Opposition Brief — Weiss v. Johnson

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INDEX

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rt SELENE MET OS NR PETA IE ORES EER SIE 1

Ee nn ne ORDEOLTT POPC ia ene WEE OE 2

F SOE COPE PTS eee yey 2

| MISS 5 pda otc Sicd Gan AN Seat Rea heb eouag en 4

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F CITATIONS

E Cases :

| Canfield v. Commissioner, 168 F.2d 907................ 11

Commissioner v. Culbertson, 337 U.S. 733... ........... 8, 9,13

Fe Commissioner v. Tower, 327 U.S. 280.................. 8,13

Fs Dorzback v. Collison, 195 F. 2d 69.................... 11

: Hartz v. Commissioner, 170 F. 2d 313, certiorari denied,

3 Beet MS Ss ee ea lie as & Chace ee 11

Lewis v. Reynolds, 284 U.S. 281...................... 12

Lusthaus v. Commissioner, 327 U.S. 293................ 8,13

. Marcus v. Commissioner, 201 F. 2d 850................ 11

. Sommers v. Commissioner, 193 F. 2d 609, rehearing de-

gf & BF rr ee eae rn 11

Seah Gi Trt We See MOON 3 woe Sebo eee ce ee ye 12

3 Woosley v. Commissioner, 168 F. 2d 330... .......... 10

Statutes :

| Internal Revenue Code:

| See. 22 (26 U.S.C. 1946 ed., Sec. 22).............. 2

. See. 181 (26 U.S.C. 1946 ed., See. 181)......... .. 3

: Sec. 182 (26 U.S.C. 1946 ed., See. 182)............ 3

See. 191 (26 U.S.C. 1946 ed., Supp. V, See. 191)... 12

See. 3797 (26 U.S.C. 1946 ed., See. 3797).......... 3

: Revenue Act of 1951, e. 521, 65 Stat. 452, See. 340... ._. 12

Miscellaneous :

Mim. 6767, 1952-1 Cum. Bull. 111..................... 12

Yuthe Supreme Gourt of the Winited States

OctToBER TERM, 1953

No. 455

Puitie WEISS, PETITIONER

Vv.

JaMEs W. JOHNSON, COLLECTOR 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

OPINIONS BELOW

The District Court wrote no opinion. The opin-

ion of the Court of Appeals for the Second Circuit

(R. 417-423) is reported at 206 F. 2d 350.

JURISDICTION

The judgment of the Court of Appeals (R. 423-

424) was entered August 19, 1953. The petition

for a writ of certiorari was filed November 3, 1953.

The jurisdiction of this Court is invoked under

28 U.S.C., Section 1254.

(1)

2

QUESTION PRESENTED

Whether the courts below erred in sustaining the

jury’s finding that a division of the profits of a

family partnership was not a bona fide and reason-

able one as related to the services and capital con-

tributed by the respective partners, and that a

portion of the profits allocated to two of the ta: -

payer’s daughters was derived from taxpayer’s

capital and therefore includible in his gross income

as defined in Section 22(a) of the Internal Revenue

Code.

STATUTE INVOLVED

Internal Revenue Code:

Sec. 22. Gross INcoME.

(a) [As amended by See. 1, Public Salary

Tax Act of 1939, c. 59, 53 Stat. 574] General

Definition.—*‘Gross income”’ includes gains,

profits, and income derived from salaries,

wages, or compensation for personal service

(including personal service as an officer or em-

ployee of a State, or any political subdivision

thereof, or any agency or instrumentality of

any one or more of the foregoing), of what-

ever kind and in whatever form paid, or from

professions, vocations, trades, businesses, com-

merce, or sales, or dealings in property,

whether real or personal, growing out of the

ownership or use of or interest in such prop-

erty; also from interest, rent, dividends, se-

curities, or the transaction of any business

carried on for gain or profit, or gains or profits

and income derived from any source whatever.

* * * * *

(26 U.S.C. 1946 ed., Sec. 22.)

Sec. 181. PartnersHie Not TAXABLE.

Individuals carrying on business in partner-

ship shall be liable for income tax only in their

individual capacity.

(26 U.S.C. 1946 ed., See. 181.)

Sec. 182. Tax oF PARTNERS.

In computing the net income of each part-

ner, he shall include, whether or not distribu-

tion is made to him—

* * * * *

(c) His distributive share of the ordinary

net income or the ordinary net loss of the part-

nership, computed as provided in section

183(b).

(26 U.S.C. 1946 ed., Sec. 182.)

