text:
    D. H. Brown, by James A. Mitchell, Guardian, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 5633, 5634.
    Decided October 27, 1926.

      Held, on the evidence, that the debts were not shown to have been ascertained to be worthless during the taxable year involved.

      Frank M. Dixon, Esq., for the petitioner.

      W. Frank Gibbs, Esq., for the respondent.
    These are proceedings for the redetermination of deficiencies in income tax for 1918, 1919 and 1920, in the amounts of $2,780.13, $31.69 and $7,086.47, respectively. The deficiencies arise on account of the action of the Commissioner in disallowing as deductions bad debts and a loss on account of advances to a corporation of which petitioner’s ward was the principal stockholder.
    FINDINGS OF FACT.
    The petitioner’s ward, D. H. Brown, was adjudged insane in 1924, and the petitioner was duly appointed and qualified as his guardian and instituted these proceedings in that capacity. D. II. Brown is at this time incarcerated in an insane asylum.

      For several years prior to 1918, D. H. Brown bad been engaged in the coal brokerage business as an individual, under the name of D. H. Brown & Co., with offices in Birmingham, Ala. The business was that of middleman — bringing seller and buyer of coal together, and also buying, and selling coal. Paul Lanier was employed as manager of the business.
    In April, 1918, a corporation known as the Ajax Coal & Mining Co. was organized with a capital stock of $10,000, of which Brown subscribed and paid for $9,000 in cash, and Lanier $1,000 in cash. Thus Brown became the owner of nine-tenths of the capital stock. That corporation acquired a small tract of mining property on which a wagon mine was then being operated, and acquired forty acres on which it owned the mineral rights and a lease on another forty acres with two or three years to run at the time of the organization of the corporation. The royalties required to be paid were unusually high, being considerably higher than any other royalties in that territory. The seam of coal acquired by the corporation had a slope of about 85 degrees. By reason of the pitch of the coal the timbering cost was at least 85 cents a ton above the average. The workings were spread over a distance of 3,000 feet, necessitating a long haul and abnormal handling charges. The miners were paid by the car, although the coal was sold by the ton, and no weighing device was installed to verify the weights. On account of these circumstances, the corporation could not successfully operate the mine and could not compete with other concerns.
    In addition to the money paid out by Brown in acquiring the capital stock of the Ajax Co., in the latter part of 1918 and the first part of 1919, Brown advanced to that corporation a total of $35,000, and about the first of February, 1918, he received from that corporation notes in the amount of $35,000, payable to him, representing the money he had advanced.
    In addition to the above advances, Brown made further advances in 1921, 1922 and 1923, until, at the end of 1923, a total of $87,631.91 had been advanced. Of the $35,000 advanced up to February, 1919, $7,000 was repaid, leaving $28,000 of the advances unpaid.
    The books of X). H. Brown & Co. showed all the transactions in the coal brokerage business and some of the transactions of D. H. Brown personally, but did not contain a complete record of all of Brown’s transactions.
    In 1918 the Ajax Co. lost from operations $17,793.98. In 1919 it made a profit of $3,419.19, and in 1920 a profit of $12,937.89. From 1921 to 1925, inclusive, it sustained losses, and in 1925 it was adjudged a bankrupt.
    Brown, in his income-tax return for 1918, took a deduction of $15,000 as a loss on account of advances made to the Ajax Co. In his return for 1920 he claimed $15,976.70 as a deduction on account of bad debts, and $8,076.23 as a deduction on account of “ losses and adjustments.” The Commissioner conceded the deductibility of $6,239.04 of the total amount claimed.
    The debts sought to be deducted are as follows:
    George O. Berry_ $702. 53
    Farmer’s Cotton Oil & Trading Co_ 1, 593.45
    Gulf & Ship Island By. Co_4,110.92
    New Orleans Coal Co_ 2, 332. 32
    Southern Bailway Co_ 450. 90
    Southern Bailway Co_ 3, 340.65
    Pratt Engineering Co_ 2, 500.00
    Atlanta & St. Andrews Bay By. Co_ 1, 448.55
    Gulf States Steel Co_ 826.40
    W. M. Murray_ 59.10
    W. H. Medlin_ 153.63
    Gude & Co_ 189.15
