DocketNumber： Docket Nos. 43450, 43451
Citation Numbers： 1954 U.S. Tax Ct. LEXIS 261, 21 T.C. 1008
Judges： Tietjens
Filed Date： 3/25/1954
Status： Precedential
Modified Date： 11/14/2024
*261
*1008 FINDINGS OF FACT AND OPINION.
Respondent determined deficiencies in income tax of $ 1,661.50 for 1947 and $ 8,211.64 for 1948.
The sole issue for decision is whether respondent erroneously treated as ordinary income petitioners' share in the income of Iowa Soya Company. Other adjustments are conceded and can be reflected in a Rule 50 computation.
FINDINGS OF FACT.
Some of the facts have been stipulated and are found accordingly.
Petitioners are husband and wife residing at Des Moines, Iowa. Petitioner Merton T. Straight (hereafter called petitioner) filed an individual income tax return for 1947. Petitioners filed a joint return for 1948. Both returns were filed with the collector of internal revenue at Des Moines, Iowa.
On September 17, 1943, H. R. Straight and petitioner, as general partners, and a number of other*262 persons, as limited partners, executed a "Limited Partnership Indenture" the parties to which mutually covenanted to become partners in the business of erecting and operating a soy bean processing plant under the name of Iowa Soya Company.
The indenture provided that additional limited partners could be admitted by the general partners. It also provided that on the death, *1009 retirement, or insanity of a general partner the remaining general partner or partners could continue the business and take in as general partners the persons acquiring the interest of the deceased, incompetent, or retired general partner.
All matters pertaining to the time and amount of the distribution of net profits were placed in the hands of a committee consisting of 2 general partners or their appointees and 3 additional persons chosen by the limited partners.
Each limited partner was entitled to receive 1 1/2 per cent of all net profits for each $ 5,000 contributed. It was provided that the contribution of a limited partner was to be returned --
Out of the net profits to be earned by the partnership and when a limited partner shall have received in distribution of profits from the partnership *263 an amount equal to his original investment and an additional 400% thereof, such limited partners' interest in the partnership shall terminate and he shall thereafter own no interest therein or owe any obligation thereto;
Petitioner sold his general partnership interest in 1946 to Donald Ogg.
On March 25, 1947, petitioner became the owner of a $ 10,000 limited partnership interest in Iowa Soya Company by virtue of the distribution to him of such interest by another partnership which owned the interest and in which he also was a partner.
At sometime prior to July 19, 1947, respondent took the position that the Iowa Soya Company was an association taxable as a corporation. To avoid the consequences of this action there was executed on July 19, 1947, an "Amendment To Limited Partnership Agreement." In the amendment the parties agreed that from October 1, 1946, its terms should constitute the terms of the limited partnership previously formed and should be substituted for and take the place of the terms theretofore agreed on.
The amendment, among other things, contained the following provisions:
6. The original contribution of a limited partner and his share of the reserve fund * * * are*264 to be returned only as follows:
* * * *
(b) After a limited partner has received 400% of his original contribution out of the profits of the business as provided in paragraph 7 (a) hereof and any interest to which he is entitled on the reserve fund.
* * * *
7 (a) Each limited partner by reason of his original contribution heretofore made, shall receive in cash or a credit in the company's reserve fund * * * for each Five Thousand and no/100 Dollars ($ 5,000.00) contributed by him, a minimum of one and one-half per cent (1 1/2%) of all net profits earned by the partnership from the operation of the business, or a larger percentage at the option of the general partners but the right to said share of the profits shall terminate whenever a limited partner shall have received from the partnership an amount equal to his original contribution and a 400% profit thereon.
*1010 During the fiscal year of Iowa Soya Company which ended on September 30, 1947, there was credited to the account of petitioner on the books of the partnership the net amount of $ 9,793.83 out of earnings. Of this amount the sum of $ 5,430.96 was credited to petitioner's account under and by virtue of the mandatory*265 provisions of the limited partnership indenture which required 1 1/2 per cent of the partnership's net profits to be credited to each limited partner for each $ 5,000 of his capital contribution. The balance in the amount of $ 4,362.87 was credited to the account of petitioner on the books of the partnership by reason of the voluntary election of the general partners to distribute a larger percentage of the partnership net profits among the limited partners.
