69 U.S.P.Q. (BNA) 557">*557 7 T.C. 66">*66 The Commissioner determined a deficiency of $ 3,431.76 in income tax for 1941. The question to be determined is69 U.S.P.Q. (BNA) 557">*558 whether the amount of $ 5,456.58, allegedly expended for legal fees and expenses, or any portion thereof, is deductible from gross income under section 23 (a) (2) of the Internal Revenue Code.

FINDINGS OF FACT.

The petitioner is a resident of Detroit, Michigan. He has been engaged for 35 years in the business of manufacturing springs for automobile seat and back cushions. He is president and general manager of the Falls Spring & Wire Co. of Detroit; of Great Lakes Spring Corporation, of Chicago, Illinois; and Chelsea Spring Co. of Chelsea, Michigan. At one time he was general manager of L. A. YoungSpring & Wire Corporation, a Michigan corporation, 1946 U.S. Tax Ct. LEXIS 161">*163 hereinafter referred to as Young Corporation.

On October 19, 1938, Young Corporation filed a bill in equity in the Circuit Court for the County of Wayne, Michigan, against William A. Falls (petitioner herein), Desire H. Van Hove, Thomas Mahoney, Newton E. Shockey, Mabel C. Ruppert, administratrix of the estate of Albert A. Ruppert, deceased, Elizabeth Burch, alias Lizzie Burch, assignee from and successor trustee to Fred Burch, deceased, Austin G. Van Hove, and General Motors Corporation, a Delaware corporation, for an accounting and to hold all defendants, except General Motors Corporation, as trustees ex maleficio of United States Letters Patent No. 1,793,421, issued February 17, 1931, and No. 1,924,022, issued August 29, 1933, covering improved methods of making seat and back springs for automobile cushions, and the royalty proceeds therefrom.

It was alleged, among other things, by Young Corporation that Falls, Desire H. Van Hove, Mahoney, and Shockey, who, other than its 7 T.C. 66">*67 president, L. A. Young, were the principal officers and executives of Young Corporation during the time of the transactions in question, in breach of their duties as trusted officers and employees, 1946 U.S. Tax Ct. LEXIS 161">*164 fraudulently, maliciously, and intentionally conspired among themselves and with Burch, brother-in-law of Desire H. Van Hove, and Ruppert, trim engineer of General Motors, to deprive it of certain inventions in spring constructions for seat and back cushions and to convert and misappropriate such inventions to their own benefit by using Burch as the pretended inventor; that Burch obtained patents for such inventions and granted manufacturing licenses thereunder to General Motors; that Burch and Elizabeth Burch, as trustees, had collected royalties of approximately $ 181,000 from General Motors and divided such royalties among the defendants, except General Motors. It was also alleged in general that as trusted officers and employees it was the duty of Falls, Van Hove, Mahoney, and Shockey to disclose and make known to Young Corporation all designs, improvements, and inventions pertaining to the spring-manufacturing business and not to appropriate and convert any such designs, improvements, or inventions to their own use and benefit. Young Corporation in its complaint prayed, inter alia, that the court by its decree compel all of the defendants, except General Motors, to execute1946 U.S. Tax Ct. LEXIS 161">*165 and deliver over to Young Corporation the letters patent involved and that all of the defendants account for and pay over to it all moneys, royalties, and other profits collected or received by them and each of them from the exploitation and use of such letters patent.

General Motors, in its cross-complaint and amendments, admitted the royalty agreement with Burch, the payment of royalties to Burch and his wife as trustees, the granting of sublicenses under the Burch patents, and the collection of sublicense royalties in the amount of about $ 88,000, of which about $ 54,000 was collected from Young Corporation. It also admitted the alleged fraud and conspiracy between its trim engineer Ruppert and Young Corporation's executives and it alleged that by reason of such fraud and conspiracy the individuals became trustees ex maleficio for its benefit as to all royalties it had paid to Burch and his wife as trustees. It further alleged that by virtue of an agreement it had the right to the free use of all inventions, discoveries, and patents covering same relating to the construction of seat back and seat bottom springs owned by Young Corporation. It prayed among other things that1946 U.S. Tax Ct. LEXIS 161">*166 the royalty agreements with Burch be canceled, that the Burch patents be assigned to Young Corporation, subject to their use by General Motors free of charge, and for an accounting by Young Corporation and individual defendants.

