourage local manufacture of auto parts and discourage imports. It did this primarily by imposing a duty on imported gears, which made them uncompetitive. Because of the restrictions, petitioner entered into a contract in July of 1955 with a Brazilian manufacturer, Maquinas York (York). Petitioner gave York an exclusive license on its "Republic" line of products in Brazil, including the manufacturing drawings, accumulated technology, trade name, and trademarks. In exchange for the license, *62 petitioner was to receive a 5-percent royalty on sales of its products by York. The license was for a fixed 15-year term, and petitioner reserved the right to continue selling and exporting its products to Brazil. After 1955, however, petitioner made no sales of its product line to Brazil; all sales were instead made by York.
Although differences arose between petitioner and York, the parties continued to operate under the license for approximately 4 years. Finally, in 1959 Borg-Warner Corp. induced York to breach its contract with the petitioner by offering York licenses on transmissions as well as gears.
On May 6, 1964, petitioner sued Borg-Warner in tort for wrongfully inducing York to breach its contract with the petitioner. After a jury trial, a judgment for petitioner was entered in the amount of $ 400,000 compensatory damages. On January 8, 1969, the judgment was affirmed by the United States Court of Appeals for the Seventh Circuit.
Republic Gear Co. v. Borg-Warner Corp ., 406 F.2d 57">406 F.2d 57394 U.S. 1000">394 U.S. 1000 (1969). Borg-Warner has paid the $ 400,000 judgment in full. After certain concessions, *63 the only issue remaining is whether $ 311,528 of the $ 400,000 judgment should be taxable to petitioner as ordinary income or capital gains.The character of amounts realized from the result of litigation or a settlement thereof is determined by the character of the assets for which the amounts were paid. *824
Farmers' & Merchants' Bank v. Commissioner , 59 F.2d 912">59 F.2d 912Estate of Carter v. Commissioner , 326">35 T.C. 326298 F.2d 192">298 F.2d 192 (8th Cir. 1962), cert. denied370 U.S. 910">370 U.S. 910 (1962);Raytheon Production Corp. v. Commissioner , 1 T.C. 952">1 T.C. 952144 F.2d 110">144 F.2d 110 (1st Cir. 1944), cert. denied323 U.S. 779">323 U.S. 779 (1944). Thus damages recovered for loss of profits, whether recovered in tort or contract, are taxable as ordinary income;Commissioner v. Gillette Motor Transport, Inc ., 364 U.S. 130">364 U.S. 130Estate of Carter v. Commissioner, supra ; Raytheon Production Corp. v. Commissioner, supra Durkee v. Commissioner , 184">162 F.2d 1846 T.C. 773">6 T.C. 773 (1946);Farmers' & Merchants' Bank v. Commissioner, supra .In determining whether the judgment awarded the petitioner is to be characterized as ordinary income or capital gains, we must therefore look to the underlying asset for which the judgment was awarded. See also
Swastika Oil & Gas Co. v. Commissioner , 123 F.2d 382">123 F.2d 382Republic Gear Co. v. Borg-Warner Corp., supra .Under the contract, petitioner granted York a license to use petitioner's manufacturing drawings and accumulated technology (knowhow), trade name, and trademarks. It is very clear from the agreement that only a license was granted; no sale was intended. Petitioner retained the right to inspect the products manufactured by York under the Republic label. Any failure by York to maintain the quality standards established by the petitioner was considered a breach of the contract, allowing the petitioner to terminate it. York could not assign its interest without the petitioner's written consent. And the contract was for a fixed term of 15 years. All of this leads to the inescapable conclusion that petitioner did not sell its trade name, trademark, and knowhow to York but *825 merely licensed York to use them during the term of the contract; petitioner retained substantial rights in those assets.
Pickren v. United States , 378 F.2d 595 (5th Cir. 1967)Taylor-Winfield Corp. v. Commissioner , 57 T.C. 205">57 T.C. 205467 F.2d 483">467 F.2d 483 (6th Cir. 1972);PPG Industries, Inc. v. Commissioner , 55 T.C. 928">55 T.C. 928Moreover, we think that upon formation of the contract, petitioner's trade name, trademark, and knowhow each had a useful life well in excess of the contract's 15-year term. Although the Brazilian government in 1955 began imposing duties on imported gears, this did not destroy the goodwill or reputation previously established by petitioner in that country. Practically, it prevented petitioner from distributing American manufactured gears in Brazil. But petitioner's trade name and trademark were still indefinitely available for use in Brazil by the petitioner or its assigns. The same is true with respect to the petitioner's drawings and accumulated technology. There is nothing in the stipulated facts to indicate that upon formation of the contract, petitioner's technical knowhow would be worthless at the end of the contract. Thus we find the contract to be*67 a license to use petitioner's trade name, trademark, and technical knowhow, not a sale of them.
Amounts realized by a lessor from the sale, exchange, or other disposition of a lease to use a capital asset do not qualify for capital gains treatment.
Hort v. Commissioner , 313 U.S. 28">313 U.S. 28Pickren v. United States, supra PPG Industries, Inc. v. Commissioner, supra Estate of Carter v. Commissioner, supra .Hort , a license to use a capital asset is merely a right to future income payments. See alsoKathman v. Commissioner , 50 T.C. 125 (1968)Aircraft Mechanics, Inc. v. Commissioner , 30 T.C. 1227">30 T.C. 1227Pickren v. United States, supra at 600Petitioner alternatively contends that the proceeds from its judgment award are entitled to capital gains treatment under
section 1231 . In order to so qualify, the gains must be realized from the sale, exchange, or involuntary conversion of "property used in the trade or business" of the taxpayer or from the involuntary conversion of a capital asset.Sec. 1231 . We do not consider petitioner's rights in its contract with York to be asection 1231 asset. In this regard we findCommissioner v. Gillette Motor Transport, Inc., supra at 134-135sections 1221 and1231 and, therefore, may not be accorded capital gains treatment. See alsoCommissioner v. P. G. Lake, Inc ., 356 U.S. 260 (1958)Decision will be entered for the respondent .
Document Info
Docket Number： Docket No. 7541-74
Citation Numbers： 68 T.C. 822, 1977 U.S. Tax Ct. LEXIS 59
Judges： Tietjens
Filed Date： 8/30/1977
Precedential Status： Precedential
Modified Date： 10/19/2024
Authorities (11)
