text:
    The Hygienic Products Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 86726.
    Promulgated January 26, 1938.

      Meyer A. Cook, Esq., Fred Warak, Esq., and John E. O. Feller, G. P. A., for the petitioner.

      T. M. Mather, Esq., for the respondent.
   opinion.

Mellott:

The Commissioner made several adjustments to the net income shown by the return of the petitioner for the year 1934 and determined a deficiency in its income tax for said year in the amount of $12,645.83. Petitioner concedes that all of the adjustments were properly made with the sole exception of the disallowance by the Commissioner of a credit against the tax in the amount of $10,848.30 representing income taxes paid by the petitioner in 1934, to the Dominion of Canada for the years 1930 to 1933, inclusive, and which it contends should have been allowed under section 131 of the Revenue Act of 1934. The Commissioner did, however, allow a credit in the amount of $550.59 for taxes accrued during tlie year 1934 for income taxes due the Dominion of Canada and petitioner does not contend that such credit was improper.

The sole issue is whether or not the Commissioner erred in disallowing $10,848.30. Most of the facts were stipulated. The stipulation, exclusive of signatures and purely formal parts, is as follows:

1. The petitioner, an Ohio corporation, filed its income tax return for the taxable year 1934 with the Collector of Internal Revenue, 18th Collection District, Cleveland, Ohio.
2. The petitioner has been engaged in business in the Dominion of Canada for a period of more than fifteen years, being represented by Harold F. Ritchie and Company, Ltd., manufacturers representatives. The manner of doing business of the petitioner and its representative in Canada has been the same during the entire period.
3. The Dominion of Canada in the year 1924 enacted an income tax law. The petitioner’s representative in Canada advised the petitioner that it was not amenable to the income tax law of the Dominion of Canada and, accordingly, no. returns for Canadian income tax were filed by the petitioner.
4. The Dominion of Canada on August 22, 1933, requested the petitioner to file income tax returns for the years 1930, 1931, 1932 and 1933. Thereafter Dominion of Canada income tax returns were filed by the petitioner for the years 1930, 1931, 1932 and 1933 under respective dates of November 14, 1933, November 14,1933, September 19,1933 and June 19, 1934.
5. Petitioner contested the imposition of any income tax by the Dominion of Canada on the theory that it was not doing business in the Dominion of Canada within the purview of the income tax law of the Dominion of Canada and it was not definitely determined to the satisfaction of the petitioner that it was amenable to the income tax law of the Dominion of Canada until July-25, 1934, at which time payment was made to the Dominion of Canada in the sum of $9,722.33, representing taxes, penalties and interest for income taxes due the Dominion of Canada for the years 1930, 1931 and 1932. On November 26, 1934 payment was made to the Dominion of Canada in the sum of $1,125.97, representing taxes, penalty and interest due the Dominion of Canada for the year 1933.
6. The income tax returns of the petitioner filed with the Collector of Internal Revenue at Cleveland, Ohio, have contained the following information:
“Basis of Return
6. Is this return made on the basis of cash receipts and disbursements? No.
If not, describe fully what other basis or method was used in computing net income. Accrual.”
The petitioner has consistently throughout its corporate existence treated the sales of its product and other property as income when such sales were made whether or not the cash was collected at the time of making the sale. Inventories of goods on hand are used at the beginning and end of each year in determining the cost of goods sold, even though in the cost of goods sold there are or may be items of inventory that are not paid for nor charged to “Purchases” in the year in which the inventory is effective. The expenses of the petitioner have consistently been recorded only as the cash was disbursed, even though there appears at times an item on the balance sheet called “Accounts Payable,” which is in each instance a customer’s credit balance and not unpaid purchases or expenses. The petitioner has never accrued on its books or its returns any Federal, State, County, Municipal or other taxes owing at the end of the taxable year. The Commissioner in adjusting the petitioner’s returns has accrued these taxes.

We find the facts to be as stipulated and in addition make some observations with reference to the testimony of the only witness called — a certified public accountant employed by the petitioner. We decline to make the findings of fact suggested by petitioner upon brief, based upon the testimony of such witness; for we can not find, as a fact, that the system of bookkeeping employed by the petitioner clearly reflected its income, though the witness stated that it did. In this connection it may be pointed out that the witness testified that representatives of the Department had consistently taken the position that such system did not clearly reflect petitioner’s income and year after year had adjusted it by the addition or elimination of several hundred dollars in connection with its bookkeeping methods showing the payment or accrual of taxes. Nor should it be found as a fact that “the Commissioner at no time for fourteen years requested that petitioner change its system of making the return,” even though the witness categorically - so testified; for the statute, section 41, Revenue Act of 1934, provides that “if the method employed does not clearly reflect the income, the computation shall be made in accordance with such method as in the opinion of the Commissioner does clearly reflect the income. * * * ” The facts pointed out above indicate that the Commissioner had applied the quoted language year after year and it was unnecessary for him to make any formal request of the petitioner to change its system of bookkeeping. We do, however, find as a fact, in addition to the facts stipulated, that petitioner paid its bills currently; that its cash position had consistently been such that it could, and did, pay its bills as soon as they were received and approved for payment; and that the first foreign tax which it ever paid was in June or July of 1934.

The portions of section 131 of the Revenue Act of 1934 deemed pertinent to the issue are shown in the margin.

It has been pointed out above that section 41 of the applicable revenue act authorizes the Commissioner to make a computation in accordance with such method as in his opinion clearly reflects the income of a taxpayer if the method employed by it in keeping its books does not do so. In addition it may be pointed out that section 43 of the same act provides that the deductions and credits allowed under the income tax law “shall be taken for the taxable year in which ‘paid or accrued5 or ‘paid or incurred5, dependent upon the method of accounting upon the basis of -which the net income is computed, unless in order to clearly reflect the income the deductions or credits should be taken as of a different period.” Under these sections and in accordance with law, the Commissioner year after year had adjusted the Federal income tax returns filed by the petitioner by eliminating the deductions which, though proper under the cash receipts and disbursements basis, were improper under the accrual basis or method of keeping its books. Apparently the petitioner has never questioned the Commissioner’s right to make such adjustments prior to the taxable year. But is such adjustment proper for the taxable year? Petitioner contends that it is not.

In support of petitioner’s contention that the respondent erred in making the adjustments to its income for the taxable year it points out that it had always made its returns under a “hybrid” system, its receipts being on the accrual basis and its expenses being on the cash basis; that the' Commissioner had always “accepted such returns” and “it must be presumed that the accounting method employed by the petitioner clearly reflected” its income. The hybrid system of accounting is ímt proper, Massachusetts Mutual Life Insurance Co. v. United States, 288 U. S. 269; Maine Dairy Co., 4 B. T. A 375; Niles Bement Pond Co. v. United States, 67 Ct. Cls. 693; affd., 281 U. S. 357; John I. Chipley, 25 B. T. A. 1103; Coatesville Boiler Works, 9 B. T. A. 1242; and Edwards Drilling Co., 35 B. T. A. 341, on appeal to 5th C. C. A.; and the system used being predominantly the accrual method, the respondent was clearly justified in setting-up petitioner’s income on that basis. The return on its face showed that petitioner has chosen to use such basis. It should not complain because the respondent has done so. In so far as the contention that the respondent had accepted “hybrid” returns is concerned, the evidence shows, as pointed out above, that the Commissioner had, in each instance, eliminated the deductions which were not allowable under the accrual method of accounting and added the amounts which were allowable, whether they had actually been paid or not. The contention that any such presumption as that referred to by the petitioner exists is manifestly erroneous. The method of accounting employed by a taxpayer is never conclusive; Brown v. Helvering, 291 U. S. 193, and the Commissioner is required to make the proper computation. United States v. Anderson, 269 U. S. 422.

Under the accrual method of accounting,' items must be accrued when all events have occurred which show that there is an actual indebtedness to or from the one keeping his books on such basis. Cf. H. Liebes & Co., 34 B. T. A. 677; affd., 90 Fed. (2d) 932. Taxes stand upon the same footing. United States v. Anderson, supra. If all the events have occurred “which fix the amount of the tax and determine the liability of the taxpayer to pay it” it must be accrued. Aluminum Castings Co. v. Routzahn, 282 U. S. 92; Elmihirst v. Duggan, 14 Fed. Supp. 782; Great Northern Railway Co., 30 B. T. A. 691; Continental Baking Corporation, 30 B. T. A. 354; affd., 77 Fed. (2d) 119; and Russell-Miller Milling Co., 27 B. T. A. 405; affd., 69 Fed. (2d) 392.

Russell-Miller Milling Co., supra, involved the allowance of a credit under the Revenue Act of 1928 for the fiscal year ended August 31, 1929, for British income taxes of prior years. The essential facts were somewhat analogous to the facts in the instant proceeding and the section of the revenue act applicable, i. e., 131 (d) of the Revenue Act of 1928, was substantially identical with 131 (d) of the act applicable here. Therein the Board said:

* * * The exception mentioned in section 131 (d) permits a taxpayer at his option to accrue the credit prior to the year of actual payment, even if reporting on a cash basis, but does not authorize a taxpayer reporting on the accrual basis, as was the petitioner, to postpone taking the credit until the foreign taxes are actually paid in a subsequent year. We can not extend the scope of the statute by implication.

