author: Milliken:

text:
    Stafford-Lowdon Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 9088.
    Promulgated August 22, 1927.
    Actual cash value of property paid in for capital stock determined.

      Gharles Kassel, Esq., for the petitioner.

      Shelby S. FaulhTier, Esq., for the respondent.
    This proceeding results from the determination of deficiencies for the years 1920 and 1921 by the respondent, aggregating $11,460.50. Petitioner avers error was committed with reference to but one issue — the value of assets paid in for capital stock on December 10, 1915, was $225,276.39 and not $88,159.03, as allowed by respondent, and the invested capital allowed by respondent for 1920 and 1921 is understated in consequence.
    FINDINGS OF FACT.
    Petitioner is a Texas corporation with its principal ofiice at Fort Worth, Tex., and is engaged in the business of printing and lithographing.
    In March, 1911, a corporation, the Exline-Reimers Co., was organized for the purpose of merging two predecessors; the Exline Co. and the Reimers Co. The Exline Co. owned a lithographing plant and the Reimers Co. a printing plant so that the Exline-Reimers Co. combined the business of lithographing and printing. All work thereafter was performed at Fort Worth, but a store was maintained at Dallas. In connection with the organization of the Exline-Reimers Co. the lithographing presses secured from its predecessors were sold and new machinery acquired. Replacements were also made of other machinery. By 1913 most of the machinery then on hand was new and had been purchased in 1911 or 1912. No secondhand machinery was purchased. In 1913 an appraisal of the assets was made by appraisal engineers, and the machinery, equipment and furniture and fixtures were revalued on the books under date of March 28, 1913, at the appraised values. These values were based upon original cost with adjustment for depreciation, and were less than the previous book values. In a report to the board of directors on March 28, 1913, the president of the Exline-Reimers Co. made the following statements:
    * * * Machinery, two hundred and fourteen thousand five hundred and seventy-seven dollars and five cents ($214,577.05). This represents to us the actual amount at which this machinery is carried and from which depreciation has been charged off from time to time. This machinery, together with the engravings, lithotypes and the like,' could not be developed now for two hundred and seventy-five thousand ($275,000) dollars. The machinery in this plant is practically all new, up to date, and is of the very latest style models and patterns, and there is not in our entire establishment a piece of machinery which is out of date or one which is not actually in use in our plant. Practically every machine in the plant is individually motor driven.
    Furniture and fixtures fifteen thousand nine hundred and sixty-two dollars and twenty cents ($15,962.20). This amount represents the actual cost to us of the furniture and fixtures comprising various and sundry articles and furniture used by us in our general office in our plant and in our two retail stores and is comprised of office equipment, filing cases, cabinets, adding machines, typewriters, plant and retail stores, shelving, lighting fixtures, warehouse and plant working tables, and so forth. This includes six thousand ($6,000) dollars for plant sprinkler equipment which gave us a reduction of practically one hundred percent (100%) in our insurance rates.
    The creditors of the Exline-Reimers Co. met in July, 1915, to consider the financial condition of the company. Thereafter a communication was issued in printed form to the creditors, the material portions of which were as follows:
    It appears that there are first mortgage bonds amounting to $50,000, dated July 1, 1912, but not executed and registered until March 20, 1913, which cover the entire plant. Whether they cover any of the merchandise, raw material and bills and accounts receivable is a matter of dispute. These bonds bear interest at the rate of seven percent, payable semi-annually. Interest to the amount of over $7,000 is in default, and foreclosure proceedings have been begun. These bonds are owned as follows:
    Mrs. M. A. Reimers, mother of O. D. Reimers, $35,000; J. W. Mitchell, a director of the company, $6,000; O. D. Reimers, president of the company, $3,000; M. P. Exline, vice-president of the company, $5,000; John Philip, $1,000.
    It appears that a second mortgage covering the same property as the first mortgage was executed December 8, 1913, and registered February 21, 1914, to secure O. D. Reimers, M. P. Exline and Thad N. Collier against their liability as sureties on indebtedness of the company. It is said that the indebtedness of the company upon which these gentlemen are liable as sureties amounts to approximately $72,000, of which about $50,000 is owing to banks, about $10,000 to Mrs. M. A. Reimers, and about $6,000 each to C. D. Reimers and M. P. Exline. The validity of this second mortgage is a matter of dispute.
    The. balance sheet shows' bills payable for machinery to the amount of $10,503.45. These bills are said to be secured by chattel mortgages given for purchase money, which mortgages doubtless constitute liens upon specific items of property superior to the lien of the first mortgage.
    Taxes are delinquent to the extent of $4,367.87, as shown by the balance sheet.
    In addition there are unsecured accounts and bills payable to the amount of something more than $50,000. The largest unsecured creditor is Graham Paper Company, which has a claim of nearly $21,000.
    The general feeling of the creditors present, based upon the information then at hand, was that the company had a well equipped plant, and was capable of handling a large business at a good profit, but bad not been able for a year or more to obtain business enough to keep its plant advantageously employed, and had been operating at a disproportionately heavy expense. It was evident to the creditors assembled that a forced liquidation would result in a very great shrinkage of assets, and in their being found insufficient to pay any substantial amount to the second mortgage and unsecured creditors. It was thought probable, however, that if preserved and properly managed the business might be made to yield very much better results, and possibly to pay the debts in full.
    The assembled creditors unanimously voted to request the board of directors to appoint a committee which should take charge of the business until October 1, 1915, * * *. It was agreed that the current business should be transacted upon a cash basis * * *. It was agreed that it should be the duty of this committee * * * to report to the creditors by October 1, 1915, its conclusions and recommendations. It was agreed that the bondholders should postpone until after October 1, 1915, all further action in their foreclosure suit and that the creditors represented should abstain from pressing their claims.
    In December, 1915, the Exline-Eeimers Co. became bankrupt and its affairs were placed in the hands of a trustee. Members of the Eeimers family held $35,000 par value of the outstanding bonds, $12,000 or $15,000 par value of the preferred stock, and $50,000 or $60,000 par value of the common stock. The company was indebted to Mrs. M. A. Eeimers, mother of the president, for $10,000, and to the president, C. D. Eeimers, for $5,000. Eeimers and Exline were endorsers of the company’s notes payable held by local banks. The owner of the building leased by the Exline-Eeimers Co. was the father-in-law of the president of the bankrupt company. The company leased the building it occupied on very favorable terms, paying the taxes and insurance and 7% per cent on the investment, at-cost. The lessor notified the creditors’ committee not to sell or remove from the building any part of the plant and equipment. The company was indebted to the lessor for rent and by reason of the default the lessor had the right to terminate the lease. The lessor’s proof of claim, filed on December 9, 1915, in the bankruptcy proceedings of the Exline-Eeimers Co., aggregated $9,524.75, and included November and December rent, $1,054.48, state, county and city taxes on the building, and fire insurance. The lease provided in part:
    Tbe consideration that the lease is to continue twenty years commencing a1 the date of the completion of the improvements, the lessee paying seven and one-half (7%%) per cent on the total value of the lands and improvements, they being twenty-five thousand ($25,000) dollars for the lands and the actual cost of the improvements when ascertained, and also taxes, assessments and charges including those for paving, curbing and sidewalks on any exposure of said improvements made or based against or on the premises during the term of the lease, and fire and tornado insurance premiums; the amount of insurance to be not less than three-fourths (%) of the value of the improvements. And tile provision that if any of the monthly installments of rent or any portion thereof remain unpaid for thirty days after due date, or if the lease he defaulted in payment of any tax assessments or charges for thirty days, or failure to pay insurance premiums promptly, or if the lessee’s interest shall be taken under execution or other legal process, or if the lessee shall become bankrupt, the lessor shall have the right to re-enter and the lease shall become void.
    To remove the assets and set them up in another building would have cost at least $10,000. The building was equipped for the special needs of the Exline-Reimers Co. Prospective bidders other than members of the Reimers family for the plant and equipment of the Exline-Reimers Co. were not assured of a renewal of the lease on the building occupied by the company.
    An endeavor was .made by the trustee to realize on the assets of the bankrupt by advertising for bids. Mrs. M. A. Reimers made a proposition to purchase the assets and it was accepted on December 9, 1915, by order materially as follows:
    In the District Court on the United States for the Northern District op Texas, at Fort Worth.
    In the Matter of No. 860
    The Exline-Reimers Company, In Bankruptcy.
    Bankrupt.
    Considering the application for order of sale filed herein the 22.nd., day of November, 1915 by Trustee for the above named, The Exline-Reimers Company, Bankrupt, J. D. Collett, and it appearing to the Court that due and legal notice has been given all known creditors and parties in interest upon said application for order-of sale;
    And at creditors meeting held in response to said notice and in conformity therewith, at the office of the undersigned Referee in Bankruptcy in Fort Worth, Texas, on the 3rd., day of December, A. D. 1915, the said application for order of sale was submitted to the said meeting of creditors, duly considered and discussed and thereupon Mrs. M. A. Reimers, in open Court and as part of the proceedings of said meeting, made an offer for every and all the assets of the bankrupt, other than cash, being the amount which should fully discharge what is known as the first mortgage bonds, which should pay all expenses and priorities in full and which should pay to all unsecured creditors, twenty-five cents on the dollar, cash, as claims should be, by the Court, filed and allowed, conditioned, however, that the notes and obligations of the bankrupt known and described as those secured by the second mortgage against the assets and properties of the bankrupt, should be waived as claims against the estate and against the bankrupt, and insofar as these proceedings are concerned, should be in all things for naught held, the exact amount of said offer to be fixed and determined by the Court in order to obtain the net result as offered.
    The said offer was submitted to the creditors and after discussion and consideration, it was, by a unanimous vote of creditors present or represented, which included a majority in number and amount of the unsecured creditors of the bankrupt, accepted.
    Thereupon, it was, by the Referee as a part of the proceedings of said creditor's meeting, announced that the offer of Mrs. M. A. Reimers would be accepted and approved by the Court, and that upon the determination of the amount required to make the said offer effective and upon payment thereof to the Trustee, the Trustee, J. D. Collett, would be ordered and directed to deliver to the said Mrs. M. A. Reimers, all and singular the assets of the bankrupt, free of liens.
    Subsequent thereto and upon this, the 9th day of December, 1915, there having been offered and filed in this Court in due form, proofs of claims representing all and singular the first mortgage bonds of the bankrupt, now all in the name of Mrs. M. A. Reimers, and the beneficiaries under, and the owners and holders of all and singular the obligations of the bankrupt, secured by what is known and denominated as the second mortgage, having presented their notes, the same being obligations of the bankrupt, and said notes having been marked filed, and each and .all of the aforementioned owners and holders of said notes and beneficiaries under said second mortgage having filed their respective waivers herein, in substance that they did not and will not assert claim against the bankrupt in this proceeding, and did not and will not assert a lien or charge of any character against the assets of the bankrupt under or by virtue of said second mortgage; and it appearing that with the cash on hand in the possession of the Trustee, it will require a payment to the Trustee of the sum of $13,430.00 to pay off’ and make effective the offer of Mrs. M. A. Reimers, under the sale approved at creditors’ meeting held as aforesaid; and Mrs. M. A. Reimers having now paid to the Trustee, J. D. Collett, the sum of $13,430.00, it is, by the Court, ordered, adjudged and decreed that the sale of all and singular the assets of the bankrupt, as the same existed at the close of business on the 8th day of December, 1915, to Mrs. M. A. Reimers shall be, and the same hereby is, in ail things approved and confirmed, and the property so sold being that described in the Trustee’s application for order of sale, consisting of the plant, machinery, fixtures, equipment, merchandise, accounts, demands, bills receivable, contracts, easements, lease contracts, franchises, and in fact, each, all and every right, privilege, estate and effect heretofore owned by, belonging to, owing or due the above named, The Exline-Reimers Company, the bankrupt, and which shall include accounts and demands created and incident to the operation of the said plant under the receivership first, of W. G. Newby and subsequent thereto to the receivership of J. D. Collett, and the Trusteeship of J. D. Collett, as the same existed at the close of business the 8th day of December, 1915.
    The following balance sheet reflects the books of the company on the date of the sale:

      The Exeine-Rbimers Co.

      Balance Sheet of December 9, 1915.

    The accounts on the books of assets as follows: bankrupt corporation showed

    Summary
    Miscellaneous assets_$193, 826. 07
    Less depreciation_ 7, 000. 00
    186,826. 07
    Engravings- 63,477.48
    250, 303. 55
    On December 10, 1915, a new corporation, the Reimers Co., was formed for the purpose of taking over the assets from Mrs. M. A. Reimers in exchange for its capital stock, and operating the business. Application for a charter was immediately filed and incorporation was completed without delay. The stockholders of the new corporation were the members of the Reimers family who were previously stockholders of the bankrupt company. Purely as a matter of convenience and without reference to the actual cash value of the assets paid in, the capital stock was designated and issued at a total par value of $100,000, which was considered to be the aggregate of the new capital Mrs. Reimers had supplied. Machinery, equipment, furniture and fixtures were set up on the books at a value of $88,159.03. Other assets were set up and also liabilities, and the nominal net worth required the booking of a paid-in surplus amounting to $43,359.08. A balance sheet drawn from the books immediately after opening was as follows:
    The Reimers Company.
    Balance Sheet of December 10, 1915.

    Included in the equipment acquired by the Reimers Co. were at least 1,000 stones used in lithographing, which are called “ engraving stones.” Their surfaces on both flat sides contain a number of engravings acquired over the years of operation and the stones are indexed and filed for ready access in event of the receipt of orders making use of the engravings. The stones are valuable through the saving in cost effected and because of. the probability of repeat orders from the customer. The stones are not subject to physical depreciation and they may be used repeatedly through the substitution of new engravings after grinding off the shallow surface containing the engraving no longer desired. Engraving stones were capitalized on the books of the bankrupt corporation in December, 1915, at $63,477.48.
    The value of the machinery, equipment, furniture, and fixtures paid in for capital stock in 1915 was at least $168,143.66 and the value of the engraving stones was at least $31,738.74.
    The charter of the Reimers Co. was amended in 1919 and the name changed to Staff or d-Lowdon Co.
   OPINION.

Milliken:

The parties are in agreement that tangible property paid in for capital stock in 1915 should be valued for invested capital purposes at its actual cash value when paid in, but they are in disagreement as to the amount of the actual cash value, thus presenting a question purely of fact for determination. The circumstances which lead up to the organization of the petitioner are detailed in the findings of fact. The respondent has held that the actual cash value of the tangible property under consideration was no more than the amount of $88,159.08, at which it was entered in 1915 on petitioner’s books. Respondent attaches significance to the entry, but we are satisfied that no attempt was made to set up the real values. Respondent mainly relies on the bankruptcy -of the Exline-Reimers Co. and the fact that the unsecured creditors accepted 25 cents on the dollar in settlement of their claims, as indicative of the fact that the tangible property did not have an actual cash value in excess of the amount determined by him. The respondent offered no evidence of value other than that afforded by entries on the books of the bankrupt and of the petitioner. The amount of value claimed by the petitioner is the aggregate shown by the books of the bankrupt, $250,308.55, less 10 per cent for depreciation in 1915 — $25,030.16, leaving a value claimed, amounting to $225,273.39. There is a discrepancy of a few cents unaccounted for.

A large amount of evidence was adduced relative to the value of the engraving stones which were purchased from the bankrupt and paid in to the petitioner for capital stock. We are satisfied of the importance of these assets to the going concern and that their value is generally recognized in the industry. It is in evidence that 50 per cent of the stones are of current value and use, and one-half of the total cost of all of the stones is their value, and they are not subject to physical depreciation.

No doubt the financial condition of the Exline-Reimers Co. is evidence of value and lends plausibility to the determination of the respondent, but the testimony of record given by witnesses competent to testify as to the value of the tangible property when acquired by petitioner leads to the conclusion that the machinery and equipment had an actual cash value when acquired of $168,143.66. The engraving stones had an actual cash value of $31,738.74. Cf. Appeal of The Markenheim Co., 1 B. T. A. 1240; Appeal of Pittsburgh Grinding Wheel Co., 2 B. T. A. 712; and Appeal of Plymouth Coal Mining Co., 3 B. T. A. 1023.

In determining earned surplus for invested capital purposes for the years in question the machinery and equipment of the actual cash value of $168,143.66 should be depreciated at the rate of 10 per cent per annum from 1916 to 1920.

Judgment will be entered upon 15 days'1 notice, under Rule 50.

Considered by Marquette, Phillips, and Van Foss an.


source: Caselaw Access Project

license: Public Domain

text:
    Anna Serrien, Executrix, Estate of John Serrien, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 8836.
    Promulgated August 22, 1927.
    Certain gilts made by decedent prior to bis death held not to have been made in contemplation of death and certain other gifts made by decedent prior to his death held to have been made in contemplation of death.

      Harry G. Weeks, Esq., for the petitioner.

      George G. Witter, Esq., for the respondent.
    This proceeding involves the determination by respondent of a deficiency in estate tax of $3,984.02. This deficiency arises from the inclusion by respondent in the gross estate of John Serrien, deceased, of certain gifts made by decedent to his children, and from the determination that certain bank stock was worth more than the value at which it was returned. Petitioner further claims that certain notes included in the gross estate as gifts were never the property of John Serrien.
    FINDINGS OF FACT.
    The petitioner is the regularly appointed, qualified and acting independent executrix of the estate of John Serrien, deceased, who died July 23,1923, at the age of 70 years, a resident of Wichita Falls, Tex. Decedent left surviving him his widow, Anna Serrien, and the following named children who had reached the age set opposite their respective names on the date of the hearing of this cause, March 3,1927:
    Martha Walker-32 Ludwig Serrien_25
    Amanda Reinert_30 William Serrien_23
    Emma Serrien_27 Bertha Serrien-22
    Frieda Serrien-25 Linda Serrien_15