The defendants answered, admitting the trust agreement between them and Burch and the receipt of a share of the royalties paid by 7 T.C. 66">*68 General Motors, but denied the alleged fraud and conspiracy, and they alleged that Burch was the inventor and lawfully entitled to the patents involved and prayed for the dismissal of the complaint of Young Corporation and the cross-complaint of General Motors for the reason, among others, that before relief could be granted under the complaint and cross-complaint the court would be required to determine whether69 U.S.P.Q. (BNA) 557">*559 George Stackhouse, through whom Young Corporation claimed, or Burch, through whom defendants claimed, was the inventor of the spring construction involved and that such question by law could be determined only by the United States Patent Office or the Federal courts.

On motion the trial court, on December 11, 1939, entered a decree dismissing the complaint of Young Corporation and also the cross-complaint of General1946 U.S. Tax Ct. LEXIS 161">*167 Motors, on the ground that, as the suit involved the issuance and ownership of patents, the state court did not have jurisdiction. On appeal the Supreme Court of Michigan determined that, as the bill of complaint of Young Corporation only incidentally asserted a right under the patent law, the state court had jurisdiction. The order of dismissal was reversed and the case remanded for further proceedings. Young Spring & Wire Corporation v. Falls (June 3, 1940), 293 Mich. 602">293 Mich. 602; 292 N.W. 498.

After a trial extending over a period of about two months the Circuit Court for Wayne County, in chancery, on May 2, 1941, entered its decree dismissing the bill of complaint and amended bills of Young Corporation against all defendants, on the grounds, among others, as appears from its opinion, that, although the evidence showed a commission of fraud on its rights, there was no showing that it had sustained any damages as a result thereof and that it had not sustained its burden of proof to enable the court to say affirmatively that Stackhouse was the real originator of the devices involved. The decree also ordered the dismissal 1946 U.S. Tax Ct. LEXIS 161">*168 of the cross-bills of General Motors against Elizabeth Burch and Austin G. Van Hove and the recovery by General Motors from Mahoney, Falls, Shockey, Desire H. Van Hove, and Mabel G. Ruppert, administratrix, or any of them, of the sum of $ 92,808, the difference between $ 181,210.28, patent royalties General Motors had paid to Burch and his wife, and $ 88,402.28, sublicense royalties which General Motors had collected from Young Corporation and other sublicensees of the patents involved. From such decree Young Corporation and all defendants, except Elizabeth Burch and Austin G. Van Hove, appealed to the Supreme Court of Michigan.

On October 11, 1943, the Supreme Court of Michigan rendered its opinion ( Young Spring & Wire Corporation v. Falls, 307 Mich. 69">307 Mich. 69; 11 N. W. (2d) 329), in which it was held, inter alia, that Stackhouse, employee of Young Corporation, was the first inventor of the cushion 7 T.C. 66">*69 spring construction; that the first Burch patent was obtained through the breach of trust of the defendant executives of Young Corporation; that, accordingly, the first Burch patent rightfully belonged to and was the property1946 U.S. Tax Ct. LEXIS 161">*169 of Young Corporation; and that Elizabeth Burch, as trustee, should execute a proper assignment and transfer the first Burch patent to Young Corporation; that the evidence did not sustain the charge that the second Burch patent had been wrongfully appropriated by using Burch as the pretended inventor; that it was, however, the duty of defendant executives to disclose their information regarding the two Burch spring inventions to their employer, Young Corporation; that they breached their trust and their duties to their employer and should not be permitted to retain the profits of their wrongdoing; that, as General Motors had been induced by the wrongdoing of its employee Ruppert in conspiracy with defendant executives of Young Corporation to enter into the two license agreements with Burch and to pay royalties thereunder, it was equitably entitled to recover from the individual defendants, except Austin G. Van Hove, its actual loss and damage; that the amount of the net profits realized from the two patents by defendants' executives, Ruppert and his estate, and Burch and his wife, was $ 179,210.28 ($ 181,210.28-$ 2,000, expenses of obtaining the two Burch patents); that Mahoney, Falls, 1946 U.S. Tax Ct. LEXIS 161">*170 Shockey, Elizabeth Burch, and Mabel Ruppert, administratrix, held the net royalties or profits of $ 179,210.28 as trustees ex maleficio for the use and benefit of Young Corporation and General Motors; that General Motors was equitably entitled to recover from such defendants its actual loss and damage of $ 92,808 ($ 181,210.28, royalties paid, less $ 88,402.28, amount collected from sublicensees); that Young Corporation was equitably entitled to recover from such individual defendants the amount of $ 86,402.28 ($ 179,210.28-$ 92,808); and that both General Motors and Young Corporation were entitled to recover interest at 5 per cent on the respective sums decreed to them from the date of the entry of the decree until the sums were paid.

