text:
    Appeal of CENTRAL CITY CHEMICAL CO.
    Docket No. 398.
    Submitted January 21. 1926.
    Decided April 19, 1926.
    The evidence held insufficient to establish value of certain patents for invested capital and depreciation purposes.
    Z. J. Leminger for the taxpayer.

      B. H. Saunders, Esq., for the Commissioner.
    Before Maequette and Love.
    This is an appeal from the determination of income and profits tax for the year 1919, in the amount of $401.47. The deficiency arose from the refusal of the Commissioner to allow any value for a certain patent paid in for stock, for the purpose of computing invested capital and depreciation.
    FINDINGS OF FACT.
    The taxpayer is an Illinois corporation with its principal office at Chicago, and is engaged in the business of manufacturing and selling formaldehyde disinfecting lamps for fumigating houses after contagious diseases.
    The taxpayer ivas organized in January, 1912, with a capital stock of $25,000, divided into 2,500 shares of the par value of $10 each. Prior to the organization of the corporation the business was operated by a partnership composed of three partners, who were the inventors and owners of the patent for the formaldehyde disinfecting lamps. For approximately six months they devoted all their time to the development of the business based upon this patent. When the taxpayer company was organized, $15,550 par value of. the stock was issued to the three partners, the balance being sold to others; for cash. They turned in the patent at a valuation of $20,000, and the furniture, fixtures, and other tangible assets at a valuation of $4,100. For the purpose of obtaining its charter from the State of Illinois, the incorporators presented to the State authorities an appraisal of a disinterested party placing a value of $26,150 upon the assets, which included the patent rights.
    Subsequently, in 1915, acting upon the advice of an auditor, the taxpayer reduced the value of the patent upon its books to $10,000, at which value it has been carried upon the books ever since. At or about the time of the transfer of the patent to the taxpayer corporation, the patent was not offered for sale, nor was an offer received. Some time prior to the transfer the owners were offered $4,000 or $5,000 for the entire business, but the offer was refused as being too low and for the further reason that the parties making it were not, considered financially responsible.
    Since the year 1917 the taxpayer has done a gross business of $100,000 to $150,000 per annum, and has earned net profits of approximately $12,000 per year. There was no evidence of sales or earnings for the years immediately prior or subsequent to the time of acquisition of the patents by the taxpayer. The Commissioner allowed $5,000 for the tangible assets paid in for stock, but refused to attribute any cash value to the patents as of the time of acquisition.
   OPINION.

Love:

The taxpayer is evidently under the impression that, because in recent years the patents in question have become valuable, they had a value in the year 1912, when they were acquired by the taxpayer. For the purpose of computing invested capital, we are interested only in the cash value of the patents at the time of their acquisition. The taxpayer has not furnished us any factors upon which we can determine these values, and hence we must sustain the-Commissioners determination.

Order of redetermination will be entered on 15 days’ notice, vmder-Rule 50.


source: Caselaw Access Project

author: Loa'b :

license: Public Domain

text:
    Appeal of SALLIE M. WORTHAM.
    Docket No. 2902.
    Submitted October 15, 1925.
    Decided April 19, 1926.
    1. Evidence held insufficient to disturb the determination of the Commissioner that certain promissory notes, secured by real property, received by the taxpayer in 1918 as part payment for the sale of certain land, were worth their full face value in 1918, and should, therefore, be included in ’ the computation of the gain realized from the sale.
    2. Depreciation disallowed for lack of evidence.

      Robert Ash,, Esq., and R. L. Grofton, O. P. A., for the taxpayer.

      Ward Loveless, Esq., for the Commissioner.
    Before Maiiqttette and Love.
    This is an appeal from the determination of a deficiency for the year 1918 in the amount of $15,168.10. The taxpayer assigns error on the part of thfe Commissioner: (1) In attributing a gain to the sale of a certain cotton plantation, and (2) in refusing to allow depreciation claimed by the taxpayer on buildings.
    This appeal was consolidated with the appeal of S. T. Shaw, Docket No. 3359, for the purpose of taking testimony by depositions, as both appeals involved the same facts. At the hearing, it appearing that the said S. T. Shaw had, in the meantime, paid the tax, his appeal was dismissed. Jurisdictional pleas made by the Commissioner were denied at the hearing.
    FINDINGS OP PACT.
    The taxpayer is an individual residing in- Greenville, Miss. From 1900 to 1915 she was the owner of a large cotton plantation, consisting of 1,452 acres. The plantation was known as the “ Waco Plantation.” In 1915 the taxpayer formed a partnership with S. T. Shaw, under the name of Wortham & Shaw, for the purpose of operating this plantation. Shaw was an experienced plantation manager and personally managed the farm. Sallie M. Wortham left all her business affairs in the hands of her husband, E. R. Wortham. In 1915 Shaw paid $25,000 for an undivided one-half interest in the above-described plantation. The payment was made in notes, of which $20,460 was still unpaid in 1918, prior to the sale to Smith, hereinafter set forth.
    In the year 1918 the taxpayer and Shaw sold the place to Frank T. Smith for $123,419.98, upon terms of $25,000 cash, and 17 notes for $90,419.98, extending over a period of eight years and bearing 6 per cent interest. These notes were secured by a deed of trust on the land, with the provision that certain portions of the plantation could be sold by Smith and notes of the new purchaser substituted for Smith’s notes, with the further provision that the note's should not be less than $60 peí acre valuation and a cash payment of $30 should be paid for each acre and the sale price of the land should not be less than $90 per acre. The pertinent parts of the trust deed in relation to the above provisions were as follows: It is one of the considerations of this conveyance that the grantor herein, Frank T. Smith, his heirs, executors, administrators, and assigns, may sell and convey any portion, parcel or part or all of the lands herein conveyed in trust which lie south of the Greenville and Leland road running thru said Waco Plantation in an easterly and westerly direction, provided that no part of said lands shall be sold and conveyed by the said Frank T. Smith or his successors or assigns, as herein provided, for less than Ninety Dollars ($90) per acre; and in the event that the said Frank T. Smith, his successors or assigns, shall make sale of said lands or any part or portion thereof, the said Sallie M. Wortham and S. T. Shaw jointly and severally for themselves, their successors and assigns, hereby agree and it is one of the considerations of this deed of trust that Ben F. Wasson, the trustee herein named or his successor or successors in trust shall release all or any portion of said lands so sold by the said Frank T. Smith upon the payment to the said trustee or his successor or successors in trust of the full amount of the cash payment made to the said Frank T. Smith, and notes secured by trust deed upon the lands to be released in an amount not exceeding Sixty Dollars ($60) per acre, said cash and such notes so secured by trust deed on said lands so sold by the [said] Frank T. Smith, or his successors or assigns, to aggregate at least Ninety Dollars- ($90) per acre; and upon the payment of said cash and notes in amount of not less than Ninety Dollars ($90) per acre as herein provided, the said trustee and his successor in trust, shall thereupon credit the amount so paid upon the notes of said Frank T. Smith herein described, making the application upon the note or notes in the order of their several maturities, the said trustee or his successors in trust, to make the application of said payment so made by the said Frank T. Smith to the said Sallie M. Wortham or S. T. Shaw, or their successors or assigns, in the same proportion in which the notes herein described are held by said Wortham and Shaw, but it shall not be required of the said Frank T. Smith that he shall see to or be responsible for the proper application of said payments as he may make as herein provided, but the trustee shall give the said Frank T. Smith credit and release each tract, piece or parcel of land as may be sold and' payments made in cash and notes of amounts and in the manner herein provided; and said trustee and his successors in trust, are authorized, empowered and directed to make full and complete release of all of said lands so sold by the said Frank T. Smith upon the demand of the said Frank T. Smith, his successors and assigns, when accompanied by cash and notes as herein provided.
    The 17 notes executed by the said Smith were as follows:

    The taxpayer was given a larger amount in notes than Shaw to make up for the balance due her from Shaw. She extinguished Shaw’s debt to her, accepting such notes at their full face value.

      The broker’s fee for selling the property was $8,130, of which $5,000 was paid in cash and the balance of $3,130 was paid with one of Smith’s notes, which was accepted by the real estate agents at its full face value. In 1918 Smith resold 300 acres of the land for $26,642.92, for which he received $7,000 cash and $19,642.92 in notes extending over a period of five years, which were turned over to the trustees who canceled Smith’s notes in a like amount. This sum of $7,000, together with the $25,000 initial payment, or a total of $32,000, was received by the taxpayer within the taxable year and was in excess of one-fourth of the purchase price. In 1919 Smith also sold 171½ acres for $19,437.50, at the rate of $114 per acre. This sum was also paid in cash and notes for which the trustee canceled a like amount of the notes of Smith.
    After the sale of the plantation by Wortham and Shaw to Smith in 1918, Shaw went into partnership with E. R. Wortham, husband of the taxpayer, and purchased and operated a plantation in Louisiana. In 1919, this plantation having suffered a loss and the partners being obligated to make certain cash payments, and Shaw being unable to pay his portion, E. R. Wortham paid the obligations, and, to reimburse himself for Shaw’s share, took notes of Smith at their full face value.
    There* was no evidence that Sallie M. Wortham, the taxpayer, E. R. Wortham, or S. T. Shaw, undertook or attempted to sell any of Smith’s notes in 1918 or subsequent years. - Several years after the sale E. R, Wortham negotiated with the bank for the sale of one of the notes at a heavy discount, but was unsuccessful.
    During the year 1918, there was a boom in the cotton business. High prices for cotton caused an unusual demand for cotton land. This demand caused an increase in the value of land, which resulted in many transfers and sales at high prices. Land which was normally worth $40 to $60 an acre went up in some instances as high as $200 and $300 per acre. The taxpayer’s land, valued in 1913 and 1915 at $35 per acre, was, as hereinabove set forth, sold to Smith at $85 per acre, and he in turn sold portions of it for $88 and $114 per acre in 1918 and 1919. The sales, however, were usually made in consideration of a small proportion of the price being paid in cash and the balance in notes secured by the land. The boom was followed by a depression in cotton prices, so that by 1921 the land was a drug on the market and many cotton farmers failed and lost their land. Smith, however, did not abandon the property in question until the spring of 1925. Those who purchased the land from Smith abandoned their land.
    The Commissioner treated the sale of land to Smith as a transaction giving rise to a taxable gain for 1918, and, in determining the gain resulting from the sale, Aralued the notes at their full face value.
    The taxpayer also claimed depreciation on buildings which she rented, but there was no evidence as to their March 1, 1913, value or the depreciation thereon.
   OPINION.

