This аppeal is from a judgment denying claims for refund of income taxes. The claims were premised on the deducti-bility of worthless loans and consequent loss carryback to the years 1956 through 1959. The sole question presented is whether loans by a taxpayer 1 to a corporation under the stated facts gave rise to *755 business bad debts within the meaning of 26 U.S.C.A. § 166. 2
The stipulated facts disclose that Mr. Kelly operated the Gadsden Mill Works as a sole proprietorship for sеveral years prior to 1958. He incorporated the K. Y. K. Company, Inc. in 1955 but it did not actually begin business until 1957. He owned ninety eight percent of its capital stock and was its president. He transferrеd the assets of his sole proprietorship to the corporation in January 1958 and received 7,500 shares of its capital stock and a note representing an indebtedness of approximately forty thousand dollars in exchange therefor, and thereupon terminated the operation of his proprietorship. The stock had a par value of onе dollar per share.
What operating capital the corporation had, if any, is not disclosed. However, the business conducted by the corporation was the same business whiсh Mr. Kelly had conducted prior to 1958. The corporation showed net operating losses for the fiscal years ending April 30, 1958, 1959 and 1960. These losses were in the amounts of $1,671 in 1958, $152 in 1959 and $172,189.23 in 1960.
The tax returns of аppellants for the years 1955, 1956 and 1957 show no income other than what was derived exclusively from the sole proprietorship operations of Gadsden Mill Works by Mr. Kelly. For the years 1958 and 1959 all of Mr. Kelly’s income was from the corporation. It amounted to $11,384.90 for 1958 and $16,000 for 1959. Both Mr. and Mrs. Kelly received income from the corporation in 1960, Mr. Kelly receiving $2,228.90, and Mrs. Kelly receiving $1, 425. Mr. Kelly also received a small sum as a teacher in the Huntsville Public-schools.
Beginning in July, 1958 and ending in June, 1960, Mr. Kelly advanced, at various times, an aggregate of over $66,000' to the corporation, all оf which became a worthless debt. This was over and above the original note taken along with the stock for the assets of Gadsden Mill Works. The corporation could not have continued in business during 1959 had it not been for these loans extended by the taxpayer. It became insolvent not. later than April 30, 1960. There was no-evidence that Mr. Kelly invested in the-stock of, or made loans to, any other corporation. He devoted all of his time to, his employment by the corporation.
The District Court ruled that the-loans constituted nonbusiness bad debts, within the meaning of thе statute. We-agree. The burden was on the taxpayer to show that he was entitled to the claimed deductions, i. e., that he was engaged in a trade or business, and that the debt in question was incurred in connection with that trade or business. His business is to be distinguished from that of the corporation, and the debt must bear a proximate relationship to his trade or business. See United States v. Byсk, 5 Cir., 1963,
It is settled that loans by a controlling shareholder to his closely held corporation generally give rise to non-business debts. This is because an investor is not engaged in a trade or business. An еxception is where the shareholder can establish his business as being-
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that of promoting, managing and financing corporations. No such claim was made here. See Whipple v. Commissioner, 5 Cir., 1962,
“Even if the taxpayer demonstrates an independent trade or business of his own, care must be taken to distinguish bad debt losses arising from his own business and those actually arising from activities peculiar to an investor concerned with, and participating in, the conduct of the corporate business.”
Appellants place their main reliance on Trent v. Commissioner, 2 Cir., 1961,
It is argued that here Mr. Kelly made the advanсes to save his job. This is said to follow from the proposition that the loans and resultant debt were made in connection with and proximately related to his trade or business as an employee of the corporation. Thus the nonqualification of the debt because of the infirmity of its having arisen from loans made by an investor furnishing management to a corporatiоn would not matter, if there existed another basis for qualification.
The Supreme Court observed in the Whipple case that it was not necessary to consider Trent and related cases in reaching its decision, but did note the limitation of Trent to a minority stockholder seeking to save his job, or some other proximate relation to maintaining his trade or business as an emрloyee. This treatment does, however, lend credence to the underlying rationale of Trent that a corporate employee is engaged in a trade or business in his capacity of employment.
The latest chapter in the Trent doctrine involved a majority stockholder serving as president of a closely held corporation, and receiving a substantial salary just as is the case here. Weddle v. Commissioner, 1962,
It appears then that the only problem under facts such as those here presented of loans by a majority stockholder-employee to the corporation is to dеtermine whether the debt qualifies as trade or business incurred on any statutory basis, and this depends on the motivation of the taxpayer in making the loans which created the debt.
Mr. Kelly was the controlling stockholder with a substantial investment in the corporation as compared to the salary received. The proof falls short of showing the loans to have been proximate to his business of being an employee of the corporation under either of the standards asserted by the Second Circuit in Weddle. What the proof does show, on the other hand, is that the loans were made as an investment or to protect an investment, and only indirectly to saving Mr. Kelly’s job through saving the investment. This type situation falls under the investor doctrine of Whipple. Cf. Byck, supra.
Affirmed.
Notes
. Mrs. Kelly is a party by reason of a joint tax return having been filed. She took no part in the business activity here involved.
. Ҥ 166. Bad debts
“(a) General rule.—
“(1) Wholly worthless debts. — There shall be allowed as a deduction any debt which becomes worthless within the taxable year.
* s¡: :¡: * #
“(d) Nonbusiness debts.- — ■
“(1) General rule. — In the case of a taxpayer other than a corporation—
“(A) subsections (a) * * * shall not apply to any nоnbusiness debt; and
“(B) where any nonbusiness debt becomes worthless within the taxable year, the loss resulting therefrom shall be considered a loss from the sale or exchange, during' the taxable yeаr, of a capital asset held for not more than 6 months.
“(2) Nonbusiness debt defined. — For purposes of paragraph (1), the term “non-business debt” means a debt other than—
“(A) a debt created or acquired (as the-case may be) in connection with a trade- or business of the taxpayer; or
“(B) a debt the loss from the worthlessness of which is incurred in the taxpayer’s business.”