text:
    KING LUMBER & OIL CO., Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
    Docket No. 9695.
    Decided September 30, 1926.
    Tbe depreciated cost of machinery discarded during the year held a proper deduction from gross income for such year.

      Lewis L. Davis, O. P. A., for the petitioner.

      W. Franh Gibbs, Esq., for the respondent.
    Proceeding for the redetermination of deficiency in income and profits tax for the fiscal year ended May 31, 1920, in the amount of $647.70, only a portion of which amount is in controversy. The petitioner claims the deduction from gross income of the .depreciated cost of four steam-jacketed cookers discarded during the year.
    FINDINGS OP PACT.
    The petitioner is a Georgia corporation organized in 1909 for the purpose of operating a saw mill, cotton seed oil mill, and cotton gin. In the equipment of its cotton seed oil mill it acquired in 1910, at a cost of $2,500, four 54-inch steam-jacketed cookers. Each cooker consisted of a cast iron kettle, circular, with a cast iron jacket around it weighing from 1,200 to 2,000 pounds. These cookers had a life in use of approximately 20 years. In years prior to 1919 the petitioner was allowed depreciation upon them at the rate of 5 per cent per year. In 1920 a more efficient cooker had been placed upon the market. Accordingly, the petitioner purchased one of the new cookers during the fiscal year ended May 31, 1920, paid therefor the amount of $4,125, and discarded the four 54-inch steam-jacketed cookers which had been in use since 1910. There was no market for the discarded cookers and they were simply thrown out as junk. They are still on the petitioner’s premises. The thermostatic cooker gives a better grade of oil and a larger amount from the same quantity of cotton seed.
    In its income-tax return for the fiscal year under review, the petitioner claimed as a deduction from gross income as an expense of operation the $4,125 paid for the thermostatic cooker. This amount was disallowed as a deduction from gross income by the Commissioner on the ground that it was an improvement. In this proceeding the petitioner claims the deduction from gross income of the depreciated cost of the four steam-jacketed cookers discarded. The depreciated cost of these cookers was $1,375.
   OPINION.

Smith:

Section 234(a) of the Revenue Act of 1918 permits a corporate taxpayer to deduct from gross income:

(4) Losses sustained during the taxable year and not compensated for by insurance or otherwise.
(7) A reasonable allowance for the exhaustion, wear and tear of property used in the trade or business, including a reasonable allowance for obsolescence.

At the beginning of the fiscal year ended May 31, 1920, the petitioner had in its equipment four steam-jacketed cookers which had cost it in 1910 $2,500. These cookers had a value on March 1, 1913, of approximately $2,200. The petitioner’s books of account do not show the cost of the cookers separately from the cost of other equipment. The cost was, however, included in the machinery and equipment account. The depreciated cost of this asset at the beginning of the fiscal year under review was $1,375. The salvage value was negligible. In our opinion the petitioner sustained a loss when he discarded these cookers of the depreciated cost of them, or $1,375.

Order of redetermination will be entered on 15 days' notice, under Rule 50.


source: Caselaw Access Project

author: Marquette

license: Public Domain

text:
    Appeal of THE FIBRE CONDUIT CO.
    Docket No. 5001.
    Decided September 30, 1926.
    Evidence held insufficient to show that certain expenditures involved herein should be capitalized.

      Edward T. Perine, O. P. A., for the petitioner.

      W. Franh Gibbs, Esq., for the Commissioner.
    This appeal is from the determination of a deficiency in income and profits taxes for the year 1919 in the amount of $1,506.64. The deficiency arises from the refusal of the Commissioner to include in the taxpayer’s invested capital for the year 1919 the amount of $52,591.91, claimed by the taxpayer to represent capital expenditures made by it in prior years.
    FINDINGS OP PACT.
    The taxpayer is a New York corporation with its principal office and place of business at Orangeburg, N. Y., and is engaged in the manufacture of conduits.
    The only evidence presented is a copy of a report made by a revenue agent under date of November 19, 1924, of his examination of the taxpayer’s books.

      Tlie pertinent parts of the report are as follows:
    Tlie point at issue is wlietlier tie amount of $52,591.91 disallowed in 1909, should be restored to invested capital. In the Company’s protest dated June 4, 1924, it was claimed that in 1909 they were disallowed depreciation amounting to $35,900.69 which was claimed as an addition to invested capital. The Department had at first disallowed their entire deduction of $52,591.91 and then allowed them the amount of $16,691.22.
    As explained under Exhibit A-l, the amount of $52,591.91, was disallowed not as depreciation but as “prior year expense.” Taxpayer has admitted that their claim for restoring the amount of $35,900.69 to invested capital as “ depreciation disallowed ” was incorrect. They now claim that it should be restored under Article 841, as the amount of $52,591.91 was a capital item on their books headed as “ improvements ” which they wrote off in 1909 and disallowed by the Department.
    However, the amount of $52,591.91 was correctly disallowed in 1909 as “ prior year expense ” and as such should not be restored to invested capital. This is shown by the analysis below of the “ Improvement Account.”

      Improvement aect.

    DEBITS. CREDITS.
    1-1-1896:
    Alterations and repairs- $1, 028.47 Library_ 26. 65 Interest and discount- 5, 963. 67 1- 1-1896, Depreciation_$5, 000. 00 2- 1-1896, Pitch_ 120. 00 12-19- 07, Depreciation_ 3, 500. 00
    Office expense_ 3,100.13 Laboratory_ 677. 54 1- 1- 08, Balance_ 52,591.91
    Alterations and repairs- 80. 39
    Library_ 20. 00
    Wages_ 10,373.68
    Salaries_ 7, 553. 30
    Insurance_ 125. 03
    Interest and discount_ 143. 86
    Office expense_ 4, 879.34
    Factory expense_ 18, 654. 77
    Freight and express_ 1, 306. 50
    Manufacturing_ 7,160. 83
    Legal_ 117.75
    61,211.91 61,211.91
    The company was organized in 1893 and all expenses incurred up to December 31, 1895 were capitalized in the above account with the following journal explanation.
    January 1, 1896: Balances of above accounts represent labor and expenses of installing machinery and fitting plant, alterations and repairs, exploitation and laboratory work, including profit and loss and .all expenses incidental to organization and development.
    In 1909 company deducted $52,591.91 as depreciation — actually there was no depreciation charged oil the books that year at all. The amount of $52,591.91 really represented all expenditures of the company from the time of incorporation in 1893 up to the year 1896, all of which were capitalized under the heading of “ Improvements ” in 1896. In 1909 this item was written off to profit and loss, but for the purpose of the corporation Excise Tax Return it was termed “ Depreciation.”
    When the return for the year 1909 was examined the total amount was disallowed as it represented expenses properly chargeable to prior years. However, since no depreciation had been taken that year and company made a claim for same, it was computed by examining officer and was allowed in the amount of $16,691.22. The year 1909 was closed on the following basis:
    Prior year expense disallowed_$52, 591. 91
    Depreciation allowed_ 16, 691.22
    Additional Income_ 35, 900. 69
    Since the amount of depreciation allowed for this year was never put through the books, it has been mad^ part of the above adjustment.
    The Commissioner, upon audit of the taxpayer’s income and profits-tax return for the year 1919, refused to include in the taxpayer’s invested capital the amount of $52,591.91 mentioned in the revenue agent’s report, or any part thereof, and determined that there is a deficiency in tax in the amount of $1,506.64.
   OPINION.

Marquette

: The taxpayer alleged in its petition that the amount of $52,591.91 involved herein represents expenditures made by it prior to the year 1896 for organization, experimental and laboratory work and in development necessary to establish the company and its business; that these expenditures were of a capital nature and that the amount thereof should be included in its invested capital for the year 1919.

The Commissioner in his answer denied the material allegations of the taxpayer’s petition, and it is therefore incumbent upon the taxpayer to establish by competent evidence the facts alleged in order to entitle it to the relief sought. The only evidence presented is a copy of a report of an investigation of the taxpayer’s books made by a revenue agent, the material part of which is set forth in the findings of fact. Assuming all of the statements made in the report to be true, it nevertheless falls short of showing that the $52,591.91 in .question should be included in the taxpayer’s invested capital. There is nothing in the pleadings or the evidence which would warrant us in disturbing the Commissioner’s determination.

Judgment for the Commissioner.


author: Phillips:

text:
    OTTO P. HEYN, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
    Docket No. 3788.
    Decided September 30, 1926.

      Otto P. Heyn pro se.

      A. H. Murray, Esq., for the respondent.
   Phillips:

Petitioner appeals from the determination of a deficiency of $105, income tax for 1923, and alleges error by the Commissioner in refusing to allow a deduction of $3,000 for a debt alleged to have been charged off within the taxable year, the basis of the disallowance being that such debt was not ascertained to have been worthless in 1923.

FINDINGS OF FACT.

In June, 1923, the petitioner indorsed the note of one Herman C. Vietor for $3,000, which was then discounted at a bank at which both Vietor and the petitioner had accounts. Both the taxpayer and Vietor were employees of the same corporation. In September, 1923, the note being due and unpaid, the bank applied to its payment the amount which Vietor had on deposit with it, and the balance, $2,800, was paid to it by the petitioner.

The petitioner during 1923 ascertained said debt to be worthless.

In preparing his 1923 income-tax return petitioner claimed a deduction of $3,000 on account of such transaction, which deduction was disallowed in whole by the Commissioner in determining the deficiency in question.

Order of redetermination will be entered on 10 days’ notice, under Bule 50.


author: Maequette

text:
    Appeal of HARMON W. HENDRICKS.
    Docket No. 4554.
    Decided September 30, 1926.

      Held, that the dividends involved herein were paid from 1917 earnings only to the extent that there were such earnings on January 17, 1917, the date the dividends were declared.

      Lawrence A. 'Baker, Esq., and Samuel Biker, Jr., Esq., for the petitioner.

