asserts that he has consistently held that a lessee is not entitled to an allowance for depreciation *** but, if a leasehold was acquired for business purposes, the purchaser has been allowed as a deduction in his income tax return an aliquot part of the purchase price each year, based on the number of years the lease has to run. *** This concession is artificial and does not recognize the right conferred upon the taxpayer by the revenue acts. It does not concede the taxpayer the right of exhaustion which is his under the law. ✦✦✦ When money is used to purchase a class of property designated as a leasehold, it is nevertheless a capital investment and can not be classified as an advance payment on rent. [Emphasis supplied.]

Notwithstanding our holding in the Atterbury case, the respondent has in all of his subsequent regulations retained the provision regarding leaseholds substantially as set out in our footnote 4, supra. As an explanation of this it may be observed that in reality, from a pure deduction standpoint, it makes no difference in tax liability whether a deduction from gross income is called a business expense and allowed under section 162 or depreciation and allowed under section 167. In fact, the cases show that the term given the allowance has been indiscriminately referred to sometimes as expense or amortization and at other times as exhaustion or depreciation. Nevertheless, we think when Congress enacted section 1239 of the 1954 Code and its counterpart in section 328 of the Revenue Act of 1951, referred to previously herein, it fully intended to cover situations such as we have here. As stated by the court in Emery v. Commissioner, 166 F. 2d 27, 30 (C.A. 2, 1948):

8

The key concept in construing a statute is, of course, what we call the legislature's intention; and "that intention is to be ascertained, not by taking the word or clause in question from its setting and viewing it apart, but by considering it in connection with the context, the general purposes of the statute in which it is found, the occasion and circumstances of its use, and other appropriate tests for the ascertainment of the legislative will." Helvering v. Stockholms Enskilda Bank, 293 U.S. 84, 93, 94, 55 S. Ct. 50, 54, 79 L. Ed.

211.

Therefore, when Congress, in section 1239 (b), footnote 1, supra, referred to "property of a character which is subject to the allowance for depreciation" we think that by using the word "character" it intended to include leasehold property of the kind we have here. The phrase just quoted has appeared in other parts of our revenue

See art. 109 of Regs. 62; art. 110 of Regs. 65 and 69; art. 130 of Regs. 74 and 77; art. 23(a)-10 of Regs. 86, 94, and 101; sec. 19.23 (a)-10 of Regs. 103; sec. 29.23 (a)–10 of Regs. 111; and sec. 39.23 (a)-10 of Regs. 118.

Fort Wharf Ice Co., 23 T.C. 202.

Powell Coal Co., 12 B.T.A. 492, 498 (issue 2); Minneapolis Security Building Corporation, 38 B.T.A. 1220; Century Electric Co., 15 T.C. 581, 595, affd. 192 F. 2d 155 (C.A. 8, 1951), certiorari denied 342 U.S. 954. In the latter case the Eighth Circuit court said: "What the petitioner has done is to exchange the foundry property having an adjusted basis of $531,710.97 on December 1, 1943, for a leasehold and $150,000 in cash. capital investment is in the leasehold and not its constituent properties. Accordingly, we agree with the Tax Court that petitioner is entitled to depreciation on the leasehold. The basis for depreciation of the leasehold on December 1, 1943, is, therefore, $381,710.97 under section 113 (a) (6) of the revenue code, deductible over the term of the lease."

Its

statutes. In defining the term "capital assets" in section 117(a)(1) of the Revenue Act of 1938, Congress provided that the term did not include "property, used in the trade or business, of a character which is subject to the allowance for depreciation." (Emphasis supplied.) In John D. Fackler, 45 B.T.A. 708, affd. 133 F. 2d 509, 512 (C.A. 6, .943), we held that a certain leasehold was not a capital asset because it was "property, used in the trade or business, of a character which is subject to the allowance for depreciation." (Emphasis supplied.) If the leasehold involved in the Fackler case was property "of a character which is subject to the allowance for depreciation" as that phrase was used in section 117(a) (1) of the Revenue Act of 1938, we know of no reason why the leasehold here involved should not likewise be considered as property "of a character which is subject to the allowance for depreciation" as that phrase is used in section 1239 (b) of the 1954 Code.

