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HAROLD A. AND MOLLY S. SIGMON, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSigmon v. CommissionerDocket No. 16111-83
United States Tax Court T.C. Memo 1988-377; 1988 Tax Ct. Memo LEXIS 405; 55 T.C.M. (CCH) 1567; T.C.M. (RIA) 88377;August 15, 1988; As amended August 16, 1988 Bart A. Brown, Jr. Michael H. Brown, for the petitioners.*406Robert J. Kastl ,HAMBLENMEMORANDUM FINDINGS OF FACT AND OPINION
HAMBLEN,
Judge: Respondent determined deficiencies in petitioners,Year Deficiency 1972 $ 99,621.56 1973 54,719.44 1975 258,444.79 1976 584,429.34 1977 128,114.92 After concessions by the parties, *407 whether the failure of these entities to repay these loans gave rise to business or nonbusiness bad debts deductible on petitioner's 1979 Federal income tax return. *408 at the time they filed their petition with the Court.
The 1979 Return and Amended Return Petitioners filed a timely joint Federal income tax return for the 1979 tax year with the Memphis Service Center, Memphis, Tennessee. Included on that return was a net loss of $ 279,363, shown on Schedule C, Profit or (Loss) From Business or Profession, for "Harold A. Sigmon & Associates" (hereinafter referred to as "Associates"). The Schedule C described Associates' main business activity as investment and management. Associates was the trade name under which Sigmon conducted some of his various affairs.
Also included in the 1979 return was a statement indicating that the return for 1979 was incomplete because, among other things:
Various assets of the taxpayers, including their personal residence, were sold by creditors in 1979 in payment of loan guarantees for controlled corporations. The entire loss to the taxpayers is indeterminable at this time and has not been included, except for those items where the amounts are known.
Taxpayers have advanced funds to several controlled corporations, some of which became uncollectible in 1979. All of these losses have not been claimed, *409 since some of the adjusted amounts have not been established. This statement also indicated the amended returns would be filed to report the above items when the necessary information became available.
Petitioners filed an amended 1979 joint Federal income tax return (hereinafter referred to as the "1979 amended return"), received by the Memphis Service Center on October 19, 1983, which showed a negative adjusted gross income of $ 2,668,393. The 1979 amended return, among other things, amended the Schedule C filed for Associates with the original 1979 return. This amended Schedule C showed a "corrected" net loss for Associates of $ 2,751,726.
On the amended Schedule C for Associates, petitioners claimed a bad debt deduction for amounts allegedly due Associates as set forth below:
Name Amount Superior River Coal Co. $ 248,490 Blue Grass Coal Company, Inc. 447,380 Quality Coal Sales 78,826 Quality Processing, Inc. 47,500 Elar Coal Corp. 50,000 Carl Collins 207,196 Fred Cornett 16,856 William Eldridge 189,139 Johnny Franks 75,673 Total $ 1,361,060 Also on this amended Schedule C, petitioners claimed*410 bad debt deductions in the amounts of $ 1,147,791 for additional amounts allegedly due petitioner from Superior River Coal Co. ("Superior River") and $ 196,387 for amounts allegedly due petitioner from Sigmon-Elkhorn Coal Corporation ("Sigmon-Elkhorn").
Respondent challenges for 1979 the bad debt deductions described above. As a result, for purposes of this case, respondent claims that petitioners' adjusted gross income for their 1979 year is in the amount of $ 132,618. In this case, however, petitioners have put into issue, through the evidence presented at trial and their briefs, the deductibility in 1979 of only the following items:
Retained earnings or (deficits) reflected on balance sheets filed with tax returns for the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn were as follows:
Tax Years Ending in Company 1976 1977 1978 1979 The Elmon Group: Superior River ($ 19,205) ($ 83,887) ($ 64,184) Not filed Elmon No activity ( 1,646) ( 7,338) ($ 7,338) S.C.E. Not filed ( 127,311) ( 338,401) Not filed The Blue Grass Group: Blue Grass ($ 70,620) ($ 147,907) $ 81,978 Not filed Mary Beth Not filed ( 85,067) ( 338,376) Not filed C&S Fuels Not filed ( 29,080) ( 922,558) Not filed Sigmon-Elkhorn Not filed ($ 262,348) $ 612,204) Not filed *446 Capital stock, paid-in or capital surplus, and undistributed loss reflected on balance sheets filed with the tax returns for the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn are as follows:
Tax Years Ending in Company 1976 1977 1978 1979 The Elmon Group: Superior River Common Stock None shown $ 500,000 $ 500,000 Not filed Elmon Common Stock $ 1,000 1,000 1,000 $ 1,000 Undistributed Loss ( 114,953) ( 837,102) (1,210,844) S.C.E. Common Stock Not filed 1,000 1,000 Not filed The Blue Grass Group: Blue Grass Capital Stock 2,000 900,950 900,950 Not filed Paid-in or Capital Surplus 199,600 none shown none shown Not filed Mary Beth Common Stock Not filed 2,000 2,000 Not filed C&S Fuels Common Stock Not filed None shown 2,000 Not filed Sigmon-Elkhorn Common Stock Not filed $ 250,000 $ 250,000 Not filed Total assets, including intercompany receivables, *447 sheets filed with the tax returns for the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn are as follows:
