Before BIGGS, Chief Judge, and MCLAUGHLIN and GANEY, Circuit Judges.
MCLAUGHLIN, Circuit Judge.
In the sale of their fuel oil business, including real estate, the taxpayer owners claimed that its physical assets comprised $50,000 of the $85,000 purchase price and that its gallonage good will amounted to the balance of $35,000. They further contended that their covenant not to compete with the buyer in the fuel oil business for seven years was simply an integral part of their gallonage guarantee; that it was not an independent arrangement with independent consideration being paid for it. The Tax Court found as to the $35,000, that 50% thereof was paid to petitioners for the good will of the partnership, Economy Oil and Supply Co., and 50% for the covenant not to compete entered into by them at the time of the sale. In accordance with that finding the court held, "The 50 percent attributed to the sale of goodwill will be treated as long-term capital gain and the 50 percent attributed to the covenant not to compete will be treated as ordinary income in a computation under Rule 50." Taxpayers seek review of this. They also urge a second point concerning the 1956 value of the purchase money mortgages which were part of the transaction.
In 1953, taxpayer Max Levine owned a chicken hatchery and poultry farm; taxpayer Jacob Dubrovsky was a feed salesman and had a small poultry farm. On April 2nd of that year, for the sum of $50,000, they purchased the Economy Oil & Supply Corp. which was engaged in selling gasoline, fuel oil, and kerosene, together with related products and services.The corporation had been in that business at the same location in Howell, New Jersey and under the same name since at least 1941. The sellers executed covenants barring them from competing in the fuel business for seven years within a radius of twenty-five miles of the property sold and providing that adjacent premises owned by "Economy Tire and Recapping Corp." would at no time "be used or occupied for the sale of fuel oil, kerosene, gasoline or motor oil except that which may be sold at retail in a service station located on said premises." We find no indication in the record that any separate consideration was stated or given for said covenants. Levine and Dubrovsky formed a partnership under the trade name of "Economy Oil and Supply Co." Dubrovsky operated the business and was paid a salary. Levine continued with his poultry farm. He received no compensation from Economy.
In the latter part of the summer of 1956, taxpayers decided to sell the fuel oil branch of their enterprise, retaining the gasoline end of it. Samuel W. Katz became interested as a possible purchaser. At his first meeting with the owners in September 1956, Dubrovsky testified that he, for the partnership, gave Katz a price of $85,000 - $50,000 for the real estate and personal property and $35,000 for the good will or gallonage. He and Levine did not have an accountant assisting them at the negotiations although Levine had a necessary consultation with one at a later stage in the proceedings, and according to Dubrovsky their attorney was no tax expert.Dubrovsky said, "We were concerned with the total purchase price. We had no idea we would get so involved."
Levine testified that he and his partner indicated to Katz that they "wanted $35,000 for the 1,200,000 gallons". He did not recall whether he put the label of "good will" on the $35,000.He stated that Dubrovsky primarily conducted the negotiations for them; that "I was not actively conducting it."
That the gallonage was a most tangible asset appears clearly in the Tax Court's Findings of Fact. The fuel oil division of the partnership functioned to a large extent automatically, as is the nature of that type of business, with the owners thereof having "little direct contact with customers." The taxpayers had dropped 4 or 5% of the customers served by the old corporation chiefly because of poor credit performance "but in the main the list of customers was the same from year to year." In 1955 Economy had sold to customers "* * * approximately 1,200,000 gallons of fuel oil." The taxpayers applied what was testified to at the hearing as the accepted formula for valuing good will in the fuel oil industry during the year 1956 i. e. three cents a gallon. In this instance it produced the amount of $36,000 which the taxpayers rounded off to $35,000.
Katz was a witness for the Commissioner.He testified regarding his first meeting with Dubrovsky and Levine:
"A. I asked them what they had to sell and how much they wanted. They told me what they had in gallonage; they told me what they had in tanks, buildings and land, equipment, trucks, and I asked them how much they wanted for their business and they told me they wanted $85,000 for the business.
"I asked them how they broke it down. They shrugged their shoulders and said there was no breakdown. All they wanted was $85,000 for the business."
He said Dubrovsky and Levine did not inform him that they were seeking to include "good will" in the $85,000 price. He claimed that because they did not break the total figure down that he, not his accountant, "had to break it down for them." The Tax Court did not go along with the last statement but found that at a later conference Katz's accountant suggested that the purchase price be broken down so that he could set up values on the books of the new corporation.The accountant proposed the values as follows: