author: Mellott:

text:
    Guy T. Gibson, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 102189.
    Promulgated April 28, 1942.

      Clifford H. Rich, 'Esq., and Kenneth Conroad, Esq., for the petitioner.

      George E. Gibson, Esq., for the respondent.
   OPINION.

Mellott:

This proceeding, involving a deficiency in income tax for the calendar year 1936 in the amount of $921.41, was submitted upon a stipulation of facts and the testimony of one witness. The sole question is whether the respondent erred in disallowing a deduction of $11,181.55. The stipulated facts are found accordingly and may be summarized. Appropriate findings will be made from the evidence adduced.

Petitioner, a New York corporation, is an importer and wholesaler of perfumeries. Its books are kept and its returns of income are made upon an accrual basis. Its return for the taxable year was filed with the collector of internal revenue for the third district of New York.

During 1929 and 1930 petitioner imported perfumeries from France, paying customs duties thereon on the basis of the “entered value”, which was the price at which they were invoiced to it. From April 4, 1926, to April 26,1930, there was in effect in France a so-called “luxury” tax of 12 percent on perfumeries. This tax was not levied upon exported perfumeries and was not an item of cost of the perfumeries to petitioner.

The Tariff Act of 1922 ( 42 Stat. 949) defines “foreign value” and “export value” of imported merchandise and the ad valorem duty is imposed upon “whichever is higher.” “* * * During the first three years of the life of the [French] Act of 1926 our [i. e. the United States] appraising officers did not include the tax in the appraised value [of perfumeries imported from France]. Beginning about June 1, 1929, however, they began to include it and continued so to do until April 26, 1930, when the French Act of 1926 was repealed * * Veolay, Inc. v. United States (June 10, 1935), 23 C. C. P. A, 101; certiorari denied (Feb. 17, 1936), 297 U. S. 711.

In order to determine whether the inclusion of the French “luxury” tax in the appraised value of perfumeries between June 1, 1929, and April 26, 1930, was proper, a test case (Veolay, Inc., supra) was carried through the courts. The courts held that the “foreign value” of the perfumeries, including the tax, was the basis upon which the ad valorem duties were to be assessed.

In January, February, and March 1935, after an appellate division of the Customs Court had determined that the “foreign value”, including the 12 percent tax, should be used, but before the question had been passed upon by the Court of Customs and Patent Appeals, the collector of customs determined that additional duties in the amount of $11,181.55 were due from petitioner on the perfumeries imported by it in 1929 and 1930. The determination resulted from the inclusion of the French “luxury” tax in the appraised value of the perfumeries. The amount was paid to the collector during January, February, and March 1935; but because of the pendency of the test case, the additional payments were made under “duress” pursuant to § 503 of the Tariff Act of 1930.

In addition to the test case referred to above, petitioner filed a separate reappraisement action in the United States Customs Court on August 5, 1935, alleging that the French “luxury” tax should not have been included in the appraised value of the perfumeries imported by it from France in 1929 and 1930. Subsequent to the denial of certiorari by the Supreme Court in the test case petitioner abandoned its reappraisement action and on November 9, 1936, the Customs Court entered an order affirming the appraised value.

During 1935 petitioner debited the sum of $11,181.55, paid as aforesaid, as additional customs duties to an account on its books entitled “Duty.” The.account was adjusted as of December 31, 1935, by a credit in the amount of $11,181.55, which amount was transferred as of the same 'date to the debit side of a newly formed account entitled “U. S. Treasury.” This item of $11,181.55 was listed as an asset entitled “Duty paid under Protest” on the balance sheet of December 31, 1935, submitted with petitioner’s 1935 Federal income tax return. No deduction was taken in 1935 on petitioner’s books or in its Federal income tax return for that year for the additional duties paid in the amount of $11,181.55. Said additional duties were not reflected by any entries on petitioner’s books or in any Federal income tax return prior to the year 1935.

The above mentioned “U. S. Treasury” account was eliminated as of December 31, 1936, by a credit in the amount of $11,181.55 and a corresponding debit to the profit and loss account as of the same date.

Petitioner deducted the sum of $11,181.55 on line 25 (c) of its Federal income tax return for the calendar year 1936 as “additional duty paid under protest — claim for refund abandoned.” This deduction was disallowed by the Commissioner of Internal Revenue in his notice of deficiency dated January 19, 1940.

In addition to the stipulated facts and based upon the testimony adduced at the hearing, it is found that through the years 1929 to 1936, inclusive, petitioner treated customs duties as a part of the cost of merchandise purchased, including in the inventory at the beginning and end of each year, the duties on the merchandise then in it, the unpaid duties being set up on its books as a liability. In preparing its income tax returns petitioner included, as a part of the cost of goods sold, the duties applicable to the merchandise sold during the year. The amounts so claimed and deducted were: in 1929, $58,768.51; in 1930, $67,125.59; in 1935, $28,582.10; and in 1936, $14,095.80. The amounts presently in issue were not included in any of the above amounts; but the original duties, i. e., the aggregate of the duties paid in 1929 and 1930 upon the declared value, were reflected in the cost of goods sold to the extent of the goods sold.

Under article 23 (c)-2 of Regulations 94 duties may be deducted as taxes or they may be added to and made a part of the expenses of the business or the costs of the merchandise with respect to which they are paid. No duplication of deduction, however, will be permitted. Pathe Exchange, Inc. v. Commissioner, 77 Fed. (2d) 306.

Respondent contends that the claimed deduction of $11,181.55 representing additional customs duties paid in 1935 on merchandise imported during the years 1929 and 1930 must be disallowed for the reason that such duties were accrued and paid prior to the taxable year 1936. He points out that the Tariff Act of 1922 (42 Stat. 858) imposes duties at the rates in effect at the time the merchandise is imported; that duties upon imported merchandise accrue on arrival of the importing vessel within a customs port with intent to unlade (Art. 275, Customs Eegulations), Meredith v. United States, 38 U. S. 486; United States v. Ehrgott, 182 Fed. 267; United States v. Sandoz Chemical Works, 14 C. C. P. A. 21; that duties are deductible as taxes (art. 23 (c)-2, Eegulations 94) and the same principles should be applied in determining their deductibility; that the courts and this Board have uniformly held taxes accrue when all of the events have occurred determining the liability for the tax and the amount thereof, United States v. Anderson, 269 U. S. 422; Red Wing Potteries, Inc., 43 B. T. A. 841; that a court action to determine the value at which the property is to be assessed does not have the effect of postponing the deduction until it is terminated; Brooklyn Union Gas Co., 22 B. T. A. 507; affirmed on other grounds, 62 Fed. (2d) 505; Haverty Furniture Co., 20 B. T. A. 644; Uncasville Manufacturing Co. v. Commissioner, 55 Fed. (2d) 893; certiorari denied, 286 U. S. 545; Floyd, Inc., 43 B. T. A. 101; Red Wing Potteries, Inc., supra; Rawlings Manufacturing Co., 44 B. T. A. 161; and that the duties now in issue were not treated as a part of the cost of goods sold by petitioner either upon its books or in its returns.

Petitioner recognizes the' soundness of most of the principles referred to above, but contends that they are not applicable. It argues that it 'has consistently treated duties as a business expense rather than as taxes and insists — as stated in its brief — “the law pertaining to the accrual of business expenses is applicable and not the law pertaining to the accrual of taxes.” The important distinction, as exemplified in the cases cited by petitioner — New, Process Cork Co., 3 B. T. A. 1339; Bump Confectionery Co., 4 B. T. A. 50; Thorne, Neal & Co., 13 B. T. A. 490; North American Coal Corporation, 28 B. T. A. 807; Lefman Bros. Co., 45 B. T. A. 793—is that a deduction may be taken for business expenses, by one on an accrual basis, only in the year “when the liability is finally determined or admitted.” This is but an application of the rationale of Lucas v. American Code Co., 280 U. S. 445, and kindred cases. The pendency of litigation to determine the amount of taxes to be paid, however, does not authorize a taxpayer to refrain from accruing them as a liability. Price v. United States, 269 U. S. 492; United States v. Anderson, supra; Floyd, Inc., supra.

It is doubtful whether the regulation has the effect petitioner attributes to it. Petitioner is seeking to deduct taxes which, under well established principles, accrued in the years 1929 and 1930. The regulation does not purport to give a taxpayer the right to postpone such deduction until a later year.. It merely recognizes that some may see fit to treat excise taxes as expenses of the business or as additional costs of the merchandise and provides that if they are so treated they may not be deducted as taxes. It was enacted primarily for the purpose of preventing duplication of deduction.. Bookkeeping entries, however, can not change the character of an expense. Duties remain such regardless of how they are treated upon a taxpayer’s books.