But, says petitioner, in view of the fact that it “consistently and steadfastly maintained until July, 1934, that it was not amenable to the Canadian income tax law” there “was, at best, a contingent liability.” Petitioner therefore cites and relies upon the line of cases which hold that in tort cases or in contested actions for the breach of a contract the liability to respond in damages, ultimately fixed by the judgment of a court, is not to be accrued in the year the breach occurred but in the year that such liability becomes fixed. Bump Confectionery Co., 4 B. T. A. 50. Cf. H. Liebes & Co., supra. The cited rule, though sound and to be applied in similar cases, is not applicable here. The fact that petitioner denied that it owed the Canadian Government any tax does not make its liability contingent. Cf. Brooklyn Union Gas Co., 22 B. T. A. 507; Russell-Miller Milling Co., supra; and Hecla Mining Co., 35 B. T. A. 454. The amount of the tax and petitioner’s liability for the payment thereof were fixed by the laws of the Dominion of Canada. The amounts could have been ascertained by petitioner and accrued upon its books at the end of each of the years. If proper accrual had been made the amount would have been deductible, at petitioner’s election, under section 23 of the revenue act or a credit against its taxes due to the Federal Government could have been claimed in its returns of income under section 131. But the fact that no deduction was taken and no credit was claimed does not authorize the deduction in the taxable year. •

The deficiency determined by the respondent is approved.

Judgment will be entered for the respondent.

       SEC. 41. GENERAL RULE.
      The net income shall be computed upon the basis of the taxpayer’s annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping the books of such taxpayer; but if no such method of accounting has been so employed, or if the method employed does not clearly reflect the income, the computation shall be made in accordance with such method as in the opinion of the Commissioner does clearly reflect the income. If the taxpayer’s annual accounting period is other than a fiscal year as defined in section 48 or if the taxpayer has no annual accounting period or does not keep books, the net income shall be computed on the basis of the calendar year. (Eor use of inventories, see section 22 (c).)

       SEC. 131. TAXES OF FOREIGN COUNTRIES AND POSSESSIONS OF UNITED STATES.
      (a) Allowance of Credit. — If the taxpayer signifies in his return his desire to have the benefits of this section, the tax imposed by this title shall be credited with:
      (1) Citizen and domestic corporation. — In the case of a citizen of the United States and of a domestic corporation, the amount of any income, war-profits, and excess-profits taxes paid or accrued during the taxable year to any foreign country or to any possession of the United States; and
      + ****# *
      (b) Limit on Credit. — The amount of the credit taken under this section shall be subject to each of the following limitations:
      (1) The amount of the credit in respect of the tax paid1 or accrued to any country shall not exceed the same proportion of the tax against which such credit is taken, which the taxpayer’s net income from sources within such country bears to his entire net income for the same taxable year; and
      (2) The total amount of the credit shall not exceed the same proportion of the tax against which such credit is taken, which the taxpayer’s net income from sources without the United States bears to his entire net income for the same taxable year.
      (c) Adjustments on Payment of Accrued Taxes. — If accrued taxes when paid differ from the amounts claimed as credits by the taxpayer, or if any tax paid is refunded in whole or in part, the taxpayer shall notify the Commissioner, who shall redetermine the amount of the tax for the year or years affected, and the amount of tax due upon such redetermination, if any, shall be paid by the taxpayer upon notice and demand by the collector, or the amount of tax overpaid, if any, shall be credited or refunded to the taxpayer in accordance with the provisions of section 322. In the case of such a tax accrued but not paid, the Commissioner as a condition precedent to the allowance of this credit may require the taxpayer to give a bond with sureties satisfactory to and to be approved by the Commissioner in such sum as the Commissioner may require, conditioned upon the payment by the taxpayer of any amount of tax found due upon any such redetermination; and the bond herein prescribed shall contain such further conditions as the Commissioner may require.
      (d) Year in Which Credit Taken. — The credits provided for in this section may, at the option of the taxpayer and irrespective of the method of accounting employed in keeping his books, be taken in the year in which the taxes of the foreign country or the possession of the United States accrued, subject, however, to the conditions prescribed in subsection (c) of this section. If the taxpayer elects to take such credits in the year in which the taxes of the foreign country or the possession of the United States accrued, the credits for all subsequent years shall be taken upon the same basis, and no portion of any such taxes shall be allowed as a deduction in the same or any succeeding year.
      (e) Proof of Credits. — The credits provided in this section shall be allowed only if the taxpayer establishes to the satisfaction of the Commissioner (1) the total amount of income derived from sources without the United States, determined as provided in section 119, (2) the amount of income derived from each country, the tax paid or accrued to which is claimed as a credit under this section, such amount to be determined under rules and regulations prescribed by the Commissioner with the approval of the Secretary, and (3) all other information necessary for the verification and computation of such credits.


source: Caselaw Access Project

author: Tyson :

license: Public Domain

text:
    Edmund L. Munson, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 75078.
    Promulgated January 28, 1938.

      Newton K. Fox, Esq., and Adrian G. Humphreys, Esq., for tlie petitioner.

      Willis B. Lansford, Esq., for the respondent,
   OPINION.

Tyson :

The respondent has determined an income tax deficiency in the amount of $2,577.75 for the calendar year 1930 and the petitioner claims that he has made an overpayment of income tax for that year in the amount of $11,363.02.

Petitioner assigns as error (1) the inclusion of $108,250 in income for the year 1930, and alleges that such amount constituted petitioner’s distributive share of certain partnership profits for the year 1928 resulting from the sale or exchange of a New York Stock Exchange seat or membership constituting a capital asset of the partnership, and thus income to the petitioner taxable for the year 1928, whether distributed or not in that year; (2) in the alternative, the failure to tax such alleged profit as a capital net gain to petitioner in 1930; and (3) the failure to allow as a deduction for 1930 a claimed loss of $4,500 on' account of certain stock alleged to have become worthless in 1930.

1-2. The petitioner is an individual, residing in Mt. Kisco, New York, and from 1915 to December 31, 1928, he was a bond and stock broker.

In or about 1924 Joseph M. Adrian, Jr., acquired a seat or membership in the New York Stock Exchange. On July 1, 1925, Adrian and the petitioner entered into the following written agreement:

AGREEMENT made this first day of July, 1925, between Edmund L. Munson of Mount Kisco, New York, party of the first part, and Joseph M. Adrian, Jr., of Brewster, New York, party of the second part, witnesseth:
First: — The parties hereto agree to engage as co-partners for the transaction of the business of brokers and dealers in stocks, bonds and other securities, under the firm name of Munson & Adrian, and all profits and losses shall be apportioned equally between them.
Second: — Either of the parties hereto may terminate this agreement by giving ten days notice in writing to the other party.
Third: — The New York Stock Exchange membership of the party of the second part shall be carried on the firm books at a cost value of Ninety Six Thousand ($96,000.) Dollars. In the event of a dissolution of the copartnership, whether by act of the parties or by operation of law, the said membership shall be sold or retained by the said party of the second part, at his option. In the event that it is sold, the difference between the sale price and the cost value shall be charged or credited as loss or gain to the parties hereto in equal portions. In the event that it is retained, its liquidating value shall be fixed at a price which shall be midway between the price of the last preceeding and the next succeeding sale of other memberships, and in like manner the difference shall be charged or credited as loss or gain. Should the liquidating value as specified in the latter case, show a substantial profit, the party of the second part may discharge his obligation to the party of the first part, in the following manner: Ten Thousand ($10,000.) Dollars to be paid upon the liquidation of the partnership, the balance in annual installments of Ten Thousand ($10,000.) Dollars each, with interest at the legal rate until the entire amount shall be paid, except that should the party of the second part sell the said membership the entire unpaid balance shall become due and payable upon receipt of the sale price by the party of the second part. At the option of the party of the first part, the party of the second part, shall if possible to do so, obtain a bond in favor of the party of the first part, or secure the obligation in some other way, so that the said party of the first part may have the immediate use of the money.
Fourth: — The parties hereto agree that upon the dissolution of the co-partnership, in whatever manner accomplished, no estimate shall be placed upon and nothing shall be paid or allowed either party for any alleged or real good will of the firm. Furniture, fixtures and all other chattels which are the property of the firm are considered to have no value and in the event of dissolution by death, they shall be the absolute property of the surviving partner.
Fifth: — This agreement shall bind the representatives, executors, administrators and assigns of the parties hereto.

The intention of petitioner and Adrian under their agreement to form a partnership was that they would engage in the business of brokers and dealers in securities and divide equally the profits and losses from such business. It was necessary for the partnership to have the use of a membership in the New York Stock Exchange if it were to receive the full commissions on its transactions, for if it did not have such use and dealt through a member of the Stock Exchange who was not a partner it would have been required to split its commissions. Under the rules of the Stock Exchange, membership in that Exchange could not be held in the name of a partnership, but must be held in the name of an individual. Adrian contributed the use of his membership in the Stock Exchange, which had cost him $96,000, was valued at the same amount on July 1, 1925, and was set up in that amount in the capital account of Adrian on the partnership books. Also, capital was necessary to enable the partnership to carry margin accounts. Petitioner contributed to the partnership $50,000 cash, plus certain securities which were set up in the capital account of petitioner on the partnership books on July 1, 1925, and his capital contributions were thereafter increased to the extent that by 1928 his total contributions amounted to $100,000. Also, petitioner brought to the partnership of Munson & Adrian former customers of his who constituted about 98 percent of all the firm’s customers in July 1925.

To comply with the requisites of a ruling of the New York Stock Exchange, petitioner and Adrian entered into the following supplemental agreement:

Agreement made this first day of November, 1927, between Edmund L. Munson of Mount Kisco, New York, party of the first part, and Joseph M. Adrian, Jr., of Brewster, New York, party of the second part, witnesseth:
First: — This agreement is supplemental to an agreement made the first day of July, 1925, between the parties hereto, and confirms the said agreement except as hereinafter provided.
Second: — The party of the second part, by contributing the use of his membership in the New York Stock Exchange, hereby expressly agrees that in so far as it is necessary for the protection of the creditors of said partnership said membership shall be an asset of said partnership.

