Appendix — Anderson v. Commissioner

U. §.

Su

IN THE SUPREME COURT OF THE UNITED ss

»)

October Term, 1980

No. 79-2027

i

FRANCES M. ANDERSON, Individually,

and as Legal Representative of the

Estate of PAUL H. ANDERSON

Petitioner

Vv.

COMMISSIONER OF INTERNAL REVENUE

Respondent

HERBERT E. AND MARY C. WIESE

Petitioners

Ve

COMMISSIONER OF INTERNAL REVENUE

Respondent

SUPPLEMENTAL APPENDIX

(TAX COURT MEMO. 1976-362)

THEODORE (TED) L. JONES

Attorney for Petitioner

Post Office Box 65122

Baton Rouge, Louisiana 70896

Telephone: (504) 925-1115

T. C. Memo. 1976-362

UNITED STATES TAX COURT

HERBERT E. WIESE and MARY C. WIESE,

Petitioners v. COMMISSIONER OF

INTERNAL REVENUE, Respondent

PAUL H. ANDERSON and FRANCES M. ANDERSON,

Petitioners v. COMMISSIONER OF INTERNAL

REVENUE, Respondent

Docket Nos. 7317-74, 7406-74

Filed November 29, 1976.

Theodore L. Jones, David Irvin Couvillion and

Gregory A. Pletsch, for the petitioners.

William A. Neilson, for the respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

RAUM, Judge: The Commissioner determined

deficiencies in petitioners’ income taxes as

follows:

Docket No. Petitioners Year Amount

7317-74 Herbert E. and 1971 $68,777.00

Mary C. Wiese 1972 31,058.00

7406-74 Paul H. and 1971 64,123.12

Frances M. 1972 27,063.96

Anderson :

~-

Various issues having been settled by

agreement of the parties, there remains for

decision only the question whether the section

1201 alternative tax rate of 25 percent applies

to the capital gain petitioners realized upon

the sale of their stock of H. E. Wiese, Inc.

The 25 percent rate applies only if the sale

was made pursuant to a binding contract entered

into on or before October 9, 1969; otherwise

the gain (in excess of $50,000 per joint return)

would be taxed here at the rate of 32-1/2 per-

cent in accordance with section 1201(c) (2) (B),

I.R.C. 1954.

FINDINGS OF FACT

The parties have filed several stipulations

of facts which, together with the exhibits

attached thereto, are incorporated herein by

this reference.

Petitioners Herbert E. Wiese and Mary C.

Wiese, husband and wife, filed joint Federal

income tax returns for the calendar years 1971

and 1972. Petitioners Paul H. Anderson and

‘Frances M. Anderson, husband and wife, filed a

joint Federal income tax return for the calendar

year 1971. Both couples resided in Baton

Rouge, Louisiana, at the time they filed their

petitions herein.

H. E. Wiese, Inc. ("Wiese, Inc."), a

Louisiana Corporation, at all times pertinent

hereto, was engaged, principally in the southern

Louisiana area, in the construction of industrial

plants for petroleum refining and petrochemical

and chemical manufacturing. In addition, Wiese,

Inc., was ehgaged in contract maintenance for

industrial plants sisi in_the same area.

After March 27, 1969, Wiese, Inc., established

an engineering department in connection with its

construction and maintenance operations.

On or before March 27, 1969, petitioner

Herbert E. Wiese was president of, and petitioner

Paul H. Anderson was a i eceutient of, Wiese,

Inc. Both men were members of its board of

directors.

On or before March 27, 1969, the stock of

Wiese, Inc., was owned by the persons and in the

proportions shown in the following table:

Stockowner Shares Owned Percent

Herbert E. Wiese 2,350 31.34

Wiese Children and

Spouses 1,400 18.66

Paul H. & Frances M.

Anderson 2,625 35.00

A. K. McInnis 1,125 15.00

Total 7,500 100.00

The Pace Company Consultants and Engineers

("Pace"), a Texas corporation, at all times

pertinent hereto, provided a wide range of

engineering and construction services to the

. pointes refining, petrochemical and chemical

industries.

During 1968, Pace was interested in the

acquisition of Wiese, Inc. In August of 1968,

W. D. Broyles, a vice-president of Pace, moved

to Baton Rouge to pursue negotiations for the

_ acquisition of Wiese, Inc., and later to super-

vise the integration of the two companies as is

- more fully described below.

On March 27, 1969, Pace and the Wiese, Inc.

sedaabhibs ainere into a STOCK PURCHASE

AGREEMENT and also a PLEDGE AND TRUST AGREEMENT.

By the terms of the STOCK PURCHASE AGREEMENT, -

the Wiese, Inc. stockholders agreed to sell and

Pace agreed to buy all the stock of Wiese, Inc.

The selling price was approximately $3,800,000,

payable partly in cash, partly in Pace stock,

and partly in a Pace non-negotiable promissory

note. Pace's obligation to purchase the Wiese,

Inc. stock was made expressly subject to the

condition, inter alia, that there be a success-

ful consummation of a public offering of Pace's

common stock, through a firm underwriting, from

which Pace expected to receive approximately

$2,070,000. In language, the substance of which

also appeared in the PLEDGE AND TRUST AGREEMENT,

the STOCK PURCHASE AGREEMENT recited:

The purchase of * * * [Wiese, Inc.] stock

* * * by Pace * * * is expressly made

subject to the condition that Pace will

within 135 days from the Closing Date

[March 27, 1969] be able to have a firm

underwriting * * * of a public offering

. of * * * Pace's * * * common stock * * *.

- If the public offering of Pace stock * * *

is consummated, the purchase of the * * *

[Wiese, Inc.] stock shall be final * * *.

If the public offering of Pace stock * * *

is not consummated, the purchase of the

* * * [Wiese, Inc.] stock shall be deemed

revoked and rescinded * * *,.

The PLEDGE AND TRUST AGREEMENT served to

secure the rights of the respective parties to

the STOCK PURCHASE AGREEMENT against various

contingencies, including primarily, the possi-

bility that the contemplated public offering of

Pace common stock might not occur. Thus the

STOCK PURCHASE AGREEMENT and the PLEDGE AND

TRUST AGREEMENT together provided, in substance,

that the Wiese, Inc. stock along with the consid-

eration to be paid therefor, would on March 27,

1969, be transferred directly to the City

National Bank of Baton Rouge, as Trustee.

