DocketNumber: Docket No. 5346-69
Citation Numbers: 59 T.C. 178, 1972 U.S. Tax Ct. LEXIS 32
Judges: Fay
Filed Date: 10/26/1972
Status: Precedential
Modified Date: 1/13/2023
*32
Petitioner acquired 50 shares of the corporation's stock on May 20, 1964, for $ 1,000 in cash. Petitioner subsequently acquired the remaining 50 shares of the corporation's stock on Jan. 23, 1967, in exchange for cancellation of $ 24,000 of the corporation's purported indebtedness to petitioner.
*178 OPINION
Respondent determined deficiencies in petitioner's Federal income tax for the taxable years 1964 and 1967 in the amounts of $ 2,483.43 and $ 3,387.65, respectively.
The issues presented for our consideration are: (1) Whether the 50 shares of no-par-value common stock of Aintree Stables, Inc. (hereinafter referred to as Aintree or the corporation), that petitioner acquired on May 20, 1964, were issued pursuant to a written plan as contemplated by
All of the facts have been stipulated by the parties. The stipulation of facts and the exhibits attached thereto are incorporated herein by this reference.
Petitioner is an individual who was a resident of Washington, D.C., at the time of the filing of the petition in this case. Petitioner's Federal income tax returns for the taxable years 1964 and 1967 were filed with the district director of internal revenue, Baltimore, Md.
On May 11, 1964, Aintree was incorporated under the laws of the State of Virginia by petitioner, Margaret Elizabeth Kenworthy, Cleave Deck, Richard A. Waterval, and Joseph A. Keating. Aintree was formed to provide a riding stable for public and private hire and to provide equestrian instruction*36 for the general public. Aintree's articles of incorporation provided that its authorized capital stock would consist of 100 shares of no-par-value common stock. The articles of incorporation further provided that the five incorporators would serve as the corporation's initial directors.
On May 20, 1964, the first meeting of the incorporators of Aintree was held. At this meeting the corporation's articles of incorporation and certificate of incorporation were accepted and approved, and the directors named in the articles of incorporation were ratified as Aintree's first directors.
The incorporators further authorized the board of directors "to issue [Aintree's capital] stock to the full amount or number authorized by the articles of incorporation in such amounts and proportions as from time to time shall be determined by the board."
The first meeting of Aintree's board of directors was also held on May 20, 1964. At this meeting, the board of directors authorized the appropriate officer(s) of Aintree to issue to petitioner a certificate representing 50 shares of Aintree's no-par-value common stock for which petitioner had subscribed and paid $ 20 per share in cash. Moreover, the*37 board of directors granted Margaret Elizabeth Kenworthy and Cleave Deck options to purchase 24.5 shares of Aintree's no-par voting common stock at an exercise price of $ 20 per share. The options could be exercised at any time until May 20, 1974. The options were never exercised and were ultimately canceled and withdrawn by Aintree's board of directors on January 23, 1967.
*180 Petitioner was advised by Aintree's attorney and by Aintree's corporate secretary on several occasions during the period between September 16, 1964, and January 23, 1967, that Aintree's future business prospects were poor and that continued capital investments in Aintree would be futile. Petitioner disregarded this negative advice and continued to be optimistic about Aintree's economic potential. In fact, she made numerous advances of capital to Aintree from May 20, 1964, to January 23, 1967. As of January 23, 1967, the total amount of petitioner's advances to Aintree was $ 30,133.98.
Aintree did not issue any promissory notes or other evidences of indebtedness with respect to these advances. The parties also made no provisions for the payment of interest by Aintree to petitioner and, in fact, no*38 interest payments were made.