Tax Years Ending in Company 1976 1977 1978 1979 The Elmon Group: Superior River $ 10,379 $ 1,494,368 $ 2,909,391 Not filed Elmon No activity 1,615,707 2,059,851 $ 745,618 S.C.E. Not filed 138,830 454,259 Not filed The Blue Grass Group: Blue Grass $ 1,024,729 $ 3,271,885 $ 3,972,594 Not filed Mary Beth Not filed 14,246 12,364 Not filed C&S Fuels Not filed 253,965 86,053 Not filed Sigmon-Elkhorn Not filed $ 4,955,114 $ 5,151,358 Not filed Total liabilities, including intercompany payables, reflected on balance sheets filed with tax returns for the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn are as follows:
Tax Years Ending in Company 1976 1977 1978 1979 The Elmon Group: Superior River $ 29,584 $ 1,078,255 $ 2,473,575 Not filed Elmon No activity 1,731,306 2,903,288 $ 1,962,800 S.C.E. Not filed 265,141 791,660 Not filed The Blue Grass Group: Blue Grass $ 893,749 $ 2,518,842 $ 2,989,666 Not filed Mary Beth Not filed 97,313 348,740 Not filed C&S Fuels Not filed 283,045 1,006,611 Not filed Sigmon-Elkhorn Not filed $ 4,967,462 $ 5,513,562 Not filed *448 Owners' equity (total assets minus total liabilities), including intercompany transactions, for the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn are as follows:
Tax Years Ending in Company 1976 1977 1978 1979 The Elmon Group: Superior River ($ 19,205) $ 416,113 $ 435,816 Not filed Elmon No activity ( 115,599) ( 843,437) ($ 1,217,182) S.C.E. Not filed ( 126,311) ( 337,401) Not filed The Blue Grass Group: Blue Grass $ 130,980 $ 753,043 $ 982,928 Not filed Mary Beth Not filed ( 83,067) ( 336,376) Not filed C&S Fuels Not filed ( 29,080) ( 920,558) Not filed Sigmon-Elkhorn Not filed ($ 12,348) $ 362,204) Not filed Notes or accounts receivable due from related corporations reflected on balance sheets filed with the tax returns for the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn are as follows:
Tax Years Ending in Company 1976 1977 1978 1979 The Elmon Group: Superior River -0- -0- $ 1,615,243 Not filed Elmon No activity $ 913,096 1,108,340 $ 573,151 S.C.E. Not filed -0- -0- Not filed The Blue Grass Group: Blue Grass -0- $ 26,000 $ 948,222 Not filed Mary Beth Not filed -0- 12,632 Not filed C&S Fuels Not filed -0- -0- Not filed Sigmon-Elkhorn Not filed -0- -0- Not filed *449 Notes or accounts payable due to related corporations reflected on balance sheets filed with the tax returns for the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn are as follows:
Tax Years Ending in Company 1976 1977 1978 1979 The Elmon Group: Superior River -0- -0- $ 205,107 Not filed Elmon No activity $ 515,904 -0- -0- S.C.E. Not filed 15,369 37,518 Not filed The Blue Grass Group: Blue Grass -0- -0- 1,051,301 Not filed Mary Beth Not filed -0- 249,258 Not filed C&S Fuels Not filed -0- -0- Not filed Sigmon-Elkhorn Not filed 638,072 1,127,181 Not filed Total assets, liabilities, and owners' equity, eliminating intercompany transactions, for these companies are as follows:
*450Tax Year Ending in Company 1976 1977 Total Assets: Elmon Group: Superior River $ 10,379 $ 1,494,368 Elmon No activity 702,611 S.C.E. Not filed 138,830 The Blue Grass Group: Blue Grass 1,024,729 3,245,885 Mary Beth Not filed 14,246 C&S Fuels Not filed 253,965 Sigmon-Elkhorn Not filed 4,955,114 Total $ 1,035,108 $ 10,805,019 Total Liabilities: Elmon Group: Superior River $ 29,584 $ 1,078,255 Elmon No activity 1,215,402 S.C.E. Not filed 249,772 The Blue Grass Group: Blue Grass 893,749 $ 2,518,842 Mary Beth Not filed 97,313 C&S Fuels Not filed 283,045 Sigmon-Elkhorn Not filed 4,329,390 Total $ 923,333 $ 9,772,019 Owners' Equity: Elmon Group: Superior River ($ 19,205) $ 416,113 Elmon No activity ( 512,791) S.C.E. Not filed ( 110,942) The Blue Grass Group: Blue Grass 130,980 727,043 Mary Beth Not filed ( 83,067) C&S Fuels Not filed ( 29,080) Sigmon-Elkhorn Not filed 625,724 Total $ 111,775 $ 1,033,000 Tax Year Ending in Company 1978 1979 Total Assets: Elmon Group: Superior River $ 1,294,148 Not filed Elmon 951,511 $ 172,467 S.C.E. 454,259 Not filed The Blue Grass Group: Blue Grass 3,024,372 Not filed Mary Beth 12,364 Not filed C&S Fuels 86,053 Not filed Sigmon-Elkhorn 5,151,358 Not filed Total $ 10,974,065 $ 172,467 Total Liabilities: Elmon Group: Superior River $ 2,268,468 Not filed Elmon 2,903,288 $ 1,962,800 S.C.E. 754,142 Not filed The Blue Grass Group: Blue Grass 1,938,365 Not filed Mary Beth 99,482 Not filed C&S Fuels 1,006,611 Not filed Sigmon-Elkhorn 4,386,381 Not filed Total $ 13,356,737 $ 1,962,800 Owners' Equity: Elmon Group: Superior River ($ 974,320) Not filed Elmon ( 1,951,777) ($ 1,790,333) S.C.E. ( 299,883) Not filed The Blue Grass Group: Blue Grass 1,086,007 Not filed Mary Beth ( 87,118) Not filed C&S Fuels ( 920,558) Not filed Sigmon-Elkhorn 764,977 Not filed Total ($ 2,382,672) ($ 1,790,333) *451 The debt-to-equity ratios (total liabilities divided by owners' equity), eliminating intercompany transactions, for these companies, in the aggregate, for the tax years ending in 1976 and 1977, were 8.3 to 1 and 9.5 to 1, respectively. *452 money from Superior River or Blue Grass.
