author: Thussell :

text:
    Appeal of E. R. Bernstein and Fannie H, Bernstein.
    Docket No. 1258.
    Promulgated February 26, 1927.
    Income. — These petitioners, during the year 1919, did not receive, nov was there set aside for their use or benefit out of the transactions described in the record, anything of such a definitely known and ascertainable value ás to be classified as income in that year.

      E. W. R. Ewmg, Esq., for the petitioners.

      George K. Bowden, Esq., for the Commissioner.
    The petitioners brought'this proceeding for the redetermination of deficiencies asserted in letters dated October 29, 1924. The letter addressed to E. R. Bernstein asserted deficiencies for the year 1919 in the amount of $6,382.46, and for the year 1920 in the amount of $1,106.17, and indicated an overassessment for the year 1918 in the amount of $220.26. The letter addressed to Fannie H. Bernstein asserted deficiencies for the year 1919 in the amount of $16,813.82, and for the year 1920 in the amount of $1,106.77.
    The one issue presented and tried before the Board is whether the petitioners, ás a marital community, received, during the year 1919, income in the amount of $75,000, resulting from the alleged assignment of oil leases to, and the issue of corporate stock shares by, the Mohawk Oil Co.

      FINDINGS OP PACT.
    The petitioners are, and during the years here under consideration were, husband and wife, residing at Shreveport, La.
    The Mohawk Oil Co. was a corporation organized June 4, 1918, for the purpose of engaging in the business of producing oil. It had an authorized capital stock of $200,000, consisting of 2,000 shares of the par value of $100 each. It was organized for the purpose of taking over and did immediately succeed and take over a business theretofore owned by F. L. Dyer and E. M. Brown, Jr., who had operated as a partnership under the name and style of Brown & Dyer. In a balance sheet statement of the assets and liabilities of the partnership of Brown & Dyer, made as of June 30, 1918, there was carried an asset item designated as leases, $4,274.39. The same balance sheet statement showed capital paid in $58,800; surplus earned $28,400.82; total capital and surplus $87,200.82. In order to create assets to balance the Mohawk Oil Co.’s stock issue of $200,000, the item of leases among the assets of Brown & Dyer was appreciated and written up on the books of the Mohawk Oil Co. in the amount of $112,799.18 in excess of the value at which the same leases had been carried on the books of the partnership.
    Immediately following the organization of the Mohawk Oil Co., Dyer was the owner of 1,000 shares of its capital stock and Brown was the owner of the remaining 1,000 shares. Sometime between the date of 'the organization and October 5, 1918, Brown and E. B. Bernstein purchased the interest and all the shares of stock held by Dyer; Brown purchasing one-lialf thereof and Bernstein the other half. Bernstein thereupon became the owner of one-quarter, 500 shares, of all the authorized and issued stock of the Mohawk Oil Co. The price paid, or to be paid, for the 500 shares of stock so acquired by Bernstein was $51,300, upon which a cash payment of $500 was made, and for the balance notes were given.
    At that time E. R. Bernstein was, and still is, vice president and general manager of the Louisiana & Northwestern Railroad Co. Upon acquiring stock in the Mohawk Oil Co. he became a director of that corporation.
    Throughout the year 1918, Bernstein, in association with Brown, had been acquiring leases of prospective oil lands in Caddo Parish, Louisiana. Eight of such leases were taken in the name of E. R. Bernstein, trustee, one in the name of Brown, trustee, two in the name of Brown, individually, one in the name of F. D. Roemer, secretary of the Mohawk Oil Co., and ten in the names of other persons. All of these oil and gas leases were of the kind known in the parlance of the oil districts as wildcat leases.
    As early as January 4, 1919, there was under consideration by Brown and Bernstein the proposal to sell and transfer all the so-called oil leases owned or controlled by Brown and Bernstein and the Mohawk Oil Co. upon lands in Caddo- Parish to a corporate organization known as Tex-La-Homa Oil Corporation. Under date of January 4,1919, an entry was made in the journal of the Mohawk Oil Co., on page 6%, as follows:
    Jan. 4, 1919, Leases_$300, 000. 00
    Capital Stock Suspense_:_$300, 000. 00
    Miscellaneous Leases taken from E. M. Brown, Jr., and E. It. Bernstein for which Stock was to be issued when increase was authorized.
    Appropriate entries were likewise made upon the company’s ledger.
    On March 12, 1919, Brown and Bernstein, acting both individually and as trustees, executed a formal instrument, using the usual words of conveyance, assignment, and transfer, and for a stated consideration of $100 and other good, sufficient, and valuable consideration, by which instrument they conveyed to the Mohawk Oil Co. twenty-two descriptions of oil and gas leases upon lands situated in Caddo Parish, and on the same day the Mohawk Oil Co., by proper corporate action, executed a like instrument, transferring and conveying the same said twenty-two descriptions of oil and gas leases, together with one other certain oil and gas lease acquired by the Mohawk Oil Co. as lessee under date of March 12, 1919, together with various descriptions of personal property, such as pipe, lumber, camping outfit, mules, horses, auto truck, wagons, saddles and harness, for a stated consideration aggregating $2,010,-000, together with 15,200 shares of the preferred stock and 35,200 shares of the common no-par stock of the said Tex-La-Homa Oil Corporation.
    On or about the twelfth day of July, 1919, in the stock book of the Mohawk Oil Co., there were written certificates Nos. 7 and 8. Certificate No. 7 was written in the name of E. M. Brown, Jr., for 2,250 shares of the stock of said company. Certificate No. 8 was written in the name of E. It. Bernstein for 750 shares of said stock. These certificates were signed by E. M. Brown, Jr., president, and E. D. Itoemer, secretary. The said certificate No. 8 was riot then delivered to E. It. Bernstein. If it was torn out of the stock book, it was kept in a safe deposit box held by the Mohawk Oil Co. in the office of its bank in Shreveport. Bernstein never had this certificate of stock in his possession and did not know that it had been written until on or about January 3, 1921, when the certificate was shown to him and he was asked to sign his name to the endorsement of transfer on the back thereof, with which request he then complied. During all of the years 1918 to 1921, inclusive, Bernstein, although a director of the Mohawk Oil Co., took no active interest in the management or the accounting or office procedure of the company. He never availed himself of the. privilege of looking at the company’s books, records, or accounts.-
    During the years from October, 1918, to June 22, 1921, the Mohawk Oil Co. carried upon its ledger an open account with E. R. Bernstein in which the debit and credit entries are as follows:
    Mohawk Oh Company
    E. It. Bernstein.

    The condensation and analysis, of this account for each calendar year shows a result as follows:

      On or about February 25, 1924, Bernstein furnished to the Commissioner’s office, among other papers, a balance sheet of the Mohawk Oil Co. as of December 31, 1918, which, condensed, shows the following assets and liabilities:

    Attached to the income and profits-tax return of the Mohawk Oil Co. for the calendar year 1919, is a memorandum which purports to show properties sold to the Tex-La-Homa Oil Corporation, and in this memorandum under the designation of “ leases,” there appears — ■ .
    Miscellaneous_$417, 073. 57
    Seven other items of leases, aggregating_ 16, 646. 03
    Total. 433, 719. 60
   OPINION.

Thussell :

At the trial of this cause the atmosphere appeared surcharged with elements of mystery. There were thinly veiled insinuations of fraud, false swearing and attempts to cover up and avoid the truth. Whether there existed any basis for the apparent state of mental perturbation we do not know. We do know, however, that no foundation for it got into the record.- Stripped of all the elements of- mystery, the record of this case shows simply that prior to June, 1918, two men by the names of Brown and Dyer,, associated as partners, had been operating a business of drilling and prospecting for oil.- and gas; that in June, 1918, they formed a corporation and became equal owners therein; and that shortly after the formation of this corporation Bernstein acquired 500 shares of its capital stock for which he undertook to, pay $51,300.

The record also shows that during the year 1918 Bernstein, in association with Brown, had been acquiring so-called oil and gas leases upon unexplored or at least unproved lands; that together they had acquired twenty-two descriptions. of oil and gas leases. Eight of these were made in the name of Bernstein, trustee, and the latest dated of these eight appears to have been • procured on June 14, 1918, and, although Bernstein’s account on the ledger of the Mohawk Oil Co. does not appear to have begun until October, 1918, there is little doubt that the deal, under which he acquired stock in the Mohawk Oil Co., was made in June, 1918, and probably at or about the time the same was organized. When the original stock issue of the Mohawk Oil Co. was made, its asset item of leases acquired from the partnership of Brown and Dyer was appreciated in the amount of $112,799.18, in order to make the apparent assets of the corporation equal to the par value of the stock issued. This was the beginning of what appears to have been a consistent plan to inflate values of wildcat leases for the purpose of future exploitation. This plan was continued by later on agreeing to turn over to the Mohawk Oil Co. other leases acquired in the name of Brown and Bernstein, and another inflation of $300,000 was posted on the books of the Mohawk Oil Co. on January 4, 1919. Then came the climax of high finance, as carried out by these exploiters. These same wildcat leases were on March 12, 1919, turned over to another corporate exploiter for a stated consideration of $2,010,000 in cash, 15,200 shares of preferred stock, and 35,200 shares of no-par value stock. There is thus presented the picture of the manner in which some millions of dollars of pretended capital have been manufactured out of practically nothing.

