text:
    Willmark Service System, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 9402.
    Promulgated November 14, 1927.

      Mark Eisner, Esq., for the petitioner.

      J. Arthur Adams, Esq., for the respondent.
   OPINION.

Littleton:

The petitioner contends that the Commissioner erred in not classifying it as a personal service corporation.

Under section 200 of the Revenue Act of 1918 the requirements of a personal service corporation are as follows, to wit:

1. The income of the corporation must be ascribed primarily to the activities of the principal owners or stockholders.

2. Such principal owners or stockholders must themselves be regularly engaged in the active conduct of the affairs of the corporation.

3. Capital (whether invested or borrowed) must not be a material income-producing factor.

A father and two sons owned all the stock of petitioner. The father owned 20 per cent of the stock and each of the sons 40 per cent. The evidence indicates that all three rendered service to the petitioner; the father and one son being regularly engaged in the active conduct of the corporate business. The other son rendered service also, but was regularly employed as head of the service department of the United Cigar Stores Co. of New York City. As compensation for services rendered petitioner for the year 1920, the son employed by the United Cigar Stores Co. received $425. The other son received for his services to petitioner for the same period $6,485 and the father as compensation for his services, $5,050.

The subscribers to petitioner’s system were the owners of stores in various cities throughout the country and it was absolutely necessary in the conduct of petitioner’s business to employ a number of persons to assist in acquiring the necessary information to enable petitioner to render satisfactory service to its subscribers. It is not made clear how many employees in various capacities petitioner engaged, nor just what was paid each, though the secretary of petitioner, in response to inquiries made by the Commissioner, relative to the year 1920, stated:

No separate classes or accounts were then kept for the entire year, but all our books show is that we paid in salaries and commission to all of the employees, consisting of shoppers, crew managers, stenographers and other office help, including traveling expenses, hotel bills, rents and all other expenses, such as stationery, printing, postage, advertising, etc., $88,368.40, as shown on our income return for that year.

It further appears from the evidence that the entire amount of salaries or compensation received by the stockholders in 1920 was only $11,910.

It also appears that some money was borrowed to advance for buying merchandise in the stores while checking up the sales clerks and for other expenses, such as railroad fares, salaries to employees, daily allowances for hotels and bills and other expenses which could only be paid in cash.

It is true that the crew managers and the shoppers employed by petitioner were all under the instructions and subject to the control of and reported to the officers of petitioner, the result of their investigations, but the evidence is not sufficient to convince the Board that the Commissioner made any error in denying personal service classification to petitioner.

As we said in Commercial Reference Co., 7 B. T. A. 384:

While the investigators and reporters were subject to the instructions of the officers of the corporation who were stockholders, it can not be said that the income of the petitioner resulting from the services of such investigators and reporters was primarily due to the activities of the stockholders.

Judgment will be entered for the respondent.

Considered by Smith, Teussell, and Love.


source: Caselaw Access Project

author: Littleton:

license: Public Domain

text:
    Werner & Werner Clothing & Furnishing Goods Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6984.
    Promulgated November 14, 1927.

      Abraham, Lowenhaupt, Esq., for the petitioner.

      Thomas P. Dudley, Jr., Esq., for the respondent.
   OPINION.

Littleton:

The Commissioner claims that the leasehold here in question had no value on March 1, 1913, whereas the petitioner contends that the leasehold had a value on this date of $118,746.90, and that it is entitled to an annual deduction of $13,964.35 for the exhaustion of the leasehold.

At the hearing, evidence was presented as to the estimated savings under the leasehold, the rentals paid for numerous comparable properties, the character of the location where the property is situated, the changes in the business character of petitioner’s location from 1906 to March 1,1913, the reason for granting the extensions referred to in our findings of fact, the restricted use of the premises, the usual net rental return on land and buildings on March 1, 1913, and other evidence relating to the value here in issue. On a consideration of the entire evidence, we are of opinion that the fair market value of the leasehold on March 1,1913, was $35,121.78.

We can not, however, agree with the petitioner that it is entitled to a deduction in the years involved on account of this value on the basis of 8y2 years which the leasehold had to run on March 1, 1913, for the reason that two extensions thereto were later granted — one on November 11, 1914, of three years and another on February 8, 1917, for three additional years, thus causing the lease to expire on August 31,1927, instead of August 31, 1921.

The deduction allowable for each of the years should be based upon a spread of the portion of the March 1, 1913, value, which was unextinguished on February 8, 1917, over the period from February 8, 1917, to August 31, 1927. Prior to February 8, 1917, a part of the March 1, 1913, value had expired either under the terms of the original lease, or the extension as granted on November 11, 1914. What, therefore, the petitioner had on February 8, 1917, was an asset the useful life of which to it would expire on August 31, 1927, and through which period it would enjoy the beneficial use of the rights under the leasehold. Consequently, the unextinguished value on February 8,1917, should be spread from this latter date to August 31, 1927. Cf. Appeal of Gladding Dry Goods Co., 2 B. T. A. 336.

In the next issue as to a reduction of invested capital on account of an alleged insufficiency of depreciation taken in prior years, the petitioner relies upon the decisions of the Board in Cleveland Home Brewing Co., 1 B. T. A. 87; Russell Milling Go., 1 B. T. A. 194; and Rub-No-More Co., 1 B. T. A. 228. In each of these cases there was evidence that the petitioner had charged off depreciation in prior years and that such depreciation was substantially correct; and, as between depreciation charged by the petitioner and that claimed by the Commissioner, we considered petitioner’s contention as more nearly representing the correct facts and refused to disturb the surplus shown on petitioner’s books. In this proceeding we have an entirely different situation. From 1906 to January 31, 1916, petitioner charged off a total depreciation on its furniture and fixtures of $6,000, but this was not charged off at a uniform rate. What relation this bore to cost, we do not know, since no evidence was presented as to the cost of the assets here in question. For the years here involved petitioner claimed depreciation on these assets at the uniform rate of 10 per cent. This rate was reduced by the Commissioner to 5 per cent, with the result that depreciation was disallowed by the Commissioner in the total amount of $2,801.21 for the three years. Since the rate allowed is one-half of that claimed, it seems reasonable to suppose that depreciation was claimed in these three years of approximately $5,600, whereas the petitioner contends that $6,000 is adequate for approximately 10 years prior to January 31, 1916. Allegations in the petition indicate that much greater amounts were claimed in 1917 and 1918. As to the policy of the company with respect to repairs and treatment of capital expenditures for the prior years as compared with the years in question, both the bookkeeper and the vice president of the petitioner testified that there had been no change, that ordinary repairs and minor replacements were charged to expense and that new fixtures and major replacements were properly charged to the fixture account, except in the case of display fixtures, which were uniformly charged to expense. What the total expended for display fixtures which were improperly charged to expense amounted to, we are again without information and have no way of determining whether a restoration of these items to the fixture account, after allowing depreciation thereon, would result in showing a depreciated cost for furniture and fixtures equal to that at which they were carried on the books of the petitioner. At the hearing, petitioner submitted an appraisal of its furniture and fixtures made in 1920 which purported to show the depreciated reproduction cost of these assets in 1920, but an objection to its admission was sustained on the ground that the appraisal in the form offered was improper and incompetent to prove any of the facts in issue. We are of the opinion that the presumption of the correctness of the determination of the Commissioner is not overcome by the evidence presented as to this issue and accordingly such determination is approved. City National Bank, 2 B. T. A. 623; Alexandria Paper Co., 3 B. T. A. 239; Union Terminal Cold Storage Co., 4 B. T. A. 264; and Mandel Brothers, 4 B. T. A. 341.

Judgment will he entered on 10 days’ notice, wider Rule 50.

Considered by Smith, Teussell, and Love.


author: GREen:

text:
    J. B. Rolater, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 9379.
    Promulgated November 14, 1927.

      R. L. Slaughter, Esg., for the petitioner.

      D. H. Green, Esg., for the respondent.
   OPINION.

GREen:

The petitioner alleges that the respondent erred in not allowing as a deductible loss in the taxable year 1921 the difference between the March 1, 1913, value of the hospital furniture and equipment, which has been, admitted by both parties to have been $12,500, and the sale price in 1921 of $7,500.

The Rolater Hospital was built in 1906. In 1911 certain additions were made to the furniture and equipment and in this year the building and hospital equipment were leased to the State of Oklahoma for a period of 10 years at a rental of $500 per month, the lessee agreeing to return the hospital and equipment at the expiration of the lease in as good condition as when originally received, excepting the usual wear and tear incident to the use of the property. Prior to the expiration of the lease, the State of Oklahoma canceled the lease and paid as damages $14,438.13. This amount was accepted in full settlement for the cancellation of the lease, as well as for certain damages to the hospital building and equipment. In the year 1920, the petitioner expended $8,887.96 in painting and repairing the hospital building and repairing and renewing the hospital equipment. The record is silent as to how this amount was expended. It is impossible to determine the amount that was expended in repairing the building or the amount expended in repairs on and replacements of the equipment of the hospital.

