21 T.C. 1029">*1029 Deficiencies in income taxes of petitioners for the years ended December 31, 1945 and 1946, have been determined by respondent in the following amounts:

These deficiencies result 1954 U.S. Tax Ct. LEXIS 250">*251 from respondent's determination that gains from the sales of 50 ¹ houses built by petitioners constituted ordinary income and not long-term capital gains as reported by petitioner.

Petitioners petitioned this Court for a redetermination and we upheld the respondent's position. Albert Winnick, 17 T.C. 538.

The petitioners applied to the United States Court of Appeals for the Sixth Circuit for review of our decision. The Court of Appeals 21 T.C. 1029">*1030 set aside the decision of this Court and remanded the proceeding to us for additional findings of fact concerning the following items:

1. The primary intention of the taxpayer in constructing in 1943 and 1944 the 52 houses herein involved, and whether they were constructed and held at the time of their construction for investment purposes.

2. If not so held for investment purposes, for what purpose were they held in 1943 and 1944.

3. If they were so held for investment purposes, at what time, as nearly as can be ascerained, did such purpose change.

4. The facts, with dates as nearly as can be ascertained, with reference to the purchase or construction 1954 U.S. Tax Ct. LEXIS 250">*252 of the apartment house in which the taxpayer decided to invest the proceeds of sale.

5. A general summary of the terms of the sales of the 52 houses, with reference to cash and deferred payments.

6. The use or disposition by the taxpayer of the proceeds from the sale of the 52 houses.

7. The method of financing the apartment house, used by the taxpayer.

8. The facts relative to the holding, use or disposition by the taxpayer of the apartment house after its acquisition or construction, up to the present time.

In accordance with the instructions of the Court of Appeals, the record has been reopened and the parties have been given the opportunity to present additional evidence and testimony addressed to the questions raised by the court.

SUPPLEMENTAL FINDINGS OF FACT.

Some of the facts were stipulated and they are incorporated by this reference.

The petitioners are individuals residing in Detroit, Michigan, and in the years 1945 and 1946 were equal partners in the Albert Building Company, a partnership. Their individual tax returns and the partnership returns for the years involved were filed with the collector of internal revenue for the district of Michigan.

The petitioner Albert Winnick has 1954 U.S. Tax Ct. LEXIS 250">*253 been engaged in the business of building houses since 1938. Until World War II, he built houses only for sale.

Concurrent with the tremendous industrial expansion which accompanied our entry into World War II, a serious shortage of housing for defense workers occurred in areas of concentrated production such as Detroit. Priorities were allotted to builders to construct housing facilities to alleviate the shortage. These priorities were granted subject to restrictions requiring that the facilities constructed be held for rental to defense workers. The houses involved in this proceeding were subject to these restrictions which were embodied in General Order 60-2 of the National Housing Agency, 24 C. F. R., sec. 702.4 (Cum. Supp.). Without the aid of priorities, it was practically impossible to construct housing facilities during the war period.

21 T.C. 1029">*1031 Liberal financing arrangements encouraged builders to construct defense housing facilities during the period of the critical housing shortage in 1943 and 1944. Such arrangements often allowed the builder loans for the complete cost of construction and land, plus his normal 10 per cent profit. The houses involved in this proceeding were constructed 1954 U.S. Tax Ct. LEXIS 250">*254 with such financing arrangements.

The 50 houses involved in this proceeding were part of a group of 66 houses built on 4 different tracts in or adjacent to Detroit, Michigan, during the years 1943 and 1944.

In the following schedule, the tracts involved, the total number of houses built on each, and the number of houses on each tract involved in this proceeding are as listed:

The houses built on the Curtis Avenue tract were constructed with priorities granted the petitioners in 1943. The houses on the Rutherford Street tract were constructed with priorities granted to, and mortgage loans obtained by, the Bernard Construction Company, a Michigan corporation, owned by Samuel Alper. Alper did not desire to build these houses after obtaining the priorities and made an agreement with Albert Winnick whereby the latter, in return for supervising the construction and the cost of the real estate, was to receive the deeds to the houses and the land. After completion of the houses and payment for the lots, the Bernard Construction Company executed and delivered deeds 1954 U.S. Tax Ct. LEXIS 250">*255 on April 29, 1944, conveying these houses to Ida Winnick. The houses built on Reed and Ruth Streets were constructed with priorities granted to Alwin, Inc. This corporation was organized under the laws of the State of Michigan in 1943 as the Albert Building Company and the name changed to Alwin, Inc., in October 1943. Ida and Albert Winnick were equal stockholders and contributed the $ 12,500 capital of the corporation.

