Paley v. Commissioner

*1154 These proceedings, consolidated for hearing, are for the redetermination of deficiencies as follows:

Certain allegations of error in the petitioners are conceded by the respondent. The petitioners contend that the respondent erred in refusing to permit the deduction of certain amounts from the sale price (or in addition to cost price of the same amount), of certain stock representing a share of profit on sales repaid to persons from whom the stock was purchased; and, in the alternative, in refusing to permit the deduction of such amounts as business expenses.

FINDINGS OF FACT.

The petitioners are citizens, resident of Philadelphia, Pennsylvania.

Prior to October 20, 1927, Gore Brothers, Inc., a California*1244 corporation, and its only stockholders, A. L. Gore and wife, Ruth Gore, and M. Gore and wife, Celia Gore (referred to collectively hereinafter as the "Gores"), were indebted to the Haystone Securities Corporation of New York in the principal sum of $223,807.22. The Gores had pledged as collateral for the loan $54,765 shares of stock of the Wesco Corporation, a Delaware corporation. A substantial part of the principal, with interest thereon, was overdue.

The petitioner Jacob Paley and his brother Samuel Paley, also of Philadelphia, are brothers of Celia Gore, the wife of M. Gore, the president of Gore Brothers, Inc. William S. Paley is the son of Samuel Paley and the nephew of Celia Gore.

Jacob and Samuel Paley agreed to render financial assistance to the Gores and under date of October 20, 1927, a contract was entered into whereby Jacob and Samuel Paley agreed to meet the Gores' obligations to the Haystone Securities Corporation and, upon completely discharging the indebtedness, were to hold 54,765 shares of Wesco stock as security for repayment by the Gores of the principal and interest so advanced to the Haystone Securities Corporation. The agreement of October 20, 1927, reads*1245 in part as follows:

ARTICLES OF AGREEMENT made and entered into this 20th day of October, 1927, by and between A. L. GORE and RUTH GORE, his wife, M. GORE and CELIA GORE, his Wife, and GORE BROS., INC., a corporation organized and existing under the laws of the State of California, (hereinafter referred to as "GORE"), and SAMUEL PALEY and JACOB PALEY, of the City of Philadelphia (hereinafter referred to as "PALEYS").

*1155 WHEREAS, Gore is the owner of $54,765 shares of no par capital stock and/or Voting Trust Certificates of Wesco Corporation, a Delaware Corporation, which stock has been pledged with Haystone Securities Corporation of New York as collateral for a loan on which there is due at the present time a balance of $223,807.22 principal, payable as follows: $41,269.08 now overdue; $91,269.07 due November 25th, 1927, and $91,269.07 due May 25th, 1928, bearing interest at the rate of seven per cent. per annum; and

WHEREAS, Gore has requested Paleys to take up said loan either in toto, or as said notes mature; and

WHEREAS, Paleys, for the considerations hereinafter particularly set forth, have agreed to assume liability for the payment of said indebtedness.

*1246 * * *

3. Gore, in consideration of Paleys assuming and paying said obligations as hereinbefore set forth -

(a) Hereby assign, transfer and set over unto Paleys all their right, title and interest, of, in and to the said fifty-four thousand seven hundred and sixty-five (54,765) shares and/or Voting Trust Certificates of Wesco Corporation, subject to the lien of Haystone Securities Corporation for the hereinbefore mentioned loan.

(b) Direct Haystone Securities Corporation to deliver to Paleys the said fifty-four thousand seven hundred and sixty-five (54,765) shares and/or Voting Trust Certificates of Wesco Corporation at and upon the payment by Paleys of the entire loan so made by Haystone Securities Corporation to Gore.

(c) Gore gives and grants unto Paleys the right, privilege and option to purchase outright from said 54,765 shares and-or Voting Trust Certificates of Wesco Corporation seventy-five hundred (7,500) shares thereof at Thirty-one dollars ($31.00) per share, provided Paleys exercise said option within three years from the date hereof.

(d) Paleys to hold said stock and/or voting trust certificates of Wesco Corporation until the repayment, to-wit: of all principal*1247 and interest due by Gore; said moneys so advanced by Paleys from time to time to be repaid by Gore with interest at a rate not to exceed six per cent. per annum, within three years from the date thereof. In the event of Gore failing to pay said principal with all interest thereon within three years from the date hereof, then and in such event Gore hereby authorize and empower Paleys to sell at public or private sale at any time thereafter, without further notice, and with the right of becoming the purchaser at such sale or sales, all or any part of said 54,765 shares of Wesco Corporation, freed and discharged of any equity of redemption, and to transfer, assign and deliver the same, and after deducting all legal and other costs, attorney fees and expenses of collection, sale and delivery, to apply the residue of the proceeds of such sale or sales, to pay any part or all of the principal and interest due to Paleys as they shall deem proper, returning the surplus, if any, to Gore, and should any deficiency occur Gore further promise and agree to pay Paleys on demand.

It is Mutually understood and agreed that on all moneys paid by Paleys to Haystone Securities Corporation interest*1248 thereon shall be payable by Gore at the end of one year from the date hereof, and thereafter annually.

In performing the agreement of October 20, 1927, and in order to exercise the option and make the purchase and sale of the Wesco stock, Jacob and Samuel Paley procured the participation of petitioner William S. Paley, and of Benjamin Paley, brother of Jacob *1156 and Samuel Paley. The interest of each of the four members of the syndicate was:

In March, 1928, Gore Brothers, Inc., sold all of its Wesco stock to the Fox interests.