The Wiese, Inc. stock was to be transferred

to the Trustee's name, as follows: "City

National Bank of Baton Rouge, Trustee under

Pledge and Trust Agreement dated [March 27],

1969. But all dividends distributed in respect

of this Wiese, Inc. stock held by the Trustee,

were to be paid directly to Pace.

In connection with the planned public

offering of common stock, Pace filed, with the

SEC, a Form S-1 Registration Statement including

a preliminary prospectus dated April l, 1969.

This filing contained relevant business and finan-

cial data of both Pace and Wiese, Inc. However,

as is hereinafter more fully described, the con-

templated public offering did not take place

before the end of the originally specified time

period or of any extension thereof.

After March 27, 1969, the organization and

business operations of Wiese, Inc. were increas-

ingly influenced by Pace. Pursuant to the March

27, 1969, agreements, the following significant

personnel changes were made at Wiese, Inc.: The

board of directors was increased to seven members,

including four Wiese, Inc. men and three Pace men.

H. E. Wiese, Paul Anderson, and A. K. McInnis

resigned as directors and were replaced by other

‘ieee, Inc. employees. Mr. Wiese and Mr.

Anderson remained the principal officers of the

corporation, but A. K. McInnis was no longer

employed there. The March 27, 1969, agreements

further provided for the creation of a two-

member "Supervisory Committee", whose unanimous

consent was required for Wiese, Inc., to under-

take certain major business activities. Mr.

Wiese and Warren E. Askey, then President of

Pace, were named as the two members of the

Committee.

Mr. Wiese and Mr. Anderson agreed to accept

substantial reductions in their salary and bonus

compensation, as a result of which their compen-

sation was more nearly commensurate with that

received by other Pace executives. The reduction

also reflected their lessened work-load and

decreased responsibilities.

As part of the integration of the business

activities of Wiese, Inc., and Pace, an engi-

neering design group was established within the

Wiese, Inc. organization. This group was created

by the initial transfer of several Pace employees

to Wiese, Inc., and the subsequent hiring of a

substantial number of additional employees. All

these people were employees of Wiese, Inc., their

Salaries were paid by Wiese,,Inc., and any profits

resulting from the operation of the group went to

Wiese, Inc. However, they were hired and super-

vised by Mr. Broyles, who at all times remained

a Pace employee. To make room for this engineer-

ing group, Wiese, Inc., was required to expand

and rearrange its office facilities.

Thus, on the basis of the March 27, 1969,

agreements, the two companies incurred substan-

tial costs in connection with the proposed public

offering of the Pace stock, the reorganization

and expansion of Wiese, Inc., and the partial

integration of the two businesses in contempla-

tion of the final acquisition of Wiese, Inc. by

~ Pace.

. Around July, 1969, Pace encountered certain

‘business problems which, along with the generally

unfavorable stock market conditions then existing,

decreased the likelihood that the contemplated

public offering of Pace stock would have been

successful. By September, 1969, it appeared that

the price of the Pace stock would have to be

reduced by as much as 50 percent if the offering

ene to be completed. Under the circumstances,

Pace's management concluded that it would be.

unwise to proceed with the public offering.

Therefore, on or about October 6, 1969, Pace

officially notified Wiese, Inc., of its decision

to withdraw the public offering; and on October

13, 1969, Pace applied to the SEC for the

withdrawal of its registration statement.

The adverse conditions described above led

the parties to the March 27, 1969, agreements to

modify those agreements in certain respects.

First, on August 12, 1969, Pace and the Wiese,

Inc. stockholders agreed to extend the PLEDGE

—

al

AND TRUST AGREEMENT until November 12, 1969.

‘Qevond, on September 22, 1969, the same parties,

with the consent of the Trustee, agreed to the

"FIRST AMENDMENT” to both the STOCK PURCHASE

AGREEMENT and the PLEDGE AND TRUST AGREEMENT.

This amendment, in substance, permitted Pace to

withdraw the Cash Consideration it had deposited

with the Trustee on March 27, 1969. This with-

drawal allowed Pace to save the interest expense

it was incurring to borrow those funds. Finally,

on September 26, 1969, the same parties agreed to

an “ADDENDUM” to the FIRST AMENDMENT. The ADDEN-

DUM was executed to clarify technical provisions

and instructions to the Trustee contained in the

FIRST AMENDMENT.

In spite of Pace's difficulties, both Pace

and the Wiese, Inc. stockholders hoped to com-

Plete the sale of Wiese, Inc., to Pace. Both

bod .

sides still believed that the two companies

“could operate more profitably if they were part

of a single corporate group. Moreover, each

”

party recognized that substantial amounts had

‘been spent in contemplation of the proposed

acquisition, and that additional costs would be

incurred in separating the companies' already

somewhat integrated business operations, in the

event that the acquisition plans were abandoned.

Therefore, several meetings between repre-

sentatives of Pace and some of the Wiese, Inc.

stockholders were held during the early part of

October, 1969. On or about October 8, 1969,

Messrs. Askey and Broyles, of Pace, met with the

principal stockholders of Wiese, Inc., namely,

Mr. Wiese, Mr. Anderson and A. K. McInnis. They

discussed the problem of consummating the acqui-

sition in light of the fact that the public

offering of Pace common stock would not take

place. Several alternative plans were discussed.

Eventually, the parties decided that the best way

to ooiniete the deal was for the Wiese, Inc.

-stockholders to grant Pace an option to buy their

stock. It was contemplated that this option

would extend for approximately two years and that

we this two-year period, Pace would raise the

money needed to make the purchase.

After this meeting, Mr. Wiese wrote the

following letter, dated October 8, 1969, to

Mr. Askey:

This letter is written to confirm* the

agreement A. K. McInnis, Paul Anderson and the

writer reached with you on your last visit to

Baton Rouge.

[Paragraph two rejects use of a private

Placement of Pace stock in lieu of the public

offering, and also rejects the possibility of

Pace and Wiese, Inc., working together on a

joint venture basis. ] ;

We (A.K., Paul and I) therefore made this

counter proposal:

l. Wiese is to go back to its old method

of operating, particularly the old

bonus plan for its officers including

the percentage proposed’ for the new

‘officers elected during the period

. Wiese anticipated the completion of

the merger with Pace.