    Practically all of the above amounts represented indebtedness on account of coal shipped during 1920.
    The books of the taxpayer, while kept on the calendar year basis, were not actually closed until a few days before the 15th of March, 1921, being held open until the income-tax return was about ready to be filed.
    The facts and circumstances relating to the various acounts are as follows:
    The taxpayer had general information that Berry was nearly insolvent and the chances of collection of his debt looked very doubtful. The account was paid in 1922. The coal for which the account was due was sold to Berry in December, 1920. He was written a letter for the first time asking for payment the latter part of January, 1921.
    The account of the Farmer’s Cotton Oil & Trading Co. was for coal sold during December, 1920. A partial payment was made on the account January 17, 1921, another payment was made February 4, 1921, and another payment March 3, 1921, making a total amount paid on the account of $909.85, which was paid on or before March 3, 1921, leaving a balance of $1,593.45 unpaid when the income-tax return for 1921 was prepared. This company became financially involved in 1921 and either offered a creditors’ settlement or went into bankruptcy in that year.
    The Gulf & Ship Island Bailway Co. was indebted to the taxpayer for coal shipped over its line to a purchaser but which was confiscated and used by the company. The coal was shipped on November 30,1920. It was confiscated shortly thereafter, before it reached its destination. The Gulf & Ship Island Kailway Co. was in existence and operating its railroad up until about 1925, when the Illinois Central Railroad Co. purchased it. The greater part of this account was paid during 1921, some of it being paid later.
    The account of the New Orleans Coal Co. was for coal sold and shipped during November and December, 1920. The New Orleans Coal Co, was a large concern, to which the taxpayer shipped large quantities of coal. That company claimed that it never received the coal represented by the account and denied liability.
    The account against the Southern Railway Co., in the amount of $450.90, was for coal which the taxpayer claimed the railroad had confiscated. This the Railroad Company denied. The account was finally settled in May, 1921.
    The account against the Southern Railway Co., in the amount of $3,340.65, was divided into two accounts, One for $3,278.25 for coal shipments, and the other for $62.40 for a claim of some nature. The account was paid in March, 1921. The account was charged off the books because it was sixty days past due and the taxpayer “ had no way of telling whether the Southern would go into the hands of a receiver or not.”
    The Atlanta <& St. Andrews Bay Railway Co. owed a balance of $1,448.55, on account of coal sold and shipped during the latter part of 1920, which represented confiscations of coal that had been taken off of other accounts and charged to the railroad. It was paid during 1921.
    The Gulf States Steel Co.’s account at the end of 1920 was $826.40. It denied liability for this coal upon the ground that it had never received it. This amount of coal never arrived at the plant of the Steel Company. It remained charged to that company until the taxpayer located the coal and determined where it went. It was finally charged to railroads that had confiscated it and was paid for by them.
    The account against W. M. Murray, in the amount of $59.10, was denied by Murray upon the ground that the coal shipped him was of an inferior quality. The taxpayer acknowledged this fact” and made an allowance tó Murray.
    The account of W. TI. Medlin, in the amount of $153.63, represented the unpaid balance due on coal sold in October, 1920. The account had not been paid up to March, 1921, and at that time Medlin’s affairs were in bad shape. Later, in 1921, he made a compromise settlement and the taxpayer accepted $55 in settlement.
    The account against Gude & Co. was for coal sold the latter part of 1920 but which had not been paid for at the time the books were closed in March, 1921.

      The Pratt Engineering Có. had not paid its account up to March, 1921. It was in bad financial condition and in 1921 made a settlement with its creditors and paid approximately 50 per cent.'
   OPINION.

Trammell :

The first question involved is whether the taxpayer, D. H. Brown, is entitled to a deduction in 1918 or 1919 with respect to advances made to the Ajax Co., and whether he is entitled to a loss with respect to his investment in the stock of that company.