Section 23 (a) of the Revenue Act of 1936 provides that in computing net income there shall be allowed as deductions “all ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business * * Section 23 (c) permits the deduction of “taxes paid or accrued within the taxable year.” Section 43 provides that the period for which deductions shall be taken is the taxable year in which they are “paid or accrued” or “paid or incurred” depending upon the method of accounting upon the basis of which the net income is computed, unless in order clearly to reflect the income the deduction should be taken as of a different period. The petitioner keeps its books and reports its income upon the accrual basis and it is not contended that this method does not clearly reflect its income.

The amount here in issue was not “paid or incurred” in the taxable year 1936. The liability to make payment was incurred in the years 1929 and 1930 when the merchandise was imported. It was paid after assessment in 1935. Only by an artifice of bookkeeping was it transferred on pétitioner’s books to an asset account as of December 31, 1935, and carried until December 31, 1936, when it was charged to profit and loss. In our judgment it is not deductible in 1936 under section 23 (a) as ordinary and necessary expenses paid or incurred in that year.

But even if we are wrong in concluding that the regulation does not give petitioner the right to deduct in 1936, as ordinary and necessary business expenses, the additional duties paid in 1935, petitioner, in any event, could not prevail upon the present record. Its consistent practice has been (in the language of its accountant) “to treat duties as a part of the cost of merchandise purchased” — to “include custom duties as a part of the cost of goods sold on the books of account.” For aught appearing in this record all of the goods purchased in 1929 and 1930 had been sold prior to 1936. A clear distortion of income would result, if, in the year 1936, petitioner were permitted to deduct, as a part of the cost of the goods sold in that year, the duties actually accruing, the ordinary and necessary expenses of the business, and $11,181.55 of duties which should have been deducted in earlier years. -

Petitioner’s contention that its liability for the additional duties was contingent until termination of the litigation is clearly unsound. The liability to pay all duties accrued on arrival of the importing vessel within a customs port with intent to unlade. The reappraisement action did not go to the question of when the duties were imposed but only to the value of the merchandise for the purposes of the appraisement. It determined only the amount to be paid.

Petitioner places considerable reliance upon a ruling of the Department allowing a taxpayer to deduct, as a business expense, additional sales taxes paid, in 1939, out of its own funds, which it should have collected from its vendees in earlier years. The ruling does not rise to the dignity of an administrative interpretation of an ambiguous statute nor is it a regulation of long standing. It does not have the force or effect of a Treasury decision and does not commit the Department to any interpretation of the law. (See cautionary notice on first page of bulletin.) The facts upon which it is based are clearly distinguishable from those now before us. The company seeking the ruling was “liable only as collecting agent for New York City.” Petitioner, however, was primarily liable for the additional duties.

In our opinion the Commissioner did not err in denying the claimed deduction. Since this is the only adjustment contested the deficiency must be approved.

Decision will he entered for the respondent.

       Sec. 503 (b), Tariff Act of 1930 :
      Entries Pendino Reappkaisbment.
      If the importer certifies at the time of .entry that he has entered the merchandise at a value higher than the value as defined in this chapter because of advances by the appraiser in similar cases then pending on appeal for reappraisement, * * * and if the importer’s contention in such pending cases shall subsequently be sustained, wholly or in part, by a final decision on reappraisement, and if it shall appear that such action of the importer * * * was * * * in good faith, the collector shall liquidate the entry in accordance with the final appraisement.

       Art. 23 (c)-2. Federal duties and excise taxes. — Import or tariff duties paid to the proper customs officers, and business, license, privilege, excise and stamp taxes paid to internal revenue collectors, arc deductible as taxes imposed by the authority of the United States, provided they are not added to and made a part of the expenses of the business or the cost of articles of merchandise with respect to which they are paid, in which case they can not be separately deducted. (See article 23 (a-1.)

       I. T. 3441, 1941-1 C. B., p. 208.


source: Caselaw Access Project

author: Smith:

license: Public Domain

text:
    S. K. Ames, Inc. (Now Known as Kennedy & Co.), Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 105891, 106946.
    Promulgated April 28, 1942.

      Edward J. Keelan, Jr., Esq., and Joseph N. Welch, Esq., for the petitioner.

      J. T. Haslam, Esq., for the respondent.
   OPINION.

Smith:

The respondent argues that the petitioner constructively received dividends in the taxable years in the aggregate of the amounts paid by Kennedy & Co. in the purchase of its own stock from Kennedy Bros., Inc. (to the extent that such payments were made out of earnings), plus the dividends paid on the preferred stock by Kennedy & Co. to Kennedy Bros., Inc. His contention is that Kennedy & Co. in effect distributed its earnings as dividends to the petitioner, the owner of its common stock, and the petitioner used these distributions to satisfy its obligation to purchase the preferred stock; but by means of a short cut, i. e., the direct payment by Kennedy & Co. to Kennedy Bros., Inc., the petitioner avoided the necessity of reporting the dividends as income. That there was no actual distribution of earnings to the petitioner- is immaterial, it is argued, because the same result was achieved by what was done; the earnings of Kennedy & Co. were distributed, the seller received the money for the stock, and the obligation of the petitioner to pay for the stock was reduced in a corresponding amount. The respondent concludes that this satisfaction of the petitioner’s obligation by another corporation constituted income to the petitioner in accordance with the principle of United States v. Kirby Lumber Co., 284 U. S. 1.

The fallacy in respondent’s argument is that the petitioner in fact had no absolute obligation to purchase the stock from Kennedy Bros., Inc. Its obligation with respect to the preferred stock was precisely as outlined in the contract which was executed in 1929. That contract provides that the petitioner “will purchase or cause’ to be purchased” and “the Seller will sell” the stock to the petitioner or to any other person to whom it may desire to sell. This contract was plainly executory and did not pass title to the stock to the petitioner. The deposit of the stock, endorsed in blank, with the escrow agent also did not pass title to the petitioner. George R. Myers, 42 B. T. A. 640. It was clearly intended that title should not pass prior to payment since the seller retained the right to sell all or any part of the stock to others at any time. The payments required by the contract were to be made to the escrow agent on or before a specified date each year. After each payment it was provided that the agent would deliver the certificates paid for to the buyer whether such buyer was the petitioner or any other person.

The facts outlined above fail to bear out the respondent’s argument that the petitioner incurred an absolute obligation under the contract executed in 1929 to pay a certain amount of cash at once and in addition to pay $1,000,000 in installments for the preferred stock of Kennedy & Co. The petitioner did incur an obligation with respect to the preferred stock it is true, but it was an obligation which by its very terms had several alternative modes of satisfaction. One possible method of satisfaction was that a third party might buy the stock and this is what actually occurred prior to the due date in each year. The obligation having been satisfied precisely in accordance with its terms, the earnings of Kennedy & Co. can not be said to have been used for the benefit of the petitioner and no income has resulted to the petitioner from the satisfaction of an obligation. Cherokee Co., 41 B. T. A. 1212; Pinkney Packing Co., 42 B. T. A. 823.

Dividends on the outstanding preferred stock of Kennedy & Co. in the amounts of $19,250 in 1936 and $10,500 in 1937 were paid to the owners of that stock, none of which was owned by the petitioner in the taxable years. There is clearly no merit in the respondent’s determination that such dividends should.be treated as income to the petitioner. Cf. Moore v. Commissioner (C. C. A., 9th Cir.), 123 Fed. (2d) 145.

The petitioner’s claim for a determination of overpayment in each of the taxable years is stated on brief to be contingent upon a finding that it received a constructive dividend as the respondent has determined. Since the respondent’s determination has not been approved, it is not necessary to consider petitioner’s claim for overpayment. However, in any event, that claim must be disallowed, since it is based on section 26 (c) (1) and (2) of the Revenue Act of 1936, which permits credits against net income for amounts which can not be distributed as dividends without violating the provisions of a written contract, and for amounts which the taxpayer is required by a written contract to set aside for the discharge of a debt. There is no contract in evidence which meets the requirements of the statute.

Decisions will be entered under Bule 50.


author: Disnev:

text:
    Douglas Aircraft Company, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105093.
    Promulgated April 28, 1942.

      Dana Latham,, Esq., for the petitioner.

      Samuel Taylor, Esq., for the respondent.
   OPINION.