2. Paul, A.K. and I would be re-elected

to the Wiese Board of Directors * * *,

3. The profit or loss of the new H. E.

Wiese, Inc. Engineering Department

would be included in the total Wiese

profit picture upon which the officers’

Bonus and profit sharing are based.

4. In return for the above all parties

agreed that the price of Wiese stock

; to Pace and the method of payment to

the Wiese Stockholders would remain

the same as shown on the Pledge and

Trust Agreement Exhibit B and Exhibit

C, provided the first down payment

could be made by Pace prior to October

15, 1971. The date of the first note

payment and the interest rate was not

mentioned in our verbal conversation.

However, Wiese Stockholders request

that the new agreement when consumated

read the existing prime rate of interest

on the date the agreement is signed in-

stead of 6% agreed upon in the old

document. |

* The underscoring shown above in this letter

was on the document as submitted in evidence,

and appears to have been done by hand.

On October 24, 1969, Mr. Wiese and Mr. Askey

met with the attorney for the Wiese, Inc. stock-

holders. They instructed him to prepare formal

written instruments based on the discussion which

had taken place at the October 8, 1969, meeting.

The status of the Wiese, Inc. acquisition

plans was discussed at the regularly scheduled

meeting of the Pace board of directors, held on

“October 27 and 30, 1969. According to the

minutes of the October 27, 1969, portion of the

meeting:

W. E. Askey stated that since our registra-

tion had been withdrawn,* it would be

necessary to dissolve the agreement with H.

E. Wiese, Inc. shareholders to permit the

return of 41,300 shares of the Common Stock

of The Pace Company Consultants & Engineers

to the Corporate Secretary, and the return

of the H. E. Wiese, Inc. stock to its share-

holders. Upon motion duly made and seconded,

the following resolution was adopted:

RESOLVED, that the actions of W. E.

Askey in behalf of The Pace Company

Consultants & Engineers in dissolving

the pledge and trust agreement

between The Pace Company Consultants

& Engineers, the H. E. Wiese, Inc.

shareholders, and City National Bank

Of Baton Rouge are hereby approved

and ratified.

W. E. Askey stated that he would need Board

approval to negotiate an option with the

shareholders of H. E. Wiese, Inc. for the

purchase of their stock. Upon motion duly

made and seconded, the following resolution

was adopted:

RESOLVED, that W. E. Askey is hereby

authorized to negotiate an option with

the shareholders of H. E. Wiese, Inc. .

for the purchase of their stock, and

that the option should be for a two

year period and should be in substan-

tial compliance with the terms of the

° original purchase agreement with the

shareholders of H. E. Wiese, Inc.

* All the underscoring in these minutes

was on the documents as submitted in

evidence, and appears to have been

done by hand.

Then when the meeting was reconvened on October

30, 1969, Mr. Askey read to the board the letter

dated October 8, 1969, which he had received

from Mr. Wiese.

On November 6, 1969, Mr. Askey, each of the

Wiese, Inc. stockholders, and a representative

of the Trustee named by the March 27, 1969,

PLEDGE AND TRUST AGREEMENT, signed an agreement

which provided in relevant part that:

WHEREAS, said above described Stock

Purchase Agreement and Pledge and Trust

Agreement were amended by instrument dated

September 22, 1969, (and Addendum dated

September 26, 1969), which is made a part

hereof by reference, and,

WHEREAS, the Sellers & Payee-Settlors

and Pace have now agreed to terminate,

cancel and discontinue both the Stock

Purchase Agreement and the Pledge and Trust

Agreement, therefore, the parties agree, as

follows:

l. The Stock Purchase Agreement dated

March 27, 1969, as extended and

amended, is hereby terminated and

. cancelled.

2. The Pledge and Trust Agreement

dated March 27, 1969, as extended

and amended, is hereby terminated

and cancelled. ‘

Also by this document, the Trustee was directed

to return to the scebeihtive contracting parties

the consideration (i.e., Wiese, Inc. stock

certificates, Pace stock certificates, and the

Pace promissory note) which each had contributed

and which was then being held by the Trustee

pursuant to the conditions of the March 27, 1969,

agreements.

Six days later, on November 12, 1969, Pace

and the Wiese, Inc. stockholders signed the

“OPTION TO PURCHASE STOCK" agreement contemplated

by their October discussions. This document

provided in part as follows:

AGREEMENT made November 12, 1969, * * *,

* * * * * * *

NOW, THEREFORE, in consideration of the

premises and mutual covenants herein con-

tained, the parties agree as follows:

1.

Sellers hereby grant to Pace an option

to purchase all the issued and outstanding

capital stock of H. E. Wiese, Inc. for * * *

($3,800,000.00) DOLLARS. [Payable $1,007,000

in cash at the exercise of the option and

$2,793,000 in 5 equal annual installments. ]

The unpaid balance shall bear interest,

payable annually, at the prime rate

received by the banks in the City of Baton

Rouge at the time the option is exercised.

3.

The payment of the note consideration

referred to hereinabove shall be secured in

the same manner as provided for in the

Stock Purchase Agreement and the Pledge and

Trust Agreement dated March 27, 1969 * * *

or some other method of securing the pay-

ment of the note agreeable to the Sellers.

* a * a * * *

This option shall terminate October 15,

1971, unless the cash downpayment referred

to hereinabove is made on or before that

date. .

Sellers agree recognition of this

option agreement will be noted on the

shares of stock issued by the corporation.

Pursuant to these agreements, but on a date

not established in the record, the Wiese, Inc.

stock certificates were returned to their

original owners. The stock certificates were

not introduced in evidence at the trial herein;

* nor was their absence explained.

, Certain changes in the management of Wiese,

Inc. occurred as a result of the October, 1969,

discussions and the November, 1969, agreements.

Mr. Wiese, Mr. Anderson, and A. K. McInnis were

returned to the Wiese, Inc. board of directors;

and bonus compensation of Wiese, Inc. officers

was again to be determined using the pre-March

27, 1969, formula.

However, apart from these changes, the

business operations of the two companies in the

Baton Rouge area, went on as they had since the

summer of 1969. Wiese, Inc.'s new engineering

department continued working under the super-

vision of W. D. Broyles of Pace. And, although

the Supervisory Committee established by the

March 27, 1969, STOCK PURCHASE AGREEMENT no

longer functioned as a formal entity, Mr. Wiese

continued the practice of consulting with Mr.