The Kaltz Avenue houses were built with priorities obtained by Joe Tata, Inc., a Michigan corporation, in which Albert Winnick had an undisclosed interest. These houses were conveyed to Ida Winnick by Joe Tata, Inc., on June 29, 1944.

Petitioners invested no capital in the construction of any of the above houses, except for $ 600 per lot for each of the 12 lots on which the houses were constructed on Rutherford Street. The construction costs of these homes were financed by mortgages which covered the complete cost of construction.

21 T.C. 1029">*1032 The following additional houses, not involved in this proceeding, were built and sold by Albert Winnick in the period from 1943 through 1946:

Of the 12 houses built in 1946, Winnick financed the construction 1954 U.S. Tax Ct. LEXIS 250">*256 costs of 9 out of his own capital; 3 were financed with construction loans. Winnick also constructed houses for sale on completion in the years 1947 and 1948. In the years 1949-1950, he built 5 duplex houses which he still held and rented at the time of the reopened hearing.

A recapitulation of the foregoing shows that in the period 1943 to 1946, petitioners built a total of 99 houses. Thirty-three of these were built for sale on completion and are not involved in this proceeding. Of the remaining group of 66 houses constructed by or under the supervision of petitioners pursuant to wartime programs for providing defense housing facilities, 16 were sold on completion: 2 were sold in 1943; 13 were sold in 1944; ² 1 was sold in 1947.

These sales are not involved here. Of the remaining 50 -- all at issue here -- 22 were sold in 1945 before the removal of restrictions on the sale of these houses on October 15, 1945, and 12 more were sold in 1945 following the removal of restrictions. Sixteen were sold in 1946. Of these 50, only 1 had not been sold on the date that petitioner Albert Winnick applied for the loan to construct 1954 U.S. Tax Ct. LEXIS 250">*257 the apartment house, hereinbelow described.

The following schedule lists the years of sale, the terms of sale, and the selling prices of the 50 houses involved here:

21 T.C. 1029">*1033 In March 1946 Albert Winnick acquired 3 contiguous lots in Oakman's Cortland and Ford Highway Subdivision at a cost of $ 1,000 each. Winnick submitted an application on May 23, 1946, to the Connecticut General Life Insurance Company for a mortgage loan in the amount of $ 36,000 to finance the construction of an 8-family terrace apartment building on the 3 lots. A 15-year mortgage, bearing interest at 4 1/2 per cent, in the amount of $ 35,250 was granted on July 19, 1946, on this application. Monthly payments of $ 296.66 were to begin on January 1, 1947. Winnick drew down one-half of the face amount of 1954 U.S. Tax Ct. LEXIS 250">*258 the loan in July 1946 and the balance in November 1946.

The apartment was completed in November 1946 at a cost of $ 43,434.87. The apartments were rented at $ 76.50 per unit per month. The apartment building was sold by Winnick on July 15, 1949, subject to mortgage. The selling price of the building and land was $ 49,500.

Distributed by years during the period 1943 through 1946, petitioners' sales of houses were as follows:

Neither of the petitioners had a real estate license during the years in issue, and the houses involved were sold by real estate brokers. Petitioner Albert Winnick had an active part in managing the properties during the time they were rented and in soliciting prospective purchasers from among the tenants of the 50 houses involved during 1944 and 1945. Newspaper advertisements offering the houses for sale referred prospective purchasers to petitioner or his brokers and "for sale" signs were placed on the property during 1945.

For the year 1945, the Albert Building Company reported $ 23,616.80 in gross rents received from rental houses and claimed $ 1954 U.S. Tax Ct. LEXIS 250">*259 4,091.12 in depreciation, $ 2,827.50 in repairs, and a portion of $ 4,150.33 in taxes on these same rental houses.

For the year 1946, the Albert Building Company reported $ 4,162.50 in gross rents received from rental houses, and claimed $ 171.16 in depreciation and a portion of $ 2,094.15 in taxes, on these same rental houses.

