text:
    Edwin B. Malone, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 5225.
    Promulgated January 27, 1927.
    1. Property owned by an individual and used in his trade or business is not affected, as to its status for invested capital purposes, by the formation of a partnership, where such property is not transferred to such partnership.
    2. Under the Revenue Act of 1917, property paid in to an individual trade or business prior to January 1,1914, goes into invested capital at its cash value on January 1, 1914.
    3. Property owned by an individual, other than that used in the trade or business, may not be included in invested capital.

      Theodore E. Benson, Esq., for the petitioner.

      J. L, Deveney, Esq., and John D. Foley, Esq., for the respondent.
    This proceeding is for the redetermination of a deficiency in income and excess-profits taxes for the calendar year 1917, in the amount of $1,294.93. The deficiency arose by reason of the respondent’s action in disallowing certain items, and the value of other items, as parts of invested capital. Petitioner assigned five errors, in substance as follows:

      (1) The Commissioner erred in using cost of an asset acquired prior to 1907 instead of the cash value thereof at January 1, 1917,
    (2) The Commissioner erred in excluding certain tangible assets paid in to petitioner’s business and so carried on his books.
    (3) The Commissioner erred in excluding United States Liberty bonds from invested capital.
    (4) The Commissioner erred in excluding from invested capital certain stocks and accounts receivable used for credit purposes.
    (5) The Commissioner erred in excluding from invested capital the value of a life insurance policy on petitioner’s life and used for credit purposes. At the hearing petitioner waived assignment with reference to the insurance policy. He also waived in part assignment (2), being that part pertaining to the Collingsworth property and alleged in the petition as valued at $37,415.45. He also waived, in part, assignment (4), being that part pertaining to stock in a building and loan association of an alleged value of $1,913.45.
    FINDINGS OF FACT.
    The petitioner is an individual who resides in Philadelphia, Pa. Prior to 1907 petitioner, as sole owner, conducted a lumber business in Philadelphia, under the name of Watson, Malone & Sons, and in connection with that business owned wharves, lumber sheds, an office building, real estate and other property; also other property not directly connected with the.lumber business.
    In 1907 he entered into a partnership agreement with Charles N. Strickler, which agreement provided for a partition, or sharing of profits and losses, to petitioner 70 per cent, and to Strickler 30 per cent. Strickler contributed no capital and none of the assets owned by petitioner.were transferred to the partnership. The partnership continued to operate under the name of Watson, Malone & Sons. That partnership continued until the close of 1916, at which time it was dissolved, Strickler retiring from the business and the petitioner continuing it as sole owner, as the same business and under the same name.
    On January 1, 1914, the actual cash value of the several items of property used in and connected with said lumber business was as follows:
    Land-$80,000
    Solid wharf-37,400
    Pile pier_ 16, 500
    Office building_ 3, 000
    Brick building-2.500
    Lumber sbed_ 6.500
    Lumber sbed on pier. 20, 000
    Railroad side track-6,000
    170,900

      From January 1, 1914, to January 1, 1917, these properties enhanced, generally, in market value; the land enhanced to the extent of $20,000 and the enhancement in the improvements was approximately offset by depreciation so that the improvements on January 1, 1917, were of the same market value as on January 1, 1914, that is, the total value of the assets above listed, on January 1, 1917, was $190,900.
    In 1917 the petitioner owned twenty-two or twenty-four lots in South Atlantic City which came to him by inheritance. These lots were carried on petitioner’s books at January 1, 1917, at $5,135.27, which represented the amount of taxes that had been paid and charged against the lots since 1886. There was no evidence of market value of the lots in 1917.
    In 1917 the petitioner purchased for cash United States Liberty bonds as follows:
    June 16_ $500
    June 21_ 500
    July 5_ 500
    July 17_ 500
    July 27_ 1,000
    October 26-•- 200
    November 16- 9, 800
    December 27- 10, 000
    Total_ 23, 000
    The Tomahawk Lumber Co. was a corporation the business of which was the manufacture of lumber, and petitioner handled and sold its output. Petitioner owned $3,000 worth of the stock of that corporation and during the period 1911 to 1915, Watson, Malone & Sons advanced to that corporation various sums of money aggregating $5,019.45, which were charged on the books against the corporation. In 1915 the Tomahawk Lumber Co. was without timber— raw material, and was forced to cease operation. The investments in the stock, as well as the advancements in money, were of little, if any, value. In closing out the partnership December 31, 1916, this account was not taken into consideration as it was deemed of no value, but was continued on the books of petitioner in 1917.
   OPINION.

Love:

At the hearing of this case the petitioner abandoned his assignments of error involving the life insurance policy, the Collings-worth property, and the building and loan association stock; hence those items pass out of consideration. There remain for consideration:

(1) The determination, for invested capital purposes, of the cash value of the tangible properties connected with and used in the trade or business conducted by the petitioner.

(2) Whether or not certain properties owned by petitioner, but not connected with his business and not used in the business otherwise than being included in statements of individual assets made to his bank as a basis of credit, shall be included in invested capital, and if so, at what value.

The decision in this case is controlled by section 207 of the Revenue Act of 1917, the pertinent parts of which are as follows:

That as used in this title, the term “ invested capital ” for any year means the average invested capital for the year, as defined and limited in this title, averaged monthly.
As used in this title “invested capital” does not include stocks, bonds (other than obligations of the United States), or other assets, the income from which is not subject to the tax imposed by this title nor money or other property borrowed and means, subject to the above limitations:
* * * * * * *
(b) In the ease of an individual, (1) actual cash paid into the trade or business, and (2) the actual cash value of tangible property paid into the trade or business, other than cash, at the time of such payment (but in case such tangible property was paid in prior to January first, nineteen hundred and fourteen, the actual cash value of such property as of January first, nineteen hundred and fourteen) * * *.

Prior to 1907 petitioner conducted a retail lumber business under the name of Watson Malone & Sons. From 1907 to the close of 1916 he conducted the same business, at the same place, and under the same name, and had during that time a partner who was a partner only to the extent that he shared in the profits and losses. Strickler contributed nothing to the assets of the business, and none of the assets were transferred to or ever belonged to the partnership.

Petitioner contends strenuously that when petitioner dissolved the partnership and took over the business on January 1, 1917, he began a new.-business, a successor to the partnership, and that, as of that date, he paid in to that new business the property that had been used in the partnership business, and that such property must go into invested capital at its cash value as of that date, and he alleges its value at $150,000.

The Commissioner contends that there was no change of ownership, no change in business, and that such property must go into invested capital at cost, and determined that cost at $72,500.

Under the facts in this case, it is apparent that from 1906 to 1917, inclusive, there was no material change or reorganization of the business conducted by the petitioner. The partnership involved only the profits and losses, and the title and status of the assets at all times remained the same. Those assets having been acquired prior to January 1, 1914, their cash value as of that date is the value that must go into invested capital, and we have found such value to have been $170,900.

With reference to the South Atlantic City town lots, the stock and accounts receivable of the Tomahawk Lumber Co., and the Liberty bonds, the evidence is clear that none of those items, except the Tomahawk Lumber Co. item, was connected with the business, and in no way used in the business other than to be listed as assets belonging to E. B. Malone, in his statements to his bank as a basis of credit. There is no evidence of market value of the town lots. However, regardless of the question of value or no value, and accepting the Liberty bonds at their face value, those properties were not paid in to the business. It is true that all property owned by an individual is liable for his debts and in that way it may be well said that all his property is risked in any business in which he engages. The statute prescribes that it is only the cash or property paid in to the business that may go into invested capital. Neither the Tomahawk Lumber Co. items, the town lots, nor the Liberty bonds were paid in to the business, within the meaning of the statute, and hence may not be included in invested capital.

Judgment will ~be entered on Id days’ notice, under Bule 60.


source: Caselaw Access Project

author: Trammell:

license: Public Domain

text:
    L. Metzger, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 9682.
    Promulgated January 27, 1927.

      G. B. Fletcher, Esg., for the petitioner.

      Henry Bavenel, Esg., for the respondent.
   Trammell:

This proceeding was instituted for the redetermination of a deficiency in income tax for 1921. The amount of loss resulting from petitioner’s dealing in wheat was not claimed or deducted on petitioner’s return, but is claimed in this proceeding for the first time.

FINDINGS OF FACT.