The record is convincing that the leases, whether those acquired by the Mohawk Oil Co. from it predecessor partnership, Brown and Dyer, or those acquired under assignment from Brown and Bernstein, had no substantial value; that any stock shares issued as against such assets had no more value than the assets themselves; that the alleged sale to the Tex-La-Homa Oil Corporation was nothing more than an effort to sell these, among other properties, to the public at an inflated valuation which was wholly unrepresentative of any true value.

The question before the Board is, Did Bernstein and his wife acquire, in the year 1919, any gain out of these transactions? The answer to this question' is found in the ledger record of Bernstein’s open account upon the books of the Mohawk Oil Co. This account, running through the years from October, 1918 to June, 1921, shows various entries of debits and credits, transfers of cash, properties,.bills receivable, etc. At the end of the year 1918 this account showed a debit balance against Bernstein in the amo'unt of $10,050.75. At the end of the year 1919 it showed a credit balance in favor of Bernstein in the amount of $6,280.28. At the end of the year 1920 it showed a debit balance, after allowing for the credit at the end of 1919, in the amount of $12,990.35. On June 22, 1921, it showed a further debit balance in the amount of $51,958.90. The total of these debit balances is $75,000, and on that date this debit balance was credited with Bernstein’s one-fourth share, or interest, in the $300,-000 of appreciation of leases written up on the books of the Mohawk Oil Co. on January 4, 1919.

It thus appears that on the twenty-second day of June, 1921, Bernstein received the benefit of the sum of $15,000, and that he must then be held to have acquired a gross income in that amount. And, we are of the opinion that upon this record it is established that Bernstein did not receive this $75,000 of income in the year 1919.

The deficiencies may be redetermined and settled upon 15 days' notice, pursuant to Rule 50, and judgment will be entered in due course.

Milliicen, Murdock, and Smith not participating.


source: Caselaw Access Project

author: Morris:

license: Public Domain

text:
    Powers & Mayer, Inc., and Powers & Mayer Manufacturing Co., Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6862.
    Promulgated February 26, 1927.
    1. Tbe petitioners were affiliated for the year 1919.
    2. The Commissioner’s action ip eliminating $50,000 for alleged good will from invested capital affirmed.

      W. W. Ross, Esq., for the petitioners.

      A. R. Karrs, Esq., for the respondent.
    This proceeding is for the redetermination of a deficiency of $7,199.78, income and profits taxes for 1919. The errors alleged are the respondent’s refusal to allow the corporations to file a consolidated return, the elimination of a good will item of $50,000 from the invested capital of Powers & Mayer, Inc., and the refusal to grant special assessment.
    FINDINGS OF FACT.
    Powers & Mayer, Inc., is a New York corporation organized in January, 1918. Powers & Mayer Manufacturing Co. is a Rhode Island corporation organized during 1916. Prior to 1893, Mayer and Powers were traveling salesmen for a large jewelry concern. In that year they organized a wholesale jewelry business of their own, operating under the firm name of Powers & Mayer. The partners each invested $10,000 and worked together until 1906 or 1907. In one of these years Powers, because of ill health, was forced to retire from business. Thereafter, Mayer continued the business as an individual, but under the firm .name, until January, 1913.

      In the early years of the partnership^ it was necessary to do" a large amount of advertising. The partners'entertained extensively both on the road and in New York, where the firm was located. One of the partners was continually on the road selling merchandise. The firm dealt only in diamonds and platinum jewelry, carrying no cheap jewelry whatsoever. The initial advertising consisted of sending out monthly postal cards. About 20,000 postal cards were sent out each year. A little later the firm sent out blotters to the trade. They carried full page advertisements in two jewelry magazines for approximately six months out of each year. As the business expanded the partners conceived the idea of jewelry exhibitions to be given in their New York offices. These exhibitions attracted buyers and prospects from all over the United States. The partners exhibited new fashions and latest designs to as many as one hundred and fifty or two hundred people representing high-class retail stores scattered throughout the country. Later these exhibitions were held in the stores of the largest buyers of Powers & Mayer products. The buyer invited his customers to see the exhibits of Powers & Mayer with invitations furnished by the firm. These exhibitions were later discontinued because competing firms took advantage of the opportunity to make copies of the designs and creations of Powers & Mayer.
    The good will of the larger buyers was further solicited by gifts, such as stickpins or rings. In addition to their personal efforts and the cards and blotters aforementioned, circular letters were sent out. Those letters would show reproductions of one or two new creations which the firm was introducing. They also sent out sample sheets which could be placed in a loose-leaf folder wherein various articles of jewelry were advertised. The money spent by' the firm in advertising and by the partners in entertaining and personal solicitation of business amounted to approximately $5,000 per year from 1893 to 1913.
    During the latter part of 1912 or in January, 1913, Mayer was approached by certain employees of Powers '& Mayer in regard to acquiring an interest in the business. The employees who were principally interested had been with the firm for many years:'" Mayer decided, to incorporate rather than create a partnership, and let the employees purchase stock in the corporation. The business was accordingly incorporated as Powers & Mayer, Inc.,'with'an' authorized capital of $850;000, par value of the stock being $100. '
    The employees who were' seeking an interest 'in P’owers &' Mayer employed one Stroock as their attorney: • In'the negotiations leading to the incorporation of the business an’d the' sale of the • stock to the employees, Mayer insisted on a good will value for the business of $75,000. :The employees objected to such value, contending that a $50,000 value was enough. Mayer finally agreed to a good will value of $50,000. ' ’ ' ' "
    On January 25,1913, Mayor, as owner of the business of Powers & Mayer, submitted to the corporation a proposition whereby he offered to sell, assign and convey all, his right, title and interest in the business, and the good will, stock on hand, net profits, tools, machines, furniture" and the like, for 3,500 shares of the capital stock of the company and the assumption by the company of the liabilities standing on the books. The good will was specifically valued in the proposition at $50,000, and it was further provided that the corporation should give Mayer its promissory note bearing interest at 6 per cent for his equity in the business should the same exceed $350,0,00. He further guaranteed the payment and collection of all bills receivable appearing on the books. This proposition was accepted and the transfer was made in accordance therewith. - Mayer received, in addition to the 3,5.00 shares of stock, which was all the capital stock, the corporation’s: notes for $364,875. The interest paylnonts on the notes have been regularly met by the corporation and the principal has been reduced to approximately $30,000. In addition to his business, Mayer transferred certain patents to the corporation.
    , After the incorporation and the transfer of the business by Mayer, he entered into an agreement with the employees on the twenty-fifth of March, 1913, whereby he contracted to sell and the employees agreed to purchase stock of the corporation under certain conditions. The employees desired to purchase 1,000 shares of stock, but Mayer refused to part with so large an interest in the corporation. The agreement recited in part as follows:
    Agreement made this 25th of March, 1913, between Josh W. Mayer, of the State of New York, party of. the first part, and Max D. Dreyfus, If redbrick C. Kope, Milton O. Kepler, Felix B. Vollman, and Frank H. Wells, of the same place, parties of the second part.
    WITNESSETH :
    . Whereas, the party of the first part has been engaged in the jewelry business for upwards of twenty (20) years, and lately.under the firm name and style of Powers & Mayer, Inc., and has organized a company under the laws of the State of New York, for the sole purpose of giving the parties of the second part, who have been in his employ for some years, an interest in the profits of the said business; and
    Whereas, it is the desire of all parties to keep their said stock interests intact; and ■
    Whereas, the parties of the second part desire to purchase a certain number of shares of "stock of "the .company, of. the party of the first part, in a" larger amount than their present financial means' will permit, and have requested the party of the first part to assist'them in financing the acquisition of their several stock interests.
    ■ Now, Therefore, in .consideration of the foregoing premises and of the sum óf One Dollar, lawful money of the United States, in hand paid by each of the parties to the other, the receipt whereof is hereby acknowledged, and the mutual covenants hereinafter contained, It Is Agreed as follows:
    Fiest : The party of the first part agrees to sell and the parties of the second part agree to purchase a certain number of shares of the capital stock of Powers & Maybe, Inc., at one hundred dollars per share, as follows;
    Shares.
    Mas TJ. Dreyfus_125
    Frederick 0. Kopf-150
    Milton O. Kepler_150
    Felix B. Yollman_ 75
    Frank H. Wells_ 50
    Second : All payments made on account thereof shall be credited to the parties of the second part and endorsed on the obligation hereinafter referred to. Immediately upon the issuance of certificates to each of the parties of the second part, they agree, at the same time, to endorse said certificates to the party of the first part, who shall hold them as collateral security for the obligation to be signed by the respective parties, which said obligations shall be substantially in the following form: * * *.