Disnev:

The petitioner in 1935 entered into a contract to construct airplanes for the Navy Department of the United States. At that time the “Yinson Act” of March 27, 1934, provided, in short, that one contracting with the Secretary of the Navy must contract to make a report to the Secretary upon the completion of the contract, and pay into the Treasury profit above 10 percent, provided that if not voluntarily paid, the excess profit should be collected by the Secretary of the Treasury under the usual methods employed under the internal revenue laws. The act, so far as pertinent here, is set forth in the margin. No definition of “the completion of the contract” was contained in the act. No provision was made by the act for offsetting one contract against another. The Vinson Act was amended on June 25, 1936. In material part, the amendment is shown in the margin. The amendments provide, in substance, that the profit to be paid into the Treasury should be the profit in excess of 10 percent “of the total contract prices” of such contracts “as are completed by the particular contracting party within the income taxable year”, and define the income taxable year as beginning after December 31, 1935. Section 3 (a) of the 1934 Act, containing reference to report upon “completion of the contract” was not amended.

The petitioner herein seeks to bring the contract made in 1935 within the purview of the amended act. Since its fiscal year ended on November 30, under the last proviso to section 3 of the 1936 Act, just above quoted, petitioner’s first year affected by the amended act began December 1, 1936; and it is therefore incumbent upon the petitioner, in order to come under the amended act, to show that the contract made in 1935 was “completed by the particular contracting party” after December 1, 1936.

The' petitioner argues, in effect, that such completion took place after December 1, 1936, because the written contract between the parties contained a provision that for the purposes of the Vinson Act “the contract shall be considered complete upon final payment of the sum due under the provisions of this contract”; and that such final payment (of the 2 percent withheld) was made on April 22, 1940. The respondent agrees that final payment was made on that date, but contends that- such payment is not determinative of completion, notwithstanding the contract provision. The petitioner’s argument is threefold: That the contract governs, first, because the Vinson Act does not impose the liability for the escess profits, but that it is contractual, and petitioner is therefore bound only by the contract; second, that even if the liability for excess profit arises from the statute itself, nevertheless the parties could by contract define an expression which is undefined in the statute, i. e., define “completion of the contract”, and define it as final payment; and, third, that regardless of statutory expression, or contractual provision defining it, nevertheless, in fact the contract was completed only when both parties had fully performed, i. e., only when final payment was received, in 1940. The respondent on his part argues, first, that the contract was completed by delivery of the airplanes in 1935, or, in the alternative, that if not, then it was completed by the expiration of the six-month period within which the petitioner was under obligation to replace defective parts or material — which period expired prior to December 1, 1936. Therefore, he argues, the provisions of the amended Vinson Act do not apply to petitioner’s contract here involved.

After much consideration of this question, we are of the opinion that the parties were not free to define in their agreement “completion of the contract”, the expression in the Vinson Act. We think that such act does impose the liability for the excess profits. It is true that the form of the act is not altogether clear in this respect, for the provision as to liability for profit is found in connection with the enumeration of points to which anyone contracting with the Secretary of the Navy must agree. Yet, it is a proviso following section 3(b), and we think it was not intended by Congress as a mere contractual item, but as a positive provision, to the effect that, if the contracting party should fail to pay the excess profit to the Treasury as he had contracted to do, it would be collected under the usual internal revenue laws. This conclusion is reinforced by the form of the amending Act of June 25,1936. Therein appears not merely the one proviso contained in the original act, but a series of provisos, containing matter on its face not contractual, but comprising positive provisions of law as to collection of tax on the excess profit. This proceeding involves a proceeding by the Commissioner of Internal Revenue to do precisely what the act provided — to collect where the contracting party fails to pay the excess profit voluntarily into the Treasury. We think that the Vinson Act imposed the liability for the payment to the Treasury of excess profit. The Commissioner’s authority rests upon the Vinson Act. We note that I. T. 3284 (C. B. 1939-1, p. 407) is to the effect that failure to include in the contract a provision for limitation of the profit does not prevent liability to pay the excess profit into the Treasury.

Having concluded that the Vinson Act imposes the liability herein involved, we are of the opinion that it follows that the parties may not, in their agreement, define an expression in such statute. That duty devolves upon the tribunal interpreting the statute, and though legislative history, the actions of the parties in performing the contract, and other aids to statutory interpretation may furnish assistance, the parties may not in advance and by their agreement adjudicate the meaning of the statute. Zappala v. Industrial Insurance Commission, 144 Pac. 54. We need not decide whether they might define an expression in a case where the expression defined by the contract did not comprise a part of the statute forming the basis for the contract and proceeding thereunder. Herein they particularly and carefully contracted a definition “for the purpose of the Vinson Act.” Although the regulations for some time after the amendment of the Vinson Act in 1936, in providing that date of delivery is date of completion of the contract, make an exception of contracts which “provide a method for determining the date of completion” which may have meant to cover a definition such as herein involved, we think the regulation could validly make no such exception. We hold that the mere contract of the parties did not serve to settle the statutory meaning of “completion of the contract” and that such contractual agreement that completion was final payment does not alone put the completion in 1940 when final payment took place.

But the petitioner urges, in effect, that the contract was in fact, and regardless of the definition contained, completed only when both parties performed, that is, when the United States finally performed on its part by final payment. In Foster Wheeler Corporation, 42 B. T. A. 36, we considered a situation where final payment was urged as completion of contract under the Vinson Act, on the question of offsetting contracts, as here. JSTo contractual definition was there involved; only the- question of fact as to when the contract was completed. We examined the amended act and concluded that the expression “such contracts * * * as are completed by the particular contracting party within the income taxable year” was clear and unambiguous and said: “The contracts referred to are those which are completed by the contractor.’’’’ We held that the contract involved, entered into in 1934; could not be brought within the provisions of section 3 (b) of the amended Vinson Act. Though the petitioner strongly assails the soundness of that opinion, we adhere to the view taken therein, for we think it plain that Congress intentionally, in the amended act, referred to contract as completed by the particular contracting party, as additional to the previous expression “completion of the contract”; that such treatment was explanatory; and that it is incumbent upon the petitioner, in order to bring .the contracts of 1935 within the effect of the amended Vinson Act of 1936, to show, not merely that the Navy Department did not perform, by final payment, until after December 1, 1936, but that the petitioner as “particular contracting party” had not by that date completed the contract on its part. The amended act uses the expression “completed by the particular contracting party” or “particular contractor” three times. We see intent to distinguish from completion by both parties. This is consistent with the fact that the contract here considered, though in the beginning reciting mutual agreement, in article 35 recites merely that “The contractor hereby agrees”, among other items, that final payment shall be considered completion of the- contract.

That the petitioner had on its part fully completed the contract prior to December 1, 1936, can not be doubted. It) had done everything the Navy Department could possibly require it to do, for its airplanes had been delivered and accepted, and the period for suggesting anything further had expired with the end of six months from acceptance. Indeed, we do not understand the petitioner to argue otherwise. In any event, we consider it obvious that, with the delivery and acceptance of the airplanes in 1935, payment of 98 percent on the purchase price thereof, and the passage of the period within which the Navy' Department could suggest and require correction of defects, without any such suggestion — all long prior to December 1, 1936 — that the petitioner had on its part fully performed, fully completed the contract. Whether delivery of the airplanes, or -on the other hand expiration of the period for suggestion of and correction of defects, constituted completion, we need not here determine, for in either event nothing remained on December 1, 1936, for petitioner to complete. • In addition to guarantees under article 19 .of the contract, petitioner had a, definite obligation under article 23 (correction of defects) to make changes. involving defects, upon notice within six months after acceptance of the airplanes. In that respect the., present case differs, from Foster Wheeler Corporation, supra, where there was ,only “guarantee” to replace defective parts ¡within ..one year..; The petitioner in, the, .Foster Wheeler case expressly pointed out. thatTie. did-not’contend that completion was coincident with the end of a guarantee period set in the contract. That the Navy Department failed to pay, as provided by the contract, after the expiration of the period for suggestion of defects, suggests to us, not incompleted contract, but breach of contract, which would, in the absence of any other factor (such as petitioner’s failure to file report) ordinarily be ground for action for the contract price unpaid. A statute of limitation would not, we think, be tolled by failure to pay, after accrual of such cause of action.

In our opinion the contract was not completed within a taxable year covered by the amended act, within the intendment thereof, and the petitioner is therefore under its terms not entitled to offset one contract against another. We hold that the respondent did not err in determining deficiency on the theory of disallowance of. such offset. The petitioner having agreed that under such theory the amount of the deficiency was correctly computed,

Decision will be entered for the respondent.

