DocketNumber: Docket Nos. 755-69, 2387-69
Citation Numbers: 57 T.C. 180, 1971 U.S. Tax Ct. LEXIS 31
Judges: Irwin
Filed Date: 11/2/1971
Status: Precedential
Modified Date: 1/13/2023
1. Petitioner was chartered as a bank under the laws of the State of Indiana and subject to supervision by a State agency. Petitioner made a small number of loans. Petitioner received deposits from the State and local governments, its employees and other parties related to petitioner's management, and unrelated sources. The deposits from related sources never exceeded 35 percent of the total deposits held by the bank. Petitioner had two full-time employees, was open for business six days a week, and offered banking services to the public.
2.
*181 The respondent determined the following deficiencies in petitioner's income taxes:
Calendar year | Deficiency |
1964 | $ 27,951.30 |
1965 | 52,924.50 |
1966 | 31,485.51 |
These amounts relate to two issues which we must determine: (1) Whether petitioner's *32 business activities come within the ambit of the definition of a bank under
FINDINGS OF FACT
Petitioner is the Austin State Bank, a corporation organized in 1909 under the laws of the State of Indiana according to the provisions of the Act for the Incorporation of Banks of Discounts and Deposits approved February 7, 1873, as amended. Petitioner's principal place of business at all relevant times has been Austin, Ind., and it filed its income tax returns for the years at issue with the district director of internal revenue, Indianapolis, Ind.
During 1964 the stock of the petitioner was owned as follows:
Shares | |
Lloyd Jones, Scotsburg, Ind | 5 |
Ivan E. Morgan, Austin, Ind | 29 |
Marion Lyons, Austin, Ind | 8 |
T. N. Lyons, Austin, Ind | 20 |
Diann Morgan, Austin, Ind | 2 |
Elsinore Morgan, Austin, Ind | 45 |
Fern Morgan, Austin, Ind | 37 |
Ivan H. Morgan, Austin, Ind | 12 |
John Scott Morgan, Austin, Ind | 64 |
Margaret E. Morgan, Indianapolis, | |
Ind | 8 |
Michele Morgan, Austin, Ind | 10 |
Lena Weir, Austin, Ind | 5 |
John L. Bubul, Scottsburg, Ind | 5 |
Total | 250 |
During *33 1965 and 1966 stock of the petitioner was owned as follows:
Shares | |
Lloyd Jones, Scottsburg, Ind | 5 |
Estate of Ivan E. Morgan, deceased | 29 |
Marion Lyons, Austin, Ind | 27 |
Diann Morgan, Austin, Ind | 2 |
Elsinore Morgan, Austin, Ind | 45 |
Ivan H. Morgan, Austin, Ind | 12 |
John Scott Morgan, Austin, Ind | 64 |
Margaret E. Morgan, Indianapolis, | |
Ind | 26 |
Michele Morgan, Austin, Ind | 10 |
Lean Weir, Austin, Ind | 5 |
John L. Bubul, Scottsburg, Ind | 5 |
John E. Nichols, Terre Haute, Ind | 6 |
William R. Nichols, Terre Haute, | |
Ind | 6 |
Steven S. Nichols, Terre Haute, | |
Ind | 6 |
George O. Nichols, Terre Haute, | |
Ind | 2 |
Total | 250 |
*182 The major business enterprise in Austin, Ind., which is a town of about 3,500 people, is the Morgan Packing Co., Inc., which is controlled by the family of Ivan H. Morgan. The Morgan Packing Co. employs about 3,000 people while the second largest employer in Austin, the American Can Co., employs about 120 people.
Petitioner was subject to supervision and inspection as a bank by the Department of Financial Institutions of the State of Indiana under section 18-2255, Ind. Ann. Stat. Although petitioner possessed such powers, it exercised no fiduciary powers during 1964, 1965, and 1966.
Petitioner was open for business 6 days a week. It had two full-time *34 employees who handled the daily operations of the bank such as receiving deposits, cashing checks for the public, and maintaining its books and records. Petitioner shared a small rented room with the Austin Building & Loan Association, an unrelated institution; however, petitioner's business was conducted in a separate part of the room. Petitioner's name did not appear upon the public entrance to the shared room.