Askey before Wiese, Inc., would undertake jobs

in excess of half a million dollars.

During 1970 the Internal Revenue Service

examined the corporate income tax liability of

H: E. Wiese, Inc., for its three fiscal years

ending February 29, 1968, February 28, 1969, and

February 28, 1970. The examining revenue agent

proposed a number of adjustments, one of which

was the disallowance of the deduction claimed

for certain "legal and accounting" fees paid by

the corporation in connection with the planned

acquisition of Wiese, Inc., by Pace. The agent

recommended these deductions be disallowed on

the grounds that, as of October 2, 1970 (the

date of the Revenue Agent's report):

The proposed transaction has been amended

and the option to buy extended but has not

been abandoned. * * * Until the plans are

abandoned, it appears all these expenses

should be capitalized.

However, the record indicates that in the admin-

istrative process involved in reviewing the

proposed deficiency consideration might also

have been given to an adi Ganda ground for

disallowing the deduction, namely, that the

expenses were incurred for the benefit of the

selling stockholders rather than for the

corporation.

In response to the adjustments proposed by

the IRS, H. E. Wiese, Inc., filed a letter of

protest. This letter was prepared by Hannis T.

Bourgeois, a CPA and was executed under penalty

of perjury by Mr. Wiese, as president of the

corporation. In that protest letter, Mr. Wiese

objected to the examining agent's conclusion in

respect of the legal and accounting fee deduc-

tion, with the following statement:

The Pace agreement terminated on

November 6, 1969, as evidenced by a release

executed to the bank bearing that date, and

a letter from the bank to that effect dated

December 2, 1970. After that transaction

had been completed, terminated, and closed,

on November 12, 1969, a new option agree-

ment was entered into by and between the

stockholders of Wiese and Pace, which had

nothing to do with the previous negotia-

tions.

The corporation's income tax liability dis-

pute, which involved a number of items apart

* from the claimed deduction for the legal and

«accounting fees, was eventually settled by agree-

ment of the parties. In that settlement, it

does not appear that any deduction was allowed

for these fees.

On or about June 30, 1971, Pace and the

Wiese, Inc. stockholders entered into an agree-

ment entitled: "SUPPLEMENT TO OPTION TO PURCHASE

STOCK". This agreement” provided:

WHEREAS, under the AGREEMENT made

November 12, 1969, entitled "Option to

Purchase Stock" * * * Pace was given an

option to purchase all of the * * *

capital stock of H. E. Wiese, Inc. * * *

* * * * bd * *

NOW, THEREFORE, in consideration of

the premises and the mutual covenants con-

tained herein and in said Agreement, the

parties hereby agree * * * as follows:

I

In addition to the option provided for

in paragraph numbered "1" of said Agreement,

Pace shall also have the option, at its

sole election, to purchase all of the

issued and outstanding shares of capital

stock of H. E. Wiese, Inc. for the * * *

total cash consideration of- [$3,500,000].

. e - * * * +

II

As herein supplemented and modified

* * * said Agreement shall continue in full

force and effect.

EXECUTED in duplicate originals this

30 day of June, 1971, but effective as of

November 12, 1969.

On October 18, 1971, Pace and the Wiese,

Inc. stockholders entered into a final "STOCK

PURCHASE AGREEMENT”. This agreement provided:

AGREEMENT made and entered into as of

July 1, 1971 * * *,

* * * * * * *

1. Purchase and Sale [The Wiese, Inc.

stockholders agree to sell and Pace agrees

to buy all the stock of Wiese, Inc.] It is

agreed by and between Sellers and Pace that

such sale and purchase of said shares of

stock shall be effective as of the close of

business on June 30, 1971.

2. Consideration and Payment. The

total purchase price of the 7,500 shares

of Company stock being purchased is

$3,500,000.00. The per share purchase

price of the individual shares is

$466.6666 per share. The purchase price

of the shares shall_be paid on the Closing

Date by Pace's delivery of the cash consid-

eration set forth on said Exhibit A for

each of the respective Sellers. °

3. Closing Date. The closing of the

transactions provided for in this Agreement

shall be held at 11:59 o'clock A.M. Baton

Rouge time, on October 15, 1971 * * * or at

such other * * * time as [the parties] by

mutual agreement shall designate.

. Although this second (and final) STOCK

PURCHASE AGREEMENT recited that it was "made and

entered into as of July 1, 1971", it was in fact

executed on October 18, 1971. Insofar as can be

determined from the record, the transaction was

also closed on that same day, October 18, 1971.

And it was from this transaction that the Wiese,

Inc. shareholders realized the gain which is the

basis of the present controversy.

The Commissioner determined a deficiency in

each petitioner's income taxes on the grounds

that:

(F)or purposes of computing alternative tax

under Section 1201 * * *, the capital gain

* * * realized in 1971 from your sale of

stock of H. E. Wiese, Inc. did not emanate

from a binding contract entered into on or

before October 9, 1969. Therefore, this

gain is not a "subsection (d) gain" as de-

fined in Section i201(d) * * * and tax com-

puted at the rate of 32-1/2% applies to

that portion of the gain in excess of .

$50,000.00 rather than the rate of 25% used

in the return as filed.

Petitioners, on the other hand, assert that

*" the sale of the stock to Pace,

. was made pursuant to a binding contract

é which had been entered into by petitioners

prior to October 9, 1969, and said contract

was in existence and in effect on October

9, 1969, prior and at all times subsequent

-to said date until consumation (sic) of the

transfer on July 1, 1971; * * *,

OPINION

Section 1201(b), I.R.C. 1954, imposes an

"alternative tax," on individuals. If the

section as a whole is applicable, it provides,

in part, that certain long-term capital gains

will be taxed at the rate of 25 percent. Asa

result of certain modifications of the Code made

by the Tax Reform Act of 1969, 83 Stat. 487, this

25 percent rate applies only to those long-term

capital gains which constitute "subsection (d)

gain" as defined in section 1201(d). Long-term

capital gains in excess of the "subsection (d)

gain" are taxed at the higher rates specified

in section 120l(c).