      George G. Witter, Esq., for the Commissioner.
    This appeal is from the determination of a deficiency in income taxes for the year 1917 in the amount of $7,507.12.
    FINDINGS OF FACT.
    The taxpayer is an individual residing at New York City. He filed an income-tax return for the calendar year 1917 showing tax in the amount of $11,674.17 due on the basis of the income shown in the return, which was duly assessed and paid. In February, 1920, additional tax was assessed in the amount of $300.85. In April, 1923, an examination of the taxpayer’s books and records for the year 1917 was made by a revenue agent, and upon his recommendation additional tax was assessed against the taxpayer for that year in the amount of $9,584.17. The taxpayer filed a claim for the abatement of the additional tax so assessed, and on April 3, 1924, he was advised by the Commissioner that the claim for abatement had been allowed in the amount of $2,077.05. The Commissioner’s letter of April 3, 1924, is as follows:
    Reference is made to a letter dated August 29, 1923, written in your behalf by Mr. Samuel Hiker, Jr., New York, and to your claim for abatement which refers to the further tax liability of $9,584.17 found due on your 1917 income tax return, Form 1040, by reason of the findings of the Revenue Agent.
    * * * * * ¡¡= *
    Tlie Collector of Internal Revenue for your district will be officially notified of the adjustment at the expiration of thirty days from the date of this letter, unless prior to that date evidence is furnished, showing the adjustment is correct.
    Under no circumstances should payment of the amount rejected be made until a bill is received from the Collector of Internal Revenue for your district and remittance should then be made to him.
    The taxpayer filed a protest against the Commissioner’s action on the claim for abatement, and, after consideration thereof, the Commissioner deniéd the protest and advised the taxpayer of his action thereon by letter dated April 3, 1925, which is as follows:
    Reference is made to your tax liability for the year 1917.
    You are advised that the Solicitor of Internal Revenue, after careful consideration of all the facts and evidence submitted in support of the exceptions taken to the adjustment of your tax liability for 1917, has held that the dividends received from Hendricks Brothers, Incorporated, were properly allocated.
    In view of the foregoing the action of the Unit has been sustained and your protest denied. .
    The adjustment of your tax, as shown by office letter of April 3, 1924, copy of which is attached, is, therefore, held to be correct.
    The overassessment indicated has been made the subject of a Certificate of Overassessment which was forwarded to you through the office of the Collector of Internal Revenue for your district.
    The appeal herein was taken from the Commissioner’s letter of April 3, 1925.
    Hendricks Brothers, Inc., is, and was during the years 1916 and 1917, a corporation organized under the laws of the State of New York, having a capital stock issued and outstanding in the amount of $200,000, all of which was owned by the taxpayer. The net earnings of the company for the year 1916 were $283,924.35.
    On January 17, 1917, at the annual meeting of the board of directors of Hendricks Brothers, Inc., the net profits of the company for the year 1916, amounting to $283,924.35, were carried to the undivided profits account. At the same meeting of the board of directors the following resolution was adopted:

      On motion duly seconded a dividend of (20%) twenty per cent was declared out of the surplus earnings of the company to be paid as follows:
    January Slst, five per cent
    April 30th, five per cent
    July 31st, five per cent
    October 31st, five per cent
    An extra dividend of twenty-five per cent (25%) was also declared payable forthwith.
    In accordance with the resolution of the board of directors of Hendricks Brothers, Inc., the amount of $90,000 was transferred on January 19, 1917, from the undivided profits account to the dividend account.
    On January 18, 1917, there was paid to the taxpayer, $50,000, on January 31, 1917, $10,000, on April 30, 1917, $10,000, on April 31, 1917, $10,000, and on October 31, 1917, $10,000, as dividends declared on January 17, 1917.
    The taxpayer reported the dividends in question in his return for the year 1917 as having been paid in that year from earnings accumulated by Hendricks Brothers, Inc., during the year 1916, and therefore subject to taxation at the rates prescribed by law for the year 1916. The Commissioner, as shown by the letter of April 3, 1924, determined that $43,947 of the dividends was paid from earnings accumulated in the year 1916 and $46,053 from earnings accumulated in the year 1917.
    The net earnings of Hendricks Brothers, Inc., for the year 1917 were $291,603.24. The record does not disclose the net earnings of Hendricks Brothers, Inc., during the period January 1 to January 17, inclusive.
   OPINION.

Maequette

: The Commissioner, in his answer to the taxpayer’s petition herein, alleges that the letter of April 3, 1925, from which this appeal is taken, disclosed an overassessment rather than a deficiency in tax, and that the Board is therefore without jurisdiction to hear and determine the appeal. The Board has heretofore held that it has jurisdiction of an appeal from a determination of the Commissioner made prior to the Revenue Act of 1924, denying a claim for abatement of income and profits taxes assessed prior to the date of its enactment. Appeal of Joseph Garneau Co., 1 B. T. A. 75; Appeal of J. S. Hoskins Lumber Co., 3 B. T. A. 846. In our opinion the action of the Commissioner, as set forth in the letter to the taxpayer of April 3, 1925, was a final determination of the income tax due from the taxpayer for the year 1917, from which he has the right to appeal to this Board, and, upon the authority of the above cited appeals, we so hold.

The taxpayer contends that the dividends aggregating $90,000, paid to him by Hendricks Brothers, Inc., pursuant to the resolution of the board of directors adopted January 17, 1917, were made from profits accumulated during the year 1916 and should be taxed to him at the rates prescribed by law for the year 1916. The Commissioner has determined that the dividends were, to the amount of $46,053, paid from the earnings accumulated by Hendricks Brothers, Inc., during the year 1917 and that to the extent that they were 2iaid out of 1917 earnings they are taxable at the rates prescribed by law for the year 1917.

The Commissioner also urges that the words any distribution made as used in the Revenue Act of 1917 with respect to dividends, had reference to the time of payment and not to the time when the dividends were declared. In support of this contention, he cites the case of Edwards v. Douglas, 269 U. S. 204.

Section 31 of the Revenue Act of 1916 (added by section 1211 of the Revenue Act of 1917), relating to dividends, is as follows:

Sec. 31. (a) That the term “dividends” as used in this title shall be held to mean any distribution made or ordered to be made by a corporation * * * out of its earnings or profits accrued since March first, nineteen hundred and thirteen, and payable to its shareholders * * *.
(b) Any distribution made to the shareholders or members of a corporation * * * in the year nineteen hundred and seventeen, or subsequent tax years, shall be deemed to have been made from the most recently accumulated undivided profits or surplus, and shall constitute a part of the annual income of the distributee for the year in which received, and shall be taxed to the dis-tributee at the rates prescribed by law for the years in which such profits or surplus were accumulated by the corporation * * * but nothing herein shall be construed as taxing any earnings or profits accrued prior to March first, nineteen hundred and thirteen, but such earnings or profits may be distributed * * * exempt from the tax, after the distribution of earnings and profits accrued since March first, nineteen hundred and thirteen, has been made.

In the Appeal of A. H. Stange, 1 B. T. A. 810, the Board held that the words any distribution made, as used in the above quoted section with respect to dividends, have reference to the time a dividend is declared and not the time of payment. The Board in that appeal said:

The determination of the principal question herein depends, in the last analysis, upon the construction which must be given to the words any distribution made, as used in section 31 (b) of the Revenue Act of 1916. If these words have reference to the declaration of a dividend, the taxpayer must prevail ; if they mean the actual time of payment of a dividend, then it will be necessary to construe the limitations upon distribution of earnings and profits in said section. It is therefore necessary to ascertain the legal effect of a resolution declaring a dividend. The definition of a dividend in section 31 (a) of the 1916 Act as “any distribution made or ordered to be made by a corporation * * * out of its earnings or profits * * * and payable to its shareholders,” comports with the general definition of a dividend, and for the purposes of this ease may he taken as correctly defining a dividend declared out of earnings or profits accrued prior to March 1, 1913. What, then, is the legal effect of the declaration of a dividend? * * *.
The outstanding features of a dividend declaration are that, by the mere declaration, the dividend becomes thereby separated and segregated from the stock and exists independently of it; the right thereto becomes immediately fixed and absolute in the stockholders, and the corporation becomes a debtor to its stockholders for their pro rata shares. There is an apportionment or division of the assets of the corporation, to the extent of the dividend, to its stockholders. The corporation is at once poorer in the amount of the dividend declaration, and the stockholder becomes richer in his own right, to the extent of his pro rata share. What theretofore existed as undivided profits or surplus has become divided profits and the surifius is reduced to the extent of the dividend declared. It has ceased tó be the property of the corporation and has become the property of the stockholder, and his interest therein becomes adverse to the corporation and to every other stockholder. We think this division or segregation of the amount of the dividend from the general mass of the corporate property and its apportionment to the stockholders is included in the words any distribution made, as used in the statute, and that those words must he given the same legal effect as results from the declaration of a dividend. It follows that the resolution of the board of directors of A. H. Stange Co., passed on January 27, 1917, constituted a distribution to its stockholders at that time of the surplus existing at March 1, 1913, and the fact that payment was made in subsequent years becomes immaterial.

We have carefully considered the case of Edwards v. Douglas, supra, but we are unable to agree with the Commissioner that it is authority for holding that the words any distribution made, as used in section 31 (b) of the Revenue Act of 1917, relate to the time of payment. We therefore hold that the resolution of the board of directors of Hendricks Brothers, Inc., of January 17, 1917, constituted a dividend at that time, regardless of the fact that part of the dividend was not paid until later.

