author: Moesis :

text:
    Beck Engraving Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 13037.
    Promulgated October 21, 1927.
    Petitioner kept its books on tbe basis of a fiscal year ending April 80. On June 9, 1919, it filed a return for tbe calendar year 1918, and on or about October 26, 1920, a return for tbe fiscal year ended April 30, 1919. Alleged conditional consents were filed extending tbe time for making assessment for said fiscal year to December 31, 1926. Held, that on February 2, 1926, tbe assessment of additional tax for tbe portion of tbe fiscal year 1919, falling in the year 1918 was not barred by tbe statute of limitations as extended by tbe waivers.

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

      J. F. Qreaney, Esq., for the respondent.

      This proceeding arises from the respondent’s determination of a deficiency of $55,985.22 for the fiscal year ended April 30, 1919, and a deficiency of $17,349.34 for the calendar year 1920. The petitioner disputes the correctness of respondent’s determination only with respect to the fiscal year ended April 30,1919.
    FINDINGS OP PACT.
    Petitioner is a Pennsylvania corporation organized in 1903. At the hearing the parties submitted the case for redetermination upon an agreed stipulation of facts reading as follows:
    The petitioner, for all years up to and including 1919, kept its books on tbe basis of a fiscal year ending April 30tb of each year. On December 31, 1919, petitioner again closed its books, and its books were closed on a calendar year basis thereafter.
    For all years prior to and including 1919, petitioner filed its tax returns on a calendar year basis. In arriving at its income for a calendar year, petitioner used the following method: Sales, purchases and expenses, were taken from the books for the calendar year, while in computing cost of goods sold, inventories, as of the ending of the previous fiscal year were used.
    For the taxable year 1918 petitioner filed a tentative return, on or about March 12, 1919, and a return on Form 1120 on or about June 9, 1919, covering the calendar year. Following an examination and report by a revenue agent, of tbe Bureau of Internal Revenue, it was decided by the Commissioner that the most equitable method of adjustment would be to- work up the income on a fiscal year basis, compute the tax in the same manner, making corrected balance sheets as of the fiscal closing dates and prorate the tax on a calendar year basis, i. e., the tax, at 1917 rates, was computed on the income for the year ended April 30, 1917, and also for the year ended April 30, 1918. Then one third of the tax found to be due for the former year was added to two thirds of the tax due for the latter year, the result being tbe tax due for the calendar year. The tax was then computed for the period from January 1, 1918, to April 30, 1918, and a return was made up for the fiscal year ended April 30, 1919. A computation was then made for the period from May 1, 1919, to December 31, 1919, beginning with which date the books of account were properly kept on a calendar year basis. It is admitted by the petitioner that no part of taxable income has been subjected to tax more than once as a result of the computation employed by the Commissioner.
    The petitioner filed returns for the fiscal year ended April 30, 1919, on or about October 26, 1920, to coincide with the new basis suggested by the revenue agent and approved by the Commissioner. In this manner, the return filed for the year ended April 30, 1919, included eight months which had heen covered by tbe return filed for the calendar year 1918.
    In the returns originally filed on a calendar year basis, wherein the fiscal year ended April 30, inventories were used, petitioner included, in the aggregate, all taxable income up to and including December 31, 1919, except as to certain adjustments for depreciation, etc., which were found necessary in the routine audit of the returns. In other words, the deficiency does not arise by reason of the intentional or unintentional omission of any income due to the difference in the basis of reporting. The adjustments to aggregate income which were made in the audit would have been made on either basis.

      On January 8, 1925, the Commissioner proposed to assess $55,985.22 additional taxes for the fiscal year ended April 80, 1919. On February 4, 1925, petitioner protested the proposed assessment relying on the expiration of the statutory period of limitations. On February 11, 1925, the Commissioner denied that the statutory period had expired and stated that unless a waiver was filed within ten days the additional taxes would be assessed. Before filing said waiver, however, the petitioner’s representative discussed the case with a representative of the Commissioner and as a result of such conference a waiver, accompanied by a letter dated February 20, 1925, was forwarded to the Commissioner, and both of which in photostatic form are submitted herewith as petitioner’s exhibits 1 and 2. Another waiver, dated December 10, 1925, was filed with the Commissioner, covering the fiscal year ended April 80, 1919, a photostatic copy of which is made a part hereof and identified as petitioner’s exhibit “ 3.” Said waiver was qualified in manner and form as is evidenced on the face thereof.
    The parties agree that the issue before the Board to be decided is whether the statute of limitations prevents the assessment of the additional tax proposed for the entire fiscal year ended April 30,1919, the petitioner having filed a return for the calendar year 1918 on June 9, 1919, which included eight months of the twelve-month period included in the return for the fiscal year ended April 30, 1919, filed on or about October 26, 1920. The petitioner admits its liability for additional taxes for the period in question, to the extent only of the amount computed at rates in effect beginning January 1, 1919, in amount $10,763.00. The remaining amount of $45,222.22 should be apportioned to the period beginning May 1, 1918, and ending December 31, 1918, this being the amount arrived at by use of the rates in effect for that period.
    The petitioner contends, that having filed a return on or about June 9, 1919, for the twelve months ended December 31, 1918, and such return having been outlawed, on or about June 9, 1924, no tax can be assessed or collected for any period ending prior to January 1, 1919.
    A second issue may be stated as follows: If the assessment of additional tax for the portion of the fiscal year 1819, falling in the year 1918 was barred on January 8,1925, the date when the Commissioner sent out a thirty-day letter, did the filing of a waiver, in ‘manner and form as alleged, on February 20, 1925 (see petitioner’s exhibits 1 and 2), tend to reopen and extend such period?
    Exhibit 1 accompanying the stipulation is as follows:
    XT: CA: 2227-11
    Fus. 20th, 1925.
    Income and Profits Tax Waiver
    (For taxable years ended prior to March 1, 1921)
    In pursuance of the provisions of existing Internal Revenue Laws, Beck Engraving Co., a taxpayer of Philadelphia, Pd., and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the fiscal year ended April 30, 1919 under existing revenue acts, or under prior revenue acts. This waiver of the time for making any assessment as aforesaid shall remain in effect until December 31, 1925, and shall then expire except that if a notice of a deficiency in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall he extended sixty days, or (2) if an appeal is filed with said Board then said date shall be extended by the number of days between the date of mailing of said notice of deficiency and the date of final decision by said Board.
    (Signed) The Beck Engraving Co. Inc.,

      Taxpayer.

