Court Opinion

ID: 4613837
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:54:20.451335+00
Date Added: 2024-06-11T07:54:41.658421
License: Public Domain

Litta Matthaei, Petitioner, v. Commissioner of Internal Revenue, Respondent.  Estate of Emma Matthaei, Deceased, Frederick C. Matthaei, Executor, Petitioner, v. Commissioner of Internal Revenue, Respondent.  Frederick C. Matthaei, Petitioner, v. Commissioner of Internal Revenue, RespondentMatthaei v. CommissionerDocket Nos. 2990, 2991, 3220United States Tax Court4 T.C. 1132; 1945 U.S. Tax Ct. LEXIS 189; April 16, 1945, Promulgated *189 Decisions will be entered under Rule 50.  Separate trusts were created by two sisters in 1935 and their brother in 1936 for the benefit of the two minor sons of the brother.  The grantors were the trustees of their respective trusts.  The management of all of the trusts was left to one of the sisters, who died in 1943.  She was lax in her management of the trusts and during her lifetime some of the trust funds were misused by or for the benefit of the grantor trustees.  However, after her death all of the funds properly belonging to the trusts were found intact in separate trust envelopes in her home.  Held, that the trusts were not without substance and that the income thereof is not taxable to the grantors under section 22 (a), I. R. C.Richard E. Cross, Esq., and Grant*190  L. Cook, Esq., for the petitioners.Paul A. Sebastian, Esq., for the respondent.  Smith, Judge.  SMITH *1132  These proceedings, consolidated for hearing, involve income tax deficiencies for 1939, 1940, and 1941 as follows:PetitionerDocket No.YearDeficiencyLitta Matthaei29901939$ 4,587.68194024,489.34194124,873.08Estate of Emma Matthaei299119393,487.53194017,214.34194119,921.78Frederick C. Matthaei322019397,560.90194018,919.49194115,093.44*1133  The only question in issue is whether the income from certain trusts is taxable to the grantors under section 22 (a), Internal Revenue Code.  The grantors of the trusts were petitioners Litta Matthaei and Frederick C. Matthaei and their sister, Emma Matthaei, now deceased, who is represented in these proceedings by her executor, Frederick C. Matthaei.  As hereinafter used, the term "petitioners" will refer to the three grantors. Since the proceedings all involve substantially the same facts, they were consolidated for hearing.FINDINGS OF FACT.Petitioners were all residents of Michigan during the years involved.  They filed their income tax returns for*191  those years with the collector of internal revenue for the district of Michigan, at Detroit.Emma Matthaei died November 1, 1943, and her brother, Frederick, was appointed executor of her estate.There are three trusts involved.  One of them was created by Litta Matthaei and one by Emma Matthaei on August 29, 1935, each for the benefit of their nephews, Frederick Carl Matthaei, Jr., and Konrad H. Matthaei, minor sons of Frederick.  The third trust was created by Frederick C. Matthaei on June 11, 1936, for the same beneficiaries. The trusts were all substantially alike.  Their terms and conditions will be more fully set out below.For many years prior to the death of Emma in 1943 she and her sister, Litta, who were both unmarried, lived together in their home at 2436 North LaSalle Gardens, Detroit.  They were 51 and 53 years old, respectively, in 1935.Petitioners all had considerable property, including real estate and securities, which they had acquired in part by gift or inheritance from their father, Konrad H. Matthaei, who died in 1939.  Most of their real estate was jointly owned.  Emma managed these properties and also her father's affairs after his retirement from business*192  about 1920.  There was an understanding between her and Litta that she would handle all of the business matters and that Litta would take care of the home.  The other members of the family had complete confidence in her and entrusted these matters to her solely.In creating the trusts referred to above Litta and Emma, on August 29, 1935, each conveyed to herself as trustee all of her shares, 2,458 and 2,083, respectively, of the common stock of American Metal Products Co., a Michigan (Detroit) corporation.  They had each acquired 1,083 of those shares as a gift from their father in 1935 and the additional shares had been issued to them subsequently.In the third trust, created by Frederick on June 11, 1936, the grantor conveyed to himself as trustee for the same beneficiaries, his sons, Frederick and Konrad, 1,084 shares of American Metal Products Co. stock. He acquired those shares as a gift from his father in 1935 *1134  and had previously conveyed them to himself as trustee for the benefit of his two sons on April 29, 1935.  That trust was revocable and on June 11, 1936, the grantor revoked it and created the trust now under consideration.  Frederick was then 43 years of age*193  and his sons, Frederick and Konrad, were 10 and 6 years of age, respectively.Also on June 11, 1936, Frederick C. Matthaei created a revocable trust for the benefit of Litta and Emma, transferring to his father, Konrad H. Matthaei, as trustee, 5,425 shares of stock of the same company.  That trust is not directly involved in these proceedings.The capital stock of American Metal Products Co. issued and outstanding on August 29, 1935, and on June 11, 1936, was held as follows:SharesFrederick C. Matthaei200Frederick C. Matthaei, trustee1,084Konrad H. Matthaei, trustee for Emma Matthaei and LittaMatthaei5,425Litta Matthaei2,458Emma Matthaei2,083Roy H. Curtis665Douglas F. Roby1,650Dean S. Edmonds3,000Total16,565There was a 200 percent stock dividend paid on June 9, 1939.The board of directors of the company consisted, on August 29, 1935, and on June 11, 1936, of Dean S. Edmonds, Douglas F. Roby, Roy H. Curtis, Frederick C. Matthaei, and Konrad H. Matthaei.After the death of Konrad H. Matthaei in April 1939, Litta Matthaei was, in December 1939, elected to succeed him.Under the trust agreements the income of each of the three trusts was*194  to be applied to the use and benefit of the two named beneficiaries. The trustee was directed (in the Frederick C. Matthaei trust) to:* * * pay over from time to time the sums necessary to suitably maintain, support and properly educate the said Frederick Carl Matthaei and Konrad H. Matthaei, according to the position and station in life they were accustomed to at the time of the execution of this instrument.The two other trusts were substantially the same, except that the distributions to the beneficiaries were to include "necessary funds for travel or for other broadening and cultural influences of like nature." The beneficiaries were to receive 10 percent of the principal and accrued interest when they became 25 years of age, 30 percent at the age of 30, and 60 percent at the age of 35.  In the event that either of the beneficiaries should die before receiving his full share of the distributions, such share was to go to his surviving children, if any, or, if none, to the other beneficiaries. The trusts were to be held open for 10 years for the admission on an equal basis of any later born children of Frederick C. Matthaei.*1135  The grantor of each trust named as successor*195  trustee, to act singly and successively, the grantors of the other two trusts and the Detroit Trust Co.  The trustees were given the usual powers to borrow or advance money and to sell any of the trust assets, except that the Detroit Trust Co., if it should become a trustee, was directed to consult three named individuals, directors of the American Metal Products Co., about any transaction involving the stock of that company and was not to vote such stock against the management of the company without the consent of the individuals named.  The investment of the funds obtained from the sale of such stock by the trust company was to be restricted to legal trust investments.These trusts were all irrevocable and none of the grantors retained any beneficial interest in either the income or corpus of any of them or any rights either as grantors or trustees to change such beneficial interests.The grantors endorsed over the American Metal Products Co. shares comprising the corpora of the trusts to themselves as trustees, but the shares were not registered in the names of the trustees on the corporation's books until June 1939.A gift tax return for 1936 was filed by Frederick C. Matthaei*196  on March 15, 1937, in which he reported the June 11, 1936, gift in trust to his sons, but no gift tax was shown to be due by the return.Delinquent gift tax returns for 1935 were filed by Litta and Emma on March 4, 1940.  Those returns showed gift taxes due in the respective amounts of $ 309.15 and $ 112.35.  The respondent determined gift tax deficiencies on those returns of $ 2,891.17 and $ 1,777.31, respectively.  The deficiencies resulted from the respondent's increase in the valuation of the American Metal Products Co. stock from $ 30 per share to $ 55 per share.The assets and funds of all three of the trusts were left in the custody of and under the management of Emma Matthaei until her death in 1943.  She kept the trust securities at her home in separate envelopes, each bearing the name of the particular trust.  There was no bank account for any of the trusts prior to February 19, 1938.  On that date an account was opened for the Frederick C. Matthaei trust at the Linwood-Joy Road branch of the Detroit bank in the name of the trustee.  Similar accounts were opened for the other two trusts in the names of the respective trustees on January 25, 1940.  The opening deposits in*197  those accounts were in the following amounts:Litta Matthaei trust$ 27,652.50Emma Matthaei trust23,433.75Frederick C. Matthaei trust11,382.00Those deposits were the exact amounts of the dividends paid by American Metal Products Co. in the respective years when the accounts were opened (1938 and 1940) on the shares of stock held in each *1136  of the trusts.  The dividends paid on the trust shares in prior years were deposited in the individual bank accounts of the grantors or trustees and were commingled with their individual funds.  After the trust accounts were opened the income from the trust securities was deposited in the proper trust accounts and all investments of trust funds were made by checks drawn on those accounts.The trusts were all managed by Emma Matthaei until her death.  She had trading accounts in her own name with several brokerage firms in Detroit, through which she purchased securities for the trusts.  She also purchased securities for her individual account from time to time, but she kept them in a separate place in her home and did not mix them with the trust securities.  