Loa'b :

The principal issue in this case is whether the Commissioner erred in treating the sale in question as a closed transaction in 1918, and in including in the computation of the gain the full face value of the secured notes. The Commissioner’s position is based upon the assumption that the secured notes were worth their full face A alue. The burden .is upon the taxpayer to prove the notes did not have the market value attributed to them. Appeal of Aaron W. Wolfson, 1 B. T. A. 538; Appeal of W. B. Packman, 2 B. T. A. 508. This is not an installment sale within the purview of section 212 (d) of the Revenue Act of 1926, as the initial payments were in excess of one-fourth of the purchase price.

The taxpayer contends that the land was sold for an abnormally high price and that the notes Avere only secured by land which would require a market value of at least $10 per acre to amply secure them, and that the land Avas not in fact worth that amount. There is no evidence that any of the parties attempted to dispose of the notes to any of the banks or in the open market. However, it appears that, in all the transactions in which the notes played a part, they were taken at their full face value. In 1918 the taxpayer accepted $20,460 of the notes for the extinguishment of the debt of S. T. Shaw to her. Brokers who sold the land accepted $3,130 of the notes at their full face value as part of their commission. In 1919 E. R. Wortham accepted the Smith notes (the amount of which is not disclosed) at their full face value in payment of the debt of Shaw arising from a partnership transaction-. It also appears that $26,642.92 of the notes Avas paid in cash and other notes within the year 1918, and that $19,431.50 was likewise retired in 1919. The substituted notes, moreover, were secured by the same land.

The taxpayer, in support of her contention, introduced the testimony of a number of witnesses, Avho testified to the value of the land and the poor market conditions for such notes in 1918. However, as pointed out by the Commissioner, there has been no evidence as to the financial responsibility in 1918 of the maker of the notes, Avhich is an essential factor. In fact, the taxpayer’s witnesses were particular to' specify that they knew nothing detrimental to his financial standing, and one important witness for the taxpayer went so far as to state that the financial standing of the maker was considered good during the year in question. This is corroborated to some extent by the fact that, even under the trying conditions following the cotton depression, the maker of the notes stayed with the land until the spring of 1925, and there is no evidence that he did not promptly meet the payments as they became due. The taxpayer testified that she personally had never seen any of the notes, knew nothing about them, and did not know whether or not any were outstanding.

So far as 1918 is concerned, the evidence is convincing that even the land itself was ample security for the notes. In fact, a portion of- the same tract was sold at $88 per acre, and in 1919 a tract was sold at $114 per acre. There was evidence of sales of near-by cotton lands at even higher prices. We are of the opinion that the taxpayer has failed to prove that the notes in question did not have the market value the Commissioner attributed to them in 1918, and that their face value should be included in the computation of gain resulting from the sale.

The taxpayer, in her petition, alleged error on the part of the Commissioner in not allowing certain depreciation on buildings she owned for rental purposes. No evidence was presented as to their March 1, 1913 value or any other sufficient information upon which the depreciation, if any, could be ascertained. The Commissioner’s determination in this respect should not be disturbed.

The deficiency is $15,168.10. Order will be entered accordingly.


author: Green:

text:
    Appeal of JACKSON K. DERING.
    Docket No. 2178.
    Submitted June 29, 1925.
    Decided April 19, 1926.
    1. A taxpayer on March 1, 1913, was the owner of the fee in coal land, subject to a lease which provided for the payment of a royalty of 3.25 cents per ton. During the year 1913 and subsequent years he permitted the lessee and its sublessees to remove coal upon the payment of a royalty rate of 2.10 cents per ton. Held, that the royalty rate paid should be used in the computation of the basis for depletion rather than the rate provided in the lease and not paid.
    2. Where a tax has been assessed and a claim filed for the abatement thereof, this Board is without jurisdiction, under the Revenue Act of 1924, until the taxpayer appeals from the Commissioner’s final determination of the claim in abatement.

      O. B. Oardy, Esq., for the taxpayer.

      Arthur J. Beaton, Esq., for the Commissioner.

      Before Korner, Sternhagen, Lansdon, ■ Green, and Love.
    The taxes in controversy are income taxes for the calendar years 191T, 1918, and 1919, in the amounts of $2,528.65, $1,349.99, and $4,627.59, respectively. The taxpayer, in his computation of net income for 1917, deducted an allowance for depletion at the rate of $0.05 per ton; for 1918, $0.0721 per ton; and for 1919, $0.1295 per ton. For each of the years the Commissioner, in his computation of net income, used as a basis for the depletion deduction the amount of $0.012978.
    The Commissioner alleges in his motion and answer that, as to ihe 1917 tax, no deficiency letter, as provided in section 274(a) of the Revenue Act of 1924, was mailed to the taxpayer; that the Commissioner assessed the tax referred to in a letter in January, 1925, prior to the filing of this appeal, and that since the assessment of said tax the Commissioner has rejected no claim for the abatement thereof. It is further alleged that the statutory period within which the 1918 tax may be assessed has expired. Upon the above allegations the Commissioner moves that the appeal be dismissed as to the years 1917 and 1918.
    FINDINGS OF FACT.
    The taxpayer, a resident of Lake Villa, Ill., has his principal -office in Chicago. His business is largely the mining of coal, the selling of coal at wholesale, and farming.
    On July 11, 1912, the taxpayer purchased, for a cash consideration of $49,600, the fee in the mineral rights of 331 acres of coal lands and 6 acres of surface rights upon which were four miners’ houses. These coal lands are located in Vermillion County, Ind., near the town of Clinton, and are in what is known as the Clinton field. At the time of the purchase there was available for mining only what is known as the No. 4 vein of coal. The other veins had been mined out or were not of such a nature that they could be mined at a profit. A part of the No. 4 vein could not be mined because of a fault which ran through it.
    The coal from the No. 4 vein is limited in quantity, has a low ash . and sulphur content, and is well adapted to metallurgical and open-hearth furnace work. It is practically the only coal from the Illinois and Indiana fields which competes with eastern coal for metallurgical purposes. For several years the Illinois Steel Co. purchased practically the entire output of the mine.
    The Chicago & Eastern Illinois Railroad crosses the eastern end of the property. All of the No. 4 coal was mined and removed through mine No. 5, the shaft of which is located immediately adjacent to the tracks of such railroad. The Clinton field has a 10-cent differential in freight rates under competing fields in the Chicago market.
    On April 17, 1900, the mineral rights subsequently acquired by the taxpayer by the purchase above mentioned were leased by the then owners, Lars A. Whitcomb, Lydia A. P. Whitcomb, and Nema M. Whitcomb, to the Bruilette Coal Co. for a term of 20 years. The-lessees agreed to pay 3½ cents per ton for all coal above a certain size, with a stipulated minimum monthly payment of $116.66.
    This lease, by assignment or otherwise, came into the possession of the Chicago & Eastern Illinois Railroad and it, in turn, prior to-March 1, 1913, leased the property described in the Whitcomb lease,, together with other property, to the J. K. Dering Coal Co. The taxpayer owns at least 90 per cent of the stock of the J. K. Dering Coal Co., is its president, and directs and supervises all its operations-
    In 1914 the Chicago <⅜ Eastern Illinois Railroad went into the hands of receivers, one of whom, William J. Jackson, was a personal friend of the taxpayer. The order appointing the receivers authorized them to cancel all leases it had with operating companies, and pursuant to this order the lease from the railroad company to-the Dering Coal Co. was canceled.
    The receivers, as such, operated the No. 5 mine, theretofore operated by the Dering Coal Co., until April 1, 1916, when a new lease was made to the J. K. Dering Coal Co. by a new set of receivers, appointed shortly theretofore.
    At some time not disclosed by the record, the receivers above named were succeeded by F. S. Peabody, Jabez Wooly, and the taxpayer, as joint receivers.
    During all of the years subsequent to the acquisition of the fee in the minerals by Dering, he permitted the various lessees or operators to remove coal upon the payment to him of $0.021 per ton.. So far as the record discloses, the Whitcomb lease, with its $0.0325 royalty rate, continued in full force and effect until the expiration of the term therein provided. The Chicago & Eastern Illinois Railroad Co. and its various sets of receivers, among whom was the taxpayer, in their various leases to .the J. K. Dering Co., leased the right of the railroad company, which right existed only by virtue of its interest under the Whitcomb lease.
    During 1917 there were mined from the property of the taxpayer, 165,939 tons; 1918, 116,041 tons; and in 1919, 94,072 tons. The total tonnage mined between March 1, 1913, and the abandonment of the mine in 1924 was 1,180,884 tons.
   OPINION.

Green:

Briefly stated, the situation is this: The taxpayer, owning the fee in mineral land subject to a lease, permitted the lessee or the sublessees, of which his own company was one, to remove coal continuously after July 11, 1912 (the date on which he acquired the property), upon the payment of a royalty to him of 2.1 cents. Why this was done is not disclosed and is not material. That it was done is important in that, in our judgment, the royalty rate in effect on March 1,1913, is determinative of the value of the taxpayer’s interest therein and of the rate of depletion to be applied.

