27 T.C. 671">*672 This proceeding involves the following deficiencies in tax:

The issues to be decided are: (1) Whether the respondent erred in his determination of the fair market value of certain closely held corporate common stock, owned by decedent, Thomas W. Tebb, at the time of his death; (2) whether the shares of such stock, which were received by petitioners, Fred R. and Neal A. Tebb, upon decedent's death, constituted taxable income to them; and (3) whether petitioner 1957 U.S. Tax Ct. LEXIS 281">*283 estate was entitled to the marital deduction as claimed by it on the estate tax return for the interest in decedent's estate which passed to his wife.

Concessions were made with respect to other issues which will be taken into account in a Rule 50 computation.

Some of the facts were stipulated.

GENERAL FINDINGS OF FACT.

The stipulated facts are so found and are incorporated herein by this reference.

Thomas W. Tebb (hereinafter referred to as the decedent) died testate, a resident of Sumner, Washington, on June 28, 1950. His widow, Grace Tebb, is the executrix of his estate. Fred R. and Neal A. Tebb were decedent's sons. Fred and his wife, Claire F. Tebb, were residents of Sumner, Washington, in 1950; Neal and his wife, Helen R. Tebb, were residents of Sumner, Washington. The Federal estate tax return and the joint income tax returns of the individual petitioners for 1950 were filed with the former collector of internal revenue for the district of Washington.

Fair Market Value of Pacific Stock.

FINDINGS OF FACT.

At the time of his death, and for a number of years prior thereto, decedent was president of Pacific Lumber Agency (hereinafter referred to as Pacific), a Washington corporation 1957 U.S. Tax Ct. LEXIS 281">*284 organized in 1910. Its place of business was located in Sumner, Washington. Pacific's authorized capital stock consisted of 1,500 shares of $ 100-par-value common stock, which was the only class of stock issued and outstanding. During 1940 and 1941, it had 668 shares outstanding. In 1942 and 1943 it had 750 shares outstanding. In 1944 the issued and outstanding 27 T.C. 671">*673 stock was increased to 1,500 shares by the payment in that year of a stock dividend of 750 shares. Prior to the decedent's death on June 28, 1950, Pacific's stock was held as follows:

Pacific's business was the so-called remanufacture of lumber, which involved drying, regrading, dressing, and resawing cut lumber to the specific size and shapes required to fill its orders. About 85 per cent of its production was Sitka spruce products. Pacific neither owned nor controlled timberlands. Its lumber supply was obtained from primary lumber producers and was purchased in the open, competitive market. While the primary producers of 1957 U.S. Tax Ct. LEXIS 281">*285 Sitka spruce lumber preferred not to market such lumber in a remanufactured state, nothing was done by Pacific in the remanufacture of such lumber which could not have been done by others who did some lumber remanufacturing but who did not specialize in remanufacturing as such.

Pacific sold its products on a competitive basis in the open market, directly and through retail and wholesale distributors located in the midwestern and eastern portions of the United States. Pacific's principal customers were industrial users of Sitka spruce products such as manufacturers of airplane materials, overhead door companies, furniture concerns, ladder manufacturers, sash and door makers, and others. Pacific established and maintained contact with its customers through personal trips by its officers or employees, and by telephone, telegraph, and letter. Many of Pacific's regular customers had been doing business with it for many years prior to 1950. Some of Pacific's customers purchased a portion of the remanufactured lumber used by them from sources other than Pacific.

Pacific's business was built up over a long period of time by decedent and his sons, petitioners Fred R. and Neal A. Tebb. At 1957 U.S. Tax Ct. LEXIS 281">*286 the time of his death, decedent had been in the lumber business for more than 50 years and had been associated with Pacific for a great portion of that time. Fred was associated continuously with Pacific since 1923 and Neal since 1941.

For a 2- or 3-year period immediately preceding 1940, one Walter Wiebenson owned the majority of Pacific's stock, which he had acquired from an estate. During that period he directed the management of Pacific. He had had no prior experience in the lumber 27 T.C. 671">*674 business and under his management the business experienced a marked decline. As a consequence, Wiebenson, during 1939, disposed of his stock and severed his connection with Pacific. Thereupon the business again came under the experienced management of the Tebbs and began to improve.

Pacific's physical assets comprised 12 acres of land and certain buildings thereon in Sumner, Washington, including 6 dry kilns with boiler and facilities appurtenant thereto, planing mill, ripsaw, machinery and equipment, and sorting tables. Pacific did not operate an ordinary sawmill and was not equipped to handle logs.