       Sec: 3. The Secretary of the Navy is hereby directed to submit annually to the Bureau of the Budget estimates for the construction of the foregoing vessels and aircraft; and there is hereby authorized to be appropriated such sums as may be necessary to carry into effect the provisions of this Act: Provided, That no contract shall be made by the Secretary of the Navy for the construction and/or manufacture of any complete naval vessel or aircraft, or any portion thereof, herein, heretofore, or hereafter authorized unless the contractor agrees—
      (a) To make a report, as hereinafter described, under oath, to the Secretary of the Navy upon the completion of the contract.
      (b) To pay into the Treasury profit, as hereinafter provided shall be determined by the Treasury Department, in excess of 10 per centum of the total contract price, such amount to become the property of the United States: Provided, That if such amount is not voluntarily paid the Secretary of the Treasury may collect the same under the usual methods employed under the internal revenue laws to collect Federal income taxes.
      * * * * * * *
      (e) To make no subcontract unless the subcontractor agrees to the foregoing conditions.
      * * * * * * #

       Sec. 3. (b) To pay into the Treasury profit, as hereinafter provided shall be determined by the Treasury Department, in excess of 10 per centum of the total contract prices, of such contracts within the scope of this section as are completed by the particular contracting party within the income taxable year, such amount to become the property of the United States, but the surety under such contracts shall not be liable for the payment of such excess profit: Provided, That if there is a net loss on all such contracts or subcontracts completed by the particular contractor or subcontractor within any income taxable year, such net loss shall be allowed as a .credit in determining the excess profit, if any, for the next succeeding income taxable year: Provided further, That if such amount is not voluntarily paid the Secretary of the Treasury shall collect the same under the usual methods employed under the internal-revenue laws to collect Federal income taxes: Provided further, That all provisions of law (including penalties) applicable with respect to the taxes imposed by Title I of the Revenue Act of 1934, and not inconsistent with this section, shall be applicable with respect to the assessment, collection, or payment of excess profits to the Treasury as provided by this section, and to refunds by the Treasury of overpayments of excess profits into the Treasury: And provided further, That this section shall not apply to contracts or subcontracts for scientific equipment used for communication, target detection, navigation, and fire control as may be so designated by the Secretary of the Navy, and the Secretary of the Navy shall report annually to the Congress the names of such contractors and subcontractors affected by this provision, together with the applicable contracts and the amounts thereof: And provided further, That the income-taxable years shall be such taxable years beginning after December 31,-1935, except that
      the above provisos relating to the assessment, collection, payment, or refunding of excess profit to or by the Treasury sljiall be retroactive to March 27, 1934.


author: Oppee:

text:
    Tennessee Consolidated Coal Company, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 103114.
    Promulgated May 5, 1942.

      George E. H. Goodner, Esq., for the petitioner.

      William V. Orosswhite, Esq., and George EL. Mitchell, Esq., for the respondent.
   OPINION.

Oppee:

The conclusions of fact set out in our findings dispose of all the disputed issues of fact. As the findings show, these are that petitioner passed on the burden of the tax with respect to some of its sales of the products upon which an excise tax was imposed but not paid and that with respect to others the tax was not passed on.

In arriving at this ultimate finding, we have relied upon the rules for evaluating evidence established by subsections 501 (e) and (i). By subdivision (e) a presumption of the existence and amount of the tax shift is created and by subdivision (i) provision is made for the introduction of evidence by which the presumption may be rebutted. Petitioner concedes that under the presumption there is shown to have been a passing on to others of the tax burden in the amount of $3’,346.15. It claims, however, that the affirmative evidence suffices to rebut it. We think this is true as to certain of petitioner’s sales. These were to customers with whom contracts had been made prior to the imposition of the excise tax but containing the language “Any increase or decrease in the cost of production caused by the imposition * * * of a direct tax on coal or on the sale thereof * * * shall correspondingly increase * * * said price.” Petitioner endeavored to collect the additional amount from these contract customers but in most cases was unsuccessful. As to them, therefore, it did not succeed in shifting the tax burden and the presumption has been rebutted. See Cones & Son Manufacturing Co. v. United States (C. C. A., 7th Cir.), 123 Fed. (2d) 530.

In other instances, however, the evidence shows that the price of petitioner’s product was increased by an amount exceeding the tax at about the time the tax liability arose, an increase which at least in certain instances was canceled at about the time the tax disappeared. This is evidence expressly made available to the respondent to demonstrate a shift of .the tax burden. The delicate question of the precise legal effect of a presumption upon the weighing of evidence is accordingly absent here. See Heiner v. Donnan, 285 U. S. 312. For whether we say that petitioner has failed to overcome the presumption in respondent’s favor by its affirmative evidence; or that the presumption disappeared upon the introduction of evidence of the true facts, but that respondent’s burden of going forward has been sustained by evidence tending to show that the tax burden’ was passed on; the conclusion is the same. On either hypothesis the ultimate effect of the record is that in certain cases petitioner shifted to its customers the burden of the excise tax upon the commodities sold and that accordingly it failed to bear it.

There is no evidence of any adequate increase in petitioner’s costs or other showing that the rise in price did not include a shifting of the tax burden. Honorbilt Products, Inc. v. Commissioner (C. C. A., 3d Cir.), 119 Fed. (2d) 797. It is contended that the increase in price was due solely to a rise in labor costs. But, as our findings show, the evidence fails to bear this out. Petitioner, to be sure, insists that the tax was not considered when the increase took place and concludes that this constitutes persuasive evidence of a failure to pass the tax on. But if the facts show that the burden was shifted, it is of no consequence what was petitioner’s purpose or that it did not pass the tax on intentionally. “We are of the view, however, that plaintiff’s intention or motive is immaterial. Certainly it is not controlling. The question at issue must be determined on the basis of what was actually done.” See Cones & Son Manufacturing Co. v. United States, supra; Honorbilt Products, Inc. v. Commissioner, supra; Arden-Rayshine Co., 48 B. T. A. 314.

Petitioner’s claim that the statute is unconstitutional can not be sustained. Anniston Manufacturing Co. v. Davis, 301 U. S. 337; Sportswear Hosiery Mills, 44 B. T. A. 1026.

The remaining question is whether the period to be covered ended May 18, 1936, when the Guffey tax was held to be invalid in the Carter case, or on the prior March 31, on the theory that no payment was due under the invalidated excise until the first day of the second month following, and therefore no tax was ever accrued from April 1 on.

The description supplied by the statute of the tax to which the unjust enrichment levy relates is an “* * * excise tax * * * imposed * * * but not paid.” Revenue Act of 1936, sec. 501 (a) (1). It seems to follow that the question narrows to whether the Guffey tax was “imposed” during the period from April 1 to May 18 within the intent of that section. Since a tax may be “imposed” without being immediately payable or subject to collection, Hertz v. Woodman, 218 U. S. 205, the use of that word does not denote a legislative purpose to exclude the period in question merely because the tax was not then due. On the other hand, the general objective of the provision and its meager legislative history indicate that the intention was to include all taxes which might have been collected from others but not handed on to the Treasury, thus remaining as an unearned benefit in the hands of the supposed taxpayer.

That the purpose of the legislation under review is to recapture the principal portion of a taxpayer’s income which can be thought of as unjust enrichment can not well be questioned. The principle is that if he collects the amount of an excise tax from some other person, as for example his customer, and in addition escapes payment of the tax, he has been unjustly enriched to thé extent of his collection. The converse situation, where a taxpayer is refused refund of a tax already paid because the burden has been shifted, is thus described by Mr. Chief Justice Hughes in Anniston Manufacturing Co. v. Davis, supra: “While the taxpayer was undoubtedly hurt when he paid the tax, if he has obtained relief through the shifting of its burden, he is no longer in a position to claim an actual injury * * 3?

The present situation could not, of course, arise under the circumstances so considered; for the tax being as yet uncollectible there would ordinarily have been no payment to the fiscal authorities for which an application of refund could be made. That a similar principle exists, however, is clear from the discussion by sponsors of the bill on the floor of the House of Bepresentatives in the course of its consideration by that body. For example, Congressman Hill, a Member- of the Ways and Means Committee, stated: “Under the processing taxes, which the Supreme Court invalidated, a burden was placed upon commodities which the processor either did not pay or had refunded to him, but at the same time passed the burden on to his customer. This is an unjust enrichment, a straight-out bonus, and we propose to tax that 80 percent * * 80 Cong. Bee. 6005. Congressman Cooper, also a member of the Committee, commented: “* * » ^he we had before us was that no man in this country should be enriched by one penny by reason of collecting this tax and passing it on to his customers and failing to pay it to the Government * * 80 Cong. Bee. 6094.