Petitioner is an individual residing at Minneapolis, Minn. On September 12, 1921, he purchased through Charles E. Lewis & Co., of Minneapolis, 10,000 bushels of Minnesota wheat at $1.42½ or $14.225. On September 28, 1921, he purchased 10,000 bushels of wheat at $1.36½ or $13,625. On October 1, 1921, he purchased 10,000 bushels of wheat at $1.32¾ or $13,225, making a total of $41,075. On October 5, 1921, the 80,000 bushels of wheat were sold, at $1.24% per bushel, or at an aggregate price of $37,425. The petitioner also paid a brokerage fee of $7.50 on the sale. He thus sustained a deductible loss of $8,657.50.

Judgment will be entered on 16 days’ notice, under Rule 60.


author: Green:

text:
    Appeal of Berkshire Cotton Manufacturing Co.
    Docket No. 74.
    Promulgated January 27, 1927.
    1. The petitioner, a manufacturer of cotton goods, asserts that its net income is overstated as the result of the Commissioner’s computations with respect to inventories. Held, that the evidence is insufficient to establish such contentions.
    2. The Commissioner by answer asserted an additional deficiency. One of the grounds therefor is that the tax was erroneously computed. The petitioner filed a return for the period January 1 to September 30, 1918. The Commissioner computed the net income to be nine-twelfths of the net income for the fiscal year ending September 30, 1918, after having made inventory adjustments, Held, that the taxable net income for such period is the actual net income and not a proportionate part of the net Income for the entire fiscal year. Held, further, that in all other respects the Commissioner has failed to establish the right to have the deficiency increased.

      Samuel Freedman, Esq., for the petitioner.

      S. D. Mitchell, Esq., for the Commissioner. Lawrence J. Kelley, of counsel.
    This is an appeal from the determination of deficiencies in income and profits taxes for the calendar year 1917, the period of January 1 to September 30, 1918, the fiscal years ended September 30, 1919 and 1920, respectively, aggregating $707,759.81, and an overassessment for the calendar year 1916 amounting to $1,302.45. On motion duly granted by the Board, the Commissioner filed an amended answer to the petition in which he asserted ah additional deficiency of $53,039.21. The petition set out five allegations of error, two of which were withdrawn by the petitioner at the hearing, while a third one was agreed upon by the parties, leaving only two issues to be considered and decided by this Board. They are as follows: (1) The overstatement by the Commissioner of the net income for each of the taxable years and period under consideration; and (2) whether the petitioner is entitled to special assessment under the provisions of section 210 of the Revenue Act of 1917 and sections 327 and 328 of the Revenue Act of 1918. The Commissioner’s amended answer, in which he asserts an additional deficiency of $53,039.21, raises an additional issue as to the amount of the net income for the period January 1 to September 30,1918.
    FINDINGS OF FACT.
    The petitioner is a Massachusetts corporation with its principal office at Adams, where it is engaged as a spinner and weaver in the manufacture of cotton fabrics of a type known as grey cloth. During all the years involved in this appeal it was affiliated with the Silver Creek Co., which is located at Clarksdale, Miss., where it is engaged in the business of operating cotton plantations. The deficiencies asserted by the Commissioner are based upon consolidated returns of net income and invested capital, filed by the afiiliated corporations for each of the years for which additional tax liability is asserted.
    At the close of each of the taxable years and the period under consideration, the petitioner’s inventory was made up of four items: (1) Finished grey cotton cloth; (2) goods in process; (3) raw cotton; and (4) coal, starch, and burlap. The petitioner consistently valued its inventories on the basis of cost. The net income reported in the returns for the years and period under consideration was computed by the use of inventories.
    The Commissioner has recomputed the inventories for all of the years and the period involved, and has determined that the valuations thereof, on the basis of cost, are materially different from the valuations placed thereon by the petitioner as shown in its tax returns. The inventory valuations of the petitioner and the Commissioner, for the several years and period involved in this appeal, are as follows:

    As the result of his revaluation of the inventories, the Commissioner has increased or decreased the net income of the several years and period under consideration by the following amounts:

    In general, the method adopted by the Commissioner for the revaluation of the inventories is as follows:
    (1) Since the experience of the petitioner has been that of four complete turnovers in the mill during an annual accounting period, and since the sales of finished cloth during the last quarter of each accounting period exceeded the finished cloth on hand at the beginning of the last quarter as well as the finished cloth which could be manufactured from work in process at the beginning of the quarter, the Commissioner has assumed that the finished cloth and work in process in the inventory, at the close of each accounting period, was manufactured entirely during the last quarter and at the costs of raw cotton, labor, and, overhead- applicable to that quarter.
    (2) Kaw cotton on hand at the end of the quarter was identified by bale numbers and the cost thereof ascertained by reference to invoices. '
    (3) The quantity and cost of raw cotton put to process during the quarter was determined by adding to the quantity and- cost of raw cotton on hand at the beginning of the quarter the quantity and cost of raw cotton purchased, and deducting from the totals thus obtained the quantity and cost of raw cotton sold and the quantity and cost of raw cotton on hand at the close of the quarter.
    (4) The gross waste was determined by adding to the work in process at the beginning of the quarter the raw cotton put to process during the quarter, and deducting from the total so obtained work in process at the end of the quarter and total weight of finished cloth manufactured during the quarter. Percentage of gross waste was determined by dividing the gross waste by the quantity of cotton consumed during the quarter.
    (5) The cost of raw cotton put to process, ascertained as in (3) above, was credited with the amount of the proceeds realized from the sale of waste during the quarter, the remainder representing the net cost of cotton put to process.
    (6) Work in process at the beginning and end of the quarter was deemed to be 50 per cent completed.
    (7) Wastage was assumed to take place ratably over the processes of manufacture; hence, in the case of work in process, one-half of the waste was assumed to have taken place.
    (8) The cost of direct labor and overhead, per pound of finished cloth, was determined by dividing the total expenditures, during the quarter, for these items, respectively, by the quantity of finished cloth manufactured during the quarter.
    (9) Work in process was reduced to its equivalent in pounds of finished cloth, and the cost of direct labor and overhead contained therein was determined by multiplying said equivalent by one-half the rates computed as in (8) above.
    (10) Work in process was raised to its equivalent in raw cotton, and the cost of raw cotton contained therein was determined by multiplying said equivalent' by the net cost of raw cotton computed as in (5) above.
    The following compilation, taken from the revenue agent’s report, illustrates the application of this method and the manner in which the Commissioner determined the value of the inventory at December 31,1916:

      Waste calculation.

    (1) Stock in process September 30, 1916_ 807, 034 lbs.
    (2) Cotton put to process_1, 8S7,213 “
    (3) Total_ 2,694,247 ‘
    (4) Less stock in process December 31, 1916- 762, 653 ‘
    (5) Total cotton consumed_ TU 05 A CO 05
    (6) Less cloth manufactured tO CO CD r-i
    (7)Gross waste_ 763, 620
    Percentage of waste: 763,520 lbs. (Gross waste) divided by 1,931,594 lbs. (Total cotton consumed) equals 39.5%.

      Net cotton cost.

    Proceeds of sale of waste during quarter_ $88, 669. 49
    Cotton put to process_:_ 1,887,213 lbs.
    $88,669.49 divided by 1,887,213 equals $0,047 (Credit per pound).
    $0,179 (Cotton cost) minus $0,047 (Credit per pound) équals $0.132 (Net cost of cotton per pound).

      Direct labor.

    Total direct labor cost for quarter_ ⅛ 150.87
    Cloth manufactured during quarter__ _ 1,168, 074 lbs.
    $286,150.87 divided by 1,168,074 equals $0.2448 (Cost of direct labor per pound of finished cloth).

      Overhead,.

    Total overhead cost for quarter_._ $160, 670.71
    Cloth manufactured during quarter_1,168, 074 lbs.
    .$160,670.71 divided by 1,168,074 equals $0.1375 (Cost of overhead per pound of finished cloth).

      Cost of work in process.

    762,653 lbs. divided by 80.25% (100% — ½ of 39.5% waste) equals raw cotton equivalent of_ 950,346 lbs.
    762,653 lbs. divided by 80.25% equals 950,346 lbs. raw cotton, which divided by 60.5% (100% — 39.5% waste) equals finished cloth equivalent of_ 574, 959 lbs.
    Cost of raw cotton (950,346 lbs. at $0.132 per pound)-$125,445.67
    Cost of direct labor (574,959 lbs. at ½ of $0.2448)_ 70,374.98
    Cost of overhead (574,959 lbs. at ⅛ of $0.1375)___ 39, 528.43
    Inventory value of work in process at cost_$235, 349.08

      Cost of finished cloth.