Having decided that the amount of $90,000 received by the taxpayer during the year 1917, pursuant to the resolution of the board of directors of Hendricks Brothers, Inc., adopted January 17, 1917, constituted a dividend to him on that date and not on the dates when the payments were actually made, we must consider whether any part thereof is, as contended by the Commissioner, taxable at the rates applicable for the year 1917. In the case of Edwards v. Douglas, supra, the facts were that in September and December, 1917, Phelps Dodge Corporation declared two dividends called “ depletion dividends,” of which $328,400 was paid to Douglas. He, and later his estate, claimed that the dividends were not taxable but that, if taxable at all, it was at the 1916 rate, since the corporation had a surplus on December 31, 1916, sufficient to pay the dividend. At the time the dividends were declared the current earnings were also sufficient for that purpose. The Supreme Court of the United States held that the words “ most recently accumulated undivided profits or surplus ” from which distributions were made under section 31 (b) of the Revenue Act of 1917, include current earnings, and that dividends paid in the year 1917 are taxable at the 1917 rate insofar as they were made from earnings of that year. It follows, therefore, that the distribution made by Hendricks Brothers, Inc., on January 17, 1917, was made from earnings for the period January 1 to January 17,1917, insofar as there were such earnings.

Order of redetermination will be entered on 15 days’ notice, under Rule 50.


author: ARtjNdell:

text:
    Appeal of FRANK J. BOSSHARDT.
    Docket No. 4436.
    Decided September 30, 1926.
    In tbe case of a sale of real estate, where the initial payments, other than evidences of indebtedness of the purchaser, received within the taxable year 1922, are less than one-fourth of the purchase price, the taxpayer may return as income the proportion of such payments which the total profits realized or to be realized bear to the total contract price. (Sec. 212(d) and see. 1208, Revenue Act of 1926.)

      George G. Witter, Esg., for the Commissioner.
    Appeal from the determination of a deficiency of $311.63 in income taxes for 1922. The taxpayer alleges the Commissioner erred in including in income deferred installment payments due in subsequent years on account of the sale price of real property sold or contracted to be sold in the taxable year, and in refusing to allow him and his wife to file separate amended income-tax returns on the community property basis in place of a joint return. There was no appearance at the hearing on behalf of the taxpayer. The Commissioner moved to dismiss under Rule 18. The findings of fact are based on admissions in the answer and an affidavit introduced in evidence by the taxpayer with the consent of the Commissioner.
    FINDINGS OF FACT.
    The taxpayer resides at San Antonio, Tex., where he has been engaged in the general practice of law since 1898. He reported his income for 1922 and for prior years on the cash receipts and disbursements basis. The accounting system employed by him consisted of single-entry memoranda of money received and a check stub record of disbursements. For 1922, a joint income-tax return of the taxpayer and his wife was filed, showing a net income of $3,918.52, and there was paid thereon a tax of $40.74.

      In October, 1922, the taxpayer sold a parcel of land for $11,000, of which $2,500 was paid in cash and $8,500 was represented by eight promissory notes. Seven of the notes were for $1,000 each, and were payable annually over a period of seven years; one was for $1,500 and was payable at the end of eight years. The notes were secured by a vendor’s lien on the property. Annexed to the income-tax return was the following schedule:
    Schedule O.
    Property sold: Lots.
    Cost 1909_$1,100.00
    Value March 1, 1913-$4,000. 00
    Subsequent improvements- 760.15
    Total cost- 4,760.15
    Sale price §2,500 cash — $1,000 per yr_ 11,000.00
    Less:
    Commission_$550. 00
    Revenue stamps- 11. 00
    Supplemental abstracts- 6. 00
    - 567.00
    Net sale price- 10,433. 00
    Cost-'- 4, 760.15
    Gross profits- 6, 672. 85
    Divide by net sale price- 10, 433. 00
    Gross profits ratio_ . 64%
    Multiply by cash collected- 2, 500. 00
    Income received in 1922_ 1, 359,37
    In October, 1923, a deputy collector of internal revenue at San Antonio prepared amended separate returns on the community property basis for taxpayer and his wife, showing a community net income of $8,493.05, and taxes of $113.83 due by the taxpayer and $129.86 due by his wife, the sum of $40.74 originally paid being credited to him. The Commissioner subsequently declined to permit the filing of separate returns in place of the joint return originally filed.
    The Commissioner determined that the entire apparent profit from the sale of the land was income to the taxpayer in 1922. In determining the total profit, the Commissioner used the figures reported by the taxpayers as the March 1, 1913, value.
   OBINION.

ARtjNdell:

Section 212(d) of the Eevenue Act of 1926 provides as follows:

Under regulations prescribed by the Commissioner with the approval of the Secretary, a person who regularly sells or otherwise disposes of personal property on the installment plan may return as income therefrom in any taxable year that proportion of the installment payments actually received in that year which the total profit realized or to he realized when the payment is completed, bears to the total contract price. In the case * * * of a sale or other disposition of real property, if * * * the initial payments do not exceed one-fourth of the purchase price, the income may, under regulations prescribed by the Commissioner with the approval of the Secretary, be returned on the basis and in the manner above prescribed in this subdivision. As used in this subdivision the term “ initial payments ” means the payments received in cash or property other than evidences of indebtedness of the purchaser during the taxable period in which the sale or other disposition is made.

Section 1208 of the same Act reads as follows:

The provisions of subdivision (d) of section 212 shall be retroactively applied in computing income under the provisions of the * * * Revenue Act of 1921 * * *.

Under date of August 27, 1926, the Commissioner issued bis regulations pursuant to the provision of the statute quoted above.

These sections of the Act and the regulations promulgated pursuant thereto are applicable to the facts in this case. The payment, other than evidences of indebtedness of the purchaser, received in the taxable period from the sale of real estate, was less than one-fourth of the purchase price; and the taxpayer is, therefore, permitted to return as income a proportionate part of the profits ascertained in the manner prescribed in section 212(d). In ascertaining the proportion of profit, the taxpayer has not followed exactly the method there prescribed, in that he has used the ratio which the total profit realized bears to the net sale price, whereas the statute specifies, instead of the net sale price, the “total contract price.” This results in a slightly larger proportion of profit than if the statutory method were used.

Having decided the taxpayer may return as income of the taxable year only the proportionate profit on the payment received in that year, the question of the right of the taxpayer and his wife now to file separate returns of community property becomes immaterial.

Order of redetermination will be entered on 15 days' notice, under Rule 50.


author: Love

text:
    Appeal of THE GRAY PRINTING CO.
    Docket No. 4503.
    Decided September 30, 1926.
    1. Additional salaries of officers for 1919 disallowed.
    2. A loss by fire fully compensated by insurance does not affect invested capital.
    3. In the absence of any evidence, a penalty assessment must be approved.

      George M. Gray, for the petitioner.

      George G. Witter, Esq., for the Commissioner.

      This is an appeal from the determination of deficiencies for the years 1919, 1920, and 1921, as follows:
    1919_$3,276.02
    1919, 25 per cent penalty_ 819.02
    1920_ 3. 67
    1921_ 16.38
    4,115. 08
    The petitioner alleges error on the part of the Commissioner in disallowing $4,500 additional salaries for the year 1919, and in reducing invested capital $12,181.75 by reason of adjustment of fire losses compensated by insurance.
    FINDINGS OF FACT.
    The petitioner is an Ohio corporation with a capital stock of $75,000, and is engaged in the printing business. The petitioner was a close family corporation, the stock of which was owned by George M. Gray, his two sons, the wife of Gray, and the wife of one of his sons, all of whom were also directors. The father and the two sons gave all their time to the business of the petitioner and the wives merely held qualifying shares of stock and always acquiesced in the actions of the remainder of the board of directors. It was the practice of the father and the two sons to meet at eleven o’clock each morning to discuss and decide on business transactions, but no formal records or minutes were kept of these meetings. The officers of the petitioner drew nominal weekly salaries necessary for their living expenses, and after the close of the calendar year, and after the profits were ascertained, drew additional salaries for the preceding year. The amount of the increase was based upon the condition of the business at the end of the year, but no percentage of profits was allocated to salaries.
    It was understood and agreed among the directors during the year 1919, as in former years, that the officers would be paid additional salaries after the ascertainment of the financial condition of the business at the close of the year December 81, 1919. Sometime in 1920, the three male members of the board of directors informally determined the amount of the additional salaries and directed that $4,500 stock be issued therefor. Owing to irregular bookkeeping methods, the entry of the $4,500 additional salaries was delayed until October 1, 1920, before being put upon the books. It was entered upon the books as of December 31, 1919. The petitioner kept its books on the accrual basis and made its returns on the basis of calendar years.

      On January 13, 1917, the building, equipment, and stock of the petitioner were damaged by fire. As the result of an adjustment with the fire insurance company, the petitioner received $20,241.22 apportioned by the adjusters as follows:
    Buildings-$2, 870.31
    Equipment_ 11, 508. 56
    Merchandise supplies, etc- 5, 862.35
    Total_ 20,241.22
    The petitioner proceeded to restore and recondition its buildings, equipment and stock. Of the amount received from the insurance company, the petitioner spent $7,478.70 in restoring the equipment, and $2,870.31 was credited to the building account, the two items amounting to $10,349.01, leaving a balance of $9,892.21, the disposition of which is not disclosed by the evidence.
    The petitioner further appreciated the merchandise and equipment account $2,289.52 to conform to an appraisal of the Lloyd Thomas Co., which sum was disallowed by the Commissioner in the computation of invested capital. The latter sum, together with the $9,892.21 above referred to, or a total of $12,181.73, is the amount of invested capital disallowed by the Commissioner and is in controversy. The petitioner concedes that the Commissioner is correct in respect of the item of $2,289.52.
   OPINION.

Love

: In this appeal we must decide whether or not the Commissioner erred in disallowing $4,500 as additional salaries for the year 1919, and in decreasing invested capital by $12,181.73.