      All the unmarried daughters remained with their father and lived with him at Wichita Falls. The married daughters and the sons were residents of the State of Kansas. The sons Ludwig and William and the daughter Amanda’s husband were farmers.
    The decedent, John Serrien, was, prior to 1918, a farmer and had owned and operated for many years a farm near Iowa Park, near Wichita Falls, Tex., doing his own work and performing the labors usually performed on a farm. About 21 years before his death he had the services of a physician for some minor trouble. With that exception until the occasions hereafter referred to he was not .treated by a physician and was always in hale and hearty health. Pie was a silent, reserved, stoical man, who spoke little about his business and hardly, if ever, referred to his physical condition. He kept his affairs to himself. In 1911 or 1918 oil was discovered on his farm, from which he derived quite a.large income. It became impossible for him to continue his farming in the midst of the oil operations and in 1918 he moved to Wichita Falls, where he resided until his death. In the early part of the summer of 1922, he made a trip to Wisconsin to visit his sister. His daughter Frieda followed him and they returned to Wichita Falls about September 1,1922. Shortly after his return from Wisconsin he began to speak of pains he was suffering in the neighborhood of his stomach, but seemed to pay very little attention to the matter. In the early part of the fall of 1922 he called on Dr. Clark, a physician residing in Iowa Park, who prescribed for him a simple remedy. He of his own volition procured some salve for external application. Shortly after this and in October, 1922, he called on an old friend, J. F. Boyd, vice president of the First National Bank of Iowa Park, Tex. Boyd, observing that decedent did not seem to be feeling well, questioned him relative to his health and was informed that he was suffering at that time from a pain in his stomach. He stated that it was bothering him at the time, but did not bother him all the time. Boyd, noticing an expression of pain on his face, concluded that the decedent should consult a doctor and he advised decedent to get in touch with Dr. O. B. Kiel, of Wichita Falls. Decedent agreed and on October 20, 1922, he called on Dr. Kiel, who first examined him and then referred him to Dr. M. H. Glover for the purpose of having him X-rayed. Dr. Kiel states that at the time decedent called upon him, October 20, he was a man of fair size, weighed about 140 pounds, rather bulky and short, that he looked extremely sick at the time, was sallow, his skin was dry, his face drawn, and as he, the physician, believed, was suffering pain. The X-ray plates developed the fact that the decedent was then suffering from cancer of the stomach. The history of decedent’s case as told by him to Dr. Kiel and as it appears from a copy of Dr. Kiel’s office record which was introduced in evidence, is as follows:
    Until sis months ago patient had always felt well. He had never had any serious illness in his life. Sis months ago patient began to notice an accumulation of gas on his stomach immediately after meals. This has gradually grown worse until for the past sis weeks or two months he has suffered with severe cramping spells, coming on after eating, in pit of stomach and radiating to both sides, high up, of abdomen. He is conscious of a sense of pain, although very slight at times, always. Patient does not become nauseated, and never vomits. He has lost considerable weight. His stomach becomes bloated at times. Temperature 98.G; Pulse 100; Respiration 20.
    The decedent’s weight then was 138 pounds; his best weight was 145 pounds. Dr. Kiel diagnosed the trouble as carcinoma of the stomach, and on October 23, 1922, informed the decedent that he had a malignant growth in his stomach, that he had no chance to get well, that while he might be offered an extension of life for a few months if he underwent an operation or by the application of either X-ray or radium, he could not be cured, and that he might live a few months, or he might live a year. This was the first information decedent received that he was suffering from a cancer or any malignant trouble. His change of condition had been so gradual that neither his wife nor his daughter Frieda, had noticed any change. Up to October 23, 1922, the decedent had pursued the same active course of life and business that he had been accustomed to theretofore. On the advice of Dr. Kiel, he then went to St. Louis to undergo an operation if the surgeons there, upon investigation, thought an operation beneficial. Upon opening up his abdomen it was discovered that he was beyond hope and he was sewed up and immediately returned home, where he lingered until his death.
    All the property of the decedent was held by him and his wife in community. The discovery of oil on his farm materially enhanced his financial condition. At the date of his death respondent valued his gross estate at $373,710.11. This amount included transfers of community property which he had previously made and which respondent included in his gross estate at the value of $75,578. The following table shows all the transfers included by respondent in the gross estate of decedent, the date on which the transfers were made, the property transferred, the value of the property transferred at date of decedent’s death, and the child to whom the transfer was made.

    All the above transfers, except the four notes hereafter referred to, were gifts by the testator to his respective children. One-half the value of each transfer was included by respondent in the decedent’s gross estate.
    In the latter part of the summer or early part of the fall of 1922, decedent’s son William F. Serrien requested his father to buy him a farm. William was then residing in Kansas. Decedent’s brother-in-law, Charles C. Hildebrandt, owned a quarter section in Kansas, which he desired to sell. After negotiations the purchase price was fixed at $12,500, and on October 21, 1922, the decedent drew his check for $12,500 to the order of Charles Hildebrandt and forwarded it to Kansas in order that the trade might be closed. Hildebrandt executed and delivered his deed to William F. Serrien on October 28, 1922. This is the tract of land referred to in the above table under date of October 28, 1922.
    The note of Sophia Gottbert, dated November 1, 1922, payable to Frieda Serrien, the note of W. E. Panser, dated December 4, 1922, payable to Bertha Serrien, the note of Grathe Wollison, dated January 1, 1923, payable to Frieda Serrien, and the note of F. W. Huhl, dated January 5, 1923, payable to Emma Serrien were notes given for money borrowed from Frieda Serrien, Bertha Serrien and Emma Serrien, respectively. The money lent on these notes was the money of the above named children in which the decedent had no interest. The note of P. C. Jensen for $20,000, dated May 25, 1923, in favor of Linda Serrien, was executed in this form at the suggestion of decedent’s wife, in which he concurred. The reason for this gift was that although the decedent had made gifts to all his other' children, he had made none to Linda.
    All the notes which are the subject matter of the gifts by decedent to his children were lien notes, and in each case the note was at his instance made payable to the child to whom the gift was made.
    John Serrien, the decedent, was the owner of shares of stock in the Farmers State Bank of Burkburnett, Tex. He owned 30 shares of stock at date of his death, of the par value of $100 per share. The financial condition of that bank as of July 23, 1923, was as follows:

    The furniture and fixtures which are included in the resources at a valuation of $10,000 were not worth over $2,500. The items included in the resources of $10,995.21, representing interest in depositors’ guaranty fund and $38,957.79, representing assessment in the guaranty fund were at that time seriously impaired. The territory tributary to this bank was in July, 1923, recovering from the results of an oil boom and the loans and discounts of the bank represented paper, some of which was not worth its face value, at which value it was included in the resources of the bank. No dividend had been declared subsequent to January 1, 1922. No stock was sold during the year 1923. The value of the stock was par at date of death of decedent.
   OPINION.

Milliken:

Respondent has included in the gross estate of John Serrien, hereafter referred to as decedent, property which he had prior to his death given to his children, and also certain other property which respondent claims decedent gave to his children but which petitioner claims was their individual property. The total value of the property thus included was $75,578.73. Respondent proceeded under section 402 of the Revenue Act of 1921, which in part reads:

Seo. 402. That the value of the gross estate of the decedent shall be deter*mined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated' — •
* * * # * * *
(c) To the extent of any interest therein of which the decedent has at any time made a transfer, or with respect to which he has at any time created a trust, in contemplation of or intended to take effect in possession or enjoyment at or after his death (whether such transfer or trust is made or created before or after the passage of this Act), except in case of a bona fide sale for a fair consideration in money or money’s worth. Any transfer of a material part of his property in the nature of a final disposition or distribution thereof, made by the decedent within two years prior to his death without such a consideration, shall, unless shown to the contrary, be deemed to have been made in contemplation of death within the meaning of this title.

The question presented is whether decedent made the various gifts to his children “ in contemplation of death ” as those words are used in the statute. There is also involved a further question whether certain of the notes represented money which was the property of decedent. In Spreckels v. State, 30 Cal. App. 363; 158 Pac. 549, the court said with reference to the term in contemplation of death ”:

The language referred to was not intended to include that general expectation of death which is the essential concomitant of the inherent knowledge of Ihe inevitable termination of all life, and which, is in the young and physically robust as well as in the aged and the infirm. No similar statute has been so construed. A reasonable and just view of the law in question is that it is only where the transfer of property by gift is immediately and directly prompted by the expectation of death that the property so transferred becomes amenable to the burden; or, as counsel for the respondent with singular aptness states the proposition:
“ It is only when contemplation of death is the motive without which the conveyance would not be made that a transfer may be subjected to the tax.”

The above excerpt was quoted with approval in Appeal of Spencer Borden, Jr., Executor, 6 B. T. A. 255. See also Appeal of Philip T. Starck, Executor, 3 B. T. A. 514.

The gifts made by decedent fall into three classes — first, those made more than two years prior to his death; second, those made within two years of his death, but prior to October 28, 1922, the date on which he was first informed of the nature of his malady, and the fact that he could not expect to live more than a year; and, third, gifts made after that date.

It is shown by the record of Dr. Kiel that decedent never had a serious illness in his life prior to his then present trouble and that he had felt well until six months prior to examination which took place October 20, 1922. This fixes the date decedent first experienced discomfort at about April 20, 1922. These facts dispose of all the gifts made prior to April 20, 1922. It is clear beyond a doubt that prior to that date decedent was not contemplating death except like all mortals he knew that sooner or later he must pass over the river. No gifts prior to that date were made “ in contemplation of death ” as that term is used in the statute. The only gift made after April 20, 1922, and before decedent was examined by Dr. Kiel was the gift of the farm to his son Ludwig. This gift was consummated on May 29, 1922, or only about one month after decedent first experienced any trouble with his stomach. At first this trouble was an accumulation of gas on the stomach. This grew gradually worse. The matter was considered of such minor importance that decedent did not employ a physician until the early part of the autumn of 1922. Again, we are of opinion that the gift of the farm to Ludwig was not made in contemplation of death and should not be included in decedent’s gross estate.

When we come to the gifts made after October 23, 1922, a more difficult question is presented. At the outset, however, we point out that the note of Sophia Gottbert, dated November 1, 1922, and the note of Grathe Wollison, dated January 1, 1923, represented money loaned by Frieda Serrien; that the note of W. E. Panser, dated December 4, 1922, represented money loaned by Bertha Serrien, and that the note of F. W. Huhl, dated January 5, 1923, represented money loaned by Emma Serrien. These children had accumulated money from payments made as interest and on the principal of their first gifts. These amounts were reinvested in these four notes. These notes were not a part of decedent’s estate.

The land given to William Serrien Aas situated in Lincoln County, Kansas. The grantor, Hildebrandt, lived in that county. Decedent was at the time of the transaction at his home in Wichita Falls, Tex. The deed from Hildebrandt to William Serrien was executed and delivered on October 28, 1922. Decedent executed and forwarded his check for the purchase money on October 21, 1922, or the day after he consulted Dr. Kiel and two days before he became aware of the seriousness of his physical condition. It is shown that William had requested his father to give him a farm just as he had given a farm to his son Ludwig, and that after it had been discovered that Hildebrandt was willing to sell his place there had been chaffering about the price. It thus appears that decedent had reached a determination to give a farm to William before he had seen Dr. Kiel and that the gift was the result of plans laid before he knew he was suffering from a malignant disease. Up to the time he consulted Dr. Kiel he had been leading an active business life. He came and went as he had always done. While he was suffering pain he had no conception that it arose from anything other than a disordered stomach. Although he had at first felt inconvenienced and subsequently suffered pain, his weight on October 20, 1922, was only seven pounds under his best weight. He had bought and applied a salve and consulted a country physician, the first he had consulted in 27 years. He went to Dr. Kiel only after he had been so advised by an old friend who appears to have realized far more than the decedent his need of a thorough examination. Under these circumstances, it can not be held that on October 21, 1922, the date on which the check was sent, decedent thought he was suffering from a malady which would shorten his life. Besides, this purpose had matured prior to that date. The testimony discloses that the first time this man was brought to a realization of his condition was on October 23, 1922. We are of opinion that respondent erred in including in the gross estate of decedent the farm given to William Serrien.

