The opinion of the court was delivered by: MCGRANERY
This case arises on cross motions for summary judgment. Taxpayers, executors under the will of the decedent, seek to recover an alleged overpayment of federal income tax in the amount of $ 48,535.20 on the decedent's final return for the period Jan. 1, 1942 to Nov. 15, 1942, the date of his death. The Government seeks a judgment dismissing the complaint and awarding to it the sum of $ 2,065.94 on a counterclaim for taxes assessed and unpaid.
The decedent, Samuel P. Kenworthy, was at the time of his death a member, with three others, of a partnership with its principal place of business in Philadelphia, operating under a partnership agreement dated July 1, 1935. The firm kept its books and filed its income tax return on an accrual basis and on the basis of a fiscal year ending June 30. The decedent kept his books and filed his returns on a cash and calendar year basis.
The partnership agreement provided that the firm should be subject to dissolution by mutual consent on June 30 of any year, and that any partner should have the right to withdraw on June 30 of any year upon giving 30 days' notice prior to such date of his intention to withdraw. The agreement further provided that upon the death of any partner the 'partnership business' was to be carried on by the surviving partner or partners at their option until June 30 following the date of death. The interest of a deceased partner was to be calculated as of such June 30th, and payment to the decedent's personal representatives was to be made in a specified manner, after June 30. 'The withdrawal or death of any partner or partners shall not be deemed to prevent or interfere with the continuance of the partnership business by the remaining partner or partners or to necessitate the winding up of the partnership business.'
After Mr. Kenworthy's death on Nov. 15, 1942, the business was continued by the surviving partners, in accordance with the agreement, until June 30, 1943. But shortly after Nov. 15, 1942, the surviving partners determined the decedent's share of the profits accrued to the partnership from July 1, 1942 to Nov. 15, 1942, in the amount of 55,559.86 (subsequently increased to $ 55,685.27 upon the audit of the partnership income by the Commissioner). On March 15, 1943 the taxpayers filed an individual income tax return for the decedent, reporting an income of $ 210,506.91 (including the $ 55,685.27 share of partnership profits up to date of death), and a total income tax due of $ 159,285.12. By reason of the inclusion of the share of partnership profits as determined at date of death, the executors paid the $ 48,535.20 tax here in controversy.
Taxpayers filed, on April 3, 1943, an amended return for the Jan. 1 to Nov. 15 period, reporting a gross income of $ 209,765.12 and a tax due of $ 157,219.18. An additional assessment of $ 347.17, by reason of the audit of the Commissioner, above mentioned, was paid. However, it appears that the total assessment by the Commissioner was $ 159,628.29, and that only $ 157,562.35 has been paid, leaving the $ 2,065.94 assessed and unpaid.
Notwithstanding the inclusion of the decedent's calculated partnership income to the date of his death, no withdrawals or distributions were made to the estate until June 30, 1943, when an accounting was made of the decedent's capital interest and share of the profits, taking into account profits and losses accruing subsequent to decedent's death. On July 1, 1943, the taxpayers received from the surviving partners $ 1,151,851.23 in payment of decedent's capital interest and profits computed as of June 30, 1943, of which the taxpayers claim the sum of $ 49,284.33 was profits for the period July 1, 1942 to June 30, 1943, the partnership fiscal year.
On Dec. 30, 1943, taxpayers filed what purported to be a formal consent under section 134(g) of the Revenue Act of 1942, 26 U.S.C.A. § 126 note, claiming thereby that section 42(a)
of the Internal Revenue Code, 26 U.S.C.A. § 42(a), sec. 134(a) of the Act of 1942, was rendered applicable, excluding decedent's income from his final return on the ground that it was accrued solely by reason of his death. Consequently, they assert, it is, under section 126, 26 U.S.C.A. § 126,
section 134(e) of the 1942 Act, includible in the income of his estate by virtue of the consent of the executors that the income be so included, filed under section 134(g), the section rendering the 1942 amendment applicable to the year 1942. Pursuant to the consent that the $ 55,685.27 be included in the income of the decedent's estate taxpayers filed a claim for refund in the amount of $ 47,133.73, the amount which, they asserted, the tax of the decedent for the period Jan. 1 to Nov. 15 would be reduced. This claim was rejected by the Commissioner.
On March 7, 1946, they filed a second claim for the same period in the amount of $ 48,535.20, on the theory that, because the partnership agreement continued the business, the decedent was not entitled to any share of the partnership income at the time of his death; that no proportionate share could be computed until the end of the partnership fiscal year on June 30, 1943, and that the decedent's death on Nov. 15, 1942 provided no occasion for computation of partnership profits taxable to him as of that date. The Commissioner also rejected this claim.
Taxpayers instituted this action to recover $ 48,535.20, and the Government filed a counterclaim for $ 2,065.94 in assessed and unpaid taxes.