    By Chas. W. Beck, Jr.,

      Treasurer.

    D. H. Blair,

      Commissioner.

    If this waiver is executed on behalf of a corporation, it must be signed by such officer or officers of the corporation as are empowered under the laws of the State in which the corporation is located to sign for the corporation, in addition to which, the seal, if any, of the corporation must be affixed.
    [SEAL.]
    The aforementioned consent was accompanied by letter of transmittal of even date addressed to the Commissioner of Internal (Revenue, Washington, D. C., as follows:
    February 20, 1925.
    Sib: In accordance with the request created in the Commissioner’s letter of January 8th, 1925, file No. IT: CA: 2227-11, we submit herewith waiver for the fiscal year ended April 30, 1919. This waiver is submitted solely because requested by the Department and the undersigned taxpayer reserves all rights it may have which may later, upon competent authority be found to be in existence at this date.
    Very truly yours,
    Beck Engraving Company.
    PCR:HB
    Exhibit 3 accompanying stipulation is as follows:
    IT: E : SM
    MEP-B-23584-10
    Income and Profits Tax Waives Eob Taxable Years Ended Prior to January
    1, 1922
    December 10, 1925.
    In pursuance of the provisions of existing Internal Revenue Laws Beck Engraving Company, a taxpayer of Philadelphia, Pa., and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due under any return made by or on behalf of said taxpayer for the fiscal year ended April 30, 1919, under existing revenue acts, or under prior revenue acts.
    This waiver of the time for making any assessment as aforesaid shall remain in effect until December 31, 1926, and shall then expire except that if a notice of a deficiency in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall be extended sixty days, or (2) if an appeal is filed with said Board then said date shall be extended by the number of days between the date of mailing of said notice of deficiency and the date of final decision by said Board.
    The Beck Engraving Co., Inc.,

      Taxpayer.

    Taxpayer reserves all rights in existence at date hereof.
    [seal.] (Sgd.) Chas. W. Beck, Jr.,
    D. H. Blair,

      Commissioner.

    If this waiver is executed on behalf of a corporation, it must be signed by such officer or officers of the corporation as are empowered under the laws of the State in which the corporation is located to sign for the corporation, in addition to which, the seal, if any, of the corporation must be affixed.
    The notice of deficiency was mailed to the petitioner on February 2, 1926.
   OPINION.

Moesis :

With respect to the fiscal year ended April 30, 1919, and the deficiency determined for the same, the petitioner asserts that the statute of limitations constitutes a bar to the assessment or collection of the tax for any period ending prior to January 1, 1919, and therefore $45,222.22 of the deficiency asserted can not be assessed or collected. ' Petitioner admits the correctness of the remainder of the deficiency and does not contest the respondent’s determination as to the calendar year 1920.

The proceeding raises a question of law, the determination of which necessarily involves a consideration of the various returns filed by the petitioner, the time of filing of said returns, and the application of the statute of limitations to the return which is held to be the one required by law. The petitioner filed three returns covering a part or all of the period here involved, only one of which can be the statutory return. The tentative return which was filed on or about March 12, 1919, for the calendar year 1918 can be eliminated from consideration in view of our decision in the Appeal of Dallas Brass & Copper Co., 3 B. T. A. 856, wherein we held that such a return was not the return required by law.

As to the remaining two returns, we are of the opinion that the return filed on or about October 26, 1920, for the fiscal year ended April 30,1919, is the statutory return and that the statute of limitations begins to run from that date. This is true because the statute provides by section 212 (b) of the Revenue Act of 1918 that “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 * * Petitioner therefore had no authority and was in error when it filed returns on a calendar year basis while keeping its books on a fiscal year basis.

The period of limitation upon assessments under the provisions of the Revenue Act of 1918 is contained in section 277 (a) (2) of the Revenue Act of 1924, as follows:

(2) The amount of income, excess-profits, and war-profits taxes imposed by * * *, tbe Revenue Act of 1918, * * * shall be assessed within five years after the return was filed, and no proceeding in court for the collection of such taxes shall be begun after the expiration of such period.

Section 277 (a) (8) of the 1926 Act is to the same effect, and it follows accordingly that the bar to the assessment would operate after October 26, 1925.

It is provided, however, by the revenue laws, beginning with section 250 (d) of the Revenue Act of 1921, that the period within which taxes may be assessed can be extended by an agreement between the taxpayer and the Commissioner evidenced by a writing. In pursuance of this authority the Commissioner submitted a consent form to the petitioner which was executed by the latter on February 20, 1925, whereby the time for making an assessment was extended until December 31,1925. Subsequently the parties executed a second consent on December 10, 1925, which extended the time for making an assessment to December 31, 1926. Petitioner accompanied the form executed February 20, 1925, with a letter of transmittal wherein in a broad and general statement it attempted to reserve all rights which it might have had at the time of signing the consent. The second consent carries on its face a similar reservation which states “ taxpayer reserves all rights in existence at date hereof.”