From the facts as we have found them, it is apparent that the situation so described existed here as clearly during the period from April 1 to May 18 as it had during the preceding months. There is no suggestion that either of the operative conditions, collection of the tax from customers and failure to pay the Government, were any the less effective then than they had been previously and without the gift of prophetic discernment it is difficult to see that the fact could have been otherwise; for, although it might possibly have been anticipated that the Carter case would be decided as it was, it was wholly impossible to forecast the date when that would take place. And if it is true that the decision when rendered was retroactive in the sense of invalidating the tax on coal from its inception, that was no more true of the period after April 1 than of the prior months. The result is that the legislative purpose could be achieved in full only by an application of the tax on unjust enrichment for a period coinciding with collection, on the one hand, and failure to pay, on the other, and that that is what the provisions of section 501 (a) (1) effectively accomplished. We conclude that petitioner is taxable for the full amount of the excise taxes, the burden of which it passed on until May 18 and which it did not pay.

Decision will be entered under Bule 50.


author: TURNER:

text:
    M. H. Alworth Trust, M. W. Alworth and R. D. Alworth, Trustees, Duluth, Minnesota, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 101628.
    Promulgated May 5, 1942.

      H. A. Dancer, Esq., and Frank W. Wilson, O. P. A., for the petitioner.

      Jonas Smith, Esq., for the respondent.
   OPINION.

TURNER:

In so far as material to the conclusion we here reach, there is no dispute between the parties as to the facts. Due to its practice of distributing to its stockholders in each year an amount admittedly in excess of its earnings and profits, the Royal Mineral Association began the year and closed the year with no accumulated earnings or profits. In other words, it distributed the entire amount available for distribution as dividends,- and a determination of the amount so available is a determination of the amount of dividends distributed. In arriving at the amount available in 1937 for distribution as dividends, both parties have started with' taxable net income and the only question between them is whether taxable net income is to be reduced by the income tax accrued against said income but not paid until 1938, or by income tax paid in 1937, which tax had accrued in 1936 on earnings and profits realized and distributed in 1936. If the Royal Mineral Association had other liabilities or any receivables as of the close of 1937, no point is made by either party with respect thereto.

It is apparently the contention of the respondent that the earnings and profits available for distribution as dividends in any given year are limited to the earnings and profits reflected by the books, whether kept by the cash receipts and disbursements method or the accrual method,- and that outstanding liabilities not shown on the books under, the method of accounting used are not to be taken into account. We find nothing in the statute nor in the decided cases to justify that conclusion, but, to the contrary, it has been held that, in determining the amount of earnings and profits available for distribution as dividends under the income tax acts, the books of account and entries thereon are not conclusive, but that facts outside the books not only may be shown but under certain circumstances and where necessary must he shown. Edwards v. Douglas, 269 U. S. 204, and Dorothy Whitney Elmhirst, 41 B. T. A. 348.

As a general proposition of law, dividends are distributable only out of net profits. Mobile & Ohio Railroad v. Tennessee, 153 U. S. 486, pp. 496-498. See also the discussion in Fletcher Cyclopedia Corporations, vol. II, sec. 5339. The purpose of this rule is to prevent the impairment of capital, and in section 5329 of the above mentioned volume of Fletcher three reasons therefor are stated as follows:

* * * Firstly, to permit the payment of dividends out of capital would work a fraud on creditors of the corporation, who have overextended credit on the faith of its capital stock. Secondly, each stockholder is entitled to have the capital stock preserved unimpaired for the purpose of carrying out the object for which the corporation was formed. Thirdly, the capital stock is a trust fund for the security of creditors, and cannot be withdrawn or diverted to their prejudice.

To permit the distribution of gross earnings and profits without making allowance for outstanding obligations would leave such obligations as a charge on capital regardless of the method by which the corporation keeps its books and reports its income for Federal income tax purposes, and any method of accounting which reflects an amount of earnings and profits as being available for distribution as dividends in excess of net earnings and profits actually existing must under general corporation law give way to realities and can not control. We think it follows that in determining gains or profits available for distribution as dividends, as the term “dividend” is generally defined, accrued but unpaid taxes must be taken into account.

Here, however, we are dealing with dividends as defined by Congress, and if the statute has varied or modified the meaning of the word, the statute is controlling according to its terms. In acts prior to the Revenue Act of 1936, the term “dividend” was defined as “any distribution made by a corporation to its shareholders, whether in money or other property, out of its earnings or profits accumulated after February 28, 1913.” Certainly there is nothing in that definition to indicate that Congress had in mind any limitation or change in the commonly accepted meaning of the term “dividend”, except to exclude distributions from earnings or profits accumulated prior to February 28, 1913. Furthermore, it did not limit dividends to distributions from net income, because certain items of income excluded by the various income tax statutes from gross income are included in earnings and profits available for distribution as dividends, an example being interest received on tax exempt securities. In the Revenue Act of 1936, section 115 (a), Congress expanded the definition of dividends to include distributions “out of earnings or profits of the taxable year (computed as of the close of the taxable year without diminution by reason of any distributions made during the taxable year), without regard to the amount of the earnings and profits at the time distribution was made.” Accordingly, the date for determining the existence and amount of earnings and profits' of a particular year available for distribution as dividends was shifted from the date during the year on which the distribution was made to the close of the year. In so far, however, as determination of the question here is concerned, no other change in the prior definition of the term “dividend” or in its commonly accepted meaning under general corporation law is indicated.

Except for the provisions that only distributions made from earnings and profits accumulated after February 28, 1913, are dividends for income tax purposes, and that the earnings and profits of any particular year available for distribution as dividends be determined as of the last day of the year, we find nothing in the statute to indicate that Congress intended in its use of the term “earnings and profits” to depart from the commonly accepted meaning thereof under general corporation law. As we have previously noted, distribution of the entire earnings and profits of a corporation without taking into account an outstanding liability would leave that liability’' as a charge on capital, regardless of the method by which the corporation keeps its books and to the extent thereof the distribution would impair capital and would not be a dividend. We accordingly conclude that the earnings and profits of the Royal Mineral Association at December 31, 1937, must be reduced by the liability for income and excess profits taxes outstanding thereon in order to determine the amount of earnings and profits available for distribution as dividends. Hadden v. Commissioner, 49 Fed. (2d) 709.

Decision will be entered, under Rule SO.


author: Keen :

text:
    Reclaimed Island Lands Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 104438.
    Promulgated May 5, 1942.

      W. G. Harmon, Esq., for the petitioner.

      Harry R. Horrow, Esq., for the respondent.
   OPINION.

Keen :

Petitioner contends that by virtue of the several contracts executed by it prior to May 1, 1936, which are described in our findings, it is entitled to the benefit of section 26 (c) (1) and (2) of the Revenue Act of 1936 in the computation of its surtax on undistributed income for that year. Thus there are raised several issues with regard to the application of each of these subsections to each of the various contracts involved. Since we are of the opinion that the contract between petitioner and A. O. Stewart dated January 1, 1936, entitles petitioner to tlie benefit of section 26 (c) (1), it is unnecessary to consider the contentions advanced by the parties with regard to the other contracts or section 26 (c) (2).

The pertinent parts of this contract are as follows:

Whereas, the said Second Party is willing to guarantee said note and said bonds as required by the said American Trust Company, so as to enable the First Party to receive the deductions and concessions above referred to, upon condition that the First Party hereto shall use all of its net proceeds from whatever source received to retire first its indebtedness to the American Trust Company, and, second, to retire the bonds of Reclamation District 2062, which are a lien against the lands of said First Party within the borders of said district; and that it pay no dividends whatsoever to its stockholders until the indebtedness to said American Trust Company is paid and said bonds have either been purchased from said American Trust Company or retired in such a manner as to save said Second Party harmless; and
i!! . * * * * * *
Now, Therefore, in consideration of the premises and of the execution by the Party of the Second Part hereto of the aforesaid agreement, to be dated January 1, 1936, as a party thereto, and in consideration of his continuing as an endorser on said note and guaranteeing the same and the payments agreed to be made thereon, and guaranteeing repayment of the bonds aforesaid, the Party of the First Part has, and by these presents does, covenant and agree with the Party of the Second Part that it will apply all of the net proceeds of its operations and investments of every nature and kind received by or accruing to it from any and every source whatever and from date hereof, to the payment of that certain note hereinbefore described to the American Trust Company, together with the interest thereon and to the retirement of the deed of trust securing the same, and to the payment and retirement of the bonded indebtedness of Reclamation District 2062.
Said Party of the First Part does further covenant and agree that it will pay no money out whatsoever as dividends to its stockholders until the indebtedness above described shall have been retired in full and the Second Party released from all further liability in connection with said indebtedness and said bonds. And the said First Party does further covenant and agree to save the Second Party entirely harmless by reason of said endorsement and guaranty provided for as aforesaid.