The evidence in several places indicates, to us that there were transactions that were not disclosed to us; that not all leases were made at arm’s length, and that the taxpayer may have been actuated by considerations of which we are not advised. It is apparent from the documentary evidence introduced that the lease from Keller (receiver) to the J. K. Dering Coal Co. did not include all' the coal lands previously leased to it by the railroad, from which it removed, subsequent to the Keller lease, a large quantity of coal.

The effect of it all is to permit the lessee and sublessees under the Whitcomb lease to remove coal upon the payment of a lesser royalty than is provided therein. The value of, and the correct depletion rate to be applied to, mineral rights subject to a lease on March 1, 1913, may properly be determined from the royalty rate provided in the lease and the tonnage in place on that date. This is exactly what the Commissioner did in arriving at the depletion rate which we have approved.

As to the 1917 tax, we must grant the Commissioner’s motion. The tax for this year has been assessed and no claim in abatement has been denied. Under the Bevenue Act of 1924, this Board has no jurisdiction until after the filing of a claim in abatement in accordance with the provisions of the statute and the denial thereof. Appeal of Oakdale Coal Co., 1 B. T. A. 773.

The tax for 1918 has not been assessed. Where the Commissioner admits that the tax for the year in question may not be assessed or collected because the statutory period of limitation has run, no purpose can be served by a consideration of the tax liability for such year.

The proceeding is dismissed as to 1917 for want of jurisdiction. There is no deficiency for lpl8, and the deficiency for 1919 is $⅛,-627.59. Order will he entered accordingly.


author: Littleton: Smith,

text:
    Appeal of BRAY & KATES CO:
    Docket No. 4705.
    Submitted March 1, 1926.
    Decided April 19, 1926.
    1. Compensation of officers disallowed.
    2. The Commissioner’s method of determining the excess-profits tax and the 4 per cent tax under sections 4 and 200 of the Revenue Act of 1917 of a corporate taxpayer having a fiscal year beginning in 1916 and ending in 1917, approved. Appeal of F. J. Thompson, Inc., 1 B. T. A. 535.

      L. D. Latham, Esq., for the taxpayer.

      Benjamin H. Saunders, Esq., for the Commissioner.
    Before James, Littleton, Smith, and Tiiussell.
    This is an appeal from the determination of a deficiency in income and profits tax for the fiscal year ending July 31, 1917, in the amount of $4,184.50. The taxpayer contends that the Commissioner erred (1) in refusing to allow a deduction of $15,000, representing additional compensation of officers, and (2) in computing the normal income tax by applying the amount of excess-profits tax to the income for the entire year ending July 31, 1917, in arriving at the normal income for that portion of the income applicable to the calendar year 1917.
    FINDINGS OP FACT.
    The taxpayer is an Illinois corporation engaged in the manufacture of creamery and dairy supplies, with principal office at Arlington Heights. The entire capital stock of the company, consisting of 500 shares, was owned by Richard Bray, president, and A. T. Kates, secretary and treasurer. The directors of the corporation were Richard Bray and A. T. Kates, and their wives, the latter being the owners of one share each in order to qualify them as directors.
    The by-laws of the corporation provided that the annual meeting of the directors should be held in November of each year and that special meetings of the directors should be subject to call by the president.
    For the years prior to 1917 the salaries of the two principal officers and stockholders were fixed at $2,500 each, against which they made withdrawals from time to time during the year, and any amount of salary which they had not withdrawn during the year was credited to their account at the end of the fiscal year. Likewise, the profits of the corporation during its fiscal year were credited in equal amounts to the accounts of the two stockholders.
    Bray and Kates were close neighbors and their families frequently visited one another. During one of these visits, in the month of February, 1917, the business of the corporation was informally discussed between them, as was customary at such times, and the matter of increasing the salaries of the two officers to $10,000 a year each was mentioned, and, during the discussion, the two directors and their wives indicated that no objection would be interposed to such action. No definite action, however, was taken on this occasion and nothing further was done regarding the matter until after the close of the fiscal year on July 31, 1917, when an accountant was called in by the officers, in accordance with their custom, to audit the books of the corporation. On August 15, 1917, a special meeting of the directors was called, and a resolution was adopted which provided that the salaries of Bray and Kates should be $10,000 a year each for the year ending July 31, 1917, and $12,500 a year each thereafter, and that withdrawals theretofore made by the president and treasurer, and charged to their personal accounts, should be credited to these salaries for the fiscal year ending July 31, 1917, and the difference, if any, should be paid to them in cash. The increased salary was paid to the officers subsequent to August 15, 1917. The taxpayer filed its return for the fiscal year ending July 31, 1917, on September 4, 1917, upon the basis of cash receipts and disbursements, and deducted therein $5,000 representing the salaries of the two officers. On March 25, 1918, the taxpayer executed a return, Form 1031, for the purpose of the income and excess-profits tax, and claimed therein a deduction of $15,000 as salaries for the two officers. The Commissioner allowed a deduction of $5,000 for officers’ salaries.
    The Commissioner determined a net income for the fiscal year ending July 31, 1917, of $66,060.47. This is not disputed by the taxpayer, except in so far as the additional salaries are concerned. Upon this net income the Commissioner determined that the excess-profits tax computed for the full twelve months was $20,262.44, and that the profits tax for seven months of 1917 was $11,819.76, which, deducted from the net income of $66,060.47, left a balance of $54,-240.71, which was subjected to the tax at 2 per cent, and the tax at 4 per cent was computed upon $31,640.41.
   OPINION.

Littleton:

Upon consideration of the evidence relating to the deduction of additional compensation of officers for the taxable year, the Board is of the opinion that the evidence is insufficient to warrant the allowance of this deduction. The taxpayer bases its claim therefor upon an informal conference claimed to have been held at the home of one of its officers in February, 1917. The testimony as to what was. said on that occasion does not warrant the conclusion that the directors definitely determined at that time to increase the salaries of the officers to $10,000 for the taxable year, or that their informal discussion of the matter of salaries was such as to create a liability of the corporation to pay the same. It appears that, on that occasion, when the business of the corporation was being informally discussed, one of the officers mentioned the matter of salaries and of their being warranted in increasing the same to $10,000 a year. It was also indicated by the others that no objection would be interposed to such action. No portion of-this additional salary was paid 'during the taxable year and no entry was made upon the books, or memorandum made thereof, by either of the officers. Nothing was said to the bookkeeper relative thereto. It was explained by one of the officers testifying that it was their custom never to inform the bookkeeper of the amount of their compensation lest he should disclose such information to persons outside of the organization. It appears that it had been the custom of the officers for several years to withdraw from time to time amounts of money which were charged to their account, and that at the end of the year entries were made crediting to their account any undrawn portion of their salaries. During the fiscal year ending July 31, 1911, the two officers did not, up to that time, withdraw any amount, in excess of their regular salary. Upon the adoption of the resolution on August 15, 1917, an entry was made as of July 31, 1917, crediting the officers with the additional compensation of $7,500 each, and this amount was at that time, or subsequently, paid to them.

Under these circumstances, the Board is of the opinion that the Commissioner correctly disallowed the additional compensation as a deduction for the taxable year.

The taxpayer contends that, under the provisions of the Revenue Act of 1917, the amount of excess-profits tax should be applied only against that portion of the taxable net income for the fiscal year ending July 31, 1917, as was earned during the first seven months thereof, and that the normal tax for that portion of the calendar year 1917 falling within the fiscal year ending July 31, 1917, should be computed upon the amount of income applicable to the first seven months of 1917, less the excess-profits tax for the same period. In other words, that the Commissioner should have computed the profits tax for seven months of 1917 upon seven-twelfths of the entire net income for the full fiscal year and, after deducting the profits tax so computed, that he should have computed the tax of 4 per cent upon seven-twelfths of the difference between the profits tax and seven-twelfths of the entire net income.

The Board has already decided this point adversely to the contention of the taxpayer. Appeal of F. J. Thompson, Inc., 1 B. T. A. 535; Appeal of Mesa Milling Go., 2 B. T. A. 770; Appeal of Phoenix Seed & Feed Co., 2 B. T. A. 909.

The deficiency for the fiscal yecw ending July SI, 1917, is $¡¡.,181.50. Order will he entered accordingly.

Smith,

dissenting: I dissent on the second point on the basis of

the reasoning of the court in United States v. Semple do Go., decided by the United States Circuit Court of Appeals, Third Circuit, on February 27, 1926, 10 Fed. (2d) 1023.


author: Abundell :

text:
    Appeal of MEYER JEWELRY CO.
    Docket No. 3143.
    Submitted January 26, 1926.
    Decided April 20, 1926.
    Cancellation of indebtedness by agreement of creditors, under circumstances set forth, held not to constitute income.

      Fred J. Wolf son, Esq., and L. U. Grcüwford, G. P. A., for the taxpayer.