Having decided that the statute of limitations- on the entire fiscal year ended April 30, 1919, began to run on or about October 26, 1920, it is unnecessary to consider the second issue presented, whether, if the assessment of additional tax for the portion of the fiscal year 1919, falling in the year 1919 was barred on January 8, 1925, the filing of the consents set out in the findings of fact, tended to reopen and extend such period.

It follows, therefore, that on February 2,1926, the statutory period within which taxes may be assessed against the petitioner for the fiscal year ended April 30,1919, as extended by the consents, had not expired. Cf. Appeal of Davis Feed Co., 2 B. T. A. 616.

Reviewed by the Board.

Judgment will be entered for the respondent.


source: Caselaw Access Project

author: Green :

license: Public Domain

text:
    Home Builders Shipping Association, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 7044.
    Promulgated October 21, 1927.
    Patronage dividends allowed as part of cost of goods sold.

      D. B. Welty, Esq., for the petitioner.

      Dwight H. Green, Esq:, for the respondent.
    In this proceeding the petitioner seeks a redetermination of its income and excess-profits-tax liability for the calendar year 1919, for which the Commissioner in his deficiency letter dated July 13, 1925, has determined a deficiency in the amount of $365.39. The amount of tax in controversy, however, is $1,398.41. The error alleged in the petition is as follows:
    In determining the taxpayer’s taxable income for the calendar year 1919, the Commissioner of Internal Revenue has disallowed as a deduction, in computing the gross income, the sum of $4,137.70 which was the amount of the total liability to the stockholders of the taxpayer on December 31, 1919, as a patronage dividend based on the number of bushels of wheat sold to the taxpayer by each member and stockholder thereof during the calendar year 1919.
    FINDINGS OF FACT.
    The petitioner was incorporated under the laws of the State of Oklahoma on March 6,1916.
    Its articles of incorporation provided that the purpose for which it was formed was “ to buy and sell farm products, coal, lumber and other commodities and do a general shipping business”; that the place where its principal business was to be transacted was at Aline, Okla.; that the term for which the corporation was to exist was 20 years; that there were to be five directors or trustees; and that the amount of the capital stock was to be $5,000 divided into 1,000 shares of $5 each. On March 15, 1918, an application was filed with the secretary of state for increasing the authorized capital stock from $5,000 to $20,000.
    The petitioner’s constitution and by-laws are as follows:
    Constitution.
    Article I.
    Sec. 1. The name of this organization shall be The Homebuilders Protective and Shipping Association of Alfalfa County.
    Article II.
    Sec. 1. The officers of said Association shall be President, Vice President, Secretary-Treasurer and General Manager; there shall be five Directors elected by the Association. Said Directors shall elect President, Vice President and Secretary-Treasurer out of their number. The General Manager shall be employed by the Board of Directors and under their control at all times.
    Sec. 2. The President shall preside at all meetings of the Association. He shall be authorized to call meetings of the .Board of Directors and shall be chairman of said Board.
    Sec. 3. The Vice President shall perform the duties of the President in his absence.
    Sec. 4. The Secretary-Treasurer shall keep a complete record of all meetings of the Association and of the Board of Directors; he shall receipt for all moneys received from every source; he shall pay out the same upon orders signed by the President and shall perform all other duties required of him by the Board.
    Sec. 5. The Directors of this Association shall be elected annually at a general meeting held on the second Monday in January or as soon thereafter as may be convenient and shall hold their office for one year or until their successors are elected and installed, unless removed for cause.
    Sec. 6. The General Manager shall keep a correct record of all business done by him and shall make report from time to time as the Board of Directors may require.
    Sec. Y. The books and records of this Association shall be open for inspection at all reasonable times by the members of this Association.
    Sec. 8. The majority shall rule at all meetings. Any officer may be removed at any time by referendum vote of this Association.
    Sec. 9. These By-Laws may be revised or amended at any general meeting of the Association, provided due notice be given .at least 30 days prior to meeting, said notice-specifying change to be made.
    Article III.
    Sec. 1. Membership fees shall be $2.00 with ten cents per month dues, payable in advance annually.
    Sec. 2. Any member falling more than three months behind with dues shall be suspended from the benefits of the Association until said dues are paid up one year in advance.
    Sec. 3. Every stockholder in good standing shall be entitled to one vote on all questions in all general meetings.
    Article IV.
    Sec. 1. The Manager shall give bond equal to twice as large a sum of money as he is liable to handle at any one time.
    Sec. 2. The Directors shall decide as to the size of the bond and to the liability of the bondsmen.
    Corporation By-laws.
    Article I.
    Sec. 1. The object of this corporation shall be to supply the economic needs of the members, to buy, sell or produce any of the products of labor; to buy, sell, build or operate any means necessary to production or distribution. This corporation shall have a common seal for making all acts and proceedings legal.
    Article II.
    Sec. 1. None but members of the Homebuilders Protective and Shipping Association shall be permitted to buy or hold any shares in this corporation.

      Article III.
    Sec. 1. The shares of this corporation shall be of the par value of $5.00 and shall be issued in blocks of five at the first issue; and shall he payable in one sum of $10 cash, the balance to be paid either in cash or by accrued dividends and rebates at the option of the purchaser.
    Sec. 2. Any member may transfer their shares hut must first offer same to the Board of Directors.
    Sec. 3. No member shall receive any cash dividends until all dues have been paid.
    Sec. 4. Should any member be expelled for any cause his shares shall be cancelled and his money refunded.
    Article IY.
    Sec. 1. The capital fund shall consist of the money paid to the corporation for shares and shall be used by the Board of Directors in commercial and industrial undertakings in any manner advised by two-thirds majority of the stockholders present at any stockholders’ meeting.
    Sec. 2. The surplus funds shall consist of the surplus profits of the corporation not otherwise appropriated and shall be divided annually among the stockholders.
    Article V.
    Sec. 1. The Board of Directors shall constitute a Board of Audit whose duty it shall be to pass upon all claims against the corporation; inspect the property of the corporation on the first Monday in each quarter and file a report of same with the Secretary.
    Article VI.
    Sec. I. This corporation may enter industrial pursuits as soon as its capital will permit and may operate any industry for the benefit of its members.
    Sec. 2. The Directors shall meet as often as necessary for the transaction of business but shall not receive more than $2.00 per day for the time necessarily spent in the performance of their duty; except the Secretary, and he shall receive extra pay for all time necessarily spent outside the meetings.