Sec. 3797. DEFINITIONS.

(a) When used in this title, where not other-

wise distinctly expressed or manifestly incom-

patible with the intent thereof—

* * * * *

(2) Partnership and Partner.—The term ~

‘‘nartnership’’ includes a syndicate, group,

pool, joint venture, or other unincorporated

—— ne SPAS AR

.

4

organization, through or by means of which

any business, financial operation, or venture

is carried on, and which is not, within the

meaning of this title, a trust or estate or a

corporation; and the term “ partner’’ in-

cludes a member in such a syndicate, group,

pool, joint venture, or organization.

* * * * *

(26 U.S.C. 1946 ed., See. 3797. )

STATEMENT

This action was brought in the District Court

for the Southern District of New York by Philip

Weiss (the taxpayer) against James W. J ohnson,

Collector of Internal Revenue, for what was then

Known as the Third Collection District of New

York, for recovery of amounts aggregating $82,-

916.27, alleged to have been erroneously collected

from him as federal income taxes and interest for

the years 1943 and 1944. (R. 2-6.) The case was

tried to a jury (R. 1), which rendered a verdict for

the Collector and denied recovery (R. 317). Judg-

ment on the verdict was entered for the Collector,

with costs (R. 412), and taxpayer appealed (R.

413). The judgment was affirmed by the Court of

Appeals. (R. 423-424. )

The issues presented to the jury by the instruc-

tions of the trial court (R. 297-313) were (1)

whether the taxpayer had borne the burden of prov-

ing that he had in fact overpaid his income tax for

the years at issue as alleged, (2) whether the tax-

payer had proved the bona fides of an alleged part-

5

nership purportedly formed in June, 1942, com-

posed of himself and members of his immediate

family, and also the bona fides of a prior purported

partnership entered into on December 1, 1941, by

the taxpayer and his three daughters, together with

one Henry Grubel and his daughter (individually

and as trustee), to conduct a business which there-

tofore had been conducted by a corporation all of

the stock of which was owned by those entering into

the 1941 partnership, and (3) if these partnerships

were bona fide, whether the agreed division of

profits among the several partners was a reason-

able and bona fide one.

The evidentiary facts are set forth in the opinion

of the Court of Appeals. (R. 417-423.) Briefly,

the taxpayer was engaged in the textile manufac-

turing business from 1929 to 1941 with Henry Gru-

bel in a corporation named Plaza Mills, Inc., owned

by them and their families. The corporation was

dissolved on December 1, 1941, and a limited part-

nership of the former stockholders was formed to

operate the business. The taxpayer and Grubel

were general partners, with Grubel’s daughter,

Irene (individually and as trustee), and the taxpay-

er’s three daughters, Miriam, Helen, and Beatrice,

as limited partners. This partnership was dis-

solved as of June 7, 1942, upon the death of Henry

Grubel; a new limited partnership was formed of

the Weiss family only, who bought out the Grubel

interests. The general partners were the taxpayer ;

his son-in-law, Bernard Krosney (husband of Mir-

iam) ; and his son-in-law, Samuel Sunshine (hus-

band of Helen). The limited partners were the

three daughters, Miriam, Helen, and Beatrice.

This partnership operated the business until it was

sold in 1944, (R. 418.)

The certificate of the limited 1942 partnership

purported to state the contributions of the limited

partnership thus: Miriam, $21,900; Helen, $43,-

957.36 ; Beatrice, $65,957.35 ; and the share of profits

each was to receive by virtue of her contribution

was: Miriam 10% ; Helen 15% ; Beatrice 20%. The

remainder of the partnership agreement was oral.

The total capital contribution of the partners as

computed by Revenue Agent Clines, who recom-

mended assessment of the additional tax which is

the subject of the present suit, was $340,561.34, of

which the taxpayer’s interest acquired on dissolu-

tion of the prior partnership was $202,746.63, while

Bernard and Samuel each contributed $3,000, and

the daughters contributed the amounts set out

above. (R. 418.)

Taxpayer was receiving a salary of $20,000 a

year, while Bernard and Samuel each was receiving

$7,500. Although Beatrice gave her full time to the

business, she was only 22 and in 1942 was paid no

salary. After the above stated percentages of

profits to the daughters (totaling 45%), the re-

maining 55% was divided 40% to the taxpayer,

10%, to Bernard, and 5% to Samuel. (R. 419.)

