Mackubin v. Commissioner

*255 This proceeding involves a deficiency in income tax for the year 1930 in the amount of $12,648.71 and a 50 percent penalty in the amount of $6,124.91. A joint return was filed, but as it is the income of George Mackubin that is involved in this proceeding he *256 will be referred to herein as the petitioner. The issues are: (1) Whether the petitioner is entitled to the loss claimed on two blocks of securities, and (2) whether or not the transaction giving rise to the claimed loss, and the return filed giving effect to the loss, were fraudulent with intent to evade tax.

FINDINGS OF FACT.

Petitioner, a resident of Baltimore, Maryland, is a member of the stock brokerage firm of Mackubin, Legg & Co., formerly Mackubin, Goodrich & Co. In 1930 the firm consisted of six members. One of them has since died and the firm is now composed*751 of the other five, including the petitioner.

In 1930 the petitioner was the owner of 400 shares of preferred stock of the Houston Oil Co. and 4,448 shares of Eastern Rolling Mills stock. In December 1930 the market value of these shares was substantially less than their cost to the petitioner. The certificates covering the shares were in street names and were in the possession of the firm. They were shown as long stock in the petitioner's account with the firm.

On December 23, 1930, the petitioner and his son, George Mackubin, Jr., were preparing to leave Baltimore and to spend the Christmas and New Year holidays on the petitioner's farm in Virginia. While they were in the firm's office that day the firm member in charge of accounting, who usually prepared the income tax returns for the several members, called the petitioner's attention to the fact that the petitioner would have a substantial income to report and also to the shrinkage in value of the above stocks. He suggested that these stocks be sold in order to reduce the petitioner's tax for the year. The petitioner thought that both stocks were underpriced at their then values and that they would go up. The petitioner's*752 son, George, Jr., was at that time indebted to the petitioner for some $29,000. The petitioner discussed the matter with his son and suggested that the son buy the stocks and hold them for a rise and that he would then be able to discharge his indebtedness to the petitioner. The son agreed. Thereupon one of the firm members made out regular purchase and sale tickets, which were sent through the bookkeeping department. That department on December 24 credited the petitioner's account with the then market price of the stocks. He was given credit as follows:

*257 The charges for commissions were subsequently reversed by reason of petitioner's exchange membership.

On the same date, December 24, 1930, the account of the petitioner's son was charged as follows:

*753 On January 10, 1931, the son delivered to the firm as collateral 1,000 shares of Houston Natural Gas common, which was then selling at $14 per share. In 1930 and 1931 the son was employed by the firm of Mackubin, Goodrich & Co. His salary was about $1,500 in 1930 and $1,700 in 1931. In 1930 he had no assets other than the Houston Natural Gas stock and $25,000 in life insurance.

In June 1931 the son sold the 400 shares of Houston Oil preferred in the open market for $25,230.10 and his account was credited with the proceeds. This reduced his debit balance to $33,700 in round numbers. He continued to hold the Eastern Rolling Mills stock until February 1932. At that time the stock had further decreased in value and the son's account was under-margined. The petitioner thereupon took over the account by having the son's debit balance of $34,786.60 charged to his account on the firm's books. When he took over the account the petitioner also took over both the Eastern Rolling Mills stock and the collateral of 1,000 shares of Houston Natural Gas. This increased the son's indebtedness to the petitioner by the difference between the debit balance assumed and the value of the shares*754 transferred.

In February 1933 the petitioner sold back to his son 4,448 shares of Eastern Rolling Mills stock. The son was charged on the firm's books with $23,129.60, that being the total of the market price at 5 1/8 plus commission. In connection with this transaction the son deposited as collateral 600 shares of Texas Pacific Land Trust stock that he borrowed from his mother. In 1934 the son sold the entire 4,448 shares of Eastern Rolling Mills stock at a profit of some $20,000. Upon the sale the firm balanced his account, returned his collateral stock, and paid over to him his profit. He reported the profit in his income tax return and paid a tax thereon. He used the profit to reduce his indebtedness to the petitioner.

The petitioner has continued to hold as security for the son's debt to him the 1,000 shares of Houston Natural Gas stock that he acquired when he took over the son's account in February 1932. At *258 the time of the hearing of this proceeding the market value of that stock was in excess of the unpaid balance of the debt.

In the income tax return filed for 1930 the petitioner reported a capital net gain of $199,267.38. In computing this amount*755 he deducted $102,904.09 as a loss on the sale of Eastern Rolling Mills and Houston Oil stocks to his son. The details of the computation are not shown on the return. In schedule D of the return the following items are listed:

The respondent disallowed the deduction of $102,904.09 and made other adjustments of comparatively minor amounts.

The joint return of petitioner and his wife for 1930 was filed with the collector at Baltimore, Maryland, not later than March 16, 1931. The notice of deficiency was mailed January 16, 1936.