    90,511 lbs. divided by 60.5% (100% — 39.5% waste) equals raw cotton equivalent of_ 149, 605 lbs.
    Cost of raw cotton (149,605 lbs. at $0.132 per pound)-^— $19, 747.86
    Cost of direct labor (90,511 lbs. at $0.2448 per pound)_ 22,157.09
    Cost of overhead (90,511 lbs. at $0.1375 per pound)_ 12,445.26
    Inventory value of finished cloth at cost-54,350. 21

      Summary of inventory.

    Work in process- $246,-418.30
    Finished cloth._ 64, 360. 21
    Raw cotton_ 1, 056, 983. 35
    Coal, starch and burlap_ 10,603. 00
    Commissioner’s amended inventory at December 31, 1916— $1,368,364. 86
    In the revaluation of the inventories for the years and period under consideration, the Commissioner relied upon all the cost data available from the petitioner’s books of account, and the method above illustrated is predicated upon the data available. Petitioner made no inventory of waste on hand at the beginning and end of each quarter; hence, the Commissioner found it necessary to base the credit to initial cotton cost, for wastage, upon the sales of waste made during the quarter. There was not a segregation, on the petitioner’s books of account, of the costs applicable to the several operations involved in the petitioner’s process of converting raw cotton to finished grey cloth. Other data necessary for a valuation of the inventories in accordance with the correct principles of cost accounting was not available from the books of account.
    Over the period December 31,1916, to September 30,1920, finished cloth produced in each quarter,' and finished cloth and work in process on hand at the end of each quarter, are shown By the petitioner’s books to have been as follows:

    For the calendar year 1917, and the fiscal years 1918, 1919, and 1920, respectively, sales of waste are shown by the petitioner’s books to have been as follows:
    Calendar year 1917_$277, 307.02
    Fiscal year 1918_ 148,295.42
    Fiscal year 1919_ 244, 363.95
    Fiscal year 1920_ 335,300.30

      For the same years the cost of raw materals, labor, overhead, and all other expenses are shown by the petitioner’s books to have been as follows:

    The annual accounting period of the petitioner is a fiscal year ending September 30. The return for the taxable year 1917 was filed on the basis of a calendar year. A return was filed for the short period January 1 to September 30, 1918. The returns for all subsequent years have been filed on the basis of a fiscal year corresponding with the petitioner’s annual accounting period. The' revenue agent, who examined the petitioner’s books and verified its returns for the years and period under consideration, determined the net income for the full fiscal year ended September 30, 1918, to be $798,948.28, and the net income of the period January 1 to September 30, 1918, to be nine-twelfths of $798,948.28, or $599,211.21. The net income for the period January 1 to September 30, 1918, as shown by the Commissioner- in the deficiency letter, was computed as follows:
    Net income as shown by revenue agent’s report_$599,211.21
    Add: Increase in inventory of September 30, 1918, as adjusted by Commissioner_$111, 047.97
    Less: Increase in inventory of December 31, 1917, as adjusted by Commissioner_ 43, 713.. 73
    - 67, 334.24
    Net income shown in deficiency letter_ 666, 545.45
    The net income for the full fiscal year ended September 30, 1918, as determined by the Commissioner, is $867,155.36, computed as follows:

      Net income as shown by revenue agent’s report_$798,948.28
    Add: Increase in inventory of September 30, 1918, as adjusted by Commissioner_$111,047. 97
    Less: Increase in inventory of September 30, 1917, as adjusted by Commissioner_ 42,840.89
    - 68,207.08
    Net income as adjusted by Commissioner_ 867,165.36
    The Commissioner, in his amended answer, asserts that the actual net income for the period January 1 to September 30, 1918, is $718,-881.22, and that the deficiency, for the period stated, should be determined on the basis of such net income rather than a net income of $666,545.45 as shown in the deficiency letter. Further, the Commissioner, in his amended answer, asserts additional deficiencies as follows:
    Calendar year 1917 (overassessment)_$1,¶8⅛.80

    Period January 1 to September 30, 1918_ 44, 369. 60
    Fiscal year 1919___ 4,210.04
    Fiscal year 1920_ 4, 891.42
    Total- 51, 736.76
    Add: Overassessment for 1916 credited against deficiency in deficiency letter, but barred by statute of limitations_ 1, 302.45
    Total additional deficiency_ 53, 039.21
    The additional deficiency for the period January 1 to September 30, 1918, is occasioned by an increase of $52,335.77 and a decrease of $23,578.15 in the net income and invested capital, respectively, as shown in the deficiency letter. The additional deficiency for the fiscal year 1919 is occasioned by a decrease of $75,870.59 in the invested capital as shown by the deficiency letter.. The additional deficiency for the fiscal year 1920 is occasioned by an increase of $1,856.52 and a decrease of $80,107.40 in the net income and invested capital, respectively, as shown in the deficiency letter.
   OPINION.

Green:

We have here the anomalous situation of the petitioner attacking the validity of the very thing which it relies upon in support of its allegation of error. The fourth assignment of error, and the first to be here considered, is that the Commissioner has overstated the net income for each of the years and period under consideration; and the facts set out in subdivision 4 of paragraph 5 of the petition, upon which the petitioner relies to support the assignment of error, are as follows:

In accordance with both the results and method employed by the Commissioner in redetermining the value of the inventories pertinent to the tax periods set forth in paragraph 3 of this petition, he should have determined the cost of the cotton cloth sold as follows:
[Here follows a computation of the cost of goods sold, for each of the years and period under consideration, according to the method used by the Commissioner in the revaluation of the inventories.]

In other words, the petitioner does not dispute the correctness of the inventory values determined upon by the Commissioner, but raises the issue that the Commissioner should have determined the cost of goods sold, not upon the basis of inventories, but by resort to the unit cost of production determined in the same manner as the Commissioner has determined the unit cost of finished goods in the closing inventory. Yet, during the hearing of the appeal, counsel for petitioner devoted nearly his entire time to an effort to prove that the method used by the Commissioner for the revaluation of inventories was theoretically wrong from the standpoint of sound principles of cost accounting. His entire brief, filed after the oral hearing, is devoted to an earnest attack, not only upon the method, but also upon the inventory values reached by the Commissioner through the use of that method. Furthermore, at no time in this proceeding has the petitioner contended that the method used by the Commissioner for the determination of the cost of goods sold is incorrect or not in accordance with sound accounting principles; nor has it contended that the results obtained by the Commissioner through the use of that method are incorrect, except for such inference as may be drawn from the contention contained in the brief, filed after the hearing, that the inventories used by the Commissioner for the determination of the cost of goods sold are incorrect because of the method employed by the Commissioner in ascertaining their cost values. Taking the record as a whole, for it could never be discovered from the pleadings alone, the petitioner’s position appears to be that the method employed by the Commissioner for the revaluation of inventories is wrong and that the results obtained from the use of such method are incorrect; but, in any event, the same method should be used for the purpose of ascertaining the cost of goods sold for each of the years and period under consideration.

A greater responsibility rests upon the petitioner than the mere proving that the methods used by the Commissioner are wrong. We can not assume, though the petitioner succeed in proving the fallacy of the Commissioner’s methods, that the results obtained thereby are necessarily incorrect. That is something which, if true, the petitioner must establish by competent evidence. We are not so much concerned with the methods employed as we are with the results obtained through the use of the methods. Hot a shred of evidence was offered by the petitioner to show that the cost of goods sold, for the years and period under consideration, was something other than that determined by the Commissioner. In fact, we have not been advised what the Commissioner’s determination was in that respect. As for the inventory values determined by the Commissioner, on the basis of cost, though it would be sufficient to state that no issue was raised in the pleadings in respect of them, the petitioner has not established that they are incorrect, notwithstanding that there may be faults in the method employed by the Commissioner in their revaluation. On the record confronting us, we must hold that the petitioner has failed to prove the allegation of error that the Commissioner has overstated the net income for each of the years and period under consideration.

In the fifth assignment of error the petitioner alleges that the Commissioner should have determined the profits-tax liability for the fiscal year 1920 in accordance with the provisions of section 328 of the Revenue Act of 1918. No facts are set out in the petition in support of this assignment of error; nor has the petitioner offered any evidence whatever to show that it falls within any of the provisions of section 321 of the Revenue Act of 1918 which would entitle it to have its profits taxes determined under the provisions of the relief section. The issue must be decided adversely to the petitioner.