    Sec. 3. At meetings of the stockholders each member shall be entitled to one vote only, and only stockholders shall be permitted to vote at stockholders’ meetings.
    Sec. 4. Stock in this corporation shall be non-assessable.
    Sec. 5. No member shall be liable for more than the amount of his or her capital stock.
    On March 15,1920, the petitioner filed with the collector of internal revenue for the district of Oklahoma its income and profits-tax return for the calendar year 1919. Under Schedule A it deducted as a part of the cost of goods sold the amount of IIJST.IX), representing an amount which it had determined was due its stockholders on wheat purchased from them during the year in addition to the price paid for the wheat at the time of delivery and referred to as “ Patronage dividends.” On July 13, 1925, the Commissioner issued a deficiency letter in which he disallowed the item of $4,137.VO and made the following statement in connection therewith:
    Patronage Dividend: The item of $4,137.70, representing amount intended to be paid as a patronage dividend, and upon which you base your protest, has been disallowed as a deduction. The disallowance is based on a decision of the Unit where it has been held that since the so-called patronage dividends were neither declared, accrued or paid, but were included as a part of surplus, which was eventually wiped out by operating losses, they do not constitute an allowable deduction from gross income.
    The petitioner kept its books and rendered its return upon the accrual basis of accounting.
    During the year 1919 the petitioner purchased from its stockholders and others approximately 100,000 bushels of wheat and of this amount approximately 80,000 bushels were purchased from its own stockholders. It resold during the year all of the wheat purchased with the exception of 8,170 bushels which it carried in its inventory on December 31, 1919.
    It had been the consistent practice of the petitioner from the date of incorporation to promise to pay its stockholders a so-called patronage dividend on all wheat which it purchased from them. This dividend would be determined in the following manner. First the stockholder would be paid a certain price for his wheat at the time he delivered it to the petitioner. It was then orally agreed between the stockholder and the petitioner that the petitioner would later pay the stockholder an amount equal to the difference between the price at which the petitioner resold the wheat, and the price originally paid the stockholder at the time of delivery plus the cost to the petitioner of reselling the wheat. Such so-called patronage dividends were actually paid to the stockholders on all 1916 and 1917 purchases but were not paid on the 1918 purchases for the reason that the petitioner did not have the money with which to make the payments.
    On June 19, 1919, the board of directors of the petitioner met at the petitioner’s office at one o’clock in the afternoon and passed the following resolution:
    Moved by Booze, seconded by Geist that there be paid on Paid-up capital stock 10% int. rate per annum, and that the minimum legal rate be retained as a sinking fund; and that balance of earnings if any be prorated to stockholders on wheat. Motion carried.
    During the year 1919 the petitioner sold additional capital stock of the par value of $4,745. It was explained to all the prospective stockholders, as an inducement to buy stock, that a patronage dividend prorated on wheat would be paid by the petitioner that year. By reason of promising the farmers a patronage dividend on wheat, the petitioner succeeded in having farmers bring their wheat to its elevator which was a greater distance from their farms than the other elevators where they would have to sell at the market price.

      On December 11, 1919, the board of directors of the petitioner met and passed the following resolution:
    December 11, 1919. Board of directors met today, Thursday, instead of Tuesday the 9th as usual. Present Goodno, Guice, Booze and Young. Manager’s report read and accepted. Moved by Guice that manager’s report to annual meeting in January, 1920, shall show the amount of each article of merchandise handled during the year, including wheat, grain, oats, flour, feed, lumber, coal, modoc posts, cement and miscellaneous articles, and also the amount of profit or loss on each. Motion carried.
    At the annual stockholders meeting on January 17, 1920, it was moved and carried that the revenues of the association for 1919 be distributed as directed by the board at their December meeting. A full account of the January meeting is as follows:
    January 17, 1920, ft,. S. Goodno in the chair. Manager’s report was read showing business of the association in a good healthy condition, net gain thirteen thousand ninety-four dollars and thirty-six cents ($13,094.36). On motion report was accepted. Remarks were offered by H. O. Booze, J. A. Dual, Frank Brown. Resolution by Young after general discussion was lost. Moved by Powers that revenues of association for 1919 distributed as directed by the Board at their December meeting. Motion carried. Moved by H. Guice that in the future we prorate to the stockholders all revenues of the association on all commodities handled by the association, paying interest on stock. Did it carry? I say it did.
    We then proceeded to the election of a board of directors. The following were nominated: R. S. Goodno, J. R. Powell, J. Weber, J. G. Young, J. A. Dual, H. Booze, T. J. Buckavan, T. Chenault, H. G. Guice, P. O. Daly, B. Cap-wright and Robert Held. Nominations closed. Weber, Buckavan and Chenault withdrew. Votes stood as follows: Goodno, 101; Young, 98; Dual, 93; Booze, 57; Guice, 48; Daly, 45; Capwright, 47; Held, 80. Moved by G. A. Dual that there be a committee appointed by the president to revise our by-laws and that the proposed by-laws be printed and mailed to each stockholder by the secretary, and that such notice include a call of a meeting by the president to vote on said by-laws. Held, Young, Dual, Booze and Goodno having a majority of the votes are declared elected members of the Board of directors for the coming year. The officers elected were called to the platform and addressed the meeting.
    The following were appointed the committee to formulate the by-laws: H. C. Guice, D. Capwright, J. R. Powell, 33. R. Ging, G. W. Grandel and Gross. The meeting adjourned, J. G. Young, Secretary-Treasurer.
    In computing the amount of the patronage dividend payable for the year 1919 the cost of' the wheat purchased at the time of delivery to the petitioner by the stockholder plus the cost of reselling the wheat, was deducted from the sum of total wheat sales plus the amount of wheat on hand at the close of the year at market price. Under this method the patronage dividend figured 5 cents per bushel. The total amount of the patronage dividend for the year 1919 which was computed under this method amounted to $4,137.70. This latter amount was deducted by the petitioner on its income and profits-tax return as a part of the cost of goods sold and was disallowed by the Commissioner in his deficiency letter.
    In the balance sheet as of the close of the year which was attached to the petitioner’s return the amount of $4,131.10 is shown as a liability of the petitioner to the stockholders on wheat sold. This balance sheet is as follows:

      Supporting Schedule K — Balance Sheet January 1, 1920.

    The stockholders had been advised that the patronage dividend computed as stated above would b<* paid them on the basis of the number of bushels of wheat sold by each to the petitioner during the year 1919. This liability of the petitioner to its stockholders was erroneously omitted from its books when they were closed for the year 1919.
    The above item of $4,137.70 has never been paid to the stockholders for the reason that at no time since 1919 has the petitioner had sufficient funds with which to pay it.
   OPINION.

Green :

The question here is whether the petitioner is entitled to deduct as a part of the cost of goods sold the amount of $4,137.70 determined by it in December, 1919, to be due its stockholders on wheat purchased from them during the year in accordance with an oral understanding that there would be paid to such stockholders, in addition to the amount paid them at the time of delivery, an amount equal to the difference between such amount plus the cost of reselling the wheat, and the price at which the wheat was resold. The additional price to be paid amounted to 5 cents per bushel and this multiplied by the approximate 80,000 bushels purchased from the stockholders during 1919 amounted to the $4,137.70 here in question. We know of no reason wliy the amount of $4,137.70 should not be treated as a part of the cost of wheat purchased. It was intended by all of the parties that it should be so treated. It has not been the practice of the Commissioner to disallow such items in other cases. See Appeal of Trego County Cooperative Association, 6 B. T. A. 1275. His reason for disallowing the item in the instant case was because it had not, according to his determination,* been declared, accrued or paid, and was eventually wiped out by operating losses. We have found that the petitioner kept its books upon the accrual basis; that it had .agreed with its stockholders, to pay this additional amount for the wheat purchased from them; that the payment was authorized by the board of directors during 1919; that the petitioner claimed on its income-tax return as a part of the cost of goods sold the amount determined by it in 1919 to be due the stockholders in accordance with the agreement between them; and that the amount so determined was set up on the balance sheet attached to the return as being due its stockholders. We believe that the amount here in question represented an actual liability on the part of the petitioner to its stockholders for wheat- purchased from them during 1919 and should be considered as a part of the cost of goods sold in determining the petitioner’s gross income. It is to our minds immaterial that the liability of $4,137.70 has not, as yet, been paid. There was no evidence that the petitioner never intended to pay it.

Reviewed by the Board.

Judgment will be entered on 15 dags’ notice, under Rule 50.

Steenhagen and Muedock dissent.


text:
    McCoy-Brandt Machinery Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 10733.
    Promulgated October 21, 1927.
    1. Invested Capital. — Petitioner at date of incorporation in 1915 acquired for stock an exclusive sales agency contract with the Allen-Bradley Co. Held, that no part of the value of this contract at date of acquisition could be included in invested capital for 1920. Evidence with respect to certain contracts alleged to have been acquired at date of incorporation held, insufficient to disturb the Commissioner’s determination with respect thereto.
    2. Expenses. — Gifts or Compensation. — Certain payments by petitioner to its employees at Christmas time held to represent additional compensation for services rendered rather than gifts.
    3. Expenses. — During 1920 petitioner paid a part of the vacation expenses of certain of its employees in order to retain their services. Held, that the amounts so paid are deductible as ordinary and necessary expenses.
    4. Invested Capital. — Respondent’s action in reducing invested capital by the amount of additional taxes for 1917 which were not paid until alter the close of the taxable year held to be justified under section 1207 of the Revenue Act of 1926. Appeal of Russel Wheel & Foundry Co., 3 B. T. A. 1168.