Prior to the 1969 changes, where the alter-

native tax was applicable, it provided in effect,

-* that all long-term capital gains of non-corporate

taxpayers were to be taxed at the rate of 25

percent. In one of its efforts at "reform",

Congress enacted section 511 of the Tax Reform

Act of 1969, 83 Stat. 635, which increased the

rates at which some capital gains were to be

taxed. In substance, the new provisions, which

were made applicable to taxable years beginning

after December 31, 1969 (sec. 511(d), 83 Stat.

638), retained the 25 percent rate only with

respect to the first $50,000 of an individual's

long-term capital gains. However, to nietente

the impact of this change, Congress undertook to

preserve the 25 percent rate -- without the

Wes tcathinn ol the $50,000 limitation -- also

for those gains which it ik a sat tinkenkie

connected to pre-October 9, 1969, transactions.

This result was achieved legislatively through

the complex provisions of section 1201(b), (c)

and (d), whereby the gains described in section

1201(d) were in effect given the benefit of the

_- 25 percent rate. The operation of the statute

turned upon a new concept defined therein as

"subsection (d) gain".

Petitioners realized long-term capital

gains substantially in excess of $50,000 in 1971

from the sale of their H. E. Wiese, Inc. stock.

Thus, since these gains were realized after 1969,

the portions thereof in excess of $50,000 would

be subject to the new higher rates, unless they

qualified as "subsection (d) gain(s)." And the

critical question before us is whether the gain

in question meets the test of section 1201 (a) (1)?

as,

amounts received before January 1, 1975,

from sales or other dispositions pursuant

to binding contracts * * * entered into on

-or before October 9, 1969, * * *,

A "binding contract" is defined by section

1.1201-1(f£) (2), Income Tax Regs., as follows:

(i) A binding contract entered into on

or before October 9, 1969, means a contract,

whether written or unwritten, which on or

before that date was legally enforceable

against the taxpayer under applicable law.

If on or before October 9, 1969, a taxpayer

grants an irrevocable option or irrevocable

contractual right to another party to buy

certain property and such other party

exercises that option or right after October

9, 1969, the sale of such property is a sale

pursuant to a binding contract entered into

On or before October 9, 1969. * * *

(ii) A contract which pursuant to sub-

division (i) of this subparagraph consti-

tutes a binding contract entered into on or

before October 9, 1969, does not cease to

qualify as such a contract by reason of the

fact that after October 9, 1969, there is a

modification of the terms of the contract

such as a change in the time of performance,

or in the amount of the debt, or in the

terms and mode of payment, or in the rate

of interest, or there is a change in the

form or nature of the obligation or the

character of the security, so long as the

taxpayer is at all times on and after

October 9, 1969, legally bound by such

contract. * * * (Emphasis supplied.)

The parties have assumed that "applicable

law" in this case is the law of the State of

Louisiana, and there is nothing in the record

before us to suggest that the law of any other

state should be applied instead. Therefore, we

look to Louisiana law to determine the legal

effects of the relationship bomenatl petitioners,

as sellers of the Wiese, Inc. stock, and Pace,

as the buyer of that stock.

At the outset, it must be remembered that

petitioners actually realized their gain pursuant

to the STOCK PURCHASE AGREEMENT entered into on

October 18, 1971, more than two years after the

cut-off date specified by section 1201(d) (1).

Thus, to prevail, they must establish a statu-

torily acceptable connection between this

contract and some legally enforceable agreement

in effect on or before October 9, 1969. The

segulations guoten above provide two alternative

routes for making that connection. However, on

the basis of the record before us, we hold that

the October 18, 1971, STOCK PURCHASE AGREEMENT:

(1) did not result from Pace's exercise of a

pre-October 9, 1969, "irrevocable option or

irrevocable contractual right" to buy the Wiese,

Inc. stock, and (2) was not a "modification" of

a ‘ientrcnat which was entered into on or before

October 9, 1969, and which was at all times

thereafter legally binding. Cf. David Sartori,

-66 T.C. 680. Therefore, petitioners did not

.

realize "subsection (d) gain" in excess of that

-provided for by section 1201(d) (3).

; Petitioners have suggested a variety of

alternative theories to support the proposition

that the October 18, 1971, contract was

adequately connected to a pre-October 9, 1969,

agreement. Each of these theories emphasizes

different aspects of the complex legal and

business relationships which developed between

Wiese, Inc., and Pace during the nearly three

years from the beginning of negotiations until

the acquisition was completed. To simplify

analysis and to avoid unnecessary repetition,

we set forth immediately below, our interpreta-

tion of and our legal conclusions about, three

important aspects of the record. Once this is

done, the proper application of the regulations

will be plain.

In the first place, negotiations for the

acquisition of Wiese, Inc., evidently began in

late 1968. However, we cannot find that these

-- negotiations resulted in an oral agreement

before March 27, 1969, which could be considered

‘a “binding contract" within the meaning of the

.

regulations. In this regard we note particular-

ly (1) the minutes of the February 24, 1969,

Pace board of directors meeting, which contain

the resolutions authorizing the purchase.of the

Wiese, Inc. stock, and (2) the text of the March

27, 1969, documents themselves. Certainly, the

terms of the March 27, 1969, agreements were

settled upon by the parties before the documents

were executed. However, it is our conclusion

from the record before us that the parties

understood and intended that they would not be

legally bound by their discussions until the

written documents were signed. Thus, before

‘that time, no legally enforceable contract for

the sale of the Wiese, Inc. stock to Pace, came

into existence. Breaux Brothers Construction

Company v. Associated Contractors, Inc., 226 La.

720,727; 77 So. 24 17, 20; Laroussini v. Werlein,

52 La. Ann. 424, 27 So. 89; Big "A" Sand &

Gravel Co., Inc. v. Bay Sand & Gravel Co., Inc.,

262 So. 2d 837, 840-843, writ refused 284 So. 2d

773; Sterkx v. Gravity Drainage District No. 1

of Rapides Parish, La., 214 So. 2d 552, writ

refused 252 La. 964, 215 So. 2d 130.