On December 23, 1943, the decree of the Supreme Court of Michigan was entered, pursuant to which the first Burch patent was assigned to Young Corporation, at which time it had a value of about $ 4,000.

The second Burch patent, No. 1,924,022, remained the property of Elizabeth Burch and those for whom she was trustee until January 12, 1944, when it was sold for $ 8,139.84 to Great Lakes69 U.S.P.Q. (BNA) 557">*560 Spring Corporation, which corporation on the same date assigned1946 U.S. Tax Ct. LEXIS 161">*171 an undivided one-half interest therein to Falls Spring & Wire Corporation.

On or about June 10, 1941, petitioner paid to his attorney the amount of $ 5,011.58 representing his share of legal expenses, including attorney fees, incurred in the above litigation. On February 14, March 7 T.C. 66">*70 10, and April 3, 1941, petitioner made three payments, aggregating $ 445, representing his share of reporter expenses for daily transcripts of the evidence presented during the trial of the above case.

In his income tax return for the year 1941 petitioner claimed deductions of $ 5,011.58 for attorney fees and $ 445 for cost of having evidence transcribed, both incurred in the above described litigation, or a total of $ 5,456.58, which deductions the Commissioner disallowed. The return was made on the cash basis and was filed with the collector of internal revenue for the district of Michigan.

OPINION.

The Commissioner disallowed the claimed deduction for the reason that the "$ 5,456.58 paid in defense of a patent is a capital expenditure." On brief the Commissioner contends that the expenditures involved were incurred in the defense of an action involving fundamentally an attack on petitioner's1946 U.S. Tax Ct. LEXIS 161">*172 property rights in the Burch patents and, as such, they were incurred in defense of title and do not constitute ordinary and necessary expenses deductible under section 23 (a) of the Internal Revenue Code, as amended by section 121 of the Revenue Act of 1942. The reasonableness of the amounts paid is not questioned.

In the petition it is alleged that the amount of $ 5,456.58 paid for legal expenses in 1941 was incurred in defense of petitioner's right to hold income which had previously been paid to him as royalties for the use of certain patents; that, although plaintiffs in the suit involved also asserted a right to the ownership of certain patents, the main object of the suit was the income; and that, therefore, the entire amount was deductible for 1941 as an ordinary and necessary expense under section 23 (a) (2) of the Internal Revenue Code. However, on brief, petitioner contends that the amount of $ 5,456.58 was paid by petitioner in 1941 as his share of the expenses of a lawsuit which involved two patents of the aggregate value of $ 12,139.84 and the right to retain royalties of $ 181,210.28, received in previous years by petitioner and his associates, and that, therefore, 1946 U.S. Tax Ct. LEXIS 161">*173 93.73 per cent of $ 5,456.58, or $ 5,114.45 is attributable to the defense of income and, as such, is deductible from his 1941 income under section 23 (a) (2), and that 6.27 per cent of $ 5,456.58, or $ 342.13 is attributable to the defense of title and is a capital expenditure, to be added to the cost of the patents.

Clearly the litigation involved title to the so-called Burch patents and it resulted in the transfer of the first Burch patent to Young Corporation and the loss thereof to petitioner and his associates or beneficiaries of the trust of which Burch was trustee, and the retention by them of the second Burch patent. Expenses incurred in the defense 7 T.C. 66">*71 of title to property are not deductible under section 23 (a) (2) of the Internal Revenue Code. Bowers v. Lumpkin, 140 Fed. (2d) 927, and James C. Coughlin, 3 T.C. 420.

Just as clearly the litigation also involved royalties in the amount of $ 181,210.28, representing the total amount of royalties paid by General Motors prior to the commencement of the litigation to Burch or his wife, as trustees, for the benefit of petitioner and his associates or other1946 U.S. Tax Ct. LEXIS 161">*174 beneficiaries of the trust. Such royalties were income to petitioner and his associates when received.

In the alternative, the respondent contends on brief that, assuming that the main object of the litigation was income, the legal fees and expenses are nevertheless not deductible, because no income was produced by the expenditures nor was any collected and, hence, the fees and expenses were not "paid or incurred for the production or collection of income."

