
    424 F. 2d 607
    SCOTT McCORMAC AND MAY McCORMAC v. THE UNITED STATES
    [No. 409-65.
    Decided April 17, 1970]
    
      
      John Hi Hall, attorney of record, for plaintiffs. Dana Latham, Max L. Gillam, William A. Long, and Latham ds Watkins, of counsel.
    
      Philip B. Miller, with whom was Assistant Attorney General Johrmie M. Walters, for defendant.
    Before CoweN, Chief Judge, Laramore, Dureee, Davis, ColeiNs, 'Skelton, and Nichols, Judges.
    
   Laramore, Judge,

delivered the opinion of the court: This is an action to recover a deficiency of Federal income taxes assessed and paid for the year 1961. The issues as presented by the parties involve the proper characterization of the cemetery stock transfer underlying this suit, and the tax treatment to be accorded the proceeds derived from that transaction.

The facts in this case are set forth at length in the findings of fact below. Here, they will be summarized only to the extent necessary to explain the basis for the conclusion reached that plaintiffs are not entitled to recover.

Plaintiff Scott McCormac (“McCormac”) is an attorney, admitted to the bar and practicing law in the State of California. In 1956, McCormac was associated with the firm of Forester and Gemmill in Los Angeles, of which firm May-tor McKinley (“McKinley”) and certain business enterprises in which McKinley was interested were clients. McKinley, then president and major stockholder of Utter-McKinley Mortuaries, Inc. (“Utter-McKinley”), was experienced in both the mortuary and cemetery business.

In January 1956, McKinley went to Hawaii in connection with plans for establishing a cemetery on the Island of Oahu. At that time, Paul W. Trousdale (“Trousdale”), a man of varied and substantial business activities, was developing as a new community the entire 10,000-acre Kaneohe Kanch (“Ranch”) located on the Island of Oahu. The Ranch was being developed under lease from its principal owner, Harold Castle (“Castle”). Trousdale heard that McKinley had been looking for property on the Island of Oahu on which to establish a new cemetery, and he contacted McKinley for the purpose of arranging a meeting with Castle. In February 1956, McKinley began negotiations with Castle for the acquisition of certain land owned by the latter.

Financial considerations played an important role in the long-range planning of the cemetery. It was McKinley’s intention that a for-profit corporation be formed to develop and operate the cemetery for a period in excess of 8 years to avoid treatment as a collapsible corporation. Thereafter, McKinley and the other stockholders of the for-profit corporation would sell their shares to a newly formed nonprofit corporation which would continue the operation of the cemetery. It was further intended that the proceeds from the stock sale would 'be derived from the nonprofit corporation’s operation of the cemetery, and would result in long-term capital gain treatment to the sellers.

The negotiations culminated in an agreement dated August 22, 1956, calling for the sale by Castle of an 80-acre tract of Ranch land, suitable for a cemetery site, to a corporation to be formed, Hawaiian Memorial Park, Ltd. (“Limited”). Limited’s authorized capital stock was to be subscribed for as follows: 40 percent to Utter-McKinley; SO percent to Trousdale; 15 percent to Herbert K. H. Lee (“Lee”), a local attorney; and 15 percent to the Kaneohe Ranch Group. The stated desire of the parties was that a cemetery be developed and operated on the site, under the direction and control of McKinley. To this end, the agreement recited the understanding of all parties that the success of the enterprise would depend largely upon the efforts, experience and judgment of McKinley. Utter-McKinley, Trousdale and Lee agreed to assign their stock to a 5-year voting trust with McKinley as trustee. The agreement further provided that if Utter-McKinley (or McKinley) and Trousdale should find a purchaser for all of Limited’s stock with no disproportionate advantage to the finders, all of the stockholders of Limited would sell their stock to such purchaser.

On July 22,1957, Limited was incorporated under the laws of the then Territory of Hawaii as a for-profit cemetery corporation. Limited initially issued 600 shares, totaling $60,000 in par value, for $60,000 in cash, with 240 to Utter-McKinley, 165 to Trousdale, 90 to Lee, 30 to H. W. B. White (“White”), and 75 to Castle and the remaining members of the Kaneohe Ranch Group. On December 27, 1957, Utter-McKinley transferred 30 shares to Mason Letteau, and on July 22, 1958, Utter-McKinley transferred 180 shares to McKinley and its remaining 30 shares to McCormac. Letteau and plaintiff subsequently transferred their 60 shares to the voting trust described above.

On July 18,1958, pursuant to the agreement of August 22, 1956, Limited purchased 80 acres of land (“the lands”) from Castle for $58,640 in cash and a 10-year note for $581,-536 at 3 percent interest, payable in specified installments. Limited had received on October 2,1956, approval from the Board of Health for the establishment on the lands of a cemetery, subject to zoning. On February 7,1957, the Board of Supervisors zoned the lands as a cemetery.

The original operating board of directors of Limited, elected on August 7,1957, consisted of Lee, McKinley, Trous-dale, White and Toshio Kondo (“Kondo”). Kondo, recommended by Lee, was a well-respected real estate man in the community, and also was coowner of a fleet of fishing boats. On May 15,1958, the board was expanded to include Castle, Letteau, Fritz B. Herman (“Herman”) and Grover A. God-frey, Jr. (“Godfrey”).

Godfrey, a man with extensive cemetery experience, had been hired in 1957 as Limited’s sales director and general manager, primarily to develop the cemetery. In February 1959, Godfrey and Limited executed an employment contract with a term of 7 years, under which Godfrey was permitted to purchase 30 newly issued Limited shares in exchange for his non-interest-bearing promissory note for $40,000 due January 31, 1966. The employment contract further provided that in the event Godfrey wished to dispose of his shares, or ceased to be an employee of Limited before January 31, 1966, he was to offer the shares for sale to Limited at the same price at which he purchased them.

McKinley served as president of Limited from its inception to October 28,1958, when Godfrey was elected president. McKinley was elected chairman of the board on January 23, 1959.

Limited began selling gravesites, primarily on a pre-need basis, in July 1958. Most of Limited’s pre-need sales were payable in installments, usually over a period of 5 years, with down payments averaging approximately 10 percent in the first year of operation, and 5 to 7 percent thereafter. A staff of salesmen was maintained, ranging from 20 to 60 in number, who received commissions and bonuses on sales of gravesites. Although sales had originally been projected at $500,000 to $1,000,000 per year, the new cemetery was so successful that $500,000 of sales were made in the first 2 months of operation. Limited’s cost per fully developed burial site averaged less than $21. Its average price per site during its 3 years of operation varied from $184 to $235 (excluding endowment care). A fixed amount of the revenue from each sale of a burial site was placed in an endowment fund for the perpetual care of the memorial park. During Limited’s existence its gross sales totaled in excess of $7,000,-000. The original cost and development cost of the lands were approximately $640,000 and $670,000, respectively.

McKinley believed that a going cemetery, being a public-service type of business, should be operated by a nonprofit corporation. Underlying this belief, however, and consistent with his original intentions, was his purpose that such a transfer to a nonprofit corporation be effected with resulting long-term capital gain treatment to the sellers. In 1961, almost 3 years from the inception of Limited’s operation of the cemetery, McKinley initiated steps to effectuate his intention of transferring the cemetery to a nonprofit corporation. He asked Kondo and Herman to assist in recruiting others who were leading people in the community to form a nonprofit cemetery association. Kondo and Herman agreed to become incorporators and trustees of such an association, and on April 20, 1961, they both resigned as directors of Limited to avoid a conflict of interest in negotiating a contract between Limited’s stockholders and the nonprofit cemetery association. They were never stockholders of Limited.

Hawaiian Memorial Park Cemetery Association (“Association”) was organized on May 16,1961, as a nonprofit cemetery corporation under the laws of the State of Hawaii. On November 9, 1961, Association was notified by the Hawaii Department of Taxation that Association’s application for state tax exemption had been approved. The incorporators (and members) of Association listed in the charter, in addition to Herman and Kondo, were Marshall M. Goodsill (“Goodsill”), Joseph H. O’Donnell (“O’Donnell”), and Stanley M. Sabihon (“Sahihon”). The initial officers were Herman, chairman of the board; Godfrey, president; O’Donnell, vice president; and Hondo, secretary-treasurer. The initial board of trustees consisted of Herman, Hondo, O’Donnell, Sabihon, and George Chaplin (“Chaplin”). When Chaplin suddenly changed his mind and decided not to serve, Eobert S. Craig (“Craig”) and Eandolph Crossley (“Cross-ley”) were elected as additional trustees.

All of these trustees were successful and respected businessmen in the community. Of these trustees and officers of Association, none was ever a stockholder of Limited except Godfrey (Limited’s sales manager) who held 30 shares. In addition to Herman, Hondo, and Godfrey, only one other of such persons had had previous association with Limited, Goodsill as an attorney.

In March or April of 1961, McCormac was asked, as attorney for the stockholders of Limited, to prepare a draft of an agreement under which all of Limited’s stockholders would sell their stock to Association. Sometime after May 12,1961, the draft prepared by McCormac was furnished to Goodsill for his review as attorney for Association. At an organization meeting for Association during the early part of 1961, Goodsill had been retained to help form, and subsequently represent, Association. Pursuant to Goodsill’s review of the draft, a number of minor changes in language were made, although there was no alteration of the price or payout terms.

Discussions were held in June 1961, attended variously by McKinley, McCormac, and trustees O’Donnell, Sabihon, Herman and Hondo, with respect to the general terms of the sale proposed in the draft. At one meeting, O’Donnell expressed his insistence on the independence of the trustees, and he sought clarification on whether the proposed purchase price, which was based on 40 percent of subsequent sales by Association, was a fair price. McKinley and McCormac assured O’Donnell of the trustees’ independence and, with the aid of financial statements of Limited and sales projections for Association, explained the fairness of the price. In addition to the analysis of the financial statements, O’Donnell placed great reliance on the judgment of McKinley and Mc-Cormac, because of their extensive experience in the cemetery business. Similar meetings were held with, other trustees in the latter part of June 1961, wherein the trustees were assured of their independence, and of the fairness of the proposed purchase price.

In May or June of 1961, McKinley presented Trousdale with the final form of the agreement of sale and sought his approval. Trousdale opposed the planned sale because he was concerned about loss of control of the cemetery, reliance on its operation by others for the payout of the purchase price, and the unclear position of the Internal Revenue Service as to the tax treatment of such transactions. Accordingly, it was agreed that if Trousdale could produce a bona fide offer of stock from a firm listed on 'the New York Stock Exchange with a value of $5,000,000, McKinley would agree to the acceptance of such an offer. When McKinley subsequently refused, however, to consider the fruits of Trous-dale’s efforts, Trousdale believed that no offer would be acceptable, and his efforts ceased. On June 20, 1961, Trous-dale offered to have his shares redeemed by Limited for $1,000,000 payable over a 10-year period. The offer was rejected, and Trousdale was advised that he was the sole remaining dissenter. With McKinley’s assurance that 'he would help the trustees in any way he could, should trouble arise, Trousdale then agreed to the proposed agreement of sale.

