Brief for the Respondent in Opposition — Gilbert v. Commissioner

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MAY 4 IS5¢

No. 827 | ) JAMES" @ROWNING, Cleth

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x 3 the Siciriens Court of the Huited ~— |

Ocronas TERM; 1958

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: BENJAMIN D. ars MADELINE Pennine GILBERT,”

PETITIONERS »

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“COMMISSIONER OF INTERNAL REVENUE.

On Petition for a Writ of Certiorari to the United States’

- Court of Appeals for the Second Circuit

‘BRIEF FOR THE RESPONDENT IN OPPOSITION

a

- ‘J. LEE RANKIN, =

Solicitor General,

CHARLES K. RICE, :;

‘“Assistani Altorne 4 “General,

DTG Ie bans Harry BAUM, eee

“es oe _X MELVIN L. LEBOw, ‘ ;

: a Attorneys,

i ‘Department of Justice,

- Washington 25, D.C.

INDEX *~ ¢

-”. Opinions below , ee

«Jurisdiction

* Question seenented ° tes i

Statement. .f.......... * eelnreiee

_ ‘Argument ee Ral . 7

~-Conclusion®...:. ee? cecenas pie aland blunts nchaen aS rt &

G ees 8

—.. | Leona ant CITATIONS

Cases: . ; :

Arlington aia ‘pital Club -v. . Sauber, 262 F. 2d

- 902 . tails Matti re 6

tock. v. Group of Investors, 335, U. S. 211. 7

, Products Co. V. Commissioner, 350. U. S. 46. ) 7

Dittmar vy. Commissioner, 23 T.C. 789_- om 5

*. Gooding Amusement Co. v. et TC. - y

) nied, 353-U. S. 946 se me

Gregory Vv. Helvering, 293 U.'S, 465... 7... abies P

Kelley, John, Co. v. . Commissioner, 326 U: S. 521

o ‘

-

a: ‘Mapleton \ v. paren 172 F. 2d 688. ” “ae

4 Matthiessen v. Commissioner; 194 F. 2d 659 _

* Reed’v. Commissioner, 242 F. 2d 334.

Root v. Commissioner, 220 F. 2d 240..

: Rowéh V. United States, 219 F, 2d 512 |, .......

« . +» Schnitzer Vv. Commissioner, ae affirmed,

"s ° . °183 F. 2d 70, certiorari ,denied,’340.U.S. 9f1 .. 6,7,8

_« ' Talbot Mills v. Commissioner $26 UO: S. 521.0... °: 5

Vani Clief v. Helve ering, 135 Fy 24.2 254 © 8

- >

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DNIAGAIMDHODF AD

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Statute’

- Internal ‘Revenue _ of” 1939 (26 US.C.. 1962

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OCTOBER TERM, 1958 a

No. 827

BENJAMIN D. and MADELINE PRENTICE GILBERT,

PETITIONERS

v. ,

COMMISSIONER OF INTERNAL REVENUE

On Petition a a Writ of Certiorari to the United States

Court of Appeals for the Second Circuit

BRIEF FOR THE RESPONDENT IN OPPOSITION

OPINIONS BELOW

The first decision of the Tax Couit (Pet. 20-33) .

is reported at 15 T.C.M. 688. The first opinion of

he court of appeals (Pet. 34-54). is reported at 248

. 2d 399. ThéWecision of the Tax Court on remand

(Pet. 55-58) is not reported.) The final opinion of

the court of appeals (Pet. 59463 is reported at 262

F, 2d 512. |

JURISDICTION

The judgment of the court of appeals was entered

on January 14, 1959 (Pet. 64). The petition for a

writ of certiorari was filed on April 10, 1959. The

a):

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jurisdiction of this Court is sionieel under 28 US

1254(1).

