Long Leaf), a publicly owned corporation. O. D. Fisher was chairman of the board of Long Leaf.

Petitioner was the son-in-law of O.D. Fisher and undertook the handling of many matters inyolving the Fisher interests on behalf of his father-in-law. In this respect, since Mr. Fisher was of advanced age, other members of the family might contact petitioner for information, guidance, and advice with respect to the Fisher businesses.

On March 15, 1966, the First National Bank of Nevada (hereinafter referred to as the bank), and one Raymond B. Callahan (hereinafter referred to as Callahan) held 115 shares of common stock of Long Leaf as trustees of a trust created by Alice E. Callahan, now deceased. Callahan was the sole income beneficiary of the trust. Callahan is distantly related to petitioner by marriage.

By letter dated March 15, 1966, Callahan requested certain information from the petitioner in regard to the value of the Long Leaf common stock. By letter dated April 7, 1966, petitioner replied to Callahan setting forth certain facts with respect to Long Leaf. Petitioner advised Callahan against selling the Long Leaf stock and stated that petitioner would be willing to pay $1,000 per share for the stock even though there was no market and during the preceding year there had been sales at $200 per share. Petitioner made this statement to persuade Callahan that he should not sell the stock.

By letter dated April 20, 1966, addressed to the petitioner, Callahan accepted the petitioner's purported offer to purchase the stock held by the trust for $1,000 per share. As a result, the petitioner and his wife thereupon purchased the 115 shares of Long Leaf stock from the trust for an agreed price of $115,000.

Pursuant to an agreement dated November 15, 1966, between Boise Cascade Corp., Long Leaf, and the stockholders of Long Leaf, petitioner and his wife sold the 115 shares of Long Leaf, along with the 3 shares previously owned, to Boise Cascade Corp. for a total consideration of $804,912.65. Said agreement was the result of contacts by various shareholders or directors of Long Leaf commencing in late 1965. At that time, petitioner owned 3 shares of common stock of Long Leaf and was neither a director nor officer of that company. From time to time, however, petitioner attended directors meetings on invitation. In May 1966, petitioner was made a director of Long Leaf and

participated in the negotiations which culminated in the agreement dated November 15, 1966.

On October 10, 1967, the bank and Callahan commenced an action against petitioner in the United States District Court for the District of Nevada to recover damages on account of petitioner's alleged failure to advise Callahan prior to the purchase of 115 shares of Long Leaf common stock that negotiations were then pending with Boise Cascade Corp. for the purchase of said stock. The jurisdiction for said action, as stated in the first amended complaint, was as follows:

This is an action for damages for fraud in the sale of stock by plaintiffs to defendant JOHN L. LOCKE. Jurisdiction in this Court is established by Title 28 U.S.C. Section 1331; by the Securities Exchange Act of 1934 (15 U.S.C. Sections 78aa and 78j) and by Title 17, Section 240.10b-5, Code of Federal Regulations-Commodities and Securities Exchanges.

The complaint alleged that petitioner had been involved in negotiations with Boise Cascade Corp. concerning the latter's purchase of Long Leaf shares since November 1965, and that by virtue of his participation in such negotiations, his correspondence with officers of Long Leaf and his attendance at a Long Leaf directors meeting, petitioner knew that the value of the stock of Long Leaf was in excess of $6,100 per share in February 1966, and that by March 25, 1966, petitioner knew that Boise Cascade Corp. would pay in excess of $6,500 per share for 80 percent or more of the stock of Long Leaf. The amended complaint further alleged that in his April 7, 1966, response to Callahan's inquiry, petitioner concealed the facts that negotiations were pending with Boise Cascade Corp., and that there was a reasonable expectation of selling the stock pursuant to such negotiations for a price in excess of $6,500 per share. The amended complaint sought damages of $674,646.35 with interest, plus punitive damages in the same amount, allegedly due by reason of "the false and fraudulent statements made by [petitioner]."

Petitioner's answer to the amended complaint consisted of a general denial and specific allegations that petitioner did not know at the time of the representations in his letter to Callahan or at the time of the sale that the value of Long Leaf was in excess of $1,000 per share, that O. D. Fisher, who owned a block of stock in Long Leaf large enough to prevent the sale to Boise Cascade Corp., opposed the sale of Long Leaf stock, and that petitioner in

his communication with Callahan adverted to the fact that should Long Leaf shareholders all get together to sell their stock, they could get a "pretty fancy price" for their stock which bore no relationship to the earning prospects for Long Leaf. Petitioner contended that he was not an "insider" within the meaning of rule 10b-5, that no negotiations were carried on at the corporate level, that no material facts were omitted or falsely stated, and that Callahan did not rely on petitioner's statement in his decision whether to sell.

