Court Opinion

ID: 4497704
Source: CourtListenerOpinion
Date Created: 2020-01-23 18:15:34.075329+00
Date Added: 2024-06-11T14:54:15.298482
License: Public Domain

*441OPINION.
Black:
The first issue in this proceeding is whether petitioner’s income tax returns for the years in question were false or fraudulent with intent to evade tax. The deficiencies determined by the respondent and the 50 percent additions thereto which were added under the provisions of section 275 (b) of the Revenue Acts of 1924 and 1926 and section 293 (b) of the Revenue Act of 1928 are barred by section 277 of the Revenue Acts of 1924 and 1926 and section 275 of the Revenue Act of 1928, respectively, unless under section 278 (a) of the 1924 and 1926 Acts and section 276 (a) of the 1928 Act the returns filed by petitioner were, respectively, false or fraudulent with intent to evade tax. “Fraud is a fact to be proven by clear and convincing evidence.” Charles E. Mitchell, 32 B. T. A. 1093, 1128. Congress in section 601 of the Revenue Act of 1928 has placed the burden of proof in respect of this issue upon the respondent.
The respondent in support of his contention that he has met the burden relies primarily upon the alleged establishment of three fraudulent acts, namely, (1) the omission from income in 1925 of a profit of $14,075.50 from two sales of 300 shares of Southeastern utility stock, and the omission from income in 1926 of a profit of $1,702.50 from the sale of Southeastern option warrants, (2) the erroneous deduction taken by petitioner in his 1929 return of a loss of $69,120 from the sale of 2,000 shares of Atlantic stock, and (3) the overstatement by petitioner in his returns of the cost of Southeastern and Commonwealth utility stocks in the amounts of $72,-018.53 for 1926, $42,214.38 for 1928, $57,894.66 for 1929, and $209,-039.84 for 1930. Petitioner admits that the above errors were made, but denies that they were knowingly made or were made with any *442intention of evading tax. We shall consider the three alleged acts of fraud in the order given.
(1) Regarding the first act, the respondent argues that petitioner’s failure to report the items of $14,075.50 for 1925 and $1,702.50 for 1926 when he had all the information available in his personal files, with no explanation as to how the amounts were omitted, is prima facie evidence of fraud. The facts with reference to the preparation of petitioner’s 1925 and 1926 returns have been fully stated in our findings of fact and will not be repeated in any great detail here.
A summary of petitioner’s testimony relative to the $14,075.50 item is that he could not now explain why this item was omitted from his 1925 return; that certain statements relative to the item were received by petitioner from Steiner, Rouse & Strock (stock brokers); that these statements were available when his return for 1925 was made up.; that he did not personally make up the return; that “we honestly intended to report everything and to make honest returns”; and that if the return had not been honest, he would not have signed it.
The only evidence offered by the respondent as to the $1,702.50 item was a supplemental protest sworn to by petitioner and filed with the respondent in 1985, in which petitioner says that the amount “was inadvertently omitted by Taxpayer’s attorneys in computing the tax for the year 1926 as shown in Taxpayer’s original protest dated September 9,1935.”
During the years 1925 through 1930 petitioner, in addition to the three above sales, made 87 sales of 38,450 shares of Southeastern and Commonwealth utility stocks at a total correct selling price of $723,389. On these sales petitioner reported the selling price or amount received as $732,455.49, or $9,066.49 in excess of the correct amount. The fact that these 87 sales were included in petitioner’s returns is persuasive evidence that petitioner was not intentionally omitting any sales from his returns. The- profit from the three sales that were omitted in 1925 and 1926 amounted to approximately 2.48 percent of the total profit as determined by the respondent and agi’eed to by petitioner on the 90 sales that were made during the years now before us.