She made deposits of trust funds in the trust accounts from time *198  to time and drew checks on the accounts to purchase additional securities.In several instances after the trust accounts were opened funds were withdrawn from some of them for the personal use of the grantors. On February 11, 1941, a cashier's check in the amount of $ 9,151.06 payable to the New York Life Insurance Co. was drawn on the Emma Matthaei trust.  In 1941 and 1942 the personal income taxes of both Litta and Emma for 1940 and 1941, amounting in the aggregate to $ 4,355.04 and $ 1,600.36, respectively, were paid by checks drawn on those accounts.  The taxes determined to be due on the delinquent gift tax returns filed by Litta and Emma in 1940 were paid by checks drawn on their trust accounts.  In 1941 a contribution of $ 5,000 to the Bethel Evangelical Reform Church was paid out of the funds of the Litta Matthaei trust.  A deduction thereof was claimed by Litta in her return for that year and was allowed by the respondent, subject to the limitations of section 23 (o) (5), Internal Revenue Code.  Other withdrawals were made from the trust accounts for temporary use by the individual grantors during the period 1938 to 1941, inclusive, but were restored to the trust accounts*199  soon thereafter.Soon after Emma's death Litta and Frederick examined the securities found in the trust envelopes. They clipped the coupons that were due and Litta deposited them in the several trust accounts.  Later on she purchased other securities with funds withdrawn from the accounts, which she placed in the proper trust envelopes.In August 1944 a public accountant of the firm of Ernst & Ernst was engaged to make a report on the trusts.  He went to Litta's home to examine the securities contained in the trust envelopes and found in each envelope a large number of securities with invoices attached showing the date of purchase and the cost thereof.The following tabulation shows the total cost of securities purchased for each of the trusts during the years 1936 to 1944, inclusive, as found in the trust envelopes: *1137 LittaEmmaFrederick C.YearMatthaeiMatthaeiMatthaeitrusttrusttrust1936$ 5,416.451937$ 2,361.4110,771.70$ 2,012.75193822,105.2910,063.13193932,774.4318,897.22194017,352.4713,396.9933,061.13194120,183.4518,093.09194213,240.1120,085.271943194451,019.6075,467.5247,998.16Total159,036.76172,191.3783,072.04*200  The securities other than the American Metal Products Co. shares consisted mostly of city of Detroit bonds, but there were also found other bonds, including United States Treasury and United States savings bonds, and in the Frederick C. Matthaei trust 300 shares of stock of Parke, Davis & Co. which were purchased in 1940.  All of the securities were in bearer form except the United States bonds and the American Metal Products Co. shares, which were registered in the names of the respective trustees.Most of the purchases of trust securities made after the opening of the trust accounts can be traced through the bank statements of the trust accounts, which were admitted in evidence, to withdrawals from those accounts.  There were no available records by which the securities previously purchased could be traced to trust funds, but the data found in the envelopes showed that substantial amounts of securities were purchased for each of the trusts by Emma in those years and placed in the proper envelopes. By referring to the dividend records of American Metal Products Co. and Parke, Davis & Co. and computing the interest accrued on the bonds since their acquisition, the accountant determined*201  that the cost of the securities found in each trust envelope plus the funds then on deposit in the trust accounts amounted to approximately the total of such dividends and interest less the fiduciary taxes paid on such income.  The figures as to each of the trusts are as follows:LittaEmmaFrederick C.IncomeMatthaei trustMatthaei trustMatthaei trustAmerican Metal Products Co.dividends$ 285,742.50$ 242,148.75$ 124,385.00Parke, Davis Co. dividends1,530.00Interest (bank)401.76454.85812.15Interest (on securities)12,448.3413,431.622,720.23298,592.00256,034.22129,447.38Less income taxes paid97,734.1073,439.2628,364.45Net trust receipts200,858.50182,594.96101,082.93Cash in bank43,180.289,869.6218,139.89Cost of securities purchased159,036.76172,191.3783,072.04Total202,217.04182,060.99101,211.93*1138  No distributions have ever been made from any of the trusts to or for the use of either of the beneficiaries.The grantors, acting as trustees, filed fiduciary returns on behalf of their respective trusts for the taxable years 1939, 1940, and 1941 and paid the taxes shown to be*202  due thereon out of the funds of the trusts.  Frederick also filed fiduciary returns on behalf of his trust for the prior years 1936, 1937, and 1938.  For the years 1935 to 1938, inclusive, Litta and Emma reported the dividends on the American Metal Products Co. shares in their individual income tax returns.  