Two meetings were held on July 18, 1961, prior to the execution of the proposed agreement. Groodsill, as the attorney for Association, advised the trustees of their duties under law. Moreover, the trustees were once again assured, by the sellers, of their independence in the operation of the cemetery, and the fairness and feasibility of the purchase price.

Thus, on July 18,1961, an agreement dated June 30,1961, was executed between all of the stockholders of Limited as “sellers,” and Association as “buyer.” By its terms, the sellers sold their entire 630 shares in Limited to Association, in return for which Association agreed to liquidate Limited and to pay quarterly to the sellers 40 percent of Association’s gross cash receipts from completed sales of cemetery land, merchandise and services, exclusive of amounts payable to the endowment care fund. A completed sale was defined as one in which the purchaser has made the final payment thereon. The agreement further provided that Association would use its best efforts to conscientiously operate the cemetery on a sound business basis; and that in the event of Association’s breach of the agreement, during the first 5 years after the date of the agreement, 51 percent in interest of the sellers, and thereafter 25 percent in interest, could elect to terminate, and to require Association to transfer its assets subject to its liabilities, pro rata to the then holders of the sellers’ interests.

After the stock was transferred, Association caused Limited to be liquidated and dissolved on July 20,1961. All of Limited’s assets were transferred to Association, and all of Limited’s obligations were assumed and guaranteed by Association effective July 18,1961. Among the assets acquired by Association on the liquidation of Limited were accounts receivable from time-sales of burial sites by Limited in the face amount of $4,921,459. On July 18,1961, contracts of sale had been entered into and had either been fully consummated or were still outstanding with respect to approximately 31,000 gravesites, totaling approximately 24 acres, or 40.5 percent of the 76,593 total available gravesites. Also included among the assets acquired by Association were the remaining grave-sites, of which about 45 percent had then been developed. Association began active operation of Hawaiian Memorial Park Cemetery on July 19,1961.

When the trustees executed the agreement of July 18,1961, they retained the organization which existed under Limited with little or no change in personnel. Godfrey’s employment contract, which had 5 years remaining, was carried over and assumed by Association. Although the board of trustees was in control of Association, there was little doubt, in view of the experience and prosperous performance of Godfrey and the other members of Limited’s staff, that such personnel would be retained by Association.

However, it was deemed desirable by the Limited stockholders and Association to limit the scope of Godfrey’s subsequent duties to matters pertaining to sales. To this end, Association’s bylaws and Godfrey’s contract were amended to provide that the president (Godfrey) would have authority over sales, but that the executive vice president would have authority over financial and other administrative matters. Mr. Bernard H. Stuhlmacher (“Stuhlmacher”) was elected, on July 18, 1961, to the newly created post of executive vice president. Stuhlmacher had been, for a short time, accountant and comptroller of Limited.

On the basis of their experience with Limited during the prior 3 years when Limited earned 50 percent of gross, McKinley and the other Limited stockholders believed that Association would be able to pay the 40 percent of gross and still be able to operate the cemetery. The trustees, too, were so persuaded, but recognized that the cemetery would have to be operated in an efficient and businesslike manner.

During the 2% months following the July 18,1961, transaction, McKinley had little contact with the trustees of Association. He did, however, correspond with Herman during this time, and made numerous suggestions and comments regarding the successful operation of the cemetery. Nevertheless, shortly after the July 18,1961, transaction, the trustees experienced difficulty in operating the cemetery on a sound business basis. At the trustees’ meeting of August 17, 1961, it was noted that sales were down, their competitors were underselling them, they had lost salesmen, and the 40 percent payments made it difficult to reduce prices. It was suggested that such matters be discussed with representatives of the former stockholders.

In the middle of September 1961, McKinley, upon learning of the trustees’ difficulties, notified McCormac that the trustees desired their return to Hawaii to explain and discuss various matters. McCormac returned to Hawaii on September 28, 1961, and had informal discussions with some of the trustees regarding operational problems, and their doubts concerning ability to continue to make the 40 percent payments. Pursuant to the trustees’ request, McCormac prepared, with the aid of a public accounting firm, financial projections showing the feasibility of the 40 percent payments, which projections were presented at a special trustees’ meeting on October 4, 1961, attended by McKinley and Mc-Cormac. After the presentation, McKinley and McCormac were elected members and trustees of Association, and Me-Kinley was elected chairman of the board to succeed Herman, who had just resigned. The critical factor expressed by the trustees regarding the desirability of such elections was McKinley’s and McCormac’s knowledge of the cemetery business. At the same time, McKinley was fulfilling his earlier promise to Trousdale that should trouble arise, he would help in any way he could.

On October 19,1961, Crossley resigned from the board. In addition to several personal and business reasons for his resignation, Crossley was of the view that McKinley’s coming on the board, when he was still a creditor, was incompatible with the basis on which Crossley was serving; that McKinley’s presence on the board could make future relations between the trustees and the former stockholders not at arm’s-length. Crossley’s expressed reasons for resigning were advanced in a background of his admitted personal dislike of McKinley.

The board of trustees acted without interference from the former Limited stockholders, making its own decisions without seeking prior approval from such stockholders. Some of the former stockholders, especially McKinley and McCormac, made suggestions and recommendations as to the operation of the cemetery. Although not all of these suggestions and recommendations were carried out, the interests of the former shareholders and the interests of the trustees in regard to cemetery operation policies coincided so closely that it was not necessary for the trustees to make any significant decisions contrary to the interests of the former shareholders. Among the actions taken by the board that were independent actions (though not inconsistent with the interests of the former shareholders) were a decision to cut the prices at which double interment privileges would be offered, a decision raising prices on crypts, and a decision to retain Pacific Research 'Corporation as management consultants to make a survey of management problems.

On October 15, 1962, Association’s executive committee resolved that no financial or administrative information be given to individual trustees or former stockholders without the express permission of Godfrey, Craig, or O’Donnell. At the trustees’ meeting of July 26, 1962, on motion by O’Donnell, seconded by Craig, it had been resolved that financial statements would be issued only to trustees. These actions were taken because former stockholders had been seeking information regarding Association’s financial condition directly from Association’s staff, while the trustees felt such information should go through proper channels.

On April 17, 1962, Sabihon resigned from the board because of his inability to attend board meetings, and was replaced by Lee, who, as legal counsel to Association, was familiar with its affairs. Lee had been a stockholder of Limited and was one of the sellers under the pertinent contract. On April 25, 1963, McCormac recommended the election of Harry Y. Inase and Godfrey as trustees. O’Donnell opposed the suggestion and Inase and Godfrey were not elected. On July 23, 1964, Maytor H. McKinley, Jr. was elected to the board of trustees. On April 22,1965, Craig resigned as trustee, although his resignation had been requested as early as 1963 by McCormac because Craig proposed handling certain pending legislation in a manner which McCormac deemed detrimental to Association.

On February 24, 1966, Wong was elected to the board of trustees. Wong was a stockholder-seller under the pertinent contract. On March 3, 1966, O’Donnell resigned in order to become an officer of a competing cemetery, Valley of the Temples. The stated reason for the move was the betterment of O’Donnell and the O’Donnell family. Finally, on February 2,1967, A. William Barlow and Edward J. Suess were elected to the board of trustees. Neither had had any association or connection with Limited.

After submitting a bid in competition with other cemeteries, Association obtained a 10-year contract with the city and county of Honolulu to provide burial space for indigents to be paid for out of public funds. Association otherwise provided space in time of need for those unable to pay the purchase price, and on no occasion was any person turned away because of lack of funds.

In the cemetery industry, nonprofit cemetery corporations generally have business policies similar to those of for-profit cemetery corporations with respect to prices, management methods, and sales methods. Association was operated by the trustees in a manner generally typical of the operation in the cemetery industry of nonprofit cemetery corporations.

After its acquisition of the cemetery, as mentioned earlier, Association encountered financial difficulties. For the years 1962-1965, it had an excess of expenditures over revenues of approximately $1,100,000 after payments of $1,331,511 to former stockholders. The decrease in net sales and profits during those years was due largely to increased competition and inefficient operation. The primary factor was the creation of two large new park-type cemeteries by investors attracted by Limited’s record of high profits. The inefficient operation stemmed, in part, from Godfrey’s engagement in numerous outside ventures which detracted from his direction of the cemetery’s sales efforts, and from abusive sales practices which grew up among Association’s salesmen.

On February 10, 1965, Godfrey resigned as president of Association at the request of the trustees. A check was given to him covering the remaining salary due under his management contract. Such contract provided that Godfrey was to turn over his proportionate share of the pertinent contract to Association in return for his original investment in Limited stock. The board and Godfrey, however, amended the management contract to enable McKinley to acquire Godfrey’s interest, and McKinley acquired it for $19,000. After Godfrey’s resignation, his assistant, John Powers, also left and went to work for a competing cemetery, taking with him about 80 percent of Association’s sales force.

On April 22, 1965, the board of trustees, on McKinley’s recommendation, elected Lee president and general manager to be in full charge of the business. Shortly thereafter, on July 22, 1965, the board, in recognition of his many services dating back to July 22, 1957, voted McKinley retroactive compensation at the rate of $1,000 per month for the period from July 22, 1967, through December 31, 1966, and future compensation at the same rate.

For the first full fiscal year of Lee’s administration (the fiscal year ended June 30,1966), largely as a result of Lee’s sound management, higher down payments were received, bonuses were discontinued, many expenses were eliminated, cancellations greatly declined, and sales volume rose to $1,749,711. Moreover, gross sales for the following 9 months, ending March 31,1967, were $1,294,880.

In 1965, the income tax status of Association was being called into question by agents of the Internal Revenue Service. Association’s trustees determined on February 10, 1965, to suspend further contract payments until its bank debt was reduced and there was a resolution of Association’s tax status. The payments made by Association to the former stockholders of Limited or their assignees pursuant to the July 18, 1961, agreement up to October 15, 1965, totaled $1,331,511.30. Included in the payments of $73,615.50 made in 1961 was $3,505.50 paid to McCormac. These payments were treated on Association’s books and records and on its tax returns as part of Association’s cost of goods sold and as basis on accounts receivable as of July 18,1961, a procedure questioned by the Internal Revenue Service in 1965.

On October 15, 1965, the agreement of July 18,1961, was amended to provide that the consideration to be paid by Association to the sellers would be the fixed sum of $6,000,000, against which payments previously made would be applied. The stated reason for the amendment was that certain income tax problems had arisen, making it impracticable for Association to avoid a default. Subject to the foregoing, the amendment also prescribed a minimum percentage on payments when they resumed, and it reduced the percentage of sellers’ interests necessary for termination in the event of a breach by Association.

In their 1961 federal income tax return, plaintiffs reported as long-term capital gain the excess of the $3,505.50 payment received from Association over the reported $3,000 cost basis of McCormac’s stock in Limited. On or about April 9, 1965, plaintiffs received a notice of deficiency from the District Director for the taxable year ending December 31, 1961, which letter asserted a deficiency of $1,175.54. In the deficiency letter, the District Director treated the entire proceeds from Association to plaintiff as ordinary income. On May 7, 1965, McCormac paid to the District Director the sum of $1,175.54, pins interest in the amount of $215.85; and he filed a claim for refund on the ground that the $8,505.50 in question constituted proceeds from the sale or exchange of a capital asset 'held for over 6 months and nofc ordinary income. The claim for refund has not 'been paid.

