author: Maequette:

text:
    Appeal of THORNTON CLANEY LUMBER CO. (now BISHOP LUMBER CO.).
    Docket No. 4665.
    Decided July 27, 1926.

      Held, tliat the stockholders of a corporation are not the owners of the corporate property, and that the sale by the stockholders of their stock does not in any way affect or change the corporation’s invested capital.

      James B. Westcott, Esq., for the petitioner.

      M, N, Fisher, Esq., for the Commissioner.

      Before Mahqitette and GeeeN.
    This appeal is from the determination of deficiencies in income and profits taxes for the years 1917 and 1918, in the total amount of $48,943.87. The deficiencies arise from the exclusion by the Commissioner from the taxpayer’s invested capital for the years named of the amount of $211,073.24, representing appreciation of assets and restored depreciation.
    FINDINGS OF FACT.
    The taxpayer is an Illinois corporation with its principal office and place of business at Chicago, Ill. It was organized in May, 1906, under the name of Thornton Claney Lumber Co., with a capital stock of $200,000, divided into 2,000 shares of common stock of the par value of $100 each. The name of the corporation was changed to “ Bishop Lumber Company ” in the year 1925.
    In December, 1906, the capital stock of the corporation was increased to $300,000, and there were issued an additional 1,000 shares of common stock. Upon the issuance of this additional stock, the stockholders of the corporation and the number of shares of stock held by each stockholder were as follows:
    Shares.
    S. H. Fullerton_1, 524
    C. M. Smalley_ 1
    IS. L. Thornton_ 500
    A. B. Claney_ 207
    Shares.
    Wm. Claney and Sons_„ 225
    John Claney_ 483
    Total_3,000
    The one share standing in the name of C. M. Smalley was actually owned by S. H. Fullerton.
    In October, 1912, the capital stock was further increased to $600,000 by the issuance of $300,000 par value preferred stock. After such increase the stockholders of the corporation and the number of shares of stock held by each stockholder were as follows:

    At the time of its organization the corporation acquired certain real estate, on which its yard is now located, at a cost of $109,668.30.

      In the early part of the year 1916, S. H. Fullerton, who then owned 1,525 shares of the common stock and 1,525 shares of the preferred stock of the corporation, desired to dispose of his stock, and the other stockholders agreed to buy it from him. In order to ascertain the then value of the stock, a real estate dealer and appraiser, who was not connected with the corporation, was employed to appraise the real estate owned by the corporation. The appraisal, the report of which was dated February 25, 1916, fixed a value for the land .and building at $366,250, of which $322,300 was allocated to the land and $43,950 to the improvements thereon. The difference between the value of the land as fixed by the appraiser, to wit, $322,300, and the cost of the land to the corporation, to wit, $109,668.30, or $212,631.70, represented the increase in the value of the land between the date it was acquired by the corporation and the date of the appraisal.
    The corporation did not appreciate this real estate on its books to the full extent of the appreciation thereof as shown by the appraisal, but did add to its “ Neal Estate Account ” the amount of $183,331.70. There was also restored to the “ Depreciation Account ” the amount of $27,741.54, which had theretofore been charged off. As a result of this increase of $183,331.70 in the corporation “ Neal Estate Account ” and the restoration of $27,741.54 to the “ Depreciation Account,” the book value of the corporation’s assets was increased by the amount of $211,073.24.
    On March 9,1916, S. H. Fullerton sold to the other stockholders of the corporation all of his shares of stock therein. The sales price was the book value of the stock, after the “ Neal Estate Account ” had been increased by the amount of $183,331.70 and the amount of $27,741.54 had ' been restored to the “ Depreciation Account ” as aforesaid.
    The taxpayer, in computing its invested capital for the years 1917 and 1918, included therein the amount of $211,073.24, representing the aforesaid appreciation of its “ Neal Estate Account ” and the restoration to its “ Depreciation Account.” The Commissioner, however, excluded these items from the taxpayer’s invested capital and determined that there are deficiencies in tax in the amount of $13,646.70 for the year 1917 and $35,297.17 for the year 1918.
   OPINION.

Maequette:

The only question for decision in this appeal is whether or not, under the circumstances set forth in the findings of fact, the taxpayer may include in its invested capital for the years 1917 and 1918 the amount of $211,073.24 added to the book value of its assets in the year 1916, representing the increase in value of its real estate since the elate of acquisition and restored depreciation. The taxpayer contends that the stockholders of a corporation are the beneficial owners of the corporate assets, the corporation merely holding the legal title to the assets in trust for the stockholders; that the sale by Fullerton of his stock, which was more than 50 per cent of all of the capital stock of the corporation, constituted in fact a transfer and change of ownership of more than 50 per cent of the corporate property, and that the corporation should be allowed to include that property in invested capital at the value thereof at the date of transfer.

The taxpayer’s position is obviously untenable. The conclusion it seeks to impress on the Board is the result of an ingenious argument based upon an erroneous premise. That the stockholders of a corporation are not the owners of the corporate property is now well settled. In the case of the Rhode Island Hospital Trust Co. v. Doughton, 270 U. S. 69, it was necessary for the court to pass on the question as to the ownership by stockholders of the property of the coporation. Mr. Chief Justice Taft, delivering the opinion of the court, said :

In this case the jurisdiction of North Carolina rests on the claim that because the New Jersey corporation has two-thirds of its property in North Carolina, the State may treat shares of its stock as having a situs in North Carolina to the extent of the ratio in value of its property in North Carolina to all of its property. This is on the theory that the stockholder is the owner of the property of the corporation, • and the State which has jurisdiction of any of the corporate property has pro tanto jurisdiction of his shares of stock’ We can not concur in this view. The owner of the shares of stock in a company is not the owner of the corporation's property. He has a right to his share in the earnings of the corporation, as they may be declared in dividends, arising from the use of all its property. In the dissolution of the corporation he may take his aliquot share in what is left, after all the debts of the corporation have been paid and the assets are divided in accordance with the law of its creation. But he does not own the corporate property. * * *
* * * The cases of Bronson’s Estate, 150 N. Y. 1, 8, and In re Culver’s Estate, 145 Iowa, 1, said to hold that a stockholder owns the property of the corporation, are really authorities to the point that shares of stock in a corporation of a State have their situs for purposes of taxation in that State, as well as in the residence of the owner of the shares. But whatever the view of the other courts, that of this court is clear, the stockholder does not own the corporate property.

It follows that, since Fullerton as a stockholder of the taxpayer corporation was not the owner of its assets or of any part thereof, the sale and transfer of his shares of stock to the other stockholders did not effect a transfer or change of ownership of any part of those assets. The corporation was the owner of the corporate property before the transaction and it was the owner of the same property after the transaction. There was no change in the assets or of the ownership effected by the transfer of Fullerton’s stock, and it did not in any way affect or change the corporation’s invested capital. See Appeal of The Shipowners & Merchants Tugboat Co., 4 B. T. A. 403. The increased value in question of the taxpayer’s assets therefore may not be included in its invested capital. LaBelle Iron Works v. United States, 256 U. S. 377.

The deficiency for the year 1917 is $13,64-6.70 and that for 1918 is $35,297.17. Order of re-determmation will be entered accordingly.


source: Caselaw Access Project

author: Lansdon

license: Public Domain

text:
    Appeals of LaSALLE PORTLAND CEMENT CO.
    Docket Nos. 5158-5159.
    Decided July 27, 1926.
    Upon the evidence, held, that the taxpayer is not entitled to deduct its liability on account of unreturned bags in making its income and profits-tax returns for the taxable years.

      F. GarroTl Taylor, Esg., for the petitioner.

      Joseph K. Moyer, Esq., for the Commissioner.
    Before Sternhagen, Lansdon, and Artjndell.
    The Commissioner has asserted deficiencies in income and profits taxes for the year 1918 and the period ended May 31, 1919, in the .amounts of $23,059.44 and $5,825.70, respectively. Two appeals involving identical questions of fact and of law were filed, and, by agreement of counsel, were consolidated for hearing. Other questions raised in Docket No. 5158 have been settled by stipulation. The deficiency for 1918 arises from the Commissioner’s restoration to gross income of taxpayer’s deductions, as follows:
    (1) Fund to meet payment for returned bag's-$38, 526.54
    (2) Salary of Fritz Worm_ 1, 979. 91
    (3) Depreciation_ 3,502.99
    The Commissioner concedes item No. 2, and taxpayer has withdrawn its appeal as to item No. 3. Item No. 1, only, remains for the consideration of the Board. This and the deficiency for 1919 involve the same questions of fact and law.
    FINDINGS OP PACT.
    1. The taxpayer was an Illinois corporation engaged in the manufacture and sale of Portland cement at LaSalle, Illinois.

      2. The petitioner sold and shipped its cement in cotton bags. Whenever a sale was made a contract was signed by the terms of which the purchaser was to pay a certain price, “ arbitrarily determined,” for the bags and was to receive the same price for all bags returned by him in usable condition. While the prices were arbitrarily fixed, their determination was governed by the market price of bags. They do not appear to have been much, if any, below or above the market prices.
    3. The petitioner kept a separate account on its books denominated “ Clothbags Account,” showing for each month the number of bags shipped to and received from its customers. At the close of the taxable year it ascertained its obligations on account of unreturned bags, as fixed by the contracts, in excess of such obligations at the beginning of the year, and claimed a deduction of 92 per cent of this amount from its gross income for the year. This claim was disallowed by the Commissioner.
    A For the year 1918 the excess of its obligations on account of bags at the close of the year over that at the beginning was $41,959.29, and that for January 1 to May 31, 1919, was $6,172.90. The petitioner claimed a deduction of 92 per cent of these from its gross income. It now claims 89.9 per cent.
    5. The deficiencies asserted in the original notice are $23,059.44 for 1918, and $5,825.70 for 1919. The taxes, however, were assessed under the provisions of sections 327 and 328 of the Revenue Act of 1918, and the taxpayer concedes that if its claim be allowed it would not then be entitled to the benefits of these provisions.
   OPINION.

Lansdon

: There is no contention as to what constitutes the gross income of the taxpayer. To be entitled to the deduction contended for, it must bring its case within the purview of section 234 or 236 of the Revenue Act of 1918. Section 234 (a) consists of 14 paragraphs. The case is clearly not within the purview of paragraphs (2) to (14). Paragraph (1) with its introductory clause is:

See. 234. (a) That in computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions:
(1) 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, and including rentals or other payments required to be made as a condition to the continued use or possession of property to which the corporation has not taken or is not taking title, or in which it has no equity.