With respect to remaining gifts made after October 23, 1922, petitioner stoutly contends that they were made in continuation of a policy which had been inaugurated long before and that decedent was actuated only by the same motives which impelled him to make the gifts which he had made when he felt himself to be a perfectly well man. Petitioner relies on Spreckels v. State, supra, where it was said “It is only when contemplation of death is the motive without which the conveyance would not be made that a transfer may be subjected to the tax.” It is contended that the same motive was behind both the earlier and later transfers. We can not agree that petitioner has established this contention. The law presumes that these transfers were made in contemplation of death. Petitioner has not overcome this presumption. We do not know what decedent thought or what was his actuating motive. He was a reticent man. Our attention is invited to the fact that decedent’s wife suggested the gift of the $20,000 note to Linda. This gift was made less than two months before his death and when he knew not only that his days were numbered but that the end was very near. Besides, the purpose of the gift was to equalize Linda with the other children and thus was of a testamentary nature. It would require exceptionally strong testimony to establish that a person who knew that his death was only a matter of months made gifts without taking that fact into serious consideration. There is no such testimony in the record. We are of opinion, therefore, that with the exception of the farm which was given to William, respondent did not err in including in the gross estate of decedent all the remaining gifts made after October 23, 1922.

Judgment will 7>e entered after 15 days' notice, under Rule 50.

Considered by MaRquette, Phillips, and Van Fossan.


author: Van Fossan :

text:
    Alice Fisher Foster, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 10126.
    Promulgated August 22, 1927.
    For the purpose of computing gain or loss upon the sale of stock acquired by petitioner as a residuary legatee under a will, said stock held to have been acquired at date of distribution and not at date of death of decedent.

      R. E. Hart, Esq., for the petitioner.

      A. G. Bouchard, Esq., for the respondent.
    This is an appeal from the determination by the Commissioner of a deficiency of $4,201.33 in income tax for the calendar year 1919, resulting from the inclusion in taxable income of an alleged gain derived from the sale of stock acquired by the taxpayer as one of the residuary legatees under the will of her father. The taxpayer assigns four errors, which are resolved into two issues: (1) Did the taxpayer acquire the stock at testator’s death or at the date of distribution by the executors of the estate, and (2) was the exchange by the executors, during administration of the estate, of certain preferred stock in a corporation, which was the stock testator owned at his death, for common stock upon the reorganization of the corporation, which was the stock distributed to and sold by the taxpayer, a taxable transaction to the estate, so that the value of the new stock at the date of the exchange is the basis for determining gain or loss upon the sale of that stock by the taxpayer? The issues raised are alternative, for if the taxpayer prevails upon the first a decision of the second becomes unnecessary. The facts in the case were stipulated.

      FINDINGS OF FACT.
    Petitioner is an individual, a citizen and resident of the United States and of the State of Colorado. She is the daughter of Lucius G. Fisher, deceased, and is one of the four children named in his will.
    Lucius G. Fisher, a citizen and resident of Illinois, died on March 20, 1916, leaving a last will and testament, which was admitted to probate in the Probate Court of Cook County, Illinois, on April 17, 1916. On the same day the executors named therein qualified and letters testamentary were issued to them. So much of the will as is .pertinent to this appeal, reads:
    Eourtb: I give and bequeath all the rest, residue and remainder of my personal estate (with the exception of my shares of stock in the Rio Mimbres Company of New Mexico) to my four children, in equal shares, subject, however, to the trusts hereinafter set forth in regard to the share of my daughter Ethel, and also subject to the proviso that in making division of my personal estate into shares as aforesaid, each of my children shall be charged with any advancement which 1 may have made to them respectively during my lifetime, and that my daughter Alice shall also be charged in such division with the devise to her in the Third Article of this will at the original cost thereof to me.
    The devise mentioned as in the third article is a devise of real estate in Denver, Colo. All of the stock hereafter referred to was disposed of by the residuary clause of the will.
    At the time of his death the testator owned 4,361 shares of the 7 per cent cumulative preferred stock of the Union Bag & Paper Co., a New Jersey corporation. Pursuant to an agreement of consolidation entered into August 22, 1916, between the Union Company and the Riegel Bag & Paper Co., a New Jersey corporation, the two companies were merged and consolidated into a new corporation known as Union Bag & Paper Corporation, effective October 4,1916. Under the plan of consolidation the executors of the estate received 8 shares of new common stock in the Union Corporation in exchange for 11 shares of old preferred stock in the Union Company. As a partial distribution to the residuary legatees, the executors distributed 791 shares of new common stock in the Union Corporation received in exchange for 1,090 shares of preferred stock of Union Company to the petitioner, who received the same on November 20, 1916. The petitioner sold the 791 shares of new common stock during 1919 for $62,601.21, its fair market value on the dates of sale.
    In accordance ivith the consolidation agreement entered into on August 22, 1916, and approved by the two-thirds vote of the outstanding stock of each company, the Union Bag & Paper Co. and the Riegel Bag & Paper Co. were merged, effective October 4, 1916, as the Union Bag & Paper Corporation. Prior to the merger the Union Company owned no interest and no stock in tlie Riegel Company. By the terms of the consolidation the corporate existence of the constituent companies was terminated and all the rights, privileges, powers and franchises, together with all property, real, personal and mixed, tangible or intangible, and choses in action or possession, became vested in and the property of the Union Corporation, and all debts, duties, and obligations of the constituent companies were assumed by, became attached to, and enforceable against the Union Corporation. The property of the Riegel Company, consisting of cash, accounts receivable, merchandise and good will, in excess of its liabilities was worth approximately $100,000, and its indebtedness, consisting of accounts and bills payable, was $73,893.25, which was liquidated after the merger in the ordinary course of business. The capital stock of the Riegel Company consisted of 1,000 shares of the par value of $100 each.
    Prior to the merger the capital stock of the Union Company consisted of $16,000,000 in common stock and $11,000,000 in 7 per cent cumulative preferred stock. The bonded indebtedness consisted of $3,284,000 first mortgage 5 per cent gold bonds and $180,000 in mortgages on properties acquired. The property of the Union Company consisted of mills, factories, water powers, woodlands, good will, stock of the St. Maurice Paper Company, Ltd., and current assets as follows:
    Mills, factories, woodlands, mill sites and power plants_$6, 700, 000. 00
    Stock of St. Maurice Paper Go., Ltd- 3, 750, 000. 00
    Current assets as of January 31. 1916, less current liabilities_ 1, 599, 314.30
    Patents, processes, good will, contracts, etc_ 1,750, 000. 00
    13,799, 314.30
    The net profits for the five fiscal years preceding January 31, 1916, were:
    1912_$617,750
    1913_ 92,464
    1914_ 117, 830
    1915_ 414,284
    1916 (deficit)_ 70,679
    No dividends had been paid on the common stock and the unpaid cumulative dividends on the preferred stock at the close of business January 31, 1916, amounted to 41% per cent. Working capital had been seriously impaired, credit of the company was restricted and properties needed to be rehabilitated. A readjustment of capitalization was necessary.
    The Union Corporation was capitalized at $10,000,000 all in common stock. The stock of the Riegel Company was retired for cash, the stockholders being paid $100 per share, together with an amount equal to 6 per cent thereon from August 18, 1916, and $11,000,000 of the preferred stock of the Union Company was exchanged for the $8,000,000 common stock of the Union Corporation, the stockholders securing 8 shares of new common for 11 shares of old preferred stock. Sixteen million dollars of the common stock of the Union Company was exchanged for the $2,000,000 of the common stock of the Union Corporation, the stockholders receiving 1 share of new common for 8 shares of old common stock. The control of the company thus passed from the holders of the old common stock to the holders of the old preferred stock of the Union Company. The condensed balance sheet of the Union Corporation as of January 31,1917, shows assets and liabilities as follows:
    Assets
    Capital assets:
    Properties, including operating plants, water power, timber rights, and real estate_$9,130, 435.65
    Capital stock of St. Maurice Paper Co., Ltd. (37.500 shares of a total 50,000 shares)_ 3, 750,000. 00
    12,880,435. 65
    Current assets:
    Inventories (at or below cost)—
    Pulpwood in rivers and piles_ $379, 650. 98
    Supplies, stores, fuel, etc_ 319, 360. 92
    Merchandise on hand and in process. 972, 977. 61
    1, 671,989. 51
    Accounts receivable_ 1, 358, 561.19
    Cash on hand and in hanks_ 484, 591. 68
    - 3,515,142.38
    Deferred charges: Prepaid insurance premiums, etc_ 34, 805.28
    16, 430, 383.31
    Liabilities
    Capital stock — 100,000 shares at $100 each_ 10,000,000.00
    Funded debt — bonds outstanding_ 4,256,000.00
    Purchase money obligations_:_ go,000.00
    Current liabilities:
    Accounts payable-$660,199. 59
    Interest accrued on bonds_ 31, 391. 66
    Dividend payable February 15, 1917_ 200, 000. 00
    -- 891, 591.25
    Surplus- !, 232, 792.06
    16,430,383.31

      The net earnings of the corporation for the year from February 1, 1916, to January 81, 1917, amounted to $2,832,277.24, from which various charges were deducted, resulting in the surplus shown in the above statement. The corporation paid a dividend of iy2 per cent on its stock on December 15, 1916, and on January 24, 1917, declared an extra dividend of 2 per cent, payable February 15, 1917.
    The fair market value of 1,090 shares of the old preferred stock of the Union Company at the date of testator’s death was $38,066.87, on October 4, 1916, $63,628.75, and on November 20, 1916, $95,238.75. The fair market value of 791 shares of the new common stock of the Union Corporation was $96,798.62 on November 20, 1916.
    The respondent decided that the cost to the petitioner of the 791 shares of new common stock in the Union Corporation was the value of the 1,090 shares of old preferred stock in the Union Company, which had been exchanged therefor, at the date of testator’s death, $38,066.87, and deducting that value from $62,601.21, the amount received by petitioner upon the- sale of the 791 shares in 1919, determined a profit of $24,534.34 derived from such sale, resulting in the deficiency here involved. The petitioner in her income-tax return for the year 1919 claimed a loss of $34,197.41 sustained upon said sale.
   OPINION.