The Commissioner’s amended answer, in which he asserts an additional deficiency of $53,039.21, raises the issue as to the amount of the net income for the short period January 1 to September 30, 1918. The petitioner had established an annual accounting period ending September 30. Its return for the taxable year 1917 was filed on a calendar year basis; but under the provisions of section 212(b) it was required to compute its net income for the taxable year 1918 upon the basis of its annual accounting period, which was the fiscal year ending September 30. Therefore, the petitioner filed a return for the short period January 1 to September 30, 1918. The Commissioner determined the net income of the short period as being nine-twelfths of the net income of the full fiscal year ended September 30, 1918, plus the increase occasioned by adjustments of the inventories of December 31, 1917, and September 30, 1918, respectively, or $666,545.45, which is the net income shown in the deficiency letter. An inventory of merchandise and supplies was taken by the petitioner and its books closed as of December 31, 1917; therefore, the actual net income of the short period January 1 to September 30, 1918, was susceptible of determination. The Commissioner has determined that net income to be $718,881.22, and, in his amended answer, asks the Board to determine the deficiency for the period January 1 to September 30, 1918, upon the basis of a net income in the amount last stated. More definitely, the issue is whether the net income of the nine-month period January 1 to September 80, 1918, is nine-twelfths of the net income of the full fiscal year ended September 30, 1918, or the net income actually earned during the nine-month period.

In Appeal of Henry D. Weed, 2 B. T. A. 84, we held that an individual who kept his books of account upon the basis of a fiscal year, but made his income-tax returns for 1917 and prior years on the basis of a calendar year, was required to file an income-tax return for the short period from the beginning of the calendar year in which the fiscal year ended to the end of the fiscal year, and that his tax liability upon such return should be computed in the manner outlined in section 226 of the Revenue Act of 1918. Our decision in that case is equally applicable to the facts in this. The petitioner should have filed a return for the nine-month period January 1 to September 30, 1918, showing a net income which, under the provisions of section 226 “ shall be computed on the basis of such period for which separate return is made.” Since an inventory of merchandise and supplies was taken by the petitioner and its books of account were closed as of December 31,1917, it is obvious that the net income of the nine-month period January 1 to September 30, 1918, is susceptible of ascertainment without resort to any method of prorating the income of the twelve-month period ended September 30, 1918. Such being the case, the net income of the period in question should be redetermined solely upon the basis of the results of the business operations of that period, independently of all others, and in accordance with the method of accounting employed in keeping the books of account. Whether the computation of the net income and the tax liability for the period January 1 to September 30, 1918, in accordance with this opinion, will serve to increase or decrease the deficiency found by the Commissioner, we must leave for a Rule 50 determination. The Commissioner in his computation of the value of inventories followed a cost accounting method. Such a method may produce a correct valuation of the inventories. However, if the amount of the increase in the value of inventories thus obtained is added to the petitioner’s net income, other adjustments of gross income must be made in order to clearly reflect'the petitioner’s net income. If this has not been done, it may be done by the parties in their recomputation hereunder.

Except for the increase, if any, in the deficiency which may result from a recomputation of the tax liability for the period January 1 to September 30, 1918, in accordance with the method above outlined, the additional deficiency asserted by the Commissioner, in his amended answer, must be disallowed, since the Commissioner has failed to show by proper proof the existence of a greater deficiency than that shown in the deficiency letter, and obviously the burden of proof thereof is upon him. The only evidence offered by the Commissioner, in support of the additional deficiency, was the testimony of an auditor of the Bureau of Internal Revenue to the effect that the recomputations of the tax liability, for each of the years and period involved, shown in an amended statement furnished to the petitioner, and admitted in evidence as one of petitioner’s exhibits, are correct and the deficiencies shown therein are the correct deficiencies. Examination of this statement reveals several adjustments in the net income and invested capital of the several years and period under consideration, none of which were explained to this Board, or justified by affirmative proof.

The second assignment of error set out in the petition is that the consolidated excess-profits tax for the year 1917 was not apportioned by the Commissioner between the petitioner and its subsidiary, the Silver Creek Co. During the hearing the parties reached an agreement that the tax may be apportioned between the two companies on the basis that the net income of each bears to the consolidated net income.

Judgment will be entered after W days' notice, under Rule 50.


text:
    Appeal of Frederick A. Tschiffely.
    Docket No. 6407.
    Promulgated January 27, 1927.
    1. The Commissioner computed the petitioner’s net income from a drug business by taking 5 per cent of the gross sales. To this he added a salary of .$5,000, which was not paid to or received by the petitioner. Held,, that net income should be reduced by the amount of $5,000.
    2. The Commissioner concluded that he was unable satisfactorily to determine the petitioner’s invested capital and computed the tax under the provisions of section 210 of the Revenue Act of 1917. At the hearing, although unable to establish for invested capital purposes the value of all of his assets used in his business, the petitioner did establish his right to a definite amount of invested capital. Held, that it was unnecessary for him to establish the value of all of his assets and that he is entitled to have his tax computed upon the basis of the invested capital established.

      J. Bond Smith, Esq., for the petitioner.

      George G. Witter, Esq., for the Commissioner.
    The Commissioner has determined a deficiency in income and profits taxes for the year 1917 in the sum of $3,020.32, of which amount there is in controversy in this proceeding $2,293.69. The petitioner seeks a redetermination of his tax liability and alleges two errors on the part of the Commissioner. The first relates to the method used in computing the total net income, and the second relates to the computation of invested capital.

      FINDINGS OF FACT.
    During the year 1917 the petitioner was engaged in farming and operated two farms in Montgomery County, Maryland. He resided upon the larger farm, which contained 525 acres. The smaller farm contained 154 acres. The net income for the year from the operation of the farms was $1,304.98. The larger farm was acquired by the petitioner prior to January 1, 1914, and on that date had an actual cash value of $45,000. The smaller farm was acquired subsequent to January 1, 1914. On this farm the petitioner had a considerable quantity of live stock and machinery. Among the various items were horses which cost $1,200, wagons which cost $300, and binders which cost $210.
    The petitioner at the same time carried on a wholesale drug business at 475 Pennsylvania Avenue, N. W., Washington, D. C. The building which housed this business has been owned by the petitioner over forty years and has been improved and remodeled from time to time. Its actual cash value on January 1, 1914, was not less than $45,000. No inventory was ever taken of the merchandise. The gross sales for the year 1917 amounted to $430,082. During the year the accounts receivable averaged not less than $55,000. The average amount of the accounts payable is not disclosed. The petitioner paid all merchandise accounts within ten days.
    The Commissioner computed the petitioner’s net income from the wholesale drug business by taking 5 per cent of the gross sales. He added to this, among other items, a salary of $5,000. No salary was paid to the petitioner. The total net income according to the computation was $29,070.13.
    The Commissioner concluded that he was unable to ascertain the invested capital and computed the excess-profits tax in accordance with the provisions of section 210 of the Revenue Act of 1917.
   OPINION.

Green:

The petitioner contends that, since he was paid no salary, the amount of $5,000 should not be added to his net income. With this contention we are in accord. We can find no justification for the addition of $5,000 to the petitioner’s net income. In making the computation the parties agreed that the net income from the wholesale drug business should be ascertained by taking 5 per cent of the gross sales. In so agreeing the parties acted in good faith and in the light of the Commissioner’s records of the profits of similar concerns. It is not enough to say that other comparable concerns paid a salary of approximately $5,000. The fact remains that no such salary was drawn by this petitioner and that such amount was improperly added to income.

The Commissioner concluded that he was unable satisfactorily to determine the petitioner’s invested capital and computed the tax in accordance with the provisions of section 210 of the Revenue Act of 1917. The petitioner contends that he can not establish, for invested capital purposes, the value of certain assets. He contends, however, that he can and has established for invested capital purposes, the value on January 1, 1914, of a part of the property paid in to the business prior to that time, and that he should not be deprived of the right to have his profits tax computed on the invested capital which he is able to establish merely because he used in his business other assets the value of which he can not establish. In this we think his position is correct. The special assessment provisions of the various acts were intended to provide, among other things, an equitable means of computing the tax in cases in which the invested capital which could be established was so low as to result in an excessive tax. If, however, a taxpayer is content to have his tax computed upon the low invested capital, there is no reason why the tax should not be so computed. The petitioner herein has established his right to an invested capital of at least $146-,710, this amount being the total of the costs or values set forth in the findings of fact, plus the amount of the accounts receivable. The latter amount we include without regard to the bills payable, because it is obvious that the value of the merchandise on hand far exceeded the accounts payable.