It was the practice of the petitioner, as the books were kept on the accrual basis, to wait until after December 31 of the calendar year to fix the amount of the additional salaries and to charge it on the books as of December 31. Thus, in 1919, they drew nominal salaries with the understanding that, if the books at the end of the year showed a sufficient surplus, additional salaries would be fixed thereafter. After December 31, 1919, and sometime in 1920, the amount was fixed at $4,500, to be taken in stock. On account of the irregular manner of keeping book records, the actual issuance of stock for additional salaries did not occur until later in the year 1920, and the actual book entry was not made until October 1, 1920. We have held that a corporation can act through its directors informally without written minutes or formal resolutions and that the acts of its directors effected pursuant to oral understanding are binding upon such corporation. Appeal of Reub Isaacs & Co., 1 B. T. A. 45.

However, in this appeal there is no evidence that the directors during 1919 even informally agreed upon additional salaries, specific in amount, or based upon percentage of profits at the end of the year. There was no action taken in 1919 that could be construed to be a legal obligation upon the petitioner to pay the additional salaries. In other words, no binding liability accrued in 1919; therefore, the petitioner is not entitled to deduct the additional salaries in that year. Appeal of Van De Kamps Holland Dutch Bakers, 2 B. T. A. 1247.

As to the decrease of invested capital by the Commissioner, it is admitted in the answer of the Commissioner that the petitioner’s plant was damaged by fire in 1917, and that it collected $20,241.21 on its fire insurance policies. The Commissioner further admits that $7,478.70 of the insurance money was spent in restoring and reconditioning petitioner’s equipment. There is no evidence to show what became of the remainder of the insurance money, and no allegation or admission on the part of the Commissioner as to how, when, or where it was used.

There is no evidence in the record to show whether or not the loss by fire was fully compensated by insurance. For the purposes of this case, it will be presumed that such loss was fully compensated. When the insurance money was paid to the petitioner by the insurance company, it evidently went into its treasury as cash, and hence there was no diminution of capital assets.

There was no evidence offered in reference to the 25 per cent penalty assessed by the Commissioner.

The Commissioner’s determination in disallowing additional salaries in the amount of $4,500 and in reducing invested capital to the extent of $2,289.52 is approved. The further reduction of invested capital in the amount of $9,892.21 is disallowed.

In the absence of any evidence, the action of the Commissioner in assessing 25 per cent penalty must be approved.

Order of redetermination will ~be entered on 15 days’ notice, under Bule 50.


author: Lansdon:

text:
    C. E. COOPER and EDNA V. COOPER, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
    Docket No. 2206.
    Decided September 30, 1926.
    Income from share of distributive profits of a partnership determined.

      H. H. Tooley, O. P. A., for the petitioners.

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

      In separate notices the Commissioner has asserted a deficiency in income tax for the calendar year 1920 against each of the petitioners in the amount of $12,287.51, all of which is in controversy. The deficiencies arise from the Commissioner’s method of computing the share of the marital community in the distributive profits earned by a certain partnership during the taxable year.
    PINDINGS OP PACT.
    The petitioners were residents of the State of Texas during the taxable year and constituted a marital community under the laws of that State.
    Prior to January 1, 1920, C. E. Cooper and R. H. Plenderson formed a business partnership, known as the C. E. Cooper Co., for the purpose of dealing in oil and gas leases. The partnership agreement was oral, and there is no controversy as to its terms and conditions. Each partner had a half interest in the business.
    Prior to July 1, 1920, the C. E. Cooper Co. acquired an oil and gas lease, known as the Goodwin lease, on a certain 20 acres of land in-the State of Texas. The terms of the lease are not material to the issues to be determined, except a provision for the payment to the lessor of a royalty of one-eighth of the oil produced.
    On July 1,1920, for the purpose of securing funds for the development of the Goodwin lease, the C. E. Cooper Co. entered into a written contract with one Leaverton, a trustee for various investors acting together under the terms of a trust agreement, hereinafter referred to as the Leaverton Trust. By the terms of this contract the C. E. Cooper Co. conveyed an undivided one-half interest in the Goodwin lease to the Leaverton Trust and contributed the amount of $30,000 for use in development work; the Leaverton Trust contributed $90,000 to the common fund for use in development work; the C. E. Cooper Co. and the Leaverton Trust were each to receive seven-sixteenths of any oil that might be recovered from the lease; and an operating entity, hereinafter referred to as the Cooper-Henderson-Goodwin Lease, composed of the C. E. Cooper Co. and the Leaverton Trust, was created.
    The development work done by the Cooper-Henderson-Goodwin Lease resulted in the discovery of oil in paying quantities on September 27, 1920. Subsequently, Cooper, Henderson, and one C. J. Dexter, organized the Cooper-Henderson Oil Co. of Texas and incorporated the same under the laws of the State of Arizona. On October 16, 1920, this corporation acquired the interest of the C. E. Cooper Co. in the Cooper-Henderson-Goodwin Lease and issued shares of its capital stock therefor.
    Seven-eighths of the total net income realized from the Goodwin lease during the year 1920 was $369,815.81. On October 16, 1920, the C. E. Cooper Co. transferred all of its interest owned up to that time in the Cooper-Henderson-Goodwin Lease to the Cooper-Henderson Oil Co., a corporation.
   OPINION.

Lansdon:

From the meager data adduced in evidence, we must determine the taxable income accruing to the petitioners from their interest in the Goodwin lease during the year 1920. Whatever income they received was by reason of their interest in the operating entity designated as the Cooper-Henderson-Goodwin Lease, which came into existence as the result of a contract between the C. E. Cooper Co. and the Leaverton Trust which was executed on July 1, 1920. The C. E. Cooper Co. had a seven-sixteenths interest in any distributive profits earned by the Cooper-Henderson-Goodwin Lease from July 1, 1920, to October 16, 1920. As Cooper and Henderson were equal partners, it follows that the marital community was entitled to seven thirty-seconds of such profits and that, if permitted to make separate income-tax returns for the taxable year, each member of such community should include seven sixty-fourths of such profits in the gross income reported.

It is stipulated that the total net income from the Goodwin lease during the year 1920 was $369,815.81. The petitioners’ right to share in such profits rests on and is defined by the contract that created the Cooper-Henderson-Goodwin Lease, and is limited to the elapsed time from July 1, 1920, to October 16, 1920, when such right was exchanged for shares of stock of the Cooper-Henderson Oil Co. of Texas. So far as we are able to. determine from the record, the accounting term in question of the Cooper-Henderson-Goodwin Lease was from July 1, 1920, to December 31, 1920, inclusive, a period of 184 days. The petitioners’ right to share in the profits earned during such accounting period began at July 1, 1920, and terminated at October 16, 1920, a period of 108 days. We are of the opinion, therefore, that they were entitled to' share in one hundred and eight one hundred and eighty-fourths of the stipulated net income of $369,815.81, which is $215,094.88, and that each petitioner’s share of such income was $23,525.95.

Order of redetermination will be entered on W days’ notice, under Rule 50.


author: Trammell:

text:
    Appeal of Estate of R. H. LOCKWOOD, CHARLESTON SECURITY CO., Executor.
    Docket No. 3843.
    Decided September 30, 1926.

      G. W. Saussy, Esq., for the petitioner.

      R. P. Smith, Esq., for the Commissioner.
   Trammell:

This appeal is from the determination by the Commissioner of a deficiency in income tax for the years 1919, 1920 and 1921, in the amount of $2,356.36. The only question involved is the rate to be used in computing the allowance for exhaustion, wear and tear of a certain tugboat owned by E. H. Lockwood and his wife.

FINDINGS OF FACT.

The taxpayer is the estate of E. H. Lockwood who, during the years 1919, 1920 and 1921, was a resident of Charleston, S. Car.

During the years 1919, 1920 and 1921, E. H. Lockwood and his wife were the joint, owners of the tugboat Cecelia, which was built in the year 1881. The Cecelia is of iron construction and it is, and has been for many years, operated in towing large vessels into, out of and about the harbor at Charleston, S. Car., and in salvage work on the high seas. A new boat of the same construction as the Cecelia, engaged in the same kind of work and operated in the same waters, will last for approximately 20 years, with ordinary repairs and maintenance. However, at the end of 20 years it is necessary to recondition the boat, and thereafter it is necessary to recondition it every 10 years. Eeconditioning means to tear the-boat down to the hull and, after making such repairs on the hull as are necessary, by way of replacing worn-out ribs and plates, to put in new engines and boilers, and practically to rebuild the entire boat. This reconditioning is different and distinct from the ordinary and necessary repairs which are made from time to time to keep the boat in operation.

On March 1,1913, the fair market value of the Cecelia was $65,000. In the j^ear 1913 or 1914, $10,000 was spent on repairs to the boat, and in the year 1923 it was reconditioned at a cost of about $28,000.

An amount computed at the rate of 6 per cent on a valuation of $65,000 is a reasonable allowance for the exhaustion, wear and tear of the tugboat Cecelia in each of the years 1919,1920 and 1921.

In his return for the years 1919, 1920 and 1921, the taxpayer deducted from gross income an allowance for exhaustion, wear and tear of the Cecelia, computed at the rate of 10 per cent on a value of $65,000. The Commissioner disallowed so much of each deduction as is in excess of an amount,computed at the rate of 5 per cent on a value of $65,000, and determined that there is a deficiency in tax for each of the years 1919, 1920 and 1921. Both the taxpayer and the Commissioner agree that the allowances for exhaustion, wear and tear of the tugboat in question for the years involved should be computed on a valuation of $65,000.

Order of redetermination will he entered on 15 days’ notice, under Rule 50.


author: Aeundell:

text:
    Appeal of UNA BAGG PENNOCK, Executrix, Estate of JOHN D. PENNOCK.
    Docket No. 6343.
    Decided September 30, 1926.

      John F. Nash, Esq., for the petitioner.