    The balance of the agreement provided for a right in Mayer to repurchase the stock should any of the employees be discharged, or die, or become disabled, or for any reason cease to be employees of the company. It also provided for an option in the parties of the second part to purchase additional stock in a like amount as that set opposite their names in the first paragraph. It further provided that good will “shall be considered an asset in the sum of $50,000 but in no greater amount.”
    The following table shows the net tangible assets and net profits or losses for each of the years 1909 to 1925, inclusive:

    The outbreak of the World War and a strike in the jewelry trade in New York, both occurring during the fall of 1914, resulted in a large loss to Powers & Mayer, Inc., and made it impossible to meet its contracts. Mayer decided to establish a factory in Providence, R. I., so as to avoid dealing with labor unions. The workmen in Providence were not skilled in working with diamonds and platinum. Mayer was compelled to use such workmen as were available, with a resulting loss of considerable time and material. The continuance of the war necessitated the corporation entering the cheap jewelry field because platinum was no longer available. White gold was developed as a substitute and this class of jewelry was extensively exploited. Mayer determined to incorporate the Providence plant in order to prevent confusion among the trade. Accordingly, the Powers & Mayer Manufacturing Co. was incorporated under the laws of Rhode Island some time during 1916. This corporation came into existence solely for the purpose of handling cheap jewelry, although the plant at Providence, after the war, continued to manufacture some diamond and platinum jewelry.
    The authorized capital stock of Powers & Mayer Manufacturing Co. was 1,000 shares, par value $100. The first issue of 250 shares was purchased by Powers & Mayer, Inc. No stock of the Providence company was outstanding except that held by Powers & Mayer, Inc. On March 1,1919, Mayer purchased the 250 shares of the Providence company held by Powers & Mayer, Inc. During 1919 he purchased the remaining 150 shares, paying $15,000 therefor. No one other than Mayer owned stock in the Providence company after March 1, 1919, and through December 31, 1919. The stockholders and the percentage of ownership of each in Powers & Mayer, Inc., and Powers & Mayer Manufacturing Co. on January 1, 1919, were as follows:

    On December 31, 1919, the stockholders and percentage of ownership of the two corporations were as follows:

      No one other than those listed in the above tables owned any stock in either company during 1919. Mayer was the president'of both corporations. Busson was an employee of Powers & Mayer, Inc., and was sold stock by Mayer under an agreement similar to that with the five employees. The stock of Kopf, Dreyfus, Kepler and Wells was acquired by Mayer during 1919. Subsequent to acquiring the stock held by Kopf, Mayer sold him the 10 shares held by him on December 31, 1919.
    The respondent held that the corporations were-not affiliated from March 1, 1919, to the end of the year, disallowed any value for good will, and refused special assessment.
   OPINION.

Morris:

At the hearing the petitioner abandoned its contentions • as to special assessment, leaving the questions of whether or, not the two corporations were affiliated and the value of good will, if any, for invested capital purposes.

As Powers & Mayer, Inc., owned all the outstanding capital stock of Powers & Mayer Manufacturing Co., for the first two months of 1919, there is no question of the affiliation of the two corporations for that period. The petitioners contend for affiliation for the last ten months of that year on the ground that Mayer owned all the outstanding stock of one corporation and substantially all the stock of the other. The authorized capital stock of Powers & Mayer Manufacturing Co. was 1,000 shares, par value $100 per share. The issued stock as of January 1, 1919, was 250 shares and was held by Powers & Mayer, Inc. On March 1, 1919, Mayer purchased the 250 shares. Thereafter he purchased the remaining stock of Powers & Mayer Manufacturing Co. in the total amount of $15,000, and on December 31, 1919, was the sole owner of the 1,000 shares of issued and authorized capital stock. Subsequent to March 1, 1919, Mayer was the only stockholder of Powers & Mayer Manufacturing Co.

The stock of Powers & Mayer, Inc., was all held by Mayer or by employees of the company, that held by the employees at nó time amounting to more than 15.72 per cent of the outstanding stock. Mayer, on March 1, 1919, was the owner of at least 84.28 per cent of the outstanding stock. The stock of the employees was held subject to the right of repurchase by Mayer should there be a discontinuance of the employer-employee relationship, and during the year he repurchased certain shares so that on December 31, 1919, he was the owner of 95.7 per cent of the outstanding stock. .As recited in the agreement, which has been set out in the findings of fact, the employees purchased the stock for the sole purpose of securing an interest in the profits of the business. ■ They endorsed their stock to Mayer, who held it as collateral security for balances due. We are of the opinion that the ownership of stock in the two corporations by Mayer is sufficient to meet the requirements of the statute-for affiliation. Appeal of Isse Koch & Co., 1 B. T. A. 624; Appeal of Hagerstown Shoe & Legging Co., 1 B. T. A. 666.

• The second issue relates to good will value, if any, which may be included in- computing invested capital. The facts upon which the petitioner relies to prove the existence of good will and its value were the expenditure 'of approximately $100,000 in advertising, entertaining and soliciting business from 1893 to 1913; the proposition made by Mayer to the corporation and accepted by it, under the - terms of which the business and assets, including good will valued at $50,000 were turned over to the corporation in exchange for stock and the corporation’s note; and the agreement between Mayer and the employees for the sale and purchase of stock, in which agreement good will was specifically valued at $50,000.

These facts do not convince us that good will of any value was turned in to the corporation. Notwithstanding the fact that other intangible property, claimed to have a substantial value, was included ’in the assets taken over by the corporation, the earnings for the fotir years prior to 1913 show that Powers & Mayer, Inc., earned only slightly more than 8 per cent on its net tangible assets. For the year 1913 the percentage was less than 5 per cent. The earnings subsequent to 1913 are not corroborative of the value claimed. We have not failed to consider the testimony introduced by the petitioner relative-to the abnormal conditions which existed during 1914 to 1918, but, even if such years were eliminated from consideration, the evidence fails to bear out the petitioner’s contention.

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


author: Phillips :

text:
    Robert Buedingen, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 5855.
    Promulgated February 28, 1927.
    : 1. Cost of architect’s plans for a building,_ never used, allowed as a, deduction where a different building was erected during the year from .other plans. -
    2. Cost of temporary alterations and construction, torn out and replaced during the year, allowed as a deduction.
    ' 3. Excessive cost of erecting a building, caused by necessity for prompt completion and by prevailing high costs of labor and material, may not be deducted as a business expense.

      H. Earlton Hanes, Esg., for the petitioner.

      A. H. Murray, Esq., for the respondent.

      The petitioner appeals from the determination by the Commissioner of a deficiency of $14,155.79 income tax for 1920 and an over-assessment of $318.19 for 1921. With respect to 1920, he alleges as error the refusal of the Commissioner to permit the deduction of any part of an amount of $39,119.86 as expenses, and the determination of the Commissioner that a profit of $12,108.95 was realized on the disposition of certain real estate. No error is alleged with respect to 1921.
    FINDINGS OP PACT.
    The petitioner is an individual with his principal office in Rochester, N. Y. In 1920 he was engaged in the manufacture of paper boxes.
    In 1918 he purchased a three-story and basement building on Canal Street, Rochester, wdiich he used as a factory building. In the fall of 1919 his business had grown to such proportions that this building was inadequate. Tie consulted his bankers with reference to borrowing money for a new building and was promised a loan. For the purpose of building, he purchased a plot of ground on Clinton Avenue, North, Rochester. He employed an architect to draw plans for the new building, had specifications drawn and estimates made. In the opinion of the bankers the estimates were too high and they refused to finance the building. The petitioner thereupon, in 1920, discarded the plans and specifications, which had cost him $1,280. These plans were not thereafter used.
    The petitioner had accepted orders in excess of the capacity of his factory and to complete the contracts the erection of a temporary building on the Clinton Avenue property was begun in February, 1920. This building was completed in the spring of 1920 and was put into use as a part of- the factory.
    In the meantime, an architect was employed to prepare other plans for a permanent building on the Clinton Avenue property to be constructed around the temporary building. A loan was secured by the petitioner from his bankers and the contract was let for the building of such permanent factory and the construction was immediately begun. As a part of the arrangements for the loan the bankers insisted that the Canal Street factory be sold, and in July, 1920, a contract for the sale of this property was entered into with the provision that possession should be given in December, 1920. To vacate the old factory and at the same time continue his operations, it was necessary for the petitioner to occupy the new building by sections as it was finished. In order to accomplish this it was necessary to cover sections undergoing completion with a temporary, roof and inclose the finished sections with temporary partitions. The temporary construction was removed as the building progressed. A storm which damaged the temporary roofing caused the floor to become wet and to swell, as a consequence of which a section had to be replaced.
    When the permanent building was completed the temporary building, adjoining it was connected to it and changes were made in order to operate the two buildings as a unit. Temporary partitions were removed and replaced; temporary electric wiring was changed and made permanent; the heating system was changed from the temporary building to the permanent building; a temporary sewerage system which had been employed in the temporary building was discontinued and a permanent system installed throughout the two buildings. After proper allowance for salvage value, the cost of these operations was $6,666.59. No part of such cost represents material, labor, fixtures, or machinery entering into the completed buildings. All of such cost was due to the temporary nature of the arrangements which it was necessary to make during the year 1920, and no part of such cost was of use or value to the petitioner after the close of the year 1920. In computing the deficiency the Commissioner determined that a taxable gain of $12,108.95 was realized from the sale of the Canal Street property and refused to allow the petitioner a deduction for any part of the additional expense incurred in the operation of his business in the temporary quarters, a deduction for which was claimed by the petitioner in the amount of $39,119.86.
   OPINION.