Secondly, the negotiations referred to

above culminated in the execution of the March

27, 1969, STOCK PURCHASE AGREEMENT and PLEDGE

AND TRUST AGREEMENT, which were subsequently

extended and amended.” Then, On November 6,

1969, the Wiese, Inc. stockholders, Mr. Askey of

Pace, and a representative of the bank Trustee,

signed an AGREEMENT which states that it

"terminated and cancelled" both March 27, 1969,

agreements "as extended and amended". Petition-

ers have presented considerable evidence and

argument in an effort to convince us that the

November 6, 1969, AGREEMENT had a more limited

effect.” Petitioners contend that this document

was designed merely "to get * * * the bank

trustee out of the picture” (i.e., to rescind

«the escrow arrangements created by the PLEDGE

AND TRUST AGREEMENT), and to permit the "conver-

sion” of the March 27, 1969, agreements into an

option contract. As additional support for this

claim, petitioners have called our attention to

the circumstances of the uninterrupted business

relationship between Pace and Wiese, Inc.

Notwithstanding petitioners' earnest presen-

tation, it is plain from the record as a whole,

that upon the execution of the November 6, 1969,

AGREEMENT, the parties ceased to be bound by the

March 27, 1969, agreements.° The text of the

November 6, 1969, document is explicit, unambig-

uous and precisely suited to its apparent purpose.

Moreover, Mr. Wiese's testimony that this docu-

ment “didn't do anything" to the deal with Pace

is substantially weakened by his prior inconsis-

tent statement to the Internal Revenue Service,

quoted supra, p. is.’ We do not suggest that

this November 6, 1969, document meant that the

.* parties had abandoned their plans for the acqui-

Sition of Wiese, Inc., by Pace. To the contrary,

it is obvious from the record that they continued

to hope that the acquisition would be consummated.

But we do understand the document of November 6,

1969, to signify their realization that the acqui-

sition would not occur pursuant to the agreements

of March 27, 1969, and their mutual decision that,

as of November 6, 1969, they would no longer be

bound by these earlier agreements.

Finally, to complete this preliminary over-

view we consider the October 8, 1969, meeting

between representatives of Pace and Messrs.

Wiese, Anderson, and McInnis. At that meeting,

the parties discussed various alternative plans

for the acquisition of Wiese, Inc., by Pace,

given the fact that the public offering of Pace

common stock would not take place, thereby

rendering the March 27, 1969, agreements inoper-

*ative. Among the plans discussed was one where-

by Pace would be given an option to buy the

Wiese, Inc. stock. However, the Wiese, Inc.

.stockholders did not at that meeting grant Pace

“an irrevocable option or irrevocable contractual

right" to buy the stock of Wiese, Inc. Instead,

the parties agreed, at most, on certain of the

terms to be contained in an option to which they

planned to commit themselves at some future

time.” Thus, as with the pre-March 27, 1969,

discussions, the Wiese, Inc. stockholders did

not intend to be, and were not, legally bound .

until the written AGREEMENT of November 12, 1969,

was signed. Breaux Brothers Construction Company

v. Associated Contractors, Inc., supra;

Laroussini v. Werlein, supra; Big "A" Sand &

Gravel Co., Inc. v. Bay Sand & Gravel Co., Inc.,

supra; Sterkx v. Gravity Drainage District No. l

of Rapides Parish, La., supra.

With the conclusions stated above in mind

there can be no doubt that the STOCK PURCHASE

AGREEMENT of October 18, 1971, does not consti-

" tute a binding contract entered into on or before

.- October 9, 1969, within the meaning of section

-1201(d) (1). We consider each potentially appli-

cable section of the regulations in turn.

In the first place, petitioners have not

shown that the STOCK PURCHASE AGREEMENT of

October 18, 1971, resulted from the exercise by

Pace of an irrevocable option within the scope

of section 1.1201-1(f) (2) (i) of the regulations.

To be sure, there existed an OPTION TO PURCHASE

STOCK agreement, made November 12, 1969, and al-

so a SUPPLEMENT TO OPTION TO PURCHASE STOCK

agreement, made June 30, 1971. However, neither

of these agreements was effective on or before

October 9, 1969. They are not modifications of

a pre-March 27, 1969, legally binding oral agree-

ment. For the same reason, they are not simply

the written embodiment of an oral option suppos--

edly granted on October 8, 1969. Moreover, the

first written option was not executed until

-

November 12, 1969, six days after the March 27,

1969, agreements were terminated. Therefore,

.» even though the parties might have regarded that

°

option as a "modification" or "conversion" of

the March 27, 1969, agreements, those agreements

no longer had any vitality on November 12, 1969.

Consequently, the option agreement executed cn

that day could not, by virtue of its supposed

relationship to the March 27, 1969, agreements,

qualify as an irrevocable option granted on or

before October 9, 1969. Furthermore, by the

explicit terms of the November 12, 1969, agree-

ment, petitioners were bound by these options

Only until October 15, 1971.” Yet the STOCK

PURCHASE AGREEMENT by which petitioners sold

their Wiese, Inc. stock, was not executed until

October 18, 1971. 1° And petitioners have pre-

sented no evidence that any option was exercised

prior to October 15, 1971, by some action other

than the execution of the STOCK PURCHASE AGREE-

MENT. Once October 15, 1971, passed without any

option having been enereines, petitioners were

“no longer legally obligated by these options to

. «sell their stock to Pace. Standard Oil Co. of

-Louisiana v. Milholland, 167 La. 707, 120 So. 59;

Barchus v. Johnson, 151 La. 985, 92 So. 566; cf.

Thibodeaux v. Zigler, 121 So. 2d 296 (La. App.).

Nor was the October 18, 1971, STOCK PURCHASE

AGREEMENT merely a “modification” of some pre-

October 9, 1969, contract by which petitioners

were “at all times on and after October 9, 1969,

legally bound", within the meaning of section

1.1201-1(£) (2) (ii), Income Tax Regs. Quite

simply, there was no such pre-October 9, 1969,

contract. Neither a pre-March 27, 1969, legally

binding oral contract, nor an October 8, 1969,

legally binding oral option, existed. The March

27, 1969, written agreements were terminated on

November 6, 1969, and, the written options lapsed

no later than October 15, 1971.

Thus, in spite of the wide variety of

theories which they have presented, petitioners

have not established that the gain in question

was realized pursuant to a binding contract

-entered into on or before October 9, 1969, as

“required by the statute. However, in conclusion

we must consider two additional contentions

raised by the petitioners.