      Briggs G. Simpich, Esq., for the Commissioner.
    Before SteeNhageh and ARUNDell.
    This is an appeal from the determination of a deficiency in income and profits taxes for the fiscal year ended January 31, 1922, in the sum of $7,130.36. The deficiency arises from the inclusion in gross income of $44,023.37, representing the amount of indebtedness forgiven the taxpayer by certain of its creditors, and by the inclusion in income of $3,254.38, designated on the books of the taxpayer as a reserve for bad debts.
    FINDINGS OE FACT.
    The taxpayer was organized under the laws of Missouri in 1890, with a capital stock of $2,000, and has been at all times engaged in the jewelry business in Kansas City. Louis Meyer owned most of the stock of the taxpayer and was its president and directing head.
    The affairs of the taxpayer became so involved that on or about March 1, 1921, a meeting of the creditors was had in New York with Meyer and his attorney for the purpose of reaching some adjustment of the claims against the company. The creditors, after making an investigation, determined that 60 per cent of their claims was all they could expect to realize, either by composition or by forced liquidation. The creditors, desiring that the company should be given a chance to continue in business, agreed to accept 60 per cent of their claims, payment to be made in six installments, each amounting to 10 per cent of their respective claims and maturing at intervals until July 2, 1922. The first payment was to be made in cash in April, 1921, and the remaining payments were to be evidenced by notes of the company. The taxpayer, during 1921 and 1922, paid the full 60 per cent agreed upon and was fully discharged from the indebtedness so compounded. The claims of the creditors were reduced by the amount of $44,023.37, which amount was treated on the books of the taxpayer as a contingent liability until January 31, 1924, when, after certain minor adjustments, it was transferred to the surplus account of the company.
    The books of the taxpayer disclose that its book surplus was, at the close of the fiscal years 1917 to 1924, as follows:
    Jan. 31, 1917_$66,514.97
    Jan. 31, 1918_ 72,292.46
    Jan. 31, 1919_ 72,182.18
    Jan. 31, 1920_ 74,783.58
    Jan. 31, 1921_ 55,385.29
    Jan. 31, 1922- 31,032.11
    Jan. 31, 1923 (before transfer of contingent liability)_ 8,984.79
    Jan. 31, 1924 (after adjustment and transfer to surplus of the amount forgiven)_ 52,817.03
    The taxpayer maintained two control accounts in its general ledger, known as “ City accounts receivable ” and “ Country accounts receivable.” Some time after the close of the fiscal year 1921, the taxpayer’s accounts were audited as of January 31, 1921, by an accountant, who reported that discrepancies existed between the two control accounts and the subsidiary accounts receivable ledgers. TTis audit disclosed that the subsidiary ledger for city accounts receivable shoived outstanding accounts which, in the aggregate, were less than the balance in the control account by- the amount of $2,094.59, and that the subsidiary ledger for country accounts receivable showed outstanding accounts which, in the aggregate, exceeded the balance in the control account by the amount of $3,385.89, a net difference of $1,291.30. Instead of making entries in the control accounts, so as to bring them into balance with the subsidiary ledgers, taxpayer opened in its general ledger an adjustment account to which the net difference of $1,291.30 was charged. During the fiscal year 1922, debit and credit entries were made to this adjustment account. After the close of the fiscal year 1922, the accounts were again audited, as of January 31, 1922, by the same accountant. This latter audit disclosed that the subsidiary ledger for city accounts receivable showed outstanding accounts which, in the aggregate, were less than the balance in the control account by the amount of $1,019.80, and that the subsidiary ledger for country accounts receivable showed outstanding accounts which, in the aggregate, were greater than the balance in the control account by the amount of $4,274.18, a net difference of $3,254.38. Following this audit a journal entry was made •charging country accounts receivable control account with the amount of $4,274.18 and crediting city accounts receivable control account and reserve for bad debts with the amounts of $1,019.80 and $3,254.38, respectively. The Commissioner increased the net income as reported by the taxpayer for the fiscal year 1922 by the amount credited to the bad debt reserve, to wit, $3,254.38.
   OPINION.

Abundell :

If the cancellation of an indebtedness under the circumstances in this case may be called income by the common understanding of the word, it is believed that section 213 of the Revenue Act of 1921 is sufficiently broad to make the amount thereof taxable. Congress intended to exercise its power to the full'extent granted by the Constitution. Eisner v. Macomber, 252 U. S. 189, 206; Irwin v. Gavit, 268 U. S. 161. The Supreme Court, in the case of Stratton's Independence v. Howbert, 231 U. S. 399, a case arising under the Corporation Excise Tax Act of 1909, first defined income as the “ gain derived from capital, from labor, or from both combined.” This definition, as explained in Eisner v. Macomber, supra, has been uniformly followed. In that case Mr.' Justice Pitney laid down the fundamentals to be considered in determining what is income, within the meaning of the law and the Constitution, in such clear language that it has served as a guide in all future cases. The court said :

After examining dictionaries in common use (Bouv. B. D.; Standard Diet.; Webster’s Internat. Diet.; Century Diet.), we find little to add to the succinct definition adopted in two cases arising under the Corporation Tax Act of 1909 (Stratton’s Independence v. Howbert, 231 U. S. 399, 415; Doyle v. Mitchell Bros. Co., 247 U. S. 179, 185) — “Income may be defined as the gain derived from capital, from labor, or from both combined,” provided it be understood to include profit gained through a sale or conversion of capital assets, to which it was applied in the Doyle Case (pp. 183, 185).
Brief as it is, it indicates the characteristic and distinguishing attribute of income essential for a correct solution of the present controversy. The Government, although basing its argument upon the definition as quoted, placed chief emphasis upon the word “gain,” which was extended to include a variety of meanings; while the significance of the next three words was either overlooked or misconceived. “ Derived — from—capital;"—“ the gain— derived — from—capital," etc. Here we have the essential matter: not a gain accruing to capital, not a growth or increment of value in the investment; but a gain, a profit, something of exchangeable value proceeding from the property, severed from the capital however invested or employed, and coming in, being “derived", that is, received or draion by the recipient (the taxpayer) for his separate use, benefit and disposal; — that is income derived from property. Nothing else answers the description.
The same fundamental conception is clearly set forth in the Sixteenth Amendment — “ incomes, from whatever source derived ” — the essential thought being expressed with a conciseness and lucidity entirely in harmony with the form and style of the Constitution.

In the case of the Merchants' Loan c& Trust Co. v. Smietanka, 255 U. S. 509, the court, in commenting upon the definition of income as heretofore laid down, stated:

There would seem to be no room to doubt that the word [income] must be given the same meaning in all of the Income Tax Acts of Congress that was given to it in the Corporation Excise Tax Act and that what that meaning-is has now become definitely settled by decisions of this court.
In determining the definition of the word “ income ” thus arrived at. this court has consistently refused to enter into the refinements of lexicographers or economists and has approved, in the definitions quoted, what it believed to be the commonly understood meaning of the term which must have been in the minds of the people when they adopted the Sixteenth Amendment to the Constitution.

In the case of Kerbaugh-Empire Co. v. Bowers, 300 Fed. 938, the taxpayer, a borrower of German marks, repaid the debt eight years later when marks had fallen in value. The Commissioner taxed as income the difference in value. The court, in a well-considered opinion, held that the saving was not taxable as income since it was not derived from the employment of capital, or labor-, or both combined, or from a sale or conversion of capital assets resulting in a profit, and that “ under the Constitution and the Revenue Act of 1921 there can be no such thing as a negative income; the two words being inconsistent.” The court, in reaching its conclusion, stated:

In the case at bar, there was no sale of capital assets, nor was there any such conversion of capital assets, as existed in the Phellis Case. On the government’s theory, all that the plaintiff could have had is an accretion of assets. As a matter of fact there was not even an increase of assets. There was a decrease of assets through the payment of a part of plaintiff’s assets in settling the indebtedness. The fact that after the transaction the plaintiff’s balance sheet had improved was not sufficient to constitute “ a gain derived from capital.” If anything, it was a gain accruing to capital, and, as such, under the Eisner and Phellis Cases, was not taxable income.

Now to apply the tests as laid down by the courts to facts in the instant appeal. The evidence is clear that it was not compensation for services; it can not be considered as income from a business entered into for profit, and there is no element to identify it as a gain which was derived from capital, or from labor, or from a combination of both. It is true the taxpayer has been relieved from paying an amount to its creditors by their common consent, an amount which the evidence shows it could not have in fact paid whether voluntarily relieved of payment or not. Its balance sheet will disclose a more favorable financial condition, but “ enrichment through increase in value of capital investment- is not income in any proper meaning of the term.” Eisner v. Macomber, supra. That the taxpayer received a benefit in the sense of being able to continue its business may be conceded, but such an opportunity can not constitute a gain or income, within the meaning of the Constitution and the Revenue Acts. It is not believed that relief from paying an obligation, under the circumstances set forth in this case, constitutes income, and it is our opinion that it is not taxable under the statute.

It does not follow from what has been said that there may not be circumstances constituting the remission of an indebtedness income, nor are we called upon to pass upon the question whether the cancellation of the indebtedness may have served to reduce the cost price of the goods purchased by the taxpayer, thereby serving to furnish a nexv basis for the determination of gain or loss on their subsequent disposition. We are convinced, however, under the circumstances of this appeal, that the cancellation of the taxpayer’s indebtedness does not constitute income.

From the findings of fact it is evident that the Commissioner erred in including in income the entire sum of $3,254.38, the amount of an item designated on the books as a reserve for bad debts. An audit of the books at the close of the fiscal year January 31, 1921, disclosed a net difference between the control and subsidiary ledgers of $1,291.30. No adjustment to bring these ledgers into balance was made at that time. A further audit of these books at the close of the fiscal year January 31, 1922, disclosed the fact that the difference between the control and subsidiary ledgers amounted to $3,254.38. Obviously, only the difference between $3,254.38 and $1,291.30 constituted income for the fiscal year ended January 31, 1922.

Order of redetermination will be entered, on 15 days1 notice, under Rule 50.

SteeNhageN dissents.

On reference to the Board, James and Graupner dissent. Phillips and Texts sell concur in the result only.


author: Love :

text:
    Appeal of GREENVILLE COAL CO.
    Docket No. 3784.
    Submitted November 16, 1925.
    Decided April 20, 1926.
    1. Certain expense and capital items segregated and determined.
    2. Taxpayer not allowed amortization of war facilities where it appears the facilities still have a useful though diminished value and there is insufficient evidence to enable the Board to determine to what extent their useful value was impaired, or the actual or estimated cost of replacing them under normal postwar conditions.
    3. Under the circumstances in this appeal, a reserve for liabilities to injured employees is not deductible in excess of the actual payments therefrom.