Following pretrial proceedings as a result of which the District Court found that no issue of law remained to be argued, trial was ordered before a jury. In its instructions to the jury, the District Court defined an "insider" within the scope of rule 10b-5, as follows:

Plaintiffs contend that defendant was an "insider" within the scope of Rule 10b-5. An "insider" is a person who, because of this position or intimate association with the corporation, has greater knowledge of the financial affairs of the corporation. An "insider" is not limited to persons who are directors and management officers. Because of his superior knowledge, an "insider" has a duty to disclose facts known to him not available to plaintiffs and which he should have reasonably known would be important to them in determining the value of the stock which they held and whether or not they should sell such stock.

With respect to the factual issues presented at the trial, the District Court instructed the jury as follows:

It is incumbent upon plaintiffs to prove by a preponderance of the evidence the following:

1. That defendant used or employed manipulative or deceptive conduct in buying plaintiff's stock. More specifically, (a) that he made an untrue statement of a material fact; or (b) that he omitted to state a material fact which was necessary in order to make the statements he did make in the light of the circumstances under which they were made not misleading; or (c) that he failed to disclose a fact known to him which was not available to plaintiffs and which he should reasonably have known would be important to plaintiffs in determining whether to sell their stock to him.

2. That the misrepresentations or omissions, if any, were made with the purpose or intent of inducing plaintiffs to sell their stock.

3. That the misrepresentations or omissions, if any, concerned or related to a material fact or facts. A fact or omission of fact is material if it concerns something which a reasonable man would consider important in deciding what he should do in a particular transaction.

4. That plaintiffs relied on the alleged misrepresentations or omissions. There is reliance by plaintiffs if the claimed wrongful conduct was or would be a substantial factor in plaintiffs' determination of whether they should sell their stock to defendant.

The jury rendered a verdict in favor of petitioner. Plaintiffs' motions for judgment notwithstanding the verdict and for a new trial were denied. No appeal was taken.

In his defense to the suit filed by the bank and Callahan, petitioner incurred legal expenses of $15,529 in the taxable year 1969 and $101,821 in the taxable year 1970. In the individual income tax returns filed by the petitioner and his wife for said taxable years, petitioner deducted these expenses as ordinary and necessary expenses incurred by the petitioner in his trade or business within the meaning of section 162. In his notice of deficiency, respondent has disallowed the deductions as claimed on the ground that these expenses were incurred in connection with the purchase and sale of a capital asset.

OPINION

The petitioner seeks to deduct as ordinary and necessary expenses incurred in a trade or business, within the meaning of section 162, legal expenses incurred in defense of an action brought against him under section 78j of title 15 of the United States Code, as implemented by rule 10b-5 of the Securities and Exchange Commission.

Section 78j, title 15, of the United States Code, relating to manipulative and deceptive devices, provides, in part, as follows:

It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce or of the mails ***

(b) To use or employ, in connection with the purchase or sale of any security registered on a national securities exchange or any security not so registered, any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors.

The Securities and Exchange Commission has, pursuant to this statute, issued regulations relating to employment of manipulative or deceptive devices. These regulations have the effect of law. Rule 10b-5 thereof provides, in part, as follows:

It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person,

in connection with the purchase or sale of any security.

The facts are not generally in dispute. Petitioner was a prominent businessman and civic leader. His trade or business was that of "corporate executive." As such, he served as chairman of the board and chief executive officer of a group of businesses owned or controlled by the Fisher family. Petitioner was the sonin-law of O. D. Fisher, who had developed these businesses. Petitioner had obtained a position of leadership in the Fisher family enterprises. As such, he was closely associated with the operations of the various businesses in which the Fisher family had an interest, and his advice and consultation were sought in connection therewith.

The members of the Fisher family owned a substantial interest in Louisiana Long Leaf Lumber Co. O. D. Fisher was chairman of the board. Prior to May 1966, petitioner did not have any official connection with Long Leaf. He merely owned, with his wife, 3 shares of the common stock. However, due to his relationship with O. D. Fisher, a gentleman of advanced years, petitioner was invited from time to time to sit in on meetings of its board of directors. In the course of such meetings, consideration was given to the possible future of Long Leaf.

One Raymond B. Callahan was the income beneficiary of a trust owning 115 shares of common stock of Long Leaf. On March 15, 1966, Callahan wrote a letter to the petitioner requesting certain information with respect to Long Leaf. The petitioner promptly replied, outlining the situation with respect to the future of Long Leaf and, in an effort to influence Callahan against selling the stock, stated that petitioner would be willing to pay $1,000 per share for such stock. In a letter dated April 20, 1966, Callahan treated the petitioner's reply as an offer to purchase the stock held in the trust for $1,000 per share and indicated his acceptance of that offer. As a result, petitioner and his wife purchased the 115 shares of common stock in the trust for an agreed price of $115,000.

As a result of negotiations, which had been pursued intermittently for some months previously, an agreement was reached under date of November 15, 1966, pursuant to which Boise Cascade Corp. would purchase the stock of Long Leaf at a price of approximately $6,500 per share. That agreement was duly con