Plaintiffs contend that the July 18, 1961 transfer of Limited stock to Association constituted a bona fide sale which must be treated as an “open” transaction for tax purposes. Accordingly, plaintiffs conclude that they were required to report only the proceeds received in the year of sale, and that they were entitled to treat such proceeds first as return of capital, and then as capital gain. Defendant responds that the transfer in question was not a bona fide sale, but rather an exchange of Limited stock for an equity interest in Association, and that the payments received by plaintiffs were corporate distributions attributable to such equity interest.

We find it unnecessary to reach the bona fide sale-equity exchange issue as framed by the parties in disposing of plaintiffs’ ref mid" claim. Assuming arguendo that, as plaintiffs contend, the stock transfer in question was a bona fide sale, that sale, in our view, constituted a. “closed” transaction whereby the transactional gain in its entirety was realized, recognized and returnable in the year of sale. Consequently, even an analysis which assumes the occurrence of a sale reveals that plaintiffs did not overpay their taxes for 1961, and are not entitled to recover.

Section 1001(a) of the Internal Revenue Code of 1954 states the general rule for the determination of the amount of gain from the sale or other disposition of property as follows:

The gain from the sale or other disposition of property abn.ll be the excess of the amownt realized therefrom oyer the adjusted basis [of the property sold or otherwise disposed of] * * *. [Emphasis supplied.]

Section 1001(b) explains, with particular pertinence to the instant case, that:

The amownt realized from the sale or other disposition of property shall be the sum of any money received plus the fair market value of the property (other than money) received. * * * [Emphasis supplied.]

Consonant with the above statutory rules, it is well settled that the proper tax treatment of a transaction as open or closed depends upon whether that which the transferor receives on his side of the transaction is property with an ascertainable fair market value. See, Burnet v. Logan, 283 U.S. 404 (1931); Marsack's Estate v. Commissioner, 288 F. 2d 533 (7th Cir. 1961); Stephen H. Dorsey, 49 T.C. 606 (1968). And, in turn, whether a particular contract containing rights contingent on future income can be valued for income tax purposes is a question of fact, with the burden of proof as to insusceptibility to valuation resting upon the taxpayer. See, Marsack's Estate v. Commissioner, supra; Stephen H. Dorsey, supra; Chamberlin v. Commissioner, 32 T.C. 1098 (1959), aff'd, 286 F. 2d 850 (7th Cir. 1960).

Plaintiffs assert that albeit their expert valuation witness established a fair market value for the contract rights received by the Limited stockholders to show reasonableness of price in furtherance of plaintiffs’ argument that a sale occurred, such value “necessarily involved various assumptions, entirely calculated valuations in the absence of a market for the type of asset being evaluated, * * * various difficult predictions regarding the future” and did not constitute an ascertainable fair market value for the purpose of treatment as a closed transaction. (Plaintiffs’ brief, p. 88). As will be seen, in the context of the instant case, plaintiffs’ assertion is unpersuasive.

Plaintiffs rely principally upon the landmark case of Burnet v. Logan, supra, wherein the taxpayer sold stock in a steel company owning rights in iron ore to another steel company for a consideration consisting of cash pins an agreement to pay to taxpayer 60 cents per ton of ore it received under the acquired rights. In holding that the taxpayer’s interest in the agreement could not fairly be valued and, therefore, the sale was to be treated as an open transaction, the Supreme Court stated at page 413:

* * * The consideration for the sale was $2,200,000.00 in cash and the promise of future money payments wholly contingent upon facts and circumstances not possible to foretell with anything like fair certainty. The promise was in no proper sense equivalent to cash. It had no ascertainable fair market value. The transaction was not a closed one. * * *

Plaintiffs’ reliance upon the above-described decision does not advance their cause, but rather reaffirms the rule that where property received in a sales transaction has, as a factual matter, no ascertainable fair market value, the transaction is open. The Supreme Court in the Logan case did not decide, as we understand it and as we believe it to be commonly understood, that contracts for indefinite payments generally have no ascertainable value, but did decide, as indicated by the excerpt set out above, that the many uncertainties there involved prevented fair valuation. See also, Gersten v. Commissioner, 267 F. 2d 195 (9th Cir. 1959); Chamberlin v. Commissioner, 286 F. 2d 850 (7th Cir. 1960), aff'g 32 T.C. 1098 (1959).

Indeed, for a number of years, and prior to the year in suit, it has been the stated position of the Internal Revenue Service that:

Contracts and claims to receive indefinite amounts, such as those received in exchange for stock in liquidation of a corporation, must be valued for Federal income tax purposes except in rare amd extraordinary cases. [Emphasis supplied.] Rev. Rul. 58-402, 1958-2 C.B. 15.

The practical effect of this ruling was to reaffirm the Service’s position contained in all the income tax regulations issued from the 1928 Revenue Act through the 1954 Code, and to limit to their particular facts certain court decisions which held that contingent rights to future income did not have ascertainable values for tax purposes.

We find little in the record before us to indicate that plaintiffs have successfully discharged their burden of proof with respect to the insusceptibility of the subject contract to valuation and thereby brought themselves within the open-transaction exception to the general rule. On the contrary, the record conclusively reveals, as a result of plaintiffs’ diligent efforts, that the contract in question did not constitute a “rare or extraordinary case,” and indeed had an ascertainable fair market value. Furthermore, this value which was so carefully established by plaintiffs’ expert witness, and accepted herein as a finding of fact, was based not on a comparison of prices in the market for the type of asset (contract) being valued, but rather on the alternative annuity method of capitalization whereby the present worth of future income that could reasonably be expected under the contract is calculated. And, it is precisely the value established by the latter method in this suit which apparently eould not be established on the facts of the Logan case, and resulted in the transaction there being held open. This distinction is, in our view, dispositive.

In accordance with the above, we hold that there was no overpayment of taxes for 1961. Plaintiffs, therefore, are not entitled to recover in this suit, and their petition is dismissed.

FUNDINGS OF FACT

Tbe court, having considered the evidence, the report of Trial Commissioner Roald A. Hogenson, and the briefs and argument of counsel, makes findings of fact as follows:

1. Plaintiffs Scott McCormac (“McCormac”) and May McCormac are husband and wife and citizens of the United States, and reside at 855 Oak Knoll Circle, Pasadena, California. For the taxable year in question, calendar year 1961, plaintiffs filed a joint federal income tax return with the District Director of Internal Revenue, Los Angeles, California, on or about April 15, 1962. Plaintiffs report their income on the cash receipts and disbursements method of accounting. They paid an aggregate of $2,589 of tax for such year, as reported on the return.

2. McCormac is an attorney, admitted to the bar and practicing in the State of California. In 1956, McCormac was associated with the firm of Forster and Gemmill in Los Angeles (presently Forster, Gemmill and Farmer), of which firm May tor McKinley (“McKinley”) and certain business enterprises in which McKinley was interested were clients. McKinley, then president and majority stockholder of Utter-McKinley Mortuaries, Inc. (“Utter-McKinley”), and a legal resident of California, was a man experienced in the mortuary and cemetery business.

3. Paul W. Trousdale (“Trousdale”), a man of varied business activities, was active in the construction business developing subdivisions, office building complexes, shopping centers, and housing projects. Trousdale was also active in oil ventures and the insurance business, but had no contact with the cemetery business prior to 1956. During 1956, Trousdale was developing as a new community the entire 10,000-acre Kaneohe Ranch (“Ranch”) located on the Island of Oahu. The principal owner of this property was Mr. Harold Castle (“Castle”). Trousdale was developing the Ranch under lease from Castle.

4. In January 1956, McKinley went to Hawaii in connection with plans for establishing a cemetery on the Island of Oahu. Shortly thereafter, Glenn W. Lunberg, a cemetery planner, and McCormac went to Hawaii to assist McKinley. Trousdale heard that McKinley had been looking for property on the Island of Oahu to establish a new cemetery, and he contacted McKinley for the purpose of arranging a meeting with Castle. In February 1956, McKinley began negotiations with Castle for the acquisition of certain land owned by Castle on the Island of Oahu on which to organize a cemetery.

Financial considerations played an important role in the long-range planning of the cemetery. It was McKinley’s intention that a for-profit corporation be established to develop and operate the cemetery for a period in excess of 3 years to avoid treatment as a collapsible corporation. Thereafter, McKinley and the other shareholders of the for-profit corporation would sell their shares to a newly formed nonprofit corporation which would continue the operation of the cemetery. It was further intended that the proceeds from the stock sale would be derived from the nonprofit corporation’s operation of the cemetery, and would result in long-term capital gain treatment to the sellers.

5. The negotiations culminated in an agreement executed on August 22,1956, between Castle, as seller, and Trousdale, Utter-McKinley, Herbert K. H. Lee (“Lee”), J ames C. Castle (“J. Castle”), Henry H. Wong (“Wong”), Virginia Castle Baldwin (“Baldwin”), Alice Castle McIntosh (“McIntosh”), H. W. B. White (“White”), and Kaneohe Banch Company Limited (“Kaneohe”). The last six named parties to the agreement were referred to collectively in the agreement as the “Kaneohe Banch Group.” Lee was an attorney who was then president of the Hawaiian Territorial Senate. Wong was general manager of the Banch.

6. The agreement provided that an 80-acre tract of Banch land, suitable for a cemetery site, was to be sold by Castle to a corporation to be formed, Hawaiian Memorial Park, Ltd. (“Limited”). Limited’s authorized capital stock in the sum of $200,000 was to be subscribed for in the following percentages:

Subscriber Percentage
Utter-McKinley_ ._ 40
Trousdale_ __ 30
Lee_ __ 15
Ranch Group:
J. Castle_ _ 2%
Wong- — m
Baldwin - - 2%
McIntosh - White _ — 2% — 2%
Kaneohe_ 2 y2

The agreement called for the development and operation of a cemetery by Limited on the site. The stated desire of the parties was that the development and operation of the cemetery be directed and controlled by McKinley.

7. The agreement further provided that:

(a) The board of directors of Limited was to consist of McKinley, White, Lee, Trousdale and F. B. Herman;

(b) the initial officers were to be McKinley as president, Lee as vice president, and McCormac (plaintiff) as secretary;

(c) Utter-McKinley could transfer its stock to McKinley, but neither Utter-McKinley nor McKinley could otherwise transfer any Limited stock until Castle had 'been paid in full for the cemetery site;

(d) if Utter-McKinley (or McKinley) and Trousdale found a purchaser ready, able and willing to buy all of Limited’s stock on terms satisfactory to Utter-McKinley (or McKinley) and Trousdale, all of the stockholders of Limited would sell their stock to such purchaser, so long as no disproportionate advantage was obtained thereby by Utter-McKinley, McKinley or Trousdale.

8. The agreement recited the understanding and agreement by all parties that the success of the enterprise would depend largely upon the efforts, business experience and judgment of Maytor McKinley and that Utter-McKinley would not enter into the contract unless it were assured that management control was vested in McKinley. Accordingly, Utter-McKinley, Trousdale and Lee agreed to assign to McKinley as trustee all of their stock for a 5-year period so that McKinley could vote for a majority of the board of directors satisfactory to him and a single member satisfactory to Trousdale. Subsequently, Trousdale refused to comply with this provision, and the provision was never enforced.