To bring its claim within this provision of law it must show that the money to be paid for the bags on their return is a necessary expense paid or incurred during the taxable year.

For some reason, whether to avoid waste, to keep in close touch with its customers, or, whatever it may have been, the company charged the purchaser an arbitrary amount, determined by itself, for each bag, and contracted with the purchaser that it would pay him that amount for each bag returned in usable condition. It manufactured the cement and bought the bags. Then it sold both and received pay for both. Thus far the bags were simply merchandise. The contract with the purchaser was practically unilateral, lie was under no legal obligation to return the bags. He might keep them, sell them to someone else, or return them, as he chose. But the company obligated itself to pay him a specified price for each usable bag returned.

On receipt of returned bags they were inspected and payment was made for such as were usable. They were then cleaned, repaired, and placed in stock for further use. If the company had not bought them it would have been under the necessity of buying elsewhere. More nearly than anything else, they were merchandise bought and sold, bought again, placed in stock and sold again. The liability of the taxpayer was only a liability to receive and pay for them when received. The whole transaction wras an exchange of commodities — the receipt of so much and the payment of so much in return— a quid fro quo in each case and not “ an ordinary and necessary expense.” The obligation to pay for (hem when received was not itself an expense.

The transaction is clearly not within the purview of section 236.

The taxpayer has withdrawn its claim for depreciation, and the Commissioner admits error in disallowance of taxpayer’s claim for a deduction of $1,979.91 on account of salary paid Fritz IVorm, one of the company’s emjfioyees, for the year 1918, if the claim was actually disallowed. Proper adjustment should be made.

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

Stekni-iagen and Smith concur in the result only.


author: ARtjndell:

text:
    Appeals of WASHINGTON HOTEL CO. and CAPITOL HOTEL CO.
    Docket Nos. 6609, 7134, 6610, 7133.
    Decided July 28, 1926.
    1. Value of leasehold paid in to the Washington Hotel Oo. at the date of its organization for capital stock determined for invested capital purposes, and as of March 1, 1913, for exhaustion.
    2. Consolidated invested capital increased to include the aggregate amount by which the assets are understated on the hooks of the affiliated companies.
    3. A salary bonus voted in the year 1920 to employees of the Washington Hotel Co., but actually paid during the year 1921, constituted a proper deduction from gross income for the year 1920, the taxpayer being on an accrual basis.
    4. The consolidated invested capital may not be reduced in determining the extent to which a dividend is paid from current earnings of a year by a “ tentative tax ” theoretically set aside out of such earnings pro rata over such year. Appeal of L. 8. Ayers á Oo., 1 B. T. A. 1135.

      R. Kemf Slaughter, Esq., and H. G. Bickford, Esq., for the petitioners.

      Percy S. Crewe, Esq., for the Commissioner.
    Before SteRNiiagen and Ardndell.
    The above-entitled appeals were consolidated by agreement of counsel. The Commissioner has determined deficiencies in income and profits taxes for the taxable years 1919, 1920 and 1921, against the petitioners as follows:

    These appeals involve adjustments made by the Commissioner in the consolidated net income and invested capital and the valuation of a leasehold estate.
    FINDINGS OF FACT.
    The petitioners, Indiana corporations with their principal offices at Indianapolis, filed consolidated returns of net income and invested capital for all of the years in controversy.
    The Washington Hotel Co. was incorporated on or about November 11,1912, with an authorized common capital stock of $100,000 par value, for the purpose of conducting a hotel business.
    For several years prior to 1912, J. Edward Krause had been successful in the conduct and operation of several large hotels in and about the City of Indianapolis. Early in that year he secured an option on the ground, upon which the present Lyric Theatre stands, with the view to erecting thereon a large building for hotel purposes. At the same time the Washington Hotel Realty Co., lessee of a certain tract of land located in Lot 4, Square 56, in the City of Indianapolis, had under construction the present Washington Hotel, and, being desirous of having the hotel operated under the management of Krause, prevailed upon the latter to abandon his plans and take over the operation of the Washington Hotel under a 20-year sub-lease, with the privilege of renewal for a further term of 15 years. As an inducement to Krause to take over the operation of its new hotel under sub-lease, the Realty Company proposed to him, prior to entering into the lease agreement, that the rentals to be reserved under the lease should be only such an amount as would be sufficient to take care of its obligations. In order to induce the Realty Company to fix the yearly rentals at as low a figure as possible, Krause subscribed for, and later actually acquired for cash at par, $30,000 par value of the Realty Company’s second preferred stock, an issue which the company had floated in order to secure additional funds to complete the construction of the building.
    . The lease agreement, under which the Washington Hotel Realty Co. demised and sub-leased to Krause the premises above referred to, bears date of July 22, 1912, and runs for a- term of 20 years, with the privilege of renewal for a further term of 15 years. The agreement provides for the payment by the lessee of an annual rental of $55,000 for the first ten years, $57,500 for the second ten years, and $60,000 during the renewal term. In addition to the rental payments reserved under the lease, Krause agreed to purchase, pay for and install in the premises furniture, fittings, equipment and other improvements, of good and substantial quality and character, of the value of not less than $45,000, upon which the lessor is to have and hold a first lien to secure the payments of rent and other charges under the lease.
    The hotel building was completed and ready for occupancy in or about the month of January, 1913.
    Upon the organization of the Washington Hotel Co., Krause turned over to it the lease and cash in the amount of $22,131.99, and received in exchange therefor the entire authorized common capital stock of that company of $100,000 par value. The difference between the cash received from Krause and the par value of the capital stock issued to him, to wit, $77,868.01, was charged on the books of the Washington Hotel Co. to an account denominated “ Lease and Good Will.”
    The fair rental value of the leased premises, at the date the lease was paid in to the Washington Hotel Co. and at March 1, 1913, was not less than $65,000 per annum.

      In the computation of the consolidated invested capital for the three years in question, the petitioners included the leasehold at a value of $77,868.01. The Commissioner disallowed the claimed value for invested capital purposes, and has refused to allow any deduction from the income of the years concerned on account of depreciation of the March 1,1913, value of the lease.
    The actual cash value of the leasehold, at the date it was paid in to the Washington Hotel Co., and the fair market value thereof at March 1, 1913, was $77,868.01. The remaining life of the lease, including the renewal period, was, at the date paid in to the Washington Hotel Co., 34 years, 8y3 months, and at March 1, 1913, 34 years, 4% months.
    The asset accounts of the Washington Hotel Co. wore understated on its books at January 1, 1919, 1920 and 1921, by the amounts of $120, $140, and $160, respectively, through erroneous overpayment of rentals to the Washington Hotel Realty Co. These items were, not included in the consolidated invested capital by the petitioners, and the Commissioner has failed to so include them.
    The asset accounts of the Washington Hotel Go. were further understated, at the beginning of each of the years in question, by the amount of $1,350, said understatement having been brought about through erroneous charges to the surplus account, on September 30, 1916, May 31, 1917, and June 30, 1918, in the amount of $450 each. These three items, totaling $1,350, were proper charges against the personal account of J. Edward Krause. The petitioners failed to include these items in the consolidated invested capital, and they have not been so included by the Commissioner.
    In the computation of the consolidated invested capital for the year 1919 the Commissioner has included prepaid rentals of the Capitol Hotel Co. in the amount of $1,603.01. The correct amount of prepaid rentals at the beginning of the year was $1,750.
    The Commissioner reduced the consolidated invested capital for the taxable years 1920 and 1921 by the amounts of $4,146.11 and $2,136.95, respectively, on account of dividends paid during those years. These amounts were computed by the Commissioner in the following manner: From the corrected net income for each year there was deducted the resulting tax computed on the basis of the correct net income and the consolidated invested capital without deduction for any dividend payments, the remainder being assumed to represent the amount of income available for the entire year for distribution as dividends. This latter amount was prorated over the entire year to determine the amounts available at the dividend dates, and to the extent that these latter amounts were exceeded by the dividend payments the Commissioner treated the payments as having been paid out of the surplus available at the beginning of each year.
    The total capital-stock tax paid by the Capitol Hotel Co. for the year 1921 was $39 greater than the deduction allowed by the Commissioner in respect of such tax.
    In 1920 the Washington Hotel Co. voted a bonus of $1,500 to certain of its subordinate employees and paid the same in the following year. The amount of the bonus was accrued on the books of account as an expense of the year 1920 and claimed as a deduction in the income-tax return for that year. The Commissioner has held that the payment of this bonus constituted an expense deduction for the year 1921 and not for the year 1920.
   OPINION*.

ARtjndell:

Two witnesses testified on behalf of the petitioners that the lease owned by the Washington Hotel Co. had a value at the date acquired by that company and at March 1, 1913, of $100,000, and another testified that, in his opinion, the value was between $100,000 and $150,000. A careful consideration of the entire evidence, however, including that relating to the length of time the lease had to run and the low rentals reserved under its provisions, as compared with what we have found to be the fair rental value of the property, leads us to the conclusion that the lease had a fair market value at the date acquired by the Washington Hotel Co. and at March *1, 1913, of $77,868.01, which was the value placed upon it originally by petitioners in their returns to the Commissioner. Based upon a value at the date of acquisition of $77,868.01 and a life of 34 years, 8y3 months, the amounts at which the petitioners are entitled to include this lease in the consolidated invested capital for the years 1919, 1920, and 1921, are $64,089.95, $61,845Í56, and $59,601.17, respectively.

At March 1, 1913, the remaining term of the lease, including the renewal period of 15 years, was 34 years and 4% months, and its fair market value at that date was $77,868.01. The annual deduction which the petitioners are entitled to make in computing taxable net income is $2,264.34.

The several amounts by which the asset accounts of the Washington Hotel Co. were understated at the beginning of each of the years in question, and the amount of the Commissioner’s understatement of the asset accounts of the Capitol Hotel Co. at the beginning of the year 1919, the understatements being due to overpayments and prepayments of rent and erroneous charges of accounts receivable against surplus, constitute valid accounts receivable or prepaid expenses, which should be included in the consolidated invested capital. The consolidated invested capital for the years 1919, 1920 and 1921, as computed by the Commissioner, should be increased by the amounts of $1,616.99, $1,490, and $1,510, respectively.