Sigmon was president and the person in charge of Quality Processing, Quality Coal, Consolidated Trucking, Blue Grass, Superior River, Wolfe Corporation, Mary Beth, Elmon, S.C.E., Sigmon-Elkhorn, C&S Fuels, and Al Mining.
Superior River, Elmon, S.C.E., Blue Grass, Mary Beth, C&S Fuels, and Sigmon-Elkhorn were related corporations. These corporations were so integrally related operationally and financially that the success or failure of one would impact upon the others. Funds provided by petitioner to Superior River and its related corporations were required for their continued existence as start-up companies. Generally, no notes existed for advances by petitioner to the various corporations he controlled. With the exception of $ 10,799 reported for the year 1978, no interest was paid by corporations controlled by petitioner with respect to advances he made to those corporations.
The coal business is a very risky business. Sigmon's coal operations were structured through multiple corporations in an attempt to reduce losses should a major catastrophe occur. Substantial amounts of loans and intercompany receivables and payables existed*453 among Sigmon's related corporations. No notes existed relative to intercompany advances made among the various corporations controlled by petitioner.
From 1974 on, Sigmon made numerous investments and investigated numerous investment opportunities. During the years in issue, Sigmon did not receive any fee, at least in a traditional fee-paying arrangement, for promoting and developing corporations or for making loans to corporations. Sigmon's investment in Superior River, Elmon, S.C.E., Blue Grass, Mary Beth, C&S Fuels, and Sigmon-Elkhorn was not part of any business of promoting, financing, or making loans to corporations.
We found Sigmon to be evasive. He had selective recall about transactions occurring in 1975 through 1979, and "convenient" memory lapses about certain relevant issues. He was not a credible witness.
OPINION
Section 166 generally allows deductions for debts which become worthless. Sec. 166(a). To be entitled to the deduction, petitioner must prove the existence of a bona fide debtor-creditor relationship which obligates the debtor to pay petitioner a fixed or determinable sum of money. A gift or contribution of capital cannot be considered a debt. *454
Sec. 1.166-1(c), Income Tax Regs. With respect to noncorporate taxpayers, and for the purposes of this case, the debt must be "created or acquired * * * in connection with" the taxpayer's trade or business. If the debt is not so created or acquired, it is a "nonbusiness debt," and the loss on the worthlessness of the debt is deductible only as a short-term capital loss. Sec. 166(d).Losses incurred with respect to guarantees of loans may also be deductible as bad debts under certain circumstances. If a taxpayer sustains a loss as a result of discharging his obligation as a guarantor of a corporate obligation, the loss is generally deductible as a nonbusiness bad debt if the guarantee is a transaction entered into for profit. However if the loss was incurred in connection with the guarantor's trade or business, payments in satisfaction of the guarantee are fully deductible business bad debts. See
sec. 1.166-9(b), Income Tax Regs. ;Putnam v. Commissioner, 352 U.S. 82">352 U.S. 82Sec. 1.166-9(c), Income Tax Regs. ;Casco Bank & Trust Co. v. United State, 544 F.2d 528">544 F.2d 528430 U.S. 907">430 U.S. 907 (1977);Santa Anita Consolidated Inc. v. Commissioner, 50 T.C. 536">50 T.C. 536French v. United States, 487 F.2d 1246">487 F.2d 1246Dixie Dairies Corp. v. Commissioner, 74 T.C. 476">74 T.C. 476, 493 (1980)Thompson v. Commissioner, 73 T.C. 878">73 T.C. 878Welch v. Helvering, 290 U.S. 111">290 U.S. 111Dixie Dairies Corp., supra ; Rule 142.In resolving the issue of whether advanced funds*456 or a shareholder/guarantor's payment of corporate obligations are a capital contribution or debt, this Court and others have considered a myriad of factors.