Both parties have agreed that the hospital equipment had a value of $12,500 on March 1,1913. The petitioner alleges that the respondent erred in computing depreciation on this property at the rate of 5 per cent per annum from March 1,1913, to the date of the sale. The petitioner offered no evidence to show that the rate used by the Commissioner was not correct. He contends, however, that the expenditures made in 1920 put the equipment in as good condition as it was on March 1, 1913, and that in effect no depreciation has been sustained. The Board held in the Appeal of Even Realty Co., 1 B. T. A. 355, that due allowance must be made in ascertaining gain or loss upon the sale of capital assets, for exhaustion, wear and tear, and obsolescence occurring during the period of ownership, whether or not deductions have been taken therefor in prior tax returns. In the case of the United States v. Ludey, 274 U. S. 295, decided May 16, 1927, by the Supreme Court of the United States, Mr. Justice Brandies said:

The depreciation charged is the measure of the cost of the part which has been sold. When the plant is disposed of after years 'of use, the thing sold is not the whole thing originally acquired. The amount of the depreciation must be deducted from the original cost of the whole in order to determine the cost of that disposed of in the final sale of properties. Any other construction would permit a double deduction for the loss of the same capital assets.

In the instant case, the proper method of determining the loss, if any, on the transaction would be to add to the depreciated March 1, 1913, value of the hospital equipment the cost of the replacements made, and after deducting depreciation, compare the result with the selling price of the property in 1921. Since the petitioner has not offered any evidence to show that the rate of depreciation used by the respondent was incorrect and the record does not show what portion of the expenditures in 1920 were of a capital nature, we have no alternative but to approve the respondent’s determination.

Judgment mil be entered for the respondent.

Considered by Sternhagen and Arundell.


author: GREEN:

text:
    Oliver H. Van Horn Co., Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 8252.
    Promulgated November 14, 1927.

      H. W. Robinson, Esq., Rush L. Holland, Esq., and George E. Strong, Esq., for the petitioner.

      P. M. Clark, Esq., for the respondent.
   OPINION.

GREEN:

The petitioner contends that undrawn salaries and interest thereon credited to the officers during the taxable years 1917 to 1920, inclusive, pursuant to agreements reached at directors’ conferences are proper deductions under section 12(a) of the Revenue Act of 1917 and section 234(a) (1) of the Revenue Act of 1918, as ordinary and necessary expenses for doing business in the years in question. The respondent contends that as the minutes of the petitioner contain no mention of interest on undrawn salaries, no obligation was incurred, and he further contends that as the salaries could not be drawn without the approval of the directors, no present obligation was incurred which might be accrued.

The petitioner is a closely held Louisiana corporation. The three stockholders constitute both its entire board of directors, as well as its officers. The affairs were handled more in the manner of a partnership than as a corporation. During the years in question very few formal directors’ meetings were held. The record of such meetings was poorly kept and in many instances the entries were undated. The policy of the company was determined at conferences of the three directors. The Board, in the case of Reub Isaacs <& Go., 1 B. T. A. 45, recognized the similarity of a closely held corporation to that of a partnership. The directors decided at various times that the salaries paid were inadequate. Because of the nature of the business and the large amounts of capital required, it was deemed expedient that salaries should be drawn only with the consent of the board of directors. The stockholders determined that since one of their number had advanced $35,000 and was receiving interest thereon at 8 per cent, a similar rate of interest should be allowed on all undrawn salaries. While the minute book does .not reflect any such decision, the petitioner’s books of account show that for the years 1918 to 1920 interest was so credited.

We are of the opinion that both salaries and interest on the un-drawn portion thereof as authorized at the informal conference of the directors and as credited on the books of the company, were a liability which should be accrued on the books of the petitioner and that the respondent erred in not allowing the amounts thereof as a deduction.

Judgment will be entered for the petitioner.

Considered by Sternhagen and Arundell.


author: ARundell:

text:
    Beaver Lumber Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 3534, 9400.
    Promulgated November 14, 1927.

      Charles E. McCulloch, Esq., for the petitioner.

      George G. Witter, Esq., for the respondent.
   ARundell:

Deficiencies in income taxes for the calendar years 1919 and 1920, in the amount of $9,238.79 and $1,193.49, respectively. The question involved is petitioner’s right to affiliation with the Nehalem Timber & Logging Co.

FINDINGS OF FACT.

Petitioner is a corporation organized under the laws of Oregon, with its principal office and place of business at Portland.

During the years 1919 and 1920 petitioner was engaged in operating a sawmill at Prescott, Oreg. The Nehalem Timber & Logging Co. carried on logging operations on its holdings near Scap-poose, Oreg., some 20 miles up the Columbia River from Prescott. The logs produced by the Nehalem Timber & Logging Co. were shipped to the Columbia River over the line of the Portland & Southwestern Railroad Co. The railroad company was owned by the Nehalem Timber & Logging Co. and the Commissioner has affiliated those two companies during the years 1919 and 1920, under section 240 of the Revenue Act of 1918.

During the years in question the petitioner and the Nehalem Timber & Logging Co. occupied the same offices in Portland and all operations of these companies, as well as the Portland & Southwestern Railroad Co., were directed from such offices. The same employees served the three companies.

During the year 1919 Henry Kirk was general manager of all three of these companies. During January, 1920, he was succeeded in his office as general manager of the three companies by J. A. Ryan, who also served in the capacity of vice president of the Nehalem Timber & Logging Co. and of the Portland & Southwestern Railroad Co. and treasurer of the petitioner during the remainder of the year 1920 and up to the present time. Henry Turrish was president of all of the three companies during the years 1919 and 1920.

The boards of directors of all three companies during the years 1919 and 1920 were composed of the same men. In 1919 the directors of all three companies were Henry Turrish, W. K. Coffin, C. P. Bradshaw, J. B. Kerr, and Henry Kirk. Only one change occurred in the board of directors of the three companies during 1920, J. A. Ryan having been elected in January of that year to succeed Henry Kirk as director of each of the three companies.

The petitioner and the Nehalem Timber & Logging Co. and Portland & Southwestern Railroad Co. have always been operated as a single unit. The Nehalem Timber & Logging Co. owned and held a large body of timber and carried on logging operations. The petitioner owned and operated a sawmill plant, manufacturing lumber and lumber products. The railroad company transported all logs produced by the Nehalem Timber & Logging Co. The latter company supplied all the lots that petitioner used in the operation of its sawmill, selling upon the open market only such logs as remained after petitioner’s needs were fully supplied. Logs were sold by the Nehalem Timber & Logging Co. to petitioner at a price lower by more than $1 per thousand feet than the general market price of similar logs. The grades of logs for which there were the greatest demand and which could be sold to the best advantage on the open market were so sold; all other logs made by the Nehalem Timber & Logging Co. were manufactured into lumber by the petitioner.

During the taxable years the Nehalem Timber & Logging Co. advanced to petitioner large sums of money, the amount advanced in the year 1920 being between $200,000 and $250,000. The Nehalem Timber & Logging Co. also extended large amounts of credit to petitioner and endorsed the latter’s notes. No interest was charged to petitioner upon the large amounts of credit extended for logs delivered to it by the Nehalem Timber & Logging Co., but the latter company did charge interest upon money advanced or acceptances given.

There were no changes in the stockholders of the two corporations during the year 1919 and only a few changes during the year 1920. During the year 1919 and at the close of the year 1920 the stock-holdings of the two companies were as follows:

Frank Carter, D. S. Clark and his wife, M. S. Clark, Louis Con-haim, C. H. Henry, Isaac Kaufman, W. A. Mercer and his wife, Carrie L. Mercer, Pearl L. Newald, A. L, Ordean, John Pearson, M. S. Stein, and the members of the Levy family were all close personal friends and some of them close business associates of Henry Turrish, who was looked to by all to protect their interests. G. H. and K. L. Durham, Tillie Harris, and Agnes Keith Werner were all friends and business associates of the Keith brothers, who together with Henry Turrish were the active parties in control of this enterprise.

Under date of July 25, 1922, E. H. Batson, Deputy Commissioner of Internal Revenue, addressed a letter to the Nehalem Timber & Logging Co., which letter contained the following statement:

From the facts presented, yon are advised that during the taxable years 3917 to 1920, inclusive, your company was affiliated with the Beaver Lumber Company and the Portland and Southwestern Railroad Company, and you should have filed a consolidated excess profits tax return for the year 1917 and a consolidated income and profits tax return for each of the years 1918 and 1919. * * * and a consolidated income and profits tax return should he filed by you for the tax year 1920, provided such action has not been taken.