      W. P. Sandidge, Esq., for the taxpayer.

      John D. Foley, Esq., for the Commissioner.
    Before Marquette, Green, and Love.
    This appeal is from the determination of a deficiency ,in income and profits tax for the year 1918, in the amount of $79,213.02.
    The taxpayer urges four assignments of error:

      (a) The Commissioner erred in disallowing items amounting to $8,006.81, which taxpayer deducted as expense items.
    (⅞) The Commissioner erred in refusing to allow the taxpayer to take a deduction by $31,038.88, on account of certain items first charged by it to capital account and then, by amended return, claimed as expense items.
    (c) The Commissioner erred in refusing to allow amortization of war facilities as a deduction.
    (d) The Commissioner erred in refusing to allow taxpayer to take a deduction of $15,838.91, reserve for liability insurance.
    BINDINGS OE PACT.
    The taxpayer is a Kentucky corporation with its principal office at Greenville. Its business is that of operating a coal mine. In 1918 it expended $7,194.90 for the following items, which were used in the operation of its mine and charged to expense, and as such disallowed by the Commissioner and by him restored to capital:
    EXHIBIT A.
    1918.
    Feb. 11. Dynamite and electric fuses_ $205.19
    11. Pipe and fittings, replacement parts steam line_ 719.68
    11. Pipe, valves, grease cups- 180. 06
    11. Fire brick used in furnace_ 185. 38
    27. Extension electric line_ 327. 37
    Mar. 2. Pipe and fittings- 407.52
    10. Hoisting rope replacement_ 121. 48
    Apr. 5. Steel rails_2, 491. 27
    July 10. Copper cable_*_ 151.16
    10. Tipple scales replacement- 128. 86
    10. Repairs on tipple scales_ 24. 98
    16. Freight on material_ 6. 44
    16. Shaft and counterweight for weight pan_ 25. 91
    Aug. 10. Repairs on locomotive_ 169. 46
    10. Asbestos- 300. 00
    Sept. 10. Automatic switches used in extension mine track_ 455.63
    Nov. 11. Copper wire used in extension electric line_ 754. 51
    11. Asbestos_ 540.00
    7.194.90

      In 1918 it expended $31,083.04 for the following items, used by it in the operation of its mine and originally charged by it to the capital account, but later, in an amended return, claimed as expense items, and as such disallowed by the Commissioner and by him restored to capital:
    EXHIBIT B.
    1918.
    Jan. 15. Trolley wire extension_■ $403. 65
    15. Cages for shaft_ 436.13
    15. Hoisting engine_ 2, 741.74
    15. Payment on electric locomotive_ 1,920. 82
    Feb. 11. Bolts and washers_ 13.15
    11. Small lighting generator_ 262. 72
    11. Payment on electric locomotive_ 519. 50
    Mar. 13. Two mining machines_ 5, 000. 00
    13. Freight_ 20.90
    13. Twenty mine cars_ 2,655.46
    28. Steel rails for extension_ 2, 367. 72
    29. One mining machine_ 2, 500. 00
    Apr. 10. Tipple scales_ 180.00
    10. Frogs and switches, extension motor road_ 340. 47
    16. Screens- 2,177.33
    June 3. Mining machine_ 3,200.00
    10. Rapier scales_ 21. 00
    26. Miscellaneous labor_ 36. 00
    July 31. One mining machine_ 3, 200.00
    Aug. 10. Wagon scales_ 241. 83
    10. Transformer_ 214.00
    Nov. 29. Twenty mine cars_ 2, 630.60
    31, 083.04
    Prior to the World War, taxpayer was able to obtain all needed labor by employing men who had homes near enough to its mines to work the mines from their homes, which obviated the necessity of taxpayer furnishing quarters for its laborers.
    When the war came on most of such labor went into the Army, and it then became necessary for taxpayer to build houses for men with families in order to supply the mine with necessary labor. A large proportion of the output of the mine, during the war period, went directly to government-operated railroads, munition plants, and other war facilities. After the close of the war, when the soldiers had returned home, the necessary laborers could have been and to a large extent were obtained without the use of those houses, but most of those houses have been used by taxpayer as tenant houses, or for other purposes, since the close of the war. Those houses cost taxpayer approximately $31,000. The Commissioner refused to allow any amortization.

      Prior to 1916 taxpayer carried liability insurance. By reason of a controversy with the insurance company, it ceased, in 1916, to carry such insurance, and in lieu thereof deposited periodically with a trustee certain amounts as a reserve to meet and care for its liability to employees for accidents. In 1918 it deposited in said reserve $15,838.91, and during that year paid out to injured employees $6,248.67.
    ' Taxpayer deducted the whole amount so deposited in said reserve from its gross income. The Commissioner allowed the deduction to the extent of $6,248.67 and disallowed the balance.
   OPINION.

Love :

Among the items listed in Exhibit A, copied in the findings of fact, we believe, from the evidence in this appeal, that the following should be classed as ordinary and necessary expense items and that their costs should be deducted as such:

Dynamite and electric fuses- $206.19
Pipe and fitting replacements, parts of steam line_ 719. 68
Pipe, valves, grease cups_ 180. 06
Pire brick used in furnace-:- 185. 38
Pipe and fittings_ 407. 52
Hoisting rope replacements- 121.48
Tipple scales replacements_ 128. 86
Repair on tipple scales_ 24.98
Freight on material_ 6. 44
Shaft and counterweight fpr weight pan_ 25. 91
Repairs on locomotive_ 169.46
Asbestos_ 300. 00
Asbestos_ 540. 00
3, 014. 96

The other items listed in Exhibit A, we believe, should be classed as capital, as determined by the Commissioner.

With reference to items listed in Exhibit B, as copied in our findings of fact, under all ordinary conditions, we believe they clearly fall within the classification of capital, and there are no facts in the record which show that those items should be otherwise treated in the instant appeal. Appeal of Winifrede Coal Co., 1 B. T. A. 566; Appeal of Union Collieries Co., 3 B. T. A. 540; Appeal of Kirk Coal Co., 3 B. T. A. 755. The determination of the Commissioner as to said Exhibit B is approved.

Taxpayer claimed amortization on the tenant houses erected by it during the war period. The record discloses the fact that those tenant houses have been used by the taxpayer since the close of the war. Neither the exact amount or comparative value of such use, nor the actual or estimated cost of replacing them under normal postwar conditions, is disclosed. It may be that taxpayer is entitled to some amortization on account of materially diminished useful value, but, because it is disclosed that those houses have been and still are used, it is evident that they did not lose their entire useful value, and there are no facts in the record that will enable the Board to determine to what extent their useful value was impaired. We therefore approve the determination of the Commissioner on that issue.

During the taxable year taxpayer set aside as a reserve $15,838.91 to take care of its liabilities to injured employees. Out of that fund it paid to injured employees during the year $6,248.67. The Commissioner allowed a deduction in the amount of actual payments, but disallowed the reserve in excess of such payments. In this the Commissioner was right. Such a reserve is not authorized by the Revenue Act of 1918.

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


author: Love'!

text:
    Appeal of EMIL B. MEYROWITZ.
    Docket No. 3241.
    Submitted November 9. 1925.
    Decided April 20, 1926.
    Traveling expenses, incurred by the taxpayer in tlie business of the employing corporation, to be paid out of a fixed salary, are a proper deduction from the income of the taxpayer where there is sufficient evidence to establish such expenditure.

      Frank G. Myers, Esq., for the taxpayer.

      W. Frank Gibhs, Esq., for the Commissioner.
    Before Maequette, Moeeis, Geeex, and Love.
    This is an appeal from the determination of a deficiency for the year 1919 in the amount of $1,394.49. The deficiency arose from the refusal of the Commissioner to allow as deductions certain traveling expenses alleged to have been incurred in connection with the taxpayer’s business.
    FINDINGS OF FACT.
    The taxpayer is an individual residing in New York City. During the year 1919 he was the president and principal stockholder of the following corporations: E. B. Meyrowitz, Inc., of New York; E. B. Meyrowitz, Inc., of Minnesota; and E. B. Meyrowitz, Inc., of Paris, a New Jersey corporation, hereinafter referred to as the corporation. These corporations were engaged in the business of manufacturing and selling surgical and optical instruments. Five stores and a factory were operated in New York City, two stores in St. Paul, one in Minneapolis, one in Detroit, and one in Paris, France. The corporations were affiliated and the stock was closely held by the taxpayer, his wife, two sons, and a daughter. The business was established in 1875 by the taxpayer, and since that time has been owned by taxpayer and his family.
    In addition to manufacturing and selling their own surgical and optical instruments, the said corporations imported from, and contracted for the manufacture of some of these goods in, France, Switzerland, Austria, and Germany. It was the practice of the taxpayer to make frequent trips to Europe to keep in touch with the Paris store and the European manufacturers, and to get new ideas and first-hand knowledge of European development in surgical and optical instruments.
    Owing to severe losses suffered during the period 1914 to 1919, due to war conditions, and a loss of approximately $102,000 on a building in New York City, it became necessary for the corporations to economize. In pursuance, of that policy the taxpayer agreed with the directors of the corporations that his traveling expenses on business trips would be paid by himself out of his salary, which was fixed at $9,000 per annum.
    In 1919 it became necessary to make a business trip to get in touch with the manufacturers in Europe whose business relations had been cut off during the prior four years on account of the war. The taxpayer, thereupon, in October, 1919, went to Europe and spent several months in business dealings with foreign manufacturers and sellers of surgical and optical goods in France, Germany, and Switzerland. He also devoted considerable time to the business of the Paris store.
    The expenses of the trip in 1919 were as follows :
    Steamship passage_ $815. 00
    Paris headquarters, hotel, meals, etc_1,394.00
    Entertainment for business purposes_ 820. 00
    Taxi fares, tips, stenographic services_ 250.00
    Railroad fares in Europe_ 250.00
    Hotel expenses on trips_ 300. 00
    Total__ 3,829.00
    In computing the deficiency, the Commissioner did not allow any of these expenses as deductions.
   OPINION.