QUESTION PRESENTED

Whether, on the facts of this case, advances made

to a corporation by-a stockholder were loans, giving

rise to a bad. debt deduction, or contributions to cap-

‘ital, ery rise to a capital loss. |

“ STATEMENT

The Tax. Court determined a deficiency in tax-

payer’s ' income taxes for the calendar year 1948 in

the amount of $48,518.65 (Pet. 20-33). The court

of appeals remanded the case to the Tax Court for ~

additional. findings (Pet. 34-54). The Tax Court

made supplemental findings and reaffirmed its. orig:

inal decision (Pet. 55-58). The court of appeals af-

firmed (Pet. 59-63): The pertinent facts, as found

by the Tax Court, are as follows: _ a. :

~ In 1946 taxpayer and Albert -Borden organized.

Gilbor, Inc:, to engage in the development of various

business projects through the acquisition. and financ-

ing of corporate subsidiaries. The authorized cap-

ital stock of the corporation was. $120,000, of which |

1,000 shares were preferred stock having a par value —

of $100, and 20,000 shares were common stock with

a par value of $1.. Borden acquired 4,000 shares of

‘ common stock in Gilbor in exchange for $40,000 in -

cash and the taxpayer ‘acquired 4,000 shares in’ ex-

‘change for assets worth $40,000. Taxpayer was the

' Although petitioners filed a joint return, petitioner Ben-

jamin D, Gilbert will be referred to as ‘taxpayer’ since the

disputed issue relates solely to his losses.

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president and secretary of -Gilbor. and Borden was.

treasurer and a director (Pet. 24-25). .

; At the first meeting of the board of ‘directors of

‘ Gilbor, the board authorized expenditures of over’

$38,000 ‘out of the $42,117.86 in liquid assets then =”

available. At that meeting the corporation obtained

advances from its shareholders in, order. thereafter

to conduct business — (Pet. 25). Through the years

of Gilbor’s corporate existence, 1946, 1947 and 1948,

it was.necessary for the taxpayer and Borden con-

tinuously to advance funds to the corporation in-or-

-’ der for it to conducf fts business (Pet. 27:29).

At the time .of the organization of Gilbor and

thereafter, the taxpayer and Borden. understood that

the funds received by Gilbor upons ; the issuance of its

capital stock would: not be sufficient to finance the

conduct of its business (Pet. 56). At that time it

was .agreed between the taxpayer and Borgen that

they would make the. advances to Gilbor necessary to

the conduct of its business (or furnish collateral to

it), and that. the advances would be made by the. .

shareholders in proportions equivalent to the propor- — *

tion of. the stock of Gilbor that each share iolder

owned (Pet. 56-57). The advances made by the'tax- .

payer and Borden were made by each in proportion -

to his stock holdings (Pet. 57). Some of those ad-

vances were evidenced by notes, put others were not -

(Pet. 27). :

' Gilbor was always in serious financial difficulty

“and the advances were made during a period when

interest on prior “loans” was in default, the prin-

cipal was unpaid, and the corporation was insolvent.

4

Gilbor used the funds so acquired primarily for

working capital and the paren of capital panels —

(et SS...

oa No outsider would ‘om nade the necessary ad-

vanees of funds to .Gilbor without adequate secu. -

rity, which security Gilbor could not provide (Pet.

56). . The taxpayer’s advances were not secured (Pet.

29-30) and were made without regard to any normal

creditor safeguards (Pet. 57). The advances werc

at the risk: of the corporation’s business with no ex-

pectation that’ they would be repaid unless profits

were earned, and the taxpayer made no effort to .

enforce the obligations (Pet. 57, 63). Gilbor never

paid any interest or principal on the obligations (Pet.