Thereafter, under date of January'15, 1925, petitioner was advised by Deputy Commissioner J. G. Bright that the matter of petitioner’s affiliation with the Rehalera Timber & Logging Co. had been considered and it was now held that for the years 1918 and 1919 petitioner was not affiliated with any other corporation within the purview of section 240 of the Revenue Act of 1918. On December 18, 1925, Deputy Commissioner Bright advised petitioner that it was the opinion of the Bureau of Internal Revenue that petitioner was not affiliated with any other corporation for the year 1920.

Petitioner and the Nehalem Timber & Logging Co. were affiliated within the meaning of section 240 of the Revenue Act of 1918 during the years 1919 and 1920.

Judgment will he entered on 15 days’ notice, wider Rule 50.

Considered by Steenhagen and Geeen.


author: Akundell :

text:
    Joseph Simon, Late Executor, Estate of Anna M. Maxwell, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 2732.
    Promulgated November 14, 1927.

      Joseph Simon, Esq., pro se.

      Warren F. Wattles, Esq., for the respondent.
   OPINION.

Akundell :

Petitioner questions the right of respondent to enforce a deficiency in the estate tax of decedent against him after his discharge as executor.

The Revenue Act of 1921 places upon the executor of the estate of a decedent the duties of notifying the Federal Government of his appointment, of filing the estate-tax return, and of paying the estate tax. Sections 404 and 406. By section 407 it is provided:

If the executor files a complete return and makes written application to the Commissioner for determination of the amount of the tax and discharge from personal liability therefor, the Commissioner, as soon as possible and in any event within one year after receipt of such application, shall notify the executor of the amount of the tax, and upon payment thereof the executor shall be discharged from personal liability for any additional tax thereafter found to be due, and shall be entitled to receive a receipt or writing showing such discharge.

As far as the record shows the petitioner made no effort to secure a discharge of his liability for the tax by the method described by section 407, and it is inconceivable that an executor by hastening administration and ignoring the prescribed means of absolution from liability can evade any tax liability. Pennsylvania Cement Co. v. Bradley Contracting Co., 247 Fed. 1003.

In the recent case of United States v. Rodenbough, 21 Fed. (2d) 781, the court discusses the liability of executors in the following language:

All the Revenue Acts provide that the executor shall pay the tax. This establishes a direct and primary liability upon him which is necessarily personal. By Section 3467 of the Revised Statutes, any executor who pays any debt due by the estate before he satisfies debts due the United States becomes answerable in his own person or estate to the United States. The limitation provided by Section 407 of the Revenue Act of 1918 (1921?) was designed to terminate this personal liability after the Commissioner had finally fixed or had had reasonable time and opportunity to finally fix the amount of tax due.

The second point raised by petitioner is that as his appointment as executor ivas made by an Oregon court his possession and control of decedent’s property were limited to the boundaries of that State and he therefore can not be charged with a tax liability arising from property situate in the State of Washington.

We agree that the Oregon letters testamentary have no extraterritorial force. The estate tax act, however, does not tax property as such but is an excise on the transfer of the net estate of a decedent. Edwards v. Slocum, 264 U. S. 61; Y. M. C. A. v. Davis, 264 U. S. 47; Nichols v. Coolidge, 274 U. S. 531. The property itself is only a means of measuring the value of the net estate, the transfer of which is taxed. It is upon this principle that the law imposing the Federal estate tax looks primarily to the domiciliary representative of a decedent, and not to a number of ancillary representatives, for a return listing the “ * * * value * * * of all property * * * wherever situated.” Executors are presumed to know the requirements of law regulating the return which they are required to make. United States v. Ayer, 12 Fed. (2d) 194; 5 Am. Fed. Tax Rep. 5935, 5940.

Wo do not have here any question as to whether the domiciliary representative might be liable for tax in excess of the amount of funds or property coming into his hands, as the final account filed with the probate court shows cash on hand far exceeding the tax liability.

We are without competent evidence as to the value of the Washington real estate and the value placed thereon by respondent must accordingly be allowed to stand as found by him. After issue was joined petitioner filed an amended petition alleging that the real estate in controversy was sold in the current year by decedent’s heirs, and setting forth his willingness to pay a tax measured by the amount received on such sale. Respondent denied the averments of the amended petition and no proof thereof was offered.

Judgment will be entered for the respondent.

Considered by Sternhagen and Green.


author: Trussell :

text:
    M. Cohn & Sons Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 7361, 9238.
    Promulgated November 14, 1927.

      E. G. Gruen, O. P. A., for the petitioner.

      J. E. Marshall, Esq., for the respondent.
   OPINION.

Trussell :

The uncontradicted testimony and evidence adduced establishes the fact that petitioner was liable to the members of the Cohn family for undrawn salaries, that such undrawn salaries have been included in surplus and thus in petitioner’s income for the years involved.

For the fiscal year ended January 31,1918, the amount of undrawn salaries totaling $3,141 should be eliminated from surplus, included in liabilities as accounts payable and excluded from income. No question has been raised as to the allowance or disallowance of the deduction of $6,316 taken on the returns as salaries for the fiscal year ended January 31, 1918, and apparently that deduction has been allowed, but the inclusion in surplus of a portion of said salaries, namely $3,141, left with the petitioner, has distorted petitioner’s income to that extent.

For the fiscal year ended January 81, 1919, petitioner deducted on its return $5,121 for salaries which deduction apparently has been allowed, Inrt that total of salaries was not withdrawn and the balance of $1,850 left with the corporation has been included in surplus and income. For the same year the members of the Cohn family were due additional salaries totaling $3,200, which amount was inadvertently not deducted as salary expense, was not withdrawn from petitioner and which was also included in surplus and income. There is no question as to the reasonableness of the salaries for the work performed by members of the Cohn family; the uncontra-dicted evidence establishes that the additional salaries were informally but actually agreed upon by the stockholders, directors and officers of petitioner and should be allowed as a deduction from gross income in addition to the said $5,121 originally deducted. The undrawn salaries, both original and additional, totaling $5,050, should be excluded from surplus; included in liabilities as accounts payable and excluded from income for the fiscal year ended January 31, 1919.

We have now for consideration the question of the propriety of the Commissioner’s assertion of a 25 per cent delinquency penalty computed upon the total tax as computed for the entire fiscal year ended January 31, 1918, where petitioner filed its returns and paid its tax for said year under the Revenue Act of 1917 and failed to file before the due date thereof a return under the Revenue Act of 1918 for the same fiscal year. The president of petitioner testified that he believed that all necessary returns were filed, but he was not certain as to the filing of Form 1120 under the 1918 Act. A return on Form 1120 was not in the file of Commissioner’s counsel, but he stated that he did not have sufficient time to make a thorough search therefor prior to the hearing. However, petitioner admits that if the return Form 1120 was filed it was not filed before the due date thereof. If we knew as a fact that petitioner had voluntarily filed a return Form 1120 under the Revenue Act of 1918 even though it were filed after the due date thereof we would be inclined to hold that no penalty is due, for upon this record it would then appear that there was a reasonable cause for the technical delinquency which was not a willful neglect. See Dayton Bronze Bearmg Co. v. Gilligan, 281 Fed. 709. However, we do not decide that question here, for upon this record we do not know whether petitioner filed at any time a return Form 1120 under the Revenue Act of 1918 and we are forced to decide the question at issue upon the basis that no such return has been filed by petitioner.

The pertinent portion of section 3176 of the Revised Statutes as amended by the section 1317 of the Revenue Act of 1918, provides:

Seo. 3176. * * * In ease of any failure to make and flic a return or list witMn tlie time prescribed by law, or prescribed by tbe Commissioner of Internal Revenue or the collector in pursuance of law, the Commissioner of Internal Revenue shall add to the tax 25 per centum of its amount, except that when a return is filed after such time and it is shown that the failure to file it was due to a reasonable cause and not to willful neglect, no such addition shall be made to the tax.

Section 200 of the Revenue Act of 1918 defines the first taxable year to be called the taxable year 1918, as the calendar year 1918 or any fiscal year ending during the calendar year 1918.