Dixie Dairies Corp. v. Commissioner, 74 T.C. at 493Byerlite Corp. v. Williams, 286 F.2d 285">286 F.2d 285Litton Business Systems, Inc. v. Commissioner, 61 T.C. 367">61 T.C. 367Fin Hay Realty Co. v. United States, 398 F.2d 694">398 F.2d 694Smith v. Commissioner, 370 F.2d 178">370 F.2d 178Estate of Mixon v. United States, 464 F.2d 394">464 F.2d 394Wood Preserving Corp. of Baltimore v. United States, 347 F.2d 117">347 F.2d 117Byerlite Corp. v. Williams, 286 F.2d at 291Estate of Mixon v. United States, 464 F.2d at 402Gooding Amusement Co. v. Commissioner, 23 T.C. 408">23 T.C. 408236 F.2d 159">236 F.2d 159 (6th Cir. 1956); (6) the ratio of debt-to-equity;Post Corp. v. United States, 640 F.2d 1296">640 F.2d 1296A. R. Lantz Co. v. United States, 424 F.2d 1330">424 F.2d 1330Wood Preserving Corp. of Baltimore v. United States, 347 F.2d at 119C. M. Gooch Lumber Sales Co. v. Commissioner, 49 T.C. 649">49 T.C. 649406 F.2d 290">406 F.2d 290 (6th Cir. 1969); (9) the recipient's ability to obtain financing from an independent lender;Smith v. Commissioner, 37 F.2d at 180;Georgia-Pacific Corp. v. Commissioner, 63 T.C. 790">63 T.C. 790Dixie Dairies Corp. v. Commissioner, 74 T.C. at 494-495Charter Wire, Inc. v United States, 309 F.2d 878">309 F.2d 878372 U.S. 965">372 U.S. 965 (1963);Litton Business Systems, Inc. v. Commissioner, 61 T.C. at 378Matter of Uneco, Inc., 532 F.2d 1204">532 F.2d 1204Post Corp. v. United States, 640 F.2d at 1304Green Bay Structural Steel, Inc. v. Commissioner, 53 T.C. 451">53 T.C. 451Golsen v. Commissioner, 54 T.C. 742">54 T.C. 742 (1970)445 F.2d 985">445 F.2d 985 (10th Cir. 1971), cert. denied404 U.S. 940">404 U.S. 940 (1971).In
Road Materials v. Commissioner, 407 F.2d 1121">407 F.2d 1121The Fourth Circuit also has considered such factors as: the relationship of the one advancing the funds to the stockholdings of the company receiving the funds; the presence or absence of written instruments evidencing the advances; the presence or absence of security; the presence or absence of a schedule of repayment; the real intent of the parties considering all the relevant surrounding circumstances; whether repayment of the loan depended on the future success of the business; how the parties treated the advances; whether the notes were subordinated to other debts; and whether the advances were in proportion to the equity interest of the shareholders. See
Piedmont Minerals Co. v. United States, 429 F.2d 560">429 F.2d 560Wood Preserving Corp. of Baltimore, Inc. v. United States, supra ; *460Jewell Ridge Coal Corp. v. Commissioner, 318 F.2d 695">318 F.2d 695Wachovia Bank & Trust Co. v. United States, 288 F.2d 750">288 F.2d 750Wood Preserving Corp. of Baltimore, Inc. v. United States, 347 F.2d at 119The court in
Road Materials also noted that bookkeeping entries were not determinative and that the substance of the transaction determined the tax consequences, not the form. We are not required to accept petitioner's testimony that the parties intended to create a debtor-creditor relationship. Instead, we must determine from all the surrounding facts and circumstances that an unconditional obligation to repay the advances existed notwithstanding the lack of success of the venture.Road Materials v. Commissioner, 407 F.2d at 1124Wachovia Bank & Trust Co. v. United State, supra. Dixie Dairies Corp. v. Commissioner, 74 T.C. at 494John Kelley Co. v. Commissioner, 326 U.S. 521">326 U.S. 521Dixie Dairies Corp. v. Commissioner, 74 T.C. at 493[t]he determinative question, to which an evaluation of the various independent factors should ultimately point, is as follows: Was there a genuine intention to create a debt, with a reasonable expectation of repayment, and did that intention comport with the economic reality of creating a debtor-creditor relationship?
Litton Business Systems, Inc. v. Commissioner, 61 T.C. at 377Gilbert v. Commissioner, 74 T.C. 60">74 T.C. 60Byerlite Corp. v. Williams, 286 F.2d at 291Gooding Amusement Co. v. Commissioner, 23 T.C. at 421With these principles in mind, we now examine the separate transactions in issue to determine whether the advances or payments on guarantees constitute debt or contributions to capital.
Promissory note due Sigmon from Superior River This item, in the amount of $ 242,426.83, represents the balance outstanding of the $ 245,000 Sigmon advanced to Superior River on October 22, 1976. This advance was evidenced by a promissory note bearing interest at a rate of six percent. It was recorded as a note receivable on Associates' books and records and a note payable on Superior River's books and records.
Petitioner claims that this advance was a bona fide loan to Superior*463 River. Respondent, on the other hand,contends that this advance was a contribution to the capital of Superior River. Upon consideration of all the relevant facts and circumstances, we agree with respondent that, in reality, this advance was a contribution to capital.