Van Fossan :

The fundamental question for determination in this appeal is when was the stock acquired by the petitioner. Section 202(a) (2) of the Revenue Act of 1918 provides that the basis for ascertaining the gain derived or loss sustained from the sale or other disposition of property acquired after March 1, 1913, shall be the cost thereof to the taxpayer. In this case the petitioner received the stock as a residuary legatee under a will and the cost to her is the fair market value thereof at the date she acquired it. The value of this stock at each of the various dates material to the present inquiry is set forth in the findings of fact and we need only to decide the date upon which it was acquired by the petitioner.

This question has been heretofore exhaustively considered in a case strikingly parallel to the present appeal. The domicile of the decedents, the capacity in which the taxpayers acquired the property in controversy (residuary legatees), the nature of the property (shares of stock) forming the subject matter of the transaction giving rise to the controversy, and the revenue act involved, are the same in each case. In that case we held that the date on which the taxpayer acquired the stock was the date of its actual distribution to him and not the date of the death of the testator, and that “ any amount representing an increase in the value of the stock between the date of the death of the testator and the date of such distribution should not be included in the income of the taxpayer.” Appeal of F. W. Matthiessen, Jr., 2 B. T. A. 921.

The respondent, in determining the deficiency, held that the petitioner acquired this stock at the date of testator’s death and that the value thereof at that time is the cost upon which to base the determination of gain or loss resulting from the sale thereof. This is the same position urged in the Matthiessen appeal. No argument or authority has been advanced by the respondent in this case in support of his action that was not considered in the Matthiessen appeal, and we see no reason for altering our views expressed therein. Upon the authority of that case we conclude that the respondent erred in determining the deficiency in this appeal.

In view of our conclusions upon the first issue, it is unnecessary to consider the second or alternative issue raised.

The determination of the respondent is disapproved.

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

Considered by Maequette, Milliken, and Phillips.


author: Murdock :

text:
    Harriet A. Langdon, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 9842.
    Promulgated August 22, 1927.
    Under the Revenue Act oí 1921, where the March 1, 1913, value of vacant land is established by expert opinion evidence as in excess of the selling price, no taxable gain results.

      Earl J. Bennett, Esg., for the petitioner.

      J. L. Deveney, Esq., for the respondent.
    This is an appeal from a proposed deficiency in income taxes for (he year 1921, in the sum of $468.42, and the sole issue presented is the amount of gain, if any, resulting from the sale of real estate acquired prior to March 1, 1913.
    FINDINGS OF FACT.
    The petitioner, Harriet A. Langdon, is a resident- of the village of Rockville Center, N. Y., and some time during the year 1894, purchased for the sum of $4,000 a tract of land in Rockville Center, fronting 200 feet on the northerly side of Observer Street and extending in depth 200 feet to a railroad track. On the westerly portion of this tract of land there was erected a building used for the storage of coal, lumber, and wood, and on the rear of the property, facing the railroad a siding had been built. No further improvements were made and in 1921, the petitioner sold for $14,000 a portion of this property, being the easterly 70 feet on Observer Street, of which 50 feet extended 200 feet in depth to the railroad and the remaining 20 feet on the northwesterly side had a depth of 170 feet. No buildings had been erected upon this portion at any time.
    In filing her income-tax return for the year 1921, petitioner set forth that the March 1, 1913, value of the portion so sold amounted to $14,000. The Commissioner upon investigation found the value as of March 1, 1913, to be $7,000 and therefore found the gain realized from the sale to amount to $7,000.
    The March 1, 1913, value of the portion of the petitioner’s property sold in 1921 was in excess of $14,000.
   OPINION.

Murdock :

The only question which we need decide is that of the March 1, 1913, value of property of the petitioner purchased in 1894 for less than the sale price and sold in 1921 for $14,000. The petitioner now contends and introduces testimony to show that that value was an amount substantially in excess of $14,000 and that therefore no gain resulted from the sale.

The testimony furnished at the hearing consisted of the depositions of two experienced real estate men of the village wherein the property was situated, both of whom stated that they were familiar with the petitioner’s property and had given testimony in the year .1909, in certain condemnation proceedings, as to the value of this particular property in 1908. We have no reason to question their honesty and we have some evidence of their ability as judges of value and of their reasons for arriving at the values they gave. It is true that on cross-examination the respondent brought out that values had increased from 1913 to 1921, but we decline to draw from this fact the inferences desired by the respondent. The testimony of these experts must therefore be given at least sufficient weight to overcome the presumption of the correctness of the Commissioner’s unexplained determination.

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

Considered by Sterniiagen and Artjndell.


text:
    Honoro Gibson Pelton, Executrix of the Last Will and Testament of Kate Viola Gibson, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 7402.
    Promulgated August 22, 1927.
    The value of property purchased by decedent through investments of proceeds of sale of securities acquired by decedent as a share in the estate of a prior decedent who died within five years and on whose estate an estate tax was paid, was acquired in exchange within the meaning of section 403 (a) (2) of the Revenue Act of 1921 and such value is not properly to be included in the value of decedent’s gross estate.

      Augustus S. Houghton, Esq., for the petitioner.

      J. F. Greaney, Esq., for the respondent.
    Estate taxes in the amount- of $3,368.19 are in controversy, The facts were stipulated.
    FINDINGS OF FACT.
    The petitioner is a resident of Englewood, N. J., and is the executrix of the last will and testament of Kate Viola Gibson, deceased, who at the time of her death on May 24, 1924, was a resident of Tarrytown, N. Y.
    William H. Gibson died testate on August 27, 1921, leaving all of his property to his wife, Kate Viola Gibson. The estate tax on his estate has been paid. Included in his estate at the value of $361,920 were 27,840 shares of the stock of F. C. Linde Co.
    Of these shares, 10,581 were sold by Kate Viola Gibson on September 27, 1921, to F. C. Linde Co. for $135,640. Part of the consideration was paid by a check of the company in the amount of $45,000.' This check was deposited in the National Bank of Commerce of the City of New York and another check in the amount of $45,000 was forwarded to Arthur B. Gibson, brother of Kate Viola Gibson, through the National Bank of Commerce of the City of New York, for the account of Kate Viola Gibson, which the brother received at Salt Lake City, Utah, on September 29, 1921. Subsequent to the receipt of this $45,000, the brother purchased for, or assigned to Kate Viola Gibson, the following notes, secured by mortgages, amounting to $27,600:
    Note of Joseph Singby Woodring-$4, 000
    Note of J. G. Vincent et al_ 2, 500
    Note of J. G. Vincent et al_ 3, 500

      Note of Glen H. Swain_$15, 600
    Note of J. H. Kemp et ux_ 2,000
    Total_ 27,600
    The Commissioner included these notes in the gross estate of this decedent.
    On September 27, 1921, Kate Viola Gibson sold 17,179 shares of the stock of F. C. Linde Co. which she had received from her husband’s estate to David H. Van Name and E. Franklin Pelton for $225,000. Part of the consideration for this sale was paid by two checks, each payable to the order of Kate Viola Gibson, one dated March 21, 1922, in the sum of $80,000 and one dated September 26, 1922, in the sum of $15,000. On March 21, 1922, Kate Viola Gibson gave the check for $80,000 to her attorneys with instructions for the disposition of it. In accordance with these instructions the attorneys deposited this check in their trust account and on March 29, 1922, forwarded $50,000 through the National Bank of Commerce of the City of New York to Arthur B. Gibson to invest in mortgages. The latter received the $50,000 and purchased for, or assigned to Kate Viola Gibson the following notes, secured by mortgages, which were included in the gross estate of this decedent at the value of $42,500:
    Note of Westminster College_$10, 000
    Note of Logan Knitting Co_^_ 10, 000
    Note of Samuel Bonner et ux_ 4, 000
    Note of J. J. Kramer et al_ 2, 500
    Note of John R. Winter et al_ 16, 000
    Total- 42,500
    On March 28, 1922, the attorneys aforesaid with the remaining $30,000 belonging to Kate Viola Gibson purchased for her the following bonds, which bonds have been included in the gross estate of the decedent at the value of $30,000:
    Partition bonds of 1 West 39tli St. Building, New York City_$15, 000
    Partition bonds of Lewis Morris Apartment Building, New York City_10, 000
    Participation bonds of Fisk Rubber Co. Building, New York City_ 5, 000
    Total- 30,000
    On September 26, 1922, the attorneys for Kate Viola Gibson received from her the check for $15,000 which was deposited in the attorneys’ trust account. The same day the attorneys purchased for Kate Viola Gibson from the proceeds of the check the following bonds in the amount of $14,500, which bonds have been included in the gross estate of the decedent at the value of $14,500:
    Participation bonds of 1060 Park Avenue Apartment Building_$14,500

      The Commissioner has disallowed a deduction on account of the items herein referred to for property taxed within five years in his determination of the Federal estate tax on this estate.
    The petitioner concedes that of the deficiency in tax as determined by the Commissioner, the amount of $94.82 is not in error.
   OPINION.

Murdock :

The respondent defends his action in regard to these items by the argument that under section 403 (a) (2) of the Revenue Act of 1921, the right to the deduction is lost, where there has been more than one exchange and that in the .present case there has been more than one exchange. Both parties concede that the question here is exactly the same as the question previously decided by this Board in the Appeal of Elmer E. Rodenbough, Executor, 1 B. T. A. 477. In the Roderibough case we had an equivalent set of facts and we were there concerned with a similar provision of the Revenue Act of 1918. The same reasoning that was advanced in the Roden-bough case is equally applicable here and we therefore hold that in this case the petitioner is entitled to deduct these items from the gross estate of the decedent.