      F. O. Graves, Esq., for the Commissioner.
   Aeundell:

This is an appeal from the determination of a deficiency in income tax for the calendar year 1921 in the amount of $835.04. The petitioner alleges that the Commissioner erred in increasing the reported income of John D. Pennock and in including the amount of $520 as tax-free bond interest instead of the amount of $250. No competent evidence was offered by the petitioner, either to show that the Commissioner erred or to prove the facts alleged. The only facts before us are those admitted by the Commissioner in his answer. Of these the only one material is that the petitioner is the executrix of the estate of her husband,, John D. Pennock, who died March 10, 1921. In view of the lack of evidence to support the petitioner’s allegations, we must dismiss the appeal under the provisions of section 906 (c) of the Revenue Act of 1924, as amended by section 1000 of the Revenue Act of 1926.

Dismissed.


author: Littleton

text:
    Appeal of THE NACHMANN COMPANY.
    Docket No. 4880.
    Decided September 30, 1926.

      E- B. VanVeen, Esq., for the petitioner.

      L. G. Mitchell, Esq., for the Commissioner.
    This appeal involves the question whether a deductible loss of $3,000 was sustained in 1918 when a patent, on which petitioner had theretofore acquired a license for stock, was declared invalid. The Commissioner denied the deduction and determined a deficiency of $2,347.91 for 1918.
    FINDINGS of fact.
    On February 16, 1909, United States Letters Patent No. 912456, covering new and useful improvements for the manufacture of felt mattresses and cushions, was granted. In 1914, Fred A. Nachmann, a resident of Chicago, Ill., became desirous of securing a license to use the rights under this patent, and, to that end, he went to Toronto, Canada, in August, 1914, for a conference with the Fischman Mattress Co., Ltd., the owner of the patent, with the result that that company agreed to give him an exclusive license to manufacture the mattresses and cushions throughout the United States, with the exception of a certain portion of the State of New York. The license was executed April 9, 1915, and contained the following provisions:
    The licensee agrees to pay the licensor Twenty-five cents (25 cents) as a royalty iee on each mattress, or complete mattress construction made or sold or consigned by any or all sub-licensees to whom sub-licenses may be granted by the licensee herein, and to pay to the licensor Two Cents (2 cents) per square loot (measured on the largest surface only of the article) as a royalty fee on all cushions or constructions adapted for use in cushions, and One Third (%) of a cent per linear foot for all spring units adapted for use in cushions or mattresses, made and sold or consigned by the licensee under this agreement, or made and sold or consigned by any or all sub-licensees to whom sub-licenses may be granted by the licensee herein, such payments to be made by the licensee each quarter by quarterly payments as aforesaid, provided * * *.
    The licensee further agrees that the royalties herein reserved and payable hereunder to and until June 1, 1916, shall be not less than One Thousand Dollars ($1,000) that the royalties from June 1, 1916 to June 1, 1917, shall be not less than Two Thousand Dollars ($2,000), and that the royalties thereafter until the expiration of said Letters Patent No. 912,456, shall be not less than Three Thousand Dollars ($3,000) during any fiscal year beginning with June 1, 1917, unless the licensee discontinues the manufacture of articles hereunder in accordance with the provisions of paragraphs 9 and 18.
    Article 9 provided that the licensee might cancel the agreement on the first day of June, 1916, by giving 60 days’ notice prior thereto, and that thereafter the licensee might terminate the agreement on June first of any year upon 60 days’ notice, and that “ thereupon on the first day of June of the year mentioned in the said notice all the rights of the licensee shall be ended and the licensor expressly agrees that the licensee forthwith shall be released and discharged from his agreements to keep accounts, render statements, and pay royalties, as heretofore provided. * * * ”
    Article 16 provided:
    Tbat the licensee, bis agents, customers, users or sub-licensees, may be protected against suits or infringement of any prior patent or patents on account of the manufacture, use or sale of mattresses, cushions, and like articles, under the Letters Patent aforesaid, the licensor hereby agrees, at his own expense, to defend any and all suits or proceedings which may be instituted against the licensee * * * for or on account of alleged infringement, and to pay all attorneys’ fees, costs and expenses, and to discharge all Judgments or decrees that may arise or be rendered in connection with such litigation. * * *
    Article 17 provided:
    If the said Letters Patent No. 912,456 * * * shall be declared invalid by a court of competent jurisdiction in any action or suit based upon said patent or patents and such invalidity shall be sustained by the decision of a court of last resort, upon the entry of final judgment or decree establishing the invalidity of said patent or patents, all royalties payable herein shall forthwith cease to be payable and the life of this contract • immediately shall cease and determine.
    Immediately after Ms return from Toronto in August, 1914, Nach-mann acquired a small number of tools and made samples, showing the application of the principle of the patent in the manufacture of mattresses and cushions, and visited numerous manufacturers throughout the United States whom he believed would be interested in using the patent, his purpose being to develop a patent to conform to the needs of the various concerns and to grant them a license to use the patent in the construction of the articles produced by them. In this connection, Nachmann expended in excess of $3,000 for tools, material, labor, and traveling expenses and subsistence.
    In July, 1915, Nachmann, believing that through his experiments the patented article could be profitably marketed, interested Joseph and Daniel C. Hirsch in the matter of the formation of a corporation to produce the patented articles and to grant sub-licenses. It was agreed between the three of them that the corporation should be capitalized at the amount expended by Nachmann in developing the patent, by the assignment by Nachmann to the corporation of the license agreement, and that $2,500 par value of stock should be issued, one-third each to Daniel C. and Joseph Hirsch, and one-third to Nachmann. Daniel C. and Joseph Hirsch each agreed to pay Nachmann $1,000 for the stock issued to them. The corporation was duly organized and the stock was issued for the license.
    On August 7, 1918, the board of directors adopted the following resolution:
    WHEREAS, tbe Commissioners duly authorized for the formation and organization of this Corporation have approved and accepted in full payment for the Capital Stock of this Corporation, the business conducted and carried on at 300 North Elizabeth Street, Chicago, Illinois, under the management of Fred A. Nachmann, consisting of merchandise, machinery, tools, fixtures, etc., and including' a license to manufacture goods and merchandise under a patent issued by the United States Government under Serial Number 912456.
    THEREFORE, BE IT RESOLVED, That this Board of Directors hereby approve said action of the said Commissioners and hereby accept said business in full payment for the Capital Stock of this Corporation, and hereby authorize and instruct the President and Secretary to issue Stock Certificates of this Corporation in full payment for said business, to the amount of Two Thousand Five Hundred Dollars ($2,500.00), same being authorized capital of this corporation.
    The machinery, topis, etc., consisted merely of a few hand tools, and were considered of practically no value. The corporation entered the license agreement upon its books at $3,000, — $500 being entered as paid-in surplus.

      Some time later Daniel C. and Joseph Hirsch each transferred his stock to Nachmann in satisfaction of his agreement to pay Nach-mann $1,000.

    The corporation carried on operations under the license agreement and paid the required royalties until the year 1918, when the United States District Court for the Eastern Division of the Northern District of Illinois, in the case of Marshall Ventilator Mattress Oo. v. The Nachmann Oo., a corporation, and Fred A. Nachmann, rendered a decision holding that the device being manufactured and sold by The Nachmann Co. under Letters Patent No. 912,456 was an infringement upon a prior patent owned by the plaintiff, whereupon petitioner’s license agreement and the payment of all royalties thereunder were canceled and terminated.
    When making its return for 1918, petitioner claimed a deduction from gross income of $3,000, as a loss sustained by reason of the termination of its license under the patent declared invalid. The Commissioner denied the deduction upon the ground that the license agreement, at the time acquired, was without value and that it was acquired without cost.
   OPINION.

Littleton

: The patent license was acquired by Nachmann without cost. He expended in excess of $3,000 in developing the articles and subsequently transferred the license to the petitioner for $3,000 par value stock. The license may have had a cash value in August, 1915, but the evidence before us does not establish what such value was. The fact that Nachmann expended $3,000 in developing the patented article does not warrant a conclusion that the license had an actual cash value equal to that amount, nor do the royalties paid, or the resolution of the directors, standing alone, prove actual value.

Judgment for the Commissioner.


author: Littleton:

text:
    Appeal of HAYES TEXTILE CO., INC.
    Docket No. 844.
    Decided September 30, 1926.
    1. The same individual owned and controlled the stock of the Hayes Textile Oo., Inc., and the Hayes Knitting Oo. during 1918 and 1919. Held, that the two corporations were affiliated for 1918.
    2. The same individuals constituted the board of directors of each corporation; in 1917 they decided to effect a merger of the two corporations and subsequently dissolve the Knitting Oo., it being the intention that the Textile Co. take over all assets and business of the Knitting Co. and assume its liabilities and issue to the stockholders of the Knitting Co. its stock in exchange for the stock held by them in the Knitting Oo. Pursuant to advice of counsel, the Textile Co. took over the assets and business of the Knitting Co. and assumed its liabilities on January 1, 1919, and issued its stock to the stockholders of the Knitting Co. par for par. The outstanding shares of stock of the Knitting Co. were not, however, formally surrendered to the Textile Co., and the Knitting Co. continued its legal existence during 1919. On or about March 15, 1919, it filed a separate tentative income and profits-tax return, showing an estimated net income of $10,226.34, and an estimated tax of $5,140.37, — $1,325 of which was paid, and at the same time it secured an extension of time to file the complete return. Subsequently, the inventory showed a loss of $18,417.92, and the Knitting Co. filed a return for 1918, which showed a net loss for 1918 resulting from a reduction from $82,574.20 to $64,156.28 of the value of its inventory at December 31, 1918, as shown by a disposition thereof in the first part of 1919 by the Textile Co., and it filed with its return a claim for the abatement of the tax of $5,140.37 and for a refund of $1,325 paid on the tentative return. Held, that the two corporations should have filed a consolidated return for 1918, and, as they remained affiliated throughout 1919, the loss of $18,417.92 resulting from the disposition in 1919 of the 1918 inventory should be allowed in computing the consolidated net income for 1918.

