DocketNumber： Docket Nos. 682-72, 1358-72, 1724-72, 2212-72, 3740-72
Judges： Featherston
Filed Date： 12/2/1975
Status： Precedential
Modified Date： 11/14/2024
*21 Petitioners and others owned a cigarette filter invention which they transferred to a trust created in June 1967, retaining the right to the trust's income as well as any gains from the sale of its corpus. In July 1967, the trust transferred the invention to Columbia University under an agreement obligating the university, among other things, to prosecute domestic and foreign patents, protect them from infringement, and negotiate and enter into licensing agreements with the cigarette industry. Petitioners reserved for themselves a substantial percentage of any royalties earned under the licensing arrangements. Because the university did not carry out its obligations under the agreement in a manner satisfactory to petitioners, in September 1967, the trust gave notice of intention to terminate the agreement and completed the termination procedures in February 1968. Petitioners claimed charitable contribution deductions on their 1967 income tax returns for one-half of the alleged value of the invention transferred to the university.
*459 Respondent determined the following deficiencies in income tax in these consolidated cases: *460
| Docket No. | Year | Deficiency |
| 682-72 | 1967 | $ 1,184.97 |
| *24 1358-72 | 1967 | 4,830.03 |
| 1968 | 7,460.42 | |
| 1967 | 1,026.39 | |
| 1968 | 5,592.23 | |
| 1969 | 815.00 | |
| 2212-72 | 1967 | 3,887.00 |
| 1968 | 6,059.00 | |
| 1969 | 7,129.00 | |
| 3740-72 | 1968 | 1,999.60 |
Other issues having been severed, the following are presented for decision in this proceeding:
(1) Whether petitioners owned any interest in an invention at the time it was transferred to Columbia University; and
(2) Whether the transfer of the invention to Columbia University constituted a charitable contribution within the meaning of
While he was in the process of developing the filter, Strickman transferred undivided percentage interests in it to various individuals, including Raum, Suitt, and Rusoff. The transfers were made by informal oral or written assignments and were not evidenced by any documents in the customary legal form. The transfers were either compensation for assistance in developing the filter or, in some cases, merely gifts.
Suitt received his interest in the filter in 1966. He had some knowledge of the cigarette industry, and he thought the filter had significant economic potential. In early 1967, Suitt *27 consulted Robert Katz (hereinafter Katz), an attorney, and introduced him to Strickman. In Strickman's laboratory, Katz observed tests of several sample filters, perused test results comparing the effectiveness of the filter with conventional filters, and concluded that the economic potential of the filter was "astronomical." He recommended that the rights to the filter be transferred to an organization which would be more capable than they in dealing with the powerful tobacco manufacturers. Such an organization, he advised, could more effectively negotiate licensing agreements with the tobacco industry.
Katz suggested that the transfer be made to the Medical School of Columbia University (hereinafter Columbia, the university, or the medical school). Several doctors associated with that institution lived in Katz's community, and some of them had been instrumental in saving the life of Katz's son several years earlier. Katz's contacts would facilitate Columbia's acceptance of the transfer. Columbia was thus readily and quickly available as a desirable transferee, and it had the facilities to further develop the filter.
Since the other owners of interests in the filter had no objection*28 to an arrangement with Columbia, negotiations with Columbia regarding the transfer were initiated. Katz, who represented the owners of the filter (hereinafter referred to as the *462 Strickman group), informed Dr. Donald Tapley, a neighbor and faculty member of the medical school, about the filter and the desire of its owners to transfer it to Columbia. Dr. Tapley contacted William Bloor, treasurer of Columbia, who initiated proceedings within the university necessary for a transfer of the filter. On April 25, 1967, and May 4, 1967, meetings were held between representatives of the Strickman group and Columbia. Attending these meetings on behalf of the Strickman group were Strickman, Suitt, and Katz. Raum attended only the meeting held on April 25, 1967.
The participants at these meetings discussed the nature of the invention; the patent status of the invention; the tax considerations for the owners of interests in the filter; *29 a "purchase price to be paid periodically * * * which payments would be contingent on the amount of royalties received from the University's licensees"; and obligations which Columbia would undertake with respect to the filter.