Phillips :

The facts are recited above. We are of the opinion that the amount paid the architect for plans and specifications for a factory building, which plans and specifications were discarded in 1920 and not thereafter used, is deductible. The architect who drew these plans also drew the plans for the building which was completed, but as a witness he testified that the previous plans were of little or no aid to him, were not used, and that the full amount of the architect’s fee was charged for the second plans without reference to the fee charged for those discarded. We are also of the opinion that the amounts expended for temporary partitions, roofing, heating, sewerage, etc., in 1920 are deductible. Upon the hearing there was detailed evidence concerning each item entering into the amount allowed. All the expenditures were for work of a temporary character made necessary by the condition of operations during the period of removal, no part of them represented the cost of the finished buildings, and the temporary construction had no use beyond the taxable year involved. In such circumstances, these items also constitute ordinary and necessary expenses for tbe taxable year and are deductible as such. The Commissioner disallowed them because there had been no segregation from a larger amount claimed and disallowed.

The petitioner also claims that, because of the extraordinary conditions existing in the building trades in 1920, and because of the necessity of expediting completion of the temporary building and of the now permanent building, large premiums or bonuses were-necessary to procure materials. It is further contended that, because of this situation and the high wages paid in the building industries, the cost of the buildings was excessive and exceeded the reasonable cost thereof, assuming that they had been built under normal conditions, by approximately $32,500. It is claimed that this amount constitutes a deduction either as an ordinary and necessary expense of conducting the business, or as a loss brought about by the sale of the Canal-Street property. With this contention we' do not agree. Even though it might be proper to do so, it is impossible to determine what part of such so-called excessive cost is due' to the necessity-of early completion of the work and what part- is due to the high cost of materials and labor existing in those years.

The buildings undoubtedly cost more to erect than would have been the cost had they been erected at a period when material and labor were more normal. This, however, does not alter the fact that the amounts were paid as a part of the capital cost of the construction of the buildings and that under section 215(b) of the Kevenue Act of 1918 no deduction may be allowed.

The petitioner further contends that the alleged profit on the disposition of the Canal Street property was not taxable but is in effect an exchange of property as contemplated under section 202" of the Eevenue Act of 1918. We see.nothing in' the provisions of that section which" has any application to the situation presented by the facts. "

While the appeal purports to include the year 1921, no errors are alleged with respect to that year, nor does it appear that the. Board has any jurisdiction. Appeal of Cornelius Cotton Mills, 4 B. T. A. 255. ■

Order will be entered dismissing the appeal as to 1921. Decision redetermining the deficiency for 1920 will be' entered on 15 days', notice, under Rule 50.


author: MoRRis:

text:
    Gertrude B. Whittemore, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 8518.
    Promulgated February 28, 1927.

      Nelson S. Speneer, Esq., for the petitioner.

      W. F. Gibbs, Esq., for the respondent.
    This' proceeding is for the redetermination of a deficiency of $3*553.11 in income tax for the calendar year 1919 arising, to the extent of the amount'in controversy, from the addition ’by the¡Commissioner -to the selling- price of certain- real estate of the sum of $9,666.(57 for depreciation which had not been taken by the petitioner in any income-tax return during her ownership of the property.
    FINDINGS OF FACT.
    The petitioner is a resident of Naugatuck, Conn. In 1919 she sold a parcel of real estate for $175,000, on which sale she paid a commission of $3,500. The gross proceeds of the sale to the petitioner were $171,500. The property was acquired by devise in 1911. Its estimated value’on March 1, 1913, which was accepted by theCom-missioner, was $170,000. To the profit of $1,500, based upon that value, the petitioner in her return added" an item of depreciation of $2,000 claimed and allowed in her’ return for 1918. The Commis-sióner added to the $3,500 -further items of depreciation computed by him for earlier years, not'taken by the petitioner in any income-tax return, amounting -to $9,666.67, thus 'determining a profit of $13,-166.67. In each year since 1913 the petitioner has paid a tax on her income, not deducting therefrom, except • in 1918, any ‘ amount for depreciation of said real estate.
   OFINION.

MoRRis:

The question raised by the petitioner has previously been considered by us and decided adversely to petitioner’s contention. Appeal of Even Realty Co., 1 B. T. A. 355. After the decision of the Court of " Claims in Ludey v. United States, 61 Ct. Cls. 126, which is cited in the petitioner’s brief, we again carefully considered the question;- and x-eached the conclusion, although reluctantly disagreeing 'With the Opinion of the above'court, for which we have the greatest respect, that, in determining gain or loss upon the sale of depreciable property, due allowance must-be made for 'depreciation whether or hot deductions therefor had been taken by the taxpayer in prior-years. ’ Appeals of Cotton Concentration Co., 4. B. T. A. 121; Capital City Investment Co., 4 B. T. A. 933, and Island Line Shipping Co. v. Commissioner, 4 B. T. A. 1055.

Judgment will be entered for the respondent.


text:
    Interborough News Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 8170.
    Promulgated February 28, 1927.

      G. A. Sehultheis, for the petitioner.

      G. E. Curl, Esq., for the respondent.
    This proceeding is for the redetermination of a deficiency in income and profits taxes for the calendar years 1920 and 1921 of $2,076.88. The petitioner alleges error on the part of the Commissioner in deducting an operating deficit of a subsidiary corporation from the earned surplus of the parent company in the computation of invested capital used as a basis for determining the amount of taxes for the years in question.
    FINDINGS OF FACT.
    The petitioner is a New York corporation with its principal office in New York City. It owned and controlled all the capital stock of the Interborough Transfer Co., with which it filed consolidated returns for the calendar years 1920 and 1921. In both of those years there was on the books of the Interborough Transfer Co. an impairment of capital which was the result of previous years’ operating deficits of the business of that company, which at December 31, 1919, amounted to $35,369.69, and at December 31, 1920, amounted to $37,744.80. The capital stock of the petitioner was $150,000 and that of its subsidiary was $100,000. The consolidated capital stock of the two corporations was $150,000. An item of good will of $120,718.31, included in the petitioner’s assets, is subject to a limitation of 25'per cent of the capital stock issued, that is $37,500, and the invested capital as shown by the books is therefore subject to a reduction of the difference between $120,718.31 and $37,500, or $83,218.31.
   OPINION.

MoRRis:

No testimony was introduced at the hearing and the above findings of fact consist of the allegations of fact set forth in the petition which were admitted in the answer. We have previously held that, in determining the consolidated invested capital of an affiliated group, the operating deficits of any member shall be offset against the earned surplus of the others. Appeal of Gould Coupler Co., 5 B. T. A. 499; Appeal of W. S. Bogle & Co., 5 B. T. A. 541. Those decisions are controlling of the question herein raised.

Judgment will Toe entered for the respondent.


text:
    Appeal of Norwood Lumber Co.
    Docket No. 3785.
    Promulgated February 28, 1927.

      Evert L. Bono, Esq., for the petitioner.

      Arthur J. Seaton, Esq., for the Commissioner.
   Phillips :

This is an appeal from the determination by the Commissioner of a deficiency of $1,024.79 in income and excess-profits tax for the year 1919, due to the reduction by the Commissioner of the amount taken by the petitioner as a deduction on account of depletion of timber. The question at issue is the fair market value of the timber as of March 1, 1913.

FINDINGS OF FACT.

The petitioner is a West Virginia corporation having its principal place of business at Forney, N. C. About March 1, 1910, the petitioner' purchased a tract of timborland, known as the Forney Creek Block, located in Swayne County, North Carolina, on the Murphy branch of the Southern Railway, at a price of $225,476.39, which it has since owned and continuously operated. Upon acquiring the property, a mill was located about 1,500 feet from the railroad and cutting of the timber was begun. A railroad was built from the mill and extended to the timber as the operation developed.

On March 1, 1913, there were on this property approximately ninety-six million feet of virgin timber, consisting of 20 per cent hemlock, 41 per cent spruce, and 39 per cent of hardwoods. The development of the tract was then well under way, the'sawmill was in operation and several miles of railroad had been built.