Revenue Agent Clines testified that the active

conduct of the business was by Bernard, Samuel,

and Beatrice, the taxpayer acting only in an advis-

ory capacity, because he desired to retire for age

7

and illness. Since Revenue Agent Clines considered

capital to be the important factor, he adjusted the

limited partners’ distribution of profits to conform

with their proportionate share of the total capital

invested in the business. And as the responsibility

of the operation and management rested upon the

two general partners, Bernard and Samuel, he pro-

posed a salary to each of $15,000 a year, plus 2% of

the profits after salary (instead of the approxi-

mately 1% each contributed to the invested capi-

tal). Hence, his revised distribution of profits was

(after deduction of salaries of $30,000 a year) as

follows: the taxpayer, 58% ;’ Bernard, 2% ; Sam-

uel, 2% ; Miriam, 6% ; Helen 13% ; Beatrice, 19%.

Except for the slight variation in the percentages

to Bernard and Samuel, these percentages corre-

sponded closely to the partners’ percentage contri-

butions to invested capital. (R. 419.)

This recommendation was adopted by the Com-

missioner and applied to net income of $326,633.34

for 1943, and $176,680.74 for 1944. The total amount

of additional taxes for the two years assessed

against the taxpayer, with interest, was $82,916.27,

while the total overassessment in favor of the other

members of his family was about $53,000, which,

with their consent, was applied against the assess-

ment against the taxpayer. He paid the balance.

Although he originally sued for the full amount

assessed against him, he reduced his claim at the

*As noted above, taxpayer’s percentage share was 40%

under the division previously made by the partnership.

z i aie TR TRON Eee 7 roar $ pet bf

*

8

trial to the amount he had actually paid in cash,

namely, $29,774.99, (R. 419.)

ARGUMENT

1. In affirming the District Court and refusing

to disturb the jury’s verdict, the court below did not

depart from the reasoning of this Court in Commis-

stoner v. Culbertson, 337 U.S. 733 ; Commissioner v.

Tower, 327 U.S. 280; and Lusthaus v. Commis-

stoner, 327 U.S. 293. In the Culbertson case, the

Court, reaffirming its holdings in Tower and Lust-

haus, held that whether a family partnership is en-

titled to recognition for federal income tax pur-

poses depends upon whether (p. 742) ‘‘considering

all the facts * * * the parties in good faith and

acting with a business purpose intended to join

together’’ as partners. This question, said the

Court (p. 743), is one of ultimate fact for the trial

tribunal, no single factor being conclusive. Revers-

ing the decision of the Court of Appeals, which had

overturned that of the Tax Court, it remanded the

case to the Tax Court for a determination of

whether the parties had (p. 748) a ‘bona fide in-

tent”’ to be partners, either because of services or

because of contributions of capital of which they

were the true owners. In remanding the case, the

Court stated (p. 748) that ‘“No question as to the

allocation of income between capital and services

is presented in this case,’’ and it accordingly re-

frained from expressing any opinion on that ques-

tion.

While there was no occasion in Culbertson to pass

upon the allocation question, the court below cor-

9

rectly observed (R. 421-422) that the fundamental \

principles there applied, in determining whether

the parties to a family partnership agreement are

entitled to recognition as partners for tax purposes,

also apply with full force where the partners are

entitled to recognition as such, but agree upon a

division of the profits which is patently dispropor-

tionate to their respective contributions of capital

and services, or i ise not bona fide. A de- oy

flection of the incume of a family partnership from

«

=

to a i claimed p ‘partner. “That members of a tax-

payer ’s family are his. partners by virtue of a con-

tribution of some capital or services does not pre-

clude an inquiry by the taxing authority into

whether the shares of the total business income re-

ported by them in their tax returns have been fixed

in good faith and bear a reasonable relationship to

their respective contributions. We know of no case

challenging this principle. The very cases relied

upon by taxpayer for conflict (Pet. 8, 14-15) recog-

nize the authority of the Commissioner to challenge

the bona fides and reasonableness of the agreed

division of income.

Moreover, the general principle was properly ap-

plied here. The Commissioner determined that |

taxpayer and two of his daughters, who contrib-

uted only capital and no services, were ascribed a

portions of the earnings of the family partner-

ship which bore no reasonable relationship to

10

their contributions. After paying the resulting

deficiency in income tax, taxpayer sued for a

refund. The case was tried before a jury, and

extensive testimony was taken in a four-day

trial. The District Court correctly instructed the

jury (R. 420) that in order to obtain a refund tax-

payer had the burden of showing that a bona fide

partnership existed and also that the agreed di-

vision of profits ‘‘was a bona fide and reasonable

one, taking into account all the facts and circum-

stances.’’ The jury found against the taxpayer,

and a summary of the evidence recited by the court

below shows (R. 418-420), as the court held (R.