The Commissioner’s action in reducing the consolidated invested capital for the years 1920 and 1921 by the amounts of $4,146.11 and $2,136.95, respectively, is in error, since the amounts.of the reductions represent not the excess of the dividend payments over the available earnings at the dividend dates, but the excess of the dividend payments over the actual earnings reduced by a so-called tentative tax. This question has heretofore been considered by the Board in the Appeal of L. S. Ayers & Co., 1 B. T. A. 1135, and on authority of that decision we must hold adversely to the Commissioner on this issue.

The deduction which the Commissioner has allowed in computing the consolidated net income for the year 1921, on account of taxes paid within the year by the Capitol Hotel Co., is $39 less than the amount actually paid. The net income, as thus computed by the Commissioner, should be reduced by the amount of $39.

The bonus of $1,500 paid in the year 1921 to certain subordinate, employees of the Washington Hotel Co. was actually voted in the year 1920, and, representing as it does a liability incurred in the year 1920, it is a proper expense deduction in computing the consolidated net income for that year. The Commissioner’s action in refusing to allow the deduction for the year 1920 and allowing it for the year 1921 is in error.

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


author: Phillips:

text:
    MAGDALENA W. DE SABICHI, Petitioner, v. COMMISSIONER OF INTERNAL REVENUE, Respondent.
    Docket No. 10802.
    Decided July 28, 1926.
    Under the provisions of the Revenue Act of 1926, where an appeal has been taken from the determination of a deficiency in gift tax, the Board has jurisdiction to hear the appeal and determine any overpayment, even though the tax may have been paid after the -appeal was taken. The same jurisdiction is extended by the Act to appeals taken under section 308 (a) of the Revenue Act of 1924, prior to and undetermined at the date of the enactment of the Revenue Act of 1926.

      Frank G. Butts, Esq., for the petitioner.

      F. T. Horner, Esq., for the respondent.
    Before Phillips.
   Phillips:

This appeal is before us upon motion of the Commission to dismiss for want of jurisdiction. It appears that the taxpayer filed with the collector of internal revenue for her district a return under the so-called “ gift tax ” provisions of the Revenue Act of 1924, which return reported certain transfers of property made by the taxpayer but expressly recited that it was made under protest and without any ^admission or confession that there was any tax liability whatever on the transfers reported. On December 1, 1925, the Commissioner mailed to the taxpayer notice of his final determination that the amount of gift tax was $282,618.19, of which $244,-045.08 is stated to be the amount disclosed by the return and $38,573.11 is stated to be a deficiency. On or about December 9, 1925, the taxpayer received notice and demand for payment of $244,045.08 from the collector for her district. On January 11, 1926, an appeal was filed with the Board alleging, among other errors, that no tax whatever should have been assessed or determined.

While such appeal was pending undetermined, the Revenue Act of 1926 was passed, amending the Revenue Act of 1924 by reducing the rates of taxation. On February 23, 1926, taxpayer paid to the collector for her district $194,876.15, which the Commissioner contends is the correct amount of tax and interest under the rates as revised by the 1926 Act.

The Commissioner moves that the appeal be dismissed on the ground that “the Board is without jurisdiction to hear and determine the appeal in that the taxpayer has paid the entire amount of the tax.”

For our jurisdiction we must look to the provisions of the Revenue Act of 1926. (Sec. 904 of the Revenue Act of 1924, as amended by the Revenue Act of 1926.) Section 318 (b) of the 1926 Act provides :

If before the enactment of this Act any person has appealed to the Board of Tax Appeals under subdivision (a) of section 308 of the Revenue Act of 1924 * * * and the appeal is pending before the Board at the time of the enactment of this Act, the Board shall have jurisdiction of the appeal

Each of these conditions existed on February 26, 1926, the date when the Revenue Act of i.926 was enacted, and there can be no doubt that the Board has jurisdiction if only for the purpose of determining whether there has been an overpayment of tax.

Section 318 (b) further provides that in the cases enumerated—

the powers, duties, rights, and privileges of the Commissioner and of the person who has brought the appeal, and the jurisdiction of the Board and of the courts, shall be determined * * * in the same manner as provided in subdivision (a) of this section, except * * *.

Subdivision (a) of that section provides in substance that the procedure for the assessment, collection and payment of deficiencies determined under acts prior to the Revenue Act of 1926 shall be the same as where notice is sent under subdivision (a) of section 308 of the Act. That subdivision provides for notices of deficiency in tax under the provisions of the 1926 Act and for appeal therefrom. The sections which follow lay down in more detail the jurisdiction of the Board and the procedure to be followed after notice of deficiency lias been given. Section 312 (i) provides in part:

When the petition has been filed with the Board and when the amount which should have been assessed has been determined by a decision of the Board which has become final, * * * if the amount already collected exceeds the amount determined as the amount which should have been assessed, such excess shall be refunded.

Substantially the same provision is contained in section 319 (c), which reads:

If the Board finds that there is no deficiency and further finds that the executor has made an overpayment of tax, the Board shall have jurisdiction to determine the amount of such overpayment, and such amount shall, when the decision of the Board has become final, be credited or refunded to the executor as provided in section 3220 of the Revised Statutes, as amended.

That section further provides that, where an appeal has been taken to the Board from the determination of a deficiency made after the enactment of the 1926 Act, no refund shall be made except in accordance with the decision of the Board which has become final.

It is clear that, under the Revenue Act of 1926, when notice of a deficiency has been mailed to the taxpayer and an appeal taken to the Board, the Board has jurisdiction not only to determine whether such deficiency should be assessed or collected, but also whether there has been any overpayment of the tax, and that in such case the taxpayer has no method of securing a refund other than to prosecute his appeal before the Board. This jurisdiction is not lost by reason of the fact that, after the' appeal is taken, the deficiency may be assessed and collected. This same jurisdiction to determine over-payments now exists with reference to appeals which were taken before the enactment of the Revenue Act of 1926 and which were pending undetermined when that Act became a law.

The motion to dismiss is denied.


text:
    Appeal of DICKERMAN & ENGLIS, INC.
    Docket No. 4928.
    Decided July 28, 1926.

      Maxwell Goldstein, Esq., for the petitioner.

      J. Arthur Adams, Esq., for the Commissioner.
    Before Gkatjpner, Teammell, and Phillips.
    This is an appeal from the determination of a deficiency in income and profits taxes in the amount of $72.14 for the calendar year 1920. The contentions of the taxpayer are that it is entitled to classification as a personal service corporation and that the Commissioner failed to Use proper comparatives in the computation of tax under section 328 of the Revenue Act of 1918. No evidence was offered in support of the latter contention.

       'Phis decision was prepared during Mr. Graupner’s term of office.

   FINDINGS OF FACT.

The taxpayer is a New York corporation with its principal place of business in New York City.

Prior to the incorporation of the taxpayer in 1918, the business had been conducted by the partnership of Dickerman and Englis. The corporation was organized for purposes of better administration of the business while A. L. Dickerman, Jr., who became its president, was in the military service of the United States.

The business of the taxpayer in 1920 was that of selling coal, both as principal and as agent. The president secured about 90 per cent of the taxpayer’s business, the balance being produced by a salesman in New Jersey from customers whose business the president had originally obtained. Prior to 1920 the president spent, on an average, five days per week on the road soliciting orders. In 1920 a strike of the anthracite coal miners caused a ready market for coal. During that year the president averaged approximately three days each week traveling. The balance of the time he spent in the taxpayer’s office.

In those cases where the taxpayer acted as agent, it obtained the orders and transmitted them to the coal company for which it was acting. The coal company made shipment to, and billed, the purchaser direct, sending to the taxpayer a memorandum of the shipment. In such cases the coal company assumed the duty of collecting from the purchaser and the taxpayer received a commission only when the accounts were paid by the purchasers.

During 1920 the company for which the taxpayer was the agent was unable to supply all of the orders obtained by the taxpayer, and to meet this situation taxpayer purchased coal from other companies. In such cases, upon receiving an inquiry for coal, it would call upon mining companies to learn what quantity and at what price it could obtain coal, and would then notify the prospective purchaser as to the price and the amount which it could deliver, adding to the mine price, as commission, 25 to 50 cents per ton. In these cases the coal was shipped direct to the purchaser by the producer, who billed the taxpayer for shipment. The taxpayer in turn collected from the purchaser. No coal was bought unless an order had previously been secured.

The authorized capital stock of the taxpayer was 500 shares of the par value of $100 each. On November 1, 1918, 200 shares were issued as follows:

Shares.
41ton L. Dickerman, Jr_ 10
Jrla S. Dickerman_130
Robert Eble_ 10
Hazel E. Reynolds_ 10
William O. Bartlett_ 20
William E. Englis. 20
Total issued_200

There were no changes in stock ownership until 1920. On January 15, 1920, 12 of the shares standing in the name of William O. Bartlett were transferred to Charles W. G. Baiter and 8 to Alton L. Dickerman, Jr. On October 4, 1920, the 12 shares were transferred from Baiter to Dickerman. The stock certificate for 20 shares originally issued to Englis was canceled on December 29, 1920.

Urla S. Dickerman was the wife of Alton L. Dickerman, Jr. No payment was made by her for the stock issued in her name. At the time of the organization of the taxpayer, she endorsed in blank the certificate for the 130 shares issued to her and placed it in the safe deposit vault of her husband to which she had access and in which she kept some of her personal possessions in addition to the stock certificate. Mrs. Dickerman took no active part in the conduct of the business of the taxpayer.

Robert Eble was a law clerk in the office of Dickerman’s attorney. Hazel E. Reynolds was an employee of the taxpayer. The equitable ownership of stock standing in the names of Urla S. Dickerman, Robert Eble, and Hazel E. Reynolds was at all times in Alton L. Dickerman, Jr.

On December 31, 1920, the stock issued and outstanding was registered as follows:

Shares.
Alton L. Dickerman, Jr_ 30
Urla S. Dickerman-130
Robert Eble_ 10
Hazel E. Reynolds- 10
Total_ — -180

All of such stock was the property of Alton L. Dickerman, Jr.

During 1920, William F. Englis occasionally discussed market conditions with Dickerman but took no active part in making sales for the taxpayer.

Dickerman, the president, and Hazel E. Reynolds, secretary and treasurer, devoted their entire time to the business of the taxpayer and received salaries, respectively, of $15,000 and $2,985. No sales were made by the secretary and treasurer.