Judgment will be entered in accordance with the foregoing on notice of 15 days, under Rule 50.

Considered by Sternhagen and Arttndell.


text:
    P. H. Gill & Sons Forge & Machine Works, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6260.
    Promulgated August 22, 1927.
    Facts insufficient to show error on the part of the Commissioner.

      Nathan Agar, Q. P. A., for the petitioner.

      Jos. K. Moyer, Esq., for the respondent.
    The controversy is about a proposed increase in the petitioner’s income and excess-profits taxes for the year 1920 in the amount of $1,030.76. The deficiency arose through the adjustment of depreciation. The petitioner admits that this adjustment was proper, but alleges that a loss of $34,932.41 was sustained in 1920 .and was not claimed as a deduction on its return and has not been considered by the Commissioner.

      FINDINGS OF FACT.
    The petitioner is a New York corporation with its principal office at Brooklyn.
    In 1920, it made repairs to some vessels of the States Steamship Co. for which it charged on its books $34,932.41 as an account receivable. This amount was reported as part of its income for 1920. After the repairs had been made, but later in the same year, the States Steamship Co. became a bankrupt and the U. S. Shipping Board took the vessels.
    The petitioner filed no claim in the bankruptcy proceedings, but as in other similar cases relied upon its maritime rights and tendered its bill to the U. S. Shipping Board which had the boats. The Shipping Board received the bills and audited them, but in 1921 denied that the petitioner had a right to libel the boats. The petitioner then instituted proceedings in a maritime court of the New York district to enforce its rights and to recover the amount due. In about a year this court rendered a decision against the petitioner. An appeal was then taken to a higher court and in 1925 another decision adverse to the petitioner was handed down.
    The books of the petitioner were kept by an accrual method. This repair account was not charged off in 1920 because of the supposed right of libel then still considered complete protection for the entire amount of the account. In 1925 the account was written off as of December 31,1920, because of the adverse decision of the court.
   OPINION.

Murdock :

Without knowing more facts we must affirm the respondent. The fact that the States Steamship Co. went into bankruptcy in 1920 is not sufficient to establish either that the petitioner had a loss in 1920 or that its debt was worthless in that year. That the petitioner later tried to enforce payment through a court proceeding is likewise insufficient to prove the right to the deduction claimed. We have not been informed as to what the court decided or as to why it so decided. Did it decide that for some reason the petitioner was not entitled to payment for the work, or did it decide that its pleadings were improper or that it had elected the wrong remedy? Could the petitioner have recovered in the bankruptcy proceedings? Did it have any other remedy?

There are too many possibilities left open under the proof which might change the result from a tax standpoint for us to hazard a guess or draw the inferences necessary to put the question of the deductibility of this amount squarely before us.

Judgment will he entered for the respondent.

Considered by Stern hagen and Aeundell.


author: Smith :

text:
    Murphy Transfer & Storage Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 11554.
    Promulgated August 23, 1927.
    1. Architect's fees lor drawing building plans which were completed in 1321, and discarded in that year are deductible from gross income of 1921 where books of account are kept upon the accrual basis, even though the plans were not actually paid for in full until 1922.
    2. An amount reimbursed to the president and principal stockholder for miscellaneous business expenses paid by him in connection with the work of the corporation held to be a legal deduction from gross income.

      Gustmus Loemnger, Esq., and Maurice W. Stoffer, Esq., for the petitioner.

      J. Ha/rry Byrne, Esq., for the respondent.
    This is a proceeding for the redetermination of a deficiency in income and profits tax for 1921, the amount in controversy being-less than $10,000. The errors alleged in the petition are that the respondent erroneously added to the petitioner’s net income for 1921 architect’s fees in the amount of $68T.22, and business expenses in the amount of $1,000.
    FINDINGS OF FACT.
    The petitioner is a Minnesota corporation, which is engaged in a general transfer and storage business. They are principally in the cities of Minneapolis and St. Paul.
    In 1921 the petitioner contemplated the erection of a two-story garage. It employed an architect to draw plans and prepare specifications. The architect’s estimate was that the cost of erection would not be in excess of $45,000 or $50,000. After the plans and specifications had been submitted to various contractors during the year 1921, the lowest bid received was around $62,000 or $63,000 and the petitioner then decided not to erect the building. The plans were discarded. When the architect submitted his plans he sent a bill for part payment of $1,152.78. Prior to the close of 1921, and after the petitioner had decided not to build the garage, it sent a check for $1,100 to the architect in the belief that this would be satisfactory to him. Edward L. Murphy, president of the petitioner corporation, then went to California for the winter. While there he was informed by his son-in-law that the architect was dissatisfied with the fee and claimed that an amount was still owing him. Murphy advised his son-in-law to inform the architect that he would settle with the architect upon his return from California in March. In March the petitioner paid the architect $687.22 in addition to the amount already paid which was the full amount claimed by the architect. The petitioner kept its books of account upon the accrual basis and since the accounts for 1921 had been closed by March of 1922, the payment of the $687.22 was charged to surplus in order not to affect the earnings ©f the year 1922. In its income-tax return for 1921 the petitioner claimed the deduction of $687.22 in question which has been disallowed by the respondent.
    Edward L. Murphy was and is president and principal stockholder of the petitioner corporation. As such officer he spent during the year 1921 large amounts of money for the corporation, of which he kept no account. The president often had to go out into the country with the corporation’s automobiles. On such trips he bought gasoline and paid for same out of his own pocket. Often on such trips he would have parties of customers or business people with him whom he had to entertain and the amounts spent for such entertainment were paid by him personally. He frequently also took his business associates to theatres and other places of entertainment. All of these expenditures were for the corporation and not merely social affairs of particular interest to Murphy himself. The amounts spent averaged something like $6 or $7 a day during the year 1921. In December, 1921, the corporation reimbursed Murphy to the extent of $1,000 for the business expenses which had been paid by him and charged the same to general expense and in its income-tax return for 1921 claimed the amount as a deduction from gross income. This was disallowed by the respondent for lack of evidence that it was a business expense.
   OPINION.

Smith :

The petitioner kept its books of account upon the accrual basis. In 1921 it employed an architect to draw plans and prepare specifications for a garage building which during the year 1921 it definitely abandoned the idea of building on account of the cost thereof upon the plans prepared. The cost of the plans is a legal deduction from gross income in income-tax returns in a case of this sort. Appeal of C. U. Connellee, 4 B. T. A. 359; Continental Trust Co. v. Commissioner, 7 B. T. A. 539. Although the respondent admits that the amount paid to the architect in 1921 is a legal deduction from the gross income of 1921, he contends that the additional amount paid in 1922 is not a deduction from gross income because it represents a compromise settlement of the architect’s claim and that there was no accrual of the liability until the year 1922. The evidence clearly shows that the liability existed in 1921. There was no compromise of the liability. The petitioner paid the architect the full amount of the fee claimed by him. Since the petitioner kept its books of account and made its returns upon the accrual basis the amount paid in 1922 is a legal deduction from the gross income of 1921.

The evidence clearly shows that the president of the corporation in 1921 incurred business expenses for the corporation for which he was reimbursed to the extent of $1,000 by the corporation. The $1,000 reimbursed constituted an ordinary and necessary expense of the corporation and was a legal deduction from gross income of 1921.

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

Considered by Littleton.


author: Smith:

text:
    Herbst Department Store, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6642.
    Promulgated August 23, 1927.
    The disallowance of a portion of the salaries paid to the officers of the petitioner corporation for the fiscal years ended June 30, 1920, and June 30, 1921, affirmed.

      W. F. Burnett, Esq., and E. T. Gonnvy, Esq., for the petitioner.

      James A. O^Oallaghan, Esq., for the respondent.
    This is a proceeding for the redetermination of deficiencies in income and profits tax for the fiscal years ended June 30, 1920, and June 30,1921, in the amounts of $9,237.34 and $3',516.44, respectively. The petitioner also appeals from a disallowance of $20,400 of the salaries paid to its officers for the fiscal year ended June 30, 1922, but inasmuch as the disallowance only served to reduce the net loss for that year the Board has no jurisdiction to determine the correctness of the disallowance. (Section 274(g) of the Revenue Act of 1926.) The only question in issue is the correctness of the disallowance of the deduction from gross income of $20,125 of the salaries paid to the officers of the corporation for the year ended June 30, 1920, and $20,400 of those paid for the fiscal year ended June 30, 1921.
    findings of fact.
    The petitioner is a North Dakota corporation, the capital stock of which was $60,000 up to 1923. It owns and operates a department store at Fargo, N. Dak. The business was founded by Isaac Herbst, who died in 1910. His widow, Emma K. Herbst, thereupon became president of the corporation and conducted the business for a number of years. During the taxable years ended June 30, 1920, and June 30, 1921, the stock of the corporation was owned equally by Emma K. Herbst, and her two sons, J. Crone Herbst and Robert Herbst. J. Crone Herbst was 25 years old in 1919, and Robert Herbst was IT.
    The business of the corporation expanded under the management of Emma K. Herbst. Sales for the years 1911 to 1916 showed an increase each year from $22T,361.30 in 1911, to $366,457.11 in 1916. There was then a change in the fiscal year. The sales from January 15 to June 17, 1917, amounted to $147,375.22. For the fiscal years ended June 30, 1918, and June 30, 1919, the sales were, respectively, $406,545.52 and $549,796.05. The results of operations for the fiscal years ended June 30, 1920, June 30, 1921, and June 30, 1922, were as follows:

    Emma K. Herbst was a woman of marked business ability and of pleasing personality. For a number of years succeeding 1910, the entire management of the store was in her hands. J. Crone Herbst, her eldest son, was a youth 16 years of age in 1910. He was taken into the store in his early youth and learned the business thoroughly. Fie was made president of the corporation on February 5, 1917. Flis salary and that of his mother immediately prior to January 3, 1919, was $8,000 per annum. On January 3, 1919, the salary of each was increased to $12,000 and on June 15, 1920, the salary of the former was increased to $25,000, and that of Emma K. Herbst to $22,000. This increase was made because in the opinion of the stockholders “ the business warranted it.” At the same time a salary of $6,000 per year was made payable to Robert Herbst, who was, at the time, 16 years of age and regularly attended school. He continued in school during the taxable years and worked only a part of his vacations in the store.
    The salary of J. Crone Flerbst was reduced from $25,000 to $21,000 per year on October 20, 1922, and that of his mother from $22,000 to $18,000. No reduction was made in Robert Herbst’s salary. Emma K. Herbst died in 1923, and J. Crone Herbst’s salary was reduced during that year from $18,000 to $15,000 per year. These reductions were made because the stockholders were of the opinion that the business did not warrant the continued payment of the amounts paid in 1921 and 1922.
    The corporation had about 100 employees during the taxable year, and an additional number were taken on during certain periods of the year. J. Crone Herbst, as president of the corporation, attended to a large part of the buying and to the advertising and display of merchandise. His mother, during the same period, assisted with the huying and established a benefit society for the aid of the employees. A large part of every day was spent by the mother in the store. Both the mother and son devoted their entire energies to the business and had no other business interests. During the taxable years they spent long hours in the store and worked evenings, upon plans for its enlargement.
    The petitioner in its income-tax returns for the fiscal years ended June 30, 1920, and June 30, 1921, deducted from gross income for officers’ salaries $55,125 for the earlier year and $55,400 for the latter. The respondent disallowed the deduction of $20,125 from the gross income of the former year and $20,400 from the gross income of the latter year and the deficiencies resulted principally from such disallowances.
   OPINION.

Smith:

Section 234(a) (1) of the Revenue Acts of 1918 and 1921 permit's a corporation to deduct from gross income “All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for salaries or other compensation for personal services actually rendered * * The amounts claimed as.deductions on the petitioner’s returns for the tax years involved were $6,000 in excess of the amount shown on the petitioner’s books as salaries paid to officers. Presumably, this represented the $6,000 paid to Robert Herbst, the youngest son of Emma K. Herbst. The petitioner concedes that the salary of $6,000 a year paid to Robert Herbst is excessive but claims that the services were reasonably worth $1,500 to $1,800 a year. The respondent has disallowed the deduction of $20,125 paid as salaries for the fiscal year ended June 30, 1920, and $20,400 of those paid for the fiscal year ended June 30, 1921. The payment of these salaries took most of the profits of the business. The evidence indicates that the surplus actually decreased from $207,378.69 at June 30, 1920, to $175,679.99. This means that although there was an investment of more than $250,000 in the business there was practically no return left on such investment after the payment of the salaries. In other words, the profits of the business were taken as salaries. In response to a question as to why the salaries of J. Crone Herbst and Emma K. Herbst were increased in 1920, the former testified “ he felt that the business warranted it.” In response to a question as to why they were reduced in 1922, he stated “ because we did not feel that the business would warrant it.” Although the amount paid to Robert Herbst in the taxable years was claimed as a deduction from gross income, the petitioner admits that the amount claimed is excessive and it was testified that the amount was paid to Robert in order that he might become interested in the business.

The evidence shows that the amounts paid to the stockholder officers in excess of the amounts allowed as deductions from gross income by the respondent were not reasonable allowances for salaries or other compensation for personal services rendered. Upon the record the disallowances are affirmed.

Judgment will be entered for the respondent.

Considered by Littleton.


text:
    H. E. Newton, Petitioner, v. Commissioner of Internal Revenue, Respondent. W. H. Newton, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 9626, 9627.
    Promulgated August 23, 1927.

      1. In determining a net loss under section 204(a) of the Revenue Act of 1921 an individual may not deduct from gross income a loss upon an investment in shares of stock in a corporation.
    2. Bach of the petitioners in 1921 loaned $13,908.84 to the Forsyth Trading Co., taking its demand note therefor. In 1922 each received $3,300 on his note. In the same year it was apparent that practically nothing would be received upon final liquidation of the corporation which was completed in 1924. The additional amounts received by each in 1923 and 1924 totaled $1,626.24. Helé, that the loss sustained by each in 1922 on said notes was $8,982.60.

      James L. Fort, Esq., for the petitioners.

      J. L. Deveney, Esq., for the respondent.
    These proceedings were consolidated for the purpose of hearing and decision. The appeal of H. E. Newton is from the determination of a deficiency of $106.72, and that of W. H. Newton from the determination of a deficiency of $105.33, both income tax for 1922. The pleadings in each appeal set up identical assignments of error as follows:

      1. Because from the income of taxpayer for the year 1922, in the approximate amount of $9,724.05, is not deducted the net loss sustained for the calendar year 1921 in the approximate sum of $14,496.48. In the loss for the year 1921 is included a loss on the sale of stock in the amount of $30,587.83.
    2. Because the income for the year 1922 has not been reduced by a loss totaling $10,608.84, evidenced by loss on worthless notes sustained during the year 1922.
    FINDINGS OF FACT.
    The petitioners are brothers. In 1920 each purchased 500 shares of stock of the Quitman Cotton Mills, a corporation having an outstanding capitalization of 3,000 shares. The cost of such stock purchased to each petitioner ivas $37,500. The Quitman Cotton Mills was liquidated in 1921 and each of the petitioners sustained a loss of $30,587.83 on his investment in the stock of the corporation and the amounts of the losses sustained were allowed as deductions from gross income in the petitioners’ respective individual returns for 1921. The petitioners were also interested as stockholders and directors of the Quitman Cotton Mills during 1921 and directed and supervised purchases and sales incident to the operation of the corporation. The petitioners, together with their father, also owned and operated a cotton mill known as the Trio Manufacturing Co., at Forsyth, Ga., during the years 1921 and 1922.
    In the returns of the petitioners for the year 1922 deductions were claimed for net losses sustained by them in 1921, which deductions were disallowed by the Commissioner.
    In 1921 the petitioners loaned the Forsyth Trading Co., a corporation engaged in the farmers’ supply and automobile business at Forsyth, Ga., $27,817.68, each of the petitioners receiving a demand note therefor in the amount of $13,908.84. Each of the petitioners was a stockholder of this corporation, owning $2,800 of the capital stock. Payments were made on the notes in 1921 and 1922, the total amount received on each note being $3,300.
    The Forsyth Trading Co. did a large credit business. In 1921 the price of cotton declined from 45 cents per pound to 20 cents per pound and the farmers and debtors of the Forsyth Trading Co. were unable to meet their obligations. The price t>f cotton declined still further in 1922 and the notes of the farmers held by the Forsyth Trading Co. became temporarily, at least, worthless. The Forsyth Trading Co. became insolvent and it was decided to liquidate the corporation. The petitioners, being the largest creditors, took charge of the assets of the company for the purpose of liquidating them. This was in the late spring or summer of 1922. By the end of 1922 it became apparent to the petitioners that they, with the other creditors, would receive very little from the corporation in satisfaction of their indebtedness. Accordingly, in their returns for 1922 each claimed the deduction from gross income of the balance of his claim against the Forsyth Trading Company, amounting in each case to $10,608.84.
    Each of the petitioners received additional amounts totaling $1,626.24 from the Forsyth Trading Co. in 1923 and 1924. The liquidation was completed in 1924. Neither petitioner kept individual books of account.
   OPINION.

Smith :

In Appeal of J. J. Harrington, 1 B. T. A. 11, we held that losses upon investments in shares of stock by an individual are not legal deductions from gross income in determining the net loss under section 204 of the Revenue Act of 1921. A like ruling was made by the Board in Fridolin Pabst v. Commissioner, 6 B. T. A. 843. See also Harry J. Gutman v. Commissioner, 7 B. T. A. 500. We see nothing in the cases at bar which would differentiate them from the above.

Section 214(a) (5) of the Revenue Act of 1921 permits an individual to deduct from gross income in annual tax returns :

Losses sustained during the taxable year and not compensated for by insurance or otherwise, if incurred in any transaction entered into for profit, though not connected with the trade or business ; * * *

Subdivision (6) of the same section provides:

* * * Losses allowed under paragraphs (4), (5), and (6) of this subdivision shall be deducted as of the taxable year in which sustained unless, in order to clearly reflect the income, the loss should, in the opinion of the Commissioner, be accounted for as of a different period. * * *

Subdivision (7) of the same section permits the deduction of:

Debts ascertained to be worthless and charged off within the taxable year (or, in the discretion of the Commissioner, a reasonable addition to a reserve for bad debts) ; and when satisfied that a debt is recoverable only in part, the Commissioner may allow such debt to be charged off in part.

It was manifestly the intention of Congress to permit an individual making income-tax returns under the Revenue Act of 1921 to deduct from gross income the losses sustained in the return year and also to permit him.to deduct debts ascertained to be worthless during the year, provided, of course, the amount was charged off during the year. Since the petitioners kept no books of account the requirement that the bad debts be charged off before they can be claimed as a deduction does not apply to them. The loss actually sustained by each petitioner in 1922 as a result of his loan to the Forsyth Trading Co. was $8,982.60. In addition to this loss each of the petitioners sustained a loss of $2,800 as a result of his investment in the stock of the Forsyth Trading Co. This amount is also a legal deduction from gross income in 1922.

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

Considered by Littleton.


text:
    Leon Oppenheimer, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 9977.
    Promulgated August 23, 1927.

      Leon Oppenheimer pro se.

      Bruce A. Low, Esq., for the respondent.
   Smith:

This is a proceeding for the redetermination of a deficiency in income tax for the year 1923 in the amount of $114.11. The petitioner protests the disallowance by the respondent of $2,800 claimed as a deduction from his gross income on account of traveling expenses.