They, first of all, suggest that the

“treatment as is proposed by respondent is a

denial of due process" violative of their

constitutional rights. We quote petitioners’

argument in support of their Fifth Amendment

claim:

The arbitrary selection of a retroactive

date in the transitional rule should not be

applied to penalize a transaction which had

been legitimately negotiated prior to enact-

ment of Section 1201(d). Such treatment

would be discriminatory, arbitrary and

capricious and would result in substantial

differences in the tax burden while main-

taining no uniformity.

There are two short answers to this claim.

One is that the provisions under attack are far

from arbitrary and it has been firmly established

that Congress may constitutionally enact such

“retroactive” income tax legislation. Reinecke

v. Smith, 289 U.S. 172, 175; Lynch v. Hornby,

* °247 U.S. 339, 343; Brushaber v. Union Pacific R.

Co., 240 U.S. 1, 20; Albert L. Dougherty, 60 T.C.

917, 929; David 0. Rose, 55 T.C. 28, 31. The

second is that petitioners here have not in fact

been subject to the retroactive application of

the 1969 statute. They realized the gain in

question during 1971, as a result of their

action on October 18, 1971.

Finally, petitioners claim that since the

sale was in fact carried out, the Commissioner,

lacking privity of contract, may not establish

that the various contracts entered into for the

purpose of making the sale were in one respect

or another legally defective and therefore unen-

forceable. In response, suffice it to say that

petitioners’ tax liability depended not only

upon the actual completion of the sale, but also

upon whether the sale was made pursuant to a

contract which, on and at all times after

October 9, 1969, was "legally enforceable

against the taxpayer under applicable law”.

Therefore, the Commissioner may point out those

factors which might have made the various agree-

ments unenforceable, not for the purpose of set-

ting the transaction aside, but for the purpose

of determining the correct tax liability result-

ing from the transaction.

We add one more thought. Congress, through

the Tax Reform Act of 1969, deliberately in-

creased the tax on capital gains (in excess of

$50,000) realized after 1969. At the same time

it recognized that some sales which had been

arranged or negotiated prior to the end of 1969

would not be consummated until after 1969, and

it undertook to provide for the continuance of

the old 25 percent rate in respect of some, but

not all, of them. Congress drew a firm line to

define those sales which could produce gains

eligible for the 25 percent rate; it required

that such sales must be "pursuant to binding

contracts * * * entered into on or before

. October 9, 1969." There is no doubt that

petitioners’ sale of their Wiese, Inc. stock was

im many ways connected to events which occurred

prior to October 9, 1969, and that these con-

- nections very nearly satisfy the conditions

imposed by section 1201(d)(1). However, it is i

equally plain, that as tantalizingly close to

the line as this sale was, it did not come with-

in the explicit terms of the statute. We need

not speculate upon whether Congress, if it had

given consideration to the unusual kind of situ-

ation before us, would have drawn a more sophis-

ticated type of line so as to produce a result

favorable to petitioners. The point is that it

chose to legislate in terms of a hard and fast

rule. Therefore, regardless of whatever appeal-

ing equities may exist in petitioners' favor, we

are left with no alternative but to conclude on

this record that the gains in issue were not

"subsection (d) gain(s)". )

° Decisions will be entered

under Rule 155.

of@

° FOOTNOTES

a Although the parties have stipulated the

réturns of the Wieses for both 1971 and 1972,

they stipulated the return of the Andersons only

for the year 1971. However, since the trans-

action now in dispute took place in 1971, the

absence of the Andersons' 1972 return does not

appear to be of any present significance.

ain A second document, also entitled "SUPPLE-

MENT TO OPTION TO PURCHASE STOCK", was made a

part of the record of this case. Although

purporting to be an agreement between Pace and

all of the Wiese, Inc. stockholders, this second

document was signed only by W. E. Askey for Pace

and by Mr. Wiese (acting only on his own behalf),

and was not dated. It provided both the alter-

native option contained in the agreement de-.

scribed in the text (i.e. an option to purchase

all the Wiese, Inc. stock for $3.5 million cash)

and a third alternative option (an option to

purchase the stock for an $800,000 cash down-

payment and a note for $3,000,000 payable over

ten years). Insofar as the record indicates,

this document never represented an agreement of

the parties.

aa

If the conditions of section 1201(d)(1) are

satisfied, then all of the gain would qualify as

"subsection (d) gain," and would be taxed at the

25 percent rate. However, if section 1201(d) (1)

does not apply, then, by reason of section 1201

(d) (3) the amount of “subsection (d) gain" would

be limited to $50,000.in respect of each of the

petitioner couples on the record herein.

me See, supra, pp. 8-9.

S¢ We received much of this evidence subject

to the Government's objection that it was inad-

missible due to the parol evidence rule. Because

we do not find the evidence persuasive support

for petitioners’ contentions, we need not decide

whether it is in any event inadmissible. We

note, however, that the parol evidence rule

generally has only limited applicability in

cases before this Court, where the result depends

upon the interpretation of written documents to

which the Commissioner was not a party. See,

e.g., Daniel Coven, 66 T.C. 295, 306 fn. 8;

Estate of Leon Holtz, 38 T.C. 37, 41; Haverty

Realty & Investment Co., 3 T.C. 161, 167.

ae At trial and on brief, petitioners have

argued that the November 6, 1969, AGREEMENT did

not affect the EXTENSION OF PLEDGE AND TRUST

AGREEMENT of August 12, 1969. However, this con-

tention is entirely without merit. It is flatly

contradicted both by the text of the November 6,

1969, AGREEMENT, and by the August 12, 1969,

document itself which could in no way be con-

strued as a binding contract, independent of the

March 27, 1969, PLEDGE AND TRUST AGREEMENT to

which it relates.

7. In our view, the record of the 1970 audit

of H. E. Wiese, Inc., has only limited signifi-

cance in the case now before us. Petitioners,

however, claim that the Commissioner is bound

herein by virtue of the 1971 settlement of Wiese,

Inc.'s tax liability. They assert that upon

audit, Wiese, Inc., was not allowed to deduct

during its taxable year ended February 28, 1970,

the legal and accounting fees paid between

‘February 3, 1969, and January 21, 1970, in con-

nection with its acquisition by Pace. Therefore,

according to petitioners, the Government must

* ‘have prevailed in the position which it adopted

at that time, namely, that those expenses were

“attributable to an ongoing project and must be

capitalized, Thus, say petitioners,

Having initially prevailed in its

position that due to a binding agreement to

sell the stock of the corporation, certain

legal expenses had to be capitalized,

respondent is estopped from now denying

that such an agreement was in effect.