Sec. 23 (a) (2). The term "income" for the purpose of section 23 (a) (2) "comprehends not merely income of the taxable year but also income which the taxpayer has realized in a prior taxable year or may realize in subsequent taxable years; and is not confined to recurring income but applies as well to gains from the disposition of property." Committee on Finance Report No. 163, 77th Cong., 2d sess., p. 87; Regulations 111, sec. 29.23 (a)-15. In Trust u/w of Mary Lily ( Flagler) Bingham v. Commissioner, 325 U.S. 365">325 U.S. 365, it was stated:

* * * Section 23 (a) (2) provides for two classes of deductions, expenses "for the production * * * of income" and expenses of "management, conservation or1946 U.S. Tax Ct. LEXIS 161">*175 maintenance of property held for the production of income." To read this section as requiring that expenses be paid for the production of income in order to be deductible, is to make unnecessary and to read69 U.S.P.Q. (BNA) 557">*561 out of the section the provision for the deduction of expenses of management of property held for the production of income.

There is no warrant for such a construction * * *.

The royalties were collected as income and presumably were reported as income by petitioner and his associates in the years in which received. As stated in Estate of Frederick Cecil Bartholomew, 4 T.C. 349, 359 (appeal dismissed, 151 Fed. (2d) 534):

* * * It seems reasonable to hold that any litigation which sought to increase the production of income, or to protect the right to income produced, being produced, or to be produced, or to prevent others from acquiring a right, title, or interest, therein would be proximately related to "the production or collection of income" specified in section 121. * * *

It could not be seriously questioned that, if the licensing of the Burch patents by petitioner and his associates were a business within the meaning1946 U.S. Tax Ct. LEXIS 161">*176 of section 23 (a) (1), expenses incurred in an action for 7 T.C. 66">*72 an accounting would have been deductible as an ordinary and necessary expense of the business. Kornhauser v. United States, 276 U.S. 145">276 U.S. 145, wherein it is stated that:

* * * In the application of the act we are unable to perceive any real distinction between an expenditure for attorney's fees made to secure payment of the earnings of the business and a like expenditure to retain such earnings after their receipt. One is as directly connected with the business as the other.

The respondent also argues that the fees and expenses paid were in the nature of personal expenses, since petitioner was named a party defendant for no other reason than that he was a coconspirator. Although the complaint filed in the suit alleged fraudulent conspiracy, the suit was in no sense a prosecution for a crime or an attempt to impose a penalty. Cf. Harry Wiedetz, 2 T.C. 1262. See Helvering v. Hampton, 79 Fed. (2d) 358; Isaac P. Keeler, 23 B. T. A. 467, cited with approval in Commissioner v. Heininger, 320 U.S. 467">320 U.S. 467,1946 U.S. Tax Ct. LEXIS 161">*177 wherein it is stated that, although a taxpayer who has violated a Federal or a state statute and incurred a fine or penalty is not permitted a tax deduction for its payment, "It has never been thought, however, that the mere fact that an expenditure bears a remote relation to an illegal act makes it nondeductible. The language of Section 23 (a) contains no express reference to the lawful or unlawful character of the business expenses which are declared to be deductible."

A portion of the legal fees and expenses is deductible as an ordinary and necessary expense paid during the taxable year for the production or collection of income under section 23 (a) (2). Because a portion of the legal fees and expenses was paid in defense of title, and therefore is not deductible, does not require the disallowance of the entire amount paid. Helvering v. Stormfeltz, 142 Fed. (2d) 982. See also Edward Mallinckrodt, Jr., 2 T.C. 1128; affd., 146 Fed. (2d) 1, and Estate of Frederick Cecil Bartholomew, supra.The amount of the royalties involved was $ 181,210.28. The first 1946 U.S. Tax Ct. LEXIS 161">*178 patent had a value of approximately $ 4,000 at the time it was transferred to Young Corporation. The second patent in January 1944 was sold for $ 8,139.84. In the absence of evidence indicating what would constitute a more reasonable basis for allocation, the legal fees and expenses of $ 5,456.58 are to be allocated as suggested by petitioner in the proportion that the royalties of $ 181,210.28 and the aggregate value of the patents of $ 12,139.84 each bears to the total of such income and value of patents, 181,210.28/193,350.12 of $ 5,456.58 being allowable as a nonbusiness expense deduction.

Decision will be entered under Rule 50.