For the year 1945, the Albert Building Company reported gains in the amount of $ 16,939.63 from the sale of 12 houses, which had been rented since completion and upon which the equities were received in 21 T.C. 1029">*1034 full. For the year 1945, the Albert Building Company also reported gains in the amount of $ 25,761.14 from the sale of 21 houses which had been rented since completion and which were sold on the installment basis. Both types of sales were shown as long-term capital gains and 50 per cent of the gain was reported.

For the year 1946, the Albert Building Company reported gains in the amount of $ 12,571.88 from the sale of 8 houses, which had been rented since completion and upon which the equities were received in full. For the same year, the Albert Building Company also reported gains in the amount of $ 2,110.69 from the sale of 9 houses which had been rented since 1954 U.S. Tax Ct. LEXIS 250">*260 completion and which were sold on the installment basis. In addition, the installment profit on rental houses sold in 1945 and reported in 1946, was $ 4,440.66. Both types of sales were shown as long-term capital gains and 50 per cent of the gain was reported.

For the year 1945, the Albert Building Company reported gains on the installment basis from the sales of 23 houses in the amount of $ 7,080.57. These gains were reported in full and were from the sales of non-rented units sold in years prior to 1945.

For the year 1946, the Albert Building Company reported gains on the installment basis from the sales of 23 houses in the amount of $ 5,044.14. These gains were reported in full and were from the sale of non-rented units sold in years prior to 1945.

Alwin, Inc., the corporation wholly owned by petitioners which built the 33 houses on Reed and Ruth Streets, was liquidated in December 1944. On the liquidation of Alwin, petitioner Albert Winnick received in return for his stock the deeds to 22 of the 33 houses. Twenty-one of these 22 are involved in this proceeding. In computing his gain from the sale of the 21 houses, Albert Winnick used as his cost basis the cost of the houses 1954 U.S. Tax Ct. LEXIS 250">*261 on the books of Alwin, Inc. When Alwin was liquidated, the petitioners elected to determine their gain from the transfer of the 22 houses according to the provisions of section 112 (b) (7) of the Internal Revenue Code in reporting their income for 1944. When their individual returns and the final return of Alwin were audited, it was determined by an internal revenue agent that petitioners had realized an ordinary dividend in the amount of $ 5,956.53 on the transfer. Petitioners agreed to the adjustment in their income and paid the resulting deficiency in their taxes for 1944.

Upon the liquidation of Alwin, Inc., petitioners received $ 576.54 in cash and the equivalent of cash, and petitioners assumed unsecured liabilities of Alwin in the amount of $ 4,883.34.

The book value of the assets of Alwin, Inc., which were transferred to petitioners in liquidation of the corporation is as follows: 21 T.C. 1029">*1035

The fair market value of the assets transferred to petitioners on the dissolution of Alwin, together with the outstanding mortgage indebtedness against those assets, 1954 U.S. Tax Ct. LEXIS 250">*262 and the net fair market value of the assets at the date of liquidation, are as follows:

The basis of the various assets received by petitioners upon the liquidation of Alwin is computed as follows:

The sum of $ 22,763.33 allocable among the 22 houses received by Albert Winnick is $ 10,015.87, computed as follows:

$ 21,811.09/$ 49,573.45 X $ 22,763.35, or $ 10,015.87

The portion of the sum of $ 10,015.87 allocable to each of the 21 houses involved in these proceedings is $ 455.27, computed as follows:

$ 10,015.87/22, or $ 455.27

The following schedule is a summary of the amounts of principal unpaid on the mortgages on the 21 houses involved, as of December 15, 1944, the portion of the basis 1954 U.S. Tax Ct. LEXIS 250">*263 of the assets transferred to petitioners which is allocable to each house, the total adjusted basis of each house as of December 15, 1944, the amount of depreciation allowable 21 T.C. 1029">*1036 on each house from December 15, 1944, to the date of sale, and the adjusted basis of each house at the time of sale:

1954 U.S. Tax Ct. LEXIS 250">*264 In addition, petitioners are entitled to an additional deduction for depreciation in the amount of $ 399.48 for the taxable year 1945.

On the basis of the supplemental findings of fact above, we conclude that:

1. The primary intention of the petitioners in building and acquiring the 50 houses involved in this proceeding was to hold them for sale to customers in the ordinary course of their business. That intention was restricted by wartime regulations on defense housing facilities but within the limits permitted by those regulations petitioners continued to carry on their business of constructing houses primarily for sale on completion, and not for investment purposes.

