C.B.C. Super Markets, Inc. v. Commissioner

54 T.C. 882, 1970 U.S. Tax Ct. LEXIS 153

• Court: United States Tax Court
• Decided: April 28, 1970
• Docket: Docket Nos. 4999-67, 5000-67, 5001-67
• Status: Published

Opinions

OPINION

Deficiencies

Four adjustments to petitioners’ taxable income, two of which were made in the deficiency notices and the other two pleaded in respondent’s answers, have been contested. The issues raised by these adjustments are purely factual.

First, respondent determined that for each of the years in issue both C.B.C. and Cicio had received unreported taxable income in the amounts by which the deposits in Cicio’s two bank accounts, other than deposits identifiable as the proceeds of loans or tax refunds, exceeded his net reported income available for deposit. The theories stated in the deficiency notices were that these deposits were taxable to C.B.C. as unreported income and to Cicio as constructive dividends.

Cicio has shown that, in addition to the nontaxable deposits identified by respondent, numerous other deposits of nontaxable fimds were made in his accounts. Our findings disclose that Cicio borrowed substantial sums and deposited them in his checking account (No. 4490) with Manufacturers Trust Co. From this account he frequently withdrew funds which he advanced to C.B.C., either in cash or by paying bills on its behalf, and repayments by C.B.C. were later deposited in the account. In some instances Cicio was able to point to specific deposits in amounts corresponding with the loans. In other cases, he testified, repayments were evidenced by several deposits in smaller amounts. To support our conclusion that such repayments and deposits thereof were made before the end of the years in which the funds were advanced, consideration has been given to the absence of any accounts of indebtedness to Cicio on the balance sheets attached to C.B.C.’s returns, which were relied upon by respondent in the transferee proceeding.

Second, respondent disallowed all of the deductions claimed by C.B.C. for food purchases and delivery charges which were not supported by invoices, and determined that Cicio received constructive dividends from C.B.C. in corresponding amounts. Although Cicio disputed the revenue agent’s treatment of transactions with Queens Dairy Farms, Inc., and Lee Foods, Inc., he furnished no substantial evidence to demonstrate that respondent’s disallowance of the deductions for food purchases was incorrect. However, as to the delivery charges, the record describes, in some detail, C.B.C.’s procedure for documenting the payment thereof, C.B.C. operated in the same manner during all 3 years for which this adjustment was made; yet respondent’s determinations, while substantially reducing the deductions allowable for fiscal 1959 and 1960, almost eliminate it for fiscal 1961. Belying upon Cohan v. Commissioner, 39 F. 2d 540 (C.A. 2, 1930), we have modified the amounts allowable as delivery charge deductions in order to correlate them with the total amounts of purchases of merchandise. Otherwise, we must sustain respondent’s adjustments to this item. Similarly, since Cicio presented no evidence to show that the amounts of the disallowed deductions were not ultimately received by him as constructive dividends, we sustain respondent’s determination that they were so received.

The burden rested with C.B.C. and Cicio to show that the deficiency determinations were erroneous. Thomas B. Jones, 29 T.C. 601, 614 (1957). We are satisfied that they have carried that burden only to the extent reflected in our Findings. We recognize that there is a substantial possibility that, if income was in fact diverted to Cicio through C.B.C.’s claiming excessive deductions, such income may have been deposited in Cicio’s bank accounts and thus included in the unexplained deposits. If so, Cicio is, in effect, being taxed twice on the same income. But a diligent search of the record has failed to show any evidence to support a finding to this effect.

The third adjustment involves a $3,000 payment by Cicio to C.B.C. in 1958; the fourth adjustment pertains to a number of checks, drawn on C.B.C.’s checking account and cashed by Cicio, which respondent claims represent unreported taxable income to Cicio of $11,870 for 1960 and to C.B.C. of $18,250 for its taxable year ending March 31, 1961. The notice of deficiency addressed to Cicio makes no reference to these transactions; it merely states that “As a result of an analysis of your personal checking account,” amounts (including the adjustments under discussion here) “representing unreported income of C.B.C. Super Markets, Inc. deposited in the above account” are taxable to Cicio. The notice of deficiency to C.B.C. likewise is silent as to these adjustments, including them in the amounts determined to have been “unreponted income * * * which was deposited in the personal checking account of Frank C. Cicio.”