We can see no practical difference in principle between an allowance for the exhaustion of a leasehold and one for the exhaustion of a patent. And yet the Commissioner has seen fit to construe the allowance for exhaustion of a leasehold as amortization under section 162 10 and the exhaustion of a patent as depreciation under section 167.11 In Royce Kershaw, 34 T.C. 453, we held that the gain from the sale in 1956 of a patent by the taxpayer to a family-owned corporation was taxable as ordinary income by operation of section 1239, supra. We think the same holding should be made as to the gain. from the sale of a leasehold, as in the instant case, having previously held that a leasehold is "property of a character which is subject to the allowance for depreciation." John D. Fackler, supra;

Grosvenor Atterbury, supra.

We, therefore, hold that the gain of $30,000 realized by petitioners in 1956 is taxable to them as ordinary income by operation of section 1239 of the Internal Revenue Code of 1954 rather than as long-term capital gain as reported by them in their income tax return. Because of the stipulated issue,

Reviewed by the Court.

In our Opinion we said:

Decision will be entered under Rule 50.

"In view of the foregoing, it is our opinion that the use made by the petitioner of the leasehold in 1938 brings it within the meaning of property 'used in the trade or business' as that phrase is employed in section 117(a) (1) and 23(1) of the Revenue Act of 1938 and that it is property of a character subject to the allowance for depreciation provided in the latter section. It accordingly follows that the leasehold was not a capital asset within the definition of section 117(a)(1) and that taxation of the gain resulting from the sale thereof is not controlled by the capital gain provisions of the act." (Emphasis supplied.)

10 See footnote 4.

11 Sec. 1.167 (a)–3 of the Income Tax Regulations provides:

"If an intangible asset is known from experience or other factors to be of use in the business or in the production of income for only a limited period, the length of which can be estimated with reasonable accuracy, such an intangible asset may be the subject of a depreciation allowance. Examples are patents and copyrights. •

ESTATE OF GRACE M. SCHARF, DECEASED, CHARLES E. SCHARF AND ARTHUR A. SCHARF, COEXECUTORS, ET AL.,1 PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket Nos. 71277, 71317, 71318. Filed April 6, 1962.

1. Amounts received from transfer of membership certificates in a not-for-profit charitable corporation are not long-term capital gains since such certificates are not property which was sold, the substance of the transaction being a distribution to the transferors of the membership certificates of assets of the charitable corporation.

2. The beneficial interest in a note received by two of petitioners was property with a fair market value of the face amount thereof and was a cash equivalent includible in the income of these petitioners in the year the note was received.

3. Addition to tax of one of petitioners for substantial underestimation of estimated tax sustained.

Lawrence J. Hayes, Esq., for the petitioner in Docket No. 71277. James A. Dunkin, Esq., for the petitioners in Docket Nos. 71317 James T. Wilkes, Jr., Esq., for the respondent.

SCOTT, Judge: Respondent determined deficiencies in petitioners' income tax and additions to tax for the year 1953 as follows:

(1) Whether amounts received upon transfer of membership certificates in the Belmont Community Hospital Association constituted capital gains as reported by petitioners or ordinary income as determined by respondent.

(2) As to the latter two petitioners, if the amounts received were capital gains, whether portions thereof were short-term capital gains. (3) As to the latter two petitioners, cash basis taxpayers, whether a 4-percent first mortgage note received by them in 1953 constituted income in that year.

(4) Whether the first-named petitioner is liable for the addition to tax under section 294(d) (2) of the Internal Revenue Code of 1939 for substantial underestimation of tax liability.

1 Proceedings of the following petitioners are consolidated herewith: Arthur H. Hauber and Phyllis Hauber, Docket No. 71317, and Urban V. Comes and Alice T. Comes, Docket No. 71318. By order of this Court dated April 3, 1962, Estate of Grace M. Scharf, Deceased, Charles E. Scharf and Arthur A. Scharf, Coexecutors, was substituted as petitioner in Docket No. 71277.

• Unless otherwise noted, all references are to the Internal Revenue Code of 1989.

FINDINGS OF FACT.

Some of the facts have been stipulated and are so found. Petitioner Grace M. Scharf (Grace) filed her 1953 cash basis Federal income tax return with the district director of internal revenue for the first district of Illinois. She is the widow of Charles E. Scharf, who was a doctor of medicine. Grace is not a doctor of medicine. Petitioners Arthur H. Hauber (hereinafter referred to as Hauber) and Phyllis Hauber are husband and wife. They filed their joint 1953 Federal income tax return with the district director of internal revenue for the first district of Illinois. Petitioners Urban V. Comes (hereinafter referred to as Comes) and Alice T. Comes are husband and wife. They filed their joint 1953 Federal income tax return with the district director of internal revenue for the first district of Illinois.