The taxpayer’s gross profit in 1920 was realized as follows:

From trading as principal:
Coal sales_ $729, 945. 03
Miscellaneous sales_ 15, 392. 89
- $745, 337. 92
Coal purchased_ 673, 651. 07
Cost oi’ sales_ 29, 820. 33
- 703, 471. 40
Gross profit on coal billed_ 41, 866. 52
From trading as agent:
Commissions_ 49, 250.40
Interest on deposits_ 72.44
Gross profit_ 91,189. 36

The expenses for 1920 as determined by the Commissioner, other than salary to Dickerman, were as follows:

Salaries and bonuses_$10, 638. 01
Office supplies and expenses_ 9, 287.27
Traveling expenses_ 5, 870. 22
Commissions paid_ 9, 330. 04
Advertising_ 1, 007. 94
Legal expenses_ 3, 833. 34
Depreciation_ 238. 01
Loss on bad debts_ 880.60
Adjustments with customers_ 1, 716. 48
Loss on sale of automobile_ 53. 33
42, 855. 24

During 1920 the office force was made up of Dickerman, Miss Reynolds, the secretary and treasurer, who also acted as office manager, a bookkeeper, two stenographers, and a young man without previous experience in the coal business who was employed on a salary and commission basis to keep in touch with the New Jersey customers previously secured by Dickerman; who found it impossible to cover that territory in person.

Of the $9,330.04 commissions paid, approximately $5,000 was paid to a former associate of the taxpayer who secured an order for. coal, which order was handled by the taxpayer as principal. The balance of the commissions was paid to various persons who brought business to the taxpayer, some of which orders were handled by it as principal and some as agent on a commission basis.

The balance sheets of the taxpayer were as follows:

Of the accounts receivable on December 31, 1919, $29,912.35 was due for coal sold or confiscated by the railroads. Of the accounts payable on that date $27,951 was due for coal purchased.

Of the accounts receivable on December 31, 1920, $56,154.08 was due for coal sold or confiscated. The balance represented various items, including commissions due from the mining company for which taxpayer acted as agent. Of the accounts payable on the same date $54,032.27 was the amount owing for coal purchased.

Taxpayer borrowed no money during 1920. In those sales which were made as principal, collections were usually made against receipt of bill of lading by the purchaser, and remittance was made by taxpayer to the company from which coal was purchased immediately upon receipt of payment from the purchaser. In cases where collection was not made against bill of lading, payment was due on the fifteenth day of the month following shipment, and payment was made by taxpayer when received by it from its purchaser.

During 1920 the demand for coal exceeded the supply. The ability to furnish coal at a satisfactory price, and not the ability to extend credit, was the factor which produced the sales made by the taxpayer.

Capital, whether invested or borrowed, was not a material income-producing factor.

Less than 50 per cent of taxpayer’s gross income for 1920 was derived from trading as a principal or from Government contracts.

The income for 1920 is to be ascribed primarily to the activities of Dickerman, the principal stockholder, who was regularly engaged in the active conduct of the affairs of the corporation.

Taxpayer is entitled to classification as a 'personal service corporation. Order of rede-termination will be entered on 15 days' notice, under Bule 50.

Littleton and Trammell dissent.


author: Littleton

text:
    Appeal of CHICAGO RAILWAY EQUIPMENT CO.
    Docket No. 3964.
    Decided July 28, 1926.
    1. Evidence held insufficient to show that the Commissioner’s determination of the fair market price or value of buildings, machinery, and equipment on March 1, 1913, and the cost of subsequent additions, for the purpose of deductions for exhaustion, wear and tear for the years 1917, 1918 and 1919, was erroneous.
    2. The Commissioner correctly denied a deduction claimed for 1918 on account of debts which were neither ascertained to be worthless nor charged off within that year.
    3. In February or March, 1919, the petitioner charged off certain debts totaling $40,101.67 as worthless as of December 31, 1918, and claimed a deduction of that amount from gross income for 1918. The Commissioner denied the deduction for 1918 but allowed a deduction of $6,S84.58 for 1919. Upon the evidence, held, that the Commissioner should have allowed a deduction for 1919 of $33,000 on account of debts ascertained to be worthless and charged off within that year.
    4. Evidence held insufficient to show that the taxpayer was entitled to a deduction for exhaustion of machinery and equipment of 100 per cent in excess of the normal and customary rate.

      William 3. Op2)enheim, Esq., for the petitioner.

      L. C. Mitchell, Esq., for the Commissioner.
    Before Littleton, Smith, and TRussell.
    This proceeding was instituted for the purpose of testing the correctness of the Commissioner’s determination of deficiencies in income and profits tax for the calendar years 1917, 1918 and 1919, in the amounts of $22,337.85, $85,915.59, and $15,609.91, respectively, in so far as they result from a disagreement as to (1) the values of certain buildings, machinery, and equipment as of March 1, 1913, for the purpose of the deduction for exhaustion, wear and tear thereof; (2) the rates to be applied in computing the deductions for exhaustion, wear and tear of the machinery and equipment; and (3) the propriety of deductions on account of certain debts alleged to have been ascertained to be worthless and charged off within the year 1918.
    findings of fact.
    The petitioner is an Illinois corporation, engaged principally in the manufacture of railway equipment, with plants at Franklin, Pa., Marion, Ind., Grand Rapids and Detroit, Mich., and Chicago, Ill. It was organized in 1890.
    Prior to 1900 petitioner conducted its business in Chicago where it had erected a brick and concrete plant and installed therein certain machinery. During the period from 1900 to 1904 it constructed a plant consisting of buildings and machinery, at Detroit, Mich., and between that date and 1917 certain additions and replacements were made. In 1905 it acquired a malleable iron plant consisting of buildings, machinery, and equipment, at Grand Rapids, Mich., at a cost of $62,500. Between that date and 1917 certain additions and replacements were made. At the time this plant was purchased, it was being operated by a creditors’ committee. In 1906 it .acquired a similar malleable iron foundry, which was being operated at Marion, Ind., at a cost of $92,000. Between this date and 1917 considerable additions and replacements were made. In 1907 it constructed what is now its principal office building and brake beam plant, at 46th and Robey Streets, Chicago, and installed therein certain machinery. Between this date and 1917 considerable additions and replacements were made. In 1912 it acquired a rolling mill plant, together with machinery, at Franklin, Pa., which was in the hands of a receiver, at a cost of $175,000, and thereafter made numerous additions and replacements. In 1913 about three-fourths of this plant was destroyed by fire but it was immediately reconstructed. In addition the petitioner erected at Franklin, during the years 1913 and 1914, a brake beam plant of brick and concrete construction and. installed therein the necessary machinery.
    In the latter part of 1915, the petitioner caused an appraisal to be made of its various properties for the .purpose of securing an inventory thereof; also, for the purpose of placing insurance thereon. These appraisals were made upon the basis of cost of reproduction of the various buildings, machinery, and equipment, as of December 31, 1915, and showed the reproduction cost thereof as follows:
    Chicago :
    4060 Princeton St.—
    1 building_ $34, 602. 31
    Fixtures_ 3, 340.66
    Total_$37,942.97
    46th & Robey Sts., Brake Beam Plant—
    7 buildings_ 182,762. 09
    Power, machinery, tools, equipment and office furniture - 161, 838. 68
    Total- 344,600.77
    Marion Plant:
    26 buildings_ $157,466.75
    . Power, machinery, tools, equipment, and office furniture _ 175, 988. 63
    Total_ 333,455.38
    Grand Rapids Plant:
    15 buildings_$143,568.37
    Power, machinery, tools, equipment and office furniture - 211,272.07
    TotaL. 354, 841.07

      Detroit Plant :
    3 buildings_¡_ $49, 937.25
    Power, macbinery, tools, equipment and office furniture _ 106,248.14
    Total_$156,185.39
    Franklin Plant:
    13 buildings_$163,742.02
    Power, macbinery, tools, equipment and office furniture _ 330,143, 87
    Total_ 493, 885. 89
    The reproduction cost of the properties owned by the taxpayer on March 1, 1913, was substantially the same as such cost of properties owned on December 31, 1915. The petitioner entered the above values upon its books as of December 31, 1915, and set up as a depreciation reserve for exhaustion, wear and tear to that date the amount of $280,000. In each of the taxable years the petitioner claimed a deduction of $150,000 for exhaustion, wear and tear of its entire properties.
    The Commissioner declined to approve the claim that the March 1, 1913, value of the buildings and equipment for the purpose of computing the deduction for exhaustion, wear and tear thereof should be determined by taking the amounts shown by the appraisals reflecting the cost of reproduction new on December 31, 1915, and deducting therefrom the cost of additions and replacements between March 1, 1913, and December 31, 1915. Instead, he computed the allowance for exhaustion, wear and tear of the buildings, machinery and equips ment upon the basis of undepreciated cost on March 1, 1913, plus the cost of additions since that time, as representing, in the absence of better evidence, the fair market price, or values on March 1, 1913. For the purpose of this deduction, in respect of buildings which were computed at the rate of 3 per cent, the Commissioner determined that the value on March 1, 1913, plus the cost of additions to December 31,1916, was $547,824.17; that during the year 1917 the petitioner made additions costing $23,064.53, averaged for six months in the amount of $11,532.29, giving a total of $559,356.46, upon which he allowed a deduction for 1917 of $16,780.59.
    For 1918 he determined a cost of $570,888.70 at the beginning of the year, which, plus additions during the year costing $26,610.15, averaged for six months in the amount of $13,305.08, totaled $584,-193.78, upon which he allowed a deduction of $17,528.81.
    For 1919 he determined a cost of $597,498.85 at the beginning of the year, plus additions during the year costing $9,199.17, averaged for six months in the amount of $4,599.59, totaling $602,098.44, upon which he allowed a deduction of $18,062.95.
    For the purpose of the deduction in respect of the power plant, which was computed at the rate of 5 per cent, the Commissioner determined a cost, including the cost of additions to December 31, 1916, of $355,064.06, with no additions during any of the years 1917 to 1919, inclusive, and allowed $17,752.70 for each of the years.
    For the purpose of a similar deduction in respect of the machinery and tools, which he computed at the rate of 10 per cent, the Commissioner determined a cost, including the cost of additions to December 31, 1916, of $416,320.49, which, with the cost of additions during the year 1917 of $25,358.41, averaged for six months in the amount of $12,679.71, totaled $428,999.70, upon which he allowed $42,900.97 for 1917.
    For the year 1918 he determined a cost at the beginning of the year of $441,688.90, to which he added items previously eliminated but still in use of $6,104.06, making a total of $447,792.96, with no additions during the year, upon which he allowed a deduction of $44,779.30.
    For the year 1919 he determined a cost at the begininng of the year of $446,949.61, property of the value of $843.35 having been disposed of, with no additions during the year, with the result that a deduction of $44,694.96 was allowed.
    In February or March, 1919, the petitioner called in a firm of accountants to audit its books for the year 1918. During the course of the audit these accountants recommended to the officers of the company that certain accounts for materials shipped from the various plants be charged off as worthless as of December 31, 1918.
    After going over the accounts, the president of the company directed that the accountants charge off certain accounts, as of
    December 31, 1918, as follows:
    Pittsburgh Hickson & Co_$9, 000. 00
    Lawson Construction Co_ 2, 000. 54
    St. Louis Car Co_L_:_ 1,100. 00
    W. K. Milholland_■- 87. 35
    Superba Manufacturing Co_ 1, 396.46
    Maxfer Truck Co_ 6,000. 00
    Smith Motor Truck Co_18, 217.17
    ' Star Specialty Manufacturing Co- 2, 300.15
    Total_40,101. 67
    The Commissioner held that the above accounts were not allowable as a deduction from gross income for the year 1918, for the reason that they were not ascertained to be worthless and charged off within that year. For the year 1919 the Commissioner disallowed a deduction from gross income on account of debts alleged to have been ascertained to be worthless and charged off within that year of $25,061.58. The facts upon which the petitioner based its determination that the above accounts were worthless follow:

      Pittsburgh Hickson <& Go.: This item consisted of two notes of $5,000 each, dated June 13, 1917. The company was in financial difficulties when the notes were given and there was considerable doubt if the notes would be paid. In August, 1917, it was declared bankrupt and a receiver appointed. On November 29, 1918, the receiver made a payment to the petitioner of $1,000. At the time the account tvas charged off at the direction of the president he knew the condition of the bankrupt company and the nature of its assets and liabilities, and from this information he was convinced that the account was worthless. In 1920 the receiver made-another payment of $800 and in 1921 he made a payment of $162.80.

      Lawson Construction Go.: This item represented amounts due the petitioner for materials shipped between April 11, 1917, and May 28, 1917. On July 30, 1917, the debtor paid' $1,000 on account.

      St. Louis Gar Go.: This item consisted of 11 shares of the capital stock of the St. Louis Car Co. of the par value of $1,100 taken by the petitioner in a reorganization in 1912 in payment of an account due it. No dividends were paid on the stock. In November, 1916, the petitioner was offered $50 a share for the stock which it declined to accept. At the time of the audit of its books in March, 1919, the petitioner made inquiry of certain firms engaged in the purchase and sale of stocks and received information that this stock was of little value, perhaps not exceeding $1 a share. The St. Louis Car Co. was in existence during 1918 and 1919 a..J had not disposed of its assets.

      W. K. Milholland: This item represented a charge against this individual in May, 1918, on which no payment had been received up to the date the account was charged off.

      Superba Manufacturing Go.: This item represented a note given to the taxpayer bn February 10, 1917, on which no payments had been made up to the time the account was charged off. The debtor paid $1,238.45 during 1919.

      Maxfer Truck Go.: This account originally amounted to approximately $20,000. In September, 1916, a creditors’ committee, of which the president of the petitioner was a member, was formed and in October, 1917, notes were given for the amount of the claims against the Truck Company payable monthly. An audit of the affairs of the Truck Company on December 27, 1917, showed quick assets of $151,417.58 and current liabilities of $177,936. During the year prior to 1917, certain auditors filed bankruptcy proceedings against this company and a trustee was appointed. The business was carried on and up to August 5, 1918, 60 per cent of the indebtedness of the company had been paid off, the taxpayer receiving, during 1917, $14,000 on its account. At the time the account was charged off the affairs of the company were being liquidated and it had insufficient assets to make any further payments on its indebtedness.

      Smith Motor Truck Go.: This item was for materials sold in June and August, 1917. The last payment ivhich the petitioner received from this company was on September 15, 1917. On October 6, 1917, a creditors’ committee took charge of the affairs of the company and agreed to pay 20 per cent of this account on April 5, 1918, and 80 per cent on October 5, 1918. The April 5, 1918, payment was not made and on September 16, 1918, the committee advised that they would be unable to continue the business and had no funds with which to make any payments on the account. A petition in bankruptcy w;as filed and a receiver was appointed but no attempt was made to operate the business. The president of the petitioner investigated the probability of the company being able to collect anything on the account and he concluded from the information which he obtained that the debt was ivorthless and could not be collected. During the period from 1919 to 1921, $3,252.54 was received in liquidation of the company.

      Star Specialty Manufacturing Go.: This item consisted of charges made during the period from March to September, 1917. No payments had been made by the debtor up to the time the account was charged off.
    The Commissioner reduced the petitioner’s invested capital for the years 1917, 1918, and 1919, on account of taxes upon the income for the preceding year paid during the year, pursuant to Regulations 45, article 845.
   OPINION.

Littleton

: The petitioner contends that the Commissioner erred (1) in computing the deductions for exhaustion, wear and tear of buildings, machinery, and equipment, in that his determination of values as of March 1, 1913, and of the cost of additions and replacements made subsequent to March 1, 1913, ivas inaccurate: (2) that this deduction, in respect of steel and corrugated iron buildings, should have been computed at the rate of 5 per cent instead of 3 per cent; (3) that the deduction on account of exhaustion of machinery and equipment should have been computed at the rate of 20 per cent instead of 10 per cent; (4) that certain deductions on account of debts alleged to have been worthless and charged off within the year 1918 were erroneously disallowed by the Commissioner, and (5) that the invested capital for the taxable years should not have been reduced on account of the tax paid during the year upon the income for the preceding year.

The only evidence submitted by the taxpayer in support of its claim that the values on March 1, 1913, of its buildings, machinery and equipment were greater than those determined by the Commissioner, consists of appraisals made of its various properties on December 31, 1915, upon the basis of cost of reproduction of the property on hand as of that date. It is contended that the Board should accept these appraisals for the purpose of arriving at the fair market price or value of the various properties on March 1, 1913, by eliminating from the values fixed by the appraisal the cost of additions between March 1, 1913, and December 31, 1915, and by subtracting from the remaining amounts $131,000, representing depreciation for years prior to 1913. No evidence of any character was submitted showing the fair market price or value of the properties in question on March 1, 1913, or showing that the taxpayer’s method of determining the value on March 1, 1913, upon the basis of cost of reproduction less depreciation, in any way represented the fair market value on that date. The taxpayer’s auditor undertook to testify as to what the company’s books contained relative to the original cost of the various properties owned by it on March 1, 1913, and the cost of additions subsequent thereto. The books of account were not produced at the hearing nor were their contents offered in evidence in a competent manner. The Commissioner objected to the testimony of the Avitness as to what the books contained, upon the ground that the books Avere the best evidence of their contents. In these circumstances, the Board can not accept the testimony offered as proof of the original cost of the properties or the cost of subsequent additions and improvements. In any event, cost of reproduction on December 31, 1915, less an estimated amount for depreciation to the basic date, can not be accepted as representing the fair market price or value on March 1, 1913, for the purpose of deduction for exhaustion, wear and tear thereof, in the absence of proper evidence that the fair market price or value Avas equal to such reproduction cost. Appeals of Rockford Malleable Iron Works, 2 B. T. A. 817; Tibby-Brawner Glass Co., 2 B. T. A. 918; Stokes Milling Co., 2 B. T. A. 1284; Strong, Hewat & Co., 3 B. T. A. 1035.

In addition to the lack of competent evidence of the market value on March 1, 1913, of the various properties, the Board is without any information as to the probable remaining useful life on that date of the plants purchased by the petitioner at Detroit and Grand Rapids, Mich., Marion, Ind., and Franklin, Pa.

The only evidence in support of the taxpayer’s claim that it should be allowed a deduction for exhaustion, wear and tear of the machinery and equipment during the taxable years at the rate of 20 per cent instead of 10 per cent, consists of testimony that during those years its production in tonnage was slightly greater than in prior years, and that, due to war conditions, the labor employed in its various plants was inefficient. The Franklin, Pa., plant occasionally operated at night, otherwise the usual number of hours per week was maintained in the operation of the various plants. It appears that during the taxable years considerable additions were made to the plants and that the machinery and equipment were kept in good repair. In the opinion of the Board, the evidence on this point does not warrant an allowance for exhaustion, wear and tear of machinery and equipment at the rate of 20 per cent during the taxable years.

The taxpayer further claims that, the Commissioner erroneously included in the “ Power Plant Account ” equipment of the value of $253,272.45 and computed the exhaustion thereof at the rate of 5 per cent, which equipment should have been placed in the “ Machinery Account ” and exhausted at the rate of 10 per cent. The Board is without sufficient evidence to show that the Commissioner erred in this respect.

As to the claim that the Commissioner erred in disallowing a deduction of $40,101.07 on account of debts alleged to have been ascertained to be worthless and charged off within the taxable year 1918, it appears that no effort was made during the year 1918 to determine whether or not the debts claimed to have been worthless were in fact without value, and it further appears that they were not charged off until some time in February or March, 1919. Under these circumstances, the Commissioner correctly disallowed the deduction of this amount from gross income for the year 1918. Appeals of Greenville Textile Supply Co., 1 B. T. A. 152; Donalsonville Oil Mill, 1 B. T. A. 167; Murchison National Bank, 1 B. T. A. 617; West Virginia & Pennsylvania Coal & Coke Co., 1 B. T. A. 790; Jessie B. Wadsworth, 1 B. T. A. 1043; Dover Iron Co., 1 B. T. A. 1123; George J. Reid, 1. B. T. A. 1168; Tri-City Electric Co., 2 B. T. A. 89; David Baird & Son, Inc., 2 B. T. A. 901.

With the exception of the accounts of Pittsburgh Hickson & Co., of $9,000, the Maxfer Truck Co., of $6,000, and of the Smith Motor Truck Co., amounting to $18,217.17, the evidence of worthlessness of the accounts hereinabove mentioned is not sufficient to warrant the deduction thereof from gross income for the year 1919.' The credit extended by the petitioner for materials sold was for a period of from 60 to 90 days. The Board has practically no evidence of worthlessness of the accounts beyond the fact that they were overdue and this fact, standing alone, is not sufficient to warrant the accounts being deducted as worthless. Appeal of Alemite Die Casting & Mfg. Co., 1 B. T. A. 548.