Section 205 (a) of the Revenue Act of 1918 provides:

Sec. 205. (a) That if a taxpayer makes return for a fiscal year beginning in 1917 and ending in 1918, his tax under this title for the first taxable year shall be the sum of: (1) The same proportion of a tax for the entire period computed under Title I of the Revenue Act of 1916 as amended by.the Revenue Act of 1917 and under Title I of the Revenue Act of 1917, which the portion of such period falling within the calendar year 1917 is of the entire period, and (2) the same proportion of a tax for the entire period computed under this title at the rates for the calendar year 1918 which the portion of such period falling within the calendar year 191S is of the entire period: Provided, That in the case of a personal service corporation the amount to be paid shall be only that specified in clause (1).
Any amount heretofore or hereafter paid on account of the tax imposed for such fiscal year by Title I of the Revenue Act of 1916 as amended by the Revenue Act of 1917, and by Title I of the Revenue Act of 1917, shall be credited towards the payment of the tax imposed for such fiscal year by this act, and if the amount so paid exceeds the amount of such tax imposed by this act, or, in the case of a personal service corporation, the amount specified in clause (1), the excess shall be credited or refunded in accordance with the provisions of section 252.

The above quoted section, together with the similar section 335 (a) of the same Act and relative to profits taxes, provide for the method of computing petitioner’s tax liability under the Revenue Act of 1918 and the said sections also provide that the taxes paid under the Revenue Act of 1917 for petitioner’s same fiscal year shall be credited against the taxes computed under the 1918 Act. The above quoted section 3176 of the Revised Statutes as amended by the Revenue Act of 1918 provides that a 25 per cent delinquency penalty be added to “ the tax,” for failure to file the required return. However, that term “ the tax ” is not clear and unequivocal for sections 205 (a) and 335 (a) in providing a method for computing “ the tax ” also provide for a credit, of the tax under the 1917 Act for the same fiscal year, towards the payment of the tax imposed by the 1918 Act. The question arises, does “the tax” as used in section 3176 of the Revised Statutes as amended by section 1317 of the Revenue Act of 1918, mean the total tax as computed under that Act, or does it mean the said total tax less the credit provided for? Under such circumstances the statute is to be construed most strongly against the Government and in favor of the citizen. See Gould v. Gould, 245 U. S. 15.

Statutes should receive a sensible construction, such as will effectuate the legislative intention, and avoid, if possible an unjust or absurd construction.

See also In re Chapman, 166 U. S. 661.

The unstrained, natural and just conclusion to be reached upon the reading of the above quoted sections of the Revenue Act of 1918 is that the amount of tax paid under the 1917 Act should be credited against the amount found due for the same fiscal year under the 1918 Act and that if there be a balance due or a deficiency under the 1918 Act then the delinquency penalty should attach to such deficiency. We do not believe that Congress ever intended to penalize a taxpayer for taxes duly paid upon a return made under an existing law. In the case at bar a recomputation pursuant to this decision of the petitioner’s tax liability for its fiscal year ended January 31, 1918, will probably show no deficiency and if there be no deficiency there is no additional tax due for that fiscal year under the provisions of the Revenue Act of 1918 and there exists no basis for a penalty under that Act. The Government would have already received its due for that particular year and what could be more unjust than to require a taxpayer to pay a 25 per cent penalty, upon a sum he had paid to the Government, because of a technical delinquency to file a second set of returns for the same fiscal year. True, the 1918' Act required this taxpayer to file a new return for the fiscal year ended January 81, 1918, but only for the purpose of determining if this taxpayer owed the Government any tax in addition to what it had paid under its return duly filed under the 1917 Act.

The petitioner’s tax liability should be recomputed for both fiscal years’in accordance with this opinion. As to the year ended January 31, 1918, if there are no additional taxes due, there should be no penalty, but if there be additional taxes due there should be added thereto a penalty of 25 per cent of the amount of such additional taxes.

Judgment will he entered upon 15 days’ notice, pwrsuant to Bule 50.

Considered by Littleton, Smith* and Love.


author: TRUssell:

text:
    Chatham Railroad Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 9493.
    Promulgated November 14, 1927.

      James 8. Y. Ivins, Esq., for the petitioner.

      M. N. Fisher, Esq., for the respondent.
   OPINION.

TRUssell:

The issue presented has been decided by the Board in the Appeal of Norwich & Worcester Railroad Co., 2 B. T. A. 215, and Concord & Portsmouth Railroad v. Commissioner, 8 B. T. A. 505. Following those decisions, petitioner’s taxes for the years 1921, 1922, and 1923 should be recomputed by including in income for each year the amount of the tax due and paid in that year by the lessee on petitioner’s income of the next preceding year.

Judgment will he entered on 15 days’ notice, pursuant to Rule 50.

Considered by Littleton, Smith, and Love.


author: Love:

text:
    Carnation Milk Products Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 19789, 22495.
    Promulgated November 14, 1927.

      J. JS. T. Ivins, Esq., for the petitioner.

      J. W. Fisher, Esq., for the respondent.
   OPINION.

Love:

The petitioner contends that the waiver delivered to the Commissioner on October 19, 1925, was ineffective and that the Commissioner is therefore barred from assessing and collecting additional taxes alleged to be due for the year 1919.

The issue presented by the motions in these proceedings is concluded by the decision of the Board in Joy Floral Go. v. Oommis-sioner, 7 B. T. A. 800, and upon authority of that decision the petitioner’s motion for judgment on the pleadings must be denied.

Order will he entered denying the motion for judgment of no deficiency, and restoring the proceeding to the calendar for hearing in due course upon the merits.

Considered by Trttssell, Smith, and Littleton.


author: SteRNiiagex :

text:
    Northern Trust Co., Executor of the Last Will and Testament of Ellen L. Van Schaick, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 7127.
    Promulgated November 14, 1927.

      Frederic Ullmann, Fsg., for the petitioner.

      J. F. Greaney, Esq., for the respondent.
   OPINION.

SteRNiiagex :

The decedent died on April 11, 1923, and the Revenue Act of 1921, then in effect, imposed an estate tax upon the transfer of her net estate above $50,000. The estate made its return and paid tax of $13,088.54. Thereafter the respondent required the inclusion within the gross estate of the value at the date of death of the property which had theretofore been conveyed in trust by the four instruments summarized in the findings, consisting of various parcels of real estate and certain shares of stock, thus increasing the net estate and determining a deficiency in tax. The petitioner seeks here a redetermination that there is no deficiency because the value of the trust property is not properly part of the gross estate under the statute and may not be taxed as such under the Constitution.

The Revenue Act of 1921, Title IV, imposed an estate tax, section 401, effective upon its passage, section 1404, in lieu of a like tax in the Revenue Act of 1918, which was repealed, section 1400. The earlier estate taxes were likewise repealed by the Revenue Act of 1918, section 1400, so that at the time of the death of the present decedent in 1923, the Revenue Act of 1921 alone was in force, and this was effective only from its passage on November 23, 1921. It is necessary, therefore, to consider only the provisions of this statute in order to consider whether a tax has been imposed, Charles L. Harris, Administrator, 5 B. T. A. 41. With omissions of unnecessary matter, the pertinent provisions are:

Sec. 401. That, in lieu oí the tax imposed by Title IV of the Revenue Act of 1918, a tax equal to the sum of the following percentages of the value of the net estate (determined as provided in section 403) is hereby imposed upon the transfer of the net estate of every decedent dying after the passage of this Act, * * *.
Seo. 402. That the value of the gross estate of the decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated—
* * í¡i sis * * *
(c) To the extent of any interest therein of which the decedent has at any time made a transfer, or with resxject to which he has at any time created a trust, in contemplation of or intended to take effect in possession or enjoyment at or after his death (whether such transfer or trust is made or created before or after the passage of this Act), except in case of a bone fide sale for a fair consideration in money or money’s worth. * * *

Section 403 prescribes the deductions to be made from the gross estate to arrive at the value of the taxable net estate.

The Commissioner has held that the property covered by the four trusts was the subject of transfers or trusts “intended to take effect in possession or enjoyment at or after [her] death,” and that therefore its value at the date of death was within the gross estate.

Respondent’s counsel in support of this determination makes no distinction among the four transfers. But clearly, if the statute applies at all, it must be for different reasons as to the two later transfers from those applicable to the two earlier. The 1912 transfer reserves to decedent the income for life, as did the 1917 transfer, which merely increased the res. The 1919 and 1921 transfers reserved nothing to the decedent but required the accumulation of the income for her descendants until she died or for 21 years if she did not die before then. In all trusts the corpus was irrevocably transferred from the decedent.

We consider first the 1919 transfer. If it were not for the provision that the accumulation should cease and the distribution be made at decedent’s death within 21 years, the instrument would be like that in Shukert v. Allen, 273 U. S. 545; 6 Am. Fed. Tax Rep. 6550, and the property would not be within the statutory gross estate. In that ease the accumulation was to carry on for 30 years, irrespective of the grantor’s death. The instrument was made in 1921, less than five months before the testator’s death. The Supreme Court, after finding that the transfer was immediate and vested the interest in the beneficiaries at the time of execution, said:

* * * But it seems to us tolerably plain, tbat when the grantor parts with all his interest in the property to other persons in trust, with no thought of avoiding taxes, the fact that the income vested in the beneficiaries was to be accumulated for them instead of being banded to them to spend, does not make the trust one intended to take effect in possession or enjoyment at or after the grantor’s death.