The fair market value of the standing timber on the taxpayer’s property on March 1, 1913, was $2 per thousand feet for hemlock and $4.50 for spruce and hardwoods. During 1919 timber was depleted to the extent of 2,991,097 feet of hemlock and 7,212,104 feet of spruce and hardwood. In computing the deficiency the Commissioner allowed a deduction of $30,603 for depletion of the timber.

Decision will be entered on 15 days’ notice, under Rule 60.


author: KokneR, Ohairman:

text:
    Harry A. Smith and Ethel G. Meinel, Executors, Estate of Edward Meinel, Petitioners, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 3098
    Promulgated February 28, 1927.
    Value of an estate by the entirety excluded from tbe gross estate of decedent on authority of Estate of Charles I. Hudson, 5 B. T. A. 711.

      Leo. B. Kagan,, Esq., for the petitioners.

      R. E. Copes, Esq., for the respondent.

      Proceeding for tbe redetermination of a deficiency in estate taxes under the provisions of the Revenue Act of 1921, determined by the Commissioner in the amount of $4,433.38.
    BINDINGS OP PACT.
    Edward Meinel, the decedent, was,' at the time of his death, a resident of the Village of Bronxville, County of Westchester, New York. He died February 12, 1922. The petitioners wore appointed executors .of his estate and duly qualified as such. Ethel Grace Meinel is the widow of the decedent.
    By deeds dated July 24, 1913, and November 23, 1914, one Luther D. Garrett conveyed to Edward Meinel and Ethel Grace Meinel, his wife, as tenants by the entirety, various parcels of real estate located in Bronxville,'Westchester County, New York. These parcels of real estate are identified and described as follows:
    Improved real property at Bronxville, Eastchester Township, Westchester County, New York, known as Plots Nos. 3, 3-B ancl-3-C, Section 9, and portion of Plots Nos. 3-A, and 2-B on map made by Rogers and Lattimer, C. E. filed in the office of Westchester County Register's office as map No. 1923, improved with a hollow tile stuccoed residence and garage.
    The deed dated July 24, 1913, was recorded on July 30, 1913,'in Deed Book 2027, page 321. The deed dated November 23, 1914, was recorded on November 24, 1914, in Deed Book 2070, page 184.
    The ownership of the decedent and his wife as tenants by the entirety* continued until the death of Edward Meinel on-February 12, 1922. - -
    In mailing return for estate-tax purposes on February 6, 1923, the executors set out the purchase of the foregoing realty and valued the same at $70,000. The value of this property, however, was not included as a part of the gross estate of the decedent. The Commissioner determined the value of the said realty to be $75,000 and included that amount in his determination of the value of the gross estate of decedent. As a result of such inclusion, the Commissioner found a deficiency in estate tax in the amount of $4,433.38.
   OPINION.

KokneR, Ohairman:

The facts here presented bring this case on all fours with those in Estate of Charles I. Hudson, 5 B. T. A. 711, and on the authority of the decision in that case we find that the respondent was in error here.

Judgment will he entered for the 'petitioners,


author: Korner, Chairman:

text:
    Utah Orpheum Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 18209.
    Promulgated February 28, 1927.
    Tbe forwarding of a notice of deficiency to an address which is not the address of the taxpayer does not constitute -mailing within the meaning of the Revenue Act of 1926. In the instant case a notice was forwarded to an incorrect address, and thereafter, on its return undelivered, it was mailed to the taxpayer’s correct address. The appeal lies from the letter which was properly mailed.

      Jacob Mertens, Jr., Esq., for tbe petitioner.

      J. E. Marshall, Esq., for the respondent.
    Motion by the respondent to dismiss the proceeding for lack of jurisdiction in the Board.
    FINDINGS OF FACT.
    On April 6, 1926, the Commissioner delivered to the postal authorities for forwarding, by registered mail, an envelope containing a statutory deficiency notice contemplated by the Revenue Act of 1926. The said deficiency notice was dated April 6, 1926, and contained the following superscription:
    Utah Orpheum Company,
    c/o Orpheum Circuit, Inc.,
    Salt Lake City, Utah.
    The envelope in which this notice was mailed was what is commonly known as a “ window envelope,” and the superscription of the enclosed letter was legible through a transparent panel in the envelope — so that the address appearing on the face of the envelope was that contained in the superscription on the enclosed notice. The packet was unclaimed in Salt Lake City, Utah, and on April 14, 1926, was returned to the sender with the stamp, appearing on the face of the envelope, as follows: “Unclaimed [one word illegible] Salt Lake City, Utah. April 15, 1926.” The envelope also contained the further endorsements “No response to notices sent” and “Not 'found, 4-10-26” and “Dissolved and out of business— [illegible figure] 4 — 12-26.” The packet was received back in the Bureau of Internal Revenue on April 20, 1926.
    Thereafter, on or about May 7, 1926,; the Commissioner partially erased the date, “April 6, 1926,” theretofore appearing on the notice, and in lieu thereof, and just underneath the former date, stamped thereon the date “ May 7, 1926.” Similarly, the Commissioner, by partial erasure and retyping, changed the superscription of the notices so that instead of reading “ Salt Lake City, Utah,” it was made to read “ Salt Lake Building, Chicago, Illinois.” When the date and superscription of the notice had been thus changed, the notice was forwarded by registered mail to the address last given — in Chicago, Ill. It was so mailed on May 7, 1926. On July 3, 1926, the petitioner filed with the Board its petition on appeal.
    The address to which the notice was mailed on May 7, 1926, was the correct mailing address of the petitioner, while the address to which the notice was mailed on April 6, 1926, was not the correct address of the petitioner. In each instance the notice was contained in an official envelope requiring no payment of postage.
    The respondent, on December 20,1926, after extension of time had been duly granted, filed a motion to dismiss the proceeding on the ground that the statutory notice of deficiency was mailed to the petitioner on April 6, 1926, and that the petition on appeal, being filed on July 3, 1926, was so filed more than sixty days thereafter and that the Board is without jurisdiction in the premises.
   OPINION.

Korner, Chairman:

The facts here are quite similar to those in Walter G. Morgan, 5 B. T. A. 1035. That case was decided with relation to the Revenue Act of 1924, but it will be noted that, in so far as respects the matter of mailing of notices of deficiencies, the provisions contained in section 274 (a) of the Revenue Act of 1926 are not materialy different from those contained in the corresponding section of the Revenue Act of 1924. That section in the later Act provides:

If in tlie case of any taxpayer, the Commissioner determines that there is a deficiency in respect of the tax imposed by this title, the Commissioner is authorized to send notice of such deficiency to the taxpayer by registered mail. Within GO days after such notice is mailed * * * the taxpayer may file a petition with the Board of Tax Appeals. * * *.

Here the issue turns on whether the notice of deficiency was mailed, within the meaning of the statute, on April 6, 1926, or on May 7, 1926. The question of mailing is a mixed question of law and fact. The authorities seem to be clear that three elements are necessary to constitute mailing: (1) That the matter sought to be mailed be duly deposited with the postal authorities; (2) that it bear proper postage or be free of postage; and (3) that it be properly addressed to the person for whom it is intended. In the instant case only the third element is involved. There may be cases in which difficulty is experienced in determining whether the matter sought to be mailed is properly addressed. Many facts and circumstances may have to be considered, and doubts resolved, for a correct determination in such a case. But in a case wherein it is shown that the matter was not properly addressed, a mailing was not accomplished. In our opinion, the instant case presents such a situation. Evidence was introduced to show that a document had been filed with the Commissioner by a representative of the taxpayer which might have led the Commissioner to believe that the address of the taxpayer was in Salt Lake City, Utah. There is considerable doubt that it would have had that effect, but the evidence is rendered of even less probative value when it is noted that the document in question was filed with the Commissioner at a date subsequent to the filing of the petition with .the Board. An amended return with protest attached was introduced in evidence. It appears to have been filed by the taxpayer, although it is unsigned. However, it is conceded to be the amended return of the taxpayer. On the front page of this, in the block prepared for the name and addess of the taxpayer, there appears the following :

Utah Orpheum Theatre (San Francisco, Cal.)
** 418 State Lake Building,
Chicago, Illinois.
** Address of parent company

The foregoing was typewritten with the exception of the words “ San Francisco, Cal.,” contained in parentheses, which were hand written in ink. This amended return was filed with and received by the collector of internal revenue, first district of California, on April 3, 1924. It appears to have been received in the Consolidated Returns Division of the Bureau of Internal Revenue on April 29, 1926. This date was subsequent to the date first appearing on the deficiency notice, but prior to the date thereafter placed on it. We do not know whether this amended return was in the office of the collector or the office of the Commissioner between April 3, 1924, and April 29, 1926. At any rate, it can not tend to prove that Salt Lake City, Utah, was the proper address of the taxpayer. At best, it would show the correct address to be either San Francisco, Calif., or Chicago, Ill. The original return of the taxpayer was not placed in evidence because the parties were unable to locate it. There is no evidence in this record showing that Salt Lake City, Utah, was the correct address of the taxpayer, or that the Commissioner had any reason to believe that it was.