The total deposits held by petitioner at the end of each year in issue attributable to the Morgan Packing Co., its own employees, and the family and businesses of Ivan H. and Elsinore Morgan are the following:
1964 | 1965 | |
Morgan Packing Co | $ 230,060.66 | $ 300,589.64 |
Bank officers and employees | ||
other than I. H. and E. Morgan | 4,245.65 | 3,468.73 |
I. H. and E. Morgan and | ||
related accounts | 36,608.55 | 149,741.41 |
Total related deposits | 270,914.86 | 453,799.78 |
1966 | |
Morgan Packing Co | $ 221,011.32 |
Bank officers and employees | |
other than I. H. and E. Morgan | 3,733.72 |
I. H. and E. Morgan and | |
related accounts | 32,335.00 |
Total related deposits | 257,080.04 |
Total deposits held by petitioner from all sources can be represented as follows:
1964 | 1965 | 1966 | |
Related | $ 270,914.86 | $ 453,799.78 | $ 257,080.04 |
State of Indiana, local government | 2,298,024.07 | 381,189.85 | 346,446.66 |
Other | 472,478.16 | 469,961.74 | 462,603.96 |
Total | 3,041,417.09 | 1,304,951.37 | 1,066,130.66 |
The *35 greatest part of deposits held by petitioner was demand deposits. A demand deposit is an account from which the funds can be withdrawn at any time by the order of the depositor. The most common form of a demand deposit is a checking account. Demand deposits pay no interest. By contrast, time deposits are accounts which are subject to restrictions on withdrawal and which pay interest. Certificates of deposit and savings accounts are common forms of time deposits. *183 The following schedule represents petitioner's deposits during the years at issue:
Total | Demand | Time | |
deposits | deposits | deposits | |
June 30, 1964 | $ 2,892,412.57 | $ 2,892,412.57 | |
Dec. 31, 1964 | 3,041,417.09 | 3,041,417.09 | |
June 30, 1965 | 1,397,534.90 | 1,397,534.90 | |
Dec. 31, 1965 | 1,304,951.37 | 1,304,951.37 | |
June 30, 1966 | 1,153,502.99 | 1,153,502.99 | |
Dec. 31, 1966 | 1,066,130.66 | 921,330.66 | 1 $ 144,800 |
Prior to the years in issue petitioner had discontinued making loans of less than $ 1,000 because such loans were often unprofitable and uncollectable. Petitioner pursued a policy of making loans *36 of $ 1,000 or more only, which were secured by adequate collateral. Although petitioner refused no loans which met these requirements, few loans were made. During the period from 1964 to 1966 only 2 to 4 percent of petitioner's deposits were invested in loans. In every case the borrower had some business relationship with petitioner or the Morgan Packing Co.
Petitioner's loans outstanding during the years in issue were as follows:
1964 | |||
Ralph Ellers | $ 2,500 | J. L. Bubul | $ 5,000 |
P. H. Paulson | 5,000 | Roland Weir | 5,000 |
Harold Fields | 5,000 | Culver Field | 5,000 |
R. E. Perrin | 5,000 | Ray Manaugh | 1 3,500 |
Garland Langdon | 5,000 | Austin Building & Loan Assn | 2 5,000 |
Carl Morton | 5,000 | ||
1965 | |||
Ralph Ellers | $ 2,500 | Carl Morton | $ 5,000 |
P. H. Paulson | 5,000 | J. L. Bubul | 5,000 |
Harold Fields | 5,000 | Roland Weir | 5,000 |
R. E. Perrin | 5,000 | Culver Field | 5,000 |
Garland Langdon | 5,000 | Ray Manaugh | |
1966 | |||
Ralph Ellers | $ 2,500 | Carl Morton | $ 5,000 |
P. H. Paulson | 5,000 | J. L. Bubul | 5,000 |
Harold Fields | 5,000 | Roland Weir | 5,000 |
R. E. Perrin | 5,000 | Culver Field | 5,000 |
Garland Langdon | 5,000 |
The loans to P. H. Paulson, Harold W. Fields, R. E. Perrin, Garland Langdon, Carl Morton, John L. Bubul, Roland Weir and Culver Field were originally made in 1958 and *37 subsequently renewed annually.