Judgment will he entered on 15 days’ notice, under Bule 50.

Milliken dissents.


author: Love:

text:
    J. W. Teasdale & Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 2715.
    Promulgated January 27, 1927.
    1. A petition appealing from the determination of deficiency in tax for 1920 was not filed within sixty days after mailing of notice of deficiency, and the Board therefore has no jurisdiction to redetermine this deficiency.
    2. The petitioner and the Circle Realty Co. and the Losey Real Estate Co. held to have been affiliated in 1919. The Seneca Dried Fruit Co. held not to have been affiliated with petitioner in 1919.
    3. Alleged bad debt charged off in 1919 disallowed because worthlessness was not ascertained in that year.

      W. A. Allen, Esq., for the petitioner.

      W. F. Gibbs, Esq., for the respondent.
    This proceeding is to redetermine deficiencies in income and profits tax as follows: For 1919, $1,818.82; for 1920, $7,652.77.

      The petitioner assigns the following errors:
    (1) The disallowance by the Commissioner of the deduction as a bad debt of $7,765.18 in 1919.
    (2) The disallowance of deductions, aggregating $22,060.95, as bad debts and losses in 1920.
    (3) The refusal of the Commissioner to recognize the Seneca Dried Fruit Co. and the Losey Real Estate Co. as affiliated with petitioner.
    The respondent’s answer raises the question of the jurisdiction of the Board as to the year 1920, alleging that a petition appealing from the determination was not filed with the Board within sixty days after the mailing of the notice of the deficiency for that year.
    FINDINGS OF FACT.
    The petitioner is an Illinois corporation with its principal office in St. Louis, Mo.
    A notice of deficiency in tax for 1919 was mailed to the petitioner on January 23, 1925. Within sixty days thereafter, to wit, on March 20, 1925, it filed a petition with the Board. This petition, however, was irregular in form and the petitioner was advised that its petition would have to be completed in the manner and form prescribed by the Rules of Practice of the Board. Upon request it was granted time in which to file an amended petition. A notice of deficiency in tax for the year 1920 was mailed to the petitioner on April 9, 1925. Thereafter, the petition, sworn to on August 5, 1925, was filed with the Board. The amended petition, however, relates to the deficiencies for both the years 1919 and 1920. No other petition relative to the deficiency for 1920 was filed.
    The principal stockholder of petitioner in 1919 and for many years prior thereto was J. W. Teasdale, Sr. He was also a large stockholder of the Circle Realty Co. and the Losey Real Estate Co. It was admitted that the petitioner was affiliated with the Circle Realty Co. In 1919 the stock of the petitioner and of the Losey Real Estate Co. was owned as follows:

      J. W. Teasdale, Jr., and G. W. Teasdale, were sons oí J. W. Teasdale, Sr., and Emma was the wife of J: W. Teasdale, Jr., and Mary E. was the wife of G. W. Teasdale.
    The Seneca Dried Fruit Co. was a New York corporation with its place of business at Rochester. The evidence does not show who the stockholders of this company were, but it was controlled by the Teasdales, either directly or through the petitioner. At some time prior to 1911, the petitioner advanced $10,000 to the Seneca Dried Fruit Co. for starting the business, and the petitioner thereafter advanced other sums of money. It owed petitioner, on June 30,1911, $19,745.95; and on June 30,1912, $20,054.17.
    In the latter part of 1912 or early in 1913, the Seneca Dried Fruit Co. was declared bankrupt, and never thereafter resumed business. At that time it was indebted to the Traders National Bank of Rochester, and payment of the debt was guaranteed by G. W. Teasdale. The assets of the bankrupt were insufficient to pay its creditors. Thereafter, the bank sued G. W. Teasdale and recovered a judgment against him for $1,400, which was paid by the petitioner and the amount debited on its books to the account of the Seneca Dried Fruit Co.
    In 1919 the debit balance against the last named company on petitioner’s books was $17,765.13. In that year $7,765.13 of this sum was charged off as a bad debt. In 1921 the remaining $10,000 was debited to the account of J. W. Teasdale, Sr.
   OPINION.

Love:

The notice of deficiency in tax for 1920 was mailed to petitioner on April 9, 1925. The sixtieth day after that date was June 8, 1925. There was no petition filed relating to the year 1920 except the amended petition correcting the irregularity in the petition appealing from determination as to the year 1919, which had been filed March 20, 1925. While this amended petition also covered 1920, it was not filed until after June 8, 1925. It is, therefore, at once apparent that there was not a petition appealing from the determination of deficiency in tax for 1920 filed within sixty days after the mailing of notice of deficiency, and, consequently, the Board has no jurisdiction to redetermine this deficiency. The sixty-day period of limitation is fixed by the statute and the Board has no power to extend it.

The facts show that in 1919 all but two shares of petitioner’s capital stock was owned by J. W. Teasdale, Sr., and a son, and that the remaining two shares were held by a brother and another son. These four persons also owned 350 shares of the stock of the Losey Real Estate Co. out of a total of 400 shares outstanding (or 87½; per cent); and of the remaining 50 shares, 17 were held by the wives of the two sons of J. W. Teasdale, Sr., and 33 shares were held in trust for children of one of the sons. There is no question in our minds that these facts meet the test of the statute that two or more corporations shall be deemed affiliated when “substantially all the stock * * * is owned * * * by the same interests.”

There is no direct proof of the ownership of the capital stock of the Seneca Dried Fruit Co. It does appear that the members of the Teasdale family controlled this corporation in some manner, but we are not warranted on the vague testimony on this point in making a finding that the ownership or control of the stock was sufficient to deem the corporation affiliated with petitioner. Upon the evidence in the record we can not find that the Seneca Dried Fruit Co. was affiliated with petitioner in 1919.

The petitioner seeks to deduct from income in 1919, $7,765.13 which was charged off in that year as a bad debt. This is a part of the debit balance carried on its books against the Seneca Dried Fruit Co., the total in 1919 being $17,765.13. This total (with the possible exception of $1,400) is the balance of the old indebtedness to the petitioner of the Seneca Dried Fruit Co. which existed in 1912 or 1913. The latter went into bankruptcy at that time, and the fact of worthlessness of the debt must have been known at that time or shortly thereafter, as it was testified that the Traders National Bank could not recover on its debt against the bankrupt and hence sued G. W. Teasdale as guarantor. The only reason given for not charging off this account before 1919 was that the. suit of the Traders National Bank was pending and the total amount of indebtedness of the Seneca Dried Fruit Co. to petitioner could not be known until this suit was concluded. We are unable to see how this would affect the fact of worthlessness of the old debt. It does not appear, in any event, why the petitioner paid the amount of the judgment obtained by the bank against G. W. Teasdale. Our conclusion is that the evidence does not show this debt became worthless within the year 1919.

Judgment will be entered after 20 days’ notice, wnder Rule 50.


text:
    George Hoke, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 7999.
    Promulgated January 27, 1927.
    An Individual who kept his books and filed his returns on the calendar-year basis was a member of a partnership which kept its books on the basis of a fiscal year ended in the calendar year 1924.
      Held, that lie is not entitled to the benefit of the 25 per cent reduction in tax provided in the 1924 Act for the year 1923 with respect to his share of the partnership profits for the fiscal year ended in 1924.

      D. D. Shepard, Esq., for the respondent.
    The petitioner seeks a redetermination of a deficiency in income tax for 1924 in the amount of $273.95, only $187.84 of which is in controversy.
    No evidence was introduced and the case was submitted on the pleadings.
    FINDINGS OF FACT.
    The petitioner is a lawyer and a member of the partnership of Cobb, Wheelwright, Hoke & Benson, and has been a member thereof since the partnership was formed on June 1, 1923. The partnership operates upon the basis of a fiscal year ending May 31 of each year. The petitioner filed his individual income-tax return for the calendar year 1924 in which return he reported income from the partnership, a portion of which was taxable at 1923 rates and a portion at 1924 rates. In that return he claimed as a credit the amount of 25 per cent of the total tax upon income taxable at 1923 rates. No part of the petitioner’s share of the' partnership income was reported on his 1923 return.
    The respondent disallowed this claim for credit which resulted in a deficiency of $187.84, which is that part of the total deficiency involved in this appeal.
   OPINION.

Trammell:

The decision on the question involved in this appeal is governed by the Appeal of Charles Colip, 5 B. T. A. 123, and Appeal of C. A. Weaver, 5 B. T. A. 313.