In support of his contention that the advance was a loan, petitioner points to the fact that both Associates and Superior River consistently recorded the advance as a loan. Bookkeeping entries, however, are not determinative. Substance, not form, controls.
Road Materials v. Commissioner, supra. United States v. Henderson, 375 F.2d 36">375 F.2d 36389 U.S. 953">389 U.S. 953 (1967).Although the advance was evidenced by a promissory*464 note, the note was unsecured. Sigmon reported no interest income from Superior River on his 1978 tax return and it appears that no interest in fact was paid. Associates' books and records show one payment of principal in the amount of $ 2,573.17 made on this advance; thus, this payment, if in fact made, appears to have been made outside the terms of the note which required payments to be applied first to interest and then any balance applied to principal. Moreover, repayment of this advance depended upon Superior River's future success and the risk of Superior River failing was high.
The advance was not proportional to Sigmon's equity interest in Superior River. *465 nonproportionality and repayments help support the argument that this advance constituted a bona fide debt, these factors are not conclusive and must be considered with all the evidence. See
Diamond Bros. Co. v. Commissioner, 322 F.2d 725">322 F.2d 725Texas Farm Bureau v. United States, 725 F.2d 307">725 F.2d 307*466 The coal business being a risky business,a true lender would demand a high rate of interest. The note here provides for only a six percent rate which appears to be rather low interest rate considering the risk involved. It is clear that Sigmon was not seriously expecting any substantial interest income, but was interested in the future earnings of the corporation, or the increased market value of his interest. See
Curry v. United States, 396 F.2d 630">396 F.2d 630The record does not show what Superior River's debt-to-equity ratio was at the time that the advance was made. Barrett stated that at the time Superior River was recapitalized, they believed one million dollars would be sufficient, at least, as a down payment for the barge facility and some equipment and that one-half of this one million dollars would come from debt. Thus, at a minimum, the debt-to-equity ratio at that time was one to one. It appears, however, that this 1-to-1 ratio misrepresents the true debt position of Superior River since indebtedness more than likely incurred in*467 starting-up the barge facility's operations is not reflected in that calculation. *468 year in which the advance was made) was 9.5 to 1. This ratio indicates that the companies as a group were thinly capitalized. The large deficits in retained earnings and negative owners' equity for most of these companies also supports our finding that the integrated coal business operated by Sigmon was thinly capitalized. This factor further supports our conclusion that this advance represented a contribution to capital.
Moreover, it appears that Superior River could not have secured similar loans from disinterested parties. Although the note did contain a fixed maturity date, it was unsecured and payments were based on tonnage of coal processed. Since*469 the note was not secured, it was in essence subordinated to other secured creditor obligations. Superior River had deficits in retained earnings for all years of its existence, and, except for fiscal year ending July 31, 1978,
Fin Hay Realty Co. v. United States, 398 F.2d at 697Gilbert v. Commissioner, 248 F.2d 399">248 F.2d 399359 U.S. 1002">359 U.S. 1002 (1959).*470
Open account indebtedness due Associates from Superior River This item, in the amount of $ 29,535.70, represents the balances outstanding ($ 16,533.54 shown in Account 116 and $ 13,002.16 shown in Account 135-A) on advances Sigmon through Associates made at various times to Superior River. For the reasons set forth above and below, we believe that these advances also were contributions to capital.
The record does not show the exact dates on which these advances were made. The entries in Associates' general ledger show a date of December 31, 1979 (apparently the date of posting to that ledger). *471 These advances were unsecured, were not evidenced by written instruments, had no fixed maturity date, or any provision for repayment of principal or interest. No interest was paid on these advances. The advances in essence were subordinated to the debts of Superior Rivers's secured creditors.
Sigmon had complete control over Superior River. We further believe that, at the time these advances were made, no funds could be borrowed from outside sources and Sigmon had no reasonable expectation of repayment. Petitioner has presented no evidence to establish otherwise. Since petitioners bear the burden of proof, they must suffer the consequences of an inadequate record. See
Samis v. Commissioner, 76 T.C. 609">76 T.C. 609The absence of fixed, realistic dates for repayment, the failure to provide for meaningful enforcement mechanisms, the dependence of Superior River upon its earnings to repay the advances, the defacto subordination of the Superior River debt to other debt, and the lack of emphasis on interest cut strongly against the notion that the advances were debt. Analysis of these factors shows us the true and unambiguous nature of Sigmon's advances to*472 Superior River. Sigmon hoped to profit by his relationship with Superior River and, thus, furnished the capital in the form of these advances to keep it going. See
Texas Farm Bureau v. United States, 725 F.2d 307">725 F.2d 307According to Sigmon, he made the loans
Tokarski v. Commissioner, 87 T.C. 74">87 T.C. 74, 77 (1986)Although*473 repayments were made on these advances and the advances were treated consistently on Associates' and Superior River's books and records as loans -- indications of bona fide debts -- these factors are outweighed by the other factors which point in the direction of capital contributions. The circumstances suggest that these advances were placed at the risk of the business and, consequently, are to be treated as capital contributions.