It is respondent’s contention, first, that the covenanting clause of the contract did not prohibit the petitioner from paying dividends other than cash dividends. In construing a contract it is the intention of the parties which is of paramount importance, and in ascertaining that intention it is proper to consider the contract as a whole. Meridian & Thirteenth Realty Co., 44 B. T. A. 865. When the entire contract is read, and considered in the light of the purpose intended to be achieved by the parties, the prior engagement of the petitioner, as shown by the deed of trust dated January 1, 1933, and the fact that no dividend of any kind was paid by petitioner in the taxable year, it is evident that the parties intended an absolute prohibition against the payment of dividends by petitioner so long as Stewart was liable as guarantor of its note and the reclamation district bonds which were a first lien upon petitioner’s assets. This prohibition was insisted upon by Stewart before he assumed the contingent personal liability as such guarantor, and the obvious purpose of his insistence was to prevent petitioner from making any distribution which would affect its financial condition or weaken its ability to fulfill the primary obligation on its part to the trust company upon which he had assumed a secondary liability. Such an intent or purpose would have been frustrated by permitting the petitioner to make dividend distributions in the medium of notes or bonds or' distributions in kind. Eespondent admits that petitioner could not have distributed a taxable stock dividend during the year 1936. We conclude that any other form of dividend was also intended by the parties to the contract of January 1,1936, (petitioner and Stewart) to be prohibited and was prohibited thereby during the taxable year.

In the second place, respondent contends that the agreement in question did not constitute a written contract within the meaning of section 26 (c) (1) in that A. O. Stewart' was not a creditor of petitioner and only contracts executed directly between a corporation and its creditor in respect to an indebtedness owed by the corporation to such creditor will entitle the corporation to a credit under this section. As authority for this proposition respondent relies upon certain language used by the court in Helvering v. Northwest Steel Rolling Mills, 311 U. S. 46, and in our own opinions in Thibaut & Walker Co., 42 B. T. A. 29; Henry Mill & Timber Co., 43 B. T. A. 1073; Metal Specialty Co., 43 B. T. A. 891; and Lehigh Structural Steel Co., 44 B. T. A. 422, reversed 127 Fed. (2d) 67. Eespondent calls particular attention to the use of the phrase “routine contracts dealing with ordinary debts” in that paragraph of the Court’s opinion in the Northwest Steel Bolling Mills case, which is as follows:

That the language used in section 26 (c) (1) does not authorize a credit for statutorily prohibited dividends is further supported by a consideration of section 26 (c) (2). By this section, a credit is allowed to corporations contractually obligated to set earnings aside for the payment of debts. That this section referred to routine contracts dealing with ordinary debts and not to statutory obligations is obvious — yet the words used to indicate that the section had reference only to a “written contract executed by the corporation” are identical with those used in section 26 (c) (1). There is no reason to believe that Congress intended that a broader meaning be attached to these words as used in section 26 (c) (1) than attached to them under the necessary limitations of 26 (c) (2).

Eespondent urges that the language used in these cases makes clear “that a provision restricting the payment of dividends must be contained in a contract entered into by a corporation with its creditor in respect of its indebtedness to said creditor, in order to permit allowance of credit under section 26 (c) (1).” Eespondent’s regulations (Art. 26-2 (b), Regulations 94) provide that this credit “is allowable only with respect to a written contract executed by the corporation prior to May 1, 1936, which expressly deals with the payment of dividends and operates as a legal restriction upon the corporation as to the amounts which it can distribute within the taxable year as dividends.” The argument here advanced by respondent would, in effect, change his own regulation by adding another condition to the allowance of this credit, so that the regulation would read that the credit “is allowable only with respect to a written contract executed by the corporation with its creditor or creditors * *

With this contention as applied to the facts of the instant case, we can not agree. The phrase “routine contracts dealing with ordinary debts” used by the Supreme Court in the Northwest Steel Rolling Mills case was used by it in antithesis to the words “statutory obligations” and therefore the “statutory obligations”' were what the Court had in mind as the opposite of “routine contracts dealing with ordinary debts,” or as unusual contracts not dealing with ordinary debts. In the instant proceeding the debt of petitioner to the trust company is an ordinary debt and this is true of the obligation under the reclamation district bonds, even if this obligation is one in rem. It is also true that a contract which has as its purpose the safeguarding of a guarantor of ap obligation is not an unusual contract and by reason of its subject matter necessarily deals with the debt guaranteed. Neither of these propositions is questioned by respondent, who is merely insisting that because the contract is made by the corporation with the guarantor instead of with the creditor it does not fulfill the requirements of the statute. We can find no justification for this contention in the statute, in respondent’s own regulations, or in the decided cases, and, therefore, conclude that a written contract executed by and between a corporation and the guarantor of its debts and obligations prohibiting the payment of dividends by the corporation during the existence of the guarantor’s secondary liability on such debts and obligations, is such a contract as to entitle the corporation to credit under section 26 (c) (1) of the Revenue Act of 1936.

Respondent’s third contention was made in connection with the contention which we have just considered. It may be paraphrased as follows: Petitioner was the principal stockholder of petitioner and exercised a controlling influence on its affairs; at any time he could have relieved the petitioner of any restriction on the distribution of dividends; and, therefore, the restriction on the distribution of dividends by petitioner must be considered as self-imposed and as similar to “intramural,” “unilateral” “agreements of the stockholders inter sese” “which the corporation, through its stockholders, could * * * revoke” within the meaning of Thibaut & Walker Co., supra; Henry Mill &, Timber Co., supra; Metal Specialty Co., supra; and Lehigh Structural Steel Co., supra.

We can not agree with this argument. While Stewart dominated the affairs of petitioner during the taxable year, his domination arose by reason of personal ability and the confidence of the other stockholders, and not by reason of his ownership of the majority of petitioner’s stock. If, for any reason, difficulties arose between him and his son-in-law and daughter, his domination of the petitioner would be at an end. As the guarantor of petitioner’s obligations, he was interested in providing for the payment of these obligations at the earliest moment. While he was motivated to become guarantor by reason of being the principal stockholder of petitioner, he was motivated to exact the contract from petitioner prohibiting it from paying dividends by reason of his undertaking to act as guarantor, and for the purpose of protecting himself as such guarantor. Therefore, the contract dated January 1,1936, was executed by the corporation with Stewart qua guarantor and not qua stockholder. As guarantor his interests were no longer identical to those of the corporation and the other stockholders. Having insisted upon the execution of this contract and being a minority stockholder, there was little likelihood that Stewart would relieve petitioner of any restrictions on the distribution of its earnings. If he did waive the restrictions of the contract, it would, of course, follow that the petitioner would lose any credit by virtue of the contract. Coca Cola Bottling Co., Inc., of Blytheville, Arkansas, 44 B. T. A. 1110.

We conclude that a written contract executed prior to May 1,1936, by and between a corporation and the guarantor of the obligations of the corporation, prohibiting the payment of dividends by the corporation so long as the obligations are unsatisfied, is a contract which will permit a credit under section 26 (c) (1), even though the guarantor is a stockholder of the corporation.

Decision will be entered for the petitioner.

       SBC. 26. CREDITS OP CORPORATIONS.
      In the case of a corporation the following credits shall be allowed to the extent provided in the various sections imposing tax—
      *******
      (c) Contracts Restrictins Payment op Dividends.—
      (1) Prohibition on payment op dividends. — An amount equal to the excess of the adjusted net income over the aggregate of the amounts which can be distributed within the taxable year as dividends without violating a provision of a written contract executed by the corporation prior to May 1, 1936, which provision expressly deals with the payment of dividends. If a corporation would be entitled to a credit under this paragraph because of a contract provision, and also to one or more credits because of other contract provisions, only the largest of such credits shall he allowed, and for su'ch purpose if two or more credits are equal in amount only one shall be tahen into account.
      (2) Disposition op profits op taxable year. — An amount equal to the portion of the earnings and profits of the taxable year which is required (by a provision of a written contract executed by the corporation prior to May 1, 1936, which provision expressly deals with the disposition of earnings and profits of the taxable year) to be paid within the taxable year in discharge of a debt, or to be irrevocably set aside within the taxable year for the discharge of a debt; to the extent that such amount has been so paid or set aside. Bor the purposes of this paragraph a requirement to pay or set aside an amount equal to a percentage of earnings and profits shall be considered a requirement to pay or set aside such percentage of earnings and profits. As used in this paragraph, the word “debt” does not include a debt incurred after April 30.1936


author: AeuNdell :

text:
    Matthew H. Murphy, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 108003.
    Promulgated May 6, 1942.

      Frontis H. Moore, Esq., for the petitioner.