9. Under the terms of the agreement, Castle agreed to sell the property to Limited for $636,800, subject to approval by governmental authorities of its use for cemetery purposes. Payment was to be $32,000 in cash and $604,800 in 10-year corporate notes at 3 percent interest secured by a mortgage, payable at $15,000 per year for the first 3 years and $80,000 per year thereafter.

10. On July 22,1957, Limited was incorporated under the laws of the then Territory of Hawaii as a for-profit cemetery corporation. Limited was authorized to issue stock in the amount of 2,000 common shares of the par value $100.00 per share. All of such authorized stock was subscribed to prior to the incorporation of Limited.

The shares initially issued by Limited numbered 600, total-ling $60,000 in par value, issued for $60,000 in cash. The shareholders were never called upon for the remainder of their stock subscriptions. The original owners of the outstanding stock in Limited, together with the number of shares owned by each shareholder, are shown in the following schedule:

Utter-McKinley _ 240
Lee_ 90
Trousdale- 165
White _ 30
J. Castle_ 15
Wong _ 15
Baldwin_ 15
McIntosh _ 15
Kaneohe_ 15

11,On December 27, 1957, Utter-McKinley transferred 30 shares in Limited to Mason Letteau, and on July 22,1958, Utter-McKinley transferred 180 shares to Maytor McKinley. Plaintiff (McCormac) acquired his 30 shares of Limited stock on July 22,1958, the shares having been transferred to him from Utter-McKinley on that date. On July 22, 1958, Mason Letteau, and on August 21, 1959, Scott McCormac, transferred their 60 shares in Limited to a voting trust of which McKinley was trustee, in accordance with the agreement of August 22,1956.

12. The original operating board of directors of Limited, elected on August 7,1957, consisted of Lee, McKinley, Trous-dale, White and Toshio Kondo (“Kondo”). Kondo was a well-respected real estate man in the community, and also was coowner of a fleet of fishing boats. Kondo was recommended by Lee. On May 15, 1958, the board was expanded to include J. Castle, Letteau, Grover A. Godfrey, Jr. (“God-frey”) and Fritz B. Herman (“Herman”). Herman was an official with the Eastman Kodak Company, and past president of the Honolulu Chamber of Commerce. Herman was recommended by McKinley.

McKinley served as president of Limited from its inception to October 28, 1958, when at his suggestion, Godfrey was elected president, and at the next stockholders’ meeting on January 28,1959, McKinley was elected chairman of the board.

13. Godfrey, a man with more than 29 years of experience as sales manager, general manager and consultant with about 100 different cemeteries had been hired in 1957 as Limited’s sales director and general manager, primarily to develop the cemetery. He originally intended to stay only 1 year. However, as of February 1959, Godfrey and Limited executed an employment contract with a term of 7 years. Pursuant to the agreement, and in order to induce Godfrey to stay on, he was permitted to purchase 30 newly issued shares of Limited’s stock, giving in exchange therefor his non-interest-bearing promissory note for $40,000 due January 31, 1966. Godfrey also subscribed to an additional 70 shares, which were never issued. From February 1959, until its dissolution in 1961, Limited had outstanding 630 shares.

The employment contract provided that Godfrey was to hold the shares under the provisions of the agreement of August 22, 1956, executed by all the other stockholders. In addition, in the event Godfrey wished to dispose of his shares, or ceased to be an employee of Limited before January 31, 1966, he was to offer the shares for sale to Limited at the same price at which he purchased them.

14. On July 18, 1958, pursuant to tlie agreement of August 22, 1956, Limited purchased 80 acres of land from Castle, which lands Limited intended to and did use primarily in a cemetery operation. The 80 acres of land were acquired from Castle for an initial payment of $58,640 in cash and a note for $581,536, payable over a 10-year period, bearing interest at the rate of 3 percent per annum, with installments of principal payable at the rate of $15,000 per annum at the end of each of the first 3 years, $80,000 per annum at the end. of each of the next 6 years, and the balance at the end of the 10th year. The note was secured by a mortgage, dated June 25, 1958, covering all the cemetery property,' except 7.723 acres thereof paid for by the initial cash payment of $58,640. The purchased lands are located on the north shore of the Island of Oahu, on the northeasterly side of Kamehameha Highway, approximately 30 minutes driving distance from the civic center of the city of Honolulu.

15. In order to establish a cemetery in Hawaii, approval both of the Board of Health of the Territory of Hawaii, and of the zoning authorities was required. On October 2, 1956, the Board of Health approved an application filed by White for the establishment on the lands of a cemetery, subject to zoning.

16. One of the principal problems in obtaining cemetery zoning is the inclination of people to object to nearby cemeteries. Lee was retained by Limited to help obtain the proper zoning.

The application for cemetery zoning came first before the Planning Commission, which makes zoning recommendations to the City Council. The Planning Commission on December 13, 1956, recommended that portions of the lands be zoned for cemetery use. The Planning Commission recommended however, that about 8 acres of the lands, along the southerly border thereof, be set aside to be condemned for the widening of Kamehameha Highway (“Highway acreage”) and that an additional buffer strip north of the Highway acreage 100 feet in width also not be zoned for cemetery purposes.

After the recommendation by the Planning Commission, the zoning matter came before the Board of Supervisors, which, established tbe lands as a cemetery through. Eesolution 53, approved February 7,1957. Eesolution 53, as it appears in the records of the Board of Supervisors, states in relevant part that

* * * there is hereby established a cemetery site * * * being more particularly described in a document prepared by E. M. Towill Corporation, Limited, and executed by E. M. Towill, Eegistered Professional Surveyor, Certificate Number 151, dated November 19,1956, which is attached hereto and made a part hereof.

Following the page bearing the text of the Eesolution and the signature of the Supervisors, there is attached a 3-page legal description covering the entire lands, followed by the signature of E. M. Towill and the date of November 19,1956'. After Mr. Towill’s signature, there appears in type-face the following language:

Exclusion I. Excluding, however, all areas between the existing Kamehameha Highway and a, line 100.00 feet off the Northeast side of and parallel to the proposed Kamehameha Highway realignment, which is to be used as a, buffer strip for beautification purposes.

The buffer strip constituted an area of approximately 290,000 square feet or about 7 acres, and represented slightly less than 9 percent of the total acreage.

17. A dispute currently exists over whether this purported exclusion was part of the actual resolution officially passed by the Board of Supervisors, or was inserted at a later date, The dispute is being litigated in condemnation proceedings in which the issue is the value of the condemned Highway acreage. The 100-foot strip was classified as cemetery land and assessed at a value of $30,000 an acre by the Tax Assessor’s Office as of January 1961. In the previous year, it had not been classified and assesse il as cemetery land. The Highway acreage was assessed at a nominal figure. Surrounding lands not zoned “cemetery” were assessed at about $8,000 an acre.

18. Limited conducted on the lands a memorial park in which human dead a,re buried or otherwise permanently disposed of. In pursuit of those activities, Limited sold interment rights for burial of human remains and space in crypts in mausoleums. Limited’s activities also included tbe maintenance and beautification of its cemetery property and other activities necessarily incident to the conduct and operation of a cemetery. Since 1962, moreover, burial lots have been sold within the disputed buffer strip, an Urn Garden building has been constructed partially within the strip, cremated remains have been placed there, and bodies have been and are buried therein, and no objection has been made thereto by the local authorities.

19. In July 1958, having placed the first 4 acres in lawn and having obtained the permission of the Planning Commission, Limited began selling gravesites. Most of Limited’s sales were made on a pre-need basis. Limited maintained a group of salesmen, initially about 20 in number and later as many as 60, who received commissions and bonuses on sales of gravesites. Although sales had originally been expected to amount to $500,000 or $1,000,000 per year, public acceptance of the new cemetery was even greater than expected and $500,000 of sales were made in the first 2 full months of operation. Limited’s cost per fully developed burial site averaged less than $21; its average price per site during its 3 years of operation varied from $184 to $235 (excluding endowment care).

Limited’s fiscal year ended on June 30. During the period of Limited’s existence, its gross sales as reported on its audited financial statements for such years were as follows:

Mseal Year Sales
7/22/57 to 6/30/58_ .$18,357
7/1/58 to 6/30/59_ 2,238, 683
7/1/59 to 6/30/60_ 2, 670, 695
7/1/60 to 6/30/61_ 2,208, 691
7/1/61 to 7/18/61_ 88, 729

20. Most of Limited’s pre-need sales of gravesites were made on the installment basis, usually over a period of 5 years, with down payments averaging approximately 10 percent in the first year of Limited’s operation, and 5 to 7 percent thereafter.

Limited established an endowment fund for the perpetual care of the memorial park. A fixed amount of the revenue from each sale of a burial site was placed in this trust fund.

During the period of Limited’s existence, the land owned by it but not yet needed for actual cemetery use was not put to any other material use, and no rights to use any portion of such as yet unneeded lands were retained by the seller of the lands.

21. In 1958, Limited obtained loans of $75,000 from its shareholders, bearing interest at the rate of 6 percent per annum. Limited repaid all such loans from the shareholders in 1961. In calendar year 1961, plaintiff received full repayment for the amount loaned by him as a shareholder to Limited.

22. In 1958, Limited borrowed $200,000 from the Bank of Hawaii (“Bank”) on notes bearing interest at the rate of 6 percent per annum. On December 12,1958, Limited obtained a line of credit of $300,000 from Bank and borrowed an additional $100,000. The loan and the subsequent line of credit were guaranteed by the shareholders of Limited on a pro rata basis. The loans and the line of credit were secured by an assignment by Limited to Bank of Limited’s accounts receivable from the sale of lots for interment purposes.

Subsequently, Bank loaned additional sums to Limited, and after Limited repaid the initial $300,000, Bank agreed to relinquish the guarantees of Limited’s shareholders. Thereafter, the loans by Bank to Limited were never subject to any guarantee by the shareholders of Limited or any of them, and such subsequent loans were secured only by assignments of Limited’s accounts receivable.

As of June 15, 1961, Limited owed Bank $482,500 under a line of credit expiring June 30, 1961, and had requested and received approval for an extension and increase of its line of credit to $1,250,000 through July 1, 1962. The stated purpose of the requested increase was to cover the $200,000 cost of a proposed chapel-mortuary-crematory; a $200,000 down payment on purchase of additional 100 acres of land from Kaneohe Ranch; and $200,000 in expenditures over the next 14 months to build terrace mausoleums and a deluxe lawn crypt garden. All of these advances were secured by assignment of existing and future accounts receivable.

23. McKinley believed that a going cemetery, being a public-service type of business, should be operated by a nonprofit corporation. Underlying this belief, however, and consistent with his original intentions was that such a transfer to a nonprofit corporation be effected with resulting long-term capital gain treatment to the sellers. In 1961, almost 3 years from the inception of Limited’s operation of the cemetery, McKinley initiated steps to put into effect his intention of transferring the cemetery to a nonprofit corporation. He asked Kondo and Herman to assist in recruiting others who were leading people in the community to form a nonprofit cemetery association. Kondo and Herman agreed to become incorporators and trustees of such an association, and on April 20,1961, they both resigned as directors of Limited to avoid a conflict of interest in negotiating a contract between Limited’s shareholders and the nonprofit cemetery association.