      A. Leo Ruslander, Esq., for the petitioner.

      W. Ercmh Gibbs,- Esq., for the respondent.

      In this proceeding the petitioner seeks a redetermination of its income and profits-tax liability for the calendar year 1920, for which the Commissioner in his deficiency letter dated November 18, 1925, has determined a deficiency in the amount of $4,241.59. The petition alleges that the Commissioner committed four errors, namely, in reducing invested capital by the alleged value of certain agency contracts alleged to have been acquired for stock at the date of incorporation ; in disallowing so-called “ Christmas Gifts ” to employees; in disallowing as a deduction from income that part of the expenses of employees’ vacations which was paid by the petitioner; and in reducing invested capital by the amount of additional taxes for 1917 which were not paid until after the close of the taxable vear 1920.
    BINDINGS OP PACT.
    The petitioner is a corporation organized under and existing by virtue of the laws of the Commonwealth of Pennsylvania, having its principal office and place of business at Pittsburgh. It was incorporated on October 13, 1915, and was the outgrowth of a partnership which began business in February, 1908. The business of the partnership and likewise that of the corporation was buying and selling machinery at retail and also acting as exclusive sales agents for certain machinery manufacturers. On October 18,1915, the partnership made the following written offer to the corporation:
    Gentlemen : We desire to make you a proposition in reference to taking over the entire busines of McCoy Brandt in exchange for $13,200 worth of stock in your corporation at itemized values of our business being as follows :
    Cash- $1,500
    Book accounts_ 2, 500
    Stock of machinery on hand at cost_ 3,160
    Agency contracts- 5,000
    Stationery and office fixtures and furniture_ • 240
    Good Will, Leases_ 800
    Total_13, 200
    It is understood of course that you assume all accumulated accounts.
    Yours very truly,
    McCoy & Brandt.
    PerW. E. Brandt.
    The above offer of the partnership was accepted by the petitioner. Among the “Agency Contracts ” taken over by the petitioner at the date of incorporation was a contract between the partnership as party of the second part and the Allen-Bradley Co., a corporation, party of the first part, entered into on December 31, 1910. This contract provided for the appointment by the party of the first part of the partnership as the sole sales agents for the Allen-Bradley Co. for the term of one year from the date of the contract. The partnership was to receive a commission of 10 per cent on all goods sold in the specified territory. No commissions were to be paid on goods returned or on goods not paid for except in cases where goods were returned because of the fault of the party of the first part. Commissions were due the partnership on the 10th of the month following the month in which collections for the goods sold were made. The party of the second part was not responsible in any manner whatsoever for collections, shipments or deliveries of goods sold by or through them. The party of the first part was to furnish all advertising and descriptive literature considered necessary by it. The parties of the second part were not to handle any similar or competing line of goods. The partnership was to pay all the expenses of maintaining its own office, including all traveling expenses. The three paragraphs next to the last paragraph of the contract provide as follows:
    It is understood and agreed that tills contract is to continue in force for tlie period of one (1) year from the date hereof. At the expiration of one year from the date hereof either party may terminate the same upon thirty (301) days written notice, by mail or otherwise; in the event that no such notice is given, then and in that event the contract is to remain in force for another year.
    The party of the first part also reserves the right to terminate this contract upon receiving notice of any breach of any of the terms of this contract by the parties of the second part.
    It is further agreed that this contract is not transferable by the parties of the second part, except by written permission from the party of the first part.
    The gross commissions received from the Allen-Bradley Co. by the partnership and the petitioner from 1911 to 1917, inclusive, were as follows:

    The actual cash value of the Allen-Bradley contract at the time the petitioner acquired it in 1915 was at least $5,000.
    The petitioner continued to represent the Allen-Bradley Co. only until 1918.
    The petitioner claimed as a part of its invested capital for 1920 the amount of $25,000 as representing the value of agency contracts aquired by it for stock at the date of incorporation. The Commissioner did not allow any part of the $25,000 to be included in the petitioner’s invested capital.
    On the books of account of the corporation the assets acquired in exchange for stock were set up exactly as they were in the offer to exchange such assets for stock. The agency contracts were valued at $5,000 and $5,000 of stock was issued therefor.

      Attached to the petition is a copy of the Commissioner’s notice of deficiency and a statement showing his computation of invested capital. In this statement, capital stock outstanding on January 1, 1921, is set up at $96,800 and earned surplus, as shown by the books, at $421. The record does not disclose whether the additional stock was sold for cash or issued in exchange for property.
    On December 24,1920, the petitioner paid bonuses to the following of its employees in the following amounts:

    The above bonuses were authorized a few days before payment by Walter E. Brandt, who at that time owned approximately 98 per cent of the petitioner’s outstanding stock. In addition to being the majority stockholder, Brandt was also president and treasurer of the corporation. In determining the amount of the bonus paid to each employee, Brandt took into consideration the length of time the employee was with the company, the type of work he did, the salary he was receiving and the responsibility he carried in his work. The payments in the amount of $1,182.50 were recorded in the petitioner’s distribution cost book under the caption of “ Christmas Gifts.” In authorizing these payments Brandt, as president of the petitioner, intended them to be additional compensation for services rendered.
    In making information returns to the Commissioner in connection with its annual return, the petitioner did not adxdse the Commissioner as to these payments or include them in the amount reported paid to the employees to xvhom payment in excess of $1,000 had been made during the year.
    The Commissioner did not allow any part of the $1,132.50 as a deduction from gross income.
    The Commissioner also disallowed as a deduction from gross income for the taxable year 1920 an amount of $450.35, representing a part of the petitioner’s employees’ vacation expenses which were paid by the petitioner. The demand for help in the petitioner’s line of business was more pressing in 1920 than at any other time, and the petitioner considered it necessary to pay the traveling expenses of certain of its employees during their vacation period in order to retain in its employ the men whom it had specially trained and who were acquainted with the type of business in which the petitioner was engaged.

      The respondent reduced the petitioner’s invested capital for the year 1920 by the amount of $2,833.45, representing additional taxes determined by the respondent to be due for the year 1917 which were not paid by the petitioner until after the close of the year 1920.
   OPINION.

Green :

The issues involved in this proceeding are: (1) Whether the respondent erred in not allowing in invested capital any value on account of alleged agency contracts alleged to have been acquired by the petitioner for stock at the date of incorporation; (2) whether the respondent erred in not allowing as a deduction from gross income any portion of the $1,132.50 paid to the petitioner’s employees on December 24,1920; (3) whether the respondent erred in not allowing as a deduction from gross income any portion of the vacation expenses of the petitioner’s employees paid by the petitioner; and (4) whether the respondent erred in reducing the petitioner’s invested capital by the amount of $2,833.45, additional income and excess-profits taxes for 1917 not paid by the petitioner until after the close of the taxable year.

In connection with the first issue, the petitioner claims that at the time of incorporation it acquired for stock certain exclusive sales agency contracts having an actual cash value of $25,000. At the hearing, although much was said about alleged contracts with the Automatic Transportation Co. and the Cowen Truck Co., the petitioner was only successful in proving that at the time of incorporation it acquired from the predecessor partnership an exclusive sales agency for the Allen-Bradley Co., manufacturers of electric machinery and equipment. We have found from a consideration of all the evidence that the actual "cash value of the Allen-Bradley contract at the date acquired by the petitioner was at least $5,000.