On the income tax return of petitioner for the calendar year 1947, he reported ordinary income from Iowa Soya Company in the amount of $ 9,775.52. On April 7, 1949, petitioner filed a claim for refund with the collector of internal revenue at Des Moines, Iowa, claiming that all income credited to his account on the books of Iowa Soya Company, a Limited Partnership, for its fiscal year ended September 30, 1947, constituted long-term capital gain, and claiming a refund in the amount of $ 2,567.42.
During the fiscal year of Iowa Soya Company which ended September 30, 1948, there was credited on its books to petitioner's account the net amount of $ 12,578.12. Of this amount the sum of $ 5,546.95 was credited because of the mandatory*266 provision of the amended agreement requiring 1 1/2 per cent of net profits to be credited to each limited partner for each $ 5,000 contribution to capital. The balance of $ 7,031.18 was credited to petitioner by reason of the voluntary election of the general partners.
On petitioners' income tax return for 1948 there was reported as income from Iowa Soya Company the sum of $ 12,578.13. This sum was reported as long-term capital gain.
OPINION.
Petitioner's contention, in substance, is that the "Amendment To Limited Partnership Agreement" constituted a contract of purchase and sale by which the general partners contracted to purchase the interests held by the limited partners in the predecessor Iowa Soya Company, with the result that the amounts credited to petitioner's account under the amended agreement were received as the purchase price of a capital asset and should be treated as capital gain rather than as ordinary income. Petitioner also argues that at least that portion of the amounts credited to the limited partners by virtue of the voluntary election of the general partners (as distinguished from the sums credited because of the mandatory provisions *1011 of the agreement) *267 was constructive income to the general partners and that the voluntary action of the general partners in crediting it to the limited partners constituted consideration paid to the limited partners by the general partners for a capital asset.
The reasoning underlying these contentions is ingenious but we cannot find facts in the record which would lend it support. The arrangement among the participants in Iowa Soya Company was not complicated. Under the original partnership indenture each limited partner made a cash contribution in return for which he was entitled to share in net profits to the extent of 1 1/2 per cent for each $ 5,000 contributed. When a limited partner got his money back with an additional 400 per cent his interest in the partnership terminated. The time and amount of distributions was in the hands of a committee of five of which the limited partners controlled a majority. Except for the functions of this committee the fundamental relationship of the parties with respect to sharing in the profits was not changed by the amended agreement. Under the new agreement the limited partners were still entitled to a minimum of 1 1/2 per cent, to be received either in*268 cash or credit to a reserve fund, or a larger percentage at the option of the general partners. This latter change was prompted by a desire to escape the tax effect of respondent's position that Iowa Soya Company was taxable as a corporation. The right of a limited partner to share in the profits was still to terminate when he had got his contribution back and a 400 per cent profit thereon.
We find nothing in the amended agreement even faintly resembling a sale or exchange. The amended agreement was just what it purported to be -- an "Amendment To Limited Partnership Agreement." It was not couched in the usual verbiage which connotes a sale and only by the most tenuous reasoning, or so it seems to us, could it be so construed. The only witness called by the parties was one of the general partners. His testimony specifically disavowed any intent to purchase the interest of any limited partner. True, the effect of crediting a limited partner's account with profits would eventually be to terminate his interest in the partnership and the time of such termination could be accelerated by the election of the general partners to make available a larger percentage than the mandatory *269 1 1/2 per cent. Nevertheless, we do not think that the credits made to petitioner's account which, when the agreed amount was reached, would result in a termination of his interest are equivalent to payments on purchase price in connection with "the sale or exchange" of that interest. The result would be more like the extinguishment of an obligation than a sale or exchange. Cf.
*1012 Neither do we find merit in petitioner's argument that the amounts credited to petitioner's account over and above the 1 1/2 per cent mandatory minimum were constructive income of and taxable to the general partners. Whatever control the general partners exercised over the distribution of profits flowed from the mutual agreement of all the partners. We cannot gather anything from the agreement which would indicate that profits over and above the 1 1/2 per cent minimum belonged to the general partners and that any distribution of such excess to the limited partners would in reality be the paying over of*270 funds owned by the general partners. What was done was simply to distribute partnership profits in accordance with the partnership agreement. The fact that some discretion was lodged in the general partners in respect to the amount to be distributed to the limited partners did not, in our opinion, translate any part of the profits so distributed into income of the general partners.
No problem of return of capital is posed here. The amounts credited to petitioner by Iowa Soya Company represented his distributive share of the ordinary net income of the partnership and are taxable to him as ordinary income.