Love'!

The taxpayer was an officer and principal stockholder of seyeral corporations engaged in the manufacture and sale of surgical and optical supplies. It had 10 stores in large cities in the United States and one in Paris, France. These corporations also handled European-made surgical and optical supplies. The prestige of the European manufacturers in such field is so well known that the necessity for European connection by a large concern in the United States intending to keep abreast with the times is desirable. This was particularly true in 1919, since business relations with Europe had been cut off for four years on account of the World War. The testimony that the trip was for strictly business purposes and not for pleasure is corroborated by long letters to his sons, introduced in evidence, every sentence of which relates to his activities in respect of the business of the corporations. The corporations did not keep minutes of the meetings, but each director testified that the expenses of the business trips were to be paid from salaries and were not paid by the corporation. We are satisfied that the taxpayer has proved legitimate business expenses to the amount of $3,829 for the year 1919, which he is entitled to deduct from income for that year.

Order of redeterrrdnation will be entered on 10 days1 notice, wnder Bule 50.


author: Aetjndelu :

text:
    Appeal of ANTON M. MEYER.
    Docket No. 5737.
    Submitted February 13, 1926.
    Decided April 20, 1926.
    1. Profit on tbe casual sale of personal property in 1921 can not be returned on an installment basis if the initial payment exceeds one-fourth of the purchase price.
    2. A loss sustained in 1920 by a partnership is deductible by the individual partners in proportion to their interest therein and serves to reduce each partner’s capital investment in the partnership.
    3. Held, when an interest in a partnership is sold for cash and notes and the notes have no readily realizable market value, the cash should be used to reduce the basis, and no taxable income arises until the capital is first recovered.

      William B. Oppenheim, Esq., for the taxpayer.

      George G. Witter, Esq., for the Commissioner.
    Before SteRNhagen, Lansdon, and Arundell.
    The Commissioner determined a deficiency in income tax for the calendar year 1921 in the amount of $18,212.89. The deficiency arises primarily from the sale by the petitioner of his interest in the partnership of Ginocchio, Costa & Co.

      FINDINGS OF FACT.
    In the year 1896 the petitioner, together with Louis Ginocchio and Peter Costa, organized the copartnership of Ginocchio, Costa & Co., for the purpose of conducting a wholesale fruit business in the City of Chicago, Ill., each member having a one-third interest therein, and the partnership so formed continued in business until December 6, 1921, when the jietitioner sold his interest therein to George F. Celia.
    In the year 1920 the copartnership sustained a loss and the petitioner’s proportion thereof was $13,841.30.
    The petitioner withdrew from the film of Ginocchio, Costa & Co. during the year 1920 the sum of $17,783.74, which included the salary paid the petitioner by the partnership for that year in the sum of $5,000.
    In the early part of the year 1921, dissension arose between the petitioner and his copartners over a suggestion of the latter that the business be incorporated, a suggestion with which the petitioner was not in accord. After extended discussion, the petitioner agreed to sell his interest in the partnership to George F. Celia, an employee of the partnership, for the sum of $275,000, payable $100,000 in cash and $175,000 in notes executed by Celia, with Ginocchio and Costa as sureties. A formal contract was entered into on December 6, 1921, which embodied the terms theretofore agreed upon, whereupon the petitioner conveyed and transferred to Celia his interest in the partnership and received as the purchase price the sum of $100,000 in-casli and seven notes for the principal sum of $25,000 each, the first of which was due on June 6, 1922, and one every six months thereafter until June 6, 1925, each note bearing interest at the rate of 7 per cent. The notes were executed by Celia as principal and Ginoc-chio and Costa as sureties. The contract of sale provided that, should the makers of the notes sell or dispose of their interest in the copart-nership of Ginocchio, Costa & Co. without the written consent of the petitioner prior to the payment of all of the notes, then, at the option of the petitioner, all of the remaining notes could be declared by him immediately due.
    Neither Celia, Ginocchio, nor Costa individually had any financial rating, and practically all the property owned by them was represented by their interest in the copartnership of Ginocchio, Costa & Co. The notes received by the petitioner were not marketable, except at a great discount, and their jiayment depended to a considerable extent upon the ability of the makers successfully to carry on the partnership business.
    The petitioner withdrew on account of salary from the partnership during the year 1921 up to the 6th of December, 1921, the sum of $4,504.27, and this amount was returned by him as income. The petitioner’s distributive share of the partnership earnings for the period from January 1, 1921, to Decemmber 6, 1921, the date the petitioner sold his interest in the partnership to Celia, was $22,524.12.
    The Commissioner computed the taxable profit on the sale of the petitioner’s interest in the partnership upon the basis of the cost of such interest on December 6, 1921, of $228,311.64, and determined a profit on the sale of $51,688.36, to which amount was added the sum of $22,524.12, being that portion of the profits of the co-partnership earned during the year 1921 which would have been apjDortioned to the petitioner had he not sold his interest in the same to Celia. In arriving at the valuation of $223,311.64, the Commissioner deducted from the cost price of the petitioner’s interest a loss of $13,841.20, which was the petitioner’s proportion of the loss sustained by the partnership for the year 1920, and also the sum of $17,783.74, which was the full amount of money received by the petitioner from the partnership in 1920 and included his salary of $5,000 for services rendered to the firm for that year.
    The petitioner reported his income on the cash receipts and disbursements basis.
   OPINION.

Aetjndelu :

The Commissioner has treated the sale of the petitioner’s interest in the partnership of Ginocchio, Costa & Có. as a closed and completed transaction in 1921, and the difference between the sale price and the cost or March 1, 1913, value of the property sold has been taxed as income. To do so it was necessary to find, and the Commissioner did find, that the notes given for the deferred payments were the equivalent of cash to the extent of their face value. The petitioner is urging that the transaction be treated as an installment sale and taxed accordingly. In support of his position he relies on section 202(f) of the Revenue Act of 1921, but this section must now be read in the light of sections 212(d) and 1208-of the Revenue Act of 1926. Section 212(d), which, by section 1208 is made to apply retroactively to the 1921 Act, provides as follows:

Sec. 212. * ⅜ ⅜ (d) Under regulations prescribed by tbe Commissioner with the approval oí the Secretary, a person who regularly'sells or otherwise disposes of personal property on the installment plan may return as income therefrom in any taxable year that proportion of the installment payments actually received in that year which the total profit realized or to be realized when the payment is completed, boars to the total contract price. In the case (1) of a casual sale or other casual disposition of personal property for a price exceeding $1.000, or (2) of a sale or other disposition of real property, if in either case the initial payments do not exceed one-fourth of the purchase price, the income may. under regulations prescribed by the Commissioner with the approval of the Secretary, be returned on the basis and in the manner above prescribed in tbis subdivision. As used in this subdivision the term “ initial payments ” means the payments received in cash or property other than evidences of indebtedness of the purchaser during the taxable period in which the sale or other disposition is made.

The above serves to limit the installment method of reporting income to cases where the initial payment does not exceed one-fonrth of the sale price, and we have here an initial payment of four-elevenths of the sale price. Clearly, this method can not be availed of by the petitioner and we are left to treat the income as did the Commissioner, unless other provisions of the Act impel us to a different conclusion.

Section 202 (c) and (e) of the 1921 Act provides:

Sec. 202. * * ⅜ (c) For the purposes of this title, on an exchange of property, real, personal or mixed, for any other such property, no gain or loss shall be recognized unless the property received in exchange has a readily realizable market value; * * *.
(e) Where property is exchanged for other property which has no readily realizable market value, together with money or other property which has a readily realizable market value, then the money or the fair market value of the property having such readily realizable market value received in exchange shall be applied against and reduce the basis, provided in this section, of the property exchanged, and if in excess of such basis, shall be taxable to the extent of the excess; * * ⅜.

Article 1564 of Regulations 62, interpreting the above section, provides:

Property has a readily realizable market value if it can be readily converted into an amount of cash or its equivalent substantially equal to the fair value of the property. In other words, the property received in exchange must be readily’ marketable at substantially its fair value in order that a gain or loss be recognized.

The proof satisfies us that the notes had no readily realizable market value at the time of their receipt. Two bank officials, familiar with the business and commercial standing of the partnership of Gino'cchio, Costa <& Co. and the individual credit ratings of its members, stated in no uncertain terms that there was no market for the notes. While the partners were conducting a going business and a successful one, all their property, except an insignificant amount, was invested in the copartnership. In the event of trouble, the partnership indebtedness must be first paid. Should the partnership affairs be liquidated, all of the partnership debts must be satisfied in full before any money would be available from that source with which to pay the individual obligations of the respective partners. . It follows that the petitioner should be first permitted to ¡recover his capital invested in the copartnership, and, when this amount has been returned to him, the remainder should be returned as taxable income in the years in which the obligations are satisfied.

We think the Commissioner correctly reduced the cost of the petitioner’s interest in the partnership by his proportion of the loss sustained in 1920. In the case of an individual partner, the law taxes his pro rata share of the gain of the partnership and allows as a deduction his pro rata share of the losses, computed upon the basis of the gains or losses of the accounting period of the partnership ending within his taxable year. United States v. Coulby, 251 Fed. 982; 258 Fed. 27. The petitioner sustained a loss in 1920 in proportion to his interest in the partnership, which proportionate interest has been found to be $13,841.20, and the petitioner’s capital investment in the partnership must be reduced accordingly.