Prior to the May 4, 1967, meeting, Columbia had independent tests performed by Fitelson Laboratories and these tests tended to support Strickman's claims concerning the effectiveness of the filters in reducing tars and nicotine gas. Taste tests were to be conducted in order to verify the effect of the filter on the natural flavor of the cigarette smoke.
Subsequent to these meetings, it was decided that the approximately 20 members of the Strickman group would need to act in concert at the time of the transfer, and thereafter, in dealing with Columbia. A power of attorney as *30 a means of effecting the transfer was rejected because a pure agency relationship would be revoked by the death of any member of the group. In a letter dated June 6, 1967, to John Wheeler, an attorney for Columbia, Katz described the need for a vehicle for the transfer and stated that a trust would probably be utilized. The letter states: "The Declaration of Trust will give to the Trustees legal title with all of the powers requisite to whatever action may be *463 required in the future as well as the power to sell the patent to Columbia."
Accordingly, on June 9, 1967, a trust agreement was executed between the Strickman group as grantors, and Strickman and Raum, as trustees, in which the grantors transferred all their rights in the filter to the trust. The trustees were to "collect the net income or proceeds of sale" and make distributions thereof to the grantors in accordance with specified percentages. The powers of the trustees were provided as follows:
TRUSTEES' POWERS
1. To sell to COLUMBIA UNIVERSITY or to any of its designees the entire right, title and interest in and to the INVENTION upon such terms as in their sole discretion and judgment may be deemed for the best*31 interest of the beneficiaries hereunder.
2. To compromise, settle, arbitrate or defend any claim or demand in favor of or against the trust and to enter upon such contracts and agreements and to make such compromises or settlements of debts, claims or controversies as they may in their sole discretion deem necessary or advisable.
3. To incur and pay the ordinary and necessary expenses of administration, including (but not by way of limitation) reasonable attorneys' fees, accountants' fees, and the like.
4. To act hereunder through an agent or attorney-in-fact, by and under power of attorney duly executed by the Trustees, in carrying out any of the powers and duties herein authorized.
On June 9, 1967, the trust agreement was amended to provide that no beneficiary could assign his interest without the consent of the cotrustees, and that the cotrustees would not enter into any transaction affecting "the bulk of the property rights owned by the Trust" without the approval of at least 80 percent of the holders of beneficial interests in the trust property.
During June 1967, an assignment agreement between Columbia and the Strickman group was being drafted with Katz and Raum participating*32 extensively in the drafting process. During this period, Columbia was considering whether it should enter the transaction. An ad hoc committee of trustees of the university and the investments subcommittee of the university's finance committee evaluated the prospects and advisability of consummating the transfer. Dr. Grayson Kirk, president of Columbia, forwarded to the trustees, for their consideration, a report of the finance committee favoring the proposal. The trustees were advised that:
*464 The holders of the invention would assign all of their right, title and interest in the patent application to the University * * * in exchange for a purchase price * * * to be paid periodically over a period approximating the life of the patent, which payments would be contingent on the amount of royalties received from the University's licenses * * *
During this period the Strickman group was pressing Columbia for a decision. A decision in favor of accepting the transfer was reached, and negotiations between the university and the Strickman group, involving substantial bargaining, were finalized.
On July 7, 1967, an assignment by the trust of all its interest in the filter *33 to Columbia and an assignment agreement between the trustees and Columbia were executed. The lengthy assignment agreement (hereinafter sometimes referred to as the agreement) contained provisions dealing with the nature of the transfer, domestic and foreign patent applications for the invention and improvements thereon, limitations on disclosures of confidential information, payments to the trust, licensing of the patent to cigarette manufacturers, royalties, Columbia's obligations with respect to future litigation, and termination of the agreement.
The agreement stated: "Assignors [the trustees] by these presents do hereby sell, assign and transfer unto Assignee [Columbia] the full and exclusive right * * * in * * * the Invention."