The return of petitioner and his wife for 1930 was not false or fraudulent with intent to evade tax.

OPINION.

ARUNDELL: The respondent has asserted the 50 percent penalty prescribed by section 293(b) of the Revenue Act of 1928 in cases where any part of a deficiency "is due to fraud with intent to evade tax." The petitioner denies fraud. Consequently, proof of it is necessary in order to permit assessment, as otherwise*756 the statute of limitations under section 275(a) has run. The burden of proof is placed on the respondent by statute. Sec. 601, Revenue Act of 1928.

To sustain his burden the respondent points to two matters. One is the transaction whereby securities were transferred by the petitioner to his son, which transaction the respondent says was not a bona fide sale effective to establish a loss. The other is the petitioner's failure to set out this transaction as a separate item on the return filed.

The evidence in this case does not convince us that the petitioner is guilty of fraud. The established rule is that the respondent's burden of proof where he alleges fraud "is discharged only by clear and convincing evidence." ; . The transaction between father and son in December of 1930 was handled in the way that sales are regularly made through established brokerage houses. The petitioner *259 offered to sell and the son agreed to buy through the brokerage house. Regular purchase and sale tickets were made out, the usual bookkeeping entries were made, and the stock which was*757 in the broker's hands was marked out of one account and into the other. In addition the purchaser deposited some $14,000 worth of collateral, which together with the purchase stock was passed upon by the firm's margin clerk and was found to be sufficient margin for the account. Not only the petitioner but another member of the firm testified that under the firm's method of operation the stock passed out of the petitioner's control when it was taken out of his long account and entered up in the account of the son. We see no basis for characterizing as "pure fabrication", as counsel for the respondent does, the petitioner's testimony that the transaction was partly prompted by his desire to help his son work out of debt. The petitioner had faith in the stock and thought it was then underpriced in the market. The son had for a time been employed by the Houston Oil Co. and the petitioner was a director of the company. The Eastern Rolling Mills had their plant at Baltimore and the petitioner had some knowledge of the company's operations. He was thus in a position to judge of the potentialities of the stocks. It seems to us quite the natural thing for the petitioner to do to put*758 his son in a position to work himself out of debt. It can not be said that the transfer of shares was a gift, in view of the son's hypothecating stock of his own worth $14,000 in order to complete the deal. Subsequent events confirm the fact of an actual sale. He sold for his own account all of the Houston Oil stock in June 1931. In 1932, when the Eastern Rolling Mills stock was transferred back to the petitioner, there were also transferred the son's 1,000 shares of Houston Natural Gas stock. This seems to us to indicate that the petitioner and his son were handling their transactions on a business basis rather than on a gift basis as might be expected between father and son. Still later we find the son reacquiring the Eastern Rolling Mill stock, depositing other collateral to margin his purchase account, then selling the stock and using the profits to reduce his debt to the petitioner.

The evidence against the bona fides of the sale does not outweigh the matters discussed above. Some of the facts in the case, taken alone, might give rise to suspicion. There is the relationship of the parties to the sale, which it has been held in other cases requires a careful scrutiny*759 of the transaction. There is the lack of any cash passing between purchaser and seller at the time of the sale. These and other details brought out at the hearing have been considered any they do not constitute the clear and convincing evidence necessary to sustain the respondent's burden.

*260 We see no attempted fraud in the method of reporting the result of petitioner's transactions in securities. True, he did not give the details of the several transactions which resulted in a capital gain, but this without more does not establish fraud. The description given in the schedule was an honest one. The property involved was securities, as reported; the cost, selling price, and profit were accurately reported. The respondent made some adjustments in the figures in addition to those in question here, but no claim for fraud is advanced by reason of such other items. Failure to itemize may be an indication of fraud when the transactions omitted are not bona fide or where they result in an erroneous report of income. Such is not the case here. The petitioner neither gave an erroneous description of the property involved nor made a false statement of the amount of cost*760 or of the selling price. See ; .

Upon the face of the petitioner's return for 1930 it appears that within the two-year limitation period a revenue agent made an investigation and filed a report finding an overassessment. That report was not placed in evidence. Whether or not the transaction here involved was disclosed in that investigation does not appear in this record.

In addition to the matters so far discussed, which are based upon the cold type of the transcript of the hearing, there is in the petitioner's favor the impression that he and his witnesses made on the Division hearing the case. Both the petitioner and his son, another member of the firm, and an employee of the firm, testified concerning the sale in December 1930. All testified fully and frankly and, apparently, honestly. Upon seeing and hearing the witnesses the Division before whom the case was tried was left with the impression that the transaction of December 1930 was not fraudulently conceived and executed for the purpose of evading tax.

Reviewed by the Board.

Decision will be entered for the petitioner.*761