The respondent determined the profit on the two sales of 300 shares of Southeastern utility stock omitted from the 1925 return as follows:
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*443The sale of the 200 shares on July 28, 1925, was identified with lots Nos. 19 and 21, which were purchased on July 18 and July 28, 1925, respectively. The sale of the 100 shares on July 13,1925, could not be identified and as to those shares the respondent applied the first in, first out rule and arrived at the cost of $400 for lot No. 2, which was purchased in the year 1922. Counsel for petitioner points out in his brief that on July 18,1925, petitioner purchased 100 shares of Southeastern utility stock (lot No. 18) for $10,575, and on the same day sold 100 shares for $11,471, so that from a realistic standpoint he made only $896 on that day from dealings in this stock, whereas, under the respondent’s application of the first in, first out rule, since the shares sold were not identified with any particular lot, his profit on these shares has been determined to be $11,071. Petitioner never heard of the first in, first out rule until about 1933 or 1934, and he kept no regular set of books.
We think the circumstances described above make it reasonable to believe that petitioner was telling the truth when he said he honestly intended to report everything in these two returns for 1925 and 1926. We think the Commissioner has not established that the two omissions in question were fraudulently made with intent to evade tax.
(2) The second alleged act of fraud is the erroneous deduction of $69,120 taken by petitioner in his 1929 return upon the sale of the 2,000 shares of Atlantic Ice & Coal Co. stock. The respondent contends, very much as he did in Charles Weyl et al., Executors, 38 B. T. A. 850, that there was no bona fide sale to Courts & Co. and that therefore in claiming a loss petitioner was committing fraud on the Government. We think the evidence establishes that there was a bona fide sale of the stock on November 25,1929. The reason why the loss claimed is not deductible is on account of the agreement to repurchase on January 3, 1930, entered into between petitioner and Courts & Co. on December 12,1929, or 17 days after the sale. Section 118 of the Revenue Act of 19281 provides that if anyone “has entered into a contract * * * to acquire substantially identical property” no deduction for the loss shall be allowed. Petitioner’s explana*444tion is that he did not know of this provision of the law and that he thought that if he sold the stock and waited more than 30 days to repurchase it, he would be entitled to the deduction.
S. H. Rogers was the revenue agent who on March 31, 1931, made the first examination of petitioner’s return for 1929. Rogers was an experienced revenue agent, having been in the service since about the year 1921. He testified that his was a very brief examination; that he talked with petitioner; that he did not remember having talked with bim about the Atlantic stock loss, except to explain to him that he was entitled to a greater loss than he had taken; that he remembered having seen the invoice slip showing the sale of the Atlantic stock to Courts & Co., that he did not see the repurchase agreement or the invoice slip showing the repurchase or either of the letters under date of November 25, 1929, and January 3, 1930, set out in our findings; that he was the agent who had recommended the refund of $47.92; and that he was given everything that he had asked to see while there.
Petitioner testified that he went to Courts & Co. and probably told them that he wanted to sell the stock for a tax loss; that he would want to reestablish his position in it by rebuying into the company; that he had completely forgotten about the repurchase agreement until the matter was brought up by his attorney, who found it in his files; that he thought he had consummated a regular sale of stock; that he thought the transaction he had entered into gave him a legal right to take a tax loss; and that he would not have taken it if he had not thought so. Regarding Revenue Agent Rogers’ visit, petitioner’s testimony is in part as follows:
A. I remember be came in and questioned about the sale, yes.
Q. Did you tell bim you bad repurchased that stock?
A. I can’t say whether I did today; if be bad asked me that question, I would have told bim, and if be did ask me, I did tell bim.