420), that ‘‘there was ample evidence to support the

jury’s verdict.’’ Under the circumstances, the Dis-

trict Court properly refused to set aside the verdict,

and the court below correctly affirmed its decision.

2. Each case in this field turns as it must on its

own facts, and the cases with which taxpayer as-

serts conflict (Pet. 8, 14-16) are readily distinguish-

able on their facts. In each of them the court of

appeals reversed the Tax Court’s finding that the

agreed allocation of the profits was unreasonable,

on the ground that the finding was clearly errone-

ous in the light of all the evidence. In each instance,

however, the appellate court properly acknowl-

edged that such a finding was a permissible one if

supported by the record. Thus in Woosley v. Com-

missioner 168 F. 2d 330 (C. A. 6th), the court was

eareful to point out (p. 333) that ‘‘Situations may

be presented in which the Tax Court might prop-

erly make allocations of income in husband and

.

11

wife partnership cases; but, on its facts, this case

is not one of that kind.’’ See also Canfield v.

Commissioner, 168 F. 2d 907, 913 (C. A. 6th).

Again, in Hartz vy. Commissioner, 170 F. 2d 313

(C.A. 8th) certiorari denied, 337 U.S. 959, the

court also took pains to point out that in reversing

the Tax Court (p. 318) ‘‘we do not mean to say that

a division of income between alleged partners must

necessarily be adhered to for tax purposes merely

because it is written into an alleged partnership

agreement,”’ and that ‘‘If such a division is artifi-

cial’’ it could be disregarded by the Commissioner

and the Tax Court. In Marcus v. Commissioner, ~

201 F. 2d 850 (C.A. 5th), no question of allocation

was presented, but the court stated (p. 853) that

under the Culbertson decision an allocation agreed

upon by the parties was binding ‘‘if made by them

in good faith, that is as a reality and not as a sham.”’

Dorzback v. Collison, 195 F. 2d 69 (C.A. 3d), with”

which taxpayer also asserts conflict (Pet. 15-16),

did not involve a family partnership ; the question

presented was the deductibility of interest paid by

the borrower-husband to the lender-wife. Of. Som-

mers Vv. Commissioner, 193 F. 2d 609, rehearing de-

nied, 195 F. 2d 680 (C.A. 2d), which is in accord

with the decision below (see R. 421-2).

In this case, not only is there ‘‘ample evidence”’ *

to support the jury’s verdict that the agreed di-

vision of the profits was not a bona fide and reason-

able one (R. 420), but also, since the case was tried

before a jury, the scope of appellate review is more

limited than in the cases relied upon by taxpayer,

12

where the facts were found by the Tax Court. What

is more, since this is a suit for refund of taxes al-

leged to have been erroneously collected, taxpayer

was under a heavier burden of proof than in cases

where a taxpayer seeks a Tax Court review of a

deficiency determination. Lewis v. Reynolds, 284

U.S. 281; Stone v. White, 301 U.S. 532.

| 3. Even assuming that a conflict does exist,

recent legislation has rendered it academic with

respect to taxable years after 1950. Section 191

of the Internal Revenue Code, added by Section

340(b) of the Revenue Act of 1951, c. 521, 65 Stat.

452, provides that the distributive share of a donee

/ (or vendee) member of a family partnership is

| nevertheless to be taxed to the donor partner to the

extent that the share is determined without first

deducting reasonable compensation for the donor’s

services, or to the extent that it is disproportionate

,to the donee’s capital contribution.” Moreover,

/ while Section 340(c) of the 1951 Act makes this

‘ new section applicable to taxable years after 1950,

it also provides that determinations for prior years

shall be made ‘‘without inferences drawn from the

fact that this section is not expressly made ap-

plicable”’ to prior years. See also Mim. 6767, 1952-1

um. Bull, 111.

4, Contrary to taxpayer’s assertion (Pet. 20),

} 2 As the court below noted in a footnote to its opinion (R.

\ 422), much of the daughters’ contributions came to them by

\, gift from taxpayer, and had the taxable year here involved

_-~* | been 1951 or a later year this new provision would have expli-

citly authorized reallocation of the partnership income.