      Frcmk M. Thompson, Jr., Esq., for the respondent.
   OPINION.

AeuNdell :

It now seems clear under Helvering v. Gerhardt, 304 U. S. 405, and Graves v. New York, ex rel. O'Keefe, 306 U. S. 466, that there is no constitutional objection to the Federal Government taxing the salaries of officers or employees of the several states. These decisions opened a new chapter and closed an old one. The Congress felt, however, that it would be unfair to apply this new interpretation of a constitutional principle to salaries received in past years and the Public Salary Tax Act of 1939 was enacted. (Public No. 32, 76th Cong., 53 Stat. 574.) The effect of that act is to apply the old test to salaries received from a state or subdivision thereof prior to January 1, 1939, as laid down in Metcalf & Eddy v. Mitchell, 269 U. S. 514.

Petitioner claims that he was an officer or employee of the State of Alabama, engaged in performing an essential governmental function. We think there can be no dissent from the fact that the collection of taxes is an essential governmental function. As establishing that he is an officer or employee, petitioner points to the commission he held as “Special Assistant Attorney General”, the taking of an oath of office, the long duration of his appointment, and the control exercised over him by Attorney General Knight and, more particularly, the control exercised by Attorney General Carmichael during the taxable years here involved. The respondent, in support of his argument that petitioner was a contractor rather than officer or employee, points to the fact that his duties, compensation, and tenure are fixed by contract and not by statute. He points to the fact that petitioner was to conduct his work from his own office, pay all expenses of operation, and work such hours as he saw fit, and was to receive for his services the equivalent of 20 percent of the delinquent taxes he collected. As pointing to the fact that petitioner was not an officer or employee, respondent observes that a large number of the cases were farmed out by petitioner to other lawyers who actually did the work on behalf of the state, and in these cases petitioner took one-third of the fee and gave active counsel two-thirds of the commission provided by the contract. During all this time petitioner remained a member of his law firm. In lieu of performing the usual active service he paid into the firm $6,000 from his state earnings and at the end of the year received his regular share of the partnership profits.

While the decisions of the Board and the courts are not altogether consistent in cases of this type, we agree with respondent that petitioner was not an officer or employee of the State of Alabama during the several years within the meaning of the Public Salary Tax Act. The compensation paid petitioner, which was fixed by contract and not by statute, was out of all proportion to the salaries paid to the regular officers of the state. (Alabama Code, secs. 754, 856.) La Rochelle v. Commissioner, 115 Fed. (2d) 878. Nor is it customary for state officers to be paid a commission based on what they can turn in to the state treasury, at the same time paying their entire operating expenses, continuing to occupy their own office, working such hours as they see fit, and receiving nothing unless they are successful in getting results, which, in this case, means collecting delinquent taxes. John Armistead, 42 B. T. A. 1430. Officers and employees of the state are paid for services rendered by them and are customarily not permitted to receive a commission on work performed by others. The practice of taking out their fees and remitting the balance to the state is certainly not customary with government or state officials. The fact that Attorney General Carmichael determined who would be associate counsel has no significance. It was patronage of a sort, as was the contract petitioner held.

But for the fact that petitioner received a commission ás Special Assistant Attorney General and took an oath of office, there would appear to be no merit whatsoever in his contention. But everyone who has a state commission is not an officer of the state within the meaning of the Public Salary Act. Commissioner v. Murphy, 70 Fed. (2d) 790; John T. Rowland, 40 B. T. A. 11; affd., 115 Fed. (2d) 504. Some authority had to be given petitioner in order that he might represent the state in the courts of Alabama. The very suits to collect the delinquent taxes were instituted in the name of the state or in the name of the attorney general of the state and some authority had to be given him to appear or else he would not have been recognized. When a lawyer in private practice represents a client he must first have authorization from his client, but this does not make counsel an employee of his client and this is true no matter how frequently counsel appears for his client or the number.of years over which the services extend.

Nor are we impressed with the so-called control exercised by the Attorney General. The fact that petitioner was in frequent consultation with the Attorney General is, in and of itself, of little importance. Quite naturally the Attorney General insisted that he be kept advised of what was going on and insisted that the taxpayers be not unnecessarily harrassed by needless lawsuits. The fact that the Attorney General required that he be consulted before taxes were settled or compromised for less than the amount due does not establish the control over petitioner that would serve to make him a state employee. Private counsel constantly consult with their clients when litigation is to be settled or compromised. The Federal Government has established an elaborate system of safeguards surrounding the compromise of tax cases. There is nothing in the record which establishes that petitioner did not carry on the work of collecting delinquent taxes in the manner dictated by his own judgment. There were general instructions to be followed, which is always required when public rather than private matters are being handled. It seems to us such instructions as were given were what to do rather than how to do the job.

It has been suggested that the $2,500 flat fee paid in 1937 for handling certain cases should, in any event, have a different treatment. There is not sufficient evidence in the record to differentiate.

In our opinion petitioner was not an officer or employee of the State of Alabama within the meaning of the Public Salary Act of 1939, and it follows that the compensation received by him from the State of Alabama was properly taxed.

Decision will be entered under Rule 60.


author: Disney:

text:
    John G. Clock, Petitioner, v. Commissioner of Internal Revenue, Respondent. Blanche D. Clock, Petitioner, v. Commissioner of Internal Revenue, Respondent. Maude H. Clock, Petitioner, v. Commissioner of Internal Revenue, Respondent. Ralph H. Clock, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 105848, 105849, 105850, 105851.
    Promulgated May 6, 1942.

      William L. Kwmler, Esq., and E. Benjamin Thompson, Esq., for the petitioners.

      Byron M. Goon, Esq., for the respondent.
   OPINION.

Disney:

The petitioners contend that the compensation received by the partnership for services rendered by its members to the superintendent is nontaxable under the Public Salary Tax Act of 1939 and that the amount of the taxes paid thereon, about which there is no dispute, is subject to credit or refund under the provisions of section 203 of that act.

The purpose of the Act was to provide that where a taxpayer asserted immunity as a state employee as to taxes prior to the taxable year beginning January 1, 1939, such immunity would be allowed, under certain procedural circumstances here fulfilled, if the same result would have been reached prior to the O’Keefe decision. Coates v. United States, 2 Cir., 1940, 111 F. 2d 609. See H. R. Rep. No. 26, 76th Cong., 1st Sess. (1939). The taxability of independent contractors with the State, or state employees of an agency considered not to be engaged in an essential governmental function had long been recognized and was in no wise changed by this Act. J. E. Huckabay v. Com'r, 1939, 40 B. T. A. 9; John T. Rowland v. Com’r, 1939, 40 B. T. A. 11. See H. R. Rep. No. 26, supra. The immunity was to be no broader and no narrower than formerly. It seems incontrovertible that the words “officer or employee” as used in the Public Salary Tax Act were intended to have a meaning no broader than that formerly given to the same words in exemptive provisions of income tax statutes, e. g., Revenue Act of 1926, § 1211, 44 Stat. 130, 26 U. S. C. A. Internal Revenue Acts, page 342. Coates v. United States, supra. To secure the advantage of such an expressed exemption, it was always necessary to establish that the taxpayer was employed in an essential governmental agency and that he was an officer or employee and not an independent contractor. See, e. g., Saxe v. Anderson, D. C. S. D. N. Y. 1937, 19 F. Supp. 21, affirmed, Saxe v. Shea, 2 Cir., 1938, 98 F. 2d 83; Burnet v. Livezey, 4 Cir., 1931, 48 F. 2d 159; cf. Metcalf & Eddy v. Mitchell, 1926, 269 U. S. 514, 46 S. Ct. 172, 70 L. Ed. 384. Similar showings must be made to come within the provisions of the Public Salary Tax Act. * * * [Meigs v. United States, 115 Fed. (2d) 13.]

See La Rochelle v. Commissioner, 115 Fed. (2d) 878; Ira H. Lohman, 45 B. T. A. 495.

Petitioners make no contention that they were officers of the State of California. They argue that they were state employees and cite Helvering v. Therrell, 303 U. S. 218. They emphasize the right of control and the amount of control actually exercised by the superintendent of banks, a test applied in Metcalf & Eddy v. Mitchell, 269 U. S. 514, to show that they were employees. The control exercised by the superintendent is set forth in our findings and needs no restatement. It is sufficient to point out that it was no greater than the control exercised by the state officer in the case of David A. Reed, 13 B. T. A. 513; affirmed by the Supreme Court in 281 U. S. 699, on authority of Lucas v. Howard, 280 U. S. 526, and Metcalf & Eddy v. Mitchell, supra, which involved the taxability of amounts received by an attorney retained by the Commonwealth of Pennsylvania to represent it in specified matters, and in Ira H. Lohman, supra, a case involving attorneys retained by the insurance department of the State of Missouri to conduct fire insurance rate litigation.