The petitioner is a traveling salesman for the Oppenheimer Co., manufacturers of jewelry, Baltimore, Md. His home during 1923 was in Baltimore. During that year he made four trips to North and South Carolina, visiting most of the important cities and towns in those States. He was compensated on a strictly commission basis. He kept no record of his traveling expenses but was allowed an advance by his employer of $250 per month to cover such expenses. The amounts advanced during the year 1923 totalled $2,770.

The petitioner always traveled with excess baggage. At the hotels he was required to pay extra for sample rooms. He always stopped at good hotels and always ate all of his meals at hotels. He kept no books of account showing his actual traveling expenses. The average was, however, in excess of $100 per week. The deductible traveling expenses for the year 1923 amounted to $2,800.

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

Considered by Littleton.


text:
    Sheakley & Kennedy Brothers, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6282.
    Promulgated August 23, 1927.

      John O. Loefjder, Esq., for the petitioner.

      James A. O’Gdllaghan, Esq., for the respondent.
   Smith:

This is a proceeding for the redetermination of a deficiency in income and profits tax for the years 1918 and 1919 in the respective amounts of $53.54 and $189.33. All issues raised by the petitioner were waived at the hearing except that as to the March 1, 1913, value of a certain building for the purpose of computing depreciation for the taxable years.

FINDINGS OF FACT.

The petitioner is an Iowa corporation with its place of business at New Hampton. It was incorporated in 1908 and acquired a building which was theretofore owned by a partnership and used as a department store building. This building was erected in 1901 at a cost of approximately $25,000. The building was owned by the petitioner in 1918 and 1919. It is a two story building of brick construction 78 feet by 125 feet, with three brick partition walls running the entire length of the building. •

The useful life of the building at March 1, 1913, was 40 years. The fair market value of the building at March 1, 1913, was $32,000. The allowance for dépreciation for 1918 and 1919 should be recomputed accordingly.

Judgment wül be entered on 15 days’ notice, unde)1 Rule 50.

Considered by Littleton.


author: Arundell :

text:
    J. S. Carroll Mercantile Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 4222, 11744.
    Promulgated August 25, 1927.
    1. Upon organization petitioner issued to stockholders notes for excess of value of assets paid in over par value of stock. In 1913 the notes were canceled and the excess value of assets over par value of stock allowed to remain in the business. Held,, that such excess may be included in invested capital.
    2. On the evidence, held, petitioner may not include in invested capital the earnings credited to stockholders’ accounts.

      ~W. H. Albritton, Esq., and M. F. Gronin, Esq., for the petitioner.

      J. W. Fisher, Esq., for the respondent.
    Deficiencies in income and profits taxes have been determined by the Commissioner as follows:
    Fiscal year ended July 31, 1918_$13, 762. 60
    Fis. al year ended July 31, 1919_ 11, 069. 66
    Fiscal year ended July 31, 1920_ 11, 797.68
    36, 629. 94

      Petitioner alleges that the Commissioner erred in excluding from invested capital amounts originally paid in by the stockholders in excess of the capital stock, together with subsequent earnings, and in the determination of petitioner’s tax liability under sections 327 and 328 of the Revenue Act of 1918.
    BINDINGS 03? PACT.
    In August, 1912, J. S. Carroll died, leaving a will in which he named as his beneficiaries his wife, Almira Carroll, his half-brother, Dock Jones, and his half-sister, Tinie Bowers. Among the assets was the mercantile business of J. S. Carroll & Co., which prior to Carroll’s death had been conducted as a sole proprietorship.
    This business passed to the three beneficiaries in the following proportions: One-half to his wife, one-fourth each to his brother and sister.
    Under date of August 27, 1912, the beneficiaries organized a corporation under the laws of the State of Alabama, known as the J. S. Carroll Mercantile Co., for the purpose of continuing the business and conveyed thereto all the assets and property coming into their hands as heirs and legatees of the late J. S. Carroll with the exception of certain stocks in other corporations belonging to them under the terms of the will. The property so conveyed was to pay first for the $50,000 authorized capital stock of the corporation and the stockholders were to have credit for the balance of the value of the assets transferred. Two hundred fifty shares of the capital stock were issued to Mrs. Carroll and 125 shares each to Mrs. Bowers and Dock Jones. The total value of the assets transferred to the corporation was $246,692.90, of which amount $50,000 was applied in payment of the capital stock, leaving a balance of $196,692.90, one-half of which amount was credited to Mrs. Carroll and one-fourth each to Mrs. Bowers and Dock Jones. Jiotes were given by the corporation, due one year hence, covering the value of the property transferred in excess of the capital stock, each stockholder receiving a note of the corporation covering his proportionate amount.
    At the time the corporation was organized the stockholders were not experienced in the mercantile business and it was agreed that the business should be conducted rather as an experiment for twelve months in order to determine whether it could be successfully operated on the same scale as had marked the operations of J. S. Carroll, or whether the parties should operate on a more restricted basis. It was for this reason that the capitalization was limited and the amounts paid in in excess of that limited capitalization were treated as loans. It was agreed between the parties that should the result of the experiment prove successful, the notes should be canceled and the property theretofore paid in should be permanently invested in the corporation. The notes bore no interest and none was ever paid to the stockholders for the money so advanced. The first year’s operations were successful. It was then determined that the notes theretofore issued by the corporation should be surrendered and canceled and that all of the assets and property theretofore transferred to the corporation should be taken over by it as a part of its assets. This was done on or about August 1, 1913.
    At the time of the organization of the corporation there were set up on its books three accounts, one for each of the stockholders, and each account was designated as a “ loan account.” To each of these accounts was credited the proportionate amount which represented the excess of the value of the property transferred to the corporation over the amount applied in payment of the respective shares of stock purchased. These accounts continued on the books and each year there would be credited thereon the profits of the business, and any withdrawals made by the stockholders were likewise charged. The amounts of the profits so credited were treated by the individual stockholders as income to them and were reported in their income-tax returns.
    There was an understanding between the stockholders that they might each withdraw without restriction amounts necessary for their ordinary living expenses, but no greater amounts were to be withdrawn without express authority theretofore granted. It was understood, however, that the withdrawals were not to be in an amount great enough to reduce the original amount paid in to the corporation and this amount so paid in on August 1, 1913, was never reduced, the withdrawals never exceeding the amount of the profits or subsequent deposits made by the stockholders to the corporation and credited to their respective accounts. No interest was ever paid or agreed to be paid on any of the amounts credited to the respective stockholders.
    In order to conduct the business, it was necessary for the corporation to borrow large sums of money and during the respective years set out below they did borrow from outside sources the following amounts:
    Tear: Amount Tear: Amount
    1913. $250, 000 1917. $110, 000
    1914. 140, 000 1918. 100, 000
    1915. 142, 000 1919. 110, 000
    1916. 225, 000 1920. 145, 000
   OPINION.

Arundell :

No proof was proffered in support of the allegation that the Commissioner used improper comparatives in determining petitioner’s tax liability under sections 327 and 328. On this issue the Commissioner must therefore be affirmed.

Section 326 of the Revenue Act of 1918, specifically provides that invested capital does not include borrowed capital. Our problem then is to determine whether the $196,692.90 represented a loan to the corporation or a capital contribution at the time the notes theretofore given were canceled, on or about August 1, 1913. The only witness called states that on that date the obligation to pay the stockholders this sum for the property theretofore transferred to the corporation ceased and it was then agreed that this amount should be risked in the business as a part of the corporation’s capital. The fact that the so-called “ loan accounts ” were not closed out on the books we do not regard as conclusive for tax liability is not to be determined solely as a matter of bookkeeping. Baldwin Locomotive Works v. McCoach, 221 Fed. 59. Profits for each year were credited to these accounts and deposits were likewise entered, but it is interesting to note that the withdrawals never exceeded these amounts and never encroached on the original sums paid in in 1913, a fact that corroborates the testimony of the witness Bowers that this amount was not subject to withdrawal but was an amount invested in the business permanently. We are satisfied from the evidence that this is a fact, and consequently it should be included in petitioner’s invested capital. The evidence is lacking, however, which would warrant the inclusion in invested capital of the earnings and subsequent deposits credited to the individual accounts. These amounts were freely withdrawn from time to time, more or less at the will of the stockholders, and have all the earmarks of sums left with the petitioner solely as a matter of convenience and in no sense invested in the business.

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

Considered by Milliken and Murdock.


text:
    M. L. Elken, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 4645.
    Promulgated August 25, 1927.
    Sale of land held to be a sale on the installment basis.

      Henry Leum, Esq., for the petitioner.

      James A. O’dallaghan, Esq., for the respondent.
    This is a proceeding for the redetermination of a deficiency in income tax for the year 1920 in an amount less than $10,000. The question in issue is the amount of profit realized by the petitioner in 1920 from the sale of a parcel of real estate under the facts below stated.
    FINDINGS OP PACT.
    On December 10, 1919, the petitioner sold to one Ole Ferguson through a land broker certain farm lands for the sum of $88,400 and on that date the land broker received a payment of $2,000; on March 1,1920, the balance of the first payment was made, $8,000; on March 1, 1922, payment was to be made of $10,000; on March 1, 1923, payment was to be made of $2,900; on March 1, 1924, payment was to be made of $3,000; and the balance of $12,500 was to have been paid in annual payments of $2,500.
    The total consideration was to have been $38,400, of which the land broker withheld as commission $2,680, leaving the net consideration of sale $35,720. The cash payment received by the petitioner from the land broker was $10,000, less the land broker’s commission of $2,680, or $7,320, which was less than 25 per cent of the net consideration of the sale price to be realized by the petitioner.
    The petitioner was to furnish a good and sufficient warranty deed to the purchaser as soon as $20,000 had been paid under the contract.
   OPINION.

Smith:

The respondent determined the deficiency in this case upon the theory that the sale took place on March 1, 1920, and that there was a down payment of $10,000 which was in excess of 25 per cent of the selling price. At the hearing it was stipulated by the parties that the sale took place on December 10, 1919, and that the first payment was only $2,000, and that the tax for 1920 should be recomputed on the theory that the sale was on the installment or deferred-payment plan.

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

Considered by Littleton.