13

this case does not present issues of general impor-

tance meriting this Court’s attention. As just indi-

cated, recent legislation has largely disposed of the

allocation problem in family partnership cases, at

least with respect to taxable years after 1950. With

respect to prior years, the guiding principles have

already been laid down by the Court in the Tower,

Lusthaus and Culbertson cases, and each case nec-

essarily turns on its own facts. As for the addi-

tional questions which taxpayer alleges are in-

volved (Pet. 2-3), they are merely incidental to the

allocation question and the answers likewise de-

pend upon the particular facts of this case. The

jury having determined the issues against the tax-

payer, and both lower courts having concurred in

sustaining the jury’s verdict, the case presents no

oceasion for issuance of the writ.

14

CONCLUSION

The decision below is correct, and the case does

not call for further review. The petition for a

writ of certiorari should be denied.

Respectfully submitted,

Rosert L. STERN,

Acting Solicitor General.

H. Brian Houuann,

Assistant Attorney General.

Eis N. SLAcK,

Harry Baum,

FRED E. YOUNGMAN,

Special Assistants to the Attorney General.

DECEMBER, 1953.

WY U. S. GOVERNMENT PRINTING OFFICE: tos zeae 623

| 5 T FIL #

DEC 11

HAROLD B. WI

IN THE

Supreme Court of the United States

OCTOBER TERM, 1953

No. 455

° PHILIP WEISS,

; Petitioner,

against

JAMES W. JOHNSON, Collector of Internal Revenue.

On PetITION FOR A Writ OF CERTIORARI TO THE UNITED STATES

Court oF APPEALS FOR THE SECOND CIRCUIT

REPLY BRIEF FOR THE PETITIONER

Morey S. WOLFE,

SAMUEL KALMANASH,

Counsel for Petitioner,

580 Fifth Avenue,

New York, N. Y.

INDEX

TaBLE oF Cases

PAGE

Canfield v. Commissioner, 168 F. 2d 907, 913 ........ 9

Commissioner v. Culbertson, 337 U. S. 733 ...1, 2, 4,7,8,9

Dobson v. Commissioner, 320 U. S. 489 ............. 8

Dorzback v. Collison, 3 Cir., 195 F. 2d 69 ........... 4

Forman v. C. I. R., 9 Cir., 199 F. 2d 881 .......... 4

Hartz v. C. I. R., 8 Cir., 170 F. 2d 313, certiorari

denied 337 U. S. 959

Levin v. C. I. B., 2 Cir., 199 F. 2d 692 ......5.....0. 5

Lewis v. Reynolds, 284 U. S. 281 ................05. 5

Lusthaus v. Commissioner, 327 U. S. 293 7

9

Marcus v. Commissioner, 201 F. 2d 850, 853

Sommers v. ©. I. R., 193 F. 2d 609, Reh. 195 F. 2d

680

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IN THE

Supreme Court of the United States

OCTOBER TERM, 1953

No. 455

ay.

vv

Puitie _WEIss,

Petitioner,

against

James W. Jounson, Collector of Internal Revenue.

On Petition ror a Writ or CERTIORARI TO THE

Unrrep States Court or APPEALS FOR THE

Seconp Crevrt.

ay.

v

REPLY BRIEF FOR THE PETITIONER

Respondent, in his brief, seeks to avoid the issue of law

presented in this case by ignoring it. The Commissioner

of Internal Revenue, without any legislative enactment, has

seized the power to reallocate the profits of a bona fide

partnership between capital and services. He now seeks

the confirmation thereof by this Court. He does so, in

effect, by requesting this Court to deny petitioner’s appli-

cation for a writ of certiorari. By such denial, this Court

would, without any consideration of the question grant him

such power by judicial legislation, for this Court left un-

answered the precise question at the close of Commissioner

v. Culbertson, 337 U. S. 733, where, at p. 748, this Court

stated:

2

**No question as to the allocation of income between

capital and services is presented in this case and we

intimate no opinion on that subject.’’

On audit of the partnership return in 1948, prior to the

Culbertson decision, the Commissioner asserted his claimed

power to change the agreement of the partners in this

bona fide partnership by making capital the sole criterion

and reallocated the profits approximately according to

the precentage of capital contribution of the partners (R.

340). The Culbertson decision having intervened before

the trial of the case below, the Commissioner, by the

opinion evidence and exhibits which he presented, cal-

culated to bring before this Court for review the very

question referred to above and left unanswered by this

Court. Now, having been successful below, respondent

disregards the issue of the Commissioner’s power by

framing the ‘‘Question Presented’’ (Resp. 2) as (a) Was

the division of profits bona fide and reasonable; and (b)

Whether the profits allocated to Miriam and Helen were

derived from petitioner’s capital?