The answer in Cicio’s case (docket No. 5001-67), however, excludes the amounts of these adjustments from the total unexplained bank deposits and alleges instead that “During the taxable years 1958 and 1960 petitioners received additional dividend income which they did not report on their income tax returns amounting to $3,000.00 for 1958 and $11,870.00 for 1960 from unreported income of C.B.C. Supermarkets, Inc. which they did not deposit in their personal bank ac-cov/ntsP (Emphasis added.) The latter item is alleged as $18,250 in the answer in C.B.C.’s case (docket No. 5000-67).

Respondent implicitly admits in these allegations that his original determinations — including these amounts in the unexplained bank deposits — were erroneous, and that he is instead relying on the new grounds pleaded in the answers to support the deficiencies. In these circumstances respondent is deemed to have abandoned his original determinations, Leon Papineau, 28 T.C. 54, 57 (1957), and, consequently, he must assume the burden of proof on the adjustments alleged in the answers. Rule 32, Tax Court Rules of Practice; see Sheldon Tauber, 24 T.C. 179, 185 (1955). We do not think respondent has satisfied that burden.

As to the $3,000, respondent’s theory appears to be that Cicio advanced this sum in cash to C.B.C. on either May 1 or May 31,1958, and that, since the source of the money is unknown, the sum is taxable to both C.B.C. and Cicio. Respondent offered no evidence to support his allegation. Cicio professed ignorance of the item and showed that C.B.C.’s daily record book reflects no such transaction. We hold that neither Cicio nor C.B.C. received taxable income from the transaction alleged by respondent.

Concerning the $11,870, Cicio was able to demonstrate that near the end of each week, beginning in September 1960, he drew checks payable to cash on C.B.C.’s account, cashed them, and returned the currency and silver to C.B.C. for its use in weekend operations when the banks were closed. We infer that the same pattern of operations continued to March 31,1961, the end of C.B.C.’s taxable year. There is no basis in this record for taxing the amounts of these checks to both C.B.C. and Cicio, or to either of them.

Collateral Estoppel

Turning to the additions to the tax under section 6653(b),⁶ Cicio was convicted under section 7201⁷ of filing false and fraudulent joint income tax returns for himself and Ann for 1958, 1959, and 1960 and filing and causing C.B.C. to file false and fraudulent corporation income tax returns for its taxable years ending March 31,1959,1960, and 1961. We must decide the effect of this conviction on the rights of (a) Cicio, (b) Ann, and (c) C.B.C. to litigate the additions to the tax for fraud.

As to Cicio individually, it is now well settled that the criminal judgment of conviction requires application of the doctrine of collateral estoppel and that, as to him, at least part of any underpayment for the prosecution years must be deemed already to have been judicially determined to be “due to fraud” within the meaning of section 6653(b). Since the same basic issue has already received full judicial review in a case involving the same parties, a second court may not reconsider the matter. Moore v. United States, 360 F. 2d 353, 356 (C.A. 4, 1966), certiorari denied 385 U.S. 1001 (1967); Tomlinson v. Lefkowitz, 334 F. 2d 262, 265 (C.A. 5, 1964), certiorari denied 379 U.S. 962 (1965); John W. Amos, 43 T.C. 50, 55 (1964), affd. 360 F. 2d 358 (C.A. 4, 1965). This rule applies here even though resolution of the fraud issue in the cases of C.B.C. and Ann requires an analysis of the evidence on which Cicio’s liability would otherwise depend. See Armstrong v. United States, 173 Ct. Cl. 944, 971, 354 F. 2d 274, 291 (1965). Cicio’s contention that he was wrongfully convicted and that, therefore, he is not collaterally estopped, is without merit.

Cicio’s wife, Ann, was not a party to the criminal proceeding. And this Court has recently held that a husband’s conviction for having-filed false and fraudulent joint income tax returns does not collaterally estop his wife from denying that any part of the underpayments of tax was due to fraud. Henry M. Rodney, 53 T.C. 287 (1969) ; see also Moore v. United States, supra. We must follow that holding in this case. Even though Cicio, who compiled the data used in preparing the joint returns, was convicted on a finding that they were fraudulent, Aim is entitled to her day in court.

For much the same reason C.B.C. is not collaterally estopped by Cicio’s conviction for filing and causing it to file false and fraudulent corporation returns. The corporation itself is entitled to be heard on the question whether any part of its underpayments was due to fraud. “A lawsuit is not a laboratory experiment for the discovery of physical laws of universal application but a means of settling a dispute between litigants”; collateral estoppel applies only to the “parties themselves and those who are in such relation to the parties as to be considered in privity with them.” Hornstein v. Kramer Bros. Freight Lines, 133 F. 2d 143, 145 (C.A. 3, 1943).

Since C.B.C. was actively engaged in business activity throughout its existence, it was an entity separate and distinct from Cicio and its other stockholders; this separate existence may not be ignored. Moline Properties v. Commissioner, 319 U.S. 436, 438-439 (1943). C.B.C. was not a party to the criminal proceeding in which Cicio was convicted and did not participate in any way in his defense.⁸ C.B.C. could have been indicted and tried jointly with Cicio. See, e.g., Currier v. United States, 166 F. 2d 346 (C.A. 1, 1948). It was not. Had it been, a conviction — even one based on a guilty plea — would have provided a basis for collaterally estopping it in the present proceeding. Arctic Ice Cream Co., 43 T.C. 68, 75 (1964). But in such a trial C.B.C.’s status as a separate entity would have been observed; indeed, even were it acquitted therein, Cicio still might have been convicted of causing it to file false returns. See, e.g., United States v. Augustine, 188 F. 2d 359 (C.A. 3, 1951), certiorari denied 342 U.S. 815 (1951) (cases 1 and 2). Thus, in no sense can it be said that C.B.C. was a party to, or was represented in, the criminal litigation involving Cicio.

Nor can it be said that C.B.C. was in privity with Cicio. Cf. Henry M. Rodney, supra.⁹ What we said in American Range Lines, Inc., 17 T.C. 764 (1951), remanded on another issue 200 F. 2d 844 (C.A. 2, 1952), is quite instructive in this regard. There, in a prior case involving a sole shareholder, it had been held that certain moneys she had received were not distributions of her corporation’s earnings but were the proceeds of the sale of her individually owned asset. Lucille H. Rogers, 11 T.C. 435 (1948), reversed in part 180 F. 2d 720 (C.A. 3, 1950). In the second case, the corporation contended that the principle of collateral estoppel applied to protect it from a determination by the Commissioner that the same income was taxable to it. This Court rejected the contention, explaining as follows (17 T.C. at 771):

There remains only to be considered petitioner’s contention that the Rogers proceedings are binding under the doctrine of res judicata. That principle is normally applicable where the issues and the parties are the same. See Evergreens v. Nunan (C.A. 2), 141 P. 2d 927, certiorari denied 323 U.S. 720; Commissioner v. Sunnen, 333 U.S. 591. It is pressed upon us here, however, that, even though the parties are different, Mrs. Rogers’ status as petitioner’s stockholder created a privity between them which renders the prior proceeding binding as to this petitioner. Cf. D. Bruce Forrester, 4 T.C. 907.

It is one thing, however, to bind the individual stockholders in their capacity as such by the official acts of their corporation, including any litigation in which it may engage.² It is quite another to force the corporation to conform to actions participated in by its stockholders in their individual capacity. Where the prior litigation is of this nature, it does not form the basis for estoppel by judgment in later litigation in which the corporation is a party. ⅜ * * [Footnote omitted.]