During 1918 and 1919 the Ajax Co. was a going concern. It had net profits during 1919 and 1920 and there is no evidence to show that it was not solvent. There is no evidence that the account due by that company on account of the advances was ascertained to be worthless either in 1918 or 1919. There is no evidence that Brown exercised bad judgment in his control of the corporation in acquiring the properties which the corporation operated. The royalties required to be paid were unusually high and the coal could not be as economically mined and handled as other coal, but these facts did not establish the worthlessness of the debt due by that corporation or the worthlessness of the company’s stock.

With respect to the debts charged off before the closing of the books for 1920 in March, 1921, the evidence does not convince us that they were ascertained to be worthless during the taxable year 1920.

Judgment wiU be entered for the Commissioner.


source: Caselaw Access Project

author: Littleton:

license: Public Domain

text:
    Julius Goldenberg, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 6544.
    Decided October 27, 1926.
    Evidence examined and held insufficient to establish the existence of a partnership during the taxable years.

      Alexander E. Marshall, Esq., for the petitioner.

      Arthur E. Fast, Esq., for the respondent.
   Littleton:

The Commissioner held that there were deficiencies in income tax of the petitioner for the calendar years 1920, 1921, 1922, and 1923, in the amounts of $1,739.16, $1,538.18, $1,086.96, and $739.31, respectively.

The petitioner claims that he was a member of a partnership composed of himself, his wife, and his sister during the years 1920 to 1922, inclusive, and that during 1923 his son-in-law, Lester J. Dern-berg, was also a member of this partnership. The Commissioner held that no valid partnership existed and taxed the net income of the business to the petitioner.

FINDINGS OF FACT.

For a number of years petitioner has been engaged as a wholesale dealer in poultry, butter and eggs under the trade name of Golden-berg Brothers. He began business in 1890 in partnership with one Wolf. This partnership was dissolved a short time thereafter when petitioner and his brother, Herman Goldenberg, formed a partnership under the firm name of Goldenberg Brothers. Herman died in 1912 and petitioner purchased his interest from his estate and continued the business under the same name.

Early in 1919 the last of the petitioner’s four brothers died, leaving him the sole support of Ida Goldenberg, his unmarried and only sister, who was non compos mentis. Petitioner furnished his sister with a home, paid all of her expenses, and employed an attendant and housekeeper to care for her.

About the middle of 1919, petitioner was disabled as a result of being struck by an automobile and was unable to leave the hospital until the latter part of that year. Upon his recovery he discussed with his wife his desire to give her and his sister an interest in the profits of his business, and it was orally agreed that their interest from January 1,1920, should be as follows: Julius Goldenberg, 45 per cent; Elsie Goldenberg, his wife, 45 per cent; Ida Goldenberg, his sister, 10 per cent. Neither Elsie Goldenberg nor Ida Goldenberg contributed either money or services to the business. At no time was anything said concerning the losses of the business.

Early in 1920, Lester J. Dernberg, a son-in-law of Julius Golden-berg, was employed to handle purchases and sales. He was paid a regular salary, which was increased from time to time. In 1928 Goldenberg informed Dernberg that he was giving him a 25 per cent interest in the business. Petitioner thereupon reduced the percentages of himself and wife to 32½ per cent each; the percentage of Ida Goldenberg theretofore fixed remained the same.

Dernberg contributed no money to the business. He continued to. perform the same service as he had theretofore been rendering. Nothing was ever said by anyone as to who should bear any losses which the business might sustain. In 1923 Dernberg was paid an amount in excess of the salary theretofore paid to him but less than 25 per cent of the profits of the business.

During the taxable years the business was carried on just as it had been in years prior to 1920. A complete set of books was maintained, but no entry was made thereon indicating that anyone other than Julius Goldenberg was interested in the business. The reason given for this was that, since the arrangement was a family affair and as it was necessary to borrow money from time to time, it was considered advisable so far as the public was concerned that the business continue as the individual business of Julius Goldenberg. During 1920 and subsequent years petitioner expended such sums as were necessary for the care and support of his sister, whether greater or less than 10 per cent of the profits, and charged the same to an account in her name upon the books. From time to time Elsie Goldenberg was paid such sums as she desired for personal and household uses.