2. The proceeds from the sales of the 50 houses involved cannot be traced with absolute precision on the basis of this record. However, sufficient evidence is in the record to show that the profits from these sales were not the principal source of the capital which financed the construction of the apartment house. That unit was financed principally by a mortgage loan, although a portion of petitioners' receipts and profits from the sales may have been used for the purchase of the land on which it was constructed and 1954 U.S. Tax Ct. LEXIS 250">*265 for a portion of the construction costs.

3. Petitioners are entitled to an adjusted cost basis in determining their gain from the sales of the 21 houses received by Albert Winnick on the dissolution of Alwin, and to an additional deduction for depreciation in the amount of $ 399.48 for the year 1945.

21 T.C. 1029">*1037 SUPPLEMENTAL OPINION.

This proceeding involves deficiencies resulting from the respondent's determination that the profits from the sales of 50 houses built in 1943 and 1944 were ordinary income and not long-term capital gains as contended by petitioner.

Petitioners appealed to the United States Court of Appeals for the Sixth Circuit and the court set aside our determination and remanded the case to us for additional findings of fact to point up the original intention of the petitioners in building or acquiring the houses here in controversy.

We have received additional evidence directed to the questions propounded by the Court of Appeals. The supplemental findings confirm the conclusion and the result of our prior decision. We are convinced, particularly by the supplemental findings, that the original intention of the petitioners in building and acquiring the 50 houses involved here was 1954 U.S. Tax Ct. LEXIS 250">*266 to hold them for sale in the ordinary course of business and not for investment.

Petitioners' case rests largely on the fact that these houses were built pursuant to wartime regulations and restrictions which required them to hold the properties for rental to defense workers. They contend that, in agreeing to abide by these regulations and restrictions, they showed clearly an intent to hold these houses for the investment income provided by rental payments and not for sale purposes.

As we said in our prior opinion, we do not challenge the good faith of petitioners in building these houses with priorities granted to construct rental housing. There is nothing in this record to indicate that petitioners did not comply with the regulations under which the priorities were granted. However, these regulations did not proscribe sales of these houses in all instances. We take judicial notice of the principal regulation here involved, General Order 60-2 of the National Housing Agency, 24 C. F. R., sec. 702.4 (Cum. Supp.). We note, for example, that this regulation permitted sales of these defense housing units to eligible war workers after 4 months' occupancy.

The regulations do not appear 1954 U.S. Tax Ct. LEXIS 250">*267 to have inhibited seriously the petitioners in selling the houses. A total of 66 defense housing units on 4 different tracts were built or acquired by petitioners in 1943 and 1944. More than one-half of the 66 were sold before the restrictions imposed by General Order 60-2, supra, were lifted on October 15, 1945. Twenty-two of the 50 houses here in issue were sold prior to that date. We think that this concentration of sales indicates an intention to dispose of these houses as rapidly as circumstances would permit and refutes petitioners' contention that these housing units were being held primarily for investment purposes.

21 T.C. 1029">*1038 Moreover, our conclusion is strengthened when we look at the overall pattern of petitioners' business in the years preceding 1943, in the period contemporaneous with the building of these defense housing units and in the years subsequent to 1945. Prior to the war, petitioners constructed houses only for sale on completion. During the war years, at the same time that they were building, renting, or selling the defense housing units, they built an additional 21 houses for sale on completion. And, in 1946, and subsequent years they continued to build houses primarily 1954 U.S. Tax Ct. LEXIS 250">*268 for sale on completion. Considering together the sales of defense housing units and the sales of other houses built during these years, petitioners sold 10 houses in 1943, 25 in 1944, 35 in 1945, and 28 in 1946. This pattern is quite consistent with the conclusion that petitioners engaged primarily in the business of constructing houses for sale and not for investment purposes. Finally, in each of the 2 years in controversy, 1945 and 1946, petitioners' income from sales exceeded by a considerable margin their income from rentals. In 1945, rental income was less than one-half the income from sales; in 1946 rental income was less than one-fourth the income from sales. Cf. Walter R. Crabtree, 20 T.C. 841.