By so framing the question presented, respondent seeks

denial of petitioner’s application for a writ, on the ground

that this Court should not review the evidence. The dis-

tinction that respondent overlooks is, that the opinion tes-

timony and exhibits complained of (Ex. P, Q, R; R. 402-

411), admitted in evidence, were irrelevant and posed the

wrong question to the jury, namely, ‘‘reasonableness of

return on capital invested’’, instead of ‘‘reasonableness of

the agreed division of profits.’’

Our petition refers in detail to the immaterial and ir-

relevant hindsight exhibits submitted for consideration of

the jury, such as Exhibit P (R. 402-404), in which the

percentage return on capital invested was substituted as

the test of the reasonableness of the division of profits.

If only on hindsight, after the taxable years in question

3

were closed and the returns filed and the parties’ success

measured, could the percentage of return on capital in-

vested be determined, then how can partners, in making an

agreement at the inception of the partnership, be imposed

upon by law to use the end result as the basis for thei

agreement? If the test will be the reasonableness of the

return on capital invested rather than the reasonableness

of the division of profits, then the parties will be penalized

for the success of their endeavors. If this partnership had

only earned $35,000.00, which would have been only suffi-

cient to pay petitioner’s salary and that of Bernard and

Samuel, Exhibit P (R. 402-404) would be meaningless.

There is no doubt, as stated in Hartz v.C. 7. &., 8 Cir.,

170 F. 2d 313, and other cases, that if a division of profits

is artificial and unwarranted for want of good faith or

absence of proper reasons therefor, then that fact might

constitute sufficient ground for a finding that the alleged

partnership was a sham or a device to avoid the pay-

ment of taxes. But does the Commissioner of Internal |

Revenue have the power to rewrite the partners’ agree-

ment as to the division of profits where there is no “‘wholly

unreasonable agreement as to the sharing of partnership

income’? The question is not unlike the situation in |

which a court of equity may step in because of an un-

conscionable advantage taken by one party to a contract.

But before the court would move, it would have to be

convinced that there had been such a gross inequity done

as to shock the conscience of the court. What have we

here? The changes made by the Commissioner of Internal

Revenue were ‘‘slight”’ (Resp. 7) in each partner’s agreed

Share of the partnership profits; we urge so slight, as

on its face to raise a restraining hand against the Com-

missioner’s interference. Adding the changes made by

the Commissioner in the shares of all five of petitioner’s

partners, the result was a total of only 18%. So com-’

pletely ridiculous is the position of the Commissioner on

his claim of a “patently disproportionate’ division of

4

the profits that his change of only 1% respecting the lim-

ited partner, Beatrice (who invested capital and rendered

services unpaid for) is completely glossed over! It is

petitioner’s position that an unwarranted change in the

division of profits of even only one of the partners re-

quires reversal of the judgment. It is for this reason, no

doubt, that respondent carefully avoids the issue of the

irrelevant testimony admitted on the trial, of ‘‘return on

capital invested’’ and Exhibits P, Q and R (R. 402-411).

If respondent could succeed in spelling out so gross and

unconscionable a contract of partnership so as to warrant

a finding of bad faith, then the crucial question, ‘‘Has the

Commissioner the power to reallocate?’’, would answer

itself by the disallowance of the partnership itself.

A. Conflict of Circuits. If the court below had not in-

terpreted its decision in Sommers v. C. J. R., 193 F. 2d

609, Reh. 195 F. 2d 680 (which involved a sub-venture

agreement and not a family partnership case and which

conflicts with other circuits,’) as being authority that it

had previously inferentially decided that the Commissioner

did have the power to reallocate partnership income then,

perhaps, the court below would have excluded the highly

prejudicial and inflammatory Exhibits P, Q and R (R. 402-

411) which were prepared by respondent on that issue.

The Court below overlooked the import of the statement

by this Court in Commissioner v. Culbertson, 337 U. S.

733, where at p. 744 it stated:

r — (*** * * If upon a consideration of all of the facts

‘ it is found that the partners joined together in good

faith to conduct a business, having agreed that the

service or capital to be contributed presently by each

is of such value to the partnership that the contributor

should participate in the distribution of profits, that is

sufficient. ’’

_

* Doraback v. Collison,

3 Cir., 195 F. 2d 69; Forman v. C. 1. &.,

9 Cir., 199 F. 2d 881.

eae

5

The cases cited by respondent (with two exceptions?

not material to the family partnership question) are the

cases which petitioner relies on to indicate the conflict of

the various circuits.