27, 29). 2 <%. « > ‘

“On December 16, 1948, Gilhor’ was dissolved be-

cause of its insolvent condition {Pet. 30). Upon

-the liquidation of Gilbor. and its subsidiaries the tax-

_ payer sustained ‘a loss as a result of his advances

(Pet. 30-31). The taxpayer deducted the loss on his

return as a busi bad debt under Section 23(k)

of the Internal Revenue Code of 1939. @

The Tax Courty found that the advances made by |

' the taxpayer to Gilbor constituted contributions to

_ capital rather than debts within the meaning -of

Section 23(k), and therefore that the loss was de-

ductible as a capital loss under Section 23(g) and

not -as a bad debt. loss (Pet. 57).* “The court of

appeals affirmed (Pet. 59-63). 7

* That holding made it unnecessary to reach the further

question whether the loss, if a bad debt, was deductible as

a business or as a non-business bad debt. See Section 2%

" (k) (1) and (4).

5

ARGUMENT -

' The decision of the court below is correct and is

not in conflict with any other decision. It affirms

the Tax Court’s finding’ that the advances by the

taxpayer to Gilbor, made in proportion to hig stock

‘interest therein, were contributions to capital and

not loans. In so holding, the court below applied

the principles established by this Court in John —

Kelley Co. v. Commissioner (decjded with Talbot

Mills v..Commissioner);, 326 U.S. 521, that the ques-

tion whether an advance by a stockholder to a cor-

poration represents a loan or a capital contribution

is essentially one of fact’ ¢pp.” 526-527) and that

“There is no one characteristic, not even exclusion

from management, which can be said to be decisive

in the determination of whether the obligations are

risk investments in the corporations or debts” (p.

-580).2 The form of the transactions is not deter-

* Hence, ‘the taxpayer's contention (Pet. 8-9, a8. that

it was necessary for the courts below to find an imbalance

_in the debt-equity ratio of Gilbér and make a specific find-

-ing with respect to the taxpayer's intent, in order to find

that the advances constituted risk investments, is: without

merit. The question must be decided in the light of all the

. facts and rio one -factor is controlling. Accordingly, even . —

. - where the debt structure of the corporation is not excessive,

‘or where advances are not in proportion to stock holdings, it

has been held that the cumulative effect of other circum-

stances justifies a finding that advances constitute risk capi-

tal. Johy Kelley Co, Vv. Commissioner, 326 U. S. 521, 525- -

530; Reed Vv. Commissioner. 212 F. 2d 334, 335 6€.A. 2);

Gooding Amusement Co. ¥. Commissioner, 23. T.C. 408, 419,

' affirmed, 236 F. 2d 159 (C.A. 6), certiorari denied, 352 U. S.

1031; Dittmar v.. Commissioner, 23 T.C. 789, 796. Moreover,

the courts below ‘did find: that the taxpayer understood that

a

minative of the question, and the taxpayer has the

burden of proving by a preponderance of the-evidence |

that the advances were not risk investments. Joli

Kelley Co. v. Commissioner, supra, p. 5380; Arlington:

_Park Jockey Club v. Sauber, 262 F. 2d 902 (C.A.

7); Reed v. Commissioner, 242 F.°2d 334, 335 (C.A.

2); Matthiessen v. Commissioner, 194 F. 2d 659, 66]

—(C.A. 2); Schnitzer y. Commissioner, 13 T.€. 43, 60,

affirmed per curiam, 183 F. 2d 70.(C.A. 9), certi-

orari denied, 340 U.S. 911; Gregg. Co. of Delaware v.

Commissioner, .289.F. 2d° 498,502 (C.A..2). certi- -

orari denied, 353 U.S. 946; Gooding Amusement. Co.

_v. Commissioner, 236 F. 2d:159 (C.A. 6), certiorari °

denied, 352 U.S. 1031; see Rowan v. United States,. -

219 F. 2d 4, 55 (C.A. 5).

The evidence :recited in detail by both courts be-

low fully warrants the Tax Court’s conclusion. that

the advances in question were, in fact, risk invest-

ments. That the taxpayer and ihe other shareholder

of Gilbor knew that the funds originally invested in

that corporation would be insufficient, that the share-

holders agreed fo advance the funds needed for work- °

' ing capital in proportion to their ownership of stock,

Gregory V. Helvering, 293 U.S. 465, that-the taxpayer’s mo-

tive is not ‘determinative.