Our decision was affirmed by the Court of Appeals for the Second Circuit — the court which would hear an appeal of the present case. The court said:

We regard as inapposite cases holding that in some circumstances a stockholder may be bound by a prior adjudication in a suit brought by his corporation: The proposition that the corporation’s acts may bind the stockholder * * * does not support the converse proposition. * * *

200 F. 2d at 845. The facts of the case at bar provide an even stronger basis for denying the application of collateral estoppel, for two reasons : (1) The party against whom the estoppel is sought to be applied here has never had an opportunity to litigate the affected issue, as did the Commissioner in American Range Lines; and (2) here there is no identity of the interests of the shareholder who litigated the first suit and the corporation, as in that case. C.B.C. represents the possible interests of its minority shareholders as well as the interests of Cicio. Indeed, the very income and deduction items falsified in the corporation’s returns may actually represent funds embezzled or otherwise wrongfully withdrawn from the corporation, to the detriment of other shareholders. Thus, we find no reason for denying C.B.C. the right to litigate its liability for the additions to the tax for fraud.

Fraud

Section 7454(a) places the burden upon respondent to show by clear and convincing evidence, Drieborg v. Commissioner, 225 F. 2d 216, 218 (C.A. 6, 1955), that at least a part of the deficiencies was due to fraud. We do not think he has made the requisite showing.

Aside from relying upon collateral estoppel, discussed above, respondent makes a two-pronged attack: First, he urges that the notices of deficiency disclosed a “wide discrepancy” between the “reported taxable income and the unreported taxable income” of each petitioner for each year. Second, he refers to two specific items of alleged fraud: (1) A transaction with Queens Dairy Farms, Inc., from which the agents determined that C.B.C. received unreported taxable income and Cicio ultimately received money which he did not report; and (2) overstatements of meat purchases by C.B.C.

Tlie weakness of the first prong — the alleged discrepancy between reported and unreported income — is that it is based almost completely upon respondent’s own determinations in the deficiency notices, not upon concrete facts from which an intent to cheat the Government may be inferred. The testimony of respondent’s agents as to the reasoning and opinions they employed in computing the deficiencies is not clear and convincing evidence of fraud. Nor does the fact that respondent adopted their opinions and determined a greater liability than that reported, or even that the determination is sustained in part, show fraud. See, e.g., Estate of Louis L. Briden, 11 T.C. 1095, 1133 (1948), affirmed on another issue 179 F. 2d 619 (C.A. 1, 1950) ; James Nicholson, 32 B.T.A. 977 (1935), affd. 90 F. 2d 978 (C.A. 8, 1937).

Turning then to the alleged specific instances of fraud, the agents testified that they found that C.B.C. had received a $2,000 check from Queens, which they concluded was a rebate which had not been included in C.B.C.’s income, and that shortly thereafter $1,400 was deposited in Cicio’s individual account. Cicio, however, asserted that the $2,000 was a loan rather than a rebate, that up to the date of the transaction C.B.C. had not even done any business with Queens, and, moreover, that Queens later sued for repayment of the loan. No one from Queens was called as a witness to explain the transaction. The agent obviously did not personally know the underlying facts.

As to the alleged overstatements of meat purchases, the agents’ determinations, according to their testimony, were based primarily on a comparison of the amount of sales recorded by a supplier, Lee Foods, Inc., in its books and tbe amount of purchases from Lee recorded in C.B.C. ⅛ books. But, again, no one from Lee was called to testify. ISTor were Lee’s books introduced in evidence. No showing was made, for example, that Lee had not falsified its own book entries in order to serve its purposes.

It is true that the parties stipulated that Cicio each year made bank deposits in amounts which were substantially in excess of his reported income. But this does not establish that the deposits were taxable income. As discussed above, Cicio frequently used his own and borrowed funds to make loans to, and pay expenses on behalf of, C.B.C. The corporation then made repayments which he deposited in the account. He also deposited borrowed funds in this account. Cicio was able, even at the late date of the trial, to demonstrate that large amounts of the deposits were not taxable income. We do not think evidence of the remaining deposits alone is sufficient to meet the clear-and-convineing-evidence test. Goe v. Commissioner, 198 F. 2d 851, 852 (C.A. 3, 1952), affirming a Memorandum Opinion of this Court, certiorari denied 344 U.S. 897 (1952); Thomas B. Jones, supra at 619; Denny York, 24 T.C. 742, 743 (1955) ; cf. John Marinzulich, 31 T.C. 487, 490 (1958).

