Welch v. Commissioner

*1370 Proceedings for the redetermination of deficiencies in income tax for the calendar years and in the amounts as follows:

Several errors are alleged but all may be summarized in the one that the respondent refused to allow the trustees to deduct income permanently set aside, pursuant to the terms of decedent's will, for municipal, charitable, and educational institutes. By agreement of counsel the cases were consolidated.

FINDINGS OF FACT.

Petitioners, E. Sohier Welch and Augustus Thorndike, together with Robert Amory Thorndike, are trustees under the will of Edward I. Browne, duly appointed and qualified, Robert Amory Thorndike having been appointed and qualified since the filing of this appeal.

Edward I. Browne, a resident of Boston, Mass., died testate on*4235 September 15, 1901. By the will the testator, after making specific bequests, placed the residue in trust and directed the distribution from the trust income of the following amounts to the persons named:

*1371 These distributions were directed to be made from income of the trust estate, but with respect to the sum to be paid Harriet T. Browne, it was provided that if the income should not, in any calendar year, be sufficient to pay the full amount thereof the deficiency should be made up from the principal of the trust estate.

Harriet T. Browne died on December 10, 1901, less than three months after the death of the testator.

The will directed that the trustees should hold the property in trust during the lives of the above beneficiaries and the last survivor of them and for 20 years thereafter, and that during such period the income, after payment of the specified amounts, should be added to the capital of the trust fund.

The trustees were directed, within 6 months after the expiration of the*4236 20 years after the death of the last survivor of the life beneficiaries, to divide all the property of the trust into three equal parts and to dispose of it as follows:

(1) One-third to the City of Boston to be invested and reinvested and forever held as a special fund, the income to be used for the adornment and benefit of the city by the erection of monuments, fountains, etc.

(2) One-third to the Massachusetts Charitable Eye and Ear Infirmary (now known as the Massachusetts Eye and Ear Infirmary) to be invested and reinvested and forever held as a special fund, the income to be applied to the general uses of the institution. The will further provides that if the infirmary shall not have, or can not obtain from the State legislature, the necessary powers to hold the one-third of the trust, so much of the trust as it can not hold shall be equally divided between the New England Home for Little Wanderers and the Children's Hospital. All three of these institutions are Massachusetts corporations.

(3) One-third to the president and fellows of Harvard College, a Massachusetts corporation, to be invested and reinvested and forever held as a separate fund to be known as the Browne*4237 Fund, one-half the income to be applied to increasing the salaries of instructors in the college, and the remaining half to be used in assisting pecuniarily poor and deserving undergraduates of the college or to provide scholarships for that purpose.

Some of the life beneficiaries above referred to are still living and the decedent's estate is under the administration of the trustees above mentioned. By reason of the probate law providing for the reporting of accounts of estates on the date, in each succeeding year, as that of the death of decedent, the trustees closed the accounts of the estate for probate court purposes on September 15 of each of the taxable years. For income-tax purposes, however, the accounts were closed at December 31 in each year, and returns were filed on a calendar *1372 year basis. The trustees kept their books on the cash receipts and disbursements basis.

For each of the years the trustees divided the income of the estate into what they termed taxable and nontaxable income. The latter consisted of interest on municipal bonds and Liberty bonds. At the close of each probate accounting year, that is, on September 15 of each year, the trustees, *4238 after paying all expenses, including the three $100 annuities, carried to the principal account of the trust the amounts shown below with the method of determining them:

No amounts were paid or credited on the trustees' books within the taxable years to any of the corporate beneficiaries above mentioned.

The net income of the trust, not including interest on municipal bonds and Liberty bonds, as computed by the trustees was as follows for each of the calendar years:

The trustees of the estate filed returns on Form 1041 with the collector at Boston, Mass.

OPINION.

ARUNDELL: The parties have stipulated, for the purpose of deciding this cause, that contributions or gifts made to the City of Boston are allowable deductions under section 214(a)(11) of the Revenue Act of 1921; that the other corporate beneficiaries under*4239 the will of the petitioner's decedent are not subject to tax in accordance with section 231(6) of the 1921 Act and that contributions made to them are deductible under section 214(a)(11) of that Act.

Petitioners claim that the income accumulated and credited to the principal of the trust during the taxable years constitutes an allowable deduction from the income of the trust under section 219(b) of the Revenue Act of 1921 as income "permanently set aside" for the remaindermen which are municipal, charitable, or educational corporations within the scope of section 214(a)(11).

The pertinent provisions of section 219(b) are as follows:

The net income of the estate or trust shall be computed in the same manner and on the same basis as provided in section 212, except that * * * there *1373 shall also be allowed as a deduction, without limitation, any part of the gross income which, pursuant to the terms of the will or deed creating the trust, is during the taxable year paid or permanently set aside for the purposes and in the manner specified in paragraph (11) of subdivision (a) of section 214.

It is clear that the trust created by the will is not in itself exempt from*4240 tax, , and no amounts were paid during the taxable years to the tax-exempt remaindermen, hence, if the trust is to escape taxation on its income it can only be by reason of the income having been "permanently set aside" for the tax-exempt corporate remaindermen.

The courts of Massachusetts seem to have invariably followed the rule of construction obtaining in most jurisdictions that remainders are to be deemed as vesting immediately on the death of the testator unless it clearly appears that the testator's intention was otherwise. ; ; ; ; . The facts in , are strikingly similar to those in this case. There the testator left the residue of his estate to his executors to manage and invest for 25 years, directing them to pay from the income certain annuities, to add the balance of the income to principal, and*4241 at the expiration of the period of 25 years to dispose of the accumulated fund to found a hospital. The trustees brought a bill for instructions in regard to the disposition of certain income in their hands. It was held by court:

The income and accumulations of the property go with the corpus of the fund, so far as the title is concerned. . Wharton v. Masterman, (1895) A.C. 186, 192, 198. The legal title to the property having been vested in the trustees, the title to its earnings was in them also. The right to have the earnings, when they should accrue, vested at once in the charity on the death of the testator. Any other doctrine would render provisions for accumulation ineffectual.See , and cases there cited. The expressions in the opinions in hale v. , and , relied on by the heirs at law, do not mean that the owner of a principal fund, on which income subsequently accrues, has not a vested right to the income from the beginning. See also *4242 ; . The income in this case, subject to the payments to be made from it under the seven provisions, was all the time held for charitable uses, as the principal was. (Italics supplied.)

The position of the respondent is that the trust itself is not exempt from tax and no part of the income received by the trust was permanently set aside or credited to the tax-exempt beneficiaries. We agree, as stated above, with the proposition that the trust is not in and of itself exempt. Under the statute it is not necessary that the income be credited directly to an exempt residuary legatee; it is enough if, under the will the income "was permanently set aside." Herbert*1374 ; ; 6 Am.Fed. Tax Rep. 6840. In the latter case the contention that is made here was disposed of with the observation that:

This would make the imposition of the tax depend upon some act of the executors, which had no result in law upon the rights*4243 of the parties, and is not in accordance with what we have found to be the expressed intent of the Congress, which was to tax the income received by the estate which would pass to any person subject to taxation, but relieve from taxation the income set aside by the terms of the will for corporations of the character described.

The Slocum cases effectively dispose of the principle involved in the present case. The only difference is that here a testamentary trust preceded the vesting of legal title to the residue in the exempt corporations. We do not regard this as material. The exempt beneficiaries here had vested interests, not only in the corpus but also, under , in the income.

The respondent, in his brief, cites the case of . The Circuit Court of Appeals in , expressly refused to follow that case.

Judgment will be entered on 15 days' notice, under Rule 50.