Q. Did you tell bim you bad entered into an agreement * * * to repurchase the stock * * *?
A. I don’t presumo I did because it would have no effect on my mind at that time, it would have no bearing on the question be was asking me about. I didn’t know at that .time what I know today since this matter has been brought up; the signing of the agreement does not [sic] prevent me from using it for a loss, and it didn’t enter in my mind at that time that it was not a proper deductible item, nor bad I the slightest idea that I bad not a perfect right to buy the stock back, whether it was that or other stock, and the fact, if I may say—
Q. Go ahead.
A. I had thought everything was lawful, and if the Agent had any thought of it at the time, if he had thought there was anything wrong, he had the liberty to ask because I made it a practice that whenever they came in, and I think you will find they will say that my files and whatever I had were perfectly available to them; in fact, I frequently called Mr. Nabors, and I said, “If there is anything you don’t understand, or any facts or figures that you need,
*445Mr. Nabors is available and. everything I have got is at your disposal,” I had only a desire to be sure I had my affairs in order.
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A. I certainly thought it was proper and, therefore, I never did any more about it; there was certainly no effort at concealment.
We think this feature of the case narrows down to whether petitioner at the time he filed his 1929 return was aware of that provision of section 118 of the Revenue Act of 1928 denying a stock loss to one who within thirty days of the sale “has entered into a contract or option to acquire substantially identical property.” If petitioner knew of this provision at the time he filed his return, we think he would be guilty of filing a false or fraudulent return with intent to evade tax, for certainly at that time (March 15, 1930) he was well aware of the agreement to repurchase. There is no evidence to show that petitioner knew of this particular provision of the law. Therefore, his claiming the deduction appears to have been due to a mistake of law, with no apparent intent to evade tax. Under such circumstances fraud can not be found. On this issue the Commissioner has not sustained his burden of proof.
(3) The third alleged act of fraud is the one which caused the largest understatement of income. Petitioner’s erroneous determination, through his agents Maguire and Nabors, of his cost basis of the utility stocks caused petitioner’s income for the taxable years involved in this proceeding to be understated in the total amount of $381,167.41. This was a very serious and substantial understatement of income and merits the closest scrutiny.
We have in our findings of fact set out in considerable detail the exact manner in which Maguire for 1926 and Nabors for 1928, 1929, and 1930, acting for petitioner, arrived at the cost basis of the stock sold in those years. Briefly, Maguire attempted to identify each of the 25 sales in 1926 with certain purchases previously made. In the final determination by the Commissioner only 2 sales could be identified and it was necessary to apply the first in, first out rule to 23 sales. Maguire testified at the hearing as a witness for the respondent and the substance of his testimony was that at the time he prepared the schedule for petitioner’s income tax return for 1926, showing the 25 sales of stock in question, he had never heard of the first in, first out rule, that he did his best to prepare the schedule correctly, and that he thought he had done so when he turned it over to Nabors to be used in the preparation of petitioner’s income tax return for the year 1926.
We have no reason to doubt the truth of Maguire’s testimony. The testimony shows that both Nabors and petitioner relied upon the schedule which had been prepared by Maguire and believed that it was correct.
*446Respondent's allegation that petitioner’s income tax return for 1926 was false and fraudulent with intent to evade tax is therefore not sustained. We make the same holding as to petitioner’s income tax returns for the years 1928 and 1929. However, the facts as to these two latter years are not the same as for 1926. Maguire had nothing to do with the preparation of the 1928 and 1929 returns. These returns were prepared by Nabors and signed and sworn to by petitioner. In their preparation Nabors took as the basis of cost of most of the utility stock sold in these years the highest cost utility stock owned by petitioner. It was l'epresented by a 5,000-share block of Southeastern voting trust certificates then up as collateral security with the Southeastern Securities Co. of New York City to secure the payment of two notes which petitioner owed the Securities Co. Nabors made no attempt to fix the cost basis of shares sold by the identification of the particular certificates sold or by the application of the first in, first out rule. He testified that he never heard of the first in, first out rule until long after the returns in question were filed and that at the time he filed the 1928 and 1929 returns he thought petitioner had the right to deduct from the selling price of the stock sold the highest cost of an equivalent number of shares then owned by petitioner. To the same effect is the testimony of petitioner. It is plain that he and Nabors talked over this question of the cost basis to be used and came to the conclusion that petitioner had the right to use his highest cost stock. In 1928 the cost of 1,400 of these 5,000 shares was used in determining the gain on the sale of 1,400 shares of Southeastern stock. In 1929, 1,500 more of the shares were thus used. Then came on June 10, 1929, the reorganization when shares of Southeastern were exchanged for shares of Commonwealth on the basis of 414 shares of Commonwealth and certain option warrants for 1 share of Southeastern.