Our conclusion that these advances were in the nature of contributions to capital is bolstered by the following exchange between petitioners' counsel and Maxwell Barrett:
[Bart A. Brown, Jr.]
Q. Max, a final question. As you all planned the Superior River groups of companies and the Blue Grass groups of companies, was it anticipated that Harold would lend the tremendous sums to these companies that he ended up lending?
[Maxwell Barrett]
A. No, it really wasn't. Q. What happened? A. Well, those things I spoke about earlier in the market, and the costs that were incurred in the changes in the strip mine legislation and the Mine Safety and Health Act. It just imposed higher costs in a declining a market [sic] through that period*474 of time.
Q. And the deeper you got in, the more you chased it? A. Well, you had to, Bart. It was either that or walk away; and even if you walked away, you couldn't -- it wasn't just a matter of just what you had with all these guarantees out there outstanding; with reclamation bonds. I have no idea now, but millions of dollars of reclamation obligations that were bonded and that we had indemnity agreements on. It was a matter of -- you could try to mitigate losses to a degree and hold on. I mean, you were still -- even through all this time with the market going the way it was and the operating difficulties, you still had people out buying coal companies, and serious buyers that were -- and these companies had their right elements. It was just a -- it just didn't work. And then, as you got into some operating disarray there at the end, and that possibility ceased to exist.
This exchange supports our belief that Sigmon advanced the funds to protect his original capital investment in Superior River and at the risk of the success of that business. See
Wachovia Bank & Trust Co. v. United States, 288 F.2d at 756Indebtedness due Sigmon from Superior River as a result of Sigmon's satisfaction of Superior River's obligation to First National Bank of Louisville This item, in the amount of $ 1,107,312.10, represents the amount of Sigmon's personal assets which were applied, pursuant to Sigmon's guarantee, against indebtedness Superior River owed on its inventory and receivables line of credit with First National. For the reasons set forth above and below, we agree with respondent that this amount also represented a contribution to capital.
Although the record is not clear on this point, it appears likely that Sigmon was the only Superior River shareholder who had sufficient personal wealth to guarantee the First National inventory and receivables line of credit. Moreover, the record clearly establishes that Sigmon was in complete control of Superior River and was to be its financier. Therefore, we believe that it is of no consequence that the remaining shareholders were not required also to guarantee this indebtedness.
As stated above, Sigmon had complete control over all phases of Superior River's operations. Sigmon received*476 no consideration from Superior River for extending the guarantee, nor did he receive any security as protection when he exposed himself to the liability. It appears that, although mining is a very risky business, Sigmon made no substantial effort to restrict his exposure on the guarantee or to eliminate it altogether at some future time. See
Kavich v. United States, 507 F. Supp. 1339">507 F.Supp. 1339Plantation Patterns, Inc. v. Commissioner, 462 F.2d 712">462 F.2d 712Based on these circumstances, we find that, as a matter of economic reality, Sigmon's payment *477
Open account indebtedness due Associates from Blue Grass This item, in the amount of $ 447,199.08, represents the balances outstanding ($ 407,999.08 shown in account 121 and $ 39,200 shown in account 131) on advances Sigmon made at various times to Blue Grass. For the reasons stated above and below, we agree with respondent that these advances represent contributions to Blue Grass' capital.
Sigmon also was in complete control of Blue Grass. These advances were unsecured, were not evidenced by written instruments, had no fixed maturity date, or any provision for repayment of principal or interest. No interest was paid on these advances. No repayments were made on account number 131. Repayments made on account number 121 were in varying amounts, at irregular intervals, and were insignificant in amount in comparison to the amount of the advances. *478 or the sale of the company. The gamble of possible future earnings sufficient to pay the debt or the possible sale of the company does not warrant finding the advance to be debt. See
Funk v. Commissioner, 35 T.C. 42">35 T.C. 42The parties have stipulated that Blue Grass recorded the advances as payables to Associates and Associates recorded the advances as accounts or notes receivable from Blue Grass. This factor is indicative of a loan. We believe, however, that this factor is inconsequential in light of the other factors which support*479 our finding that the advances were loans.
Petitioners presented testimony that Sigmon had not intended to operate the Blue Grass Group over a long period of time, but intended merely to build an operating company or companies for resale. While we are not persuaded as to the veracity of this testimony, assuming arguendo that Sigmon did want to profit from a quick sale of the Blue Grass Group as soon as an appropriate purchaser could be found, this objective is not inconsistent with an investment motive in advancing these funds to Blue Grass. *480 see
supra. The record does not show how the funds were used; however, it appears likely that the funds were utilized either to complete construction of the coal tipple or to meet expenses needed to commence operations. This is indicative of a contribution to capital. See
United States v. Henderson, supra. We have considered petitioner's other arguments and find them to be unpersuasive. From this record, we are persuaded that these advances were placed at the risk of the business;consequently, we find that they also are to be treated as capital contributions.
Although some factors support petitioner's contention that the advances and payment on his guarantee in issue were true debts, the weight of the evidence on the whole indicates that in fact they were contribution to capital. Petitioner simply has failed to sustain his burden of proof in this case. Therefore, we find that all of the items put in issue, in actuality, were contributions to the capital of the appropriate company.