Is the present transfer brought within the statute by the additional fact that the period of accumulation was limited by the creator’s death if within 21 years? The transfer was no less complete; the interests of the trustee and of the beneficiaries were no less vested; the possession or enjoyment had as effectually passed from the decedent; there was, non constat, no more thought of avoiding taxes. There was the possibility that the distribution would be made before death if the creator of the trust should live more than 21 years, unless it is to be said as law that a person of 73 may not entertain 'that hope. There is here no reason to believe that in fact the testatrix expected to die earlier.

The fact of the testatrix’s death served only as an alternative limitation of the time of accumulation, the other alternative being the end of the 21 years. The transfer had already become completely effective, so far as it affected her. Her disposition was complete and beyond recall. If she had transferred to A until her own death with remainder to B, could the property be included within her estate, merely because B’s actual possession was postponed? It seems clear that unless there were some other evidence that the transfer was testamentary it would be treated for all purposes as complete when made and beyond the reach of estate taxes. It is no less so here. The intervention of an accumulating trust makes the transfer no less complete. The trustee takes possession immediately, accumulates the income for the period until testatrix’s death or for 21 years, and then distributes the income periodically throughout the lives of the beneficiaries. It has been held by the Commissioner that thus the value at death of the entire trust res transferred four years earlier at an undisclosed value was within section 402 (c). This determination is reversed, and the property transferred in 1919 and 1921 is held not to be within the gross estate.

We take up then,, the earlier transfer made in 1912 and that made to the same trust in 1917. The significant feature of these transfers, the one which it is said by the Government brings the property within the gross estate, is that the decedent reserved to herself the right to receive the income during her life, and directed that thereafter it should go to her children during their lives. The final distribution of the trust property was to be made to the grandchildren, but not earlier than the death of the last surviving child or the twenty-first birthday of the youngest living grandchild. Like the transfers of 1919 and 1921, there is no evidence whatever that these transfers of 1912 and 1917 were actuated by a purpose to avoid taxes. The earlier was made when no Federal death tax was imposed. The second was made while the tax of 1916 (repealed as above stated by the Act of 1918) was in force. It does not appear what was the value of the property when transferred, the value at the time of death being the only figure regarded by the Government as significant.

The case seems to depend upon the validity under the Constitution of the statute, for as said by Judge Hand in Frew v. Bowers, 12 Fed. (2d) 625, the possession or enjoyment is different from the legal vesting, and can not in any event take effect until the grantor’s death. Unlike the transfer of 1919 and unlike that of Shukert v. Allen, supra, there is no chance that a fixed event may bring about the possession or enjoyment of any part of the property, whether of the succeeding life interest of the children or grandchildren or of the remainder interest of the surviving grandchildren, prior to the death of the grantor.

The prototype of the provision in question as it appeared in the Revenue Act of 1918 was considered by the Supreme Court in Nichols v. Coolidge, 274 U. S. 531; 6 Am. Fed. Tax Rep. 6758, and in so far as by its retroactive effect it attempted to bring within the gross estate property which had been transferred in 1907 it was held to bo too capricious an exercise of the taxing power. And in Frew v. Bowers, supra, the Circuit Court of Appeals, Second Circuit, held the same. In both those cases, the grantor had disposed of the income as well as the remainder, while here she kept the income for her life. The Supreme Court, so far as can be gathered from the opinion, did not look upon this as controlling; for aside from the statement of the fact, it nowhere enters into the discussion. The opinion seems rather to condemn in toto the attempt to reach back and bring into the gross estate any property which had by such a trust been transferred before the passage of the Act. The concluding sentences are:

* * * And we must conclude that section 402 (c) of the statute here under consideration, in so far as it requires that there shall be included in the gross estate the value of property transferred by a decedent prior to its passage merely because the conveyance was intended to take effect in possession or enjoyment at or after his death, is arbitrary, capricious and amounts to confiscation. Whether or how far the challenged provision is valid in respect of transfers made subsequent to the enactment, we need not now consider.

In view of the repeated and well established rule that constitutional questions will be avoided wherever possible, and the decision of the District Court that the transfers in question were within section. 402 (c), it must be assumed that the Supreme Court so treated them. Hence it is unnecessary for us to consider here whether the transfers of 1912 and 1917 were within the statute, for even assuming that they were, they could only be reached by the retroactive clause of the provision. We see no escape, after the Supreme Court’s decision as to the 1918 Act, from the conclusion that the 1921 Act is subject to the same infirmity, and we must therefore reverse the Commissioner. See Edward H. Alsop, 7 B. T. A. 848, and James Duggan, Executor, 8 B. T. A. 482.

The property transferred by the four instruments should be excluded from the gross estate.

Judgment will loe entered on 15 days’ notice, under Rule 50.

Considered by Aktjndell.

       Sec. 1404. That except as otherwise provided, this Act shall take effect upon its passage.

       Sec. 1400. (a) That the following parts of the Revenue Act of 1918 are repealed, to take effect (except as otherwise provided in this Act) on January 1, 1922, subject to the limitations provided in subdivision (b) :
      * * * * * * *
      Title IV (called “Estate Tax”) on the passage of this Act; * * *.

       Sec. 1400. (a) That the following parts of Acts are hereby repealed, subject to the limitations provided in subdivision (b) :
      (1) The following titles of the Revenue Act of 1916:
      *******
      Title II (called “Estate Tax”) ;
      *******
      (2) The following parts of the Act entitled “An Act to provide Increased revenue to defray the expenses of the increased appropriations for the Army and Navy and the extensions of fortifications, and for other purposes,” approved March 3, 1917 :
      Title III (called “ Estate Tax ") ;
      *******
      (3) The following titles of the Revenue Act of 1917:
      *******
      Title IX (called “TVar Estate Tax”) ; * * *.


author: TRUSsell:

text:
    Cooper-Brannan Naval Stores Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 10068.
    Promulgated November 14, 1927.

      M. G. Kilpatrick, Esq., and Oscar IF. Underwood, Jr., Esq., for the petitioner.

      J. E. Marshall, Esq., for the respondent.
   OPINION.

TRUSsell:

We are of the opinion that it is not proper for this Board to go into the question of the motive of petitioner’s officers in making the $20,000 loan to Pooley nor into the question of whether or not such loan was an ultra vires act, as the respondent would have us do. The record establishes the fact that petitioner, on June 30, 1920, made a loan of $20,000 to Pooley, payable prior to the end of that year with interest; that prior to the end of that year petitioner’s debtor lost everything he had and was destitute; that the debt was ascertained to be worthless during 1920, and that it was charged off by petitioner during 1920. Petitioner should be allowed a deduction in the amount of $20,000 from its gross income for the year 1920 under section 234(a) (5) of the Revenue Act of 1918.

The amount of $2,121.27 which respondent added to gross income for 1920 for the reason that it represented an accumulation of income for prior years, but not reported in such prior years, is certainly not income for the year 1920 when it was income for prior years and therefore should be eliminated from petitioner’s gross income for the year 1920.

Due to the hard usage to which petitioner’s trucks were subjected in hauling crude turpentine through the woods, the useful life of its trucks did not exceed 18 months and petitioner is entitled to a deduction for 1920 for depreciation at a rate of 66% per cent per annum on its trucks. On January 1, 1920, petitioner owned one Reo truck which on that date had an undepreciated cost of $1,241.67. The said truck was traded in at a value of $800 on a new International truck purchased on March 8, 1920. The said transaction left petitioner' with an item of $941.67, representing the undepreciated cost of a capital item which had vanished, but no deduction for such loss has been allowed. Petitioner should be allowed a deduction of $941.67 for the year 1920 under section 234(a) (4) of the Revenue Act of 1918. The International truck purchased on March 8, 1920, at a cost of $1,825 had an approximate useful life of 18 months, at the end of which period it would have an approximate salvage or trade-in value of one-eighth of its cost of $228.12, and we are of the opinion that the difference or $1,596.88 is a fair basis on which to compute the depreciation sustained on that truck for the year 1920. On that basis depreciation on the International truck for 9% months during 1920 at a rate of 66% per cent per annum would amount to $842.79, which amount should bo allowed petitioner as a deduction for 1920 under section 234(a) (7) of the Revenue Act of 1918. The respondent proposes to increase petitioner’s income for 1920 by $1,450 on the ground that that amount represents the cost of the Reo truck charged off in 1920 without an adjustment in the depreciation reserve. The evidence ?hows that the said amount was not charged off during 1920 and there being no basis for including said $1,450 in income, it should be eliminated.