The fact that the value of the stock of the St. Louis Car Co. had declined does not warrant it being charged off as worthless. The company was still in existence. It had not disposed of its assets and the stock had some value.

The Board is satisfied, from the evidence, that the accounts of Pittsburgh Hickson & Co., amounting to $9,000, the Maxfer Truck Co., amounting to $6,000, and the Smith Motor Truck Co., amounting to $18,217.17, were properly determined to be worthless and charged off within the year 1919. The totals of these accounts were, therefore, proper deductions from gross income for 1919.

The deficiency letter discloses that the Commissioner allowed a deduction of $6,884.58 on account of debts ascertained to be worthless and charged off within the year 1919, but the evidence does not disclose whether the account of the Maxfer Truck Co. was included in this allowance. This, however, is a matter that may be determined upon final settlement of the deficiencies.

The reduction of the taxpayer’s invested capital for each of the taxable years, on account of the tax paid within the year upon the income for the preceding year, is approved. Section 1207, Revenue Act of 1926. Appeal of Russel Wheel & Foundry Co., 3 B. T. A. 1168.

, Order of redetermination roiTl he entered on 15 days' notice, under Rule 50,


author: MoRRis:

text:
    Appeal of FR. BERGNER & CO.
    Docket No. 5546.
    Decided July 28, 1926.
    Replacement cost of depreciable assets as of March 1, 1913, depreciated from the date of acquisition to that date, can not, in the absence of other evidence, be accepted as the value for depreciation allowances for the taxable years in question.

      Elmer L. Hatter, O. P. A., for the petitioner.

      F. O. Graves, Esq., for the Commissioner.
    Before Marquette, Morris, and Geeen.
    This is an appeal from the determination of deficiencies in income and profits taxes for the years 1919 and 1920 in the amounts of $527.18 and $384.36, respectively. The only issue presented is the value of the taxpayer’s building for purposes of depreciation.
    FINDINGS OF FACT.
    1. The taxpayer is a Delaware corporation with its principal place of business at Baltimore, Md.
    2. During the years involved the taxpayer owned a building, erected by it during 1905 and 1906, and located at Paca and Cross Streets, Baltimore. The total cost of this building was $90,779.84. The reproduction cost of said building as of March 1, 1913, was $156,534.51.

      3. The Commissioner allowed depreciation based on cost at the rate of 2 per cent for the taxable years in question.
   OPINION.

MoRRis:

The only question presented to us for consideration is the basis for depreciation allowances for the taxable years in question, both parties agreeing that 2 per cent is a reasonable rate.

Through the use of the original contractor’s records of material and labor used in the erection of the building, the taxpayer has established the March 1, 1913, replacement cost, using material and labor prices on that date. It contends that this cost, depreciated from the date of the completion of the building in 1906 to March 1, 1913, should be taken as the basis for computing its depreciation deductions for the taxable years in question.

We have heretofore held that replacement cost as of March 1, 1913, even if properly depreciated, does not necessarily prove the fair market value as of that date. Appeal of Kinsman Transit Co., 1 B. T. A. 552; Appeal of Valley Steamship Co., 1 B. T. A. 1107; Appeal of Rockford Malleable Iron Works, 2 B. T. A. 817; Appeal of Chicago Railway Equipment Co., 4 B. T. A. 452.

The deficiencies are $527.18 for 1919 and $384.86 for 1920. Order will be entered accordingly.


author: Littleton:

text:
    Appeal of SOUTH BEND SUPPLY CO.
    Docket No. 5268.
    Decided July 28, 1926.

      K. N. Parkinson, Esq., for the petitioner.

      J. K. Moyer, Esq., for the Commissioner.
    Before Littleton, Smith, and Trtjssell.
   Littleton:

The petitioner questions the correctness of the Commissioner’s determination of a deficiency .in income and profits tax for the calendar year 1918 in the amount of $14,745.55, in so far as it results from the disallowance of a deduction from gross income of $6,400 as additional compensation of F. W. Long, its president.

FINDINGS OP FACT.

The petitioner is an Indiana corporation engaged in the sale of plumbing and heating supplies, at wholesale, with principal office at South Bend. It was organized in 1906, since which time F. W. Long has been. its president and majority stockholder. He has always had charge of the affairs of the company and looked after the purchases and sales. Prior to January 1, 1917, he had negotiated certain contracts for the company in the purchase of real estate. From the date of organization to 1917 his salary had been credited on the books of the company in the amount of $300 at the close of each month, and he drew against this account at his convenience.

Prior to and during 1917, F. W. Long borrowed from the company certain sums of money with which to purchase certain shares of its capital stock owned by other persons and for other purposes. The amounts thus borrowed from time to time were charged against him upon the books of the company in an account designated “ F. W. •Long Capital Account,” carried concurrently with his salary account. On January 1, 1917, the charges to the “F. W. Long Capital Account ” totaled $10,017.77, and during 1917 seven items were charged to this account aggregating $9,534.88, making a total of $19,552.65,

At a special meeting of the board of directors held on December 8, 1917, the board, among other things, transacted the following business as shown by the minutes:

A motion was duly made and supported that on account of the many years of faithful service, and undivided attention given to the affairs of the Company, purchases and contracts entered into for the acquiring of real estate, transfers of stock, etc., all of which being beneficial and responsible for the welfare of and profitable to the company, that the amount of $14,000.00 be credited to the Goodwill account of IT. W. Long, and charged against the earnings of the Company carried as a surplus account, and that the amount of $6,400.00 be so charged and credited for the year 1917. Motion carried.

On December 31,1917, the bookkeeper made an entry in the journal crediting the “ F. W. Long Capital Account ” with $14,000. This entry, however, was canceled and the account was credited with $6,400, and no entry was made upon the records of the company for 1917 with respect to the $14,000. As had been his custom, F. W. Long continued during the years 1918 and 1919 to make withdrawals from the company’s funds which were charged to his capital account. In March, 1919, an accountant was employed to audit the company’s books for the year 1918. In view of this intention the books had not been closed. During the course of his audit the accountant made inquiry concerning the charges to F. W. Long. His attention was called to the resolution of December 8, 1917, and he was advised that F. W. Long should have been credited with $6,400 additional salary for the year 1918. The accountant considered the December 8, 1917, resolution as authorizing the crediting of F. W. Long’s account with $14,000 for' services in prior years, and with the amount of $6,400 as additional compensation for the year 1917, but reported to the officers that tijp.is resolution was uncertain and indefinite as to any additional compensation for the year 1918. Thereupon, a special meeting of the board of directors was called on March 15, 1919, and the following resolution was adopted:

Special Directors Meeting of the South Bend Supply Company was called to order by the President, F. W. Long, in the office of the company, 324 So. St. Joe St., Directors present:
F. W. Long L. R. Smith
This meeting was called for the purpose of correcting and making clear the records of the meeting held December 8, 1917. The following motion was made and seconded:
Moved that records of Directors’ Meeting held December 8th, 1917, be corrected to read as follows: That the sum of $14,000.00 (Fourteen Thousand) Dollars he set aside out of the earned surplus of the company as a reserve for the future payment to P. W. Long for special services rendered to the Company : the said reserve to be credited on December 31, 1921, or sooner if so directed by the Board of Directors. This reserve shall be binding and in full effect from and after December 8th, 1917, and shall not be subject to dividend at any future period. Motion carried.
Moved that the salary of the President shall be increased from $3,600.00 (Thirty-six Hundred) Dollars per annum to $10,000 (Ten Thousand) Dollars per annum, and that his salary begin as of January 1st, 1917, and to continue until changed by Board of Directors. Motion carried.

Upon the adoption of this resolution the accountant made an adjusting entry crediting the “ F. W. Long Capital Account ” with $6,400 additional compensation for 1918.

The entries appearing in the “ F. W. Long Capital Account ” upon the ledger were as follows:

CHARGES. CREDITS.
Tan. 1, 1917 BrtPord— $10,017.77 Dec. 26,1917_ $6, 400. 00
Nov. 6_ 600. 00 Dec. 31,1918 Div_ 3,184. 00
Dec. 30_ 880. 00
30_ 1,160. 00
Nov. 18_ 2,000.00
Dec. 31_ 2,142.60
31_ 2, 211. 38
31_ 641. 00
Mar. 2, 1918_ 160.00
Aug. 19_ 260.00
Oct. 21_ 3, 681. 25
Dec. 6_ 3, 000. 00
30_ 800. 00
Jan. 9, 1919- 1,594.42
Mar. 7_ 1, 850. 00
Dec. 31 Adj. Yo_ 2,600.00 Dee. 31 Adj. 19_ 6, 400. 00
July 21_ 600. 00 Sept. 25- 1, 850.00
Dec. 29 Trf from A-66_ 1, 000. 00 Dec. 31 Por’d_ 16,600.00
Dec. 31,1919 BrtPor’d__ 16,600.00 31 To personal Acet_ 544. 32
May 31- 14, 000.00
July 28 Transferred from
P. W. Long
pers- 1, 098. 90
Peb. 28 Transferred to
Pers. Acct-■ 1, 501.10
Judgment for the CommissionsT,


author: Tetjssell

text:
    Appeal of CHATTANOOGA MATTRESS CO.
    Docket No. 3714.
    Decided July 28, 1926.
    March 1, 1913, value of land. — Comparative selling values of (wo nearby tracts of land shortly prior to and following March 1, 1913, held, to be proof of the March 1, 1913, value of petitioner’s property.

      Charles C. Moore, Esq., for the petitioner.