On June 12, 1928, petitioner and Adrian entered into the following agreement for dissolution of the partnership of Munson & Adrian on June 30, 1928:

Agreement made this 12th. day of June 1928 between Edmund L. Munson of Mount Kisco, New York, party of the first part, and Joseph M. Adrian Jr. of New York City, party of the second part, witnesseth:
First: — The parties hereto agree that a certain agreement of coimrtnership made between them bearing date the first day of July 1925, and a supplemental agreement bearing date November 1st. 1927, shall terminate at the end of business on June 30th. 1928, and said contracts shall be of no force and effect thereafter.
Second: — With reference to the New York Stock Exchange membership of the party of the second part, the liquidating value, referred to in paragraph third of the Partnership Agreement dated July 1st. 1925, shall be fixed at a price which is the equivalent of a sum midway between the price of the last sale of a membership prior to June 6th. 1928 and the last sale prior to July 1st. 1928, except in the event that there be no sale between and including June 6th. 1928 and including June 80th. 1928, the price of the next sale subsequent to June 30th. 1928 shall be used in computing said liquidating value.
Third: — The party of the second part acknowledges his personal indebtedness to the party of the first part in a sum which is fifty per centum (50%) of the difference between Ninety-six Thousand Dollars ($96,000.00) and the liquidating value of the New York Stock Exchange membership as it .shall be fixed in accordance with the provisions of paragraph second of this agreement.
Fourth: — The party of the second part shall pay and satisfy the said indebtedness in the following manner: On July 1st. 1928 the sum of Ten Thousand Dollars (10,000.00), and annually thereafter on each succeeding July 1st. the sum of Ten Thousand Dollars ($10,000.00) with interest at six per centum (6%) on the unpaid balance on each date of payment.
At the option of the party of the first part, the party of the second part shall, if possible to do so, obtain a bond in favor of the party of the first part, or secure the obligation in some other way, so that the party of the first part may have the immediate use of the money.
Fifth:- — This agreement shall bind the representatives, executors, administrators and assigns of the parties hereto.

By this agreement of June 12, 1928, Adrian elected to exercise his option under the agreement of July 1, 1925, of retaining the New York Stock Exchange membership, which had remained standing in his name, and its “liquidating value” was determined by the sale price of other Stock Exchange memberships. The petitioner’s one-half of the increment in value of the Stock Exchange membership amounted to $130,750, and, pursuant to Adrian’s acknowledgment of his personal indebtedness to petitioner therefor, Adrian paid to petitioner (he sum of $10,000 in each of the years 1928 and 1929 and the sum of $110,750 in 1930.

In his 1928 income tax return, made on a cash basis, petitioner included his share of the profits from the operations of the partnership, exclusive of any profit on the Exchange membership, up to July 1,1928, but he did not include therein the $10,000 received from Adrian in 1928, upon advice of counsel that his profit on the Stock Exchange membership was not taxable until he received the total amount of $130,750 due him from Adrian. After an investigation by a revenue agent the said amount of $10,000 was held to be income to petitioner in 1928, and an additional tax of $1,745.59 was asserted, and on June 28, 1930, the petitioner signed a waiver of the right to appeal to this Board and a consent to assessment and collection of that deficiency.

In his 1929 income tax return, made on a cash basis, petitioner included therein as taxable income the amount of $10,000 paid to him by Adrian in that year, because of the ruling by the revenue agent for the year 1928.

In 1930 petitioner received $110,750 from Adrian under the agreement of June 12,1928, and in his return for that year, made on a cash basis, he included therein such amount less $2,500 counsel fees paid in 1930, or $108,250 as a capital gain taxable at 12y2 percent. Attached to his return for 1930 was the following statement:

In settling the affairs of Munson & Adrian, members of the N. Y. Stock Exchange, the profit or loss on the Seat was to he divided equally between the two partners. There was a profit of $261,500.00 fixed by the Arbitration Committee of the Exchange. My share of the profit was $130,750 less counsel fees of $2,500.00. In 1928 I received $10,000.00 and in 1929 $10,000.00 as shown in my tax return for those years. The remaining $110,750.00 I am reporting in this return. Counsel fees of $2,500.00 were paid by me on December 1st, 1930.

For the year 1930 petitioner reported a tax due in the sum of $10,235.16, which he paid in four installments of $2,558.79 each on March 13, June 13, September 10, and December 7 of 1931. On January 19,1933, petitioner paid an additional income tax of $1,020.69 plus interest or a total of $1,127.86 for the year 1930. On February 16, 1933, petitioner executed a waiver of the statute of limitations, which was signed by the Commissioner of Internal Revenue on February 25,1933. On July 14, 1933, the petitioner filed a claim for refund of taxes paid for the year 1930, in the sum of $11,363.02, based upon his contention that he erroneously reported the amount of $108,250 as income for 1930 because it represented his distributive share in 1928 of the partnership profit in that year on the Stock Exchange membership and was taxable income to him in 1928, whether distributed or not. That claim for refund was disallowed by the respondent on January 25, 1934. The petition initiating this proceeding was filed on March 12,1934.

In asserting the deficiency in controversy the respondent determined the amount of $108,250 received by petitioner in 1930 was taxable in that year as ordinary income, subject to normal and surtax.

Upon organization of the partnership of Munson & Adrian in 1925, the petitioner contributed cash and securities and Adrian contributed the use of his membership on the New York Stock Exchange at an agreed value of $96,000, as their respective capital accounts. Adrian could not, under rules of the Stock Exchange, actually transfer the membership to the name of the partnership.

The various revenue acts since that of 1918, while not recognizing a partnership as a taxable entity, have recognized it for certain purposes. Under the Revenue Act of 1928, as under earlier acts, a partnership is required to make a return showing specifically its items of gross income and the deductions allowed by law (sec. 189). Its net income must be computed in the same manner and upon the same basis as in the case of an individual (sec. 183), but instead of a tax being imposed upon the partnership, each partner in his individual capacity is made liable for the income tax on his distributive share, whether distributed or not, of the partnership’s net income (secs. 181, 182). Thus, in the instant case, if, as contended by the petitioner, the partnership was the legal or beneficial owner of the Exchange membership as a capital asset and sold it to Adrian in June 1928, at a net profit of approximately $261,500, such profit would have constituted income to the partnership taxable to the individual partners in 1928, whether distributed or not, on the basis of their distributive shares of 50 percent each. W. C. Langley & Co., 2 B. T. A. 199; Logan & Bryan, 4 B. T. A. 12. Conversely, if, as contended by respondent, the Exchange membership never became a partnership asset, either legally or equitably, but remained the property of Adrian, individually, who by contract created a personal obligation to pay to petitioner, individually, one-half of the increment in the value of the Exchange membership during the existence of the partnership and collateral to the partnership agreement, then such increment in value would constitute not a partnership gain, but income to petitioner, individually, when realized by his receipt of cash or the equivalent.

Upon consideration of the written agreements of Adrian and the petitioner and the testimony and exhibits in this proceeding, we conclude that the partnership did not acquire Adrian’s Exchange membership as an asset, but secured solely the use thereof during the period of its existence.

The agreement of July 1, 1925, provided for the organization of the partnership, a division of all profits and losses equally, and the termination of the partnership upon 10 days notice by either party. That written agreement made no specific provision for a capital contribution by petitioner. As to the Exchange membership, that agreement provided, inter alia, that it should be carried on the firm’s books at a cost value of $96,000, but that in the event of dissolution such “membership shall be sold or retained by” Adrian “at his oftiorU"1; that if sold the gain or loss was to be apportioned equally between Adrian and petitioner; and that if retained by Adrian and the liquidating value “show a substantial profit” Adrian “may discharge his obligation to” petitioner by annual payments of $10,000 plus interest. Under that agreement the partnership acquired no degree of ownership in the Exchange membership itself, but had merely the right to the use thereof during the existence of the partnership, and upon its dissolution this right ceased to exist. Neither the partnership nor petitioner could have made any disposition of the membership or the right to the use thereof or any interest therein. Under the agreement of July 1, 1925, and only upon the termination of the partnership Adrian alone had the right to sell or to retain the Exchange membership and simultaneously and as a necessary concomitant there arose Adrian’s individual and personal obligation to pay to the petitioner, individually, one-half of the profit (over $96,000) if he, Adrian, sold the membership, or, an amount equal to one-half of the membership’s increment in value (over $96,000) if he, Adrian, retained the membership. Likewise, petitioner’s obligation to Adrian for one-half of any loss upon the membership, upon dissolution of the partnership, was a personal obligation to Adrian and .not to the partnership.

The supplemental agreement of November 1, 1927, providing that the Exchange membership should be a partnership asset “in so far as it is necessary for the protection of the creditors of said partnership” was entered into only to comply with the requisites of a ruling of the New York Stock Exchange and did not cause Adrian’s membership to become a general asset of the partnership for all purposes and, also, it is a clear indication that the agreement of July 1, 1925, did not embrace the Exchange membership as an asset of the partnership.

In the agreement of June 12, 1928, terminating the partnership, and in pursuance of the provisions of the agreement of July 1, 1925, Adrian, having retained his Exchange membership, acknowledged “his personal indebtedness” to petitioner in a sum equal to 50 percent of the then value of the membership in excess of $96,000 and agreed to “pay and satisfy the said indebtedness in the following manner”: $10,000 on July 1, 1928, and $10,000 annually on each succeeding July 1, with interest at 6 percent.