The net income as asserted by respondent for 1920 should be reduced by:

Worthless debt-$20,000.00
Suspense account item_ 2,121.27
Loss on truck_ 941. 67
Depreciation on truck for 1920_ 842. 79
So-called adjustment on motor truck transaction in 1920- 1,450.00
Total- 25,355. 73

Petitioner’s taw liability should he recomputed in accordance with the above fundings of fact and opinion. Order of redetermination will he entered upon 15 days’ notice, pursuant to Pule 50.

Considered by Smith, Littleton, and Love.


text:
    St. Louis Malleable Casting Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 5490, 15168.
    Promulgated November 15, 1927.

      R. M. O'Hara, Esq., N. B. Landreau, Esq., and Beach P. BurUng-ham, Esq., for the petitioner.

      L. L. Eight, Esq., and Granville B. Borden, Esq., for the respondent.
   OPINION*

Littleton:

The first issue is the value at March 1, 1913, of the patterns owned by the petitioner on that date. As set forth in the findings of fact, a value has been assigned to these patterns at March 1, 1913, in the report of the appraisal company which purported to be the reconstruction cost of the patterns then on hand, less its estimate of depreciation sustained prior to that date.

The so-called retrospective appraisal of patterns was at best a rough segregation of the working hours and material applicable to patterns as shown by the petitioner’s records into working hours and material applicable to patterns owned by the petitioner and those owned by customers. This was done on a percentage basis by calculating the cost of all pattern labor and materials, adding 60 per cent overhead and 20 per cent profit, and comparing this total amount with the amount actually charged on the books to customers. In order for this calculation to be correct all patterns must be of equal size and weight and of equal ease of manufacture, which, of course, was not a fact.

The appraiser did not take each pattern and determine the reconstruction cost thereof nor did he eliminate obsolete, discarded or worthless patterns, nor did he check over the patterns to ascertain if all of the patterns which were made by the petitioner from 1903 to March 1, 1913, were still in existence. If a large part of the labor and materials on the books of the petitioner had been extravagantly or wastefully spent or wholly wasted, the appraisal would not eliminate such waste, but would magnify the amount by applying increased costs thereto.

Therefore the figures set forth in the appraisal applicable to patterns do not represent an appraisal of patterns but an appreciation of book costs and are therefore of little value in arriving at the fair market value of the petitioner’s patterns at March 1, 1913.

The only additional evidence contained in the record as to the value of these patterns was an expression of opinion by Martin B. Hammell, who is secretary and treasurer of the petitioner company. He testified that in his opinion the patterns of the petitioner were worth at least the amount shown in the apj>raisal company’s report. However, it was not shown that Mr. Hammell had ever examined all of the patterns owned by the petitioner, nor had he any personal knowledge of the cost of constructing patterns other than a general knowledge from examining the accounts of the company. We do not feel that Mr. Hammell had a sufficiently intimate knowledge of the patterns owned by the petitioner and the cost or market value thereof at March 1, 1913, to make more than an unsupported guess as to the value. Furthermore, since the petitioner is claiming a value for patents based upon the net profits derived from the manufacture and sale of patented articles, any value in excess of cost of the patterns would be reflected in the value of patents thus determined. In computing the overhead expenses used in determining the cost of producing patented articles, it is not apparent that the petitioner increased the pattern value over cost as shown by the books. From a consideration of all the evidence submitted we approve the Commissioner’s determination of the March 1,1913, value of patterns for the purpose of depreciation deduction.

The next issue is the value of patents owned by the petitioner on March 1, 1913. The average profits ascribed to the various patents by an analysis of the petitioner’s records for the years 1911 and 1912 and the remaining life as at March 1,1913, are as follows:

From a consideration of all the evidence, we are of opinion that the fair market value of these patents on March 1, 1913, was as follows:

905414_ $6, 073.78
906003_ 79,285.46
906787_ 117.99
908082_ 438.03
919840_ 3,349.03
995123_ 1,020.65
Total_$90,284.94

These amounts represent the fair market value of petitioner’s patents at March 1, 1913, and the amount to which the petitioner is entitled as a deduction for each patent in the years in question is an aliquot part of such value equal to the patent value divided by the years of life remaining after March 1, 1913.

The petitioner alleges error on the part of the Commissioner in computing depreciation for the years 1917 and 1918, by eliminating from the asset account, used as a basis for depreciation, certain amounts representing items of equipment claimed to be wholly depreciated. For example, the total cost of all items of the machinery and fixtures account up to December 31, 1916, as shown by the books of the petitioner, was $97,052.67. The revenue agent, whose action upon this issue was followed by the Commissioner, reduced this cost to $43,088.38. The difference is due to the elimination of the earliest purchases which, on the basis of the rates of depreciation used, would be entirely depreciated by December 31, 1916. The petitioner asks that depreciation for 1917 and 1918 be based upon a cost at December 31, 1916, of $97,152.67 instead of the $43,088.38 used by the Commissioner. No objection is raised by the petitioner to the rates used by the Commissioner for the prior years, nor is evidence presented to show that repairs or maintenance increased the life of the assets beyond the years indicated by the rates used.

The application of the method proposed by the petitioner would produce results which are inconsistent with the theory of a depreciation charge. Obviously, unless there is error on the part of the Commissioner in the rates of depreciation, used, the assets which were fully depreciated at the end of their expected life should not remain in the asset account and be depreciated over years when they are no longer in existence. To do so would be to permit a double recovery of the same assets. Accordingly, on the basis of the evidence presented, we must sustain the action of the Commissioner in computing the depreciation allowance only on assets which his determination showed had not yet been fully depreciated.

The next contention of the petitioner is that the Commissioner, in computing the depreciation for 1920 and 1921, used as a basis the net amounts appearing in the petitioner’s balance sheet for December 31, 1916, instead of the total cost of the assets, and also used inadequate rates of depreciation.

An examination of the revenue agents’ reports which were followed by the Commissioner shows that in the report for 1917, 1918, and 1919 depreciation was computed on the basis of the total cost of the assets, whereas in the report for 1920 and 1921 depreciation was computed on the balances of the assets as shown by petitioner’s books, which balances represented the total costs less the various depreciation charges which the petitioner had made against the assets. In both reports the same rates of depreciation were used, except in the case of office furniture and fixtures where the report for the later years used a lower rate. Under the previous issue we sustained the action of the Commissioner with respect to the basis of depreciation for 1917 and 1918, which action was based on the revenue agent’s report for these years and which provided for depreciation on the total cost of the assets, less proper eliminations for fully depreciated assets. We are of the opinion that the same method should be applied for 1920.

An examination of the petitioner’s record shows that it did not employ a consistent method of computing depreciation prior to 1917. It took no depreciation whatever prior to 1912, in which year it deducted some $40,000. In 1914 and 1915 no depreciation was written off except on patterns and on machinery and fixtures. The record further shows that on an investment of $39,305.24 for furnaces and ovens up to 1916, only $3,000 was written off as depreciation. In respect to these assets the petitioner introduced testimony to the effect that the proper annual rate of depreciation was 7% per cent and that the two furnaces purchased in 1903 and a third purchased in 1907 became entirely worthless in 1920. In view of this testimony, it is evident that the asset value of furnaces and ovens, on the books at December 31, 1916, was erroneous and would result in having a large balance still remaining on the books in 1920 when the assets were entirely depreciated. The same appears to be true of other de-preciable assets. For example, in the case of patterns, testimony was introduced as to their useful life, including an allowance both for wear and tear and also for obsolescence which agrees with the rates used by the Commissioner. It further appears that no objection is raised to the rates of depreciation used prior to December 31, 1916, the controversy being over the resultant effect of the application of the rates.

In view of the foregoing, the Board is of the opinion that not only should the respective rates of depreciation be applied to total costs of assets, after proper adjustment for assets fully depreciated, for the purpose of determining a reasonable allowance for depreciation in the various years, but also surplus should be adjusted in conformity therewith for all years on appeal.

The application of the foregoing principle also disposes of the issue raised as to $10,025.52 written off in 1917 on account of obsolete patterns, since the 10 per cent depreciation rate on this class of assets includes an allowance for obsolescence. The foregoing amount was disallowed as a deduction by the Commissioner for 1917 and restored to the asset account for depreciation and invested capital purposes for 1917 and 1918, but the evidence shows that this adjustment was not carried through into 1920, and we are, accordingly, of the opinion that the determination in 1920 with respect to this item should be consistent with the action for 1917 and 1918.