      L. C. Mitchell, Esq., for the Commissioner.
    Before Smith, Littleton, and Trussell.
    This is an appeal from the determination of a deficiency in income and profits taxes for the years 1919 and 1920 in the amount of $3,187.30, reduced to $3,159.91 by the OArerassessment of $27.39 for the year 1921. The deficiency arose chiefly from the refusal of the Commissioner to accept the March 1, 1913, value placed upon certain real property by the taxpayer for the purpose of computing the gain from the sale in 1919.
    FINDINGS OF FACT.
    The taxpayer is a Tennessee corporation with its principal office at Chattanooga.
    On July 1, 1912, the taxpayer purchased for $8,500 lot No. 2, 50 by 243 feet, located on the corner of Market and First Streets, Chattanooga, and on August 1, 1919, sold the property for $15,000. On this property was a two-story brick building about 50 by 100 feet. It was in bad condition, had been vacant for a number of years, and was about 20 years old at the time the property was acquired. Some repairs were necessary before the taxpayer could occupy the building.
    On June 20,1912, there was sold for $6,500 lot No. 5, 50 by 200 feet, located on Market Street between First and Second Streets. On this property was a two-story brick building in good condition.
    On May 1,1913, there was sold for $12,000 lot No. 7, 59 by 200 feet, located on the corner of Market and Second Streets. On this property were some dilapidated wooden shacks of little or no value. In June, 1912, lot No. 7 had no greater value than lot No. 5.
    In January or February, 1913, the Chattanooga Mattress Co. received an offer of $12,500 for its property but refused it. Thereafter, the taxpayer, in making up the inventory of its assets, advanced the value of its property to $12,500 on its books.
    On May 1, 1909, a bill was enacted by the General Assembly of t-he State of Tennessee authorizing Hamilton County to construct a bridge across the Tennessee River from Chattanooga to the north bank of the river, and to issue in payment of the same the bonds of the said county in an amount not to exceed $250,000.
    On February 17, 1911, the said General Assembly, by enactment, authorized the construction of the bridge across the Tennessee River from Market Street, in the City of Chattanooga, to the north bank of the said river, and to issue and sell, for the purpose of paying' for the bridge, negotiable coupon bonds in an amount not to exceed $875,000.
    On July 10, 1911, the Quarterly County Court of Hamilton County, Tennessee, in accordance with the authority conferred on the county by the Act of February 17,1911, of the General Assembly, appointed the Market Street Bridge Commission to employ a competent engineer to make all necessary surveys, plans and specifications for the construction of the bridge, and to supervise the work.
    On September 18, 1913, the General Assembly repealed the Acts of 1909 and 1911 and enacted a bill, the pertinent part of which is as follows:
    Section 1. Be it enacted by tbe General Assembly of the State of Tennessee, that the County of Hamilton, through its Quarterly Court, a majority of the members of said Court concurring, be, and the same is, hereby authorized and empowered to construct a bridge for county purposes across the Tennessee River, in said Hamilton County in Tennessee, from Market or Broad Street, in the City of Chattanooga, to the north side of the river, and to issue and sell for the purpose of paying for same its negotiable coupon bonds in an amount not exceeding $500,000.
    On October 6, 1913, the Quarterly County Court passed the following resolution:
    RESOLUTION- — TITLE, PROVIDING POR THE APPOINTMENT BY THE COUNTY JUDGE OP A SPECIAL COMMITTEE OP PIVE TO REPORT BACK TO THE JANUARY TERM AS TO THE ADVISABILITY OP BUILDING A NEW BRIDGE AT MARKET STREET.
    Resolved, That a committee of five, consisting of three members of the Court and two citizens, be appointed by the County Judge to report back to the January Term of the Court the advisability of building a new bridge at Market Street, the repairing of the Walnut Street Bridge, and any other facts necessary to enable the Court to act on these questions.
    On motion of Esquire Donelson, seconded by Esquire Humphreys, the foregoing resolution was adopted as read.
    On January 6, 1914 the Quarterly County Court appointed a committee to adopt plans, employ engineers, make contracts,. and to superintend the erection of a bridge across the Tennessee River from Market Street to the north bank, the cost not to exceed $500,000.
    There were no proceedings during the January, 1913, term of court concerning the bridge.
    The taxpayer claims that the March 1, 1913, value of $12,500 was due to the decision to locate the bridge at Market Street while the Commissioner claims that there was no definite decision by the CountY Court until January, 1914, and that the March 1, 1913, value was $8,500.
    The taxpayer, in its petition, alleges minor errors in depreciation, disallowance- of expenses omitted by the taxpayer by mistake, and adjustment of income taxes.
   OPINION.

Tetjssell

: The main issue presented in this appeal - involves the March 1, 1913, value of certain real property acquired by the taxpayer on July 1, 1912, for $8,500 and sold on August 1, 1919, for $15,000. The taxpayer, in support of its claim that the March 1, 1913, value was $12,500, contends that, in view of the decision to build a bridge across the Tennessee River from Market Street to the north bank, the property values were greatly increased prior to March 1, 1913. The Commissioner, in support of his claim that the March 1, 1913, value was $8,500, the amount of the purchase price on July 1, 1912, contends that there was no change in the status of the bridge question from the date of the purchase until January, 1914, and consequently no increase in the value of the property during that period.

The public records set out in the findings of fact show that the final action locating the bridge at Market Street was in January, 1914, but there had been some agitation since 1909 for the building of a bridge, and from the evidence it seems that public opinion had crystallized in the latter part of 1912 and in the early part of 1913, and centered on the location of the bridge at Market Street. The demand for property is what sets the price-, the same as for any commodity, and the offer made áor a certain piece of property and the sale price of nearby property is the best evidence of the value of that piece of property. In June, 1912, there was sold for $6,500 lot No. 5, 50 by 200 feet, with a two-story brick building thereon. In May, 1913, there was soid for $12,000 lot No. 7, 50 by 200 feet, with improvements of little or no value, and the same lot was worth no more than $6,500 in June, 1912. The taxpayer bought in July, 1912 for $8,500 lot No. 2, 50 by 243 feet, with a two-story brick building thereon, and in January or February of 1913 received an offer of $12,500 for the property.

Whether or not the County Court had finally decided to locate the bridge at Market Street, the- General Assembly of the State had authorized the construction of the bridge in that locality, public opinion had centered on Market Street as the location, and there was a demand for property on Market Street, thus increasing the value of the property. Property owners are always keen to sense the effect of coming events upon values of their property. They do not wait for the actual construction of a public improvement but they discount the effect of such improvement upon their, property values as soon as the expectancy of such improvement has become fixed in the public mind, and both sellers and buyers seek to benefit from the anticipated effect of such improvements. The two sales herein referred to as made in June and July, 1912, and the sale made in June, 1913, seem to be convincing evidence that the increase in. the value of properties in the neighborhood in question took place between July, 1912, and June, 1913. We are of the opinion that the gain realized from the sale of the property in question should be computed on the basis of a March 1, 1913, value of $12,500, and have so found. In all other respects the determination of the Commissioner is approved.

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


author: Trammell

text:
    Appeal of STOLLWERCK CHOCOLATE CO.
    Docket No. 6030.
    Decided July 28, 1926.
    ' The cost of buildings, machinery, furniture and fixtures determined for depreciation purposes.

      Walter M. Maguire, Esq., and Franh 8. Bright, Esq., for the petitioner.

      Arthur EL. Fast, Esq., for the Commissioner.
    Before Phillips and Teammell.
    Taxpayer appeals from the determination of a deficiency of $2,889.49 income and profits taxes for 1920, and alleges that the Commissioner committed error in his determination of the cost to taxpayer of its buildings, machinery and furniture, which cost was used as the basis for determining the proper deduction for depreciation of such assets.
    FINDINGS OP PACT.
    The taxpayer is a corporation organized in February, 1919, under the laws of Massachusetts, with 12,500 shares of preferred and 20,000 shares of common stock of the par value of $100 per share. On its organization it acquired the business and all of the assets of Stoll-werck Brothers, Inc., a corporation organized in 1908 under the laws of Connecticut.
    Stollwerck Brothers, Inc., was engaged in the manufacture and sale of cocoa and cocoa products. All of the stock of that company, with the exception of 335 shares, was owned by alien enemies and was taken over by the Alien Property Custodian in 1917. In 1918 this stock, consisting of 6,000 shares of preferred and 6,165 shares of common, was sold by the Alien Property Custodian at public auction for $1,503,390. There were present at the auction some twenty buyers, of whom six or seven made bids for the stock. The balance of the stock, 335 shares, which was owned by others, was subsequently sold at private sale for $55,610 to the same interests which had purchased the stock upon the auction sale.
    On February 13, 1919, about two months after the auction sale, Stollwerck Brothers, Inc., offered in writing to sell to the taxpayer all its “ business, trade-marks, trade names, patents, applications for patents, licences, secret processes, good will, real estate, security, contracts, cash, accounts receh^able, claims, choses in action, merchandise, materials, supplies, implements, machinery and all other assets, real, personal and mixed ”, as a going concern, together with the use of the name of Stollwerck Chocolate Co. or a similar name, for $1,000,000 par value of first preferred stock, $1,999,700 par value of common stock of the taxpayer, both fully paid and non-assessable, and $300 in cash; the taxpayer to “ pay, satisfy, discharge, perform and fulfill all the debts, liabilities, contracts and obligations ” of Stollwerck Brothers, Inc.
    Accompanying said offer was a statement of assets and liabilities of Stollwerck Brothers, Inc., other than capital stock, as of January 2, 1919, as follows:

      Assets:

    Cash_ $129, 378. 84
    Accounts receivable_ 314, 312. 02
    Notes receivable-- 17, 212. 00
    Inventories_ 835, 315. 75
    U. S. Liberty bonds at cost- 85, 000. 00
    Prepaid charges- 33, 572. 48
    Investments_ 50, 860. 00
    Plant at “ sound value ” appraised by Central Construction
    Co. on basis 1918 reproduction cost_ 1, 516, 936. 00
    Good will, trade-marks, etc_ 655, 645. 00
    3, 638, 232. 07

      lAabiUties:

    Notes payable- $345,000. 00
    Accounts payable- 37,479. 88
    Savings fund deposits_ 170, 683.71
    Mortgage on factory_ 25, 000. 00
    Reserve for Federal taxes 1918_ 11, 000. 00
    Accrued state and municipal taxes_ 7, 546. 03
    596, 619. 62

      The item “Plant at Sound Value Appraised by Central Construction Company on basis 1918 reproduction cost $1,516,936,” was made up of the following items:
    Land_ $112,150.00
    Buildings and miscellaneous structures_ 442,409.00
    Machinery and equipment therefor_ 753,115. 00
    Furniture and fixtures_ 11, 401. 00
    Organization and legal expenses, engineering and supervision, interest, taxes and insurance, during construction, and general contingencies, 15 per cent of the above_ 197, 861.00
    Total___ 1,516, 936. 00
    The above offer of Stollwerck Brothers, Inc., was accepted on February 13, 1919, by the taxpayer. All the assets of Stollwerck Brothers, Inc., were transferred and conveyed to the taxpayer for the considerations and upon the conditions above set forth.
    In computing its income for 1920 taxpayer claimed as a deduction an allowance for depreciation based upon a cost to it of such assets as follows:
    Buildings___$442, 409. 00
    Machinery-.!-!_ 753,115. 00
    Furniture and fixtures__1_ 11,401. 00
    In computing the net income upon the basis of which the deficiency is determined, the Commissioner determined the cost of such assets to the taxpayer tó be as follows:
    Buildings___i_$180,771.70
    Machinery__ 270,463.42
    Furniture and fixtures_ 4,115.21
    and computed depreciation upon that basis.
    As at the close of business on December 31, 1918, these assets were carried upon the books of Stollwerck Brothers, Inc., as follows:

    During the entire period of its existence dividends had been paid on the common stock of Stollwerck Brothers, Inc., at the rate of 10 per cent per annum, and on the preferred stock at the rate of 6 per cent per annum. The taxpayer’s income for 1919, the first year of its existence, was $621,894.51.
    At least 6,000 shares of each class of stock of the taxpayer were sold to the public at $97.50 per share for preferred and $92 per share for common.