Under these circumstances, we are of opinion that the deficiency notice of April 6, 1926, was not mailed to the taxpayer (as we interpret the word “ mailing ”) pursuant to the provisions of the statute. The letter of May 7,1926, was mailed to the taxpayer. Accordingly, we hold that the petitioner’s appeal was .correctly brought from the notice of May 7, 1926, and, as such, was timely filed.

The motion of the respondent to dismiss is denied and he will he allowed 60 days from date hereof to answer.


author: Milliken :

text:
    Arthur C. Fraser, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6495.
    Promulgated February 28, 1927.
    1. Carrying charges for a period prior to March 1, 1913, may not be added to cost of property acquired prior thereto in determining cost or other basis for computing gain or loss on sale of the property.
    2. The depreciated March 1, 1913, value of property acquired prior thereto, determined, and, being in excess of cost, hold, basis for determining gain on sale.

      Arthur 0. Fraser pro se.

      Harold Allen, Esq., for the respondent.
    This proceeding results from the determination by the Commissioner of deficiencies in income tax for the years 1920 and 1921, in the amounts of $266.49 and $367.97, respectively. The issue involved is the gain or loss resulting from the sale of real property in the year 1920. The Commissioner determined a gain and computed it upon the installment sales basis.
    FINDINGS OP PACT.
    Petitioner resides at 98 Montague Street, Brooklyn, N. Y. In 1905 he purchased lots comprising 66% front footage on Ocean Avenue, Brooklyn, N. Y., for the sum of $11,000, and, incident to such purchase, paid legal expenses and commissions totaling $431.01. From 1905 to 1909, he paid taxes on the property in question, total- ■ ing $565.09, and interest on deferred payments due on the purchase price of $2,805. In December; 1909, he sold 16% feet of the property purchased in 1905 to G. M. Boardman, leaving a front footage of 50 feet. In 1910-he constructed a house on the lot at a cost of $8,600.
    For the period 1910 to 1913, petitioner paid the following amounts by reason of his ownership of the property:
    Legal services, surveyors’ fees and assessments_ $555. S2
    Taxes--- 761. 82
    Water charges or assessments- 51. 00
    Insurance-----■_ 40.00-
    Interest----3, 727.29
    In his Federal income-tax returns, petitioner claimed and was allowed depreciation for the period 1913 to 1920 on the property, in the total sum of $1,507.50.
    The fair market price or value of the property situated on Ocean Avenue, Brooklyn, N. Y., on March 1, 1913, was $19,500.

      Petitioner sold the property in 1920 for $22,000, the sale being consummated upon the following terms: $4,000 cash at time of sale and the remainder of purchase price was secured by bond and mortgage, payable in installments of $2,000 in 1921, $1,000 in 1922,.$2,000 in 1923, $1,000 in 1924, and the remainder of the purchase price due and payable in 1928. Fees for commissions due on the sale of the property, and legal services paid incident to the sale, amounted to $620, leaving a net sale price of the property of $21,380.
   OPINION.

Milliken :

Petitioner seeks to add carrying charges, such as interest and taxes, paid prior to March 1,1913, to the. cost of the property, for the purposes of determining gain or loss on the sale.' We have heretofore ruled on this question adversely to his contention. Appeal of Ottawa Park Realty Co., 5 B. T. A. 474.

■ The deficiencies in question should be. recomputed. The fair market price or value of the property on March 1, 1913, was $19,500 and depreciation on the building value of $1,507.50 should be subtracted from such value for purpose of determining gain resulting from the sale of the property for $21,380.

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


author: Love :

text:
    W. H. Gray, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 4552.
    Promulgated February 28, 1927.

      W. H. Gray pro se.

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

This is a proceeding for the redetermination of a deficiency of $1,413.86 in income tax for the year 1919. The deficiency arose from the disallowance by the Commissioner, as a deduction, of the sum of $7,840.96, claimed' by the petitioner as business expenses.

FINDINGS OF FACT.

In 1919 the petitioner resided at Houston, Tex., and was engaged in the practice of law. and also in the oil business, owning properties in Texas and Oklahonia. In addition, he was an officer of several oil companies. In attending to his several business interests, he spent various sums as traveling expenses.

He kept no detailed expense account, amounts being charged by his bookkeeper to expenses as directed by petitioner. Canceled checks for various expenditures were offered in evidence. The expenditures proved by the petitioner were as follows :

Surety bond premium_!- $10. 00
Abstract of records- 40.10
Salaries and expenses of employees- 86.27
Office supplies and expenses- 07.20
Lease royalties- 209.00
Attorney fees and court costs- 74.25
Telephone and telegraph- 93. 69
Office rent_ 140.00
Interest_ 7. 81
Railroad and Pullman fare- 745.06
Contribution to Y. M. O. A. at Tulsa- 25. 00
Contribution to Tulsa Humane Society- 25. 00
Miscellaneous expenditures-4, 814. 51

The evidence was insufficient to show that the following items should be allowed as deductions:

Miscellaneous expenditures-$4,814. 51
Tulsa Humane Society- 25. 00
Lease royalties- 209. 00
Abstract of records_ 40.10
Attorney fees and court costs_ 74. 25

We find the remaining items in the above list, amounting to $1,165.03, are jnoper deductions from income.

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


author: Littleton :

text:
    Karl Kiefer Machine Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 8396.
    Promulgated February 28, 1927.
    1. The action of the Commissioner in including in invested capital for the taxable year 1920 certain patents paid in to petitioner in 1908 and subsequent thereto for stock to the extent of 25 per cent of the par value of the capital stock outstanding on March 3, 1917, is approved.
    2. In 1908 a mixed aggregate of assets, in which were included certain patents, were paid in to petitioner for $192,000 par value of stock. In 1914 the capital stock was reduced to $70,000 par value and $122,000 was credited to surplus. Petitioner claims that the patents paid in for stock had an actual cash value of $75,000 at the time they were paid in and that, in the circumstances, that amount should have been included in invested capital for 1920 as paid-in surplus, instead of the amount of $17,500 allowed by the Commissioner on the basis of 25 per cent of the stock outstanding on March 3, 1917. In the absence of competent evidence showing that the patents had an actual cash value at the time paid in-greater than the amount determined by the Commissioner, it is unnecessary to decide the issue raised.
    3. In the absence of competent evidence showing the amount of income, invested capital, and the total tax for the taxable year, the Board can not determine whether the computation of the petitioner’s profits tax under the provision of section 301 of the Revenue Act of 1918 works upon the corporation an exceptional hardship.

      F. L. Ratterman, Esq., and John A. Baumann, G. P. A., for the petitioner.

      J. L. Deveney, Esq., for the respondent.
    The Commissioner determined a deficiency in income and profits tax of $4,730.18 for the calendar year 1920. Petitioner claims that the Commissioner erred in applying the 25 per cent limitation specified in section 326 (a) (4) of the Revenue Act of 1918 in his determination of the amount to be included in invested capital for the taxable year on account of patents paid in for stock prior to March 3, 1917. In the alternative, petitioner claims that if the Commissioner’s action in respect to its invested capital is approved, it is entitled to have its profits tax determined under the provisions of section 328 of the Revenue Act of 1918.
    FINDINGS OF FACT.
    Petitioner is an Ohio corporation organized on September 2, 1908, to engage in the manufacture and sale of bottling and canning machinery, filters, pumps, and supplies, with principal office and place of business at Cincinnati.
    Prior to November 2, 1908, Karl Kiefer had obtained ten or twelve United States patents covering certain machines invented by him. When petitioner was organized a mixed aggregate of assets, among which were included the patents owned by Kiefer and such other patents as he might thereafter obtain, were paid in to it for $192,000 par value of stock. One-half of this stock was issued to Kiefer and the remainder to a limited number of persons. In November, 1914, petitioner’s stockholders concluded that the large outstanding capital stock was disadvantageous from a credit standpoint, whereupon the capital stock was reduced to $70,000, par value, and the difference between this amount and $192,000 was credited to surplus. The par value of the capital stock has at all times since remained in the amount of $70,000. None of the assets originally paid in for stock or subsequently acquired by the corporation were, at the time the capital stock was reduced, or at any time subsequent thereto, withdrawn or distributed to the stockholders.

      Subsequent to 1908, Kiefer obtained and turned over to the corporation 65 additional patents. Petitioner was also using certain inventions for which Kiefer had made application for patents. Petitioner carried on its balance sheet, as an asset , at January 1, 1920, patents at $75,000.
    Since incorporation the major portion of petitioner’s income has been attributable to patents which it owned: In years prior to 1920 petitioner earned as much as 10 per cent on $192,000.
    In determining petitioner’s statutory invested capital for the taxable year the Commissioner included therein patents at $17.,500, representing 25 per cent of the par value of the total, stock of the corporation outstanding on March 3, 1917, and at January 1, 1920.
   OPINION.