24. Hawaiian Memorial Park Cemetery Association (hereinafter sometimes referred to as “Association”) was organized on May 16, 1961, as a nonprofit cemetery corporation under the laws of the State of Hawaii. The charter of incorporation provided in pertinent parts as follows:

III
The objects and purposes of the corporation shall be to own, establish, operate, manage and conduct a nonprofit cemetery or cemeteries for burial and interment of the human dead, and to do all things necessarily incident to that purpose, * * *
* * * the corporation shall be owned and operated exclusively for the benefit of its members; the corporation shall not be operated for profit; * * * and no part of the net earnings of the corporation shall inure to the benefit of any private shareholder or individual
* # * * $
VII
The members of the corporation shall consist of the persons named in the recital to this Charter of Incorporation, being the persons who signed the Petition for a
Charter of Incorporation, as the incorporators of this corporation, together with such other members, * * * as shall be elected to membership by the vote of a majority of the members of the corporation * * *. The members of the corporation shall have no interest of any kind in the property of the corporation.
ifj Hí sfr
IX
The corporation is not organized for profit, and it shall not issue any stock, and no part of its assets, income or earnings shall be used for dividends or otherwise withdrawn or distributed to any of its members.
* * * * *

On November 9, 1961, Association was notified by the Hawaii Department of Taxation that Association’s application for state tax exemption had been approved.

25. The incorporators (and members) of Association listed in the charter, in addition to Herman and Hondo, were Marshall M. Goodsill (“Goodsill”), Joseph H. O’Donnell (“O’Donnell”) and Stanley M. Sabihon (“Sabihon”). The initial officers were Herman, chairman of the board; God-frey, president; O’Donnell, vice president; and Hondo, secretary-treasurer. The initial board of trustees consisted of Herman, Hondo, O’Donnell, Sabihon and George Chaplin (“Chaplin”).

26. Chaplin was a journalist, the editor of the Honolulu Advertiser, who was recommended for the board by Godfrey after discussing the matter with White. Chaplin soon changed his mind and decided not to act as a trustee. Following the incorporation of Association and Chaplin’s withdrawal, there were elected as additional trustees Hobert S. Craig (“Craig”) and[RandolphCrossley (“Crossley”).

Craig was a well-known local businessman and management consultant whom White had known over the years and whom White had recommended as a trustee. He has been the executive director and general manager of the Downtown Business Association of Honolulu since 1962.

Crossley was an experienced businessman, having been president of Hawaiian Fruit Packers, a pineapple growing and canning company, and of an investment company called Cross Company. He bad operated a trading stamp company. He has been active in the consulting field and has served in the Hawaiian Territorial House, the State Senate, the Hawaiian Constitutional Convention, and on various public utilities commissions.

27. White asked Crossley to represent his interests and the interests of the Castle family primarily in acting as a trustee, but made it clear that Crossley would be an independent trustee and would not be expected to answer to White and the Castles. White told Crossley that since Limited’s shareholders contemplated selling the cemetery properties to the nonprofit Association, he himself would no longer be serving as a director. But since the sellers of Limited’s stock would have a continuing interest in a percentage of Association’s gross, they wanted Crossley on the board of trustees to make sure that the Association was operated in a businesslike manner so that it would be able to produce the gross expected to pay the creditors (sellers).

28. O’Donnell was and is the business manager for the Eoman Catholic Diocese of Honolulu, and has held that position since 1946. He is also a director of several business corporations. The Eoman Catholic Church had selected 10 acres of the Hawaiian Memorial Park Cemetery for its use, and prior to 1961, O’Donnell had worked closely with Limited in marketing this property through the Church.

O’Donnell was asked by McKinley and Godfrey to be an incorporator and trustee of Association. O’Donnell’s experience in cemetery matters was limited to some prior dealings with the cemetery in his capacity as business manager for the Eoman Catholic Diocese, but he was accepted by the Limited stockholders because of his general business experience.

29. Sabihon was an insurance salesman with an outstanding record of sales. He was an acquaintance of Lee, whom Lee recommended as a trustee. Sabihon was away from Hawaii much of the time, and did not attend many meetings.

30. Goodsill, a partner of a leading Honolulu law firm, Anderson, Wrann and Jenks, was initially an attorney for Limited. However, at an organization meeting for Association during the early part of 1961, Goodsill was retained to help form, and subsequently represent, Association.

31. In March or April of 1961, McCormac was asked, as attorney for the stockholders of Limited, to prepare a draft of an agreement under which all of Limited’s stockholders would sell their stock to Association. Sometime after May 12, 1961, the draft prepared by McCormac was furnished to Goodsill for his review as attorney for Association. Pursuant to Goodsill’s review of the draft, a number of changes in language in some seven or eight different paragraphs were made. There was no alteration, however, of the price or the payout terms.

32. The first discussions by McKinley and McCormac with trustees O’Donnell, Sabihon, Herman and Kondo with respect to the general terms of the sale took place in the latter part of June 1961, and with trustees Crossley and Craig at the meeting of July 18, 1961, when the completed contract was presented by McCormac for signature.

At the June 1961 meeting of McKinley, McCormac and O’Donnell, financial statements of Limited, which had been furnished to O’Donnell, were discussed. O’Donnell stated that he was not interested in acting as a trustee unless the trustees were going to act independently, and he sought clarification on whether the proposed purchase price, which was based in part on 40 percent of subsequent sales by Association, was a fair price. McKinley assured O’Donnell that the trustees would be absolutely independent. McCormac reviewed with O’Donnell the financial statements and pointed out to him on the question of fairness of the proposed price that, during Limited’s existence, its profits had been approximately 52 to 53 percent of net sales after known cancellations and after payments into the endowment care fund.

McKinley advised O’Donnell that Godfrey was projecting $2,000,000 in annual sales and that McKinley considered the projection to be reasonable since it was lower than sales in any full year of operation up to that point. O’Donnell placed great reliance on the judgment of McKinley and McCormac, because of their extensive experience in the cemetery business. O’Donnell was advised that there were plans to put a mortuary and crematory on the grounds. O’Donnell said that he could not vote for a crematory because of the Catholic Church position on such practices. McKinley replied that as a trustee, O’Donnell could vote in accordance with his convictions.

33. In June 1961, Lee, McKinley and McCormac had a conversation with Sabihon similar to the conversation with O’Donnell, regarding the independence of the trustees, the fairness of the proposed 40 percent price, financial data of Limited and other matters related to the proposed sale.

34. McCormac held similar conversations with Herman and Kondo in the latter half of June 1961, regarding the independence of the trustees, the proposed 40 percent price, financial data and other matters.

35. In May or June of 1961, McKinley presented Trousdale with the final form of the agreement of sale and sought his approval. Trousdale and his attorney, Leo Ziffren, were strongly opposed to the planned sale. Trousdale was concerned about the resulting loss of control of the cemetery, and relying on its operation by others for the payout of the purchase price. Moreover, he was concerned about the Internal Kevenue Service, its position being unclear as to the tax treatment to be accorded transactions such as the proposed sale.

36. Trousdale proposed instead that if the stock was to be disposed of it should be exchanged for the stock of a company listed on a stock exchange. McKinley advised Trous-dale that the caliber of the businessmen who would serve as trustees was such that the cemetery would be operated in a prudent manner. He also stated that if the trustees did not operate in a prudent and businesslike maimer or were not effective, he would do all that he could to help them.

37. On June 1,1961, McKinley wrote to each of the stockholders as follows:

*****
Under date of August 22, 1956, all we stockholders agreed that we would make this sale at the propitious time and this Agreement is in accordance with that which we have already agreed upon.
*****

Trousdale received such a letter, but immediately denied that he had made any such agreement. White, Castle, Wong and other members of the Kaneohe Ranch Group also at first disagreed with the proposed sale on the basis of loss of control over the operation of the cemetery, and uncertainty of the tax treatment of the transaction by the Internal Revenue Service.

38. In settlement of their dispute, McKinley and Trous-dale, in May or June of 1961, agreed that if Trousdale could obtain a bona fide offer on or before July 1,1961, from a company whose stock was then listed on the New York Stock Exchange, of stock with a value of $5 million, in exchange for the stock of Limited, then provided the other stockholders would join in accepting the offer and provided that the acquiring company was financially satisfactory, McKinley would agree to such an exchange.

39. Accordingly, on June 2, 1961, Trousdale wrote E. F. Hutton and Company and offered a stock trade of Hawaiian Memorial Park for $5,000,000. Trousdale also obtained expressions of interest regarding the park from the president of Christiana Oil Company, a corporation whose stock was listed on the American Exchange. McKinley, however, refused even to consider Christiana and would not investigate its assets or anything else regarding Trousdale’s proposed deal. Trousdale gained from McKinley’s attitude the impression that McKinley would not in fact accept the stock of any corporation he might produce. Accordingly, Trousdale stopped working on trying to put together a stock deal.

On June 20, 1961, Trousdale offered to sell his and his wife’s 120 shares of Limited (20 percent of the total stock) back to Limited for $1,000,000 payable without interest in 40 equal quarterly installments of $25,000. Moreover, Trous-dale agreed to have his installments conform to 8 percent of the nonprofit’s gross (after the transfer by Limited’s stockholders to Association) if necessary, without regard to whether such revisions produced upward or downward adjustments in the payments. The offer was not accepted. McKinley then advised Trousdale that all the other stockholders, including all of the Kaneohe Ranch Group, except for Trousdale, had agreed to the proposed sale. In order not to be the sole holdout Trousdale agreed to McKinley’s proposal.

40. Two meetings were held on July 18, 1961, prior to the execution of the proposed agreement; one during the day at Hawaiian Memorial Park, the other during the evening at the Hawaiian King Hotel. These meetings were largely transitional in function, in view of the imminent transfer. All of the trustees were present except that O’Donnell did not attend the hotel meeting. Goodsill, as the attorney for Association, explained the terms of the contract, and advised the trustees of their duties under law; that they were acting in a fiduciary capacity and would have personal liability for their actions or omissions in that capacity, although they would not be personally liable on the stock purchase contract.

The items subsequently discussed at the meetings included:

(1) the independence of the trustees;

(2) the ability of Association to pay the proposed percentage of its gross; and

(3) sales projections for Association for future years. McKinley and plaintiff presented financial data, and Godfrey presented sales projections of $2,000,000 a year to assure the trustees that the price of 40 percent of sales was fair, that the Association could pay it and still have an adequate margin for continued proper operation of the cemetery. On the basis of explanations by experienced cemetery people, and examination of the relevant financial statements, the trustees were so assured.

