Memorandum Opinion
RAUM, Judge: The Commissioner determined deficiencies in income tax for 1962 and 1963 in the amounts of $3,557.50 and $4,249.45 against petitioners Donald J. and Iva M. Wallace (husband and wife) and in the amounts of $3,693.64 and $4,447.19 against petitioner Guy P. Bert. The Wallaces had filed joint returns and Bert separate returns for those years. During the taxable years the male petitioners owned, in equal shares, all of the outstanding stock of The Wallace Co., Inc., a "small business corporation" which had elected, pursuant to section 1372 of the Internal Revenue Code of 1954, to be free of corporate tax and have its undistributed income taxable directly to its shareholders. The deficiencies were based solely upon the Commissioner's disallowance of deductions claimed by the corporation in the amounts of $14,650 and $16,800 which it had paid to the widow of a deceased officer-shareholder during its fiscal years ended June 30, 1962 and 1963. The facts have been stipulated.
The Wallace Co., Inc., a manufacturer of emblems and insignia, was organized in 1944 as a Rhode Island corporation. As of December 19, 1953, its issued and outstanding capital stock, consisting of 100 shares of "no par" value, was owned equally by its five officer-stockholders as follows:
| No. of |
| Name | Shares |
| William A. Wallace | 20 |
| George A. McCann | 20 |
| George W. Bainton | 20 |
| Guy P. Bert | 20 |
| Donald J. Wallace | 20 |
William A. Wallace was the father of Donald J. Wallace. On December 19, 1953, the corporation entered into an agreement with its officer-stockholders ["parties of the second part"], which provided as follows:
WHEREAS the said parties of the second part constitute the entire officers of the said Corporation, and
WHEREAS the said Corporation and the aforesaid parties of the second part are desirous of creating a plan for the financial security of their wives in the event of their death,
NOW, THEREFORE, in consideration of mutual covenants and agreements entered into by and between the said Corporation and the said parties of the second part, it is agreed as follows:
FIRST: That the Corporation does hereby agree that upon the death of any of the aforesaid officers, namely William A. Wallace, George A. MacCann, George W. Bainton, Guy P. Bert and Donald J. Wallace, that the widow of any of the said officers, if she shall survive him, shall receive and the Corporation shall pay to said widow one-half (1/2) of the said deceased officer's yearly salary at the time of his death; said sum to be paid weekly for and during the term of the natural life of said widow, PROVIDED, HOWEVER, that in the event that the salaries of the remaining or surviving officers shall be increased or decreased during the life of said widow, then in that event any payments being made to any widow of a deceased officer shall be increased or decreased in the same proportion, meaning and intending that the widow of any deceased officer shall receive one-half (1/2) of the yearly salary received by any other officer of said Corporation during the term of the said widow's natural life.
* * *
William A. Wallace died on July 5, 1957, survived by his widow, Katharine T. Wallace, who died in 1965.
George A. MacCann's wife died in 1958 and when he died in 1961, his shares were acquired by Guy P. Bert and his wife as joint tenants. Bert's wife died in 1962 and he has not remarried. Prior to 1962 George W. Bainton surrendered his shares for redemption and thereafter had no further interest in the corporation. Donald J. Wallace appears to have acquired the shares of his deceased father in some manner not disclosed by the record. During the tax years, he and Bert were the sole stockholders, each owning 40 shares. They are unrelated.
In accordance with the agreement of December 19, 1953, payments were made to William A. Wallace's widow from 1957 until her death in 1965, equal to one-half the annual salary of the surviving officers. 1 The amounts thus paid through June 30, 1963, were as follows:
| Fiscal Year Ended | Amount |
| June 30, 1958 | $13,550.00 |
| June 30, 1959 | 10,380.00 |
| June 30, 1960 | 10,500.00 |
| June 30, 1961 | 9,887.50 |
| June 30, 1962 | 14,650.00 |
| June 30, 1963 | 16,800.00 |
Petitioners contend that the payments totalling $14,650 and $16,800 made by The Wallace Co., Inc., in its fiscal years ending June 30, 1962 and 1963 to Katharine T. Wallace, widow of a deceased officer-shareholder of the Company, were properly deducted by the corporation under section 404(a)(5) and section 162 of the Internal Revenue Code of 1954. 2 Payments made under a deferred compensation or pension plan are deductible, if at all, only under the provisions of section 404, which, however, incorporates by reference the conditions of section 162. 3 Thus, in order to establish that The Wallace Co., Inc., was entitled to a deduction under section 404(a)(5), 4 the burden was on the petitioners to prove that the payments to Katharine T. Wallace were for a "business purpose or anticipated economic benefit [to the corporation] * * *; and that such payments were ordinary, necessary, and reasonable in amounts." John C. Nordt, 46 T.C. 431, 443; Interstate Drop Forge v. Commissioner, 326 F. 2d 743 (C.A. 7), affirming a Memorandum Opinion of this Court.
Petitioners have sought to discharge this burden by producing a contract entered into on December 19, 1953 between The Wallace Co., Inc., and the five officer-shareholders who owned the company in equal shares at that time. The contract provided that "in consideration of mutual covenants and agreements entered into by and between the said Corporation" and its officers, the corporation would, upon the death of an officer-shareholder, pay his widow a sum equal to one-half of his salary at death every year for the life of the widow, such yearly sum to be increased or decreased proportionately if the yearly salaries of the surviving officers were subsequently increased or decreased.