      Chartes E. Cooney, Esq., for tlie petitioner.

      B. EL. Saunders, Esq., for the Commissioner.
    The deficiency in this appeal is for the calendar year 1918, in the amount of $62.38. It is alleged, first, that the petitioner and the Hayes Knitting Co. were affiliated corporations during 1918 and that they should have filed a consolidated return for that year. Secondly, that a loss claimed by the Knitting Co. at the time of filing its return for 1918, in the amount of $18,417.92, resulting from a reduction of the value of the December 31, 1918, inventory, should have been allowed.
    FINDINGS OF FACT.
    The Hayes Knitting Co., a New York corporation, was organized on February 28, 1911, by Thomas J. Hayes, his wife, and son, for the purpose of manufacturing hosiery, underwear, and other cotton and wool garments, and it thereafter, throughout the year 1918, regularly carried on such business at Oswego. The above-named individuals constituted the board of directors. All of the capital stock of the company, consisting of 300 shares of the par value of $30,000, was issued as follows: Thomas J. Hayes, 297 shares; E. A. Hayes, his wife, 2 shares; and Neil T. Hayes, his son, 1 share. The three shares issued to the two persons last mentioned were issued to qualify them as directors and were indorsed to and held by Thomas J. Hayes. Thereafter, under the terms of a written agreement, certain banks loaned to the Knitting Co. sums of money on its notes, indorsed by Thomas J. Hayes, who pledged as collateral for such loans certain stock owned by him in the company. The instrument provided that “ said Thomas J. Hayes shall retain the right to vote upon such stock at any and all times, except only in default of the payment of any part of the principal or interest on said notes, or the observance of any of the conditions of said mortgage; and all the right, title and interest of said Thomas J. Hayes has been foreclosed therein.” There was no default.
    From time to time after the organization of the company, Hayes borrowed from certain of his friends small amounts of money for use in connection with the company’s business and, although they desired no security, he insisted that they hold certain shares of his stock in the company as collateral. The number of persons to whom he owed money on this account varied from time to time, being at no time greater than ten. The amount of stock placed with them ranged from one share to seven shares, and at no time exceeded a total of 25 shares. The persons holding this stock as collateral never considered themselves the legal owners of the same. It was understood that Hayes should control the stock and vote it. The stock was voted by Hayes during the time it was held by others as collateral.
    The Hayes Textile Co., also a New York corporation, was organized by Hayes, his wife, son, and daughter, on February 16, 1918, with a capital stock of 100 shares of the total par value of $10,000, for the same purpose as that of the Knitting Co., and, in addition, “ to purchase or rent real estate and carry on any business connected therewith.” The entire capital stock was issued to the above-named individuals as follows:
    Shares.
    Thomas J. Hayes_70
    Ella A. Hayes, his wife_15
    Ella M. Hayes, his daughter_ 5
    Neil T. Hayes, his son_10
    Stock was issued to the three persons last mentioned to qualify them as directors. The 15 shares issued to Ella A. Hayes were immediately indorsed and delivered to Thomas J. Hayes. He also controlled the stock standing in the name of his daughter and son. The stock was thus held from the date of incorporation throughout the year 1918.
    Certain land and buildings constituted the only assets of the Textile Co., until after the end of the year 1918. This property was rented to the Knitting Co. and the rent received therefor constituted the only income of the Textile Co. for 1918 and prior years.
    The same persons constituted the board of directors of both companies until the Knitting Co. was dissolved in 1920.

      In the latter part of 1917, it was decided that the Knitting Co. and the Textile Co. should be merged and the Knitting Co. dissolved. Counsel was employed to advise the companies in this regard and as to the steps to be taken to effect the merger. The steps taken pursuant to his directions were not strictly in compliance with the New York Corporation Law, chapter 59, section 15, relating to mergers, or chapter 4, section 7, relative to consolidation, or chapter 59, section 16, relative to voluntary sale of franchise and property. It was the desire of the parties in interest that the Textile Co. take over the business and assets of the Knitting Co., assume its liabilities, and issue additional shares of its stock to the stockholders of the Knitting Co. in exchange for the stock held by them in that company, par for par, and thereafter to dissolve the Knitting Co.
    On December 25,1917, the directors of the Textile Co. adopted the following resolution:
    WHEREAS, an offer Raving been made to tbis Company by the Hayes Knitting Company of Oswego, N. Y., to transfer all its property of every name and nature to this Company for $30,000.00 of the increased capital of this corporation, provided that all the indebtedness of said Hayes Knitting Company is assumed and agreed to be paid by this corporation.
    AND WHEREAS, all of the stockholders of this Company have unanimously consented thereto;
    AND WHEREAS, that these two corporations are already now closely allied, and it seems to be for the mutual benefit of both Companies and their stockholders that the proposal or offer be accepted.
    IT IS HEREBY RESOLVED, That said offer be accepted and that such proceedings be had as are necessary to increase the capital stock of this Company, from $10,000 to $40,000.00 — $30,000.00 thereof being increased stock issued for the purpose of acquiring the property of said Hayes Knitting Company.
    AND IT IS FURTHER RESOLVED, That on receiving a bill of sale or transfer in due form of all of the property of said Hayes Knitting Company, that said stock be issued to the holders of stock in said Hayes Knitting Company, share for share, and that the President of this Company in its behalf be and hereby is authorized to execute an agreement assuming and agreeing to pay all the indebtedness of said Hayes Knitting Company which has been duly audited and ascertained, and indemnifying the said Hayes Knitting Company of and from the payment thereof or any part thereof.
    The capital stock of the Textile Co. was duly increased on September 18, 1918. Thereafter, on January 1, 1919, the following resolution was ádopted by the directors of the Knitting Co.:
    The capital stock of the Hayes Textile Company, Inc., on whose real estate this company is doing business as tenant having been increased .or is in process of being increased from $10,000 to $40,000 said amount par value as the stock of the Hayes Knitting Company and the said increased capital stock in the Hayes Textile Company, Inc., being regarded of equal value of the capital stock of the Hayes Knitting Company and an offer having been made by said Hayes Textile Company, Inc., to transfer to the stockholders of said Hayes Knitting Company said increased capital stock of $30,000 par for par, on the transfer to said Hayes Textile Company, Inc., by this company of all of its property of every name and nature wherever situate, together with ail its right, title and interest therein and upon the expressed agreement that said Hayes Textile Company, Inc., assumes and agrees to pay at maturity all the obligations of said Hayes Knitting Company it is therefore
    RESOLVED, That said offer be accepted and the president of this company be and hereby is authorized to execute a bill of sale of all the right, title and interest of said Hayes Knitting Company in said property subject to the assumption of all its debts, the said Hayes Textile Company, Inc., having agreed thereto, and said transfer of property and the issue of stock of the Hayes Textile Company, Inc., par for par, for the property of said Hayes Knitting Company having been consented to by all stockholders of both companies.
    AND IT IS FURTHER RESOLVED, that when the transaction above provided for is consummated that proceedings be taken for the dissolution of this company as required by law.
    On January 1, 1919, the stockholders of the Knitting Co., including persons holding certain shares as collateral on loans made to Hayes, signed a statement reading as follows:
    We, the undersigned, stockholders in the Hayes Knitting Company of Os-wego, New York, a corporation duly organized pursuant to the Laws of the State of New York and holders of stock therein of the number of shares set opposite our names and amounting in all to three hundred shares, the entire capital stock of said company, hereby agree for value received and in consideration of the same number of shares and of the same par value of the stock of the Hayes Textile Company, Inc., hereby consent to the transfer of all of the property of the Hayes Knitting Company to said Hayes Textile Company, Inc., as existing on this date subject however to the agreement that said Hayes Textile Company, Inc., assumes and agrees to pay at maturity all the obligations of said Hayes Knitting Company of every name and nature and consent to the exchange of the stock now held by us in the Hayes Knitting Company for the same par value of stock of the Hayes Knitting Company.
    On January 1, 1919, the Knitting Co. executed the following transfer:
    For a valuable consideration in hand paid by the HAVES TEXTILE COMPANY, INC., of Oswego, New York, to the HAYES KNITTING COMPANY, * * * said HAYES KNITTING COMPANY hereby sells, assigns, transfers, sets over and conveys unto the said HAYES TEXTILE COMPANY, INC., all of its property of every name and nature, wherever situate, together with all its right, title and interest therein;
    To have and to hold the same to the said HAYES TEXTILE COMPANY, INC., its successors and assigns forever,
    This transfer is made for the consideration of the delivery to the stockholders of the HAYES KNITTING COMPANY, who hold stock of the par value of Thirty Thousand ($30,000) Dollars therein (the whole amount hereof) in said HAYES TEXTILE COMPANY, INC., for the same amount and for the additional consideration that the HAYES TEXTILE COMPANY, INC., the assignee, of said property, hereby does assume and agree to pay at maturity all of the obligations of the said HAYES KNITTING COMPANY of every name and nature and this transfer or bill of sale is accepted on said condition.