Paragraph (a) (4) of section 326 of the Revenue Act of 1918 reads as follows:

Intangible property bona fide paid in ior stock or shares prior to March 3, 1917, in an amount not exceeding (a) the actual cash value of such property at the time paid in. (b) the par value of the stock or shares issued therefor, or (c) in the aggregate of 25 per centum of the par value of the total stock or shares of the corporation outstanding on March 3, 1917, whichever is lowest.

As to the distinction between tangible and intangible property, we must look first to the Revenue Act of 1918, which contains the following provisions:

The term “ intangible property ” means patents, copyrights, secret processes and formulae, good will, trade-marks, trade-brands, franchises, and other like property;
The term “tangible property” means stocks, bonds, notes, and other evidences of indebtedness, bills and accounts receivable, leaseholds, and other property other than intangible property.

We are of the opinion that contracts of the type here under consideration are intangible property and that when such contracts are acquired in exchange for stock, they are subject to the limitations provided in the section of the revenue act quoted above.

We are unable to determine from the record the value of the intangibles acquired in exchange for stock, and for this reason are unable to determine to what extent, if any, the Allen-Bradley contract should be included in invested capital; moreover we can not ascertain from the record what proportion of the capital stock originally issued in exchange for agency contracts can be, or was, properly allocable to the Allen-Bradley contract. The Commissioner’s action in reducing invested capital by the amount of $25,000, being the amount added thereto by the petitioner by reason of such agency contracts, is accordingly approved. Without evidence relative to the other contracts alleged to have been acquired by the petitioner at the date of incorporation we can do nothing but sustain the Commissioner’s determination with respect thereto.

Addressing ourselves to the second and third issues, we are of the opinion that the petitioner is entitled to deduct from gross income for the taxable year 1920 the amounts of $1,182.50 and $450.35. See Appeal of Boericke & Runyon, 3 B. T. A. 684, and Popular Dry Goods Co. v. Commissioner, 6 B. T. A. 78.

The respondent’s determination with respect to the last issue is approved upon the authority of Appeal of Russel Wheel & Foundry Co., 3 B. T. A. 1168.

Reviewed by the Board.

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

Phillips and Sleekin' concur in the result.


author: Lansdon:

text:
    Appeal of the Executors of the Estate of S. U. Tilton. Appeal of Isaac P. Keeler.
    Docket Nos. 6378, 6379.
    Promulgated October 21, 1927.
    Salaries paid to petitioners by a partnership of which they were members were, in the circumstances of this proceeding, distributions of anticipated net distributive income and were income to the recipient at the close of the partnership accounting period.

      Clarence W. McGuire, O. P. A., for the petitioners.

      A. H. Fast, Esq., for the Commissioner.

      The Commissioner asserts deficiencies in income taxes for the calendar year 1919 in the amount of $1,112.01 as to Isaac P. Keeler and $885.21 as to the Estate of S. TJ. Tilton. The controversy arises from the determination of the Commissioner that certain amounts designated as salaries for services rendered to a partnership, of which the petitioners were the only members, were either actually or constructively received by them during each month of the taxable year. Counsel stipulated that the two appeals might be heard together and be decided in a single report.
    FINDINGS OP PACT.
    S. TJ. Tilton and Isaac P. Keeler were members of the business co-partnership of Tilton & Keeler of New York City, which was engaged in the business of converting cotton goods during the taxable year, and for many years prior thereto. By agreement between the partners, Keeler received 55 per cent and Tilton 45 per cent of the yearly net distributed profits, after each was paid a fixed sum designated as a salary for services rendered. The partnership kept its books and made its income-tax returns by the accrual method on the basis of a fiscal year ending at June 30. Each partner kept his individual accounts and made his personal income-tax returns on the cash receipts and disbursements method on a calendar year basis. Agreements as to salaries were made before the end of the fiscal years involved, but with instructions to the bookkeeper that no entries of any sort concerning the amounts designated as salaries should be made on the books of the partnership prior to June 30 of each such year. Beginning with the fiscal year, ended June 30, 1918, and continuing therefrom to include the taxable year, the so-called salaries were so agreed to and credited to the partners in the following amounts:
    For the fiscal year ended June 30, 1918: S. TJ. Tilton, $20,000; Isaac P. Keeler, $40,000.
    For the "'seal year ended June 30, 1919: S. TJ. Tilton, $20,000; Isaac P. Keeler, $40,000.
    For the fiscal year ended June 30, 1920: S. TJ. Tilton, $15,000; Isaac P. Keeler, $30,000.
    The respective amounts so credited were included by each of the taxpayers in his personal income-tax returns for the calendar years, which included the dates at which such credits were entered on the books of the partnership.
    By agreement between themselves each partner, with the consent of the other, withdrew certain amounts from the business for his own personal use during each of the fiscal years and was charged with amounts so withdrawn on the books of the partnership and also with interest at the rate of 6 per cent per annum on all such withdrawals from the dates made until June 30. Such withdrawals and interest paid thereon for the years material to this appeal were:
    For the fiscal year ended June 30, 1918: S. U. Tilton, $32,956.18; interest, $987.36; Isaac P. Keeler, $39,443.39; interest, $780.06.
    For the fiscal year ended June 30, 1919: S. U. Tilton, $49,457.34; interest, $830.71; Isaac P. Keeler, $66,266.95; interest, $1,417.69.
    For the fiscal year ended June 30, 1920: S. U. Tilton, $114,770; interest, $4,353.86; Isaac P. Keeler, $100,613; interest, $2,644.77.
   OPINION.