It is clear that the partnership made no sale or disposition of Adrian’s Exchange membership in June 1928 and realized no gain therefrom in that year which would be taxable to the partners, whether distributed or not. Furthermore, the partnership apparently did not consider that it had realized a gain from any transaction involving Adrian’s Exchange membership, for in its return for 1928 it did not report any income from such a source distributable to the partners. The instant case is clearly distinguished from W. C. Langley & Co., supra, and Logan & Bryan, supra, on the facts in that in those cases the Board specifically found as a fact that the Exchange memberships involved in certain transactions were the property and assets of the partnerships, while here it is found that Adrian’s Exchange membership did not become the property or asset of the partnership of Munson & Adrian.

In the instant case we conclude that the income in controversy arose out of the performance of an agreement between Adrian and the petitioner, as individuals, and bore no relation to the partnership, its income for 1928, or its dissolution, except that upon the happening of the latter event Adrian’s personal indebtedness to petitioner became established and determinable in a definite amount. We further conclude that under Adrian’s contract obligation to petitioner the deferred payments constituted ordinary income to him in the respective years in which, he received them in cash, for it was only in such years that he actually realized the gain pursuant to the terms and the performance of that obligation. Accordingly, we sustain the respondent’s determination that the amount of $108,250 received by petitioner in 1980 constituted ordinary income in that year.

8. In 1925 or 1926 petitioner purchased a number of shares of stock of the Wild Elk Conservation Eange of Montana and his total investment therein amounted to $4,500. That corporation purchased, at 50 cents an acre, 114 acres of land near Martinsdale, Montana, and 100 or more head of elk at $30 or $40 a head, and engaged in the business of breeding elk for sale in the market.

On July 6, 1928, petitioner visited the elk range and found that approximately half of the herd of elk had starved to death and the balance of the herd was starving because the 114 acres of land had been entirely denuded of grass and the elk were being fed with oats. Petitioner thereupon furnished the sum of $1,500 for the purchase of a carload of wire and the stringing of a fence to enclose additional pasture land for the elk, with the expectation that the remaining elk would multiply sufficiently to make their offspring marketable. However, that expectation did not materialize. Between the time of his visit in 1928 and up to 1930 petitioner received, from people in the vicinity of the range, reports as to the operations on the elk range and also a report that the authorities had cut the fences and turned the starving elk loose to roam at large.

In 1930 Barnes, a stockholder, invested $3,500 additional in an effort to sell additional stock and revive the venture, but without success.. In that year the corporation’s 114 acres of land had a value of about $50 and could not have been sold for enough to pay the two or three years’ unpaid taxes. In 1930 the promoter of the elk range visited petitioner and advised him that the venture was hopeless. Also, in 1930, the petitioner’s attorney investigated the matter and reported to petitioner that his stock in the Wild Elk Conservation Eange'of Montana was worthless.

The record does not establish the year in which the elk were turned loose to roam at large, but it was apparently at some time between 1928 and 1930, and petitioner testified that he did not believe that his shares of stock had any value after the happening of that event. Further, petitioner testified that the stock was “losing value right along” for some time and became worthless “in the latter part of ’29 or ’30 or summer of ’29.”

In his income tax return for 1930 the petitioner deducted the amount of $4,500 as a loss sustained on his investment in stock of the Wild Elk Conservation Eange of Montana. Eespondent disallowed the deduction on the ground that the stock did not become worthless in 1930.

A deduction for a loss may be allowed only in the year in which the loss is actually sustained and a loss on account of stock becoming worthless is sustained only in the year in which the stock actually became worthless. Forbes v. Commissioner, 62 Fed. (2d) 571. Upon this record we are unable to determine as a fact the year in which petitioner’s shares of the above mentioned stock actually became worthless. Accordingly, upon failure of proof on this issue, the respondent’s disallowance of the claimed loss deduction of $4,500 is sustained.

Decision will be entered for respondent.


author: Kern :

text:
    The Creamette Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 85415.
    Promulgated January 28, 1938.

      Charles H. Preston, Esq., for the petitioner.

      Gerald W. Brooks, Esq., for the respondent.
   opinion.

Kern :

This case comes before us on respondent’s determination of a deficiency of $2,778.96 in petitioner’s taxes for the calendar year 1933, apportioned as follows: Income taxes, $2,552.40; excess profits taxes, $226.56.

Two questions were raised on the petition, but since one was stipulated by the parties, only one remains, whether respondent was correct in including in petitioner’s income for 1933 the balance of a reserve which had been set up under a scheme, instituted b'y petitioner in 1926 but abandoned in 1933, to advertise and thereby increase the sale of its product, macaroni, by issuing premium coupons redeemable in certain selected articles of merchandise. The cost of issuing the coupons and of the merchandise used as premiums in their redemption are concededly deductible expenses incurred in carrying on the business, and the reserve set up under the Treasury regulations by the petitioner, which used the accrual basis of accounting, was a proper way of anticipating such expenditures. No question is raised on this. The applicable Treasury regulation we shall examine hereinafter. The deductions in respect of the reserve were claimed by the petitioner in each year and were allowed by the respondent. But the petitioner, during the years from 1926 to 1929, inclusive, accumulated in its reserve $10,000 in excess of the amount actually necessary to meet such expenditures for redemp-tions. This sum was included in the deductions allowed. Petitioner abandoned the whole scheme of premiums in 1933, and thereupon transferred this sum in that year from its premium reserve account to its surplus account. Respondent now contends that this amount, which was returned by the petitioner but in consequence of the deduction allowed never treated as taxable income, constitutes income realized and taxable to the petitioner in 1933. In addition to the $10,000 in question, $1,539.45 also remained in petitioner’s reserve account at the end of 1933, but admittedly this sum was necessary to meet the redemption of outstanding coupons issued in that and prior years, and by September 1935 all but $190 of it had been so expended. No question is made of this balance, therefore, and we need concern ourselves only with the $10,000 reserve balance which was transferred by petitioner in 1933 from its reserve account to its surplus account.

Petitioner maintains that it complied with the Treasury regulations and acted in good faith in claiming the deductions in respect of the reserve which were allowed in the several prior years and that the respondent not having called for amended returns for the prior years, is therefore foreclosed from raising any question as to those years. The respondent contends that the abandonment of the premium scheme in 1933 was the occasion of the realization of income by petitioner in that year in respect of any balance then in the reserve which was then unused and unlikely to be used, as the $10,000 admittedly was. Certain analogies with other kinds of reserves are drawn, which we shall examine.

This is the gist of the facts and of the contentions raised. The facts stipulated in detail by the parties are incorporated here by reference.

The petitioner relies on Treasury Regulations 77, article 335, which is identical with the regulations applicable under the prior acts involved, Regulations 74, article 335; Regulations 69, article 91; and is as follows:

Art. 335. Subtraction for redemption of trading stamps. — Where a taxpayer, for the purpose of promoting his business, issues with sales trading stamps or premium coupons redeemable in merchandise or cash, he should in computing the income from such sales subtract only the amount which will be required for the redemption of such part of the total issue of trading stamps or premium coupons issued during the taxable year as will eventually be presented for redemption. This amount will be determined in the light of the experience of the taxpayer in his particular business and of other users of. trading stamps or premium coupons engaged in similar businesses. The taxpayer shall file for each of the five preceding years, or such, number of these years as stamps or coupons have been issued by him, a statement showing—
(a) The total issue of stamps during each year;
(5) The total stamps redeemed in each year; and
(c) The percentage for each year of the stamps redeemed to the stamps issued in such year.
A similar statement shall also be presented showing the experience of other users of stamps or coupons whose experience is relied upon by the taxpayer to determine the amount to be substracted from the proceeds of sales. The Commissioner will examine the basis used in each return, and in any case in which the amount subtracted in respect of such stamps or coupons is found to be excessive an amended return or amended returns will be required.

Tlie petitioner put one coupon in each carton of its products. The carton was apparently not the primary container of the macaroni which went to the consumer, but was a secondary container which went only to the retail dealer, for whom the coupon was intended. The offer on the coupon bore a limitation date, usually some months after the calendar year of issuance, but sometimes after the expiration of the offer date petitioner would redeem coupons presented to keep trade good will. The petitioner estimated the cost of redemption of each coupon, that is, the cost of the merchandise offered as premiums, at 6 cents; and in its first year of coupon issuance, 1926, it estimated that 80 percent of the coupons would be redeemed, and set up its reserves for that year accordingly. The discrepancy between this estimate and the reality was great, for in that year the redemption value of coupons actually redeemed was only $882 as against a reserve of 80 percent amounting to $6,610.42. This reserve was claimed as a selling expense by petitioner in its return for that year. Admittedly petitioner was without experience in estimating such reserves, and the respondent did not, in this instance, as the regulation provides, “examine the basis used in each return”, and where “the amount subtracted in respect of such * * * coupons is found to be excessive” require an amended return. But the initial burden of showing the experience of other users of coupons is thrown! by the regulation on the taxpayer, and this burden was not met, the taxpayer never giving to respondent either a statement of its own experience or the experience of other users of stamps or coupons. In short, neither the taxpayer nor the Commissioner did what should have been done under the regulations in 1926 to prevent the distortion of income which would necessarily result from an excessive deduction.