41. The owners of the outstanding stock of Limited on July 18,1961, together with the number of shares then owned by each shareholder, are as follows:

Bank of America, Trustee for Marguerite Trousdale- 15
John M. McKinley_ 12
Eleanor Lynn McKinley- 12
Paul W. Trousdale- 105
Maytor H. McKinley, Trustee for Mary Beth McKinley- 12
Jean V. Trousdale_ 15
Maytor H. McKinley, Trustee for William James McKinley- 12
Lucille M. White, as Custodian for Charles M. White- 30
Mason Letteau_ Bank of America, Trustee for May Ann Trousdale_ Herbert K. H. Lee_ Lucy Ann W. Awai_ Michael 0. Baldwin_ Gordon M. K. Wong_ John 0. Baldwin_ Henry H. Wong, as Custodian for Ross M. K. Wong. Henry L. L. Wong_ James C. Castle, as Custodian for James C. Castle, Jr Kaneohe Ranch Co., Ltd_ Veronica W. Davis_ Scott MeCormae (Plaintiff)_ Maytor H. McKinley_ Maytor H. McKinley, Jr_ H. W. B. White, as Custodian for Toby Stunston_ Grover H. Godfrey_ Alice Castle McIntosh_ owowcowt-coioowcooociwojg WHO H rH CO H M H H
Total_^_ 630

42. On July 18, 1961, an agreement dated June 80, 1961, was executed between all of the Limited stockholders and Association. The former were denominated “sellers,” and the latter “buyer.” By the agreement the sellers sold all of the stock of Limited, consisting of 630 shares, to Association, and Association agreed to liquidate Limited, and in return for the stock to pay quarterly to the sellers, in proportion to their stock holdings, a sum equal to 40 percent of the gross cash receipts, as defined in the agreement, derived from buyer’s activities and operations on the cemetery land owned by Limited at the time of the agreement.

“Gross cash receipts” were defined to mean the aggregate gross sales price from completed sales of, among other things, graves, lots, crypts, mausoleums, niches for urns, markers, memorials, monuments, vaults, urns, vases, flowers, interment fees and cremation fees, but excluding amounts payable to the endowment care fund. A completed sale was defined as one in which the purchaser has made the final payment thereon.

Godfrey’s share of the 40 percent payments were to be withheld to satisfy his $40,000 obligation on the note given for his stock.

At the time that the agreement was executed, the major design and planning of the lands for cemetery use had been completed. At that point, Limited had expended approximately $669,142 in the design, planning and physical development of the park. With the exception of about $145,000 worth of work, the physical development, including all grading work, installation of roads and sprinkler systems, and planting of lawns, had been completed by July 18,1961, and the remaining work was done within 1 year thereafter.

43. With respect to installment sales made by Limited on which, as of July 18, 1961, full payment had not yet been received 'by Limited, Association agreed that upon receipt of the final payment thereon, the total amount of the sale exclusive of endowment care would be considered as gross cash receipts for that quarter. With respect to installment sales made by Association after July 18,1961, the 40 percent payments would likewise be payable with respect to the quarter during which final payment would be received by Association.

Association agreed to use its best efforts to conscientiously promote the cemetery and its business, to maintain a suitable sales force and sales program, to maintain prices upon a competitive basis with local cemeteries, and to continue the operation of the cemetery upon a sound business basis.

It was also agreed that in the event of any breach of the agreement by Association, during the first 5 years after the date of the agreement, 51 percent in interest, and thereafter 25 percent in interest, of the sellers could elect to terminate the agreement, and in such case Association could be required to transfer its assets, subject to its liabilities, pro rata to the then owners of the sellers’ interests under the agreement.

44. After acquiring Limited’s stock, Association caused Limited to be liquidated and dissolved. Dissolution was completed on July 20,1961. All of the assets of limited were transferred to Association, and all of Limited’s obligations were assumed and guaranteed by Association effective July 18, 1961. Association began active operation of Hawaiian Memorial Park Cemetery on July 19, 1961.

45. Among tbe assets acquired by Association on the liquidation of Limited were accounts receivable from the time sales of burial sites by Limited in the face amount of $4,921,459. As of July SO, 1966, approximately 5 years later, $4,248,204 of this amount had been collected, $559,809 had been lost through cancellations, $10,175 had been lost through adjustments, modifications, etc., and $103,478 still remained outstanding.

46. Out of the 80 acres originally acquired from Castle, approximately 76,593 adult gravesites were ultimately laid out, in addition to other uses. On July 18,1961, contracts of sale had been entered into and had either been fully consummated or were still outstanding, with respect to approximately 31,000 gravesites, totaling approximately 24 acres, or 40.5 percent of the total available gravesites. Among the assets acquired by Association on the liquidation of Limited were the remaining approximately 45,000 gravesites of which approximately 45 percent had then been developed.

47. When the trustees executed the agreement of July 18, 1961, they retained the organization which existed under Limited with little or no change in personnel.. Godfrey’s ly2 year employment contract, which had approximately 5 years remaining was carried over and assumed by Association. Although the board of trustees was in control of Association, there was little doubt, in view of the experience and prosperous performance of Godfrey and the other members of Limited’s staff, that such personnel would be retained by Association.

48. At or about the time of the transfer, the Limited stockholders and Association deemed it desirable to limit the scope of Godfrey’s subsequent duties to matters pertaining to sales. To this end, Association’s bylaws and Godfrey’s contract were amended to provide that the president (Godfrey) would have authority over sales, but that the executive vice president would have authority over financial and other administrative matters. Mr. Bernard H. Stuhlmacher (“Stuhl-macher”) was elected by the trustees on July 18,1961, to the newly created post of executive vice president. He had been previously employed by Limited for a short time as an accountant and comptroller.

49. Expert valuation witness, George H. Jones, was the only such witness called in this case. He testified that on July 18,1961, the fair market value of the stock of Limited was $5,621,500. His written appraisal report is in evidence. Jones utilized valuation methods and an analysis summarized as follows:

(a) The fair market value of all land, buildings and equipment was established in the sum of $4,334,000 by a combination of the cost approach on valuation of structures, with reasonable allowances for equipment, the comparative or market data approach on the reasonable prices which would be received on the gravesites and for the area reserved for Highway use, and the capitalization or income approach for the additional fee value determined by projecting income stream from the cemetery into a present worth valuation.

(b) Added to the valuation figure of $4,334,000, thus determined, were various sums representing current values of other assets as follows: $475 in cash; $6,172 in prepaid expenses; $34,774 in insurance refunds receivable; and $2,245,-400 being the present worth valuation as of July 18,1961, of accounts and notes receivable after deductions for endowment care; commissions payable; and future cancellations of sales contracts.

(c) The excess of Limited’s assets over liabilities, on a present worth basis, was thus computed to be $5,621,450, which sum (rounded to $5,621,500) Jones concluded was the fair market value of the outstanding 630 shares of Limited stock as of July 18,1961.

50. Jones also testified that as of July 18, 1961, the total fair market value of the contract rights acquired by the sellers of the 630 shares of Limited stock to Association was $5,280,000. He utilized the following appraisal procedure:

(a) Sellers’ interest in the contract of sale was valued in accordance with the annuities method of capitalization. In tMs approach, consideration is given to the present worth of future monies which could reasonably be expected to be received by the sellers in accordance with the provisions of the sales contract. This procedure was similar to the earlier valuation of the fee simple, both being related to expectable cemetery income.

(b) First, total annual gross income was computed. After endowment costs were subtracted, 40 percent of the balance resulted in a total annual income to sellers of $451,664. This sum was projected over the expected life of the inventory, and discounted at a proper rate of interest, resulting in a present worth of contract income of $3,818,700.

(c) Next, the sellers’ 40 percent interest in total contracts payable, exclusive of endowment care, was computed to be $2,550,668. This figure was reduced by a 15 percent cancellation factor to $2,168,668. This balance was then adjusted by appropriate discount and interest rates, resulting in a present worth of sellers’ interest in accounts receivable of $1,460,500.

(d) The total of the results of (b) and (c) yield (in round figures) a value of sellers’ interest in contract of sale of $5,280,000.

51. An informed arm’s-length purchaser of the stock of Limited entering into the July 18, 1961, agreement would have anticipated being able to meet the 40 percent requirement with an adequate return for his entrepreneurship. On the basis of their experience with Limited during the prior 3 years when Limited had earned 50 percent of gross, McKinley and the other stockholders of Limited believed that Association would be able to pay the 40 percent of gross and still be able to operate the cemetery. The trustees, too, were persuaded that they would be able to do so, but knew that the cemetery would have to be operated in an efficient and businesslike manner.

52. On July 18,1961, the trustees of Association appointed an executive committee of the trustees composed of Herman, Kondo and O’Donnell. The board of trustees, however, was dissatisfied with the executive committee arrangement, and on August 17, 1961, the trustees unanimously abolished that committee. In this regard, it was the concensus of opinion among the board members that they would be willing to act as a body on any necessary matters. Moreover, in regard to the reinstatement of the executive committee, it was decided that until the individual members of the board could become more familiar with the operations of a cemetery, the executive committee would not be revived, so that all members of the board would have an equal opportunity to sit in on all meetings.

53. At one point about 2 months after the sale, Stuhl-macher refused to furnish certain information to the trustees without first consulting McKinley. Mr. Crossley told Stuhl-macher and Godfrey that they were now working for the trustees and not the former stockholders and that they would be required to comply with the board’s wishes or would be replaced. Stuhlmacher complied.

54. All of the trustees were definitely interested in the cemetery program. While they were trustees, O’Donnell, Craig and Crossley spent many hours, apart from formal trustees’ meetings, on Association business and took an active part in the management. Other trustees, though interested, were not active outside of meetings. The board members discussed the operations of the cemetery between meetings. Crossley did considerable extra work, making many visits to the cemetery and talking with the staff, as he felt this was part of his responsibility. The trustees were paid up to $200 per meeting, at least once a month.

55. During the 214 months immediately following the July 18, 1961, transaction, part of which time was spent on a European vacation, McKinley had little contact with the trustees of Association. McKinley did, however, correspond with Herman during this time, wherein he made numerous suggestions and comments regarding the successful operation of the cemetery.

Shortly after the July 18,1961, transaction, it became evident that the trustees were experiencing difficulty in operating the cemetery on a sound business basis. At the trustees’ meeting of August 17, 1961, Godfrey, the sales manager, noted that the trend of sales was down, that their competitors, principally Mililani, were underselling them, and that they had lost salesmen. Moreover, in the discussion of Association’s price structure, it was pointed out that the 40 percent contract with the former stockholders of Limited made it difficult to reduce prices. It was suggested that this matter be discussed with representatives of the former stockholders.

56. In the middle of September 1961, McKinley, upon learning of the trustees’ difficulties, notified plaintiff that the trustees desired their return to Hawaii to explain certain things. At a trustees’ meeting of September 12,1961, Herman explained McKinley’s intention to come to Honolulu to discuss with the board of trustees the matter of the 40 percent clause, and to bring the trustees up to date on the background and operation of the cemetery. It was explained that plaintiff was to accompany him to set up the books for the new company. It was decided that McKinley should be requested to have an informal visit with the trustees on September 27 or 28, it being deemed unwise to put off any longer such a visit.

McCormac returned to Hawaii about September 28, 1961. He had informal discussions thereafter with some of the trustees regarding operational and internal problems the trustees were running into and their concern over being able to continue meeting the 40 percent payments.