      During 1919 and 1920 the taxpayer acquired depreciable assets as follows:

   OPINION.

Trammell

: The taxpayer in its tax return claimed a deduction for exhaustion, wear and tear of its buildings, machinery, and furniture and fixtures in the sum of $97,079.03, which the Commissioner reduced to $62,722.30. There is no question between the parties as to the proper rate of depreciation or as to the depreciation to be allowed on assets purchased after taxpayer had taken over the business of Stollwerck Brothers, Inc. The sole question involved is the cost to the taxpayer of the depreciable assets acquired from Stoll-werck Brothers, Inc.

In 1917 the stock of Stollwerck Brothers, Inc., consisted of 6,000 shares preferred and 6,500 shares common of the par value of $100 each. Except for 335 shares, this stock was owned by enemy aliens and was taken over by the Alien Property Custodian. In the latter part of 1918 the stock owned by the Custodian was sold at public auction for $1,503,390, and the remaining 335 shares were acquired by the same interests for $55,610, a total purchase price of $1,559,000 for the equity of the stockholders in the company. Two months after the auction the purchasers caused the taxpayer to be organized and the assets, subject to the liabilities, to be transferred to it in exchange for $1,000,000 par value of preferred stock, $1,997,000 par value of common stock, and $300 cash. This stock was then offered to the public at $97.50 per share for the preferred and $92 per share for the common, and a substantial amount is shown by the testimony to have been sold at that price.

The parties are agreed, and there seems to be no reason to doubt, that in such circumstances as these the cost of the property is measured by the value of the stock issued therefor. The value of the stock is in turn measured by the market value of the assets acquired, including good will. The regulations of the Commissioner prescribe that, in such circumstances, the basis for depreciation is the fair market value of the property acquired for the stock and, in this appeal at least, we see no reason for questioning the correctness of that basis.

The Commissioner contends that the fair market value of the property transferred is to be measured bv the erice of stock of Stollwerck Brothers, Inc., sold at auction and private sale; namely, $1,559,000 for the assets in excess of liabilities. Taxpayer claims that the fair market value is established by opinion evidence and sales of the stock of taxpayer to the public. The opinion evidence was based upon estimated cost of reproduction less theoretical depreciation. The reproduction cost new of assets less an amount of depreciation based on an arbitrary formula does not necessarily establish the value of the assets. Appeal of Kinsman Transit Co., 1 B. T. A. 552; Appeal of Valley Steamship Co., 1 B. T. A. 1107; Appeal of Rockford Malleable Iron Works, 2 B. T. A. 817; Appeal of Tibby-Brawner Glass Co., 2 B. T. A. 918. Nor is the evidence of the price at which some of the stock of the taxpayer was sold to the public sufficient in our minds to establish the value either of the stock or assets acquired, in the absence of some showing as to the manner and volume in which sales were made. Appeal of Fruen Investment Co., 2 B. T. A. 542; Appeal of Automatic Transportation Co., 3 B. T. A. 505; Appeal of Kennedy Construction Co., 4 B. T. A. 276. The record indicates that most of the sales of the common stock, at least, were made in small blocks of from two to- twenty-five shares.

While sales at auction .are not always the best criterion of value, and certainly are not conclusive, we believe that in this instance the actual value of the whole property is more nearly established by the auction sale than by any other testimony before us. There were some twenty buyers present, seven or eight of whom made bids for the property. The Commissioner claims that he has determined the cost of the depreciable assets by an apportionment of the price at which the stock sold at auction. In making this apportionment he has given to these assets a value less than the depreciated cost as shown on the books of the predecessor corporation. In this respect we believe that error has been committed. While we accept the basis used by the Commissioner in determining the cost of all the assets, tangible and intangible, we are of the opinion that the apportionment should be changed. The business taken over by the taxpayer had been profitably operated for several years and the depreciation taken during the years of operation, in so far as the record goes, has not been questioned by the Commissioner. In such circumstances, there is no reason to believe that these assets had a less value than their depreciated cost to the predecessor. It is conceivable that they had a greater value, but the evidence is not sufficient to justify us in determining any greater amount. The deduction for depreciation should be recomputed upon the basis of the depreciated cost to the predecessor company, as set out in the findings, and the deficiency should be recomputed accordingly.

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


author: Phillips

text:
    Appeals of UNION UNDERWRITERS OF NEW YORK, UNDERWRITERS AT GREAT WESTERN LLOYDS, and NATIONAL UNDERWRITERS OF AMERICA.
    Docket Nos. 6037-6039.
    Decided July 28, 1926.
    In the case of an insurance company which retires from business and reinsures its policy risks, paying for such reinsurance an amount equal to the unearned premiums on the policies, the net decrease in reserves for unearned premiums is properly to be included in computing gross income.

      Clarence A. Miller, Esq., and Robert 0. Beyer, Esq., for the petitioners.

      John D. Foley, Esq., for the Commissioner.
    Before Grattpner  and Phillips.
    Taxpayers appeal from determinations of deficiencies in income and profits taxes for 1919 as follows:
    Union Underwriters of New York_$7, 413. 67
    Underwriters at Great Western Lloyds- 7, 644.27
    National Underwriters of America_ 2, 393.28
    The question of law involved in each case being the same, the cases were heard and submitted together.
    FINDINGS OF FACT.
    The taxpayers were, in 1919, voluntary associations with their offices in the City and State of New York, and engaged in writing fire insurance.
    On January 1, 1919, the taxpayers had reserves for. unearned premiums as. follows:
    Union Underwriters of New York_:_$50, 711. 04
    Underwriters at Great Western Lloyds_ 49, 898.18
    National Underwriters of America_ 23, 548. 99
    As of April 22, .1919, the taxpayers retired from the insurance business and reinsured the outstanding liability on all policy contracts with the United States Fire Insurance Co. As consideration for such reinsurance the taxpa3rers paid in cash the amount of the unearned premium reserve on all policies as of the date of reinsurance and on December 31, 1919, had no unearned premium reserve.
    In computing the deficiencies the Commissioner included in gross income of the respective taxpayers the amount of their unearned premium reserve at the beginning of the period, and allowed as a deduction the amounts paid for reinsurance.

       This decision was prepared during Mr. Graupner’s term of office.

   OPINION.

Phillips

: It is stipulated that the taxpayer associations are subject to income and profits taxes for 1919 as corporations.

The policies written by the taxpayers expired at various times. Premiums received covered insurance protection for a period subsequent to the calendar year in' which payment was made. Under these circumstances the law permitted the taxpayers to set up reserves for the premiums paid to them but not earned during the taxable year. Any increase in the reserve was alloAvable as a deduction in computing net income. In this manner the insurance companies returned premiums as income, in the year in which the premium was earned; not the year in which the premium became due or was paid.

The unearned premium reserves of these taxpayers as of January 1, 1919, represented the amounts of premiums already received, but to be earned in the future by the performance of the contract of insurance over such future period of time. ; During the year 1919 the taxpayers retired from the insurance business and reinsured the outstanding liability upon their policies. For such reinsurance the taxpayers paid amounts equal to the unearned premium reserve at the time of such insurance and these payments have been allowed as deductions by the Commissioner. The taxpayers accept the allowance of these deductions but protest the action of the Commissioner in making corresponding increases in income. , .

The transactions are susceptible of two methods of treatment, either of which leads to the same result. If the reinsurance of the risks took such a form that it is to be considered to result in a novation of contract, the insured releasing the original insurer and accepting a new insurer, we must hold that the unearned premium reserves were then earned by the taxpayers and are to be included in gross income.

If, on the other hand, the taxpayers still remain liable on their contracts of insurance, and the payments which they made are to be construed as consideration for a collateral agreement to indemnify them against loss, then we are of the opinion that a capital asset was purchased and that the Commissioner erred in allowing the deduction of that part of the payment which purchased reinsurance for any period beyond the taxable year. On that basis the taxpayers would be entitled to deduct only payments for reinsurance to be performed within the year, and would be required to include in net income premiums earned during the entire year.

In the present instance the amounts paid for reinsurance equal the reserves for unearned premiums at the time the reinsurance was written. Whatever theory be followed, the net result must be that these taxpayers are required-to return as income the actual amounts of premiums earned during the year, less the amounts j>aid for any reinsurance performed within the year. In the present instance this net result has been reached, for the amounts finally included by the Commissioner are the premiums earned by the respective taxpayers to the date when the reinsurance contracts became effective. After that date the taxpayers could sustain no profit or loss under their policies unless and until the reinsurer failed to perform its obligation.

The taxpayer relies upon that portion of the decision of the Supreme Court in Maryland Casualty Co. v. United States, 251 U. S. 342; 40 Sup. Ct. 155; 3 Am. Fed. Tax Rep. 3010, which holds that the amount deducted as a reserve “ can be restored to income again, only where it is clearly shown that subsequent business conditions have released the amount of them to the free beneficial use of the company in a real, and not in a mere bookkeeping sense;” In that case the court had under discussion other reserves as well as those for unearned premiums, but, if we consider this language applicable to the present case, the test has been met. As we have pointed out, the net result of the Commissioner’s action is to include in income only premiums earned during the year. Certainly these funds, whether received in cash or released from reserve, are available for the free beneficial use of the company, even to the payment of dividends therefrom. The result reached being correct, we need not determine whether the theory followed by the Commissioner was correct.

The deficiencies for 1919 are determined to be as follows: Union Underwriters of New York $7,4-13.67; Underwriters at Great Western Lloyds, $7,644.27; National Underwriters of America, $2,393.28. Orders of redetermination will be entered accordingly.

Smith concurs in the result only.