The 12th meeting of Aintree's board of directors was held on January 23, 1967. At this meeting petitioner offered to cancel $ 24,000 of the corporation's purported indebtedness to her in consideration for the issuance of an additional 50 shares of Aintree's no-par voting common stock. In accepting petitioner's offer, the board of directors adopted the following resolution:
Whereupon, Mrs. Kaplan announced that she would immediately offer to cancel $ 24,000.00 of her prior loans to the Corporation in consideration of immediate issuances of an additional 50 shares of the common stock of the Corporation; and whereupon the Board of Directors, upon motion made, seconded, and unanimously carried,
Resolved that Mrs. Kaplan's offer is accepted and the Secretary is directed to immediately issue forthwith the remaining 50 shares of authorized common stock of the Corporation to Mrs. Marcia Kaplan and note the stock record transfer books accordingly.
Petitioner's purported $ 30,133.98 indebtedness to Aintree was a worthless claim on January 23, 1967, and had a fair market value of zero as of that date.
From January 23, 1967, to September 1, 1967, petitioner made*39 additional advances totaling $ 5,510 to Aintree. Aintree did not issue any promissory notes or other evidences of indebtedness with respect to these advances. The parties also made no provisions for the payment of interest by Aintree to petitioner and, in fact, no interest payments were made.
On September 1, 1967, Aintree's board of directors decided to terminate the corporation's business. Aintree adopted a plan of liquidation on September 15, 1967, and ceased doing business sometime during September 1967.
Petitioner advanced an additional $ 625 to Aintree during the period from October 23, 1967, to November 14, 1967. Aintree did not issue any promissory notes or other evidences of indebtedness with respect to *181 these advances. The parties made no provisions for the payment of interest by Aintree to petitioner and, in fact, no interest payments were made.
Petitioner's total advances to Aintree from May 20, 1964, to November 14, 1967, amounted to $ 36,268.98. The parties did not provide for a maturity date for the repayment of the moneys advanced by petitioner to Aintree. The $ 36,268.98 that petitioner advanced to Aintree was used to meet Aintree's day-to-day operating*40 needs. Aintree did not repay any of these advances from petitioner with the exception of a nominal repayment of $ 82.72 that was designed to close the corporation's bank account after providing for the corporation's creditors pursuant to the plan of liquidation.
On her Federal income tax return for the taxable year 1967 petitioner claimed a $ 25,000 ordinary loss resulting from the exchange of
As a general rule, losses incurred when capital stock becomes worthless are capital losses and are deductible only to the extent of the taxpayer's capital gains plus $ 1,000 of his ordinary income. See
*42 Respondent's position is that the stock in question failed to meet the definitional requirements of "
Petitioner argues that the minutes of the first and 12th meetings of Aintree's board of directors held on May 20, 1964, and January 23, 1967, respectively, constitute written plans within the meaning of
With respect to the minutes of the May 20, 1964, meeting of the board of directors, these minutes contained resolutions specifying (1) that petitioner had subscribed and paid for $ 1,000 of the corporation's stock and that a certificate representing 50 shares of the corporation's stock should accordingly be forwarded to petitioner ("the stock-issuance resolution"), and (2) that Margaret Elizabeth Kenworthy and Cleave Deck were granted an option to acquire 24.5 shares each of the corporation's stock at an exercise price of $ 20 per share ("the option resolution"). The latter resolution further provided that these options could be exercised at any time during*44 the 10-year period beginning May 20, 1964, and terminating May 20, 1974.
Petitioner apparently contends that the stock-issuance resolution in the minutes of the May 20, 1964, board of directors meeting should be isolated from the option resolution contained in these minutes, and *183 that the stock-issuance resolution should be construed in and of itself as a written plan within the meaning of the "
*45 We are not persuaded by petitioner's construction of the facts. Even if we assumed that the minutes of the May 20, 1964, board of directors meeting constituted a written plan, we cannot ignore the option resolution contained in the minutes of the board of directors meeting. The option resolution and the stock-issuance resolution were both adopted at the same board of directors meeting. We can find no rational basis for excluding the 49 shares of Aintree stock specified in the option resolution from the purported plan. Therefore, the purported plan violates the requirements of
Finally, the fact that the options were subsequently canceled prior to exercise of any of the options is irrelevant. The technical requirements of
*48 With respect to the issue of whether petitioner's acquisition of 50 shares of Aintree's stock on January 23, 1967, constituted "
*50 In determining whether petitioner acquired the 50 shares of Aintree's stock on January 23, 1967, in exchange for money or other property, we must decide whether the moneys advanced by petitioner to Aintree during the period from May 20, 1964, to January 23, 1967, constituted capital contributions or valid indebtedness for Federal income tax purposes.