The method employed by the partnership in keeping its accounts was to deduct the salaries allowed the individual partners as ordinary and necessary expenses, and the distributive share of the partners’ profits in the partnership reflected only the partners’ profits after making those deductions. Of the $17,783.74 withdrawn in 1920, $5,000 represented the salary account and $12,783.74 was charged against the taxpayer’s partnership account. This latter amount alone, under the method of bookkeeping adopted by the partnership, represented a capital withdrawal.

From the foregoing it is evident that the petitioner’s income for the year 1921 should include the amount of $4,504.27, paid to him by way of salary, and his distributive share of the partnership profits for the period from January 1, 1921, to December 6, 1921, together with income from other sources, but not from the sale of his interest in the partnership business.

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


text:
    Appeal of WILLIAM GREILICH & SONS, INC.
    Docket No. 4647.
    Submitted October 27, 1925.
    Decided April 20, 1926.
    1. Certain credit balances in the accounts of the stockholders of the taxpayer, held not to be a part of surplus during the taxable year 1919 for invested capital purposes. Appeal of Kelly-Buchley Co., 1 B. T. A. 1154; Appeal of Wm. H. D ávidow Sons Co., 1 B. T. A. 1215.
    2. Capital expenditures made by a tenant at will are not deductible as ordinary and necessary expenses. Appeal of Sentinel Publishing Co., 2 B. T. A. 1211; Appeal of Thatcher Medicine Co., 3 B. T. A. 154; Appeal of William Scholes & Sons, Inc., 3 B. T. A. 598.

      John J. Helmus, G. P. A., for the taxpayer.

      T. P. Dudley, Jr., Esq., for the Commissioner.

      Before Marquette, Giieen, and Love.
    This is an appeal from tire determination of a deficiency in income and profits tax for the year 1919, in the amount of $6,057.71.
    The deficiency arose by reason of (1) the refusal of the Commissioner to include as surplus $65,000 donated by the three stockholders of the corporation, thereby reducing invested capital; and (2) the refusal of the Commissioner to treat as expense an expenditure of $12,767.32, thereby increasing net profits.
    FINDINGS OF FACT.
    The taxpayer is a New York corporation organized in 1913 with a capital stock of $10,000, which has remained unchanged, and the whole thereof from date of organization down to and including the taxable year was owned by William Greilich and his two sons.
    Prior to 1920, the stockholders drew out of the business only such money as was needed by them to meet current personal expenses, and their salaries were credited to each of them respectively. The net profits were left in the business and carried to the surplus account, and the surplus account had credited to it, on January 1, 1919, $60,660.28, and the three stockholders had credited to them amounts as follows:
    Charles Greilich_„_$12,186. 00
    Henry C. Greilich_ 14, 695. 01
    William Greilich_ 20, 806. 32
    47, 687.33
    On December 31, 1919, entries were made on the books as follows :

    The Commissioner included said amount for 1920, but refused to include it for 1919.
    In the latter part of 1918, Henry C. Greilich, the vice president of the company, was advised by a friend that it would be to the corporation’s advantage, for income-tax purposes, if the amounts left in the business by the stockholders and credited to their several personal accounts, were transferred to the surplus account. Henry Greilich spoke to his father about the matter and his fattier told him to handle the matter as he deemed proper, and they decided it would be proper and best to so transfer sard accounts. The actual transfer was not made until December 31, 1919. There was never any formal action taken by the board of directors in regard to this matter.
    During the year 1919, and until August, 1920, the taxpayer used a building situated in Port Jervis, N. Y., which building had in prior years been used by the Military Equipment Co. for the production of kit-bags, barrack bags, and like products for use of the soldiers during the World War.
    When the taxpayer took over the use and occupancy of said building in January, 1919, it had to readjust the arrangement of the building, take out certain machinery and put in other machinery, to adapt the plant to the needs of taxpayer’s business. There were installed new electric lighting, wiring for motors, heating system, a new boiler, new concrete floors, new doors and windows, and new plumbing, resulting in an expenditure of $12,767.32.
    The taxpayer deducted the whole thereof as expense. The Commissioner treated the same as a capital expenditure, and allowed depreciation in the amount of $1,314.71, thus increasing net profits in the amount' of $11,452.61.
    The taxpayer did not have a lease for said premises. It occupied the premises free of rent, for about 20 months, and then abandoned them.
   OPINION.

Love :

The taxpayer contends that, by reason of the fact that the amounts credited to the several stockholders were left in the business and used by 'the corporation during 1919, and carried to surplus December 31, 1919, as of January 1, 1919, invested capital should include those amounts for 1919.

It will be noted that on January 1, 1919, the aggregate amount of those individual credits was $47,687.33, and apparently it was not until December 31, that those accounts were increased to the aggre-gaie of exactly $65,000 for the purpose of the transfer of same to surplus.

Those credits remained throughout the year 1919 in the name of the several stockholders, subject to withdrawal by them. They constituted an indebtedness of the corporation and can not, therefore, be included in invested capital. Appeal of Kelly-Buckley Co,, 1 B. T. A. 1154; Appeal of Won. H. Davidow Sons Co., 1 B. T. A. 1215.

In regard to the $12,767.32 expended for improvements in 1919, it is clear that they normally fall within the class recognized as capital expenditures rather than ordinary and necessary expenses. This being true, we are expressly prohibited by statute from directly deducting the same in computing net income. Section 215 of the Revenue Act of 1918 provides in part:

See. 215. That in computing net income no deduction shall in any case be allowed in respect of—
⅜ ¾« ⅜ ⅛⅛ * ⅜ ⅜
(b) Any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate.

From the evidence it appears that the taxpayer did not own the property upon which it made the improvements, nor did it have a lease or pay rent. Its tenure was in the nature of a permissive use or tenancy at will and the taxpayer did, in fact, abandon the premises after 20 months’ use. The taxpayer contends that, by reason of its uncertain tenure, it should be allowed to exhaust the entire cost of improvements in the year in which made. This contention, however, is not tenable. Appeal of Sentinel Publishing Co., 2 B. T. A. 1211; Appeal of Thatcher Medicine Co., 3 B. T. A. 154; Appeal of William Scholes & Sons, Inc., 3 B. T. A. 598.

The deficiency' is $6,057.71. Order will be entered accordingly.


author: Tkammell :

text:
    Appeal of GERMANTOWN BRAID CO.
    Docket No. 5215.
    Submitted December 15, 1925.
    Decided April 20, 1926.

      Held, on the evidence, that the two corporations were affiliated.

      Frank K. Nebeker and K. N. Parkinson, Esgs., and H, A. Wcd-burn, G. P. A., for the taxpayer.

      Percy S. Crewe, Esq., for the Commissioner.
    Before Phillips and Trammell.
    This is an appeal from a deficiency in income and profits taxes for the years 1918 to 1922, inclusive, amounting to $23,324.65. The error alleged is the action of the Commissioner in disallowing taxpayer the right to file a consolidated return with Sibson & Stern, Inc.
    FINDINGS OP FACT.
    Taxpayer is a corporation organized August 17, 1906, under the laws of Pennsylvania, with a capital stock of $100,000, divided into 2,000 shares of the par value of $50 each. Its principal office is at Philadelphia.

      Sibson & Stern, Inc,, is a corporation organized in July, 1903, under the laws of Pennsylvania, with a capital stock of $110,000, consisting of 2,200 shares of the par value of $50 each. Its principal office is also at Philadelphia.
    Sibson & Stern, Inc., was organized for the purpose of manufacr turing knitted and woven lace edgings and trimmings for attachment to the neck of women’s undergarments. These attachments are tunneled to permit of the insertion of a drawstring or braid, thus enabling the garment to be loosened or tightened around the neck. The braid is an essential complement to the edging.
    Under its charter this company was restricted to the manufacture of knitted and woven fabrics, and the stockholders of Sibson & Stern, Inc., organized the taxpayer company for the purpose of manufacturing the braid which was used in connection with the edging and trimming.
    The stockholders of the two companies for the taxable period, together with the percentage of stock owned in each, are as follows:

    The estate of Joseph F. Sibson, one of the stockholders of the two companies above mentioned, was managed by Walter Sibson, one of the executors and a son of the decedent. Walter Sibson and Horace E. Sibson, brothers, were legatees, but under the will of the father the estate could not be divided until the death of the mother, which occurred in 1922, at which time the shares held by the estate were divided equally between the two sons.
    During the year 1922, all of the stockholdings of Ed. F. Whitehill in both companies, with the exception of 20 shares in Sibson & Stern, Inc., were purchased and deposited as treasury stock. The same individuals were officers of the two corporations throughout the years 1918 to 1922, both inclusive, as shown below, except that Ed. F Whitehill resigned as an officer in both companies in the year 1922.

    I. M. Koch, Harry L. Stern, and Walter Sibson, constituted the board of directors of Sibson & Stern, Inc., from the period of its organization, and these same individuals, together with Morton S. Hirsh and Ed. F. Whitehill, constituted the board of directors of the taxpayer company from 1906 to 1922, both inclusive, with the exception of 1922, when Whitehill withdrew. Harry L. Stern was manager of Sibson & Stern, Inc., and I. M. Koch was manager of the taxpayer company.
    The building occupied by these two .companies was owned by Sibson & Stern, Inc., which leased space to the taxpayer company. They occupied different floors for manufacturing purposes, as the. two commodities required different machinery.
    The business of the two companies was transacted through the same office and employees. Both companies employed the same bookkeepers, stenographers, clerks, etc., as well as the same salesmen, buyers and shipping clerks. They advertised jointly and dealt largely with the same customers. The office expenses and cost were apportioned according to the gross sales of the previous year. Money was loaned and raw material was transferred from one company to the other.
    The Commissioner held that the taxpayer and Sibson & Stern, Inc., were not affiliated during the years 1918 to 1922, inclusive, and determined the tax accordingly.
   OPINION.