      This transfer is made pursuant to resolution of the Board of Directors of said HAYES KNITTING COMPANY and the unanimous consent of its stockholders and is accepted by authortiy of the resolution of the Board of Directors of said HAYES TEXTILE COMPANY, INC., and the unanimous consent of its stockholders.
    On February 1, 1919, the trustee for the three banks with whom Hayes had pledged certain stock of the Knitting Co. as collateral, as hereinbefore mentioned, was instructed by the banks as follows:
    * * * WHEREAS, it is proposed that said Hayes Textile Company, Inc., issue its thirty thousand of new stock to the stockholders of the Hayes Knitting Company par for par.. The Hayes Textile Company, Inc., taking over all of the property of the Hayes Knitting Company and assuming to pay all of its debt.
    AND WHEREAS, it seems for the best interests of the stockholders of the Hayes Knitting Company to make such exchange, you are therefore authorized by said three banks as their Trustee to accept a certificate of forty seven shares of the capital stock of the Hayes Textile Company, Inc., and in our behalf as stockholders in the Hayes Knitting Company, you are authorized to consent to the transfer of all of the property of the Hayes Knitting Company to said Hayes Textile Company, Inc., the latter company assuming and agreeing to pay all the indebtedness of the Hayes Knitting Company and to save said company and its stockholders harmless of and from all losses, costs, damage and liability therefor.
    Two hundred thirty-five and one-half shares of the additional stock of the Textile Co. were issued to Hayes, his wife, daughter and son, and the remaining 64y2 shares were issued in the names of the persons with whom Hayes had pledged that number of shares of the Knitting Co. stock as collateral. Throughout the year 1919, Hayes controlled the stock standing in the names of others in the same manner in which he controlled such stock during 1918.
    The two corporations filed separate returns for 1918.
    On December 31, 1918, the inventory of the Knitting Co., consisting of merchandise on hand and in process of manufacture, taken at cost or cost or market, whichever was lower, amounted to $82,-574.20. On or about March 15,1919, it filed a tentative return showing an estimated net income of $16,236.34, and an estimated income and profits tax of $5,140.37 — $1,325 of which it paid, and it obtained an extension of time to file the return for 1918. In the first part of 1919 the Textile Co. disposed of this inventory for $64,156.28. Subsequently, the Knitting Co. filed a complete return for 1918, and it also filed with this return claims for the abatement of the tax of $5,140.37 and for the refund of $1,325 paid on the tentative return, as a result of the reduction from $82,574.20 to $64,156.28 of the value of its inventory at December 31, 1918.
    The Commissioner denied the claims of the two companies that they were affiliated. He also denied claims of the Emitting Co. for abatement and refund as a result of the decline in inventory for December 31, 1918, and advised it of his reasons therefor as follows.
    As the Hayes Knitting Company ceased to exist as a corporation January 1, 1919, selling out its business to the Hayes Textile Company who took over all assets and assumed the liabilities at the same value they were carried on the books of the Hayes Knitting Company issuing the same number of shares of stock at the same par value, it is evident no loss occurred at the time in the exchange of assets. The claim for abatement covering 1918 taxes and also claim for refund filed in connection with decline in inventory values in 1919 and ultimate sale thereof at loss, is- therefore disallowed as a deductible loss (under section 204) to the Hayes Knitting Company in 1918, same being taken up as an operating loss on the books of the Hayes Textile Company in 1919, and adjustment accordingly made in 1918 income.
   OPINION.

Littleton:

The Hayes Knitting Co. and the Hayes Textile Co. were affiliated corporations throughout the year 1918 and remained affiliated until the Hayes Knitting Co. was dissolved in 1920. All of the ■ stock of the two companies was owned and controlled by Thomas J. Hayes. The net income and invested capital of the two companies for 1918 should have been determined upon the basis of a consolidated return.

When it was determined at the time of filing the return for 1918 that there had been a substantial reduction of the December 31, 1918, inventory of the Hayes Knitting Co., as evidenced by a disposition thereof by the Hayes Textile Co., which took over the inventory on January 1, 1919, the net income for 1918 should have been reduced by the inventory loss, amounting to $18,417.92. The fact that the Hayes Knitting Co. transferred its inventory to the Hayes Textile Co., with which company it was affiliated, did not operate to prevent the consolidated group from receiving the benefit of the inventory loss under section 234(a) (14) (a) of the Revenue Act of 1918.

Judgment for the petitioner. Order of re-determination will be entered on 15 days' notice, under Rule 50.


author: Millikek

text:
    COLLINS-McCARTHY CANDY CO., Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
    Docket No. 4302.
    Decided September 30, 1926.

      W. W. Spalding, Esq., for the petitioner.

      Robert A. Littleton, Esq., for the respondent.
    This is a proceeding for the redetermination of a deficiency in income and excess-profits taxes for the calendar year 1918 in the amount of $1,822.21 The petitioner alleges two errors: (1) That the respondent erred in not increasing the net income of the pre-war years by the disallowance of excessive salaries taken by the officers of the corporation in the pre-war years; and (2) that the respondent erred in refusing to compute the profits taxes under the provisions of sections 327 and 328 of the Revenue Act of 1918.
    FINDINGS OF FACT.
    Petitioner is a California corporation with principal offices at 25 Beale Street, San Francisco. The capital stock of the petitioner during the pre-war years was $36,000, par value of $1 per share, and was owned in equal proportions by J. D. McCarthy, William Hencke and J. J. Collins, who were also the directors of the company. During the pre-war years the earnings before deducting salaries, salaries paid to officers, net income after deducting salaries, and the average for the same, were as follows:

    The salaries paid to stockholders and directors during pre-war years were as follows:

    On January 30, 1911, the board of directors of the corporation passed the following resolution as concerns salaries to its officers for the year 1911:
    At a meeting of tlie board of directors of tbe Collins-McCarthy Candy Company, at which a majority of the directors were present, namely J. D. McCarthy, William Hencke and J. J. Collins, held this 30th day of January, 1911, on motion, duly made, seconded and carried, it was resolved: That the salaries of each of the officers of the corporation, J. D. McCarthy, president, William Hencke, vice president, J. J. Collins, secretary and treasurer, be and is hereby fixed at $10,000 each for the year 1911. Signed J. J. Collins, secretary.
    This resolution was adopted and recorded on January 30, 1911.

      On January 25, 1912, the following resolution was passed:
    At a meeting of the board of directors of the Collins-McCarthy Candy Company, at which a majority of the directors were present, held this 25th day of January, 1912, on motion duly made, seconded and carried, it was resolved: That the salaries of each of the officers of the corporation be and is hereby fixed at $6,500 for the year 1912. Signed J. J. Collins, secretary.
    This resolution was adopted and recorded on January 25, 1912.
    At a meeting of the board of directors held on January 6, 1913, the following resolution was passed:
    Directors meeting of the Collins-McCarthy Candy Company held this 6th day of January, 1913, president J. J. McCarthy, presiding. The secretary read the minutes of the last meeting which, on motion duly made, seconded and carried, were approved.
    New Business: Election of officers. On motion duly made, seconded and carried, it was resolved: That the present directors and officers be unanimously re-elected to their respective offices at a salary of $1,500 each for the year. The secretary read a statement of the affairs of the corporation and presented each stockholder with a copy of same. There being no further business before-the board, the president declared the meeting adjourned. Signed J. J. Collins, secretary.
    The action on the resolution was taken and recorded on January 6, 1913.
    No authority existed for the corporation paying salaries in the pre-war years in excess of the salaries authorized by the board of directors on January 30,1911, January 25,1912, and January 6,1913.
    No dividends were declared or paid by the petitioner corporation during the pre-war years.
    The income and excess-profits taxes for the year 1918 asserted by the respondent were based on the following computation:
    Net income, Bureau letter dated December 13, 1923_$53,490. 70
    Invested capital_ 119,095.25
    Excess profits credit- 12, 527.62
    War profits credit_ 17,470.64

    Net income_$53,490. 70
    War profits credit_ 17,470. 64
    Remainder_ 36,020. 06
    80% of remainder_$28, 816.05
    Less: Profits tax_ 22, 674. 00
    Tax in Bracket Three_$6,142. 05
    Total profits tax_28, 816.05

      -$28,816.05 Profits tax_
    -$53, 490.70 Net income_
    Less:
    $28, 816. 05 Profits tax..
    2, 000.00 Exemption.
    - 30,816.05
    Balance subject to tax_ 22, 674. 65
    Income tax at 12 per cent_ 2, 720.96
    Total tax assessable_31, 537. 01
    Original tax, Form 1120, No. 400759_$14, 727. 60
    Tax assessed, tentative return No. 400759_ 15,000.00
    Additional tax, May, 1922, page 3, line 8_ 487.20
    - 30, 214. 80
    Deficiency in tax_ .1,322.21
   OPXNION.

Millikek

: The petitioner seeks a redetermination of the tax in this case on the ground that the artificial reduction of the net income for pre-war years, occasioned by unreasonable amounts that were paid as salaries, results in an abnormality under section 327 (d) of the Revenue Act of 1918, and that we should either adjust the salaries for the pre-war years, thereby eliminating the abnormality, or, failing to do that, accord to the petitioner the benefits of section 328 of the Revenue Act of 1918.

We took occasion in the Appeal of Gray & Davis, Inc., 1 B. T. A. 222, to discuss the plan and purpose of the war-profits credits and the effect of pre-war net income in determining such credits. The plan and scope of the statute need not be again discussed. Section 320 of the Revenue Act of 1918 provides that the net income of a corporation shall be ascertained for the years 1911 and 1912 upon the basis and in the manner provided by section 38 of the Corporation Excise Tax Law of August 5, 1909, and for 1913 by section II of the Income Tax Act of October 3, 1913. By reference to the two sections of the law above set forth, it is provided that, in ascertaining net income, there shall be deducted from gross income of the corporation all ordinary and necessary expenses actually paid within the year. When salaries paid within a year are challenged on the ground that the amounts paid are unreasonable and therefore do not represent ordinary and necessary expenses, the Board will not hesitate to consider this question when pertinent to the case at issue. Nor have the courts failed to exercise this prerogative. See Becker Bros. v. United States, 7 Fed. (2d) 3. If salaries for the pre-war years were unreasonable in amount or in excess of sums duly authorized by the board of directors of the corporation, and the payment of such salaries has affected the pre-war net income, we are of the opinion that the salaries should be adjusted to represent what is a reasonable amount of compensation for services rendered. We have noted that the corporation is entitled to deduct ordinary and necessary expenses incurred in carrying on its business, including a reasonable compensation to its officers; but if it paid or sought to deduct salaries that were not authorized or were unreasonable in amount, it did not follow the mandate of the law in that respect. We have ruled in Appeal of Georgia Veneer & Package Co., 2 B. T. A. 584, that where a taxpayer set up a reserve not authorized by law the pre-war net income should not be affected by such unlawful reserve. The net income for pre-war years is to be the true net income, and, when unlawful deductions either diminish or increase such net income, they should be corrected by either eliminating the deductions from the computation or by substituting therefor lawful deductions.