We are also satisfied that the depreciation rate of 10 per cent on office furniture and fixtures which was used by the respondent in the determination of the deficiencies for 1917 and 1918 should likewise be applied in 1920.

During the year 1918 an amount of $9,879.93 was spent for heating units, consisting of square boxes about 10 feet by 8 feet, containing motors and fans. This item was added to building account by the revenue agent, but should properly have been added to machinery and fixtures account. Therefore, this amount should be excluded from the building account and added to machinery and fixtures account.

The depreciation rate on ovens and furnaces has been established at 7% per cent. Therefore, that account should be revised beginning with 1903 so as to reflect this rate. The depreciation rates applied to all assets in 1918 and prior years should also be applied in 1920.

During the years 1920 and 1921 the petitioner engaged in a new building program, expending $253,181.62 in 1920 and $108,120.48 in 1921, a total of $381,302.10. The buildings were erected in sections, and one section was completed and put in use in the early part of July, 1920. The cost of the completed section is not shown in the record and evidently was not segregated on the books. The petitioner apparently desires that a segregation be made on the basis of square feet of floor area of the completed section as compared with the total floor area. The petitioner’s witness testified that the construction on the two sections was the same and that consequently the cost per square foot in each case would be the same. The total floor area of both sections was 70,715 square feet and that of the section completed in July, 1920, was 38,860 square feet.

While this manner of segregating costs is only an approximation and not generally acceptable in determinations of this character, we believe that in this instance we are justified in .computing a cost on this basis. It is of general knowledge that building costs reached a peak about the middle of 1920 and thereafter declined to the close of 1921. Consequently, with similar types of construction of the two sections, the second section would not normally have cost more per square foot than the first section, and may have cost less.

We are, therefore, of the opinion that the cost of the first section should be determined on this basis and depreciation be allowed thereon for 1920, beginning with July, 1920.

During 1920 the Commissioner disallowed as deductions for repairs various items aggregating $11,254.59, on the ground that such expenditures were capital investments, but allowed no depreciation thereon for the year 1920. The evidence shows that these expenditures were made on improvements to buildings and were put into use during 1920.

The petitioner is entitled to depreciation on these assets during 1920 for the portion of the year that they were in use as indicated in the following schedule:

Judgment will be entered on 15 days’ notice, under Rule 50.

Considered by Smith, Tkttssell, and Love.


author: Phillips:

text:
    Stephen Ransom, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 7904, 7905.
    Promulgated November 15, 1927.
    ' J. S. 7. Ivins, Esq., Frank R. Series, Esq., and Charles H. Lawson, Esq., for the petitioner.

      John D. Foley, Esq., for the respondent.
   OPINION.

Phillips:

These proceedings present only questions of fact for decision which probably never would have arisen except for the destruction of all petitioner’s accounts for years prior to 1920, by a fire which occurred early in that year. It is not disputed that the petitioner is entitled to amortize the assets purchased for war work, nor is there any dispute as to the period over which the cost of such facilities should be amortized. The sole question in dispute is the amount which should be allowed. The petitioner is handicapped in its proof of cost by the loss of its books. While the exact amount of the cost can not now be determined, we are satisfied from-the evidence that such cost was not less than $100,000. These machines and tools were purchased at a time when their cost was very high. The testimony is that after the war the market was glutted with such machines and that they could be sold, if at all, only for a small fraction of their original cost. Some were sold on that basis, some were taken down and stored in the hope of a future market, and others were set up in the shipyard which petitioner established in Brooklyn, where they were used to some small extent. The greater portion of these machines, however, were either scrapped or stored in unoccupied space because there was no market for them. In the business which petitioner had carried on before the war and which it carried on after the war contracts were completed, such machines were of no use. In that business only the usual hand tools of a plumber and a few light machines were required. Such assets as these have been largely disregarded in determining the amortization allowance.

In April, 1920, the petitioner leased waterfront property in Brooklyn for a period of 10 years, upon which it erected bulkheads, piers and buildings and caused dredging to be done, all at a cost of $481,184.17. The Commissioner allowed no exhaustion or depreciation of such assets. They are of such a character that they revert to the owner of the premises on the expiration of the lease and exhaustion should be allowed, the amount to be prorated from July 1, 1920, over the life of the lease.

The petitioner purchased a floating dry dock at a cost of $532,500. It is argued that this should also be depreciated over the life of the lease. We can not follow this contention of petitioner for there is nothing which would indicate that the useful life of such property, which did not become part of the realty and could be moved from one location to another, bears any relationship to the term of the lease. Nor can we follow the suggestion of its counsel that we use a rate of depreciation taken from a text book on accounting. On the other hand the Commissioner is obviously in error in having failed to allow any depreciation or exhaustion. The principal issue between the parties was with respect to cost. In computing the deficiency the Commissioner was without any evidence of cost. This has now been established and in recomputing the deficiency for 1920 it is proper that the Commissioner allow a deduction for depreciation from August 1, 1920, based upon this cost and upon what he may determine from any sources available to him to be the normal useful life of a floating dry dock.

Petitioner also contends for depreciation upon an alleged expenditure of $394,250.67 for electrical work. We are left without any knowledge as to the character of the work done or assets acquired. Whether they became part of the realty or part of the dry dock, whether they will have any value beyond the life of the lease or the life of the dry dock we do not know. Moreover, it does not appear when this work was done or the assets installed. The payment was made on the last day of the year. In such circumstances there is no basis on which an allowance for depreciation may be predicated.

The rental in 1920 of the New York and Brooklyn property, together with miscellaneous rental fees for the use of city docks, was $100,597.50. The Commissioner allowed $7,786.66. The full amount paid is an allowable deduction from gross income.

Upon organization, the petitioner took over the assets of a predecessor corporation and issued $50,000 par value of its capital stock therefor. In computing invested capital the Commissioner allowed only $5,000, for assets so acquired. The statute directs that such assets be included in the invested capital at their actual cash value, not to exceed the value at which they could have been included in the assets of the predecessor. (Sections 326 and 331, Revenue Act of 1918). The petitioner introduced as evidence only its minute book, showing that the directors authorized the purchase and containing a balance sheet of the assets and liabilities of the predecessor, which balance sheet indicates assets over liabilities of some $56,000. Such records standing alone are not proof of the actual cash value of the assets acquired or their cost to the predecessor corporation and the action of the Commissioner must be sustained because presumptively correct.

Petitioner alleges that the Commissioner erred in reducing invested capital for the periods involved by taxes for a prior period, which are in excess of the amount shown by the petitioner’s return to be due, the additional amount not yet having been finally determined by the Commissioner. The situation here is somewhat similar to that presented in the Appeal of Hof Brau Co., 6 B. T. A. 442. In the instant proceeding it was quite possible to establish the correct tax liability for the preceding period, that the proper invested capital might be computed. The burden is on the petitioner to do so. In fact, petitioner has established that the tax proposed by the Commissioner for the preceding period is excessive, in that inadequate allowance was made for amortization in computing net income for such preceding period. The tax for such prior period should be recomputed in the light of the facts found in this proceeding, and the amount so determined will be used in the computation of invested capital for the periods here involved.

Decision will be entered on SO days’ notice, under Bule SO.

Considered by Van Fossan.


text:
    Lyon & Billard Co., Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 7486, 11380.
    Promulgated November 15, 1927.

      W. L. Harrison, Esq., and Reuben Pollowitz, O. P. A., for the petitioner.

      A. R. Marrs, Esq., for the respondent.
   OPINION.

Love:

We have not jurisdiction to redetermine petitioner’s tax liability for the year 1919, since no deficiency was determined for that year. Revenue Act of 1926, section 274 (g); Appeal of Cornelius Cotton Mills, 4 B. T. A. 255.

It was petitioner’s practice once a year to turn over to its attorney for collection all overdue and doubtful accounts. At the same time, the amounts would be charged off the books, and would be deducted from income in its income-tax returns as bad debts. When the debts thus charged off were collected, petitioner included them in income. The evidence shows that many of them were collected within a few days after being placed in the hands of its attorney, and we are satisfied that worthlessness had not been ascertained when the deductions were made. The Commissioner disallowed such deductions in 1921. The petitioner now seeks to have the deductions similarly made in the years 1918 and 1920 restored to income, and the sums collected in those years, which had been erroneously deducted in other years under the practice described, excluded from income in 1918 and 1920, respectively. The latter are the only years before us. We think the facts which we have found are clearly established by the evidence, and that the petitioner is entitled to have the adjustment which it asks made in the years in question.

Judgment will be entered on 15 days’ notice, under Rule 50.