Respondent contends that the purported loans were in effect capital contributions and that the loans should, thus, be recharacterized as equity. Petitioner contends that the loans were valid indebtedness. We disagree with petitioner's contention.
Petitioner argues that the language of
Stock issued in consideration for cancellation of indebtedness of the corporation shall be considered issued in exchange for money or other property unless such indebtedness is evidenced by a security, or arises out of the performance of personal services.
Petitioner thus concludes that since (1) the involved stock was issued*51 to petitioner in exchange for petitioner's cancellation of indebtedness to the corporation and (2) the indebtedness was
Petitioner's argument is fallacious in that it ignores the crucial question in point.
Petitioner may very well have intended for the advances to be considered as loans. However, we believe that the "objective" intent of *186 the parties takes precedence over their "subjective" intent in characterizing purported debt for Federal tax purposes. See
The objective intent *52 in the instant case is clearly established by the following factors standing alone: (1) Aintree was inadequately capitalized from its inception; (2) Aintree did not issue any promissory notes or other evidences of indebtedness to petitioner; (3) the parties failed to provide for interest payments by Aintree to petitioner; and (4) petitioner's advances to Aintree did not have a maturity date.
*187 We hold that the existing factors of inadequate capitalization, lack of maturity dates, failure to provide for interest charges, and absence of promissory notes or other formal indicia of evidences of indebtedness support the conclusion that the advances constituted risk capital and*55
1. All statutory references hereinafter refer to the Internal Revenue Code of 1954, unless otherwise indicated.↩
2. Support for the "written plan" requirement in
3. Although the 50 shares were subscribed and paid for prior to the adoption of the purported plan,
4. Although we do not wish to penalize small, unsophisticated taxpayers for not strictly complying with formalities, we would be committing gross error if we ignored the 2-year requirement contained in
5. It should be observed that there is an additional reason for concluding that the 50 shares issued to petitioner on May 20, 1964, did not qualify as "
6. We have also found it unnecessary to consider the preliminary issue of whether the minutes of the 12th meeting of Aintree's board of directors, which was held on Jan. 23, 1967, constituted a written plan within the meaning of the regulations. Regardless of whether these minutes did constitute a written plan, the stock issued was not "
7. The legislative history underlying
8. We recognize that although the advances in 1964 may be characterized as capital contributions due to the corporation's undercapitalization, the advances in the years subsequent to 1964 could still be found to be valid indebtedness. See
Jewel Tea Co. v. United States , 90 F.2d 451 ( 1937 )
Fin Hay Realty Co. v. United States , 398 F.2d 694 ( 1968 )
John v. Rowan v. United States , 219 F.2d 51 ( 1955 )
Road Materials, Inc. v. Commissioner of Internal Revenue, ... , 407 F.2d 1121 ( 1969 )
Wood Preserving Corporation of Baltimore, Inc. v. United ... , 347 F.2d 117 ( 1965 )
First Mortgage Corp. v. Commissioner of Internal Rev. , 135 F.2d 121 ( 1943 )
Edwin C. Hollenbeck and Kathryn J. Hollenbeck, Wade G. ... , 422 F.2d 2 ( 1970 )
Naylor v. Commissioner of Internal Revenue , 203 F.2d 346 ( 1953 )
James A. And Audrey J. Warner v. Commissioner of Internal ... , 401 F.2d 162 ( 1968 )
arlington-park-jockey-club-inc-v-ernest-j-sauber-district-director-of , 262 F.2d 902 ( 1959 )