Following is a statement of Pacific's net sales, net profit before deduction of Federal income tax, 1957 U.S. Tax Ct. LEXIS 281">*287 percentage of net profit to net sales, earnings after deduction of Federal income taxes, and earnings per share after deduction of Federal income tax for the indicated years:

Pacific paid the following salaries to its officer-stockholders during the indicated years:

The 1957 U.S. Tax Ct. LEXIS 281">*288 book value per share of Pacific's stock at the end of indicated years was as follows:

27 T.C. 671">*675 Following is a statement of the total dividends paid by Pacific, and the rate of return which such dividends represented on outstanding capital invested in the company during the indicated years:

At the time of the decedent's death, June 28, 1950, Pacific's business was well established and had favorable prospects for the future. Prior to decedent's death, as well as since, all of Pacific's stock was held by members of the Tebb family. Pacific's stock was never listed on any exchange, nor quoted for sale through security brokers. There were no arm's-length sales of the stock 1957 U.S. Tax Ct. LEXIS 281">*289 within recent years.

The 511 shares of stock in Pacific owned by the decedent at the time of his death were reported in the estate tax return by his estate at a fair market value of $ 100.77 per share. The respondent determined that the stock had a value of $ 146 per share at the time of the decedent's death.

OPINION.

The valuation of corporate stock which is closely held by members of a single family is a question of fact.

The petitioners selected the book value of the stock at the close of 1949 as the fair market value on the date of decedent's death some 6 months later. We think they have entirely failed to show that such book value should be substituted for the respondent's determination. Reliance solely on the book value of the stock means that such other important relevant factors as the nature and history of the business, the general economic outlook at the valuation date and, most important, the earnings of the business have been ignored. Pacific's earnings in relation to the total stock outstanding were remarkably good. The respondent obviously took that fact, as well as others, into consideration in making his determination of $ 146 per share. On the basis of the earning 1957 U.S. Tax Ct. LEXIS 281">*290 record of the company and all the other evidence of record, 27 T.C. 671">*676 we conclude that the respondent did not err in determining the fair market value of Pacific's stock to be $ 146 per share on the valuation date.

Taxability of Shares of Pacific Stock Received by Fred R. and Neal A. Tebb.

FINDINGS OF FACT.

Decedent's first wife, the mother of petitioners Fred R. and Neal A. Tebb, died in 1942 or 1943.

From about 1941 until the end of 1948 or early in 1949 when he became totally inactive in Pacific's management, decedent participated less and less in the conduct of its affairs. Fred, after 1940, and Neal, after 1941, were increasingly active in the control and operation of the company. Decedent, however, until his death, was president of Pacific and received a salary as such.

For some years prior to 1948, decedent had expressed his intention of bequeathing his Pacific stock to his sons, Fred and Neal. During those years, he had executed various wills which provided that the stock should go to them upon his death.

In 1946 or 1947 the decedent contemplated marriage with a woman other than Grace Tebb. Because he wished his sons to have the majority of his Pacific stock and that there would be no 1957 U.S. Tax Ct. LEXIS 281">*291 dispute with his surviving widow concerning the stock, decedent had a trust instrument prepared in which a bank was named trustee and under the terms of which he would place the 511 shares of stock then owned by him in trust for the benefit of his sons, Fred and Neal, his daughters, Mary R. Tebb and Alice Virginia Kohl, and his daughter-in-law, Ella Reese Tebb. The contemplated marriage was never consummated and the decedent never executed the proposed trust agreement.

Late in 1948, decedent decided to marry Grace Tebb. He discussed his plans with Fred and Neal, and again, for the reasons which prompted the drafting of the aforementioned trust, decedent and his sons executed a letter agreement on December 9, 1948, ^{21957 U.S. Tax Ct. LEXIS 281">*292 1957 U.S. Tax Ct. LEXIS 281">*293 1957 U.S. Tax Ct. LEXIS 281">*294 1957 U.S. Tax Ct. LEXIS 281">*295} which provided 27 T.C. 671">*677 in essence that decedent wished his sons to continue Pacific's business and that at his death he wished to make gifts of his 511 shares of stock as follows:

The sons agreed to continue their association with Pacific and decedent agreed to deposit the shares with an attorney, as escrow agent. Decedent also was to retain all voting and dividend rights during his lifetime.

The decedent, prior to his marriage to Grace Tebb on December 15, 1948, endorsed the stock certificates in blank and transferred them to the escrow holder under the letter agreement of December 9, 1948. Fred and Neal continued in the employment of Pacific and rendered faithful and diligent service to it until the decedent's death on June 28, 27 T.C. 671">*678 1950. On that date, the escrow holder, in accordance with the agreement, delivered certificates for 230 shares of stock to Fred and certificates for 230 shares to Neal.