Littleton :

For the purpose of the excess-profits tax the Commissioner determined that the amount which petitioner was entitled to have included in its statutory invested capital for the taxable year on account of patents was $17,500. His action in this regard was strictly in accordance with the provisions of section 326 (a) (4) of the Revenue Act of 1918. Petitioner contends, however, that it is not the purpose of the statute to so limit the amount by which income shall be reduced on account of property invested in business in determining the amount of such income, to be subjected to the excess-profits tax, when such property has not been withdrawn or distributed, merely because the par value of the capital stock of the corporation was reduced prior to March 3, 1917, and that, therefore,, it is entitled to include in its invested -capital for the calendar year. 1920 the actual cash value in patents at the.time paid in, and that, the excess of the actual cash value of all property, including patents originally paid in, in excess of the par value of the stock- as reduced, should be included in invested capital for the year 1920 as a paid-in surplus.

It is not necessary to consider whether there is merit in petitioner’s, contention that it is entitled to a paid-in surplus in respect , of the patents for the year 1920, inasmuch as no competent evidence was introduced indicating that the patents and the contract rights. to additional patents obtained by Kiefer had any value at the time paid in for stock in excess of that determined by the Commissioner,

In respect to petitioner’s alternative claim that it is entitled to have its profits tax determined under the provisions of section. 328 of the Revenue Act of 1918, we have no competent evidence showing-the petitioner’s income, invested capital, or. the total tax for the year or that there were any abnormal conditions affecting either the capital or the income during 1920.

Judgment will be entered for the Commissioner.


author: Lansdon:

text:
    Appeal of Federal Plate Glass Co.
    Docket No. 1005.
    Promulgated March 2, 1927.
    1. Value of mineral lands acquired in Í905 in exchange for shades of stock determined.
    ,2. ¡Certain amounts paid to employees in addition to stated sal-' aries Held to be capital expenditures.
    3. Claim for deduction on account of extraordinary repairs of manufacturing equipment disallowed as deduction from gross income.
    . Albert L. Hopkins, Esq., Richard 8. Doyle, Esq., and F. D. Utley, G. F. A., for the petitioner.
    . M. N. Fisher, Esq., for the Commissioner.
    . This is an appeal from the determination of deficiencies in income and profits taxes for the year 1918, the year 1919, and January and February of the.year 1920, in the respective amounts of $15,535.08, $18,443.48, and, $5,409,50, or a total of $39,388,06. The issues are: (1). The value, for statutory invested capital purposes, of certain silica sand-bearing lands acquired by-the petitioner in 1905; (2) the petitioner’s-- right to include in its statutory invested capital the amount of $100,000 paid, in addition to stated salaries, to two men employed during and after the construction of the petitioner’s manufacturing plant; and (3) whether the petitioner properly deducted from its gross income for January and February,. 1920, a pertain amount alleged to have been incurred as ordinary and necessary, expenses incident to the operation of its business during that .period. The petitioner abandoned a- fourth issue relating to the value of its mineral deposits at March 1, 1913, as a basis for the computation of annual deductions for depletion, and such issue, by order of the, Board dated July C, 1925, was eliminated from consideration in the- determination of the appeal.
    FINDINGS OF FACT.
    The petitioner is an Illinois corporation organized in 1905, with its principal office at Ottawa, where it is engaged in the mining of silica and other sands, and in the manufacture and sale of plate glass.
    At the date of incorporation the petitioner issued all its authorized capital stock, in the amount of $1,000,000 par value, in exchange for the tangible property of the Great Western Glass Co. Among ■the assets so acquired were two tracts, of white silica sand-bearing lands of 38 acres and 5 acres, respectively,' and a contract with the Ottawa Development Association lor the acquisition of an additional tract of 30 acres of such land contingent on certain conditions which were afterwards performed by it and title to such acreage thereby secured. A partly completed plate glass manufacturing plant was located on the 38-acre tract. The total extent_ of silica sand-bearing lands thus acquired was 73 acres, of which an area of 20 acres was used for the site of the petitioner’s manufacturing plant.
    Prior to the beginning of operations by the petitioner, the Chicago, Eock Island & Pacific Eailroad and the Chicago, Burlington & Quincy Eailroad had constructed a joint switch track or spur through the lands owned by the petitioner and others, north of the Illinois Eiver and connecting the petitioner’s plant both with some of the main silica deposits and the main line of the railroads.
    The principal known and developed deposits of silica sand in the United States east of the Eocky Mountains which are suitable for the manufacture of glass, other than those near Ottawa, Illinois, are in Pennsylvania, West Virginia, Kentucky, Missouri, Ohio, and Michigan. The silica sand in the Ottawa district is a high grade white sand and well suited for the manufacture of plate glass, table glass, crystal, and the finest grades of glassware. A chemical analysis shows it to run as high as 99.89 per cent pure silica, after being washed, dried, and screened. It is readily accessible, at some points being entirely exposed, and at other places covered with a relatively slight overburden of foreign deposit which can be removed by scraping and brushing. The silica sand occurs in a formation, known as St. Peter’s sandstone, which is so soft that much of it can be mined with steam shovels, but it is necessary to blast some of the rock loose and in other cases to wash it down from the pit margins by hydraulic process. After being loosened by one of these methods the sand is pumped from the sump at the bottom of the pit to the factory or the cars. The usual depth of mining is from 60 to 65 feet. Below that depth water seepage interferes with the mining and the cost of elevating the sand.to the surface increases considerably.
    The silica deposits in the other States above mentioned, and other deposits in Illinois, are not so cheaply recoverable or so economically usable as those of the Ottawa district, due to various conditions, some of them being the heavy overburden covering the sand, the hardness of the sand-bearing rock, the color of the sand and impurities in it such as lime and clay. Where sand occurs in a hard rock formation it is first blasted, then crushed in rock crushers, and put through what is known as a chaser mill'in order to separate the grains of sand. Sand that is not pure white is not suitable for high grade glassware. Where lime occurs in sand it is necessary that it be burned out before the sand can be used to manufacture glass. Other impurities must be removed by ’the use of chemicals.
    Silica sand, used in glass making, is either “ batch ” sand or “ grinding ” sand. Batch sand is used in the making of the glass and must be washed, dried and screened so as to be entirely free of foreign matter before it is suitable for that purpose. Plate glass, as it is originally cast, is about-five-eighths of an inch thick. After being run through the cooling ovens, or lehrs, it is imbedded in plaster of Paris on a cast iron table 25 feet in diameter, -which revolves under, a grinding machine. - In the latter process the grinding sand is used, being circulated on the surface of the glass by means of cast iron runner bars. After .one :side of the glass is polished, the plate is turned over and the other side-put through the same process. From five to seven grades of sand, are used in grinding each side of the glass, the coarsest sand.being used first. It requires about three times as much sand for grinding glass as is used in the making of it.
    The petitioner purchased its batch sand from the Ottawa Silica Co., which was engaged in the production of silica sand and had extensive holdings of sand-bearing lands within a mile of the petitioner’s factory. Both the Ottawa Silica Co.’s land and the petitioner’s factory were on the railroad switch track above mentioned. The sand was purchased by the petitioner under contract at 65 cents per ton f. o. b. cars. During the same period the Ottawa Silica Co. sold sand to others at prices ranging from 75 cents to $3.50 a ton. If the petitioner had purchased grinding sand, it would have cost, including transportation from the nearest point of production, about $1 per ton. The grinding sand used by the petitioner was produced by it from its own land.
    Prior to the organization of the petitioner corporation, a glass manufacturing company at Saginaw, Mich., had purchased batch sand frota thé Ottawa Silica Co. at 75 cents per ton f. o. b. Ottawa. The freight to Saginaw amounted to $1.75 per ton, making the cost $2.50 per ton delivered on cars. The cost of unloading was about 10 cents per ton. That company procured its grinding sand from a deposit about twénty miles from the factory at a cost of $1 to $1.25 per ton.
    About the years 1898 and 1899, the Ottawa Development Association purchased from individuals several hundred acres of silica-bearing land, including the tracts in question, near Ottawa, at prices ranging from $60 to $125 per acre. ' This land was acquired for the purpose of offering it to manufacturers to induce them to locate their plants in that locality. Sales of similar land were made by individuals between 1900 and 1912 at prices ranging from $125 to $300 per acre.