It is not disputed that the payments to Katharine T. Wallace in 1962 and 1963 were made in accordance with the terms of this contract, and we may assume that The Wallace Co., Inc. was under a contractual obligation to make the payments. This fact alone, however, does not make the payments deductible under section 404(a)(5), see Frederick Pfeifer Corporation, 14 T.C. 569, 571, and the absence of any proof as to the economic benefit which the corporation expected to obtain by entering this contract, or any proof that these payments represented reasonable additions to the salaries of the officers for past or future services requires the conclusion that petitioners have failed to sustain their burden of proof on this issue.
The contract offered by petitioners states that there are "mutual covenants and agreements" between the parties to support it, yet the body of the contract contains only the unilateral promise of the corporation to provide death benefits to the widows of its deceased officer-shareholders. Nor do petitioners attempt to supply us with any plausible business motive for the corporation's largesse. There is no proof, for example, that the compensation received by these officer-shareholders was inadequate on December 19, 1953, or at any other time before or since. Neither is there any evidence to suggest that the corporation was in serious danger of losing the services of its five officer-stockholders, or any one of them, as was true in the case of Seavey & Flarsheim Brokerage Co., 41 B.T.A. 198, upon which petitioners rely.
Though one may search in vain for a corporate business purpose for this death benefit plan, the raison d'etre of the contract is apparent on its very face: one of the WHEREAS clauses states that the officer-stockholders are "desirous of creating a plan for the financial security of their wives in the event of their death." The purpose of the agreement, at least on the basis of what appears in this record, was therefore not to provide an economic benefit to the corporation, but rather to serve the personal needs of the corporation's stockholders. Payments made under such an agreement are clearly not ordinary and necessary expenses of the corporation, and are not deductible as such. Cf. Nickerson Lumber Company v. United States, 214 F. Supp. 87, 90-91 (D.C. Mass. 1963).
The situation here closely resembles the factual situation in Willmark Service System, Inc. v. Commissioner, 368 F. 2d 359 (C.A. 2) affirming a Memorandum Opinion of this Court. 24 T.C.M. 1634. In that case, a corporation entered into a contract with its four principal officers, two brothers and their wives who also owned all of the corporation's stock, under which it undertook to pay, upon the death of either brother a weekly sum to his widow, for the rest of her life, and thereafter to his children, as long as they lived, in an amount equal to 50 percent of the salary received by the surviving brother. We considered that there was no arm's length bargaining between either brother and the corporation, that the arrangement entered into was merely a means by which the two brothers provided for the economic security of their families, and that therefore, sums paid by the corporation under the agreement did not represent deferred payment for the services of the deceased brother, nor for any other benefit received by the corporation, and thus could not be considered an ordinary and necessary expense. Furthermore, in the absence of any proof that the salaries being paid to the officers were inadequate, other than recitals to that effect in the contract which, without further proof, we treated as mere "window dressing", we found that even if the contract represented a deferred compensation plan, the corporation did not sustain its burden of proving that the payments made thereunder were reasonable. The Court of Appeals for the Second Circuit, noting that "'it is the Tax Court's function to draw a primary inference from evidentiary facts, which must be sustained on appeal unless it appears wholly unwarranted,' Schner-Block Co. v. Commissioner of Internal Revenue, 329 F. 2d 875, 877," upheld the decision on both grounds. Willmark Service System, Inc. v. Commissioner, supra, at p. 361.
We think the inferences to be drawn here are much the same as were drawn from the facts in Willmark. True, we have here five shareholders who entered into a contract with the corporation, and it appears from the record that only two of them were related, as opposed to the two brothers who were in sole control of Willmark. However, this is not a matter of significance. We assumed in Willmark that there might have been arm's length dealing "in the very limited sense that each brother was interested in obtaining the same arrangement for his wife and children that would be established for the wife and children of the other." But we were satisfied that the record showed "no arm's length bargaining between either brother and the corporation", and that since both brothers together controlled the corporation, "it would call for a high degree of naivete to assume that [they] * * * together did not call the tune." Willmark Service System, Inc., 24 T.C.M. 1634, 1637.The situation here is similar, for, although we may likewise assume that the officer-stockholders engaged in arm's length bargaining among themselves, we can find no arm's length bargaining between the corporation and the officer-stockholders.
Moreover, as in Willmark, the payments required by the plan were geared to the future salaries of the surviving officers, a factor which we found to be less related to a true deferred compensation plan than to one providing for economic family security. Here there are not even the recitals as to inadequate salary in the past or present which might, if supported by other proof, justify characterizing payments made under the agreement as deferred compensation.
Finally, as in Willmark, there is absolutely no proof that the payments to Katharine T. Wallace, even if deferred compensation, represented reasonable compensation for her husband's services. We do not know what services he performed for the corporation, if any, and do not even have any evidence as to the salary he received during his lifetime. All we know from this record is that Katharine T. Wallace received payments under the plan from 1957 until her death in 1965, that those payments totaled $44,317.50 through the corporation's fiscal year ended June 30, 1961, and that the payments of $14,650 made in fiscal 1962 and $16,800 made in fiscal 1963 which the Commissioner has disallowed as deductions brought the total paid to Katharine T. Wallace through June 30, 1963 to $75,767.50. As we said in Willmark Service System, Inc., 24 T.C.M. 1634, 1637):
Payments of these substantial amounts for such an indefinite period in the guise or form of additional compensation, in the absence of any evidence that they had a substantial relation to the value of services rendered by the deceased officer, constituted extraordinary and unusual expenditures even though [the corporation] * * * may have been obligated to make them under an agreement with its officers who owned all of its stock. Botany Worsted Mills v. United States, 278 U.S. 282, 292.
Decisions will be entered for the respondent.