The story of the succeeding years is similar. Again, in 1927, petitioner set up a reserve of 80 percent of issued coupons, $10,619.61, and redeemed to the amount of $4,389, or about 30 percent. The Commissioner did not require any amended return. The petitioner continued to use the same ratio of 80 percent through 1929, in each year accumulating a greater reserve, until at the end of that year it was $23,637.84. Up to then the taxpayer had made no use of comparatives or even of its own experience in reserves, and the Commissioner had made no requests for such information, although the reserve appeared each year in the return as a part of the selling expense. In that year the coupons redeemed were about 50 percent of those issued. Finally, in 1930 petitioner, at length realizing that 80 percent was much too high, dropped to 40 percent, and for the first time found the coupons redeemed very slightly in excess of the annual reserve set aside; and on the same ratio next year found the annual addition to the reserve substantially exceeded. In 1932, on a ratio of 20 percent, the redemption far exceeded that year’s reserve, and petitioner continued, as in the previous year, to draw on the excess reserve accumulated over prior years. Ño annual reserve was set up in 1933, the coupon premium scheme was abandoned in that year, and the $10,000 accumulated balance was transferred, as said, to surplus at the end of the year. Not until March 16, 1936, when the statute of limitations barred any correction by amended return of the excessive reserves taken as deductions by petitioner from 1926 to 1929, inclusive, did the Commissioner raise any question, but on that day he determined the present deficiency in petitioner’s income tax for 1933.

We have passed upon the regulation set out above, Houghton & Button Co., 26 B. T. A. 52, 58; and have denied its application only where the taxpayer claimed the full amount of trading stamps issued, without regard to the probability that only a portion would be. redeemed, where no attempt had been made by the taxpayer to comply with the regulation, and where, moreover, the taxpayer had already deducted the full cost of premium merchandise through its inventories. Cf. O. J. Morrison Department Store Co., 23 B. T. A. 895. In the instant case petitioner made an effort to comply with the regulation by reducing its annual reserve deduction, after four years’ experience had shown the earlier deductions excessive, but neither petitioner nor respondent adhered strictly to the regulation. No question is made, however, of petitioner’s good faith in claiming the earlier deductions.

The substance of respondent’s contention is that petitioner, having deducted and been allowed this amount of $10,000 from its income in anticipation of a contingent expenditure which it has not been called upon to meet and which now, since its abandonment of the coupon policy, it will certainly never have to meet, has in respect of this amount realized income in the year when the contingency determined. This argument necessarily disregards the regulation, since amended returns are now impossible. The petitioner, having hitherto disregarded the regulation, now invokes its aid and contends that, the deductions allowed under it having become absolute by tbe statute of limitations, tbe excess of such deductions is not questionable now.

In G. M. Standifer Construction Corporation, 30 B. T. A. 184, we considered tbe question of a reserve set up to meet litigation. We said:

* * * This item was in substance a reserve, and, if allowable as a deduction at tbe time set up, tbe balance remaining in it after settlement of tbe claim wbicb prompted its creation was income in tbe year of settlement, 1924. Unexpended balances in reserve accounts are income “in the year in which the reason for which they were created ceased to exist.” Peabody Goal Go., 18 B. T. A. 1081. We further held in the Peabody Goal Go. case that reserves of a kind that are not recognized as constituting allowable deductions should be restored to income in the year in which they were set up. Consequently, whether the vouchers payable account was a correct account or an erroneous account, the amount remaining unexpended at the close of 1924 was income in that or a prior year rather than the year 1927 as held by the respondent.

And we went on to state tbe general theory of restoring reserve balances as follows:

* * * The theory underlying the restoration of reserve balances to income, like that of recoveries on losses for prior years (Burnet v. Sanford & Brooks Co., 282 U. S. 359) and collections on debts previously deducted as worthless (Askin & Marine Co., 26 B. T. A. 409; affd., 66 Fed. (2d) 776), is that by taking the deductions in the earlier years the taxpayer benefited through a reduction of its taxable income, and subsequent events demonstrate that there was in fact no loss, even though honest belief so indicated at the time. * * *

A pertinent paragraph in our decision in Peabody Coal Co., 18 B. T. A. 1081, 1091; affd., 55 Fed. (2d) 7 (C. C. A., 7th Cir.); certiorari denied, 287 U. S. 605, cited, supra, is relied on here by both parties. It is this:

We are also of the opinion that the respondent erred in including in the petitioner’s income for 1921 the amounts remaining in the reserve for subsidence and the reserve for excessive freight. These reserves were set up by the petitioner in the years 1919 and 1920 and no change was made in them in the year 1921. If they were not reserves of the kind that are recognized as proper deductions from income by the several revenue acts, they should have been restored to the petitioner’s income in the years in which they were made. If they are reserves the net additions to which are allowable as deductions from income, then the unexpended balances became income to the petitioner in the year in which the reason for which they were created ceased to exist, which was in 1922. The amount of the reserves in question should be eliminated from the petitioner’s income for 1921.

We think that respondent’s construction of this paragraph is right, and that tbe reserves here set up were “of tbe kind that are recognized as proper deductions from income by tbe several revenue acts”, since express provision is made for such deduction; that is to say, that they were tbe kind of reserve which is deductible in full and not tbe kind which is properly deductible only to tbe extent of actual expenditures from them.

The rule to be drawn from these cases appears clearly to be that amounts set up by a taxpayer on his own responsibility and without authority granted by statute or regulation in order to meet a contingent liability, being set up out of income received in a particular year, are, if the liability is not realized in that year, to be “restored to income in the year in which they were set up.” G. M. Standifer Construction Corporation, supra, at page 187. Such reserves may not be deducted in anticipation of the realization of the liability, and the failure to realize the liability in any particular year restores immediately to the income of that year the amount withheld from income for the purpose in that year. But reserves set up and added to year by year, which may be deducted by authority of statute or regulation, are obviously in a different category. Statutory permission to deduct presently a reserve in anticipation of a contingent liability does not contemplate, however, an absolute deduction beyond the possibility of correction should the liability never be realized. It likewise is subject to adjustment on the whole balance of reserve against loss or expense. We do not understand petitioner to deny this. But since the deduction is absolute for the particular year in which it is allowed, the unexpended balance of the reserve is not restored to income by its redistribution through the past years in which the income was realized but is treated as new income realized in the year in which the extent of the liability is finally determined. Cf. Burnet v. Sanford & Brooks Co., 282 U. S. 359; Commissioner v. Liberty Bank & Trust Co., 59 Fed. (2d) 320.

Assuming then that the unexpended balance in the reserve would constitute income when the liability ceased, the only questions remaining are whether the year 1933, in which the petitioner ceased to issue premium coupons and therefore had no further use for a reserve, was the year in which it realized income in respect of the $10,000 balance; and if so, whether the Commissioner’s regulation prevents the application in this instance of this established rule.

We think the first question should be answered in the affirmative. In 1933 the possibility of liability on the coupons ceased, for the petitioner’s last coupon premium offer was expressly void after December 31, 1933; and a further amount of $1,539.45 was still left in the reserve account, which should have been sufficient, on all of petitioner’s experience, as it actually proved to be in fact, to meet coupon premium redemptions which the petitioner might deem it advisable to make after December 31, 1933, for the purpose of preserving the good will of its retail dealers. Moreover, the transfer of the amount of $10,000 on the petitioner’s books is, in itself, a tacit admission of this fact and, in all the circumstances, can not be gainsaid.

But does the express regulation of the Commissioner preclude him from treating this unexpended balance as income in 1933 ? On this point the petitioner strenuously insists, and cites Fall River Electric Light Co., 23 B. T. A. 168, in which we upheld the Commissioner’s practice under a long established regulation to treat the amount of a premium received by the taxpayer on the sale of its bonds as income received annually pro rata through the term of the bonds, as against the practice followed by the taxpayer and prescribed by the Massachusetts public utility department for utility companies doing business like the taxpayer in that state, of treating such a premium as income the realization of which was. deferred to maturity of the bonds. Petitioner insists that the regulation here should likewise be adhered to.

The regulation prescribes a method which will, if adopted, most clearly reflect income without undue distortion because of allowed deductions which can not be fully determined in advance. It therefore provides for amended returns which will lessen any distortion which a later experience of the taxpayer has shown to exist. It requires the taxpayer in the first place to furnish evidence of the reasonableness of the reserve set up and of the additions to it. Here the petitioner neither furnished such data, which may not have been available to it in the earlier years, nor amended its returns for later years, after its experience had taught it the unreasonableness of its earlier claims. Nor did the respondent require any amendments of the petitioner’s returns. The earlier deductions which resulted in reduction of petitioner’s taxable income in the years 1926 to 1929, inclusive, were allowed, and now that the statute of limitations has run, are beyond recall. What should have been done to make petitioner’s returns more clearly reflect their true taxable income for these years was left undone, and petitioner has profited by this neglect.

But when this is said, the essential point remains, that the regulation’s requirements for full information on comparative businesses and for amended returns sought merely to arrive at true income in those particular years, and did not remove from the possibility of taxation in a later year what was unquestionably income to the petitioner and which had thus far eluded taxation. The statute of limitations now makes correction of the earlier years impossible; the deductions for those years have become absolute; but income erroneously deducted does not alter its essential nature; and the moment that the unexpended balance of the reserve ceased to be properly held to meet a contingent liability of the petitioner, it reassumed its original character of income and was returnable as such in that year. This event, as we have said, occurred in 1933; and on this question then we hold for the respondent.

The deduction for taxes paid to the Dominion of Canada, conceded by respondent, will therefore be made on the basis of petitioner’s gross income determined as above.

Reviewed by the Board.

Judgment will he entered under Rule 50.


author: ARNOLD:

text:
    Harry H. Neuberger, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 78919.
    Promulgated January 28, 1938.