Following is a statement of the income and taxes reported by each of the petitioners in their individual returns and in the fiduciary returns filed for the years 1935 to 1941, inclusive:Litta MatthaeiEmma MatthaeiYearIncomeTaxIncomeTax1935Individual$ 3,288.80$ 5,120.79$ 32.68Fiduciary1936Individual19,728.61$ 1,792.8614,284.081,062.09Fiduciary1937Individual32,731.644,586.2825,793.553,013.64Fiduciary1938Individual26,213.273,102.7924,237.072,681.84Fiduciary1939Individual6,026.79230.145,251.79168.14Fiduciary27,652.503,656.0823,433.752,720.091940Individual13,943.791,332.108,210.46493.96Fiduciary55,313.4117,910.6846,873.9213,640.581941Individual14,955.573,022.948,878.641,240.16Fiduciary48,155.7320,232.8840,698.5715,901.18*203 Frederick C. MatthaeiYearIncomeTax1935IndividualFiduciary1936Individual$ 59,473.51$ 11,524.73Fiduciary6,504.00280.321937Individual79,919.1620,819.77Fiduciary11,079.24818.721938Individual71,910.4716,950.92Fiduciary9,756.00665.601939Individual104,117.6534,450.95Fiduciary12,195.00931.401940Individual164,853.7387,382.23Fiduciary24,573.784,407.561941Individual144,542.3682,871.22Fiduciary21,672.866,007.78The respondent has determined that all of the income of the trusts is taxable to petitioners, as grantors, in their individual returns.OPINION.The respondent's determination that the income of all three of the trusts involved is taxable to the respective grantors is based upon section 22 (a) of the Internal Revenue Code and the doctrine of Helvering v. Clifford, 309 U.S. 331">309 U.S. 331. He contends that the trusts were without substance, since the grantors ignored the provisions of the trust agreements and exercised complete dominion and control over the trust funds.While there is some factual support for respondent's contentions, we think*204  that the evidence as a whole shows the trusts to be valid and entitled to full recognition.There is no doubt, we think, that the trust assignments effected completed gifts to the beneficiaries of the American Metal Products Co. *1139  shares and the income therefrom and that the rights of the beneficiaries under the trust indentures are enforceable by law.The expressed provisions of the trust agreements make no reservations and impose no conditions whatever upon the gifts, and the respondent does not contend that they do.  His contention is that the conduct of the grantors and trustees after the trust declarations shows that they never intended to abide by the provisions of the trusts.Laxity on the part of the trustees in their administration of the trusts and the handling of the trust funds is admitted.  The evidence is that both Litta and Frederick left the management of their trusts to Emma during her life, although Frederick did file fiduciary returns on behalf of his trust.  Apparently Emma acted as agent for the other trustees.  There was a close family relationship between all the parties.  They owned property jointly and had had several joint bank accounts.While it*205  may have been violative of the grantors' fiduciary obligations, if not of the laws of the State of Michigan regulating the administration of trusts, for the trustees to commingle the trust funds with their personal funds as they did prior to the establishment of the trust accounts, and on occasions to borrow or appropriate trust funds for their own use, it does not follow that the trusts were without substance.  The final accounting of the trust funds after the death of Emma in 1943 found the trust funds all intact. The actual accretions to the original corpora of the trusts in the form of dividends and interest were readily ascertainable and all of such income has been accounted for in the trust portfolios and bank accounts.We do not know what further account of the administration of the trusts might have been given by Emma had she survived to appear at the trial.  Our consideration must be limited to the evidence before us.  The evidence that funds belonging to the trusts were loosely handled by the grantors, and that some of them were borrowed or appropriated by the grantors for their personal use from time to time, justifies the inference, in the absence of any satisfactory *206  explanation, that the trusts were lacking in substance.  However, we think that the inference is overcome by the further and more concrete evidence that all of the funds properly belonging to the trusts were found intact in the trust envelopes and the trust bank accounts after the death of Emma and after the close of the taxable years involved.We are convinced from the evidence that the trust securities and funds accounted for were accumulated from year to year in good faith as indicated by the available records of the bank and of the trading accounts.The facts in this case are materially different from those which obtained in George Beggs, 4 T.C. 1053">4 T. C. 1053, wherein we held that the *1140  grantor trustee was liable to income tax upon the income for 1937 to 1941 of trusts created by him for the benefit of his children; for there the grantor by the terms of the trust instruments retained large powers of control of the trust funds and the income therefrom, a part of which was used for the support, education, and maintenance of his children, a part for the payment of premiums on insurance taken out by the grantor on his own life, which policies were not*207  assigned to the trusts, large parts of which were loaned to the grantor and to a partnership of which he was a member, and a part for the purchase of real estate used by the grantor in his own business.  No such facts are present here.  There was laxity in the administration of the trusts.  But the interests of the trust beneficiaries were not prejudiced thereby.We think that Helvering v. Clifford, supra, and like cases, where the grantors retained powers substantially equivalent to ownership of the trust assets, are not controlling in circumstances like those in the instant proceedings.Decisions will be entered under Rule 50.