Looking forward to participation in the same transaction, the Paley syndicate exercised its option to purchase the 7,500 shares of Wesco stock at $31 per share. Jacob Paley thus acquired 3,000 shares and William S. Paley acquired 375 shares. As part of the same transaction, Jacob and William S. Paley sold 2,025 shares of their optioned Wesco stock to Fox. One thousand eight hundred of the 3,000 shares of Jacob Paley's stock, costing $55,800, were sold for the net sum of $96,960, stamp tax deducted, and 225 of the 375 shares of William S. *1249 Paley's stock, costing $6,975, were sold for the net sum of $12,120, stamp tax deducted. The gross sale price was $54 per share. Also, as part of the Fox transaction , the remainder of the Wesco shares was exchanged for Fox stock and the Paley syndicate realized a gross profit, for other than income tax purposes, of around $198,000 upon the whole transaction.

After consummation of the Fox transaction the Gores made a claim for a division of the profits upon the sale and exchange of the optioned Wesco stock, insisting that the profit from the exercise of the option should, under the spirit of the arrangement embodied in the contract of October 20, 1927, be divided equally between the Gores and the Paleys. This claim was made at the time M. Gore and A. L. Gore were still in the East, where the Fox transaction was consummated, and discussed with Samuel and Jacob Paley just before the former's departure for Europe in May, 1928.

There were extended negotiations between M. Gore, A. L. Gore, and Celia Gore, on the one hand, and Jacob Paley and Samuel Paley, on the other, relative to the claim of the former for one-half of the profits realized by the Paleys from their transactions*1250 in the Wesco stock. On June 18, 1928, Jacob Paley wrote to Celia Gore in part as follows:

I discussed the matter that you are so anxious to hear about, with Sam on his return, and I have gone over this very thoroughly and carefully with him. After discussing this, we both feel, morally, that the deal was made from an out and outright business proposition, and that Gore Bros. are not entitled to have us make any returns on same. I do not care to enter into a long letter on this matter, as you know how much can be said regarding same, and he has agreed with me to mail you personally a check for $50,000 to clear this up, as a gift from us to you. [Italics supplied.]

*1157 On July 9, 1928, Samuel Paley sent two personal checks in the amount of $25,000 each on behalf of the syndicate to Celia Gore. He was reimbursed at the same time by three other members of the syndicate in proportion to their participating interests in the syndicate profits. These two checks were not personally endorsed by Celia Gore, but by Mike Gore for her, and were deposited by Gore Brothers, Inc., in the Los Angeles First National Trust & Savings Bank.

The members of the syndicate, including*1251 the two petitioners, treated their shares of the $50,000 payment on their books and on their income tax returns for 1928 as a reduction of their shares of syndicate profits on the sale of the optioned Wesco stock and not as a gift to Celia Gore. The two petitioners included their respective shares of the syndicate net profit on the sale and exchange of the Wesco stock, that is, the gross profit minus the remittance of $50,000 to the Gores, in item 6 as "Profit from sale of real estate, stocks, bonds, etc." on their income tax returns for 1928.

In the determination of the deficiencies involved herein the respondent has not permitted the petitioners to deduct from the sale price of their shares of stock the portion of the $50,000 contributed by them to Celia Gore, nor has he permitted such portion of the contribution to be added to the cost price of the stock sold, or permitted the deduction of such portion of the contribution as a business expense. William S. Paley's contribution to the $50,000 fund was $2,500; that of Jacob Paley was $20,000.

OPINION.

SMITH: In these proceedings the respondent contends that the payment of $50,000 by the petitioners and their associates to*1252 Celia Gore was an outright gift and in no wise affects the computations of net income of the petitioners. The petitioners contend herein that the $50,000 paid to Celia Gore was not a gift and that it was not so treated upon the petitioners' books of account; that it was an outright business transaction in which an altercation had arisen between the parties and the amount was paid in settlement of the altercation and for the purpose of preventing litigation.

Aside from the treatment of the payment of the $50,000 on the books of account of the petitioners and their associates, there is nothing in the record to show any liability on the part of the Paleys to pay the $50,000. The claim of the Gores that they were entitled to a division of the profits upon the sale by the Paleys of their 7,500 shares of Wesco Corporation stock has no legal justification. Jacob Paley recognized this fact in the letter to his sister dated June 18, 1928. There is every evidence, however, that he had great affection *1158 for his sister and did not wish to have any family unpleasantness about the matter. He, his brothers, and his nephew had made a large profit upon their investment in the Wesco*1253 Corporation stock and in order to heal any breach in family relations made a gift to Celia Gore of the $50,000. The letter of June 18, 1928, specifically states that the $50,000 is being given to Celia Gore "as a gift from us to you."

It is furthermore to be noted, as shown by the articles of agreement entered into on October 20, 1927, that the Wesco Corporation stock was owned by Gore Brothers, Inc., and not by the stockholders who apparently had endorsed the note given to the Haystone Securities Corporation of New York. If the $50,000 had been given in settlement of a valid claim there appears to be no reason why the $50,000 should have been paid to Celia Gore rather than to Gore Brothers, Inc. There appears to be no good reason for holding that it was other than a gift to Celia Gore. Cf. .

Judgment will be entered under Rule 50.