Judgment will be entered for the respondent.


author:
Littleton:
      Smith,

text:
    Appeal of Yokohama Ki-Ito Kwaisha, Ltd.
    Docket No. 2653.
    Promulgated January 28, 1927.
    1. A letter sent by the Commissioner in 1916 to an attorney advising him that a foreign corporation was in his opinion entitled to deduct from gross income in a tax return made under the Revenue Act of 1916, such portion of the income received from sources within the United States as represents “the actual commission for buying silk in Japan,” is not such an interpretation of the statute as has any binding effect upon a successor Commissioner in determining true tax liability for the fiscal year ended June 30, 1917.

      2. A foreign corporation which through an agent in the United States took orders for or entered into contracts for the sale of silk in the United States and later purchased the silk in Japan to fill the orders derived income from a source within the United States, under the provisions of the Revenue Act of 1916, of the difference between the selling price and the cost and is entitled to deduct therefrom in computing net income ordinary and necessary expenses actually paid within the year out of earnings in the maintenance and operation of its business and property within the United States.

      Edmonds Putney, Esq., for the petitioner.

      8. D. Mitchell, Esq., for the Commissioner.
    This is a proceeding for the redetermination of a deficiency in income and profits tax for the fiscal year ended June 30, 1917, in the amount of $24,995.95. The petitioner alleges numerous errors on the part of the Commissioner in determining its income from the sale of goods imported into the United States and in reversing the ruling of his predecessor in office in so doing.
    FINDINGS OF FACT.
    The material facts are admitted in the pleadings and are substantially as follows:
    The Yokohama Ki-Ito Kwaisha, Ltd., is a foreign corporation, organized under the laws of Japan, with its principal place of business at Yokohama, Japan. Its business in 1916 and 1917 was that of a dealer in raw silk and raw cotton. All of its transactions in the United States were conducted by and through the firm of Morimura, Aria & Co., who had their principal office in the City of New York and acted solely as agents for the corporation.
    The transactions in raw silk between Japan and the United States were conducted substantially as follows:
    Morimura, Arai & Co., in New York City, were supplied every day by the home office in Japan, by cable, with the market prices for raw silk prevailing in Yokohama on that day. On the basis of these quotations, Morimura, Arai & Co. entered into contracts for the sale of raw silk to various purchasers in the United States for delivery at a future date, frequently several months later. Each order so taken was cabled to Japan and the petitioner thereupon went into the market and purchased the silk necessary to fill the order. Sometimes the purchase would be made immediately, sometimes not until a considerably later date, according to the judgment of the officers and managers in the home office of the petitioner as to the trend of the market. Whether the petitioner' made a profit or a loss on the transaction depended upon its ability to purchase the silk at a price lower than the sale price fixed in the contract.

      When the petitioner in Japan shipped the silk to fill an order, it invoiced the goods to its New York agents, not at the actual purchase price paid in Japan, but at the market price quoted in its cable to New York on the day the contract was made. It then drew a draft for the invoice price upon the New York agents, to which invoices, bills of lading, and other shipping documents were attached, and negotiated thé draft with a bank in Japan, thus receiving the amount of the invoice at the time of shipment. The shipping documents were either made directly in the name of the bank or indorsed to it or “ to order ” so that title to the silk passed to the bank. The bank in Japan forwarded the drafts with the shipping documents attached to its bank correspondent in New York by which the drafts were presented to Morimura, Arai & Co. for acceptance and payment. Upon the arrival of the silk in New York, it was stored in a warehouse in the name of the bank, pending delivery to the purchaser. Thereafter, delivery was generally made to the purchaser by Morimura, Arai & Co., acting as agent for the bank under a trust receipt signed by Morimura, Arai & Co. to the bank by the terms of which Morimura, Arai & Co. acknowledged that they received the silk in trust for the bank and that the title both to the silk and to the proceeds thereof remained in the bank.
    The petitioner’s transactions in cotton were conducted in a similar way, but the operation was reversed, as the cotton was purchased in the United States by Morimura, Arai & Co. and sold in Japan and elsewhere by the home office and its other branches.
    In 1916 the petitioner, desiring to establish a fixed and permanent method of computing its income “ from all sources within the United States ” for the purpose of taxation, caused its case to be presented to the then Commissioner of Internal Revenue and requested a ruling by him of what income should be returned for the purpose of taxation. Under date of October 20, 1916 the Commissioner replied to the request in a letter addressed to the attorneys for the petitioner, which letter read in part as follows:
    You further state that you desire a ruling for the future guidance of this corporation in mailing its returns of annual net income and set out in full the manner in which its business is transactéd both in this country and in Japan. The facts as presented in connection with this business are substantially as follows:
    The .corporation’s business consists of purchasing of raw material in Japan, which is shipped to New York and sold in this country. The agents in this country also purchase cotton here and ship it to Japan where it is sold. The representatives of the corporation in New York have daily quotations of the market prices of various kinds of silk from the office in Japan and sales are made to the customers daily on the basis of these market prices. The home office in Japan is then notified of the sales, and when it ships the silk it' invoices the same to the New York agents, not at actual cost price at which the silk was purchased, but at the market price prevailing on the day the sale was made in New York. The home office of the corporation actually draws a draft upon the agent in New York for the value of the silk reckoned at the market price prevailing on the day the sale was made in New York. This is, in effect, practically a sale by the home office to the New York office at the market price. The real profit then derived from the business in the United States is the difference between the market value of the silk on the date of sale and the price which is obtained therefor. The corporation has considered that the only income which it derives from the purchase of cotton in the United States, which is sold in Japan, is a commission for purchasing the cotton.
    In reply to your question as to whether in the case of this Japanese corporation, its income received “ from all sources within the United States ” is to be computed upon the difference between the price at which the silk is bought in Japan and the prices at which it is sold in New York less a buying commission, or whether the income received by this Japanese corporation '* from all sources within the United States ” should not be limited to the difference between the price at which the silk is invoiced to the agents of the corporation in New York and the price at which they sell the same, you are informed that, for the purpose of income tax, this office is of the opinion, and will hold, that the Japanese corporation must return as income received from all sources within the United States the difference between the cost price of the silk in Japan and the price for which it is sold by its agents in New York or in this country. It will be allowed, however, to retain such portion of that income as represents the actual commission for buying the silk in Japan; that is to say, that commission will not be considered as income received fr.om business transacted within the United States,by the foreign corporation. The same procedure should obtain in the case of the cotton purchased by .the agents of the foreign corporation in the United States; that is, the foreign corporation should consider that its agents in the United States are earning a commission by purchasing cotton which is disposed of in a foreign country, and such commission is considered as income “ from all sources within the United States.”
    Since you state that the returns as rendered were prepared upon the basis insisted upon by this office, its subsequent returns should be made upon the same basis and if so made will be accepted by this office for income tax purposes.
    The petitioner duly made and filed a return for its fiscal year ending June 30, 1917, as required by law, in which its income was computed strictly in accordance with the ruling of the Commissioner above quoted. The Commissioner received and accepted such return, audited same, and, with full knowledge of all of the facts, assessed the petitioner for income and profits taxes for that year upon the basis laid down by him in the ruling which was communicated to the petitioner in the letter of October 20, 1916, above quoted. Returns were also made by the petitioner upon the same basis for subsequent fiscal years and in each case the return was examined and audited with full knowledge of all the facts and the assessment made in each year upon the taxable income computed in the manner described, and the taxes assessed were duly paid by the petitioner.