Grace Tebb, neither as executrix of the decedent's estate nor as beneficiary of the residuary portion of the estate, made any claim or asserted any title or right to the shares of Pacific stock which Fred and Neal received from the escrow holder. Those shares of stock were not included in the inventory and appraisement of decedent's estate filed in the Superior Court of the State of Washington for Pierce County.

In the inheritance tax return filed by the executrix with 1957 U.S. Tax Ct. LEXIS 281">*296 the State of Washington for the estate of the decedent, the 511 shares of Pacific stock covered by the agreement of December 9, 1948, were included as a part of the decedent's estate.

In the Federal estate tax return filed for the decedent's estate, the 511 shares of stock were reported as a transfer made during decedent's life and were included as a part of his estate. The following statement was made on the return: "It is conceded that the subject matter of this transfer is taxable in the estate of the decedent." In determining the deficiency in estate tax involved herein, the respondent made no change in the treatment accorded the stock except to determine a value therefor of $ 146 per share at the time of the decedent's death instead of $ 100.77 per share at which it was reported on the return.

In determining the deficiencies in income tax for 1950 of Fred R. and Claire F. Tebb and Neal A. and Helen R. Tebb, the respondent determined that the agreement of December 9, 1948, was an enforceable agreement; that the shares of stock in Pacific which Fred and Neal received from the escrow holder were received pursuant to that agreement; that the stock constituted compensation to them 1957 U.S. Tax Ct. LEXIS 281">*297 and accordingly increased the incomes of Fred and Neal by $ 33,580 each, representing the value he determined for the 230 shares of Pacific stock which each received.

OPINION.

Petitioners contend that the transfer of decedent's Pacific stock was a testamentary disposition thereof and that the value of such shares was properly included in the inventory of the estate assets as required by section 811 (c)^{31957 U.S. Tax Ct. LEXIS 281">*299} and, therefore, that the value of such shares is excludible from the income of Fred and Neal under the provisions of 27 T.C. 671">*679 section 22 (b) (3). ^{41957 U.S. Tax Ct. LEXIS 281">*300} We think the facts disclosed by the record before us amply support the petitioners' contention. Decedent, for some years prior to his death, had repeatedly expressed his intention of bequeathing his Pacific stock to Fred and Neal. So great was his desire that his stock pass to his two sons that he, twice, prepared instruments transferring the shares to them, other than by will, so that there would be no controversy with his surviving widow. The second of those instruments is the letter agreement by which the shares did pass to Fred and Neal. But the fact that the shares passed to them by virtue of that agreement, rather than by provision of 1957 U.S. Tax Ct. LEXIS 281">*298 decedent's will, nonetheless makes the transfer a testamentary disposition of the stock.

Clearly, there was no bona fide sale of the shares for an adequate and full consideration in money or money's worth within the meaning of the statute. As we noted in Estate of John M. Goetchius, 17 T.C. 495, 503 (1951):

that * * * phrase * * * means that there must be the kind of consideration which in an arm's length business transaction provides the transferor of property with the full value thereof, in exchange; and that if the consideration is not paid in money, property, or services, but is represented by some benefit, then the benefit must be of the equivalent money value in order to constitute the required "adequate and full consideration." * * * Accordingly, the exemption from tax is limited to those transfers of property where the transferor or donor has received benefit in full consideration in a genuine arm's length transaction; and the exemption is not to be allowed in a case where there is only contractual 27 T.C. 671">*680 consideration but not "adequate and full consideration in money or money's worth." * * *

We can find no arm's-length transaction here, but only decedent's intent to give1957 U.S. Tax Ct. LEXIS 281">*301 the shares of his stock to his children in such a way that there would be no contest over the ownership of such shares between them and his widow. We therefore conclude that the estate properly included the stock in the inventory of decedent's assets and that respondent erred in determining that the value thereof constituted additional income to Fred and Neal in 1950.

Marital Deduction.

FINDINGS OF FACT.

Decedent was 79 years of age when he married Grace Tebb, who survived him. On November 18, 1949, the decedent executed a will which provided for the administration and disposition of his estate as follows:

First: I hereby direct the payment of all just debts and funeral expenses.

Second: I give and bequeath to my son Arthur Tebb, the sum of Five Hundred Dollars.

Third: I give and bequeath to my grandchildren, namely, Mollie Kohl, Allan Kohl, Gordon Tebb and Mariella Tebb the sum of Five Hundred Dollars each.

Fourth: I give, devise and bequeath to Ella Tebb [daughter-in-law], the following described real estate situated in Sumner, Pierce County, Washington:

West one half of Lots Six (6) and (7), Block Two (2), Meeker Homestead Tract, an addition to Sumner, Pierce County, Washington, according 1957 U.S. Tax Ct. LEXIS 281">*302 to plat recorded in Book 13 of plats at page 31.