      About 1893 another firm was engaged in the production and shipment of silica sand from the Wedron silica fields, about eight miles from the Ottawa fields. It sold its sand on a royalty basis of 6 cents per ton and taxes. That royalty was paid under a ten-year contract, and, upon the expiration of that contract, it was renewed on the basis of 5 cents per ton and taxes. The- Wedron silica is of the same general character and suitable for the same purposes as the Ottawa silica. The Wedron district is served by the Chicago, Burlington & Quincy Railroad.
    The cash value of the factory site and silica-bearing lands acquired by the petitioner in 1905 in exchange for stock was $35,000.
    Early in 1907, the petitioner by oral agreement secured the services of E. E. Achard and one Dittman, who theretofore had been employed by the Saginaw Plate Glass Co., and agreed to pay therefor annual stated salaries and certain shares of its capital stock. After some months it was unable to make delivery of the stock, and thereafter it entered into written agreements with Achard and Dittman, whereby the former was employed as general manager, and the latter in some capacity not disclosed by the record, but apparently as plant superintendent, at the previously agreed respective annual salaries of $8,500 and $5,000. In addition to such stated salaries, each was to receive $50,000 in cash, to be paid in annual installments of 7y2 per cent of the net earnings of the petitioner, but with the provision that no payment on this account to either of them for any one year was to be less than $2,500. This agreement was made on November 4, 1908, but was effective, as of January 1 of that year,' and all payments in addition to stated salaries were completed by some time in the year 1917. The amounts so paid were not entered' on the petitioner’s books as capital items, but were charged to operating expense from year to year.
    At the date of the oral agreement of employment, Dittman began work for the petitioner, but Achard remained at Saginaw, Mich., for several months thereafter. When Achard and Dittman were employed by the petitioner, the plant at Ottawa was nearing completion. Under the direction of these men some changes were made in the construction of the plant and in the machinery, some of which had been purchased and installed and some contracted for; additional machinery was purchased and installed; two extra furnaces were constructed, and the first glass was cast in February, 1908. Achard remained in the employ of the petitioner, as general manager from 1907 to December 31, 1919. Dittman remained at Ottawa for about eight years, then went to Europe, and later returned. During his absence payments to him under the contract were continued.
    The lehrs, or cooling ovens, upon which the petitioner claims depreciation, consist of five ovens and a runway about 80 feet in length. Plate glass is first cast on a casting table, where it is rolled to a thickness of about five-eighths of an inch. It is- then placed in the first of the cooling ovens which has a temperature of about 1260 degrees; it is next stowed into the second oven which has a temperature of about 1120 degrees, and from there it is carried through the remaining ovens, finally reaching the runway of the lehr. By the time the glass reaches the end of the runway it is cooled and is then cut and put in stock and later polished.
    On account of the wear and tear resulting from use under the extremely high temperature the lehrs used by the petitioner were torn down approximately once in every twelve months and extensive repairs made at a cost of at least $24,000. Minor repairs were frequently made to maintain the lehrs in an operating condition, and during the two-month period such repairs were made. A deduction on account of the exhaustion of the plant, machinery, and equipment was allowed.
    For the years prior to 1920 the petitioner charged to expense the cost of the annual repairs to the lehrs. It disposed of its plant as of March 1, 1920, and claims the right to a deduction of $2,000 for each of the months of January and February, 1920, as representing expense of repairing the lehrs for that period.
   OPINION.

Lansdon:

There are three questions in this appeal for our consideration, viz: (1) The value, for statutory invested capital purposes, of the silica sand-bearing lands acquired by the petitioner in 1905 in exchange for stock; (2) whether the amount of $100,000 which the petitioner paid to two of its employees in addition to stated salaries may be included in the computation of its statutory invested capital; and, (3) whether the amount of $4,000 may be deducted from the petitioner’s gross income for the months of January and February, 1920, as ordinary and necessary expense of operating its business. We shall discuss and decide these issues in the order named.

The law provides that the cash value of tangible property tona fide paid in for stock shall be included in the computation of invested capital for profits tax purposes. Although legal title to a part of the silica sand-bearing lands involved in this appeal was not acquired by the petitioner at the date of organization, it appears that a contract, which later was fully complied with, providing for such part of the land, was included in the assets for which stock was issued in 1905. We shall assume, therefore, that the beneficial ownership of the entire 73 acres, described in our findings of fact, was in the petitioner from 1905, and our problem here is to ascertain the cash value of such land at that date.

The Commissioner and the petitioner are very far apart in their estimates of value of the lands which the petitioner purchased with stock in 1905. The Commissioner asserts that the lands then and so acquired had a cash value of not more than $14,735. The petitioner contends that the value of the factory site and the silica sand deposits in such land at date of acquisition was at least $550,000. It is obvious that such widely divergent results must have been reached by wholly irreconcilable methods. The Commissioner has determined the cash value of the land as indicated by actual sales of such property in the immediate vicinity, both before and after the date of the transaction here in question. The .petitioner has computed what it alleges was the cash value of the recoverable mineral deposits in the land. •

The evidence is conclusive that the silica sand deposits contained within the land in question have a very substantial value because of their purity; their accessibility.to the petitioner’s manufacturing-plant; their location on the switch-tracks of two great trunk line railroads; and the low operating expense of their recovery. There is no proof, however, that these deposits are unique in any of these respects. They are a part of a geological formation that underlies a considerable area of the State of Illinois. They are only a small part of such formation in the immediate vicinity. There are other deposits of high grade silica sand which have been developed in many sections of the country, and especially in Pennsylvania, West Virginia, Ohio, and Missouri, where they are so abundant that their exhaustion is likely to be a matter of centuries. That the deposits in question are not essential to the operation of the petitioner, and are regarded as a reserve against future requirements rather than a source of current supply, is indicated by the fact that all the silica sand used by the petitioner in its operations for many years was purchased from another company operating mines in the same locality.

The valuation of approximately $10,000 per. acre contended for by the petitioner rests solely on the opinion of three witnesses, all of whom are familiar with silica sand deposits, and with the processes of converting that mineral into glass. These witnesses agree that each acre of the petitioner’s land contains a minimum of 100,000 tons of recoverable silica sand, and that such sand had a cash value in place of at least 10 cents a ton when acquired in 1905. This testimony is not convincing as to the qilestion at issue. We are concerned only with the cash value of the lands at the date of their exchange for stock. If cash value exists in any asset it is measurable by the amount of cash into which it can be converted by a transaction of sale and purchase between two parties, each of whom is perfectly free to act for his own best interests.

There is no evidence in the record of any sale of silica sand-bearing lands such as were owned by the petitioner at a price based on the high value here asserted. Neither the petitioner nor any other manufacturer of glass has testified that it has ever paid or considered the payment of $10,000 an acre for such land. No witness has testified that any such lands at Ottawa, or at any other place in the United States, have ever been sold for a price based on even a tithe of such value. On the other hand, it is in evidence that a large tract of silica lands, including the very acreage in question, was acquired by the Ottawa Development Association about the year 1899 for prices varying from $60 to $125 per acre, and were after-wards sold at prices that in no instance exceeded $300 per acre. The sales of several tracts of such lands, some of them to this petitioner, are of record between 1905 and 1912, and, in each transaction, the price was under $500 per acre. It is argued by the petitioner that, as the Ottawa Development Association was a non-profit organization, the prices at which it bought and sold arc not criteria of cash or market value. This may be true of its sales, but not of its purchases, which, we may assume, were at market prices, or even higher, since its purpose was not to earn profits, but to advance the interests of the community. There is no evidence that sales of silica sand-bearing lands made by private parties in the neighborhood at prices never in excess of $300 per acre were not transactions on an open market between willing sellers and willing purchasers. Giving due consideration to all the very substantial advantages resulting to the petitioner from the ownership of these lands, we are of the opinion that their cash value at date of acquisition was not more than $35,000.

The petitioner also contends that the amount of $100,000 which it paid to its general manager and plant superintendent in addition to stated salaries shall be included in its statutory invested capital. To sustain its contention on this point it asserts that these men performed services in the completion of its manufacturing plant analogous to the duties and functions of designing and supervising architects or engineers, and that the result of such services is reflected in its capital assets. The evidence is clear that for some time prior to the beginning of production, Achard and Dittman redesigned some of the plant buildings which were subsequently reconstructed under their supervision; that they supervised the purchase and installation of much of the equipment of the plant. It was largely through their supervision and direction that the plant was made ready for production. To secure the services of these men for the purposes here indicated, the petitioner paid each of them the amount of $50,000, which was in addition to remuneration for services connected with the operation of the enterprise. We are of the opinion that these payments were capital expenditures and should be included in the computation of the petitioner’s invested capital for profits-tax purposes in each of the taxable years.

It does not appear from the evidence that the petitioner incurred any expense in the repair of its cooling ovens in January and February, 1920. It contends, however, that such cost would have been necessary for the year 1920 in the amount of $24,000, or at the rate of $2,000 monthly, and apparently, on the theory that the need of such repairs had accrued at the end of February in the amount of $4,000, asks for the deduction thereof from its gross income for that period. There is no authority in the Revenue Act applicable here for the deduction from gross income of operating expenses until they are incurred and paid or accrued. The amount of $4,000 here in question was not paid during the taxable period, and there is no convincing evidence that it was either incurred or accrued. It is disallowed as a deduction from gross income from that period.

Judgment will be entered on 10 days' notice, under Rule B0.

A rúndele and Millticen not participating.

Trammell dissents on the first point.