At the time the reorganization came in 1929, according to the method which was being used by Nabors and concurred in by petitioner, the cost basis of 2,900 shares of the 5,000 share block had been used up, leaving 2,100 shares. These 2,100 shares converted into Comm on - wealth shares represented 9,450 shares of the latter. Of these 9,450 Commonwealth shares Nabors used up 5,500 in 1929 in figuring petitioner’s cost basis of Commonwealth stock sold1 after the reorganization. Of course, it can be readily seen that this method of using as a basis of cost of petitioner’s stock sold in 1928 and 1929 the highest cost stock owned by petitioner without reference to the identification of any particular certificates of shares sold was an erroneous method of figuring cost and resulted in large understatements of income.
We are not convinced, however, by the evidence that either Nabors or petitioner had any intention to deceive by the use of this method *447in the years 1928 and 1929. We therefore hold that the Commissioner’s determination of fraud for 1928 and 1929 is not sustained.
The year 1930, we think, is different and a different result must be reached for that year. Although petitioner had used up most of the cost basis of the 5,000-share block of Southeastern stock, including the shares of Commonwealth into which the remainder- had been converted, in figuring his gains on sales of stock in 1928 and 1929, he set about in 1930 to use up this same cost basis of this block of stock, now converted into Commonwealth, all over again. Our findings of fact show in full detail how this was done. Both petitioner and Nabors, who prepared the 1930 return for petitioner, admitted in their testimony at the hearing that they knew they had no right to use the cost basis of the same block of stock twice; they admitted that by the use of any reasonable degree of diligence they could have ascertained that most of the cost basis of the 5,000-share block had been used up in 1928 and 1929. They gave no reasonable explanation as to why they used the cost basis of the same 5,000-share block of stock twice. Nabors testified that he was unable to tell why or how he could have become so confused as to use the basis of this 5,000-share lot the second time. He testified: “I, of course, knew that stock could only be sold once and yet even now, after three years or more that this investigation has been under way, I am unable to explain how I made that sort of a mistake.” He also testified: “I can offer no explanation except that it was an error, unintentional, of course, not deliberately made.” The substance of petitioner’s explanation is that he relied upon the correctness of the computations made by Nabors and that it did not occur to him to question their accuracy. In the light of all the facts in the record, we find ourselves unable to accept this explanation.
By the end of the year 1930 petitioner had deducted $524,588.40 as cost of utility stock sold from 1925 through 1930. The entire amount of utility stock — Alabama, Southeastern, and Commonwealth— which petitioner had purchased from 1920 through 1930 had cost him only $493,289.74. Of this stock at the end of the year 1930 he still had on hand 81,257.5 shares of Commonwealth stock and 53,536.5 option warrants with a total cost basis of $302,831.25, figured on the basis of the first in, first out rule and by identification of shares wherever that is possible. Yet notwithstanding that petitioner had already deducted in prior years and the year 1930 the entire cost basis of all his stock, he went right on using as his cost basis the cost of the 5,000-share block. This was largely responsible for an understatement of his income for the year 1930 of $209,040.34. Furthermore, this very pronounced overstatement of costs went right on through 1931. While 1931 is not before us for redetermination of the *448deficiency, the evidence as to that year is a part of the record of the instant case. A summary of the cost of the utility stocks and option warrants deducted by petitioner on his returns for the years 1925 through 1981 shows that he deducted a total cost of $938,965.15. The total cost which should have been deducted as now agreed upon by the parties-is $392,368.56.