that the advances were in fact made-by. the share-

holders .in proportion to stock interests, that the ad-

vances were used for working capital and to purchase

capital assets, that Gilbor never paid interest or

his advances were essentially in the nature of contributions

to capital (Pet. 56-57, 60-61, 63). The court below did not

hold that-intent is irrelevant; it merely held (Pet. 62), citing

principal on the obligations, that the obligations were.

not enforced, and that the advances were at the risk -

of the ‘corporate business with no expectation of re-

payment unless that business was successful, are

some of the factors in the record which in and of

themselves furnish substantial evidentiary support

for the Tax Court’s finding. The holding of the court

‘below, (Pet. 62-63), based upon :its review of all the

facts, that’ the advances were contributions to cap-

ital and that the taxpayer did not show the Tax

~ Court’s finding to be erroneous, is therefore clearly ©

correct. Under the*settled rule of this Court, since

the question is essentially factual,‘ the concurrent -

findirigs of both courts below should be considered

‘final here. Corn Products Co. v. Commissioner, 350

‘U.S. 46, 51; Comstoek v. Group of Investors; “335

U.S. 211, 218-214.

That the court below referred to the true*intent

of the parties in terms of “substantial economic real-

‘ity” :(Pet. 62) does not, as the taxpayer asserts,

present any substantial legal question. . As the court

_ pointed out (Pet. 62), that term is merely a way of

_ expressing the applicable principle that the decision

as to whether advances to. a cor poration are in sub-

stance capital contributions or loans depends upon —

aN. all the facts in the particular case, no one of them

soopuanmianeonine v.

“4 John Kelley Co. V. Commissioner, 326 U. S. 521, 526,

530; Gooding Amusement Co. Vv. Comgpissioner, 236 F. 2d

159 (C.A. 6), certiorari denied, 352 US: 1031; Root v. Com-

missioner, 220 F. 2d 240, 242 (C.A. 9); Matthiessen v. Com-

missioner, -194 F. 2d 659, 661 (C.A. 2); Schnitzer v. Com-

_ missioner, 13 T.C. 43, 60, affirmed per curiam, 183 F. 2d 70

(C.A. 9), certiorari denied, 310 U.S. 911. ,

aera i.

". being determinative. Since determination: of the

_ question depends upon. the particular record made

_ before the’ trial court, the taxpayer’s suggestion of

conflict (Pet. 10-12) with, Rowan v. United States, —

219 F, 2d 51 (C.A, 5); Maloney v. Spencer, 172 F.

2d 688 (C.A. 9); and Van Clief v. Helvering, 135

.F, 24.254 (C.A.D.C.), is plainly without merit.

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*In Rowan the only evidence showed that the advances

there in question were loans, but the Fifth Circuit indicated -

(219 F.2d at 55) that its decision that the advances were

loans might have been different if there were facts in the

record similar to those which we find in the case at bar. In

Maloney the Ninth Circuit merely held that the trial court's

finding that advances made to a corporation were\loang was

not clearly errorteous.: Compare that court’s opposite decision

in Schnitzer v. Commissioner, 13 T.C. 43,: affirmed per cur-

iam, 183 F. 2d'70, certiorari denied, 340 U. S. 911, om facts

closer to the present case. In Van Clief which was decided

before this Court’s decision in. John Kelley Co. v. Commis-

sioner, 326 U.S. 521, the court, on facts different from those

- in the present case, merely remanded the case to the trial

court for additional evidence with respect to the nature of

the ~sieemece and obligations arising therefrom. an

| rs

f CONCLUSION

For the foregoing reasons, the petition for a writ

of certiorari should be denied.

Respectfully submitted.

I LEE. RANKIN,

Solicitor General.

CHARLES K.sRICE,

Assistant Attorney General.

HARRY BAUM,

MELVIN L. LEBOW, ~

a E “- f . ¥ . ©

. Attorneys.

, ee '

MAY 1959.

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