The corporation, by resolution of its board of directors at the beginning of each pre-war year, passed a resolution fixing the salaries to be paid to officers. Upon the facts in this case, we are of the opinion that the salaries authorized represented a reasonable compensation for services performed. It will be noted that sums in excess of salaries authorized were paid. As concerns such excess, we are of the opinion that the same was unreasonable in amount and amounted to nothing more than a means of distributing surplus.

Some testimony was introduced in an attempt to show that the salaries authorized by the resolution of the board of directors of the corporation were excessive and unreasonable in amount and that other amounts should be substituted therefor. We are content to rest our decision on this point upon the proposition that the action of the board of directors of a corporation in authorizing salaries for a given year is entitled to the presumption of correctness unless the contrary be proven, and, such not having been done in this case, the action of the board of directors must stand.

Pre-war net income should be determined by the allowance of a deduction for salaries of $30,000 for the year 1911; $19,500 for the year 1912, and $4,500 for the year 1913. The average that will thus result for the pre-war years represents reasonable compensation for services performed.

Since no abnormality results by reason of the decision here rendered, no basis exists for the application of the provisions of section 328 of the Revenue Act of 1918.

Order of redetermination will he entered on 10 days' notice, under Rule 50.


author: Milliken

text:
    EGGERT-YOUNG CO., Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
    Docket No. 3602.
    Decided September 30, 1926.
    Determination of Commissioner approved for want of proof.

      F. 0. Graves, Esq., for the respondent.
    The petitioner appeals from the determination of a deficiency of $279.21, income and profits tax for 1919. The appeal was submitted on the pleadings, consisting of the petition and the respondent’s answer.
    EINDINGS OP PACT.
    The petitioner is an Oregon corporation with principal office at 127 Sixth Street, Portland. The petitioner owned, during the year 1919, furniture and fixtures valued at $10,000. The respondent allowed depreciation at the rate of 5 per cent, while the petitioner contended for 10 per cent in its return filed for the year 1919.
   OPINION.

Milliken

: The proceeding is submitted to us by consent of the parties upon the pleadings, consisting of the petition and answer. Every fact pleaded in the petition that is not denied in the answer is set forth in the findings of fact.

Petitioner seeks to deduct for the year 1919 depreciation at the rate of 10 per centum on its furniture and fixtures valued at $10,000. while the respondent determined the deficiency in question by allowing depreciation at the rate of 5 per centum.

In a case where the petitioner claims a rate of depreciation in excess of that allowed by the Commissioner, his proof should show the facts and reasons justifying such a rate. This has not been done. We have no evidence before us to show the character, date of acquisition, or use of the assets in question. The denial by the respondent of the facts alleged by the petitioner called for proof. We can not supply the same, and the determination of the respondent must be approved for want of proof in support of the allegations contained in the petition.

Judgment for the Commissioner.


text:
    HENRY M. JONES, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
    Docket Nos. 7325 and 12662.
    Decided September 30, 1926.

      Raymond 8. Oakes, Esq., and Chester M. Foss, C. P. A., for the petitioner.

      A. George Bouchard, Esq., for the respondent.
    This is a proceeding for the redetermination of deficiencies in income taxes for the years 1921, 1922 and 1923, in the respective amounts of $583.25, $5,281.15 and $244.91. The appeals for all years have been consolidated by stipulation of counsel for the respective parties. Subsequent to the filing of the petition in this case, petitioner admitted the correctness of the deficiency asserted for the year 1921. Petitioner alleges error on the part of the respondent concerning the deficiency for the year 1922, in that a loss on a railroad siding replaced in that year and a loss on stock held in the New England Cold Storage Co. were disallowed. Error is alleged concerning the year 1923, in that the respondent disallowed a loss claimed on notes of the New England Cold Storage Co. held by the petitioner.
    FINDINGS OF FACT.
    Petitioner is an individual residing at Portland, Me., and has been engaged for a number of years in the structural steel business. Prior to March 1,1913, he purchased Deake’s Wharf, situated at Portland. Petitioner maintained a railroad siding on the wharf, in a large part for the delivery of steel on to the wharf. During the year 1921, he was advised by the railroads serving him that he must strengthen the equipment of the siding by laying heavier steel rails,. new switches, etc. In the year 1922, at a cost of $4,262.50, the railroad siding was replaced by one conforming to the requirements of the railroads which was 41 feet longer and had a wider radius curve than the one removed.
    The petitioner made a cash purchase for $6,600 in the year 1914 of 66 shares of the stock of the New England Cold Storage Co. The plant of the New England Cold Storage Co. was located at Portland, and that company, from the date of its organization, had never been a successful business enterprise. The petitioner bought the stock in 1914 largely by reason of civic pride. The financial condition of the company became precarious during the summer of 1922. In April, 1922, in an effort to secure additional capital for the company, a proposal was made to raise the sum of $150,000 by the issuance of serial notes. A Boston broker attempted to sell the serial notes, but after working on tbe same reported in August, 1922, that no market could be found for tbe notes and tbe matter of their issuance was dropped. First mortgage bonds in the amount of $350,000 were issued by tbe company during the year 1920 and were outstanding in 1922. The Casco Mercantile Trust Co. was trustee under the deed of trust. The manager of the New England Cold Storage Co. became seriously ill in October, 1922, and was unable to carry on his duties. The officers and directors of the New England Cold Storage Co., by reason of the serious illness of the manager, instituted an immediate investigation of the financial condition of the company, and the Casco Mercantile Trust Co. caused its treasurer also to conduct an independent investigation. The treasurer of the Casco Mercantile Trust Co. found that the assets of the company were greatly inflated, bills of account owing in large amounts were not reflected on the books, assets which the company carried on its books were worthless, the business was being conducted at a loss and there was default on the interest due on the outstanding mortgage bonds. The New England Cold Storage Co. was unable to pay its current bills during the fall of 1922, and its creditors were threatening to close the business. The Casco Mercantile Trust Co., in order to protect its bond issue, was forced to guarantee the payment of the current bills of the company during the year 1922. The treasurer of the Casco Mercantile Trust Co. reported that, as a result of his investigations, the entire assets of the company were not worth in excess of the bonds outstanding. In October or November, 1922, it was agreed between the stockholders and directors of the New England Cold Storage Co. and the Casco Mercantile Trust Co., that the bank would protect its customers who were bondholders and that its treasurer should take active charge of the business. The Casco Mercantile Trust Co. did assume active control of the New England Cold Storage Co. in January, 1923, and, as a result of its operation of the business, it found that the same could not be conducted as a paying proposition. The Casco Mercantile Trust Co. in 1924 petitioned the court for the appointment of a receiver, which request was granted. The petitioner was in active touch with the officers and affairs of the New England Cold Storage Co. during 1922 and, based upon his own information, together with the condition of the company which the Casco Mercantile Trust Co. made known to him, he determined that his stock was worthless in the year 1922 and deducted the same as a loss in his income-tax return filed for that year. The physical assets of the New England Cold Storage Co., as they appeared on the books of account for the year 1922, reflected a value of $821,671.43, less $194,149.22 depreciation, or a supposed sound value of $627,522.21. In the year 1922, one-third of the physical assets of the company was sold for $100,000. Of the $100,-000 received, $92,000 was used to retire the bond issue, leaving a bonded indebtednéss of the company at the close of the year 1922 of $228,000. As against a possible surplus of $1,500 on the books of account at the close of the year 1922, there were liabilities of the company at the close of the year of over $215,000. The total assets of the company at the close of the year 1922 were insufficient to meet its outstanding bonds upon which interest payments had been defaulted. A receiver was appointed subsequent to 1922, and, after advertising that all of the assets would be sold at public sale, the Casco Mercantile Trust Co. bought in the business for the face value of the bonds outstanding.
    Petitioner charged off in 1923, $1,600 of notes owing to him by the New England Cold Storage Co. The notes were in the amounts of $600 and $1,000. The $600 note was dated September 9, 1923, being a renewal of a note dated March 9, 1922, and matured six months from the date of the renewal. The $1,000 note was dated August 3, 1921, payable six months from date. There was no renewal of the $1,000 note on its maturity and no payments had been made on the same, either as to principal or interest.
   OPINION.

Milliken

: Petitioner contends that the amount expended for laying new railroad tracks in the year 1922 is a deductible expense for and in that year, or, if that contention be denied, that he is entitled to deduct, as a loss sustained in the year 1922, the March 1, 1913, value of the old track depreciated down to the year 1922. The laying of the new tracks clearly represents a capital expenditure. We have no doubt as to the right of the petitioner to deduct as a loss the value of the tracks which he was forced to remove in the year 1922, but we are without competent evidence as to the March 1, 1913, value thereof. No testimony was introduced by one qualified to value the siding on March 1, 1913, and for lack of evidence we must therefore affirm the action of the respondent.

The evidence establishes the fact that the petitioner was justified in determining and writing off his stock in the New England Cold Storage Co. as a loss sustained in the year 1922. The condition of the company, together with the investigations which petitioner made, as well as the investigation made by the Casco Mercantile Trust Co., the result of which was imparted to him, warrants the allowance of the loss claimed. The determination of the respondent was in error.

The petitioner also claims, as a loss for the year 1923, notes of the New England Cold Storage Co. in the amount of $1,600, which he held. The financial condition of the debtor company in 1923, together with all the attendant circumstances, convinces us that the .notes were worthless and that the petitioner was justified in charging off the same in the year 1923.

Order of redetermination will he entered on 10 days’ notice, under Rule 60.