      W. H. Friedman, Esq., for the petitioner.

      J. R. Johnston, Esq., for the respondent.
   OPINION.

ARNOLD:

The first error complained of by the petitioner relates to a loss sustained by him, personally, in the disposition of securities which were not capital assets as defined in section 101 of the Revenue Act of 1932, disallowed by the respondent as an offset against, and in the reduction of, partnership profits, to which he was entitled, and which were derived by it from the sale of noncapital securities. This question is now well settled and must be resolved in favor of the respondent, upon the authority of Percy H. Johnston, 34 B. T. A. 276; affd., 86 Fed. (2d) 732; certiorari denied, 301 U. S. 683, and Winmill v. Commissioner, 93 Fed. (2d) 494, affirming the Board at 35 B. T. A. 804, on this point.

The respondent now concedes the petitioner’s right to deduct stock transfer taxes paid by him to the Federal and State Governments during the taxable year, amounting to $2,779.69. So that the sole remaining question is whether or not the petitioner is entitled to deduct commissions paid upon purchases and sales of securities, as ordinary and necessary expenses incurred in Ms business as a trader in securities, under section 23 (a) of the Revenue Act of 1932, or whether he must treat such commissions on the former as a part of cost and on the latter as an offset against the selling price, as provided in article 282 of Regulations 77, and prior regulations. This identical question was before us in Robert C. Winmill, 35 B. T. A. 804, wherein we sustained the action of the respondent under his regulations and denied the contention of the petitioner. In its opinion, upon appeal, the Second Circuit reversed the Board on this point, holding commissions paid on both purchases and sales, by one engaged as a trader in the business of buying and selling securities, to be ordinary and necessary business expenses, applying the same principles to a trader in securities as heretofore applied to other businesses in Highlands Trust No. 1546, 32 B. T. A. 760; also, Alexander Sprunt & Son, Inc., 64 Fed. (2d) 424; Kornhauser v. United States, 276 U. S. 145; and Clarence Whitman, 16 B. T. A. 197; affd., 49 Fed. (2d) 1087. The Board having failed to find, as a fact, whether or not the petitioner there was a trader in the business of buying and selling securities, the court remanded the proceeding for that purpose and directed that if so found such commissions should be allowed as deductions. Complying with the mandate of the court, the Board so found and entered its order on December 31, 1937, directing recomputations by deducting from taxable income the commissions upon purchases and sales of securities.

We have found, from the nature of the petitioner’s business and the volume of transactions entered into by him, individually, that he was a trader in the business of buying and selling securities. This, it would seem, the respondent has never disputed.

The respondent’s determination shall be modified accordingly.

Reviewed by the Board.

Judgment will be entered mder Rule 50.


author: HaüRon:

text:
    H. Denny Pierce and Alma C. Pierce, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 84509.
    Promulgated January 28, 1938.

      Jacob Mertem, Jr., Esq., for the petitioners.

      Carroll Walker, Esq., and C. H. Curl, Esq., for the respondent.
   OPINION.

HaüRon:

The question involved in this proceeding is whether, in the case of a joint return of husband and wife, the limitations imposed by section 23 (r) of the Revenue Act of 1932, as amended, on deductions of noncapital losses require that the noncapital gains and losses of each spouse be treated separately, i. e., whether noncapital losses shall be allowed only to the extent that the individual, the husband or the wife, realized noncapital gains.

Section 51 (b), Revenue Act of 1932, provides that:

(b) Husband and Wine. — If a husband and wife living together have an aggregate net income for the taxable year of $2,500 or over, or an aggregate gross income for such year of $5,000 or over—
(1) Each shall mate such a return, or
(2) The income of each shall be included in a single joint return, in which case the tax shall be computed on the aggregate income.

Where husband and wife exercise the statutory right to file a single joint return the gross income and deductions represent the combined receipts and deductions of each. To reach the aggregate taxable net income all deductions to which either is entitled are taken from the aggregate income of both. The Commissioner has recognized this in his regulations relating to the applicable statutory provision. Regulations 77, promulgated under the 1932 Act, article 381, provides in part:

Where the income of each is included in a single joint return, the tax is computed on the aggregate income and all deductions and credits to which either is entitled shall be taken from such aggregate income.

This Board has held that where a joint return is filed by husband and wife, each should be treated as an individual in applying provisions of the applicable revenue act where the question involved is whether the individual is entitled to some specific deduction. See Frank B. Gummey, 26 B. T. A. 894; Chartes F. Fawsett, 31 B. T. A. 139. It is noted here that the question involved in those cases is not involved in this proceeding.

In the above cases, a joint return was filed for husband and wife. Each had sold securities at a loss and each was entitled to deduct the losses sustained individually under section 23 (e) of the Revenue Act of 1928. The issues in the two cases referred to differ from the issue in this proceeding, but they are referred to because in those cases it resulted that, after holding that each was entitled to a deductible loss under section 23 (e), each having sold securities at a loss in transactions entered into for profit, it was held that the combined losses were deductible from the combined income reported in the single joint return. The Commissioner in those cases argued that where a husband and wife elect to file a joint return, they must be treated as one person for all purposes of the revenue act. The Board overruled this contention and said:

No authority has been pointed out to us that a husband and wife are to be denied deductions for losses sustained by them because they see fit to jointly return their taxable income. * * * Nor are we impressed with the argument of respondent that, if the view here announced is to prevail, then the deduction of each spouse is to be limited to the gross income of each. To accept this view we must deny 20 years of history in the administration of the income tax laws. * * * The acceptance of the privilege of filing a joint return by a married couple carries with it no denial of their individual rights under the statute. [Charles F. Fawsett, 31 B. T. A. 139, 142.]

It appears to be the principle of the above cases that once it is clear that a husband or a wife, as an individual taxpayer, is entitled to a deduction, then effect shall be given to the deduction allowable to each by including the deductions of each in the aggregate deductions in the single joint return filed. Since Congress has said that where a single joint return is elected by husband and wife as a method of reporting the income of each, then “the tax shall be computed on the aggregate income”, aggregate income is offset by aggregate deductions.

The issue in this proceeding would not arise under section 23 (e) (2), Revenue Act of 1928. Specifically, the gain of the husband, $54,987.32, would be part of the aggregate income in the joint return and the loss of the wife, $3,646.78, would be part of the aggregate deductions. This would be the case because the loss in question did result from a transaction entered into for profit and Alma C. Pierce, as an individual taxpayer, would be entitled to a deduction for the loss.

However, in the Revenue Act of 1932, Congress enacted section 23 (r) , quoted in part in the margin, as the provision remained in 1933 after amendment by section 218 (b) of the National Industrial Recovery Act, 48 Stat. 209. Section 23 (r) (1) is applicable to the taxable year. Reading section 23 (r) (1) with section 23 (e) (2), quoted also in the margin, subsection (r) is clearly a limitation upon section 23 (e) (2) and the language of that section specifically refers to such “limitation.”

In this proceeding, the issue involves first the question whether Alma C. Pierce, as an individual taxpayer, was entitled to a deduction for the losses she sustained in 1933 from the sale of stock she had held less than two years. She had not realized any gains in 1933 from sales of similar stocks. It is our understanding of the limitation set forth by section 23 (r), upon section 23 (e) (2) that although the losses resulted from a transaction entered into for profit, nevertheless, under 23 (r), Alma Pierce could not take the losses in 1933 because they were realized on securities held less than two years and she had no gains from the sales of securities against which to offset her loss. She could take the losses only to the extent of her gains. It appears therefore that if she had filed an individual return she would not have been allowed deduction for these losses. This conclusion appears in accord with the intent of Congress as set forth in,.the Finance Committee Report, quoted in part below.

In making up the joint return, the petitioner’s method of treating the item of the loss claimed by Alma C. Pierce was to take the amount of the husband’s gains from sales of securities held less than two years, to deduct therefrom the amount of the wife’s losses from such sales, and to report in the return the net resultant amount as the gain to be reported. This was done instead of reporting the full amount of the gain in the aggregate income and the amount of the loss in the aggregate deductions. However, the method used in making up the return is immaterial. The question is simply whether, in a joint return, the loss of one spouse from the sales of securities held less than two years may be included in the aggregate deductions because there is present in the aggregate income an amount of gains from such sales in excess of the wife’s losses, albeit the gains are those of the husband. Having concluded above that the individual who sustained the losses is not entitled to a deduction therefor, it must also be concluded that the deduction is not allowable in tbe joint return any more than it would be in that individual’s (the wife’s) individual return. To conclude otherwise would be to give to an individual who reports income in a joint return the right to a deduction he would not be allowed if he filed his separate individual return. To conclude otherwise would be to disregard the limitation on allowable deductions imposed by section 23 (r).

Petitioner’s counsel has made a carefully prepared argument which contends that the aggregate noncapital gain and loss of both spouses should be considered as a unit, so that section 23 (r) be construed, as we see it under the argument, to allow in a joint return the non-capital loss of one spouse if the other spouse realized a noncapital gain. In another manner of statement, the argument is that even though Alma 0. Pierce, as an individual taxpayer, is not entitled to deduction for her noncapital loss, since she had no noncapital gains to the extent of which the loss could be allowed, nevertheless, the husband and wife constitute a tax computing unit under a joint return and there is present in that return an amount of noncapital gains larger than her losses, albeit her husband’s gains, to provide the ground for allowing the claimed loss under section 23 (r). Thus the petitioner argues that where a joint return is filed, the husband and wife are treated as a single tax computing unit remaining nevertheless separate taxpayers. Petitioner refers to court decisions involving issues where consolidated returns of affiliated corporations are filed and where the courts recognize that where a consolidated return is filed for affiliated corporations, the consolidated return treats the several affiliated corporations as a tax computing unit but leaves the individual corporations as taxpayers, citing Founders General Corporation v. Commissioner, 79 Fed. (2d) 6; Crocker First National Bank of San Francisco, 26 B. T. A. 1078. The argument of petitioner’s counsel is correct to support the proposition that where husband and wife file a joint return of their aggregate income, their aggregate allowable deductions are deducted to arrive at their aggregate net income for computing the tax. But that argument does not reach to the issue here.