Partnership returns were filed for each of the taxable years, in which the interests and the distributive shares of the aforementioned individuals were shown as follows:

Julius Goldenberg was paid a salary of $0,500, one-half of which was reported by his wife, Elsie Goldenberg, in her separate return.

Judgment will be entered for the Commissioner.


author: Littleton :

text:
    Appeal of Cornelius Lumber Co.
    Docket No. 4273.
    Decided October 27, 1926.
    1. Daring 1920 taxpayer made advances totaling $98,140.27 against lumber as cut and wbicb was to be on its order. The contract between the parties provided that upon the receipt of bills of lading the taxpayer should remit to the Plantation Oo. the invoice price of the lumber after deducting, among other items, the amount of $30 or $35 a thousand, depending upon the grade of lumber, to cover advances of this amount theretofore made. In November, 1920, the Plantation Oo. became insolvent and ceased operations, and taxpayer discovered that the company was short 393,000 feet of lumber which it had reported as being ready for shipment, and . against which taxpayer had made advances. In November, 1920, taxpayer took possession under the contract of all lumber in the yards of the value of $50,062.08. Held, that taxpayer sustained a loss in 1920 of $48,078.19.
    2. Deduction for a worthless debt allowed.
    3. The Commissioner’s determination of the deduction for 1920 as reasonable compensation for officers approved.

      George D. Wide, Esq., and Atwood Burt, O. P. A., for the petitioner.

