William v. McGowan

Brief Fact Summary. Taxpayer entered into a partnership arrangement wherein he owned two-thirds of the business. After his partner died he sold the business to another company and claimed the gain as ordinary income and not as a capital asset.

Synopsis of Rule of Law. All property is capital assets except stock in trade or inventory property, property held primarily for sale to customers, and property used in the trade or business of a character which is subject to an allowance for depreciation.

Facts. Taxpayer, Williams, and Reynolds were in the hardware business for many years in Corning, New York. In 1926 they formed a partnership and Williams was entitled to two-thirds of the profits and Reynolds one-third. The capital invested in the business was $118,025. The business continued until Reynolds death in 1940. Taxpayer sold the business to Corning Building Company for $63,926 plus an amount of gross sales for brief period of time. Taxpayer suffered a loss on the sale but a small gain on the one-third he had bought from Reynolds’ estate. He entered both as ordinary income on his tax return and not as capital assets. The Commissioner disallowed and assessed a deficiency.

Issue. Is the business considered capital assets?

Held. Judge Hand issued the opinion for the United States Second Circuit Court of Appeals in holding for Taxpayer and finding that the business is not a capital asset as a whole.

Dissent. Circuit Judge Frank issued a dissenting opinion noting that the sale of the business was done as a whole and was not carved up into cash, receivable, fixtures, trucks, and merchandise as the majority opinion did.

Discussion. The Court of Appeals found that when a business is sold it should not be viewed as one single piece of property. Rather each segment of the business should be taken into account in determining capital assets.