Columbia agreed to negotiate nonexclusive licenses for the invention with cigarette manufacturers. The agreement sets forth a schedule of fees to be charged the licensees, as well as royalty rates, minimum annual royalties, and an outline of the licensing agreement to be used by Columbia. From the gross receipts received by reason of Columbia's licensing of the invention, Columbia may deduct reasonable expenses for such purposes as research, litigation, *34 maintenance of patents, and any other purpose necessary for developing the invention and maximizing its economic return. "Net royalties" was defined as the difference between gross receipts and expenses.
Columbia was required to keep full and accurate records with respect to all receipts and expenses employed to compute the "net royalties" and the trust retained the right to inspect such books and records.
The agreement further states:
Assignee shall pay to the Assignors
| Out of the first $ 5,000,000 | 90% |
| Out of the second $ 5,000,000 | 80% |
| Out of the third $ 5,000,000 | 70% |
| Out of the fourth $ 5,000,000 | 60% |
| Out of the fifth $ 5,000,000 | 50% |
| Out of all above $ 25,000,000 | 49% |
[Emphasis added.]
Other obligations assumed by Columbia include the requirement that it defend the patent through defensive and offensive litigation, if necessary, and secure and maintain any desirable foreign patents. The agreement was to expire at the close of the calendar quarter in*35 which the last of all the relevant patents expired, unless terminated earlier. The agreement described circumstances in which either party might choose to terminate the agreement: (1) In the event Columbia failed to comply with any provision of the agreement and such failure or breach continued uncured for a period of 60 days after written notice of the breach was received from the trust; and (2) in the event annual net royalties did not average at least $ 100,000 per year for any 3 consecutive calendar years beginning with 1971. If termination occurred, Columbia would reassign all rights in the invention to the trust.
The agreement was signed by representatives of Columbia and by the cotrustees, Raum and Strickman. The language of "sale" contained in the agreement was inserted to substantiate the Strickman group's claim for "sale or exchange" treatment under section 1235 of their gain on the disposition of the patent. The tax treatment of the net royalty payment to the trust had been the subject of discussion at negotiations between Columbia and the Strickman group. In view of the concern that the payments be taxed at capital gains rates, no charitable deduction was anticipated*36 at this time. The availability of a charitable deduction was not one of the reasons for approaching Columbia.
On July 13, 1967, Columbia issued several press releases describing the transaction, the invention, and the inventor. In addition, Dr. Grayson Kirk held a press conference in order to publicize the transfer. Columbia was very anxious about adverse publicity resulting from its association with an invention which might encourage cigarette smoking. The transfer was *466 characterized in the press release as one designed primarily to aid cancer research as well as the university.
Columbia began to perform its obligations under the agreement and hired a manager to work exclusively on the filter. By early August 1967, sufficient doubts arose about the effectiveness of the filter to cause Columbia to suspend all licensing activities until further tests were conducted. At that time, Dr. Kirk was called to testify before a United States Senate subcommittee with respect to the filter and Columbia's role in promoting it.
Columbia engaged the services of one of its most eminent chemists, Dr. Ralph Halford, to test the filter. Tests were conducted with the cooperation of the*37 Strickman group. The Strickman group was not satisfied with the progress of the work and in mid-September gave notice of their intention to terminate the agreement. Formal notice of termination was served in January 1968, and by February 1968, Columbia ceased to have an interest in the filter.
On their 1967 income tax returns all the petitioners claimed charitable contribution deductions as a result of the transaction with Columbia. The amounts of the deductions were computed generally by multiplying one-half of a figure utilized as the value of the invention Petitioner Amount Robert S. Raum, et ux. $ 450,000 Irving I. Rusoff, et ux. 56,500 William W. Suitt, et ux. 978,750 Robert Strickman, et ux. 1,734,300
*38 Because of the percentage limitations in
*467 OPINION
Respondent seeks to deny the claimed charitable contributions on the ground that, as a result of the June 9, 1967, transaction, the trust became the owner of the filter, and the trust rather than petitioners made the July 7, 1967, transfer to Columbia. He contends that, since petitioners had already transferred all their interest in the filter to the trust, they could not have made a charitable contribution to Columbia.
Respondent's argument is without merit. Under the terms of the trust created by petitioners on June 9, 1967, the trustees are directed to "collect the net income or proceeds of sale" and to "make distribution thereof upon receipt to the Grantors in accordance with the percentages appearing alongside their signatures or in accordance with any writing dated subsequent hereto." Under
*40 That the grantors' deductions derived from the trust include the trust's charitable contributions is made doubly clear by the regulations.
Accordingly, any charitable contributions made by the June 9, 1967, trust would be deductible by petitioners. The issue remains, however, as to whether the trust made a "charitable contribution" of the filter to Columbia.
Petitioners contend that the trust's*42 transaction with Columbia was a charitable contribution of one-half of the trust's interest in the filter and that, as settlors of a "grantor trust," *469 agree, that the trust's transaction with Columbia was not a "charitable contribution" within the meaning of
*43 The term "charitable contribution" has been generally held synonymous with the term "gift."
We must therefore inquire into what actuated petitioners in making the transfer to Columbia. The task is not to measure the extent to which pristine charitable benevolence prompted the transfer. Cf.
As we view the evidence in its entirety, it clearly shows that the transfer to Columbia was a business transaction, not a charitable contribution. In essence, the Strickman group, acting through the trust, created a joint venture with Columbia for the profitable, commercial exploitation of the filter. The trust and Columbia negotiated an agreement which both of them hoped and expected to be *45 mutually advantageous. From this transaction, we infer that petitioners expected to receive, directly and indirectly, financial benefits fully commensurate with the value of the property transferred. See
At the time the assignment agreement with Columbia was negotiated, the filter had been invented but needed testing and refining. Exploitation of the invention was expected to be an expensive and highly speculative venture. The Strickman group was aware of its own lack of credibility, its weakness vis-a-vis the powerful cigarette manufacturers, and the need for further development of the patent. Association with Columbia, a prestigious educational institution with a superior, widely known medical school, gave the filter valuable favorable publicity as well as credibility as a cancer deterrent. It also provided the leverage needed for dealing with the tobacco industry in developing a *46 market for the filter. It was with these needs and potential benefits in mind that the Strickman group negotiated the transfer to Columbia.
The July 7, 1967, assignment agreement itself reflects an arrangement for the mutual advantage of the parties, a quid pro quo, not a charitable contribution. The agreement provides that the trustees "hereby
As "compensation for the assignment of the Invention and other considerations expressed" *47 the Strickman group was to receive substantial and direct pecuniary benefits. Moreover, the Strickman group was to be relieved of negotiating and policing all licensing agreements as well as perfecting and protecting all patents, domestic and foreign. The trustees were to receive the percentages of the net royalties (ranging from 90 percent of the first $ 5 million to 49 percent of all amounts above $ 25 million) set forth in our Findings -- income earned, in large part, by *471 Columbia's reputation and efforts. In the event the net royalties should not average at least $ 100,000 per year for any 3 consecutive calendar years beginning with 1971, and in other specified circumstances, the trust could give notice of termination of the agreement, and Columbia would be obligated to reconvey the filter to the trust. Indeed, because the trustees were dissatisfied with Columbia's initial steps in carrying out the agreement, the trustees gave notice of termination in mid-September 1967, less than 3 months after the agreement was signed -- an action hardly consistent with a genuine donative intent.
The June 9, 1967, trust agreement executed less than a month before the agreement with*48 Columbia does not even purport to authorize the trustees to make a gift of the trust property but, instead, empowers them to "sell" the invention to Columbia or any of its designees. The treasurer of Columbia testified that he "wanted the transfer to go through" because he "looked on it as a favorable business transaction for the university." As pointed out in our Findings, the language of the trust agreement with Columbia was carefully chosen with a view to obtaining the favorable "sale or exchange" treatment of patent income under section 1235. Every legal document executed in this whole transaction is phrased in the terms of a sale.
In sum, the tenor and content of the negotiations, the language of the documents of transfer, and all the surrounding facts are inconsistent with a genuine donative intent and are consistent with only one conclusion -- this was a purely business transaction with no charitable element. See
Petitioners dispute this conclusion, citing testimony that the parties intended in some way to give approximately half their interest*49 to Columbia or that, if there was a sale, it was a bargain sale of the invention to Columbia with a contribution equal to the bargain element. In the face of cogent documentary evidence, petitioners now repudiate the work of their lawyers as inconsistent with their intentions and the substance of the transaction. We find no merit in these arguments.
