Before CLARK, MOORE and FRIENDLY, Circuit Judges.
Taxpayers' petitions for review, like those in Lynch v. Commissioner, 2 Cir., 1959, 273 F.2d 867, Goodstein v. Commissioner, 1 Cir., 1959, 267 F.2d 127 and Sonnabend v. Commissioner, 1 Cir., 1959, 267 F.2d 319, and the refund suit in Broome v. United States, Ct.Cl.1959, 170 F.Supp. 613, involve variants of the plan for reducing income taxes by deductions for the alleged payment of interest on loans to finance the purchase of Government securities devised by M. Eli Livingstone of Boston. The particular plan used by petitioners differed from that in Lynch v. Commissioner, supra, in respects which we deem immaterial.However, here, in contrast to the cases thus far decided, the transactions were completed in the taxable years involved.Hence it becomes necessary to determine the question, reserved in Lynch as well as in Goodstein, as to what tax recognition, if any, should be given to the sums by which taxpayers ended out of pocket.*fn1
Since the general nature and purpose of the plan have been discussed in the cases cited and a full statement of the facts and claims is contained in the opinion of the Tax Court, it will suffice here to outline the transaction in summary form:
(1) On April 6, 1953, Becker, through Marks, his accountant, placed an order with Livingstone to buy $5,000,000 U.S. Treasury 13/8% notes maturing March 15, 1954.
(2) Livingstone, as Becker's agent, ordered C. F. Childs & Co. to deliver these Treasury notes to Livingstone's account at Guaranty Trust Company of New York. The price was 99-9/32, or a principal sum of $4,964,062.50, plus accrued interest of $4,296.87, for a total of $4,968,359.37.
(3) Becker paid Livingstone $10,000 by check. For the balance he executed a non-recourse note for $4,958,359.37, bearing interest at the rate of 23/8%, and payable March 15, 1954, to Seaboard Investment Associates, Inc. Seaboard was a dummy of Livingstone's similar to Gail Finance Corporation described in Lynch, and the note was also similar in its provisions for pledge of the Treasury notes, prepayment with penalty interest, absence of personal liability except from the proceeds of the collateral, etc.
(4) Simultaneously Becker directed Livingstone to deliver the Treasury notes to Seaboard against payment by Seaboard of $4,958,359.37, which he instructed Seaboard to make.
(5) Livingstone directed Guaranty, first, to receive delivery of the $5,000,000 Treasury notes from Childs for Livingstone's account against payment to Childs of $4,968,359.37 (see item (1)) to be charged to his account and, second, to redeliver the notes to Childs for $4,967,578.12 to be credited to his account. Delivery and redelivery were made and appropriate checks drawn. Livingstone also issued a confirmation slip to Seaboard stating that as its agent he had sold $5,000,000 of Treasury notes for $4,967,578.12 less Livingstone's commission of $6,250, or $4,961,328.12 net.Neither Becker nor Marks had given an order for this sale.
(6) Late in September, 1953, Seaboard submitted a statement to Becker in care of Marks showing a balance of $22,587.08 of interest due. Marks had ascertained the market value of the Treasury notes had increased sufficiently that Seaboard would advance Becker another $22,500 without recourse and thought it desirable in view of supposed tax advantages that Becker make an interest payment in 1953. Seaboard issued a check to Becker for $22,500. Becker executed a promissory note in that amount to Seaboard upon the same terms as his note of April 7, and issued his check for $22,587.08 to Seaboard in payment of interest.
(7) Late in October, the notes having appreciated to 100 or fractionally more, Marks placed a sell order with Livingstone. Livingstone told Marks that Seaboard was short of the notes, could not cover and was financially irresponsible.
(8) On December 7, 1953, a settlement was arranged as follows:
(a) Becker sold $5,000,000 Treasury notes to Livingstone who assumed his "principal" indebtedness to Seaboard in the sum of $4,976,562.50, i. e., the original note of $4,958,359.37 (item (3)) minus the prepaid interest item of $4,296.87 included therein (item (1)) plus the second note of $22,500 (item (6)).
(b) Becker remained liable to Seaboard for interest of $27,224.83 and a prepayment penalty of $3,386.78 or a total of $30,611.61. This, however, was reduced by a credit of accrued interest on the Treasury notes of $15,763.11, leaving a balance of $14,848.50. Becker paid $6,461.72 by check dated December 10, 1953, and signed negotiable notes, dated December 7, 1953, for $8,386.78. These notes, bearing ...