Lansdon:

The principal question for our determination here, is whether the so-called salaries were in fact salaries, constructively received by the partners monthly and therefore income for the taxable year so received under the provisions of section 213 of the Revenue Act of 1918, or were merely payments from the distributive net income of the partnership. If such allowances were distributions of partnership profits, they must be taxed to the recipients as provided in sections 218 and 205 (c) of the Revenue Act of 1918.

The respondent determined that the allowances here involved were in fact salaries to the partners and that they were constructively received, in proportionate parts, monthly. He held that one-half of the salary allowances to the partners for the fiscal year ended. June 30, 1919, was constructively received by them in the calendar year 1918, and that one-half of the salary allowances for the fiscal year ended June 30,1920, was constructively received in the calendar year 1919. In this manner he determined the 1919 salary of each partner by adding one-half of the 1920 allowance to one-half of the 1919 allowance, and included such sum within the partner’s income received in the calendar year 1919, and taxable at the rates for that year. The petitioners contended that the so-called salary allowances were nothing more than a distribution of partnership profits and are taxable to them, along with other partnership profits to which they are entitled, whether distributed or not, under section 218 of the Act. They contend that such salary allowances are to be reported by them, along with their distributive shares of other partnership net income, in their returns for the calendar year in which the partnership’s fiscal year ends, and are to be taxed in the same manner as other partnership income is taxed to them. That is to say, the $40,000 salary to Keeler and the $20,000 salary to Tilton for the fiscal year ended June 30, 1919, is to be reported in 1919 income, and is taxable, one-half at 1918 rates and one-half at 1919 rates. In the same manner, 1920 fiscal year salaries are to be reported in 1920 income and are taxable one-half at 1919 rates and one-half at 1920 rates.

It is well settled that partners are not entitled to a salary or compensation for services rendered to the partnership in the absence of an agreement express or implied, the reason being that the partnership relation imposes upon each member of the firm the obligation to devote his time and abilities to the affairs of the firm. The reward to which each partner is entitled is his right to share in the partnership earnings. Where there has been no agreement otherwise, the partners will share equally in the benefits derived, regardless of the ratio of their contributions and irrespective of the form of such contributions. However, the partnership agreement will control. If the partners agree on a proportional distribution of partnership profits, the agreement will be given effect since the courts have recognized the impracticability of determining the relative values of the respective contributions of the individual partners. We have heretofore held that partnership profits may be distributed in whatever proportions are determined by the partnership agreement. Appeal of Harriet A. Taylor, 2 B. T. A. 1159.

An agreement between partners to pay salaries from profits is nothing more than the determination of a basis for dividing such profits. A partner devoting his time and energies to the business of the firm is in fact working for himself and can not be considered as an employee of the firm in the sense that he is in the service of another. It follows, therefore, that he can not be paid a salary by the firm out of earnings in the sense of compensation for services rendered to an employer. In effect any allowances drawn by a partner from partnership assets are payments which he makes to himself and no man can be his own employer or employee. A partner receiving a salary is merely transferring money from one to another of his own pockets. Leo Schwartz v. Commissioner, 7 B. T. A. 223.

It follows that whether or not a salary allowance to a partner, being merely a distribution of partnership assets, is taxable income to the recipient, can not be determined until the close of the partnership year for not until that time can it be known whether such payments were made from capital or profits. The salary is chargeable to the partner as income for his taxable year in which the partnership accounting period ends. To hold that a salary paid by a partnership to one of its members is income when received, regardless of whether such payment is made from capital or profits, may result in the taxation of capital. This Board has recognized this principle in Appeal J. H. Goadby Mills, 3 B. T. A. 1245, in which we said:

* * * In recognizing a partnership for- accounting purposes, Congress realized that until the close of the partnership’s accounting period it can not be determined whether or not the partnership has any net income. The earnings of the earlier month may be entirely eliminated by losses sustained in the closing months of the partnership’s accounting period, even to the extent of showing a net loss for the entire accounting period. Under such circumstances, it could not be said that distributions during the first months of the partnership’s accounting period constitute income to the partners when the operations cf the entire accounting period show that the partnership sustained a loss.

In the instant proceeding the record discloses that Keeler received $40,000 and Tilton $20,000 on June 30th of the taxable year, and that the former also received 55 per cent and the latter 45 per cent of the distributive partnership income remaining after the payment of the amounts specified in the annual supplementary agreement providing for distribution to members of the firm on account of services rendered. That the agreed amounts paid or credited to Keeler and Tilton were designated as salaries is not material to the question to be decided. Regardless of what they were called such amounts were received by the petitioners on June 30, 1919, and must be accounted for by them as income for the year ended December 31, 1919.

If the payments received by the petitioners on June 30, 1919, had been personal salaries in law and in fact, the resulting income in its entirety would have been taxable at the income-tax rates effective in that year, since each of the petitioners kept his accounts and made his income-tax returns on the cash receipts and disbursements basis. As the amounts received by the petitioners were not payments on account of salaries within the meaning of the taxing statute, but were shares of the distributive profits of the partnership earned during the fiscal year ended June 30,1919, then, under the provisions of section 218(a) of the Revenue Act of 1918, one-half of the resulting income is taxable under 1918 rates, and the remainder under rates effective during the period from January 1 to June 30,1919.

Since we have determined that so-called partnership salaries are no more than a distribution of anticipated profits if paid prior to the end of the partnership accounting period and may in fact turn out to be withdrawals of capital, we find no significance in the withdrawals made by the partners during the taxable year. Such withdrawals, whether of anticipated profits or of capital, in no way affected the shares of distributive partnership profits due each of the partners at the close of the accounting period of the partnership and have no relation to the issues of the proceeding.

Reviewed by the Board.

Judgment will he entered on 10 days'1 notice, under Bule 50.

Muedock concurs in the result.