Brief in Opposition to Petition for Writ of Certiorari — South Texas Rice Warehouse Co. v. Commissioner

@

. on the Supreme Gout of the luted Bates

_ OcTOBER TERM, 1966 \

No.’ 910

SoutH TExas Rick WaRkEHOUsE Co., PETITIONER

Vv.

— o INTERNAL REVENUE

ON PETITION "FOR A WRIT OF CERTIORARI TO THE UNITED

STATES COURT OF APPEALS FOR THE FIFTH CIRCUIT ©

MEMORANDUM FOR = RESPONDENT IN’ OPPOSITION

This case 5 involves the scope of the Commissioner’ Ss

power under § 482 of the Internal Revenue. Code of

* .1954 (App. infra, p. 9) to -Allocate ‘income and

‘deductions among commonly controlled organizations

in order to prevent the avoidance of taxes or clearly

to reflect their income. . s

Petitioner’ S principal sities consisted of drying,

7 cleaning and warehousing - rice. Its-stock was owned

by four families, each owning a’ one-fourth interest.

‘During June, 1957, various members of the four

families formed a partnership (with. each. family —

owning a 25 percent interest). Petitioner then leased

its operating assets—which were worth at least

(1)

?

ai ie cae

" $700,000—to the partnership for an annual rental of

_ $48,000.. (Pet. 28-30, 36.) Ce |

_.,' For the three fiseal years preceeding this lease to

| + the partnership (1955-1957), petitioner had net earn-

_.. ings of $130,000, $171,000 and $75,000, respectively:

_For the three fiscal years following the lease (1958-

1960), petitioner. suffered net losses. of $33,000, $18,-

000, and $12,000, 7.¢., its deductions for depreciation,

taxes, etc. exceeded its $48,000 annual rental income —

by these amounts. During these same three‘years the

partnerships’ net income from operating the leased

prepare was. $127, 000, $75,000, and $109, 000. (Pet.

37.) °

‘Petitioner sought to carry its 1958-1960 net losses

back ‘to. previous years and filed: a claim for refund

of taxes paid in earlier years. The Commissioner,

exercising his authority under § 482, determined, inter

waar

alee

alia, that the rental paid by the partnership to peti-

tioner was inadequate; that the rent was not nego-—

tiated in an armi’s length transaction; and that suffi-

~ cient partnership income should be allocated to peti-

_ tioner to provide a reasonable rental of $78,000 per

year. (R. 227.)* Both the Tax Court and the court

- of appeals upheld the Commissioner’s determination.

(R. 229-241; Pet. 32-41.) eer

The decision -below is correct, turns on the. particu-

lar facts of this case, and presents no conflict or other

-Teason warranting further review by this: Court.

. 1. The purpose of § 482 (first appearing in its pres-

_ ent form in the Revenue Act of 1928, ec. 852, 45 Stat.

1“R.” references are to the printed record in the court of

appeals,

. 3 ,

791) is to prevent a. taxpayer from arbitrarily shift-

ing part of its income or deductions to a related tax- _

ablé entity, and thereby ‘distorting its true, taxable.

-» income. The Commissioner’s reallocation authority .

. under § 482 extends to any case in which, either by in-

advertence or design, the taxable net income is differ-

/ ent than it would have -been had the commonly

controlled entities dealt with each other at arm ’s

length. See Treas. Reg., § 1.482-1(b) (App., infra,

- pp. 10-12) ; Commissioner v. Chelsea Products, 197 F.

2d 620 (C.A. 3); ; Grenada Industries, Ine. v. Commis-

stoner, 17 T.C. 231, affirmed, 202 F. 2d 873 (C.A. 5),

certiorari denied, 346 U.S. 819; Aiken Drive-In

Theatre Corp. v. United States, 281 F. 2d 7 (C.A: 4);

Spicer Theatre, Ing. v. Commissioner, 346°. 2d 704

(C.A. 6); Oil Base, Inc. v. Commissioner, 362 F, 2d..

212 (C.A. 9), certiorari denied, 385 U.S. 928.

Whether the Commissioner, under § 482, properly

allocated incéme from the partnership to petitioner, |

is, as the court below recognized (Pet. 41), essentially

a question of fact.” The Tax Court analyzed the facts’

in great detail and concluded that the Commissioner

did not abuse his discretion .in allocating additional in-

come from the partnership to petitioner in order

2 See Asiatic ‘Petroleum Co. v. Commissioner, 79 F. ‘oa 234

(C.A. 2), certiorari denied, 296 U.S. 645, rehearing denied,

296 U.S. 664; National Seorrities Corp. v. Commissioner; 137

F. 2d 600 (CA. 3), certiorari -denied, 320: U.S. 794;. Advance

- Machinery Exch. v. Commissioner, 196 F. 2d 1006 (C.A. 2),

certiorari: denied, 344 U.S. 835; Grenada Industries, Inc. v.

Commissioner, supra; Ballentine Motor Co. v. Commissioner,

321 F. 2d 796 (C.A. 4) ; Spicer Theatre, Ine. v. Commissioner,

yrs; Oil Base, Ine. v. Commissioner, supra.

@

ee +g 08 CFR

clearly to reflect ‘income (R. 231-241). Despite peti- |

tioner’s contentions (Pet. 11-15, 19-24), this factual

conclusion is amply supported by the record and was

” eorrectly. sustained by the court of appeals. This

- concurrent finding of both courts below should not be .

disturbed: except upon’an ‘extraordinary showing of _

error (Corn Products Co. v. Commissioner, 350 U.S.