Petitioners took no oath of office. Their services for the state were performed in their own office with the assistance of their own employees. No attempt was made to show whether or not the superintendent had first call upon the services of the members of the partnership. In the absence of such proof it may be assumed that he did not.

If it could be said that petitioners were state employees, there would still be the question of whether taxation of the income would impose any actual or substantial burden on the functions of the state. Helvering v. Gerhardt, 304 U. S. 405. The compensation was paid out of assets of the banks in liquidation pursuant to a provision of the state statute authorizing the appointment of petitioners; none from the state treasury. Sec. 136, California Bank Act. Taxation of such income has been held not to impose a substantial burden upon the state. Saxe v. Shea, 98 Fed. (2d) 83; Commissioner v. Church, 103 Fed. (2d) 254; James F. Curtis, 39 B. T. A. 366.

The case of Helvering v. Therrell, supra, and others decided in the same opinion do not require a different answer. Those cases involved the taxation of income of liquidators, and counsel employed to assist in the liquidation, of insolvent state banks and of insurance companies. In holding that the compensation was not immune from tax, the Court said: “He [Commissioner] gave proper application to the rule which we must recognize as established. The compensation of the taxpayer was paid from corporate assets — not from funds belonging to the state. * * * The business about which they were employed was not one utilized by the state in the discharge of her essential governmental duties. The corporations in liquidation were private enterprises; their funds were the property of private individuals.” The decision did not establish any new rule. On this issue we sustain the respondent.

The parties agree that the amount of the loss sustained upon the sale of stock of the Citizens Utilities Co. depends upon whether the securities were acquired in a nontaxable reorganization under the provisions of section 112 (g) (1) (B) of the Bevenue Act of 1938, as amended by section 213 (g) of the Bevenue Act of 1939, reading as follows:

The term “reorganization” means * * * (B) the acquisition by one corporation, in exchange solely for all or a part of its voting stock, of substantially all the properties of another corporation, but in determining whether the exchange is solely for voting stock, the assumption by the acquiring corporation of a liability of the other, or the fact that property acquired is subject to a liability, shall be disregarded; * * * .

The issue is controlled by the recent case of Helvering v. Southwest Consolidated Corporation, 315 U. S. 194, involving a like provision of the Bevenue Act of 1934. In that case the new corporation acquired the assets of the old corporation by paying nonparticipating bondholders cash borrowed from a bank; issuing most of its voting common stock to the remaining bondholders; issuing voting common stock and class A stock purchase warrants to unsecured creditors; and issuing class B warrants, also containing stock purchase rights, to old common and preferred stockholders. In holding that there was no reorganization the Court said that section 112 .(g) (1) of the Bevenue Act of 1934 requires that the assets of the transferor corporation be acquired for voting stock only, not such stock plus some other consideration, or for consideration other than voting stock. The Court says:

* * * Congress bas provided that tbe assets of the transferor corporation must be acquired in exchange “solely” for “voting stock” of the transferee. “Solely” leaves no leeway. Voting stock plus some other consideration does not meet the statutory requirement. * * *

So far as pertinent, the provision controlling herein, section 112 (g) (1) (B), Bevenue Act of 1938, as amended, is the same as that interpreted by the Court. Here, as part of the consideration paid for assets of Public Utilities, the new corporation paid off part of the bonds of one issue and small claims of unsecured creditors with cash, and redeemed another bond issue, and paid other unsecured creditors by issuing income notes and its common stock. Preferred stockholders received common stock for their interests and common shareholders did not participate in the plan. Thus the exchange was not solely for voting stock of the transferee corporation and the transaction was not a reorganization within the meaning of the statute.

Decision will loe entered under Bule 50.

       Sac. 203. Any amount of income tax (including interest, additions to tax, and additional amounts) collected on, before, or after the date of the enactment of this Act for any taxable year beginning prior to January 1, 1939, to the extent attributable to compensation for personal service as an officer or employee of a State, or any political subdivision thereof, or any agency or instrumentality of any one or more of the foregoing, shall bo credited or refunded in the same manner as in the ease of an income tax erroneously collected, if claim for refund with respect thereto is filed after January 18, 1939, and the Commissioner of Internal Revenue, under regulations prescribed by him with the approval of the Secretary of the Treasury, finds that disallowance of such claim would result in the application of the doctrines in the cases of Helvering against Therrel (303 U. S. 218), Helvering against Gerhardt (304 U. S. 405), and Graves et al. against New York ex rel. O’Keefe, decided March 27, 1939, extending the classes of officers and employees subject to Federal taxation.


author: Arundell:

text:
    Columbia Concerts, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 105401.
    Promulgated May 6, 1942.

      Max Freund, Esq., and Walter J. Petschelc, Esq., for the petitioner.

      Gormay Kitchen, Esq., for the respondent.
   OPINION.

Arundell:

We are confronted with the question of whether petitioner is entitled to a credit under section 26 (c) (1) of the Revenue Act of 1936 for a contractual restriction of dividends in the taxable year. Respondent argues that the provision of the contract specifically dealing with dividend payments restricted distribution of dividends by petitioner only from the first $54,000 of net profits of the taxable year and that a dividend in excess of petitioner’s adjusted net income might have been paid from petitioner’s accumulated earnings. If the contract be susceptible of such a construction under the decided cases, the credit under section 26 (c) (1) would have to be reduced by the amount of dividends which might be so paid. Trianon Hotel Co., 44 B. T. A. 1073. On the other hand, where by contract dividends may be paid only with, the consent of the creditor, the contractual restriction upon dividend payment is the amount of earnings and profits which can not be distributed as dividends because of the creditor’s failure to consent thereto. Kilby Steel Co., 41 B. T. A. 1237. Thus, in the instant case, if the contractual restriction should apply to accumulated earnings as well as to current profits, petitioner would be entitled to a credit in the amount of the difference between petitioner’s adjusted net income and the sum of the amount which CBS permitted petitioner to distribute as a dividend on the common stock and the amount paid as a dividend on preferred.

The provision for which the credit is claimed provides that “the first $54,000 of net profits earned by the * * * [petitioner] in each of its fiscal years shall not be distributed in the form of dividends unless the distribution thereof * * * shall be requested or consented to by * * * [CBS].” This provision clearly restricts payment out of current earnings. We are of the opinion that it also restricts payment out of accumulated earnings. Any other interpretation would make the contract practically a nullity. The contract was entered into so that petitioner might obtain operating capital. CBS allowed petitioner to retain funds for such purpose provided that CBS might be given some protection on its investment. The $54,000 restriction was to operate for a three-year period. The preferred stockholding of CBS had a retirement value of $162,000, exactly three times the amount of the yearly restriction. By foregoing its right to an allocable retirement of preferred stock for the three-year period, CBS was risking its investment. Accordingly, the first $54,000 of each year’s earnings was to act as a cushion for the eventual retirement of the preferred stock. If petitioner were to be allowed to declare dividends out of accumulated earnings, petitioner might destroy the security of CBS by merely waiting until after the end of any fiscal year for declaration of its dividends. Current earnings become accumulated earnings if they- are retained past the current year. If the contract had permitted petitioner to declare dividends out of surplus without the consent of CBS, petitioner, by retaining current earnings one day past the end of the year, might completely avoid the provisions of the contract which CBS had placed therein for its security. To the extent that CBS failed to give its permission to petitioner for payment of dividends on common, petitioner was restricted in payment of dividends on common stock from either current or accumulated earnings.

We do not think Thibaut & Walker Co., 42 B. T. A. 29, is in point. In that case the contract was between the sole “stockholders-directors” and the corporation and the restriction provided for was simply to promote a conservative business policy. The restriction in the case before us was dictated by a creditor who, it is true, was also a stockholder. The demand note of petitioner in the sum of $49,132.78 held by CBS was subject to the three-year moratorium provided for in the contract. But for the contract CBS could have called in the note at any time. For purposes of determining whether petitioner is entitled to the credit under section 26 (c) (1) CBS must be treated as a bona fide creditor.

We hold that petitioner is entitled to a credit for purposes of the surtax on undistributed profits in the amount of the excess of its adjusted net income over the amount which it could distribute without violating the terms of the contract. The latter amount in the present case is the sum of the amount which was distributed on the preferred stock of the petitioner and the amount for which CBS gave its consent to be distributed on petitioner’s common stock. Petitioner is accordingly entitled to a credit in the amount of $38,608.14.

Decision will be entered under Bule 50.