We do not think petitioner can be guilty of such careless indifference to the basis of cost of shares of stock which he was selling and to a correct return and the oath to which he subscribed and now expect to be be absolved from the consequences of his acts. It does not tax our credulity to believe that in the years 1928 and 1929 petitioner knew nothing about the first in, first out rule and believed that he had the right to use, as the cost basis of the stock which he sold, the cost basis of an equivalent number of the highest cost shares which he owned, but certainly petitioner knew that he could not use the same block of stock twice in figuring his cost basis of stock sold. This he has done, and he gives no satisfactory explanation as to why he did it.
The Commissioner does not have to establish his determination of fraud “beyond a reasonable doubt.” All that he is required to do is to make proof of his fraud charges by a preponderance of the evidence which is clear and convincing. In re Locust Building Co., 299 Fed. 156. In the instant case he has proved clearly that in filing his income tax return for 1930 petitioner used in large part all over again as his basis of cost for Commonwealth shares sold in that year the cost basis of shares which had been largely used up in the prior years of 1928 and 1929, he has proved that petitioner knew that he had no right to do this, and that the use of such unauthorized basis of cost was largely responsible for an understatement of income for 1930 of $209,040.34. This, in the absence of any satisfactory explanation by petitioner, is convincing proof to us that petitioner’s income tax return for 1930 was false and fraudulent with intent to evade tax. Cf. White v. United States, 20 Fed. Supp. 623; M. Rea Gano, 19 B. T. A. 518; Frank A. Weinstein, 33 B. T. A. 105; Charles E. Mitchell, supra.
Petitioner strongly relies upon the finding in his favor upon the issue of fraud for the taxable year 1931 by the District Court of the United States for the Middle District of Georgia in the case of William E. Mitchell v. W. E. Page, Jr., et al., decided March 30, 1938. All of the evidence in that proceeding has been introduced by petitioner in this proceeding and we have carefully considered it.
It is sufficient to say that we regard the proof which respondent has submitted on the issue of fraud for the year 1930 as considerably stronger than that which he submitted before the court in the 1931 *449case. Particularly is this true of petitioner’s use in 1930 for the second time in determining the basis of cost of certain shares of Commonwealth sold in that year of the 5,000-share block of stock which we have already mentioned. Respondent at the hearing in the instant case traced in great detail the use of this 5,000-share block of stock by petitioner in making his income tax returns for 1928, 1929, and 1930. This respondent did by offering in evidence the work sheets used by Nabors in making up petitioner’s income tax returns for the years 1928, 1929, and 1930. No such evidence appears to have been before the court in the 1931 case. Petitioner does not contend that the decision of the United States District Court for the Middle District of Georgia in the 1931 case is res judicata on the fraud issue involved in this proceeding. He concedes that it is not.
For the reasons which we have stated above, we hold that petitioner’s income tax return for 1930 was false and fraudulent with intent to evade tax, that the deficiency for that year is not barred by the statute of limitations, and that part of the deficiency is due to fraud with intent to evade tax and the 50 percent penalty added to the tax by the Commissioner is sustained.
The parties have stipulated that petitioner made 35 sales of Commonwealth stock in 1930, totaling in all 25,400 shares; that the correct amount realized from the sales of these shares was $296,925; that the correct cost was $11,740.97; and that the correct net gain was $285,188.03.
Ordinarily we would accept these figures as correct, without question, but there is in evidence petitioner’s Exhibit No. 6, which is entitled “Complete Chronological Statement through 1930 of all transactions in stock of Alabama Traction Light and Power Company, Southeastern Power and Light Company, and Commonwealth and Southern Corporation.”
The Commissioner determined the deficiencies for the years in question upon the basis of this chronological statement. The figures for 1930 and other years given in this chronological statement show that the Commissioner completely disregarded the rule of averaging costs which takes place when there is a statutory reorganization and shares in an old corporation are exchanged for shares in the new corporation. See Christian W. Von Gunten, 28 B. T. A. 702; affd., 76 Fed. (2d) 670; followed by the Board as recently as Henry Hudson, 39 B. T. A. 1075.