Our prior decision in this case turned on our conclusion that at the time the 50 houses involved were sold, they were held primarily for sale to customers in the ordinary course of petitioners' business. We said that the intention of the petitioners at the time the houses were built did not unalterably control their tax status at the time of their disposition, and that the crucial criterion was the purpose for which the properties were held at the time they were sold. (See Carl Marks & Co., 12 T.C. 1196.) 1954 U.S. Tax Ct. LEXIS 250">*269 However, in the light of the additional evidence we have, we conclude that at no time were these houses held for investment purposes. Without participating in the defense housing program and without the aid of the priorities thereby obtained, petitioners' construction business would have been severely cut back during the war years. In addition to this very practical reason for building these houses, there were financial inducements. Liberal mortgages covering the complete cost of the houses and the land, plus the normal builder's profit of 10 per cent, were available to petitioners for building these units. Consequently, they were not required to tie up their own capital in this construction. They were also able to receive a modest income from the rental of these houses while restrictions prevented their sale. Meanwhile, the tenants were contributing toward the reduction of the mortgage indebtedness and increasing petitioners' equity in the houses which would be ultimately realized when the houses were sold.

Having concluded that the 50 houses here in controversy were held at all times primarily for sale in the ordinary course of petitioners' 21 T.C. 1029">*1039 business, it follows that the gains 1954 U.S. Tax Ct. LEXIS 250">*270 from their sales were ordinary income taxable under section 22 (a) of the Internal Revenue Code and not entitled to capital gains treatment under section 117 (j). It is unnecessary for us to follow the proceeds of the sales of the 50 houses further because of the foregoing conclusion. From the evidence in the record, it is impossible for us to trace the proceeds with precision. It is apparent, however, that the principal source of the funds which financed the apartment house was a mortgage in the amount of $ 35,250 granted in July 1946. At the time application for this loan was made, all but one of the houses here involved had been sold. The only expenditure for the construction of the apartment house shown to have been made prior to the date of the application for the loan was the $ 3,000 for the 3 lots on which the apartment was ultimately built.

Petitioners have raised here a question concerning the appropriate basis for determining the gain from the sales of 21 of the houses ³ which were transferred to Albert Winnick when Alwin, Inc., was dissolved on December 15, 1944. Petitioners elected to treat the dissolution under section 112 (b) (7) ^{41954 U.S. Tax Ct. LEXIS 250">*272} 1954 U.S. Tax Ct. LEXIS 250">*273 of the Internal Revenue Code. 1954 U.S. Tax Ct. LEXIS 250">*271 After an audit of their returns for 1944, petitioners were found to have realized an ordinary dividend in the amount of $ 5,956.53. The audit 21 T.C. 1029">*1040 occurred in April 1947 after the returns for 1946 had been filed. The deficiency resulting from the determination made in the audit was agreed to and paid by petitioners.

It is now petitioners' contention that, irrespective of whether we determine that the gain from the sales of the 21 houses was ordinary income or a capital gain, they are entitled to compute their gain on an adjusted cost basis which will allow for the dividend on which they have been taxed, and for the unsecured liabilities which they assumed when they received these houses. This position is founded on the provisions of section 113 (a) (18) ⁵ of the Code which provides a special formula for the determination of an adjusted cost basis for property received upon dissolution under the provisions of section 112 (b) (7). Section 113 (a) (18) provides that when property has been transferred in cancellation of stock with respect to which gain has been recognized under the provisions of section 112 (b) (7), the adjusted basis of the property shall be the same as the basis of the stock which was canceled or redeemed, decreased in the amount of any money received, 1954 U.S. Tax Ct. LEXIS 250">*274 and increased in the amount of gain recognized.

We think that there is merit to the petitioners' argument on this issue. The respondent, while cooperating in the stipulation of the necessary facts to enable the determination of an adjusted basis for the 21 houses involved, nevertheless 1954 U.S. Tax Ct. LEXIS 250">*275 objects to the consideration of this issue on the grounds that it is beyond the scope of the mandate to this Court from the Court of Appeals for the Sixth Circuit. We disagree. We think that this issue is within the scope of the mandate and relevant to the disposition of the central question in the controversy. Accordingly, we have received additional evidence concerning the cost of the 21 houses affected, the depreciation allowed on them, mortgage balances at the time of their transfer to Winnick, and other relevant data to permit effect to be given to petitioners' claim for an adjusted basis for determining the gain from the disposition of these houses in a computation under Rule 50, and also to allow for an additional deduction for depreciation in the year 1945.

Decision will be entered under Rule 50.