Congress’ intent, in enacting section 23 (r) was to protect the revenues from the growing practice of reducing tax liabilities by the sale of securities on which losses had accrued and to prevent speculative losses from wiping out ordinary income which represents real taxpaying ability. Section 23 (r) must therefore have been intended to impose a limit on the individual taxpayer’s allowable losses. To fail to recognize that Alma C. Pierce had no individual noncapital gains to provide the grounds for her taking deduction for her non-capital losses would result in not applying section 23 (r) as Congress intended it should be applied. It is not material to the issue to say that petitioners’ income tax liability is to be determined on the basis of their aggregate net income. That is true, but their aggregate net income can not be computed by including a deduction from the aggregate income that is not allowable to either of the individual taxpayers. When petitioners reported a net gain of fifty-one thousand odd dollars, from sales of securities, they were not reporting a true net gain amount. They were reporting a net figure resulting from a deduction to which neither, individually, was entitled. This, in effect, allowed to the husband an offset of Ms wife’s loss, not as the consequence of computing aggregate net income in a joint return resulting from an allowable deduction, but as a result of giving the wife a deduction based on the husband’s gains.

The peculiarity of section 23 (r) is that the allowability of certain losses is dependent upon the existence of certain gains. To take the loss one must have a gain. Further, one may have the loss only to the extent of the gain and we believe one may have the loss only to the extent of his own gains.

It has been held that the net loss provisions of the statute relate only to the taxpayer sustaining the net loss. Charles E. Van Vleck, 31 B. T. A. 433; affd., 80 Fed. (2d) 217; certiorari denied, 298 U. S. 656; Planter’s Cotton Oil Co. v. Hopkins, 53 Fed. (2d) 825; affd., 286 U. S. 332; Woolford Realty Co. v. Rose, 286 U. S. 319. We think that section 23 (r), which, of course, is a different provision of the revenue act, likewise relates only to the taxpayer, so that net losses sustained by a taxpayer from the sale of securities, which are not capital assets, shall be allowed only to the extent of that taxpayer’s gains from such sales. It is noted that the language of the parenthetical clause in section 23 (r) refers to “a taxpayer” and it is reasonable to construe the entire section as referring to “a taxpayer.” The parenthetical clause is a clause further explaining the term “gains” used before in the section.

It is, therefore, held that respondent correctly disallowed the deduction claimed.

Beviewed by the Board.

Decision will be entered, for the respondent.

       Sec. 23. (e) Losses by Individuals. — Subject to tbe limitations provided in subsection (r) of this section, in tbe case of an individual, losses sustained during tbe taxable year and not compensated for by insurance or otherwise—
      * * * * * * *
      (2) If incurred in any transaction entered into for profit, though not connected with tbe trade or business; or
      *******
      (r) Limitation on Stock Losses.—
      (1) Losses from sales or exchanges of stocks and bonds (as defined in subsection (t) of this section) which are not capital assets (as defined in section 101) shall be allowed only to the extent of the gains from such sales or exchanges (including gains which may be derived by a taxpayer from the retirement of his own obligations).

       Finance Committee Report No. 665, Revenue Aet of 1932, p. 10—
      * * * The provision was based upon a twofold policy: (1) Protecting the revenues from the growing practice of reducing tax liabilities by the sale of securities on which losses had accrued, and (2) preventing speculative losses from wiping out ordinary income, which represents real taxpaying ability.

        *******

      A somewhat different situation exists with respect to losses realized from the sale of securities held by the taxpayer for less than two years. These losses should properly be permitted only as an offset against gains from securities held for less than two years. But undue hardship under existing conditions should be avoided. Your committee believes that security gains and losses should be segregated, that security losses should be deducted solely from security gains; but that security gains should not be taxed until they actually exceed security losses. Accordingly, it is provided that an excess of the security losses in any year should be allowed, subject to certain necessary limitations, as a deduction against security gains in the subsequent year.


author: Black:

text:
    Robert H. Montgomery and Lois C. Montgomery, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 85542.
    Promulgated February 1, 1938.

      Thomas G. Haight, Esq., for the petitioners.

      Dean P. Kimball, Esq., for the respondent.
   OPINION.

Black:

At the hearing respondent conceded none, of the issues raised by the pleadings and facts were proved as to all of them, but in his brief respondent concedes that petitioners are right as to two of the issues which petitioners have designated as issues (4) and (5). The facts as to these issues were stipulated and we have omitted any reference to them in our findings of fact. Effect will be given to the stipulation as to these two issues and the concessions of respondent in a recomputation under Bule 50. This leaves for our consideration issues (1), (2), and (8).

Issue {!). — This question is whether losses sustained by petitioner from sales of stocks held by him for less than two years may be offset against the gains of his wife from sales of similar noncapital assets in their joint return for 1933. The pertinent sections of the Kevenue Act of 1932 are as follows:

SEC. 23. DEDUCTIONS FROM GROSS INCOME.
$$$$***
(r) Limitation on Stock Losses.—
(1) Losses from sales or exchanges of stocks and bonds (as defined in subsection (t) of this section) which are not capital assets (as defined in section 101) shall be allowed only to the extent of the gains from such sales or exchanges (including gains which may be derived by a taxpayer from the retirement of his own obligations).
SEC. 51. INDIVIDUAL RETURNS.
$ * * * * # ‡
(b) Husband and Wive. — If a husband and wife living together have an aggregate net income for the taxable year of $2,500 or over, or an aggregate gross income for such year of $5,000 or over — ■
(1) Each shall make such a return, or
(2) The income of each shall be included in a single joint return, in which case the tax shall be computed on the aggregate income.

During the taxable year 1933 petitioner sustained losses of $104.44 from sales of stocks of the kind defined in subsection (t) of section 23, supra. He had no gains from similar sales or exchanges. The stocks sold by him were not capital assets since they were held by him for less than two years. Sec. 101 (c) (8), Revenue Act of 1932. During the same year petitioner Lois C. Montgomery realized gains in excess of $104.44 from sales of similar noncapital assets. She had no losses from similar sales or exchanges.

The respondent contends that the allowance of petitioner’s losses of $104.44 is forbidden by section 23 (r) (1), supra, since he had no gains from similar sales or exchanges. This is in accordance with his published ruling on the subject. See G. O. M. 15438, Cumulative Bulletin XIV-2, p. 156.

Petitioners contend that, since they filed a joint return in accordance with their rights under section 51 (b) (2), supra, the limitation on stock losses prescribed in section 23 (r) (1) applies only if the combined losses of husband and wife are in excess of the combined gains. This precise question was involved in H. Denny Pierce, 37 B. T. A. 225, and was decided contrary to the contention made by petitioner. It is unnecessary for us to repeat here the reasons which we gave in support of that decision. For the details of our reasoning, see that report.

Following our decision in that case, we hold against petitioner on issue (1) and sustain the action of the Commissioner.

Issue (£!). — On the joint return filed for 1933 petitioner deducted $79,061.01 as a loss on the liquidation in 1933 of the Montgomery Evergreen Nursery, Inc. The respondent disallowed the deduction on the ground that no evidence had been submitted which proved conclusively that the claimed loss resulted from a transaction entered into for profit within the meaning of section 23 (e) of the Revenue Act of 1932. Both the original and amended petitions alleged that respondent had erred in disallowing “a loss of $79,061.01, resulting from liquidation of the Montgomery Evergreen Nursery, Inc.” The amended petition was later duly amended to assign as error that “The respondent erred in disallowing as a deduction from the petitioners’ gross income for the taxable year 1933 a loss of $40,000 and a bad debt of $39,061.01 resulting from the liquidation of the Montgomery Evergreen Nursery, Inc.” Petitioner now concedes that his proven basis of the 1,000 shares of Montgomery Evergreen Nursery, Inc., owned by him at the time of dissolution in 1933 was $38,000 rather than $40,000. This conceded basis of $38,000 is not in question. In his brief the respondent contends that the alleged loans in the form of income bonds and advances by petitioner to the corporation resulting in the alleged bad debt of $39,061.01 were in fact not loans at all, but merely additional contributions to the corporation or investments in its stock; and that petitioner is entitled to no deduction whatever on account of the dissolution of the corporation for the reason that the claimed losses did not result from transactions entered into for profit, but were transactions entered into for the purpose of creating income tax losses and to satisfy petitioner’s hobby for trees.

Section 23 of the Revenue Act of 1932 provides that in computing net income there shall be allowed as deductions:

(e) Losses by Individuáis. — Subject to the limitations provided in subsection (r) of this section, in the case of an individual, losses sustained during the taxable year and not compensated for by insurance or otherwise—
(1) if incurred in trade or business; or
(2) if incurred in any transaction entered into for profit, though not connected with the trade or business; or * * *
*******
(j) Bad Debts. — Debts ascertained to be worthless and charged off within the taxable year * * *.

Whether petitioner’s investment in the capital stock of the Montgomery Evergreen Nursery, Inc., was a transaction entered into for profit is largely a question of ultimate fact to be found from an examination and consideration of all the evidentiary facts and circumstances. W. S. Farish, 36 B. T. A. 1114 Both parties refer us to the case of Commissioner v. Fields 67 Fed. (2d) 876, 878, wherein the court said: “It is a matter of intention and good faith, and all the circumstances in the particular case must be our guide.”