With respect to the latter half of the **Question Pre-

sented’’ by respondent (Resp. 2), the case of Levin v.

C. I. R., 2 Cir., 199 F. 2d 692 (11/12/52), indicates the

intramural conflict within the very court below for, if ap-

plied to the facts in this case as to the limited partners

Helen and Miriam who had contributed needed capital, the

conflicting reasoning in Sommers v. C. I. R., supra, would

not have applied and Exhibit **Q”’ (R. 406-409) would

have been inadmissible.

No citation is indicated by respondent to support the

allowance to Helen and Miriam of a ‘‘return of 10% on

their capital’’ (Def. Ex. Q; R. 405-408). Although peti-

tioner’s capital contribution was larger than their’s, 2 |

profit on the sale of the mills (which they had contributed)

in 1944 (Pl. Ex. 6, Sch. G, Col. 8; R. 333) and the benefit

to petitioner in receiving his 40% partnership share, is the

best proof of the value to the partnership of the capital

contribution by the children.

Respondent inferentially recognizes the conflict (Resp.

12) and then dismisses the importance thereof for the

alleged reason that the enactment of Section 191 of the

Internal Revenue Code* provides that the donor member

of a family partnership be first compensated for his services

before distribution to the donees. This argument ignores:

1. Petitioner’s sons-in-law, Brrnarp Krosney and

SaMvEL SunsHINE, were not recipients of any gifts from

‘ * Lewis v. Reynolds, 284 U. S. 281; Stone v. White, 301 U. S.

32.

® Added by Sec. 340 (b) of the Revenue Act of 1951.

6

petitioner to enable them to make capital contributions to

the partnership.

2. A contribution of capital by these two active and very

able general partners was not necessary to substantiate

their distributive share of the profits.

3. The agreement of the partners, disregarded by the

Commissioner, provided for a salary of $20,000.00 per

annum to petitioner, which was disallowed upon audit when

capital was the sole criterion in the Commissioner’s theory

of attack upon this partnership.

4. The 1951 enactment permits only the donor’s com-

pensation to be fixed or increased by the Commissioner.

No citation is furnished by respondent for doubling the

salaries of Bernarp Krosney and SamMvet SunsHINE from

$7,500.00 to $15,000.00 per annum and more than doubling

their share of the profits from 9/10 of 1% to 2% if the

Commissioner was consistent and used capital as the crite-

rion for division of profits. Revenue Agent Ciings recog-

nized the absence of legal authority for this when he testi-

fied as plaintiff’s (petitioner herein) witness, at page 198

of|the Transcript of Record, as follows:

- *Q. Do you know of any law that gave you the right

to give a man a higher salary than has been designated

for him? A. No.

Q. There is no law to that effect? A. No.’’

he Revenue Agent then goes on to say that he ‘‘tried to

give * * * what I thought was a fair salary.’’ The Assist-

ant Federal Attorney then cross-examined at this point (p.

200-201), as follows:

**Q. Whether or not there is such a law, increasing

the value of the services of Mr. Krosney and Mr.

Sunshine, you are acting in accordance with the rul-

ings of the Internal Revenue Bureau? A. Yes.’’

7

5. The capital contributions of Helen, Miriam and

Beatrice were not all gifts from petitioner, and that part

which was received as gifts was not contemporaneous with

or incident to the formation of the partnership.

B. Lack of Legislative Authority for the Assumed

Power of the Commissioner. The only authorities cited

by respondent in his brief are Sections 22, 181, 182, 191

and 3797 of the Internal Revenue Code. Not one of these

citations grants the Commissioner the power to rewrite the

agreement between the parties and, in fact, this Court

stated in Commissioner v. Culbertson, 337 U. S. 733, that

its decision is not to be inferred to grant him that power.

The only reason apparently for the printing in full in

repondent’s brief of these Sections is to clothe his argu-

ment with a show of legislative sanctiun.

Mr. Justice Frankfurter, in his concurring opinion in

Commissioner v. Culbertson, swpra, properly distinguishes

the aforesaid Sections of the Internal Revenue Code in

relation to one another. No inference can be drawn that

they give the Commissioner the power to rewrite agree-

ments between partners when their relation is bona fide.

Mr. Justice Frankfurter, in referring to Lusthaus v. Com-

missioner, 327 U. S. 293, states, at p. 750, as follows:

‘** * * In short, the opinion did not say that family

partnerships are not be be regarded as partnerships

for income tax purposes even though they be genuine

commercial partnerships; the opinion did not even

announce hobbling presumption under the income tax

law against such partnerships.”’

