The opinion of the court was delivered by: KNIGHT
The case has been submitted on an agreed state of facts. Two questions are at issue, to wit: (1) Are attorneys' fees paid for obtaining an income tax refund deductible expenses; and (2) Was the sale in question a sale of "capital assets".
Aaron F. Williams, taxpayer, and one Jacob Reynolds were copartners in a hardwere business commencing in 1926 and continuing until Reynolds died on July 18, 1940. On September 6, 1940, the taxpayer purchased the Reynolds interest from the executrix of his will. The taxpayer had owned two-thirds interest in the business and Reynolds one-third. On September 17, 1940, the taxpayer sold all of his interest in the property and assets to the Corning Building Company, Inc. The taxpayer operated the store from the time of Reynolds' death to the time of the last-mentioned sale.
I. Are attorneys' fees paid for obtaining an income tax refund deductible expenses?
In 1936 and 1937 the copartners sustained losses on certain gas rights and lease holdings. An attorney was employed and performed legal services in the obtaining of a refund on account of these losses and was paid $700 for his services.
Section 121(a) (2) of the Revenue Act of 1942, Chap. 619, 56 Stat. 798, 26 U.S.C.A. Int.Rev.Acts, reads:
"Non-trade or non-business expenses.
"In the case of an individual, all the ordinary and necessary expenses paid or incurred during the taxable year for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income." (Italics mine.)
In tax cases the statute is to be construed most strongly against the government, but exemptions are to be most strongly construed against the taxpayer. United States v. Stiles, 56 F.Supp. 881; Yazoo & M.V.R. Co. v. Thomas, 132 U.S. 174, 10 S. Ct. 68, 33 L. Ed. 302; New Colonial Co. v. Helvering, 292 U.S. 435, 54 S. Ct. 788, 78 L. Ed. 1348; Deputy v. DuPont, 308 U.S. 488, 60 S. Ct. 363, 84 L. Ed. 416.
Stoddard v. Commissioner of Internal Revenue, 2 Cir., 141 F.2d 76, 79, seems directly in point and to the effect that this legal expense is not deductible. Construing Section 121(a) (2), the Court said, in part: "A contest over the correct amount of petitioner's income taxes in previous years was not an ordinary and necessary expense paid 'for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income.'" The facts there seem comparable to those in the instant case, and the decision is controlling here. The taxpayer cites two opinions in the Tax Court: Mary Lily Bingham v. Com'r 2 T.C. 853; and McFaddin v. Com'r, 2 T.C. 395. These are not controlling.
The taxpayer concedes that this deduction is not allowable in full under the language of Regulation 111, Sec. 29.23(a) (15), but asserts that the deduction is within the contemplation of 23(a) (2) Internal Revenue Code, 26 U.S.C.A. Int.Rev.Code, § 23(a) (2). He intimates that if this new regulation is controlling, he is entitled to some deduction because of the provision in Rule 111, supra, "that part thereof (expenditures) which the taxpayer clearly shows to be properly allocatable to the recovery of interest required to be included in income" is deductible. The answer to this is that there is no showing in the stipulation of the percentage of recovery represented by interest.
II. Did the sale of the assets and property which represented the taxpayer's original interest in the former partnership result in a long term capital loss?
There is some difference in the computation made by the taxpayer and the Commissioner as to the amount of any loss, but that difference can affect only the amount of the tax and not the question of whether the loss was a capital loss. The total investment of the copartnership was $96,924.02. The taxpayer had invested $73,379.23 and Reynolds $23,644.79, as appears from the settlement of the accounts between the partners as of January 31, 1940. The taxpayer added the amount paid by him for the Reynolds interest to the amount he himself had invested together with $1,555.38 withdrawals by Reynolds and restored to arrive at his total investment. From this he deducted the total amount received from the Corning Building Company, Inc., or $69,834.60, thereby leaving a net loss of $17,287.99. The Commissioner first computed the two-thirds interest of the taxpayer in the copartnership as of February 1, 1940, at $64,616.01, or two-thirds of $96,924.02. He deducted $46,556.40, or two-thirds of the amount which he received on the sale, from $64,616.01. This method of computation shows a loss of $18,059.61. To the last-stated amount the Commissioner added profits, between February 1, 1940, and the time of the sale, in the amount of $5,718.08, making a total of $23,777.69. I do not seem to be able to harmonize the amounts given to show these profits. Defendant's brief states that the profits were $5,908.32, while as appears in the foregoing computation they were $5,718.08. The allowable credit on the loss of $23,777.69 is $11,888.84, or fifty percent thereof.
On the sale from Reynolds to Williams there is shown a short time gain in the amount of $2,327.01, ...