All the petitioners, excluding Rusoff, were present at the meetings with Columbia where the format of the transaction and section 1235 capital gains treatment were discussed. Katz, who was the moving force behind the transfer, and Raum, an attorney *472 and leading member of the Strickman group, both participated in the drafting of the documents. Both were undoubtedly aware of the group's intention and what the group wanted accomplished. All the petitioners signed the trust agreement. Petitioners cannot be heard to disavow the efforts of their attorneys and other representatives acting on their behalf and dismiss these "formalities" as mere "lawyers' doings."
As far as we can tell from the evidence, the theory of a charitable contribution was an afterthought which was not conceived until after the mid-September notice of termination*50 had been sent to Columbia, the spectre of the venture's failure was apparent, and, possibly, not until petitioners' 1967 returns were being prepared. This was too late. The history of a business transaction entered into with the hope and expectation of what one witness described as "astronomical" profits flowing to the trust cannot be rewritten to reflect a benevolent, charitable plan which unexpectedly failed.
Petitioners have simply failed to convince us that this transaction had any element of charity. True, both of Strickman's parents died of cancer, and he professed an interest in Columbia's cancer research. Raum testified he was willing to give to Columbia what he anticipated would be millions of dollars because his wife attended some graduate courses there. Suitt's daughter attended Columbia's school of general studies for a limited period of time. Rusoff was aware of Columbia's good work. These motivations are not commensurate with the generosity petitioners claim, especially when it is remembered that a notice of termination was sent to Columbia during the period the filter was being tested and within less than 3 months after the agreement was signed.
We do not doubt*51 that petitioners intended to confer an economic benefit upon Columbia, nor that at least some of the petitioners hoped that Columbia would use the funds to further cancer research. However, the expected economic benefit to Columbia is identical to that conferred upon any person chosen to render services in return for compensation. That intention is insufficient to characterize the transfer as a charitable contribution within the meaning of
The issues decided above were severed for a separate trial by order dated March 13, 1974. Our conclusions herein obviate the necessity for a trial of the issue as to the valuation of the filter at *473 the time it was transferred to Columbia. The Court has not been advised, however, as to the disposition of other pleaded issues. The parties will be expected to file appropriate motions for the further handling of these cases.
1. The following cases are consolidated herewith: Robert Strickman and Rose Strickman, docket No. 1358-72; William W. Suitt and Kathryn S. Suitt, docket No. 1724-72; Robert S. Raum and Ruth Raum, docket No. 2212-72; Irving Rusoff and Perle Rusoff, docket No. 3740-72.↩
1. In an amendment to his answer, respondent alleged additional deficiencies for 1968 in docket Nos. 1358-72 and 1724-72 in the amounts of $ 25,499.09 and $ 17,344.98, respectively. These allegations, as well as certain other issues, are not presented for decision in this proceeding.
2. All section references are to the Internal Revenue Code of 1954, as in effect during the tax years in issue, unless otherwise noted.↩
3. At the Apr. 25, 1967, meeting, the applicability of sec. 1235 was discussed. That section, if applicable, would recognize payments received by the Strickman group as gain from the sale or exchange of a capital asset.↩
4. The use of one-half the value is founded on the allegation by petitioners that they gave one-half of their interest in the filter to Columbia.↩
5.
(a) General Rule. -- The grantor shall be treated as the owner of any portion of a trust, whether or not he is treated as such owner under section 674, whose income without the approval or consent of any adverse party is, or, in the discretion of the grantor or a nonadverse party, or both, may be -- (1) distributed to the grantor or the grantor's spouse;↩
6.
(a) Allowance of Deduction. -- (1) General rule. -- There shall be allowed as a deduction any charitable contribution (as defined in subsection (c)) payment of which is made within the taxable year. A charitable contribution shall be allowable as a deduction only if verified under regulations prescribed by the Secretary or his delegate.↩
7. See
8. Petitioners compute their charitable contribution deductions by assigning a fair market value of approximately $ 20 million to the interest in the filter transferred to Columbia. The issue as to the filter's value has been severed for separate trial.↩
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