Considered by Teussell, Smith, and Littleton.


text:
    Holyoke & Westfield Railroad Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 8425.
    Promulgated November 15, 1927.

      J. S. T. Ivins, Esq., for the petitioner.

      Phillip M. Olarh, Esq., for the respondent.
   OPINION.

Phillips:

Upon the question of affiliation, petitioner has shown only that 200 of the 2,600 shares of its outstanding capital stock were owned by the New York, New Haven & Hartford Railroad Co., and that the latter company had a lease upon the petitioner’s property, which was, in terms, perpetual.

The statute provides that “ For the purpose of this section two or more domestic corporations shall be deemed to be affiliated (1) if one corporation owns directly or controls through closely affiliated interests or by a nominee or nominees substantially all the stock of the other or others, or (2) if substantially all the stock of two or more corporations is owned or controlled by the same interests.” There is nothing to indicate that the stockholders of the lessor corporation and those of the lessee corporation are “closely affiliated interests ” or the “ same interests.” Normally the interests of a landlord and of his tenant are not the same, one being interested in the profits from the operation of the property and the other only in the rental he is to receive. Nor is there anything to indicate that the lessor controlled the stock of the lessee or that the lessee controlled the stock of the lessor. We have heretofore pointed out that what the statute requires is ownership or control of the stock, and that control of the property of a corporation by reason of a lease does not meet the provisions of the law. Appeal of Old Colony Railroad Co., 1 B. T. A. 1067.

Under the terms of its lease the New York, New Haven & Hartford Railroad Co. was obligated to pay taxes upon the income of the petitioner. It is the contention of the petitioner that such payments are not income to it. We have heretofore had occasion to examine and discuss this question in the Appeal of Providence & Worcester Railroad Co., 5 B. T. A. 1186, where it was held that such payments constitute a part of the compensation for the property leased and are income under the authorities there cited. There we held further that under prior decisions of the Board such amounts are income in the year in which such taxes become due and payable, and are not income in the year for which imposed. Furthermore, it would appear from the terms of the lease that the income taxes assessed during the taxable years in question, on the rental of the previous years, first became an obligation of the lessee in the years in question. As applied to the present case, taxes which became due and payable in 1921 and 1922 upon the “ reserved rental ” for 1920 and 1921 are income to the lessor for 1921 and 1922.

It.appears that 29/30 of the tax for 1920 was paid in 1921 by the lessee and that the remaining 1/30 was borne by the Director General of Railroads under the provisions of Federal statutes under which he took over the control and operations of railroads. In the Appeal of New York, Ontario & Western Railway Co., 1 B. T. A. 1172, we considered such legislation and its history and reached the conclusion that the intention was to take from the railroads any liability for the portion of the tax to be borne by the Director General and there determined that such amount was neither a tax imposed upon the railroad nor income to it. That decision is controlling in this case. The income of the petitioner for the taxable years should be recomputed in accordance with the principles followed in the cases cited.

In computing the deficiency the Commissioner reduced invested capital by the amount of the tax for the preceding year, prorated from the date when each quarterly installment became due. This action appears to be in accordance with the provisions of section 1207 of the Revenue Act of 1926 and, except as adjustment of the amount may be necessary by reason of recomputation of the tax liability, the procedure followed by the Commissioner with respect to such deduction must be approved.

Decision will be entered on 15 days’ notice, under Rule 50.

Considered by VaN Fossan.


author: Phillips :

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    J. L. Hill, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6215.
    Promulgated November 15, 1927.

      George 8. Atkinson, Esq., for the petitioner.

      8. 8. Faulkner, Esq., for the respondent.
   Phillips :

This proceeding involves the determination by the Commissioner of a deficiency of $381.30 in income tax for 1923. It is alleged that the Commissioner erred in determining the March 1,1913, value of certain property sold in 1923 and of subsequent improvements, in computing the taxable gain from such sale.

FINDINGS OF FACT.

The petitioner is a citizen of the United States, residing at Corsi-cana, Tex. During 1928 he sold oil royalties on 130.2 acres of land for $1,600 and subsequently in said year sold the fee title to said land for $39,291, reserving one-sixteenth of all oil and gas. In order to deliver possession, petitioner paid to the tenant $1,200 for the growing crops on said land.

Such property was acquired by the petitioner in 1904 for $28 per acre. In reporting gain upon such sale upon his tax return for 1923, petitioner fixed the March 1,1913, value at $150 per acre and the cost of subsequent improvements at $5,600. The Commissioner determined the March 1, 1913, value to be $75 per acre and the cost of subsequent improvements to be $4,750.

The fair market value of such property on March 1, 1913, was $125 per acre and subsequent improvements cost $5,600.

Decision will be entered on 15 days' notice, wnder Bule 50.

Considered by Van Fossan.


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    Rubay Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 7076.
    Promulgated November 17, 1927.

      G. A. Spencer, Esq., F. H. Bryan, Esq., O. F. Busby, Esq., O. L. Loux, Esq., for the petitioner.

      Brice Toole, Esq., for the respondent.
   OPINION.

Love:

The petitioner alleges that on April 10, 1919, it sold outright to Leon Rubay all of its capital assets, valued at $751,657.69 for the amount of $270,000, thereby suffering a loss in the amount of $481,657.69 which loss, it contends, is deductible from gross income. The respondent denies that the assets were sold outright to Rubay and further denies that a loss was suffered by reason of the transaction.

It should be noted that while the petitioner did not challenge in its petition the respondent’s determination with respect to the closing date of its fiscal year, it did contend at the hearing herein that the respondent had erred in that respect. The petitioner further contended that if we found that it had sustained a deductible loss by reason of the transaction in question, such loss should be allocated to a preceding fiscal year other than that in which the transaction was completed. This contention is, of course, without merit. The respondent’s determination as to the closing date of the fiscal year, in the absence of affirmative evidence to the contrary, is approved.

The transfer of petitioner’s assets to Rubay took place on April 10, 1919, and the loss, if any, was sustained in that fiscal year. It is apparent that if a bona fide sale of the capital assets was made, as alleged, and if the net worth thereof was in the amount disclosed by the books, a loss would result for the obvious reason that the net worth exceeded the selling price. The respondent contends that a loss did not result from the transaction because, in fact, a partial liquidation took place. We are, therefore, confronted with the question as to whether a bona fide sale occurred.

The evidence in this proceeding was presented in the form of depositions and at the time and place of the taking thereof, the respondent introduced evidence showing the stockholdings of the petitioner on the day of the alleged sale. The petitioner strenuously objected, to the introduction of this evidence on the ground that it was irrelevant and immaterial to the issue as to whether a sale took place. The evidence was, we believe, competent for the reason that it reflects directly upon the bona fieles of the sale in question.

In its brief the petitioner urges that we must confine our inquiry solely to the question as to whether a transfer of the assets took place, disregarding all other elements. In other words, we are adjured to follow the form and not the substance of the transaction, that is, look only to the formalities observed in carrying out the sale. This we decline to do. The principle that the form must be disregarded in such a transaction is too well established to call for the citation of authority.

Let us look, therefore, at the substance of the sale in question. On April 10, 1919, Rubay had standing in his name all but four shares of the petitioner’s stock. On the same day he made a proposition to the petitioner through an agent for the purchase of its assets, which proposition was forthwith accepted.

We must not lose sight of the fact that for all intents and purposes, Rubay and the petitioner were one and the same, his act being the corporate act. If, through his agent, he had offered the petitioner $100 or $1,000 for all of its assets, he could have accepted that proposition with the same alacrity. He could establish an apparent loss to the corporation in any amount he chose by the simple expedient of offering and accepting an amount necessary to produce the desired loss. After all, it mattered not to him because being the owner of all of the stock he would not suffer thereby. The net result of such a transaction is that to the corporation an apparent loss results but the owner of all the stock suffers not. For that reason, we must look through the corporate entity in such case.

An examination of the trial balance of petitioner’s books as of April 10, 1919, discloses that exclusive of the amount set aside for taxes, petitioner had over $235,000, consisting of cash, stocks and bonds, among its assets. In addition it had buildings valued at $297,067.49, to say nothing of other assets of great value. Yet, on April 10, 191®, Rubay who was for all intents and purposes the corporation, sold to himself all of the assets for $135,000 in cash and $135,000 in bonds to be secured by the identical assets. An examination of the facts found discloses that the cash needed for the purchase was provided by the petitioner itself.

An impartial appraisement of the evidence leads irresistibly to the conclusion that the transaction in question would not be carried out by persons dealing at arms’ length. Every element points to the fact that the sale was not bona -fide, and we so hold.

We approve, therefore, the respondent’s determination in regard thereto.

Judgment will be entered for the respondent.

Considered by Tkussell, Smith, and Littleton.