Tkammell :

The question presented in this appeal is whether substantially all the stock in the two corporations was, during the years involved, owned or controlled by the same interests.

The greatest divergency of stock ownership in the two companies is in stock owned by the estate of Joseph F. Sibson. It owned approximately 82 per cent in Sibson & Stern, Inc., and 8 per cent in the Germantown Braid Co. Stock in the Germantown Braid Co. to the extent of 6 per cent and 8 per cent, respectively, was owned by Walter Sibson and Horace E. Sibson who owned no stock in Sibson & Stern, Inc. There also appears a divergency in the percentage of stock ownership in the two corporations with respect to the stock owned by Koch, Stern, and Hirsh.

Walter Sibson and Horace E. Sibson were sons of Joseph F. Sib-son and were legatees under his will. The estate of Sibson and the legatees under the will who would come into possession and enjoyment of stock after the death of their mother, especially when one of the legatees was an executor and in charge of the estate, are not essentially different interests. Their interests are not in any way in conflict. What was of benefit to the estate was of benefit to them. The “ same interests ” does not necessarily mean the same individuals. The relationship between the individuals and the facts and circumstances of the case should be considered in determining whether different individuals are in fact the “ same interests.” Family groups owning stock in different corporations, under the circumstances of this case, may fairly be said to be the same interests. See Appeal of Wright Cake Co., 2 B. T. A. 58; Appeal of Bishell Phonograph Co., 2 B. T. A. 229; Appeal of Edward, Rose Co., 2 B. T. A. 341.

The two corporations were operated as one business unit. The . facts and circumstances of the case indicate that the stock not owned by the two family groups was actually controlled by them. The interests, therefore, which controlled substantially all the stock of one company, owned and controlled substantially all the stock in' the other. The corporations are for that reason held to have been affiliated.

Order of redetermination will be entered on 10 days’ notice, under Bule 50.


author: Steiínhagen:

text:
    Appeal of NEW PROCESS CORK CO.
    Docket No. 5994.
    Submitted February 8, 1926.
    Decided April 20, 1926.
    1. In 1922 petitioner on the accrual basis entered upon its books as a closing entry of 1921 and paid an amount in settlement of a lawsuit against it for breacli of contract begun in 1921. Held, tbe amount was not deductible for 1921.
    2. An estimate entered in 1922 as of 1921 of attorneys’ fees for services performed in 1921, which were not billed or paid until 1922, held not deductible for 1921.

      William B. Donaldson, C. P. A., for the taxpayer.

      George G. Witter, Esg., for the Commissioner.
    Before StéRnhagen, Lansdon, and Aeundell.
    The Commissioner determined a deficiency of $15,086.78 income- and profits taxes for the calendar year 1921, which the petitioner contests on the ground that it was entitled to deduct the amount paid in 1922 in settlement of a lawsuit for breach of contract brought against it in 1921, and also to deduct an amount paid in 1922 for lawyers’ services performed in 1921.
    FINDINGS OF FACT.
    The petitioner, a New York corporation, made a contract in 1920, under which it was to be supplied with cork waste. In 1921 it refused to accept further deliveries. In April, 1921 suit was brought against the petitioner for damages aggregating a sum of $65,000 or $75,000, arising from the alleged breach of contract. The officers consulted counsel in New York and were advised that they “were in trouble” and “had no case.” They then consulted counsel in New Jersey, where the suit was pending, and were told that they “were in trouble and that the only thing [they] could do was to get out of it the best way [they] could.” During 1921 they believed, after conference with attorneys, that petitioner had broken its contract and was legally liable for damages in some amount. A general'denial was interposed by the petitioner as its answer in the lawsuit. Negotiations were carried on for settlement throughout the remainder of the year 1921, but the officers did not in 1921 know how much petitioner would be required to pay. They authorized ’counsel to begin negotiations with an offer of settlement of $9,400.
    No amount was recorded on the books within the year 1921. The books were kept open until March, 1922, and among the closing entries at that time the petitioner entered an amount first of $10,000, as a reserve for legal expense “ set up to cover an anticipated loss in the above suit.” . This entry was made in the journal and antedated December 31, 1921. Later, among the closing entries dated December 31, 1921, an amount of $15,000 was entered “to reserve for lawsuits * * * to set up provision for ” the suit in question, and‘another closing entry of $2,500 was made and dated December 31, 1921, “ to reserve for lawsuit * * * to increase the above reserve to equal settlement made.” These three entries aggregating $27,500 were duly posted to a ledger account entitled “ reserve for settlement lawsuit,” and dated in the account December 31, 1921. .The same account shows a debit of two items dated March 15, 1922, one being a note payable June 15 for $7,500 and the other a voucher for $20,000. The suit was settled in March, 1922, for $27,500, before petitioner’s books were ruled down and closed for the year 1921.
    The New Jersey law firm retained by the petitioner was to be paid, not on a contingent basis but for services rendered. No amount of compensation was agreed upon and no bill was rendered during the yean 1921. The firm performed services during 1921. No entry was made upon the books during the year 1921, but before closing the books for that year the petitioner in 1922 made a closing entry in the journal, which was duly posted to the ledger, setting up a reserve for legal fees in connection with this suit amounting to $1,000. This was the petitioner’s estimate of the fee to be paid. A bill was rendered in 1922 and paid in the amount of $1,500.
    The petitioner kept its accounts and made its return upon the accrual basis, and upon its return for the year in question it deducted $28,500. The Commissioner disallowed the deduction and duly notified the taxpayer of a deficiency by reason thereof amounting to $15,086.78.
   OPINION.

Steiínhagen:

The petitioner, relying upon Producers Fuel Co., 1 B. T. A. 202, and United States v. Anderson, 269 U. S. 422, urges the right to deduct in 1921 both the amount of its liability as ultimately agreed upon in 1922 and its estimate of its attorneys’ fees for the services rendered in respect of the suit. The controlling facts, it contends, are that the contract was broken by it in April, 1921, and that the amount of its liability was entered in its accounts before they were actually closed for 1921. The Commissioner, on the other hand, contends that, since the contract is not in evidence, nor the pleadings in the lawsuit, it can not be said that there was a liability in 1921, and also that, since there was no admission of liability and no entry made within the year in question, the petitioner’s claim would stretch the Producers Fuel decision beyond any reasonable limit.

The Commissioner, in our opinion, has treated the situation correctly. While it is true that the Supreme Court in the Anderson case used language which, if separated from its context, might be read as a recognition of a taxpayer’s right to deduct estimated reserves set up by it upon its books for the years when the related earnings were derived, there is no reason to believe that the court went beyond its traditional custom of deciding the matter in hand. The court had before it the question of deducting Federal munitions taxes treated by the taxpayers upon their books as accrued within the year 1916. The question of tax accruals had been seriously debated for some time and the arguments on both sides were concerned not so much with accruals generally as with accruals of taxes in particular; and especially under the provisions of the Revenue Act of 1916. It was to this that the court directed its attention, and this alone was adjudicated. The Board would not be justified in assuming that the court, without information or argument, intended to overthrow the established law that books of account are only evidentiary and not conclusive of liability, Doyle v. Mitchell Brothers Co., 247 U. S. 179; or to leave it to each taxpayer to determine for itself whether its bookkeeping system required that a particular deduction should be applied to offset the earnings of a particular year. These are still questions to be decided in each particular case upon sound principles applicable to the particular ease.

Here we have a situation in which the petitioner had a contract, made in 1920, to be supplied with, and presumably to pay for, some ■of its raw material. How the contract ivas to be performed, whether by periodic shipments in specific quantities at stated times, or only in such amounts and at such times as from time to time requested by the petitioner, does not appear, for the contract is not before us. It is simply stated and admitted that in April, 1921, the petitioner refused to accept further deliveries and that the vendor brought suit for damages. The petitioner, it is said, after consultation with its attorneys, regarded -itself as subject to liability, although it employed counsel to defend the suit and formally denied liability. This is all that happened in 1921. The formal pleading of a general denial is not, to be sure, much indication as to the existence of a liability, but in view of the uncertainty of litigation it does indicate that during the year 1921 almost anything might have happened to affect this alleged liability. The most that the petitioner had was an estimate of the ultimate outcome. If it had failed to place any figure upon its books, could anyone have criticized it? Suppose that, instead' of settling in March, 1922, final adjustment by either litigation or settlement had not been made for several years ?

The situation of the Producers Fuel Co. was substantially different, for that corporation, as we said in Brighton Mills, 1 B. T. A. 392,

“ when it refused to perform its contract, admitted its liability, made an offer in settlement, and before the close of the tax year entered the full amount of its ultimate liability upon its books.” This petitioner did not admit its liability, and although it made an offer in settlement out of all proportion to the vendor’s demand and very materially less than the amount ultimately paid, did not enter any amount upon its books within the tax year. So far as we know, there may have been no liability in the tax year, and certainly there was no act of recognition by the petitioner of such a liability. The employment of counsel and a nominal offer of settlement is too frequently the price of peace for this Board to regard it as a significant recognition of liability accrued.

The item of $1,000 sought to be deducted as a legal fee is clearly not deductible. The mere fact that services had been performed does not establish an accrual of an amount erroneously estimated to be the probable compensation which would be payable therefor.

The deficiency for the calendar year 1921 is $15,086.78. Order will he entered accordingly.

On reference to the Board, Phillips and Geeen concur in the result only.