Since we conclude that all of the advances and the guarantee put in issue were contributions to capital and not bona fide debts, it is not necessary for us to decide whether*481 petitioner was engaged in the business of promoting, financing, and making loans to corporations or whether the advances or payment on the guarantee were business or nonbusiness bad debts. *482 To reflect the foregoing,
Decision will be entered under Rule 155. Footnotes
1. Petitioner Molly S. Sigmon, other than being named as a payee with Harold A. Sigmon (hereinafter referred to as "Sigmon" or "petitioner") on a "Secured Promissory Note" executed by Superior River Coal Company, Inc. and Elmon Corporation in the amount of $ 600,000 and a Mortgage Deed and Security Agreement relating thereto, see
infra,↩ and was not a party to the transactions involved in this case and is a petitioner in this action solely by reason of filing joint Federal income tax returns with Sigmon for each of the taxable years involved.2. The parties entered into a stipulation of partial settlement settling all but one of the issues involved in this case. As a result, a computation under Rule 155 is necessary. Such a computation can be made, however, only after a final decision is rendered in a related consolidated case as to issues involving the Wolfe County Coal Corporation, see n.12
infra.↩ Petitioners have agreed to be bound by the results of that case.3. Although the 1979 tax year itself is not directly involved in this case, petitioners have claimed net operating loss deductions for some of the years in issue as a carryback from petitioners' 1979 year. Resolution of the issue of the amount of any allowable net operating loss deduction depends upon the Court's determination of the issues enumerated above. ↩
4. All other items on the 1979 return or 1979 amended return have not been put in issue and, consequently, are not before the Court and will not be considered by the Court. See
Markwardt v. Commissioner, 64 T.C. 989">64 T.C. 9895. The dates and amounts received pertaining to this sale are as follows:
↩ Date Principal Interest Total 7/26/74 $ 1,000,000 -0- $ 1,000,000 8/26/74 1,814,975 -0- 1,814,975 1/02/75 440,513 $ 15,663 456,176 6/01/75 1,214,740 167,364 1,382,104 6/01/76 1,214,740 97,179 1,311,919 Total $ 5,684,968 $ 280,206 $ 5,965,174 6. We note that this testimony is inconsistent with the parties' stipulation that the money Franks and Collins invested in Superior River came from their share of a distribution from Wolfe County Coal Corporation, see
infra.↩ 7. The parties introduced as a joint exhibit Associates' general ledger. The parties also introduced a joint exhibit identified as Associates' "cash receipts and disbursements and general journal." This exhibit contained entries for 1978 and 1979 identified as cash receipts or cash disbursements; however, as far as we could determine, general journal entries were not included in this exhibit nor could we locate a general journal for Associates elsewhere in the record. The general ledger made folio references to "JE" in support of entries in the general ledger. The journal entries, however, were not located in the record. ↩
8. For the 1975 year the Schedule E is a combined Schedule E and R (Supplemental Income Schedule and Retirement Income Credit Computation). The subject items were reported on the Schedule E portion. ↩
9. Losses in the aggregate for partnerships ($ 8,115) and small business corporations ($ 392,113) were shown for 1978; however the referenced supporting schedules were not included with the copy of the 1978 Federal tax return filed with the Court. Therefore, although we surmise that income or losses from all or some of the corporations enumerated herein also was included on Schedule E for 1978, the record does not show this conclusively. ↩
10. Interest income from Elmon also was reported on Schedule B for 1978. ↩
11. Dividend income from Wolfe Corporation also was reported on Schedule B for 1976 and 1978. ↩
12. Certain matters pertaining to Wolfe Corporation recently were decided by this Court in the consolidated case
Franks v. Commissioner, T.C. Memo 1988-245">T.C. Memo. 1988-245Franks↩ case.13. The balance sheet filed with Superior River's corporate income tax return for the fiscal year ending July 31, 1978, reflects a cost for buildings and other fixed depreciable assets of $ 1,338,269. ↩
14. However, Sigmon reported $ 10,799 in interest income from Elmon on Schedule B of his 1978 tax return. It is not clear from this record whether this amount was related to the $ 600,000 advance. ↩
15. All section references are to the Internal Revenue Code of 1954, as amended and in effect during the years in issue unless otherwise indicated. All rule references are to the Tax Court Rules of Practice and Procedure unless otherwise provided. ↩
16. The stipulation of facts states that the $ 1,107,312.10 was owed to Associates in one place and owed to Sigmon in another place. The record supports a finding that the $ 1,107,312.10 was owed to Sigmon, not to Associates. We may disregard stipulations between parties if the evidence is contrary to the stipulation is substantial or the stipulation is clearly contrary to facts disclosed by the record.