      During the year 1921 the then Commissioner of Internal Revenue caused the books and records of the petitioner to be examined by his agent, who verified the correctness of the facts herein stated and returned the same to the Commissioner under date of February 21, 1921, in which report he made the following statement:
    The corporation’s business consists of purchasing raw material in Japan which is shipped to New York and sold in this country. The agents in this country also purchased cotton here and shipped it to Japan, where it is sold. The representatives of the corporation in New York have daily quotations of the market prices of various kinds of silk from the office in Japan, and sales are made to the customers daily on the basis of these market quotations. The home office in Japan is then notified of the sales and then it ships the silk and invoices the same to the New York agents not at the actual cost price at which the silk was purchased but at the market price prevailing on the day the sale was made in New York. The home office of the corporation actually draws the draft upon the agent in New York for the value of the silk reckoned at the market price prevailing on the day the sale was made in New York. This is in fact practically a sale made by the home office to the New York office at the market price. The real profit thus derived from the business in the United States is the difference between the market value of the silk on the date of sale, and the price which is obtained therefor. The corporation has considered that the only income which it derived from the purchase of cotton in the United States which is sold in Japan is the commission for purchasing the cotton.
    As a result of the above method of doing business, the company was confronted with the question of what would constitute its income from sources within the United States, inasmuch as they contend that a portion of the entire net income is contributable to the activities of its home office. They finally decided that, for income tax purposes, they should account for the difference between the cost of the raw silk bought in Japan and the amount for which it was sold in the United States as income derived from capital invested in the United States and business done in the United States, less a buying commission intended to represent that portion of the profits earned in Japan. The foregoing contentions were embodied in a letter to the Department dated October 11, 1916 (copy of which is attached). The Department in its reply to the company’s attorneys, letter dated October 20, 1916 (copy attached) upheld the company’s contention and the company therefore rendered its return in accordance with the reply.
    The deficiency now claimed by the Commissioner to exist relates to the fiscal year July 1, 1916, to June 30, 1917, and is based upon the theory that the entire gross profit on silk shipped to and sold in the United States, that is, the difference between the price at which it was purchased in Japan and the price at which it was sold in the United States, constitutes income derived from sources within the United States, and that the petitioner is not entitled to deduct a commission for the buying of silk in Japan notwithstanding the ruling of his predecessor in office.
    Relying on the ruling of the Commissioner contained in his letter of October 20, 1916, the petitioner, in keeping its books in Japan, did not segregate expenses of the business in raw silks shipped to the United States from the expenses of its other business. The change in the form of the return made by the Commissioner in his deficiency letter dated January 20, 1925, places a great burden of expense upon the petitioner by requiring it to go back to the years 1916 and 1917 and attempt to reckon expenses of the silk business in Japan, a proceeding which has been rendered especially difficult by reason of the destruction caused by the recent earthquake in Japan. Since the' return was made and prior to this deficiency claim, the petitioner suffered severe losses as a result of the period of great business disturbance and depression during the years 1920 to 1922 and also losses as a result of the earthquake in Japan.
    The Commissioner computed the additional tax claimed to be due from the petitioner for the fiscal year ended June 30,1917, as follows:
    Net income shown on original return-$302, 968. 58

      Additions by Commissioner.

    Donations deducted by taxpayer_ 829.28
    Expenses of cotton purchases in TJ. S. deducted by taxpayer_ 15, 396. 50
    Commissions deducted by taxpayer for purchases of silk in Japan_ 271,168Í 98
    Interest_ 34, 712. 88
    625, 076. 22

      Deductions by Commissioner.

    Commissions for buying cotton in U. S. returned as income by taxpayer_$12,129. 32
    Additional expense_ 3,267.18
    Depreciation_ 371.06
    Additional discount_ 17, 765.88
    Allocated salaries and additional expenses in Japan_ 147, 060. 82
    Allocated interest- 48, 034. 68
    - 228,628.94
    Net income_ 396,447.28
    Computation of tax.
    Net income_ $396,447.28
    Invested capital- 1,293,288.35
    Excess profits credit (9%)- 116,395.95
    Excess profits tax (12 months 1917 law)- 87,144. 81
    A x $87,224.46 (months in 1917)_ 43,572.41
    Net income_$396, 447.28
    Less: Profits tax- 43, 572.41
    Taxable at 2%- 352, 874.87
    Amount of Tax at 2%-,-- 7,057. 50
    Less: Dividends_ 177.00
    Taxable at 4%-:- 352, 697. 87
    Total tax 4% for 12 months- 14,107. 91
    A x $14,106.32 (months in 1917)_ 7,053. 96
    Total tax liability_ 57, 683.87
    Total tax previously assessed_ 32, 687. 92
    Deficiency. 24, 995. 95

      The deficiency found by the Commissioner is based on a revenue agent’s report dated March SO, 1921, in connection with additional information shown in the petitioner’s brief to the Commissioner dated June 27, 1924. The net income as shown by the revenue agent’s report was adjusted by the Commissioner by the allowance óf additional discount as a result of a conference on July 29, 1924, making a total allowance of discount as shown in the petitioner’s brief above referred to. The deficiency letter shows that salaries of officers, $128,026.25, was proportioned by the Commissioner, first as between gross sales of cotton over total gross sales, then as between gross sales within the United States over gross sales of silk. Salaries and incidental expenses relative to silk alone, determined by the Commissioner, $77,158.18, was proportioned on a basis of gross income within the United States and gross income silk. The total interest paid, $73,288.18, was proportioned on the basis of gross income within the United States to gross income world wide. The invested capital was proportioned on the basis of net income from sources within the United States as determined by the Commissioner and total net income world wide.
   OPINION.

Littleton:

The principal complaint of the petitioner in this proceeding is that the Commissioner in 1925 reversed a ruling of Commissioner Osborn made in 1916 with respect to deductions which it was entitled to take in its income-tax return for the fiscal year ended June 30, 1917. The petitioner contends that the functions of a' Commissioner of Internal Revenue are to some extent judicial and that his decision can not be reviewed and reversed by a successor in office, and in support of such proposition cites the case of Bates & Guild Co. v. Payne, 194 U. S. 106, wherein it is stated:

The rule upon this subject [the right of one executive officer to overrule a predecessor in office] may be summarized as follows: That where the decision of questions of fact is committed by Congress to the judgment and discretion of the head of a department, his decision thereon is conclusive; and that even upon mixed questions of law and fact, or of law alone, his action will carry with it a strong presumption of its correctness, and the courts will not ordinarily review it, although they may have the power, and will occasionally exercise the right of so doing.

It is pointed out that section 13(b) of the Revenue Act of 1916, provided that:

Every corporation * * * shall * * * render a true and accurate return of its annual net income in the manner and form to be prescribed by the Commissioner of Internal Revenue, with the approval of the Secretary of the Treasury, and containing such facts, data, and information as are appropriate and in the opinion of the commissioner necessary to determine the correctness of the net income returned and to carry out the provisions of this title.

The Act of October 3,1917, added (section 213):

That the Commissioner of Internal Revenue, with the approval of the Secretary of the Treasury, shall make all necessary regulations for carrying out the provisions of this title, and may require any corporation, partnership, or individual, subject to the provisions of this title, to furnish him with such facts, data, and information as in his judgment are necessary to collect the tax imposed by this title.

In our opinion the contention of the petitioner upon this point is sufficiently met by the decision of the court in the case of United States v. Updike, 1 Fed. (2d) 550. The letter of October 20, 1916, sent by Commissioner Osborn to the attorneys for the petitioner was not a regulation “prescribed by the Commissioner of Internal Revenue, with the approval of the Secretary of the Treasury.” It was advisory merely. It simply gave the inquirer the Commission’s opinion and ruling as to the proper interpretation of the law as applied to the facts stated by the inquirer, which facts were not as fully stated as in the instant findings of fact. Clearly, an advisory letter on a question of law written by a Commissioner can have no binding effect upon his successor in office. An erroneous interpretation of a statute by the Commissioner does not conclude the United States on a subsequent modification of the ruling or create equities-in favor of the petitioner requiring the judicial adoption of the first interpretation. Goldfield Consolidated Mines Co. v. Scott, 247 U. S. 126.

A further contention made by the petitioner is that the profit on silk shipped by it to the United States from Japan accrued in Japan and not in the United States and that the petitioner did not have any taxable income derived from sources within the United States. A consideration of this question requires a determination of the meaning of the phrase “ from all sources within the United States,” contained in section 10 and in section 12(b) of the Revenue Act of 1916. We think that where a foreign corporation sells goods at a profit in the United States it derives an income from a source within the United States within the meaning of the statute. We have held, that where goods are manufactured abroad by nonresident alien individuals and sold in this country, the entire profit constitutes “ gross income from sources within the United States ” within the meaning of section 213(c) of the Revenue Act of 1918. Birkin v. Commissioner, 5 B. T. A. 402. We think that a like ruling must be made under the Revenue Act of 1916 with respect to a foreign corporation purchasing goods outside of the United States and selling them within the United States. The purchase price is paid by an individual residing in the United States. The income of the seller is derived from the sale and flows to the seller from the purchaser.