*184 Petitioner's principal source of income during the period was from investments in securities issued by the U.S. Government. Petitioner's total income compared to income from investments in Government securities for 1964, 1965, and 1966 is as follows:
Ratio of | |||
Interest on | interest on | ||
U.S. Government | Total income | U.S. Government | |
securities | securities | ||
to | |||
total income | |||
Percent | |||
1964 | $ 49,199.70 | $ 56,659.09 | 87 |
1965 | 99,996.81 | 107,336.62 | 93 |
1966 | 48,841.80 | 58,297.20 | 84 |
During the years at issue petitioner's president was Elsinore Morgan who succeeded Ivan H. Morgan to the presidency in 1960. The presidency of the bank was not a full-time job for Mrs. Morgan, and she did not keep regular hours or perform daily office functions at the bank. While she was president of the bank, Mrs. Morgan also managed a Dairy Queen, had an egg production company, operated a horse farm, and participated in the operation of a large cattle venture.
Mrs. Morgan did perform some services for petitioner. These included discussing overdrafts with Mrs. Gray, the cashier, once or twice a month, soliciting deposits for the bank, overseeing the maintenance of the office premises, discussing the acquisition of new *38 office machinery, and signing any papers or documents which required her signature as president of petitioner. Mrs. Morgan also involved herself in preparing plans and seeking a new location for a new bank building.
Mrs. Morgan's salary for 1960 through 1962 was a token $ 10 per month which was paid retroactively on December 31, 1962. The amount paid was the same as that received by her predecessor in the presidency, Ivan H. Morgan. In 1963, by unanimous action of the board of directors, Mrs. Morgan's salary was increased to $ 100 per week, and she was paid $ 5,200 in 1964, $ 5,300 in 1965, and $ 5,200 in 1966. The directors' reason for increasing her salary was to compensate her for work in trying to relocate the bank in new quarters.
Ivan H. Morgan was president of petitioner from 1949 to 1960. After that time and during the years in question Mr. Morgan was chairman of the board and in charge of the loan program of petitioner and also solicited deposits from the State of Indiana and its political subdivisions. Mr. Morgan's duties for the bank did not require his regular presence at the bank, and in addition to them he was president of the Morgan Packing Co. and the Austin Water *39 Co. In 1962, a unanimous vote of the board of directors awarded Mr. Morgan a yearly salary of $ 10,000 retroactive to 1961. This salary was awarded *185 because Mr. Morgan had gotten a large deposit for the bank from the State of Indiana in 1961. For each subsequent year the board has retroactively awarded Ivan H. Morgan $ 10,000 as compensation for services rendered during the prior year.
OPINION
Petitioner is incorporated as a bank under the laws of the State of Indiana. Respondent claims that its banking activities are so minimal that it does not fit within the definition of a bank contained in
Respondent has also determined that amounts paid as salary to Ivan H. Morgan and Elsinore Morgan were not reasonable compensation for services rendered and not deductible under section 162.
That petitioner was a bank under the laws of the State of Indiana is not open to serious question. It was chartered under the State's banking law and was subject to semiannual inspections by a State agency. However, the determination of whether petitioner as a bank is exempt from the personal holding company tax is a question of Federal tax law.
For purposes of
The parties agree and the facts indicate that the only part of
In our view petitioner looked like a bank, conducted business like a bank, and believed it was a bank. We must conclude that petitioner was a bank as we find little merit in respondent's arguments.