And, continuing, at pages 753-754:

‘c# * * It is not for this Court, by redefinition or

the election of presumption, to amend the Internal

Revenue Code so as to virtually ban partnerships

composed of the members of an intimate family group.

7

P

In plain English, if an arrangement among men

is not an arrangement which puts them all in the same

business boat, then they cannot get into the same

boat merely to seek the benefits of Sections 181 and

182. But if they are in the same business boat, al-

though they may have varying rewards and varied

responsibilities, they do not cease, to be in it when

the Tax Collector appears.’’

It is significant to note that Commissioner v. Culbert-

son, 337 U. S. 733, was the last case decided by this Court

under the rule of Dobson v. Commissioner, 320 U. S. 489.

The Culbertson case having been decided by the Court of

Appeals on June 30, 1948, prior to the amendment, effec-

tive September 1, 1948, of Section 1141 (a) of the Internal

Revenue Code, was remanded back to the Tax Court for

further consideration. Upon reconsideration, the Tax

Court in an opinion by Judge Disney, 9 T. C. Memo. Dec.

647, although speaking the language of this Court’s de-

cision failed to apply its principle and Culbertson on

second appeal to the Court of Appeals (Culbertson v. Com-

missioner, 5 Cir., 194 F. 2d 581, the Court of Appeals

applying this Court’s decision reversed the Tax Court and

_ the Commissioner did not see fit to seek certiorari again.

Similarly in the case at bar, lip service to the decision

of this Court in the Culbertson case, supra, has been made

| but its principles ignored. The fact that the agreement

between the partners gave petitioner a salary of $20,000

per annum comes within what this Court may have in-

| ferred in the question left unanswered at page 748. The

_ subsequent amendment of the Internal Revenue Code by

. See. 191 did no more than the partners in the instant case

had already done.

’ Hartz v. Commissioner, 8 Cir., 170 F. 2d 313, certiorari

denied, 337 U. S. 959, by this Court simultaneously with

Commissioner v. Culbertson, supra, was decided by the

9

Court of Appeals October 27, 1948, after the effective date

of the amendment of Sec. 1141 (a) L. R. C., and this Court,

in denying certiorari, did not remand the case to the Tax

Court for reconsideration. In view of the holding of the

Court of Appeals in Hartz v. Commissioner, supra, (where,

at p. 318, it stated: ‘‘* * * Concluding, as we have, that this

record compels the conclusion that this was a valid partner-

ship, the Tax Court had no right to re-apportion the income

of the partnership between the partners for tax purposes’),

and the failure to remand the case in contrast to the Cul-

bertson case, it is a reasonable conclusion that this Court

upon consideration of the question of the power of the

Commissioner to rewrite the agreement of the partners as

to the division of profits in a bona fide partnership, would

hold in the negative, in line with the Fifth’, Sixth® and

Eighth’ Circuit Courts of Appeal and- not follow the de-

cision of the court below.

C. The Questions in This Case Are of Nation-Wide

Interest. Respondent states that because of the 1948 Rev-

enue Act permitting husband and wife division of income

and the 1951 enactment, the question presented by this

appeal has lost its nation-wide interest.

This argument fails to observe that petitioner’s wife was

not made a partner. If petitioner’s only purpose was to

deflect income from himself then, certainly, it would have

been advantageous to have made his wife a partner, for

in those years a husband could not merely by filing a joint

return with his wife, divide his income in half for tax

computation, as at present. Moreover, the 1951 Act in no

way eliminates the problem between a father-in-law and

his sons-in-law, brothers and sisters, brothers and brothers-

in-law, or others not expressly provided for by the 1951

° Marcus v. Commissioner, 201 F. 2d 850, 853.

* Canfield v. Commissioner, 168 F. 2d 907, 913.

* Hartz v. Commissioner, 170 F. 2d 313.

10

Act, and the approval by this Court of the usurped power

of the Commissioner to substitute his judgment for that of

the contracting parties’ merely because of a family rela-

tionship, would continue to spread.

CONCLUSION

It is respectfully submitted, that because (a) the

power asserted by the Commissioner of Internal Rev-

enue is not supported by any authority (b) the con-

flict of decisions in the Court of Appeals for the various

circuits (c) the general importance to the public of

the question involved, that there is presented a proper

occasion for the exercise of the supervisory power of

this Court.

December, 1953.

Mortey 8. WoLrFE,

SaMvUEL KaLMANASH,

Counsel for Petitioner.

(7567)