The petitioner objects to the tax liability determined by the Commissioner as computed upon the entire profit derived from silk shipped to the United States, that is, upon the difference between the cost of the silk in Japan and the sale price fixed in the contract of sale made in the United States. Its contention is that in the ordinary transaction of purchase and sale of personal property where the purchase precedes the sale no profit is made until the property is sold; that under such circumstances it might justly be said that the profit or income was derived from the place in which the sale was made; but that that would not be true in the instant case since the petitioner sold goods which it did not own and therefore derived no profit at the time of the sale; that it required a subsequent purchase to consummate the transaction; that whether the petitioner obtained a profit at all or suffered a loss depended entirely upon the skill and judgment with which the purchase was made; that any profit, if profit there was, accrued at the time of the purchase and not at the time of the sale and that, inasmuch as the purchase was in Japan, the profit was realized in Japan.

The evidence upon this point is not as detailed as might be desired. The agent of the petitioner in the United States took orders for silk or entered into contracts for the sale of silk. Ho copies of the contracts are before us. Neither are we in possession of copies of the shipping documents which might have a bearing upon the case. We can see no basis, however, for the contention of the petitioner that the profit on the sale is not derived from a source within the United States merely because the date of sale precedes the date of purchase. The source of the income was not changed by reason of that fact.

The relationship of the petitioner to Morimura, Arai & Co. is not entirely clear. This concern was apparently a partnership with its principal office in New York City, which acted solely as agents for the corporation. The conditions under which they acted and the method under which the petitioner compensated them for services rendered are not revealed. There appears to be no question, however, but that they were transacting business in the United States in the name of the petitioner. Laurentide Co. v. Durey, 231 Fed. 223.

The petitioner alleges error on the part of the Commissioner in refusing to allow the deduction of $271,168.93 made by the petitioner in its return and representing commissions in Japan for the buying of the silk pursuant to the ruling of the former Commissioner of Internal Revenue. In place of such deduction the Commissioner has allowed the deduction of a portion of the actual expenses of the business in Japan. No evidence is before this Board that the petitioner paid any commissions in Japan for the purchase of silk. In the absence of such evidence the disallowance of the" deduction by the Commissioner must be approved.

The petitioner also alleges error on the part of the Commissioner in refusing to allow the deduction of $16,950 discount made by the petitioner in its return. The record contains no evidence upon this point. The deficiency letter would indicate that the Commissioner allowed the deduction of all the discount which the petitioner contended for when the audit of its tax return was under consideration by the Commissioner prior to the determination of the deficiency. In the absence of evidence the action of the Commissioner in disallowing this deduction must be likewise approved.

The petitioner further alleges error on the part of the Commissioner in refusing to allow the deduction of $15,896.50 expenses of the petitioner in the conduct of its cotton business in the United States. The Commissioner has apparently determined the deductions from gross income in accordance with the provisions of law applicable to returns made under the Revenue Act of 1918. The Revenue Act of 1916 is quite different from the Revenue Act of 1918 in this respect, since it permits a foreign corporation deriving income from sources, within the United States to deduct from gross income:

First. All the ordinary and necessary expenses actually paid within the year out of earnings in the maintenance and operation of its business and property within the United States, including rentals or other payments required to be made as a condition to the continued use or possession of property to which the corporation has not taken or is not taking title, or in which it has no equity. (Sec. 12(b).)

Since commissions for the purchase of cotton were paid in connection with the operation of the petitioner’s business within the United States, they are deductible from gross income under the express provisions of law applicable to returns under the Revenue Act of 1916.

The last issue presented by the petitioner is whether the Commissioner erred in computing the 4 per cent tax imposed by section 4 of the Revenue Act of 1917 upon one-half of the net income for the fiscal year ended June 30, 1917, after deducting therefrom the profits tax imposed by the Revenue Act of 1917 instead of upon the 1917 portion of the net income reduced by the profits tax.

Counsel for petitioner in support of this point cites and relies upon the decision of the Circuit Court of Appeals, Third Circuit, in United States v. Semple, 10 Fed. (2d) 1023, affirming the decision of the District Court in Semple v. United States, 7 Fed. (2d) 1023, decided upon that court’s decision in Semple v. Lewellyn, 1 Fed. (2d) 745, in which, it was held that only that portion of the income earned during that portion of the calendar year 1917 falling within the fiscal year was subject to the 4 per cent tax, and insists that the Board should overrule its decision in the Appeal of F. J. Thompson, Inc., 1 B. T. A. 535, and the decisions in the Appeals of Mesa Milling Co., 2 B. T. A. 770; Phoenix Seed & Feed Co., 2 B. T. A. 909; St. Louis Screw Co., 2 B. T. A. 649; Bray & Kates Co., 3 B. T. A. 1316; and Manville Jenckes Co., 4 B. T. A. 765, in which the decision in the Appeal of F. J. Thompson, Inc., was followed.

In the decision of the Board in the Appeal of F. J. Thompson, Inc., supra, the decision of the District Court in Semple v. Lewellyn, supra, was considered and analyzed with the utmost care and a different conclusion from that arrived at by the learned court was not lightly reached. In the Appeal of Mesa Milling Co., supra, in which the Board was asked to overrule its decision in the F. J. Thompson, Inc., appeal, it was said.

We have carefully reconsidered tlie decision in that appeal in the light of the arguments of counsel for the taxpayer. The rule laid down in the Act for the treatment of the excess-profits tax credit seems to us to be clear, and does not call upon us to interpret the congressional intention for the purpose of determining that Congress meant that the credit should be treated or tax computed otherwise than as provided in the Act.

In the present proceeding we have carefully reconsidered our decision on this question in the light of the argument of counsel, and we have carefully studied and considered the decisions of the courts in the cases of United States v. Semple, supra; Curtis & Co. Mfg. Co. v. United States, 62 Ct. Cls. 115; 5 Am. Fed. Tax Rep. 6025, and, also, the per curiam opinion of the Circuit Court of Appeals for the Second Circuit in Bowers v. Carl Schoen Silk Corporation, 16 Fed. (2d) 1014, but notwithstanding our great respect for and deference to the opinions of these courts, we are not persuaded that our conclusion as announced in former decisions is erroneous. The opinion of the Circuit Court of Appeals for the Second Circuit in Bowers v. Carl Schoen Silk Corporation, supra, was as follows:

We see no reason to depart from- the result of decisions already made. See United States v. Semple, 10 Fed. (2d) 1023; Curtis, etc. v. United States, Court of Claims No. 83, October Term, 1926.

There is no indication in any of the cases dealing with this question that the court had before it the Board’s decision in the F. J. Thompson, Inc., appeal, or the reasoning upon which it was based.

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

Phillips concurs in the result only,

Smith,

dissenting: I dissent on the last point. The question presented is whether the excess-profits-tax credit provided for by section 29 of the Revenue Act of 1916, added by section 1211 of the Revenue Act of 1917, should he credited against the net income for the entire fiscal.year ending in 1917 or against only the 1917 portion of the net income in determining the amount of the net income subject to the additional 4 per cent income tax imposed by section 4 of the Revenue Act of 1917. As I see it, the 4 per cent tax was never intended to be imposed upon any part of the net income of a corporation received or accrued prior to January 1, 1917; and it was never intended to be imposed upon the 1917 income until after such income had been credited with the excess-profits tax payable upon the same income. Clearly, if this taxpayer had made its returns on a calendar year basis, the entire excess-profits tax payable for 1917 would have been credited against 1917 income and only the remainder would'have been subjected to the 4 per cent tax. Should this taxpayer be prejudiced by reason of the fact that it made its tax returns on a fiscal year basis ? Section 29 of the Revenue Act of 1916, as amended, does not necessarily require the credit of the excess-profits tax against the net income of the entire fiscal year, and such a method of crediting it is not in harmony with the scheme of the statute. Such a construction of the statute was made by this Board in Appeal of F. J. Thompson, Inc., 1 B. T. A. 535, and followed in other decisions. In such decisions the Board violated a cardinal rule of statutory construction, namely, that doubts with respect to the meaning of language used in taxing statutes should be resolved in favor of the taxpayer. United States v. Wigglesworth, 2 Story, 369; Fed. Cas. No. 16,690; Gould v. Gould, 245 U. S. 151.

Furthermore, the identical question involved in this proceeding was before the courts in the case of Semple v. United States, 7 Fed. (2d) 1023; United States v. Semple, (C. C. A.) 10 Fed. (2d) 1023. The Supreme Court denied certiorari in this case on October 11, 1926. It is also to be noted that the Circuit Court of Appeals, Second Circuit, to which an appeal lies in this case, has decided the point in favor of the taxpayer. Bowers v. Carl Schoen Silk Corporation, 16 Fed. (2d) 1014.