In summary, we hold on the record before us that, except for Cicio’s liability for 1958,1959, and 1960, as to which he is collaterally estopped, respondent has not shown by clear and convincing evidence that any part of the underpayments by either Cicio and Ann for 1957 through 1961, or C.B.C. for its fiscal years ending March 31, 1958 through 1961, was due to fraud.¹⁰

Transferee Liability

In the deficiency notice in docket No. 4999-67 respondent determined that Cicio was liable as a transferee of property of C.B.C. to the extent of $87,899.74, the amount of the deficiencies and additions to the tax determined in the case of C.B.C., plus interest as provided by law. Respondent argues on brief that the transfers consisted of the unexplained deposits in Cicio’s bank accounts, totaling $110,627.76, plus the amounts of the unsubstantiated deductions for purchase of merchandise and delivery charges. Respondent contends that Cicio diverted to his own use amounts equal to the disallowed deductions by “causing or having certain personal expenses to be reflected in the corporate records of said corporation for purchases of supplies.”

Section 6901(a) (1) (A) (i) authorizes the assessment of transferee liability, at law or in equity, in the same manner as the liability for income taxes. This provision, however, does not create any separate liability; it merely provides a secondary method for enforcing the existing liability of the transferor. See Robbins Tire & Rubber Co., 53 T.C. 275, 278 (1969). The substantive question of whether a transferee is liable for the transferor’s obligation depends upon State law. See, e.g., Commissioner v. Stern, 357 U.S. 39, 45 (1958).

In neither the deficiency notice nor the pleadings has respondent informed us of the provision of State law on which he relied in determining Gicio’s liability as a transferee. On brief he merely takes the broad position that “the transferor C.B.C. was rendered, and is, insolvent and without assets with which to pay the said deficiencies and additions to the taxes due from it for the involved years.” The essence of this argument is embodied in N.Y. Debt. & Cred. Law sec. 273 (McKinney 1945) (hereinafter N.Y. Debt. & Cred. Law), as follows:

Every conveyance made and every obligation incurred by a person wbo is or will be thereby rendered insolvent is fraudulent as to creditors without regard to his actual intent if the conveyance is made or the obligation is incurred without a fair consideration.

Accordingly, the evidence presented will be measured against this standard. In so doing, we are mindful that section 6902(a) casts the burden of proof on respondent “to show that a petitioner is liable as a transferee of property of a taxpayer.” We do not think respondent has carried his burden in at least two respects.

First, respondent has not shown that C.B.C. transferred property to Cicio; by the very terms of section 6901 (a) (1) (A), this was an essential element of his case. We have already discussed the evidence on this subject in connection with the issues relating to the correct amount of the deficiencies and to fraud, concluding that neither party has fully carried his burden thereon. While the clear-and-convincing-evidence rule applies in resolving the fraud issue, only a preponderance of the evidence is required to show transferee liability. Nevertheless, we do not think respondent has made the requisite showing.

The determinations in the deficiency notices do not, by themselves, constitute evidence of transfers of property; otherwise, section 6902 (a) would be meaningless. Looking at the trial record, there is no substantial evidence whatever to show that C.B.C. made transfers to Cicio in the amounts of the disallowed deductions for purchases of merchandise and delivery charges; nor is there any direct evidence that any funds were taken from C.B.C. and deposited in Cicio’s bank account. In some circumstances deposits made to a controlling stockholder’s credit might support an inference that the corporation had made transfers to Mm. But here Cicio has shown that substantial amounts of loan proceeds were deposited in his bank account and urgently insists that none of the other deposits represent withdrawals from C.B.C.

In light of the evidence introduced by Cicio, we do not think it is unreasonable to require that respondent demonstrate how these sums were withdrawn from C.B.C., trace typical transactions, or otherwise refute Cicio’s testimony. Except for the contentions rejected above regarding the transactions with Queens Dairy Farms, Inc., and Lee Foods, Inc., he did not do so. We hold that he has failed to carry his burden of showing that C.B.C. made transfers of property to Cicio.

