Before CLARK, MOORE and KAUFMAN, Circuit Judges.
After a determination of a deficiency in his federal income tax for the years 1946 and 1947, Morris Newmark petitioned the Tax Court for a redetermination. The Tax Court held that demand notes of $13,000 and $13,400, issued by the Eastern Cutter Corporation in 1946 and 1947 respectively, represented additional income to Newmark and was taxable as such, either on a theory of constructive receipt or on the theory that the notes were applied against a loan previously extended to Newmark by the corporation. Newmark appeals from the adverse decision and from the denial of his motions for a new trial and for a reconsideration, vacation, and revision of the Tax Court's disposition.We affirm the decision below.
The case was tried upon stipulated facts. The stipulation incorporated by reference various affidavits, letters and portions of transcripts from earlier judicial proceedings. These documents, when read together, provide ample support for the conclusions of the Tax Court. Stripped to essentials, the facts are these. On September 21, 1945 the taxpayer and a Mr. Barber entered into an agreement with Ansel R. Abeel, Sr., in which the taxpayer and Barber were to purchase, for $50,000, all the shares of the Eastern Cutter Corporation on or before October 1, 1945.In order to finance the purchase, Newmark and Barber applied for a $50,000 loan to Intermediate Factors Company, which, on October 1, granted the loan and exacted a charge of $4,000 for the use of its money. A rapid series of further occurrences on October 1, 1945, resulted in a consummation of the loan and a purchase of the shares in Eastern Cutter. Newmark and Barber, in return for the loan from Intermediate Factors, executed a demand note for $54,000. With the proceeds of their loan, the two men purchased the shares in the corporation, and immediately installed themselves as officers of the corporation (Newmark as president, and Barber as secretary and treasurer) and, along with their wives, as the board of directors. In order that the loan from Internediate Factors be satisfied, the newly formed Eastern Cutter board of directors authorized a loan by the corporation to Newmark and Barber of $27,625 each, and during the following week, the two men borrowed and withdrew a total of $54,000 from Eastern Cutter's bank account. By October 9, 1945, Newmark and Barber had completed payment of the $54,000 demand note held by Intermediate Factors.
On October 1, 1945, an employment contract was executed in which Newmark was hired for a term of five years as president and director at a salary of $300 per week. Barber executed an identical contract as secretary, treasurer, and director. Newmark's (and Barber's) yearly salary was thus $15,600. On his 1946 federal income tax return, however, Newmark reported as salary only $2,600 and in 1947, only $2,200. He did not report the balances of $13,000 and $13,400 which were alleged in the notice of deficiency to have been constructively received. The Government contends, and the Tax Court found, that salary credits to the full extent of the taxpayer's salary were issued in the form of monthly demand notes throughout 1946 and 1947, and that, although the taxpayer may have received only $2,600 and $2,200 in cash from Eastern Cutter, the balance of the salary credits was applied in satisfaction of Newmark's debt of $27,625 to the corporation, or could have been converted into cash at the will of the taxpayer. On either theory - discharge of indebtedness or constructive receipt - it is contended that there was income to Newmark of $15,600 in each of the two years in question.
We need devote little time to reciting the applicable rules of law, for they are basic and uncontested. The doctrine of constructive receipt has been explained as follows:
"A taxpayer should not have the right to select the year in which to reduce income to possession. It is now well setted that income which is subject to a taxpayer's unfettered command and which he is free to enjoy at his own option is taxed to him as his income whether he sees fit to enjoy it or not. The doctrine of constructive receipt is to be applied where a cash basis taxpayer [as is Newmark in the case before us] is presently entitled to money, which money is made immediately available to him, and his failure to receive it in cash is due entirely to his own volition." 2 Mertens, Federal Income Taxation § 10.01 (1961).
See Weil v. Commissioner, 173 F.2d 805 (2d Cir., 1949); Hedrick v. Commissioner, 154 F.2d 90 (2d Cir.), cert. denied, 329 U.S. 719, 67 S. Ct. 53, 91 L. Ed. 623 (1946).Of course, since the payments in question must be available on demand, a showing that Eastern Cutter was insolvent or that funds to meet the salary credits were otherwise unavailable will avoid an application of the doctrine of constructive receipt. See Parris, 20 B.T.A. 320 (1930). But this is a question of fact, Weil v. Commissioner, supra, and the burden of proof is upon the taxpayer to show that amounts credited to him were not unqualifiedly subject to his demand, cf. Aramo-Stiftung v. Commissioner, 172 F.2d 896 (2d Cir., 1949), Weiss, 7 B.T.A. 615 (1927).
The rules of law regarding cancellation of indebtedness are equally clear. "When a taxpayer's obligations are assumed by another or are reduced or canceled as part of a business transaction, and the taxpayer is thereby enriched, taxable income may result." Mertens, supra, § 11.19. In the employment situation we have before us, payment of salary to the employee as compensation for services followed by repayment to the corporation in order to satisfy a debt may be short-circuited by the accounting device of crediting the salary against the debt, without any cash changing hands. By either device, the taxpayer receives income. See Old Colony Trust Co. v. Commissioner, 279 U.S. 716, 729, 49 S. Ct. 499, 73 L. Ed. 918 (1929). Again, the burden of proof is upon the taxpayer to show that a discharge of a debt did not result in taxable income to him. See Mertens, supra, § 11.19. Newmark's continued assertions that the Commissioner had failed to prove constructive receipt and discharge of indebtedness are therefore somewhat misguided. The Tax Court concluded, in effect, that Newmark had failed to prove otherwise, and we can upset these conclusions of the Tax Court only if we find them to be clearly erroneous.
The crucial factual elements are the nature of the salary credits and demand notes issued by the corporation, the understanding between the corporation and the taxpayer as to the application of these credits against taxpayer's debt of over $27,000, and the financial ability of the corporation to make good on those credits were the taxpayer to have demanded payment.
It is clear from the documentary evidence before us that Eastern Cutter did in fact credit the accounts of both the taxpayer and Barber with weekly salary credits from January 1, 1946 through December 31, 1947, and that demand notes were issued accordingly. Although Newmark, a certified public accountant with responsibility for keeping the corporation's books, did not keep them current during the years in question, the following information was elicited from him during a proceeding in bankruptcy of the Eastern Cutter Corporation conducted in 1948, the minutes of which were before the Tax Court.
"The Referee: Is there any entry in any book of the company indicating that you received those notes?
"The Witness [Newmark]: No books of account as yet.
"The Referee: Where is a record showing that they were given to you and Mr. Barber ...