57. McCormac was requested by the trustees to prepare financial projections in order to show the feasibility of the 40 percent payments. Such projections were prepared jointly by McCormac and Alexander Grant and Company, certified public accountants. A special meeting of the trustees was held on October 4,1961, at which Craig, O’Donnell, Sabihon and Herman were present, while Kondo and Crossley were absent. McKinley and plaintiff were present. After presentation of the projections and a thorough review of the financial situation by plaintiff, McKinley and plaintiff were elected trustees of Association. Herman resigned as chairman of the board, and McKinley was elected to fill that position and as chief executive officer of the corporation.

At the meeting the trustees expressed the view that in light of McKinley’s and plaintiff’s knowledge of the cemetery business, the trustees were well advised to elect them to the board. McKinley later told Trousdale that in assuming this position he was fulfilling the promise he had made to Trousdale, when the latter had balked at the transfer to inexperienced trustees, that if the trustees were not able to run the business he would see that the Association was properly run by helping in any way he could. McKinley was then immediately delegated to meet with Godfrey to prepare a sales program pertaining to crypts and lots and pre-need prices thereof.

58. On October 19,1961, Crossley resigned from the board. The reasons for Crossley’s resignation were that he was considering the acquisition of an interest in a competing cemetery, and did not want to be accused of having a conflict of interest, and also that he had a personal dislike of McKinley. Furthermore, Crossley was of the view that McKinley’s coming on the board, when he was still a creditor, was incompatible with the basis on which Crossley was serving; that McKinley’s presence on the board could make future relations between the trustees and the former stockholders not at arm’s-length.

Subsequently, on November 16, 1961, a management committee was established, composed of Godfrey, Lee, Stuhl-macher, McCormac and McKinley. The primary administrative functions were to be handled by Godfrey and Stuhl-macher, with McKinley to resolve the differences between them.

59. The board of trustees acted without interference from the former Limited stockholders, making its own determinations without seeking prior approval from such stockholders. | Some of the former stockholders, especially McKinley and McCormac, made suggestions and recommendations as to the operation of the cemetery. Although not all of the suggestions and recommendations were carried out, the interests of the former shareholders and the interests of the trustees in regard to cemetery operation policies coincided so closely that it was not necessary for the trustees to make any significant decisions contrary to the interests of the former shareholders.

Among the actions taken by the board that were independent actions (though not inconsistent with the interests of the former shareholders) were a decision to cut the prices at which double interment privileges would be offered, a decision raising prices on crypts, the abolition of the executive committee, and a decision to retain Pacific Research Corporation as management consultants to make a survey of management problems. The retention of the Pacific Research Corporation was recommended by Craig and O’Donnell and agreed to by the trustees at their meeting on March 15,1962.

60. On May 17,1962, the trustees voted, in accordance with the recommendation of Pacific Research Corporation, to eliminate Stuhlmacher’s office and terminate Stuhlmacher as an employee. This recommendation was carried out despite Lee’s request for delay. The trustees indefinitely deferred three recommendations of the Pacific Research Corporation report. These included serious consideration of the elimination of Lee’s $1,000 per month retainer as general counsel which the report stated was of little value to Association, and reduction to $600 of plaintiff’s $750 per month retainer for reasons of economy. At the same meeting, pursuant to the report’s recommendation, the management committee was eliminated, and there was substituted therefor an executive committee comprised of McKinley, Godfrey, plaintiff, O’Donnell and Craig, with McKinley, McCormac, and Godfrey to serve without compensation for their duties on the executive committee, but with a salary of $200 per month each to O’Donnell and Craig for such duties.

61. On October 15,1962, Association’s executive committee resolved that “no information regarding administration or finances be given to any of onr trustees or ‘sellers’ without the express permission of Mr. Godfrey or Mr. Craig or Mr. O’Donnell.” At the trustees’ meeting of July 26,1962, on motion by O’Donnell, seconded by Craig, it had been resolved that “financial statements will be issued only to members of the Board of Trustees.” These actions were taken because former stockholders had been seeking information regarding Association’s financial condition directly from Association’s staff, while the trustees felt such information should go through proper channels.

62. On April 17, 1962, Sabihon resigned from the board, and Lee was elected trustee. Sabihon’s resignation resulted from his inability to attend board meetings, since he was spending more time in Manila than he was in Hawaii. Lee was familiar with the affairs of the corporation, and was one of Association’s legal counsel at the time.

During 1962, McKinley, Lee and plaintiff formed a for-profit corporation named Hawaiian Memorial Life Plan, to operate from the cemetery premises under a rent-paying lease, and to sell prepaid funerals with Association’s sale of cemetery lots at the option of the salesmen. Some of these Association salesmen were also employed by the Life Plan.

At a February 24, 1965, meeting of the executive committee, a motion was passed that Association would pay its salesmen 1 percent additional commission from the proceeds of sale of its cemetery lots if they sold a Life Plan Contract together with a lot as a package deal.

63. On April 25, 1963, McCormac recommended to the trustees that Harry Y. Inase and Godfrey be appointed as trustees. O’Donnell opposed the suggestion, and Inase and Godfrey were not appointed as trustees. O’Donnell could not remember whether recommendations and findings made by McCormac on other occasions were approved by the board.

64. On July 23,1964, Maytor H. McKinley, Jr., was elected to the board of trustees.

65. On April 22,1965, Craig resigned as trustee. In 1963, plaintiff bad asked Craig to resign as a result of a disagreement between plaintiff and Craig pertaining to Craig’s proposed manner of handling certain pending legislation, which plaintiff thought would be detrimental to Association and which plaintiff felt he could not go along with as trustee. McKinley, under the mistaken belief that Craig had submitted his resignation, notified Craig of its acceptance. In fact, Craig had not submitted his resignation and, in any event, no individual trustee could accept a resignation on behalf of the board. Craig advised the board that he had not resigned, and he remained as a trustee until his resignation on April 22,1965.

66. On February 21,1966, Wong was elected to the board of trustees.

67. On March 3, 1966, O’Donnell resigned in order to become an officer of a competing cemetery corporation, Valley of the Temples, controlled by Trousdale. The stated x’eason for the move was the betterment of O’Donnell and his family.

During the period of Association’s existence until O’Donnell’s resignation in 1966, he was in charge of managing the perpetual care fund. He produced an average earning of about 5.6 percent on the fund’s portfolio. It was the policy of the trustee not to invade the principal but to use the income of the perpetual care fund to maintain the cemetery in perpetuity.

68. On February 2,1967, A. William Barlow and Edward J. Suess were elected to the board of trustees.

69. The following tabulation summarizes the membership of the board of trustees of Association, as it varied from July 18,1961, through February 2,1967, and lists the names of the incorporators of Association on May 16, 1961. By appropriate symbols, the tabulation shows who of those persons were stockholders (S), directors (D), or officers (0) of Limited at times prior to its liquidation.

70.The following tabulation summarizes the names of officers of Association, as they varied from May 16, 1961, through February 2,1967, and by appropriate letter symbols, shows who of those officers were stockholders (S), directors (D), or officers (O) of Limited at times prior to its liquidation.

Chairman of Sate the Board President Secretary-Vice-President Treasurer
5/16/61 Herman (D)__ Godfrey (S) (D)(0) O’Donnell .Kondo (D)
7/18/61 Herman (D)__ Godfrey (S) (D)(0) O’Donnell......Kondo (D)
10/ 4/61 McKinley Godfrey (S) (D)(0) (S) (D)(0) (resigned 2/10/65) O’Donnell_Executive V.P. until Kondo (D) office eliminated 5117162: Stuhlmaeher, Comptroller oí Ltd.
4/22/65 McKinley Lee (S) (D)(0) (S) (D)(0) Plaintiff V.P. for Perpetual Kondo (D) (S)(D) Care Atty. for O’Donnell (re-Ltd. signed 3/3/66) V.P. & Director of Sales Carter (resigned 9/1/65)

71. After submitting a bid in competition with other cemeteries, Association obtained a 10-year contract with the city and county of Honolulu to provide burial space for indigents to be paid for out of public funds. Moreover, Association has provided space in time of need for those unable to pay the purchase price, and on no occasion has any person been turned away because of lack of funds.

72. Association did not make block sales of graves to organizations. It attempted to prevent speculative sales and printed in red on its sales contract forms that the contract was not purchased for speculation.

73. In the cemetery industry, nonprofit cemetery corporations generally have 'business policies similar to those of for-profit cemetery corporations with respect to prices, management methods, and sales methods. Association was operated by the trustees in a manner generally typical of the operation in the cemetery industry of nonprofit cemetery associations.

74. Statements of revenue and expenses of Association for its fiscal years ended June 30, 1962, through June 30, 1966 (audited), and for the 9-month period ended March 31,1967 (unaudited), are summarized in the following table:

Through 1965 the financial statements include as part of the cost of goods sold the payments due the former stockholders 'under the contract of July 18, 1961; but thereafter little or no deduction was taken for payments due the stockholders. The special item for 1965 in the sum of $83,323 represents an accrual of management fee voted McKinley at the rate of $1,000 per month from July 22,1957.

75. After its acquisition of the cemetery, Association encountered financial difficulties. For the years 1962-1965, it had an excess of expenditures over revenues of approximately $1,000,000 after payments of $1,331,511 to former stockholders. The decrease in net sales and profits during those years was due largely to increased competition and inefficient operation. The increased competition felt by the Association was due primarily to the springing up of two large new park-type cemeteries, Mililani and Valley of the Temples. This was a natural consequence to be anticipated from Limited’s previous profits of 50 percent of gross when there was little or no competition. Valley of the Temples was underselling Association, and Association was losing its salesmen.

The inefficient operation stemmed, in part, from Godfrey’s engagement in numerous outside ventures which took a substantial portion of his time and detracted from his direction of the cemetery’s sales efforts. Abusive sales practices grew up under which Association’s salesmen would write fictitious contracts in order to receive incentive bonuses. Salesmen would also receive commissions and bonuses on “rewritten contracts.” Many sales were made with much lower down payments than had been made by Limited. Primarily as a result of loose sales practices, large amounts of cancellations were recorded. In the fiscal year ended June 30, 1965, cancellations of $1,158,662 were recorded against gross sales of $1,472,667.

76. On February 10, 1965, Godfrey resigned as president of Association at the request of the trustees. A check was given to Godfrey covering the remaining salary due under his contract. Godfrey transferred his interest under the July 18,1961, contract to McKinley for $19,000. The circumstances were as follows: McKinley and the other trustees attempted during 1963 and 1964 to obtain the consent of all the former stockholders to reduce the 40 percent obligation to 35 percent temporarily until reforms could be instituted, but only 60' percent of them would agree, and certain remaining stockholders in the Trousdale and Castle groups declined. Because of the continuing excess of expenditures over revenues, by February 1965, it appeared possible that Association might be unable to continue the payments. But unless 100 percent of the former stockholders concurred in the revision, under the contract upon a default, 51 percent had the right to terminate and take back the property subject to its liabilities.

McKinley needed Godfrey’s contract rights for his group to obtain 51 percent control as against Trousdale’s group. On February 7 or 8, 1965, McKinley requested that Godfrey turn over his contract rights in exchange for a check in the amount of $150,000. Godfrey did not wish to alienate Trous-dale and declined. On Sunday evening, February 9, 1985, McKinley called Godfrey and requested his appearance before the board, and on the following morning the trustees asked for Godfrey’s resignation.