The facts show that on June 10, 1929, petitioner exchanged 23,794 shares of Southeastern stock which he owned for 107,073 shares of stock and 53,536.5 option warrants in Commonwealth in a statutory reorganization. Instead of allocating the entire cost basis of petitioner’s shares in Southeastern between the common stock and op*450tion warrants which he received in Commonwealth and then averaging the cost basis of each share of Commonwealth in accordance with the rule laid down by the Board in the Von Gunten case, the Commissioner continued to use the first in, first out rule against the old shares owned in Southeastern. He appears to have used exactly the same method in computing petitioner’s gain on the sales of Commonwealth in 1930 as he used in the Von Gwnten case, which method we disapproved in that case. For example, as we figure it, the 23,794 shares in Southeastern which petitioner owned at the time of the reorganization on June 10, 1929, had a cost basis to him of ¡$291,-391.96. We are not making a finding of fact to this effect because this computation is made by us after giving effect to the other reorganization which took place in 1924, when shares in Alabama were exchanged for shares in Southeastern, and would, of course, be subject to mathematical error, but the figures are all in the record, from which a correct computation can be made. Whatever the correct figure is, it should be used in a recomputation under Rule 50. Assuming that our figures of $291,391.96 as the cost basis of the 23,794 shares of Southeastern stock are correct, then, when these were exchanged for 107,073 shares of Commonwealth stock and 53,536.5 option warrants, petitioner thereafter had a cost basis of $2.2964 per share for his Commonwealth stock after allocating a part of the $291,391.96 cost basis to the option warrants.
As already stated, the Commissioner in determining the deficiency for 1930 used the first in, first out rule, applying it to the old shares in Southeastern without using the averaging rule laid down in the Von Gunten case. This apparently, as applied to the year 1930, has resulted in a considerable overstatement of net income. It should be corrected in a recomputation under Rule 50.
Apparently similar errors were made for the other taxable years in question, which, however, did not result in nearly so pronounced an overstatement in net income. In fact petitioner’s income for 1929 will be considerably more than the Commissioner has determined. In view of the fact, however, that we have held that the statute of limitations bars any deficiencies for these other years, their correction becomes unimportant.
As we view it, this failure of the Commissioner to apply the rule laid down by the Board in the Von Gunten case does not in the slightest degree affect the issue of fraud. Petitioner has not contended that he was endeavoring to apply the first in, first out rule or the rule of averaging prescribed by the Von Gunten case. What he did do was to use as a basis of cost his highest cost stock, whether those particular shares were sold or not, and in 1930 he used again a cost basis of shares already used up in prior years. The facts as to *451this Rave already been fully discussed and will not be repeated, since they have nothing to do with the first in, first out rule or the rule of averaging in the Von Gunten case.
We direct the recomputation of the deficiency for 1930 to be made in accordance with the Von Gunten case, however, because we are convinced that it will result in a considerably lower tax and penalty for 1930 and petitioner should not be required to pay any greater tax and penalty for 1930 than he owes.
Eeviewed by the Board.

Decision will be entered under Rule 60.

 SEC. 118. LOSS ON SALE OP STOCK OR SECURITIES.
In the case of any loss claimed to have been sustained in any sale or other disposition of shares of stock or securities where it appears that within thirty days before or after the date of such sale or other disposition the taxpayer has acquired, (otherwise than by bequest or inheritance) or has entered into a contract or option to acquire substantially identical property and the property so acquired is held by the taxpayer for any period after such sale or other disposition, no deduction for the loss shall be allowed under section 23 (e) (2) of this title; nor shall such deduction be allowed under section 23 (f) unless the claim is made by a corporation, a dealer in stocks or securities, and with respect to a transaction made in the ordinary course of its business. If such acquisition or the contract or option to acquire is to the extent of part only of substantially identical property, then only a proportionate part of the loss shall be disallowed.