The first problem arises in this case by virtue of the fact that, while the executors of the deceased partner were required to file a return for such income as had been earned by decedent up to his death, Internal Revenue Code § 47(g), 26 U.S.C.A. § 47(g), Section 188
of the Code 26 U.S.C.A. § 188, permits a partner whose taxable year is different from that of the partnership to compute his net income based upon the income of the partnership for any 'taxable year' of the partnership ending within the taxable year of the partner. And here there existed a partnership agreement providing that, upon the death of a partner, the survivors may carry on the partnership business until the end of the partnership fiscal year, with the interest of the deceased partner to continue subject to all the risks of the enterprise, the proportionate share of the deceased partner in the profits and losses of the enterprise not to be determined until the end of the partnership fiscal year. Therefore, the issue is whether the partnership agreement is effective to preclude, for tax purposes, the realization of partnership income by the decedent as of the day of his death.
The taxpayers' contention is that by virtue of the partnership agreement, the partnership, under Pennsylvania law, was not dissolved by decedent's death on Nov. 15, 1942; but that it continued until June 30, 1943. Consequently, there was no partnership accounting due upon the death of the decedent, and no profits accrued to him at that time. And since he had no right, on Nov. 15, 1942, to demand any part of the partnership profits, they were all taxable to his estate at the end of the partnership fiscal year. The Government advances, among other contentions, the argument that the partnership was by law dissolved upon decedent's death. Each party supports its.contention with a imposing array of authorities.
I believe, however, that a determination of this point is not crucial to the decision. See Rabkin & Johnson, 'The Partnership Under the Federal Tax Law', 55 Harv.L.Rev. 908, 935. In the absence of specific statutory limitation, the income of a partnership is treated as the income of the partners. Helvering v. Enright's Estate, 312 U.S. 636, 61 S. Ct. 777, 85 L. Ed. 1093; Neuberger v. Commissioner, 311 U.S. 83, 61 S. Ct. 97, 85 L. Ed. 58; First Mechanics Bank v. Commissioner, 3 Cir., 91 F.2d 275; Jennings v. Commissioner, 5 Cir., 110 F.2d 945; Rossmore v. Commissioner, 2 Cir., 76 F.2d 520; see Sec. 181, Internal Revenue Code, 26 U.S.C.A. § 181. The taxpayers argue, and cite cases for the proposition, that the courts consider a partnership as a unit separate and distinct from the partners and view the partners as owning only a chose in action or a right to accounting for partnership surplus. To some extent and for some purposes, this contention holds true. Judge Learned Hand, in Commissioner of Internal Revenue v. Lehman, 2 Cir., 165 F.2d 383, 385, stated that ' * * * while the (partnership) never became a jural person, capable of being sued and suing as such, in the administration of its affairs it did become for most purposes an entity; and it was upon this traditional structure that Congress fitted the taxation of partnerships, although it levied the income tax upon the separate distributive shares of the partners, whether they were distributed or not.' (Emphasis supplied.)
Judge Hand had previously said, in Rossmoore v. Commissioner, supra, 76 F.2d at page 521: 'The revenue acts from 1913 forward * * * have consistently retained the common-law view, treating all income of the firm as taxable to the partners, whether distributed or not: and ignoring the firm as a taxpayer except for purposes of information.' This principle of the Rossmoore case has been cited with approval by the Third Circuit Court of Appeals in First Mechanics Bank v. Commissioner, supra. Perhaps a clue to the decision in Estate of Henderson v. Commissioner, 5 Cir., 155 F.2d 310, 164 A.L.R. 1030 is that court's view of the effect to be given to Louisiana partnership law which regards the partnership, by a fiction of law, as the owner of partnership property, rather than the partners individually. Absent the fiction of partnership entity, the partners cannot be insulated from partnership income as it is earned. Hence, as the partnership earns income, the partners, in their proportionate shares, earn it.
But the taxpayers maintain that the partnership agreement must alter this result, for the decedent has no right to the income on the day of his death. The Government cites a number of cases wherein partnership agreements have provided that the share of the profits earned by a deceased partner up to his death, should remain in the business for a period of time after his death, subject to the risks of the business, and it has been held that such agreements have in no way affected the incidence of the tax on the decedent. Darcy v. Commissioner, 2 Cir., 66 F.2d 581, certiorari denied, 290 U.S. 705, 54 S. Ct. 372, 78 L. Ed. 606; People's-Pittsburgh Trust Co. v. U.S., 10 F.Supp. 139, 80 Ct.Cl. 716; First Trust Co. of Omaha v. U.S., D.C., 1 F.Supp. 900, 76 Ct.Cl. 481; Davison v. Commissioner, 20 B.T.A. 856, affirmed per curiam 2 Cir., 54 F.2d 1077; Smith v. Commissioner, 26 B.T.A. 778, appeal dismissed, 4 Cir., 67 F.2d 167; City Bank ...