Loftin and Woodard, Inc. v. United States, 577 F.2d 1206">577 F.2d 1206Jasionowski v. Commissioner, 66 T.C. 312">66 T.C. 31217. Superior River, Blue Grass, S.C.E., Mary Beth, C&S Fuels, and Sigmon-Elkhorn filed Forms 1120 while Elmon filed forms 1120S. ↩
18. Intercompany receivables and payables pertained to various Sigmon entities not limited to the enumerated companies. ↩
19. Since 1978 and 1979 show a negative owners' equity, a meaningful debt-to-equity ratio cannot be computed for those years. Assets for 1978, according to these balance sheet figures, were underfunded by 22 percent (negative owners' equity divided by total assets). The debt-to-equity ratios for 1976 and 1977 may not be accurate since the companies had different ending dates for their fiscal years. However, the record does not contain sufficient information for us to calculate a true debt-to-equity ratio on the basis of the information in this record. Petitioner has the burden of proof and, therefore, must suffer the consequences of an inadequate record. See
Samis v. Commissioner, 76 T.C. 609">76 T.C. 60920. See also
LaStaiti v. Commissioner, T.C. Memo. 1980-547↩21. See
Roth Steel Tube Co. v. Commissioner, T.C. Memo 1985-58">T.C. Memo. 1985-58800 F.2d 625">800 F.2d 625 (6th Cir. 1986), cert. denied481 U.S. (1987) ↩.22. See
Lackey v. Commissioner, T.C. Memo. 1977-213↩23. We note, however, that the advance was proportional to Sigmon's interest in Wolfe Corporation. Collins and Franks, the remaining shareholders of Wolfe Corporation and the two other shareholders of Superior River who advanced it funds at this same time, also made their advances in proportion to their interests in Wolfe Corporation, suggesting at least some plan of proportionality for this advance to Superior River. ↩
24. In fact, the balance sheet filed with Superior River's corporate income tax return for its fiscal year ending July 31, 1977 (the period in which the advance was made) shows a ratio of debt-to-equity as of July 31, 1977, of 2.6 to 1. ↩
25. For this purpose, we consider the Elmon Group, the Blue Grass Group, and Sigmon-Elkhorn to be part of one integrated business. It could be argued that other Sigmon companies such as Al Mining, Quality Sales, and Quality Processing also should be added to the list. However, for the sake of simplicity, only the former companies are included here. We believe that excluding Al Mining, Quality Sales, and Quality Processing favors petitioner; therefore, no harm results from excluding the latter companies in our analysis. ↩
26. Although we are not persuaded that the positive taxable income before net operating deductions and special deductions reflected on Superior River's tax return for the period ending July 31, 1978 (filed sometime after April 24, 1979) is indicative of anything other than "creative accounting," possibly to make a failing business look more attractive to a would-be buyer, whether Superior River did in fact have the taxable income reported is not material to the outcome of this case. ↩
27. The journal entries for Associates pertaining to these advances are not part of the record. Superior River's books and records were not made a part of the record. ↩
28. The record is silent as to whether the shareholders of Superior River, Elmon, Mary Beth, or C&S Fuels subsequently elected to place those companies in bankruptcy. Apparently, only Elmon filed tax returns for tax periods ending in 1979 and later. ↩
29. The use of the word "loan" should not be construed as carrying any conclusion as to the legal effect of the documents or transactions involved here.↩
30. We recognize that Sigmon in fact did not make a payment on the guarantee. Instead, personal assets were sold to satisfy the obligations arising from the guarantee. However, this is a difference without a distinction. ↩
31. The record does not show the exact dates on which the advances were made. The advance recorded in Account 131 apparently was posted to Associates' general ledger on December 31, 1977. No other entries were made to this account. Account 121 in Associates' general ledger does not show the year in which the first advance was posted; presumably, it was sometime in 1976 since the next entry shows an April 1977 date. Two additional, minimal advances were made in 1977 and 1978 according to the ledger entries, with minimal repayments made in 1978 and 1979. Blue Grass' books and records were not introduced into the record. ↩
32. See
Thaler v. Commissioner, T. C. Memo. 1978-24↩33. Petitioner raised the issue of whether he was engaged in the business of promoting, financing, and making loans to corporations only in connection with his argument that the loans were business, as opposed to nonbusiness, bad debts deductible under section 166. He has not raised the issue of whether any loss incurred by him on his Superior River and Blue Grass stock in 1979 would be deductible under section 165(a) as an ordinary loss incurred in his trade or business. If petitioner were in the business of promoting, etc., corporations, it might be argued that such a loss would be ordinary since the "stock" would be excluded under section 1221(1) (which excludes from the term "capital assets" "stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business") and, therefore, would not be governed by section 165(g). We have held on numerous occasions that we will not consider issues which have not been pleaded.
Markwardt v. Commissioner, 64 T.C. 989">64 T.C. 989Whipple v. Commissioner, 373 U.S. 193">373 U.S. 193Syer v. United States, 380 F.2d 1009">380 F.2d 1009Deely v. Commissioner, 73 T.C. 1081">73 T.C. 1081Millsap v. Commissioner, 46 T.C. 751">46 T.C. 751387 F.2d 420">387 F.2d 420 (8th Cir. 1968). See alsoHunter v. Commissioner, T.C. Memo. 1982-381↩
Document Info
Docket Number： Docket No. 16111-83
Filed Date： 8/15/1988
Precedential Status： Non-Precedential
Modified Date： 11/21/2020