Hauber and Comes both report their income on the cash receipts and disbursements basis and both were doctors of medicine at all relevant times.

On June 23, 1938, Hauber, Comes, the late Charles E. Scharf, Stanley F. Price, M.D. (Price), and Geary V. Stibgen (an attorney) were issued the five original membership certificates in Belmont Community Hospital Association (hereinafter referred to as Belmont). Belmont was organized on June 18, 1938, as a not-for-profit corporation under the laws of the State of Illinois. Upon its organization, it took over the business and assets of Belmont Hospital, Inc., in exchange for bonds. Belmont Hospital, Inc., was an Illinois business corporation which operated from 1927 to sometime in June of 1938. The controlling stockholders of Belmont Hospital, Inc., were: Charles E. Scharf, Comes, Hauber, and Price. The charter of Belmont provided that the object for which it was formed was as follows:

To establish, own, operate, control, conduct and maintain, not for pecuniary profit, but exclusively for charitable purposes, any one or more of the following: a) A general hospital to provide facilities for the care and treatment of human diseases and ailments of every kind and nature and sick, infirm, indigent, injured and disabled persons of every creed and nationality, excepting the care of neglected and dependent children, said hospital to be known under the name and style of "BELMONT HOSPITAL", at number 4058 West Melrose Street, in the City of Chicago, Cook County, Illinois; b) a training school for nurses; c) A medical, pharmaceutical biological and chemical laboratory or laboratories, to be used in conjunction with the careful and efficient management and operation of a general hospital; 2. To render by all means necessary or expedient, comprehensive and complete service to physicians, surgeons, hospitals and public, private and charitable institutions; 3. To equip and maintain private hospital beds, rooms and wards in said hospital for the use of charity patients; 4. To study, advance and promote the science of medicine and surgery, and pathological, biological, chemical and clinical research; 5. To assist and instruct students of medicine and surgery; 6. To render complete hospital service to meritorious persons incapable of paying for either all or part of such service;

7. To own, operate, maintain, control and conduct said “BELMONT HOSPITAL" as a charitable institution and not for pecuniary profit with a view toward conferring upon the public as much benefit as is consistent with the proper operation, management and control of said institution.

Belmont's bylaws contained, insofar as here pertinent, the following provisions with respect to membership:

ARTICLE II

MEMBERSHIP

Section 1. Membership. Membership shall consist of one class, to be designated as regular and shall be limited as to number to five members.

Section 2. Election of Members. All persons of good moral character and other wise qualified under the By-Laws, rules and regulations of the Corporation shall be eligible to election to membership in the corporation. No person shall be elected to membership except upon his written application for membership signed by the applicant specifying his residence, occupation and such other facts as may from time to time be called for by the Board of Trustees. The application shall be made and submitted to the Board of Trustees and shall be approved by a majority of the Board. Any person elected to membership shall become a member only upon the actual transfer to such person of an existing membership and upon payment of such fees as may then be and become payable by him as a member.

Section 3. Transfers of Memberships. Any regular membership shall be subject to transfer under the following conditions:-Any such member in good standing may file with the Board of Trustees, an application for such transfer and may indicate therein the name of a person to whom he desires to transfer such membership, in which event he shall file therewith the written application of such person and such application for membership shall be acted upon in the usual way. If such application is accepted and the applicant elected to membership then the member so desiring to transfer his membership may assign the same to such newly elected member upon payment to the corporation of the transfer fee prescribed by the By-Laws, provided all indebtedness accruing against such membership shall have been paid. If a member desiring to transfer his membership shall not submit the application of the proposed transferee then the Board of Trustees, may under like condition transfer the membership to the first person who may thereafter be elected to membership other than one who shall be elected to take a designated transferred membership. Until the election of a new member and the actual transfer of a membership to such applicant under the terms hereof, the holder of any membership shall continue as a member of the corporation. The duties, obligations, rights and privileges of a member shall continue until the actual transfer of this membership and the filing of an application for transfer shall not stop or prevent any proceedings for the suspension or expulsion of such member.

Section 4. If a resignation from membership is offered by any member, the Board of Trustees, in its discretion, may accept or reject the same under such terms and conditions as may be imposed by the Board; when so accepted and all such terms and conditions are complied with, the membership shall be deemed transferred to the corporation.

Section 5. Upon the death of any member, the membership shall pass to the personal representatives, heirs or legatees of the deceased member, but without any rights or privileges except only the right of transfer to a duly elected applicant for membership under all the provisions of the By-Laws or other rules and regulations as may be in force at the time.