Pursuant to his management contract, Godfrey was to turn over his contract rights to Association in return for his original investment. The board and Godfrey, however, amended the latter’s contract to enable McKinley to acquire Godfrey’s interest. Godfrey then received McKinley’s own check for $19,000 in return for such interest.

77. After Godfrey’s resignation, his assistant, John Powers, also left and went to work for the competing cemetery, Valley of the Temples, taking with him about 80 percent of Association’s sales force. On February 12, 1965, the board appointed an interim executive committee consisting of Lee, O’Donnell and Craig, with Kondo as consultant, to be compensated commensurate with the duties performed but not to exceed $500 per month, with full and complete authority to carry on all administrative functions. At the same meeting, John E. Carter was elected vice president and executive director of sales. Carter was in charge of sales and sales promotion programs until illness necessitated his resignation on September 1,1965.

78. On April 22, 1965, the board of trustees elected Lee president and general manager to be in full charge of the business. The trustees ended the interim executive committee, and Carter continued his position and responsibilities, subject to Lee and the trustees. McKinley recommended Lee for his position for the reasons expressed by McKinley in a letter to Lee, submitted to the board, reading in part as follows:

You and I worked together on this cemetery project long before you met most everyone that later became associated with us in the cemetery project.
You are the third largest former stockholder and now the third largest seller of the cemetery. You are the second largest stockholder of tlie Hawaiian Life Plan.
You have been associated with the cemetery from its inception and have acted not only on the Board of Directors, but as a member of the Executive Committee, as legal counsel, as a trustee and, now, as legal counsel and a member of the Executive Committee of the Association. .
In my opinion you are qualified and you have very graciously accepted, if elected', to act as President of our cemetery association.

79. On July 22,1965, the board of trustees passed a resolution reciting the following:

WHEREAS, Maytor H. McKinley purchased the land for the Hawaiian Memorial Park, set up the organization, guided the operations of the cemetery by master planning and policy making for a period from July 22,1957 to date; and
WHEREAS, for this work Mr. McKinley has not received any compensation in the form of salary, bonuses, or commissions;
NOW, THEREFORE, BE IT RESOLVED, that Mr. McKinley receive compensation retroactively at the rate of $1,000 per month for the period from July 22, 1957 through December 31, 1965, payable one-half now and the balance on June 1,1966; and
BE IT FURTHER RESOLVED, that future compensation from January 1, 1966 shall be paid at the rate of $1,000 per month to Mr. McKinley.

80. For the first full fiscal year of Lee’s administration (the fiscal year ended June 30, 1966), a sales volume of $1,749,711 and a net excess of revenue over expenses of $402,-513 was achieved. This excess of revenues over expenditures was arrived at without the same deduction for the' 40 percent of sales which, was included in cost of goods sold for prior years. It is not clear just how the cost of goods sold for 1966 was computed. In any event, the revised method of accounting resulted in adjusting the July 1, 1965 deficit from $177,231 to $765,146, which deficit was reduced by the $402,-513 net revenue figure to a July 1,1966, deficit of $362,633.

This improvement was largely a result of Lee’s sound management. During this period bonuses were discontinued, higher down payments were received, many expenses were eliminated, sales increased, and cancellations greatly declined. Gross sales for the 9 months ended March 31, 1967, were $1,294,880.

81. The 40 percent payments under the July 18, 1961, agreement were paid quarterly as required by that contract through the payment attributable to the last quarter of 1964, which payment was made in January 1965.

82. The payments made by Association to the stockholders of Limited or their assigns pursuant to the July 18, 1961, agreement up to October 15,1965, were as follows:

1961 _ $73, 615. 50
1962 _ 140,471.10
1963 _ 270,805.50
1964 _ 636, 482. 70
1965 _ 210,136.50
Total _1,331,511.30

Included in the payment made in 1961 was the $3,505.50 paid to plaintiff.

83. Included in Association’s expenditures for years until February 10, 1965, were the payments called for under the July 18, 1961, agreement. Such payments were treated on Association’s books and records and on its tax returns as part of Association’s cost of goods sold for sales made by Association and as basis on accounts receivable as of July 18, 1961.

84. In 1965, the income tax status of Association was being called into question by agents of the Internal Eevenue Service. Association’s trustees determined on February 10, 1965, to suspend further contract payments until its bank debt was reduced and there was a resolution of Association’s tax status.

One of the principal reasons for the suspension was the proposal by the Internal Revenue Service to disallow as a deduction to Association the payments made to the former stockholders, in effect denying a new basis to Association, which it was estimated would give rise to tax liabilities of Association of almost $1,000,000, exclusive of interest. Moreover, it caused the trustees to be concerned because making further payment to the stockholders might, under the circumstances, constitute a breach of their fiduciary obligations.

Another reason for the suspension was that there was some doubt that Association could make tihe payment in any event. Association already owed $316,900 to a bank, which it had borrowed, in part, to make previous payments. Also, the balance sheet in its auditor’s report for fiscal year 1965 showed it to have a $185,042 deficit, which deficit was shortly thereafter adjusted upward to $765,146. There was some reason to believe, however, that the payments could have been continued if “fronting” and other objectionable sales practices had been eliminated, and more efficient management instituted.

85. As of October 15, 1965, an amendment to the July 18, 1961, agreement was entered into with the trustees’ approval. The amendatory agreement recited that certain income tax problems had arisen, making it impracticable for Association to avoid a default. It provided that the consideration to be paid to the sellers by Association will be the fixed sum of $6,000,000 against which the payments theretofore made in the total amount of $1,331,511.30 would be applied, leaving a balance due of $4,668,488.70. Payment of this balance was to be deferred until a determination had been made concerning Association’s federal income tax liabilities, if any, and if there were any such liabilities, payment of taxes was to be made or provided for before recommencing payments to the sellers. Subject to this provision, Association was to pay in quarterly installments, a minimum sum equal to 10 percent of the gross cash receipts on sales of cemetery merchandise and services after December 31, 1964, and such greater amount of the total selling price as the trustees of Association should determine it was able to pay. The agreement was also amended to provide that holders of 45 percent interest of tlie sellers’ rights avouIcI have the right of termination in the event of breach.

86. The following pro forma statement of earnings and expenses shows the revenue and expenses of Association for the year ended-June 31,1966, adjusted to reflect the following assumptions:

' (a) That the agreement dated October 15,1965, amending the original sales agreement dated June 30, 1961, was not in effect.

(b) That contract cancellations be accounted for using a method consistent with that applied in the preparation of the statements of revenue and expenses for the years ended June 30,1965,1964,1963, and 1962; i.e. the direct write off

method.

Revenue:
Gross sales--$1, 749, 711
Less cancellations and provision for cancellations_ 360,469
Net sales_. 1,389,242
Cost of sales- 642,993
Gross profit on sales_ 746,249
Forfeited payments on cancelled installment contracts— 51, 584
Fees and miscellaneous income, less related costs- 60,106
Gross profit_ 857,939
Operating expenses':
Selling expenses_ 415,570
Administrative expenses_ 253, 940
Park maintenance expenses_ 96,116
765,626
Excess of revenue over operating expenses_ 92,313
Other deductions:
Interest _‘- 14,213
Loss on sale of fixed assets_!_ — __ 793
15,006
Excess of revenue over expenses — _ 77,307

87. In plaintiffs’ 1961 federal income tax return, they reported as long-term capital gain the excess of the $3,505.50 payment received from Association over the reported $8,000 cost basis of his stock in Limited.

88. On or about April 9, 1965, plaintiffs received a notice of deficiency from the District Director for the taxable year ending December 31,1961, which letter asserted a deficiency of $1,175.54. In the deficiency letter, the District Director treated the entire proceeds to plaintiff as ordinary income.

89. On May 7,1965, plaintiffs paid to the District Director on account of the above proposed deficiency the sum of .$1,175.54, plus interest in the amount of $215.85.

90. On May 7,1965, plaintiff filed with the District Director a claim for refund of the amount so paid (plus interest thereon), or such greater amount as may be legally refundable, on the ground that the $3,505.50 in question “constituted proceeds from the sale or exchange of a capital asset held for over 6 months and not ordinary income,” which claim for ref und has not been paid.

CONCLUSION OE LAW

Upon the foregoing findings of fact and opinion, which are adopted by the court and made a part of the judgment herein, the court concludes as a matter of law that plaintiffs are not entitled to recover and the petition is dismissed. 
      
      We are indebted to Trial Commissioner Roald A. Hogenson for his findings of fact, which have been adopted in their near entirety, and for his recommended opinion, though we reach a contrary result.
     
      
       Since May McCormac Is a party to this suit only because she signed a joint income tax return with her husband, the singular term “plaintiff” -when use hereinafter will refer only to Scott McCormac.
     
      
       Subsequently, Trousdale refused to so assign his stock.
     
      
       Herman, recommended by McKinley, was an official with the Eastman Kodak Company, and past president of the Honolulu Chamber of Commerce.
     
      
       For chronological tabulation of trustees and officers of Association who bad (and bad not) been stockholders, directors, or officers of Limited, see findings 69 and 70.
     
      
       For a statement of Association’s revenues and expenses for fiscal years 1962 through 1967, see finding 74.
     
      
       The result of the sale-assumption and closed-transaction treatment is that plaintiffs realized approximately $248,430 of long-term capital gain (i.e., the value of plaintiffs’ proportionate share of the contract rights received by the sellers less plaintiffs’ basis in the stock •which they transferred) in the year of transfer. It is readily apparent from this analysis that plaintiffs did not overpay their taxes for 1961.
     
      
       All citations to Code sections hereinafter are in reference to the Internal Revenue Code of 1954.
     
      
       The court explicitly acknowledged that the right possessed by the taxpayer’s mother under the agreement to share in the possible future proceeds had been valued for estate tax purposes and so taxed upon transfer. The distinction was justified by the court on the ground that for estate tax purposes, “[s]ome valuation—speculative or otherwise — was necessary to close the estate.” 283 U.S. at 413.
     
      
      
         Treas. Reg. 74, Article 561 (1928 Act); Treas. Reg. 77, Article 561 (1932 Act); Treas. Reg. 86, Article 111-1 (1934 Act) ; Treas. Reg. 101, Article 111-1 (1938 Act) ; Treas. Reg. 103, § 19.111-1, Treas. Reg. 111, § 29.111-1 and Treas. Reg. 118, § 39.111—1(a) (1939 Code); and Treas. Reg. § 1.1001-1 (a) (1954 Code).
     
      
      
        See, e.g., Burnet v. Logan, supra; Robinette v. Helvering, 318 U.S. 184 (1943) ; Commissioner v. Edwards Drilling Co., 95 F. 2d 719 (5tR Cir. 1938), aff’g 35 B.T.A. 341 (1937), acquiesced in, 1939-1 Cum. Bull. 11; Thomas J. Brant, 13 T.C. 712 (1949), acquiesced in, 1950-1 Cum. Bull. 1. See also, Alexander, Valuation of Intangibles, 20 N.Y.U. Tax Inst. 567, 570 (1962).
     
      
      
         See findings 49 and 50, infra.
      
     
      
      
         Since May McCormac is a party to this suit only because she signed a joint income tax return with her husband, the singular term “plaintiff" when used hereinafter will refer to Scott McCormac.
     