But even if we could reasonably infer that Cicio’s unexplained bank deposits were transfers from C.B.C., respondent’s case must fail, we believe, for lack of proof that C.B.C. was insolvent when they were made or was rendered insolvent thereby. That C.B.C. ultimately failed in. late 1965, more than 3 years after the period here involved, is obviously insufficient proof of its financial condition when the transfers were allegedly made. See Scott v. Commissioner, 117 F. 2d 36 (C.A. 8, 1941); Terrace Corporation, 37 B.T.A. 263, 268 (1938).

Under the New York law a person is insolvent when the “present fair salable value of his assets is less than the amount that will be required to pay Ms probable liability on his existing debts as they become absolute and matured.” N.Y. Debt. & Cred. Law sec. 271. This statutory test is essentially the same as the so-called “bankruptcy” test of insolvency approved in Kreps v. Commissioner, 351 F. 2d 1, 9 (C.A. 2, 1965), affirming 42 T.C. 660 (1964).

Respondent offered no evidence as to the “fair salable value” of C.B.C.’s assets during the pertinent period. Indeed, the only evidence of C.B.C.’s financial situation during this time is the abbreviated balance sheets attached to its income tax returns. Even if the balance sheets may be used to shift the burden to Cicio to establish that C.B.C. had other assets or that the “fair salable value” of the listed assets exceeded the amounts shown, cf. Kreps v. Commissioner, supra at 10, they do not show that C.B.C. was insolvent.

The additional taxes due from C.B.C. for each of the years in issue, computed in accordance with our findings, should be treated as liabilities for those years. Scott v. Commissioner, supra; Kreps v. Commissioner, supra at 10. Nevertheless, the balance sheets show a surplus each year of a sum in excess of $2,000, plus a capital stock account of $27,000. Therefore, accepting all items at book value, at least $29,000 would have been available on liquidation of C.B.C. to pay its tax. Applying the above conclusions as to the additions to the tax and our findings as to unreported income, it appears that C.B.C. was solvent at all times during its fiscal years ending March. 31, 1958, through March 31,1961.

Reviewed by the Court.

Decision will Toe entered for petitioner in docket No. 4999-67.

Decisions will be entered under Bule SO in docket Nos. 5000-67 and 5001-67.

6 SEC. 6653. FAILURE TO PAX TAX.

(b) Fbaud. — If any part of any underpayment (as defined in subsection (e)) of tax required to be shown on a return is due to fraud, there shall be added to the tax an amount equal to 50 percent of the underpayment. In the case of income taxes and gift taxes, this amount shall be in lieu of any amount determined under subsection (a).

7 SEC. 7201. ATTEMPT TO EVADE OR DEFEAT TAX.

Any person who willfully attempts in any manner to evade or defeat any tax imposed by this title or the payment thereof shall, in addition to other penalties provided by law, be guilty of a felony and, upon conviction thereof, shall be fined not more than $10,000, or imprisoned not more than 5 years, or both, together with the costs of prosecution.

8 While counts IV, V, and VI of the indictment alleged that Cicio was the president of C.B.C., this was not an essential element of the violation of sec. 7201 charged therein. The indictment was returned only against Cicio, and not against C.B.C. Cf. Irving Sachs, 32 T.C. 815, 820 (1959), affd. 277 F. 2d 879 (C.A. 8, 1960), certiorari denied 364 U.S. 833 (1960).

9 It should he noted that we do not have here the problem which caused such great concern to the dissenters in Henry M. Rodney, 53 T.C. 287 (1969) — the effect of joint and several liability on the question of privity between a husband and wife who file a joint return. (See the dissenting opinion of Judge Dawson, id. at 325: also see the concurring opinion of Judge Tannenwald, id. at 322-323.)

10 This holding that respondent has not shown fraud for the prosecution years in no way impugns the criminal conviction, for there is no showing that the record before the District Court was limited to the meager record of the present proceeding.

2 By analogy, see and compare sees. 6671 and 6672, I.R.C. 1954, which by statute create “privity” between a corporation and its responsible officer, making the officer personally liable for a penalty equal to the total amount of the tax evaded, or not collected, or not accounted for and paid over. Hewitt v. United States, 377 F. 2d 921 (C.A. 5, 1967).