46; Comstock v. Group of . Investors, 335 U.S. 211), ’

and no such showing is made here.

' 2. In summary, the evidence shows the bette:

| Virtually all of petitioner’s operating assets—which

had been producing an average net profit of $122, 000

er year for the previous three years—were leased

to the partnership for a gross rental of $48,000 per

year. This caused petitioner to operate at an average

net loss of $21,000 per year for the three year's after |

the lease, while the partnership had average net

: profits: ‘of $104,000 per year (Pet. 37).

. The same four families owned and controlled both

junds and the. partnership. The principal dif-

x ference in ownership was that the senior “members

_ of 4 two families—L. D. Clements and S. M. Clem-

-ents—who owned 20 percent and 15 percent, respec-

. tively, of ‘petitioner’s stock, had no ownership inter-

‘est in the’ partnership, the partnership interests to

which they were entitled being owned by their chil-

dren (Pet. 29-30). As the court of appeals ee

(Pet. 30, fn. 8):

The partnership was formed for the purpose of

letting ‘the Clements families’ children receive

a larger part of the income generated by the |

Tice drying and ‘storage business. |

Thus each of the four families owned 25 percent of

the partnership and 25 percent of petitioner, although.

_ the:ownership of stock within each family varied

suymewhat.*

The Tax Court found that the miniaiine which

led to the $48,000 annual rental were. not at arm’s

length (R. 237) and that a reasonable rental for peti-

tioner’s operating assets—which were worth at least ©

$700,000—would_ be $78,000 per year (R. 241). —

court of appeals affirmed, observing that “The con

clusion is inescapable, that if [the partnership’s]. in- -

come were not going to family members the lease

would not have been consummated, i. €., no independ-

“ent party could have negotiated sych a ; ee in ans.

. arms-length transaction”’ (Pet. 38-39).

3 (a). Petitioner’s principal argument (Pet. 15-26)

is that the Tax Court erred: as a matter of law in

failing to accept the testimony of its witnesses that

a fair rental was not in excess of $48,000. The Tax

Court was not obliged, however, to accept at face

value the opinion testimony of those witnesses, not

even that of the expert. The Tax Court may and

* Petitioner nevertheless argues briefly, (Pet. 12-13) that be-

cause the. two senior Clements did not personally have an

- ownership interest in the partnership, the two entities were

not “owned or controlled.directly or indirectly by the same

_ interests.” Code § 482 (App., infra, p. 9). The statute is

broadly drafted; however, to include related entities which are

“controlled,” even “indirectly,” by “the same interests” (italics

added). Thus the section does not require that the: same

people own the two entities. ‘In any event, there is no con-

flict of decisions on this point and petitioner does not even

mention it as one of the “Reasons For Granting the Writ”

(Pet. 15-24).

stash asec

RAR A LR ER Ree Ke LEAR BEANO REAR RG Si

hs

iz ’ >

DR LAR tk rank SRT Ea A cae SNR Ral SWE TE

=

a ks Be hs af ee

| should exercise its.own judgment on the basis of all :

the evidence before it. See Sartor v. Arkansas Gas

Corp.,.321 U.S. 620, 627-628; Dayton P. & L. Co.-v.

Commission, 292 U.S. 290, 299; Burford-Toothaker

Tractor Co.- V.. Commissioner, 192 F. 2d 633, 635

(C.A. 5), certiorari denied, 343 U.S. 941; Penn v.

_ .Commissioner, 219 F. 2d 18, 21 (C.A. 9); Kreis’

Estate v. Commissioner, 227 F. 2d 753, 755 (C.A. 6).

As the court below pointed out (Pet. 40), petitioner’s

witnesses failed to take certain significant factors into

account in forming their opinions. Moreover, peti-

tioner ignores much of the evidence considered by

the Tax Court and makes no attempt to explain why

a corporation that had average net profits of $122,000

for the past three years and had just completed a

‘new. storage facility at a cost of $165,000 would agree

to lease all of its facilities for only $48,000 a year if

--it had been an independent party negotiating a fair

rental, — oy aie Ped = 2

(bh) Petitioner asserts (Pet. 6, 16-20) that the. de-

cision below is in conflict with decisions like Robin-

son Truck Lines, Inc. v. Commissioner, 183 F. 2d 739

(C.A. 5); J. M. Perry & Co. v. Gommissioner, 120 F.

2d 123 (C.A. 9); Anaheim Union Water Co. v. Com-

missioner, 321 F. 2d 253 (C.A, 9).. In those’ cases the

taxpayers supported their positions by disinterested

‘and uncontradicted testimony credible in itself and

not impeached in any way, whereas in the instant case

there was ample evidence contradicting the testimony

of petitioner’s witnesses and supporting the finding of

' the Tax Court. Moreover, none of the cases cited by

7 \

petitioner dealt with the Commissioner’s power: un-

- der Code § 482 to alloeate income and deductions he-' .

tween commonly controlled organizations in order to

_ prevent the avoidance of taxes or clearly to reflect

their income.. oe

The petition for a writ of soiteai should. ie |

denied.

Respectfully submitted,

‘THURGOOD’ MARSHALL,

Solicitor General.

RICHARD C. Puan,

Acting Assistant Attorney General.

Harry Baum,

Donan ‘W. WILLIAMSON, Jr.,

Attorneys.

——e

<—_™

‘APRIL 1967.

—

a