But petitioners’ argument, though vigorously

presented, is defective in many critical respects.

Neither the doctrine of estoppel, nor any "duty

of consistency” supposedly applicable to the

Commissioner's actions, requires us to reject

the Government's position herein.

In the first place, it must be remembered

that the item relating to the deduction of legal

fees was only one of a number of items in contro-

versy at that time, and that the entire contro-

versy was disposed of by settlement. We have no

way. of knowing on the record before us what

elements of give and take played a part in that

settlement, and we cannot say that the disallow-

ance of the fee deduction in the final settle-

ment represented anything more than one aspect

of mutual concessions that are common in dis-

positions by settlement. Moreover, even if the

disallowance of this item was deliberately agreed

to by both sides in the final settlement, unaf-

fected by the disposition of other items, the

record before us fails to establish the precise

reason for the disallowance, and we cannot say

with reasonable confidence whether the claimed

deduction of the legal fees was disallowed on

the ground now urged by petitioners as in con-

flict with respondent's present position or on

some other ground unrelated to the present con-

troversy. Thus, we cannot find on this record

* that the disposition of Wiese, Inc.'s 1970 tax

*

+

‘liability was based upon a theory inconsistent

“with the Government's position herein.

Moreover, petitioners have not explained

how they relied to their detriment on any

position adopted by the Commissioner in the

earlier controversy. And so we need not consider

the other substantial questions which arise in

connection with petitioners’ attempt to bind the

Commissioner on the basis of a settlement invol-

ving a different taxpayer. Cf. Elizabeth Lewis

Saigh, 36 T.C. 395, 424.

S. Admittedly, the evidence on this point is

somewhat ambiguous. In particular, the text of

the letter dated October 8, 1969, from Mr. Wiese

to Mr. Askey is internally inconsistent. It

Opens with the statement that it was written "to

confirm the agreement A. K. McInnis, Paul

Anderson and (Mr. Wiese) reached with you on

your last visit to Baton Rouge”. But it con-

cludes with a reference to “the new agreement

when consumated (six)". And it is plain from

the letter, that certain terms of the option had

yet been agreed upon.

Furthermore, only the three principal Wiese,

Inc. stockholders were present on October 8,

1969. There is no evidence that these three

individuals had the authority to bind the absent

stockholders to an agreement. And yet when the

formal OPTION TO PURCHASE STOCK was signed on

November 12, 1969, it was signed by each of the

Wiese, Inc. stockholders. Likewise, at a meeting

of the board of directors of Pace held on

October 27, 1969, Mr. Askey stated that -

he would need (Pace's) Board (of Directors')

approval to negotiate an option with the

shareholders of H. E. Wiese, Inc. for the

purchase of their stock.

oe

- ' €7a

-Ahd he received that approval in a resolution

“quoted in our findings, supra, at p. 13.

Finally, neither the written version of the

option nor the supplement thereto refers to an

agreement made on October 8, 1969. The OPTION

TO PURCHASE STOCK executed November 12, 1969,

which petitioners claim was merely the written

embodiment of their existing oral agreement, re-

cites that it was “made November 12, 1969". The

SUPPLEMENT TO OPTION TO PURCHASE STOCK executed

June 30, 1971, states that -

WHEREAS under the AGREEMENT made November

12, 1969, * * * Pace was given an option to

purchase all of the * * * stock of H. E.

Wiese, Inc.

and also specifies that the supplemental option

was to be "effective as of November 12, 1969".

w The June 30, 1971, SUPPLEMENT TO OPTION TO

PURCHASE STOCK, does not specify when the alter-

native option contained therein was to terminate.

However, in view of the close relationship be-

tween this option and the one of November 12,

1969, and in view of the fact that an option for

an indefinite time is not legally binding in

Louisiana (Becker and Associates, Inc. v. Lou-

Ark uipment Rentals Co., Inc., 331 So. 2d 474,

476-477; Bristo v. Christine Oil and Gas Co., 139

' La. 312, 71 So. 521; Clark v. Dixon, 254 So. 2d

482 (La. App.)), we think the record as a whole

calls for the conclusion that the parties in-

tended this option to expire on October 15, 1971,

as provided in the November 12, 1969, agreement.

40. We realize of course that the STOCK PURCHASE

AGREEMENT recited that it was "made and entered

into as of July 1, 1971". But the record firmly

establishes, and we have found as a fact, that

ot

-4

the agreement was not finally concluded until

October 18, 1971. We do not doubt that the

parties to the contract could have adjusted _

retroactively the allocation of certain of the

burdens and benefits of ownership, as between

themselves. However, an agreement to make such

a retroactive adjustment, does not establish

that a sale which took place in October actually

took place in July so as to meet a limit imposed

by law. See, e.g., Dezendorf v. Commissioner,

312 F. 2d 95, 97-98 (C.A. 5), Frank R.

Hammerstrom, 60 T.C. 167, 183; cf. Elizabeth

L. Deyoe, 66 T.C. 904.

AFFIDAVIT OF SERVICE

I, J. BENNETT KRAFT, an attorney in

the office of Mr. Theodore (Ted) L. Jones,

attorney of record for the petitioner

herein, depose and say that on tne Bd

day of July, 1980, I served three (3

copies of the foregoing Supplemental

Appendix on the following attorneys,

by mailing said copies in duly addressed

envelopes, with air mail postage prepaid:

1. M. Carr Ferguson, Esquire

Assistant Attorney General

Tax Division, Dept. of Justice

Washington, D.C. 20530

2. The Solicitor General

Department of Justice

Washington, D.C. 20530

3. Stuart E. Seigel, Esquire

Chief Counsel

Internal Revenue Service

111 Constitution Avenue

Washington, D.C. 22224

BENNETT KRAFT

SWORN TO AN SUBSCRIBED BEFORE ME,

, this mo ae day-of July, 1980, in Baton

. Rouge, BORLSTERS.

"

NOTARY HAM -