Although *42 the present case is one of first impression concerning the imposition of the personal holding company tax upon a would-be bank,
A reading of these general definitions clearly reveals that the chief functions of a bank involve: (1) the receipt of deposits
The
Respondent bases his argument, we believe, upon a myopic reading of the quoted portion of the
*187 As a primary matter, no reference is made in
If there is any significance to the use of the term general public in the
Respondent also stresses the facts that only 2 to 4 percent of petitioner's deposits were invested in loans and that all of the borrowers *46 had some kind of business relationship (in some cases quite a tenuous one) with either the bank or the Morgan Packing Co. We note that Austin, Ind., where petitioner is located, was a town of only 3,500 people and that the Morgan family and its businesses clearly dominated its economic life. In this situation we are not surprised that respondent found that all of petitioner's loan customers had some business relationship either with petitioner or the Morgan Packing Co. In addition, we believe the testimony of Ivan H. Morgan that petitioner could not have profited by pursuing a policy of making *188 small loans and that there were not many large loans to be made in Austin, Ind.
Neither
Respondent has determined that amounts that petitioner paid as salary to Elsinore and Ivan H. Morgan were not reasonable compensation for services and hence not deductible under section 162. Respondent's determination carries with it a presumption of correctness that petitioner must overcome with evidence that the amounts paid were reasonable compensation for services actually rendered.
Upon becoming president of petitioner in 1960, Elsinore Morgan served without compensation; however, in December 1962, she was awarded a salary of $ 10 per month retroactive to 1960. This amount was the same token salary that her predecessor in the presidency, Ivan H. Morgan, had received. In 1963, her salary was increased to $ 100 per week by unanimous action of the board of directors, and she received $ 5,200 *48 in 1964, $ 5,300 in 1965, and $ 5,200 in 1966. Respondent has determined that only $ 120 per year of the amounts paid represented reasonable compensation.
Respondent's contention is that Mrs. Morgan should have worked for nothing or next to nothing. We do not agree. In our Findings of Fact we set forth the modest duties that Mrs. Morgan performed for petitioner. We believe that the modest salary that she was paid was reasonable compensation for these services. It is immaterial that Mrs. Morgan's additional duties which were cited by the board of directors as the reason for granting her raise were not proportionate to the size of the raise. We find no authority for holding that Mrs. Morgan should be forever paid a token salary. The raise granted in 1963 merely adjusted her salary to the realities of the job that she performed.
*189 The amounts paid as salary to Ivan H. Morgan for the years in issue appear in an entirely different light. Mr. Morgan was president of petitioner from 1949 to 1960. After that time and during the years in issue, Mr. Morgan had no official position as an employee of the bank but was chairman of the board and was in charge of its loan policy. Mr. Morgan *49 solicited deposits from the State of Indiana and its political subdivisions. For these services he was paid $ 10,000 in each of the 3 years under consideration.
In our Findings of Fact we pointed out that Mr. Morgan held two other positions in addition to working for petitioner. In March 1961, Mr. Morgan secured a deposit from the State of Indiana in the amount of $ 2 million; however, since that time the record is devoid of any evidence that the bank benefited from his solicitations on its behalf. With the exception of Mr. Morgan's sketchy and uncorroborated testimony there is no evidence that he performed any service for the bank. Loans of over $ 1,000 with adequate security were routinely approved, and consequently, the small loan business done by the bank used only a negligible amount of his time. Mr. Morgan was adequately paid $ 20 for his attendance at each director's meeting. We cannot determine that the bank derived any other benefit which would justify any greater salary payment to Mr. Morgan. Accordingly, we sustain respondent's disallowance of the entire deduction for salary paid to Mr. Morgan during 1964, 1965, and 1966.
In view of the foregoing,
1. All statutory references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩
1. Certificates of deposit held by the State of Indiana. The certificate of deposit of Apr. 3, 1965, in the amount of $ 62,800 does not appear on petitioner's report of condition.↩
1. Repaid 1964 and 1965.↩
2. Repaid 10/13/64.↩
2.
In addition to other taxes imposed by this chapter, there is hereby imposed for each taxable year on the undistributed personal holding company income (as defined in
(c) Exceptions. -- The term "personal holding company" as defined in subsection (a) does not include -- * * * * (2) a bank as defined in
3. Respondent relies upon