Aside from the stipulated facts the evidence offered by petitioner consisted of certain documents and the testimony of six witnesses, including petitioner. The respondent offered no evidence. The substance of the testimony of all the witnesses was that the nursery conducted by the corporation was strictly a commercial nursery, operated in an effort to make profit. It is true that the venture proved to be unprofitable, but we have no reason to disbelieve the testimony of petitioner that the bona fide purpose of petitioner in incorporating the Montgomery Evergreen Nursery was to establish an enterprise which would ultimately pay profits, especially when this testimony is reinforced by five other witnesses who testified to facts and circumstances which corroborate petitioner. We have therefore found as a fact that the organization and acquisition of the stock of the Montgomery Evergreen Nursery, Inc., was a transaction entered into for profit.

The corporation’s charter, in addition to authorizing it to do a nursery business, also permitted it to purchase and sell personal property of every kind and description; to carry on any similar business or operation deemed advantageous, which is incidental or accessory to any of the powers or purposes therein specified; and generally to do anything that a natural person might lawfully do in connection therewith. It was under these broad powers that the corporation in 1930 duly issued $300,000 face value of its income bonds to petitioner for $300,000 in cash, and at about the same time purchased from petitioner stocks and securities having a cost basis to petitioner of about $500,000 for $303,585, which latter amount was the fair market value of the stocks and securities at that time. The respondent emphasizes these facts in his brief and contends that we must conclude therefrom that the primary purpose of organizing the corporation was to afford petitioner an entity to which he could, in form, transfer his depreciated stocks and securities without surrendering his economic interest in them and at the same time create for himself income tax losses of approximately $200,000 to which he would not otherwise be entitled. We do not have the question of the deductibility of these losses of approximately $200,000 in this proceeding. We express no opinion whatever as to the deductibility of such losses. Our question here is whether petitioner intended in good faith to organize the corporation for profit and invested in its stock for that purpose. The respondent does not contend that the corporation should be disregarded and we see no reason for so doing. Nor does respondent claim that petitioner has not actually suffered the losses which he claims. At the hearing the presiding Member, at the close of petitioner’s testimony, asked petitioner if one of the objects he had in organizing the corporation was to sell shares of stock to it and thereby realize a deductible loss for the year 1930, to which petitioner replied as follows:

I am trying to disconnect it from the nursery business, your Honor. I would say that was incidental because at that time as I recall it, the maximum tax rate was 25 per cent; that I was much more concerned in turning those securities in with the company, rather than sell them in the market and rebuy them, for I thought they would have an increase in value later on. When I made the sale to the corporation I have no doubt but what I did consider the question of deduction for the loss. I must have considered it. I am perfectly willing to assume that I did.

It seems reasonably clear from the testimony of petitioner just quoted and other testimony in the record that one of the purposes which the petitioner had in mind when he organized the corporation was to make sale to it of said securities, which had depreciated in value, and take the resulting loss as a deduction in his income tax return for 1930. We have therefore found as a fact that such was one of petitioner’s objects in organizing the corporation. But it is equally clear that when petitioner organized the corporation and subscribed and paid for its capital stock, he intended that the corporation immediately establish a nursery to grow and sell conifers and make a profit therefrom. The corporation did establish and operate the nursery, but the expected profit never came. This is by no means an uncommon experience in the affairs of men. The casualties of business are fully as numerous as those which survive.

We therefore believe that the evidence offered by petitioner overcomes the respondent’s determination that petitioner’s original investment in the corporation was not a transaction entered into for profit. This investment became worthless in 1933, when the corporation liquidated and was without assets. The loss was not compensated for by insurance or otherwise. We hold, therefore, that petitioner is entitled to a deduction in 1933 of $38,000, which represents petitioner’s basis of the 1,000 shares of stock of the Montgomery Evergreen Nursery, Inc.

We also think petitioner is entitled to deduct $39,061.01 as a bad debt ascertained to be worthless and charged off within the taxable year. This amount is made up of the unredeemed income bonds of the corporation in the amount of $24,000 held by petitioner after the corporation was without assets and for which petitioner had paid tlie corporation $24,000 in cash, and $15,061.01 representing advances xnade by petitioner to the corporation which remained unpaid after the corporation dissolved and was without assets. There is no evidence that these amounts were contributions made by petitioner to the corporation, as respondent now contends, or that they represented an additional investment in the capital stock of the corporation. Even if we should sustain respondent’s contention and hold that they represented the latter, they would still be deductible as a part of petitioner’s basis of that stock, for the reasons already given. Only in the event that we should hold that petitioner’s investment in the stock of the corporation was not a transaction entered into for profit, would it make any difference in the ultimate result. We think however that the amounts represented bona fide loans by petitioner to the corporation; that they were made for business purposes and with the expectation of being repaid; and that when the corporation was dissolved and without assets, petitioner was justified in ascertaining them to be worthless and in charging them off his books. We hold that petitioner is entitled to the deduction for bad debts ascertained to be worthless and charged off in the taxable year, which he claims.

Issue (3). — The third issue is whether petitioner is entitled to deduct from gross income the depreciation sustained on the Mountain Lake property during the year 1933 and the expenses paid or incurred during that year in connection with the property for maintenance and advertising.

Section 23 of the Revenue Act of 1932 provides that in computing net income there shall be allowed as deductions:

(a) Expenses. — All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business * * *.
* * * * * s *
(k) Depreciation. — A reasonable allowance for the exhaustion, wear and tear of property used in the trade or business * * *.

Section 24 of the Revenue Act of 1932 provides that in computing net income “no deduction shall in any case be allowed in respect of” personal, living, or family expenses.

It is respondent’s contention that the use of the Mountain Lake property from the time it was acquired by petitioner Lois C. Montgomery, was for residential purposes; that it had never been rented up to the close of the taxable year and therefore petitioner is not entitled to take the deductions which he claims; that the expenditures involved were personal, living, or family expenses. Respondent in support of his contention cites Rumsey v. Commissioner, 82 Fed. (2d) 158, affirming memorandum decision of the Board, and Morgan v. Commissioner, 76 Fed. (2d) 390, affirming decision of the Board.

Petitioners contend that both of these cases are distinguishable on their facts. Petitioners point out in their brief that:

* * * In both of these eases, the taxpayer owned property which he had acquired for residential and personal use. Thereafter the property was offered for rent or for sale and the taxpayers contended that offering the property for rent converted a residential property to business property. The Court in each instance held that the mere offering for rent is insufficient to effect an appropriation .for business use. Regardless of whether these cases are sound, it is submitted that they have no application in the instant ease. The petitioner, Robert H. Montgomery, had never owned the property in question as a residence, and therefore there is no question of converting it to a business one. When said petitioner acquired the property, he had no intention whatsoever of thereafter using it for personal or residential purposes. He acquired it for the sole purpose of either selling it for the best possible price or renting it. In the Morgan case the Court based its decision on the fact that there had been no “transaction” appropriating the property for business use. In the instant ease, there was such a transaction, i, e., the acquisition of the property by the petitioner.

Petitioners further contend that this issue is controlled by our decision in Estate of Ellen C. Bonaparte, 1 B. T. A. 1101. In that case the taxpayer acquired from the estate of her deceased husband certain property which had been used by the husband and his family as a residential property. She received the property free and clear and could do with it as she wished. A few weeks after receiving the property she offered it for sale and also for rent. After approximately one year and a half, during which time no one had been willing to rent the property and there had been no offer to buy at the appraised valuation, the taxpayer sold the property at a loss and claimed the loss on her income tax return. The Board held for the taxpayer, saying:

Tbe record clearly shows that the taxpayer, from the time she received this property, planned to rent it, and planned to sell it, in order to produce gains if possible, and finally did dispose of it, receiving about $41,000 therefor. The record convinces us that the transaction described was in every respect a transaction entered into for profit and that it comes clearly within the meaning of provisions of law, and that the immediate loss arising out of this transaction is such a loss as the law contemplated should be deducted from a gross income during the year in which it was sustained.

It should be pointed out however that the question involved in the Bonaparte case was the deductibility of a loss on a sale of .property once used for residential purposes and the decision of that issue depended upon whether or not the transaction was entered into for profit. We held, under the facts, that it was. Here the issue is not one of the deductibility of a loss incurred in a sale of property acquired in a transaction entered into for profit, but whether or not the depreciation which was incurred in the taxable year was depreciation of property used in petitioner’s trade or business and whether or not the expenses incurred in the care and maintenance of the property and advertising it for rent or for sale were ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business. If petitioner had proved he had actually rented the premises during 1933, perhaps he would be entitled to a part or all of the deductions which he claims. Thus the Treasury has held that a taxpayer is entitled to deduct a proportionate part of the depreciation if he rents a portion of his personal residence to other individuals, Bureau Bulletin “F”, January 1931, and that a proportionate part of the depreciation must be taken into consideration when a taxpayer owning a two-family house occupies one floor as his residence and rents the other. O. D. 1026,5 C. B. 51. But in the instant case the petitioner did not rent the property during the taxable year. He only tried, without success, to rent or sell it.

In the Rumsey case the court said:

If an. owner rents, his decision is irrevocable, at least for the term of the lease; and if he remodels to fit the building for business purposes, he has likewise made it impossible to resume residential uses by a mere change of mind. When, however, he only instructs an agent to sell or rent the property, its change of character remains subject to his unfettered will; he may revoke the agency at any moment.

We do not think that it can be said under these circumstances that the depreciation which the petitioner suffered on the property in question was incurred with reference to property used in his trade or business nor do we think that the expenses of maintenance of the property and the expenses of advertising it for rent or sale can be said to be “ordinary and necessary expenses paid or incurred during the taxable year in carrying on a trade or business.” We think these expenses, under the facts shown, must be held to be personal, living, or family expenses and are not deductible.

On issue (3) we sustain respondent.

Reviewed by the Board.

Decision will l>e entered under Rule 50.