      George G. Witter, Esq., for the Commissioner.
    The Commissioner determined a deficiency for the calendar year 1920 of $12,045.28. It is claimed by the taxpayer that (1) in 1920 it made certain advances, amounting to $98,140.27, against lumber to be shipped on its order, under a contract providing that in the event the Plantation Co. failed to perform its part of the contract the taxpayer should take possession of all lumber on hand; that this contract was breached by the Plantation Co., which became insolvent in 1920; that in November of that year taxpayer took possession of the lumber on hand and immediately inventoried it at $50,062.08, as a result of which it was entitled to a deduction of $48,078.19, as loss sustained; (2) it is entitled to a deduction of $2,006.71 for a worthless debt; and (8) $41,400 should have been allowed as a deduction for officers’ compensation, instead of $24,050, as allowed by the Commissioner.
    BINDINGS OF FACT.
    The taxpayer is a Missouri corporation organized in June, 1919, and engaged in the sale of lumber at wholesale, with principal office at St. Louis. It kept its books and rendered its returns upon the accrual basis.
    On February 3, 1920, the taxpayer entered into a contract with certain individuals doing business under the name of the Sycamore Plantation Co., which contract provided—
    In consideration of your causing cash to be advanced on manufactured lumber as hereinafter set forth, we, John E. Osborn and John T. Meek, doing business as the Sycamore Plantation Company, at Osmeek, La., hereby appoint you, our exclusive selling agent for the entire cut of our one band and one circular sawmills, and the Plowns circular contract sawmill located in-parishes, Louisiana, and which said mills we estimate will produce approximately ten million feet of red and sap gum, red and white oak, white ash, cypress, etc., during the year nineteen twenty, and which we guarantee will produce at least three million feet during said period.
    ⅜ ⅜ ⅜ ⅜ H* 4t ⅜
    In consideration of our appointing you our exclusive sales agent you agree to make us an advance of $35.00 per thousand on all #2 Common and Better lumber manufactured at above three mills, for the first ninety (90) days of this contract after which time the said advance shall be at the rate of $30.00 per thousand feet, and if necessary for us to make any advances on #3 Common with said contract mill, you are to make us the same advances as we make said mill. In consideration of, and as security for these advances to be made every two weeks after the lumber has been put in pile (but no total cash advance at any time to exceed one hundred thousand dollars ($100,000.00), we agree to furnish you notes and mortgages in accordance with the law of the State of Louisiana, guarantying the lumber at the time of delivery to you free of all liens, taxes, labor bills of every description, and we' to furnish certificates from the Parish Clerk setting forth that there are no judgments, suits or claims, the foregoing is to be done and evidence thereof furnished bank in Louisiana which you shall authorize to pay us a sum equal to such notes and mortgages from time to time when presented by us to such bank.
    We will furnish lease on the ground upon which said lumber is piled to cover a period of time until all lumber manufactured under this contract is shipped, and without cost to you.
    ⅜* ⅝ * * ⅜ ⅜ ⅝
    We agree to pay you a selling commission of twelve per cent (12%) on the invoice value, which shall be due and payable when cars are shipped, which shall cover and include cash discount.
    At the time of shipment this will be your authority to deduct the $35.00 or $30.00 per thousand which may have been advanced as provided in section seven, same to be used in liquidating the notes for the cash advanced on this lumber, and to retain in addition to this advance a sum equal to $10.00 per thousand as a Sinking-Fund with which to retire our advance and indebtedness to you, the balance of the face of the invoice to be remitted upon receipt of bills of lading, after deducting the aforesaid $45.00 or $40.00 per thousand feet advance and Sinking-Fund, interest, commission, estimated freight charges, etc. The final settlement on freight charges to be made monthly as actual freight charges are ascertained.
    * * * * * i|i $
    If, for any reason, we do not load and ship the lumber in accordance with your shipping instructions and the terms and agreements herein, all unpaid cash advances and other indebtedness will immediately become due and payable, and this will be your authority to inspect, measure, haul, load and ship all the lumber under this contract at our expense, and to retain the full value of each shipment until the unpaid advances and other claims under this contract have been liquidated. You to have the full use of all the facilities of our yard to ship the stock referred to, and without cost to you.
    ⅜ * * * ⅜ ⅝ ⅜
    The Plantation Co. rendered taxpayer weekly statements of the amount and kind of lumber stacked on the land leased to it and ready for shipment. The Plantation Co. leased to the taxpayer the land upon which such lumber was to be piled. From time to time taxpayer made advances to the Plantation Co. of $30 or $35 a thousand feet for lumber which the Plantation Co. had reported as being stacked and ready for shipment. As the taxpayer made advances from time to time against the lumber cut, the Plantation Co. executed its lien notes for the amounts advanced, together with chattel mortgages upon the lumber.

      In October, 1920, taxpayer discovered that the Plantation Co. was short 393,000 feet of lumber, which it had reported as being stacked in the yard and on which taxpayer had made advances. On November 9, 1920, the taxpayer ascertained that the Plantation Co. was insolvent, was unable to meet its pay roll, and had a few days prior thereto ceased operations. The taxpayer immediately took possession of the lumber in the yard under the terms of the contract and chattel mortgages. Between November 9 and 15, 1920, taxpayer made a complete inventory of the lumber at the prevailing market prices and determined the value of all lumber taken over to be $50,062.08. It was subsequently sold at approximately that amount. At the time the lumber was taken over by the taxpayer, the net debit to the account of the Plantation Co., all of which represented advances during 1920, amounted to $98,140.21.
    The taxpayer claimed that it was entitled to an inventory loss for 1920 in the amount of $48,078.19, the difference between the amount advanced and the value of the lumber taken over. The Commissioner denied this claim and held that the transaction between the Plantation Co. and the taxpayer gave rise to a debt which was neither ascertained to be worthless nor charged off within the year. The Plantation Co. was adjudicated a bankrupt in January, 1921, and its affairs closed.
    In March, 1920, the American Harvester Co. purchased from the taxpayer certain lumber and gave in payment therefor its note for $4,338.27. During the year the note was reduced by payments to $2,086.71. In the latter part of 1920 the debtor became insolvent. Prior to the end of the year the taxpayer, through its manager, at the place where the debtors’ offices were located, made every effort to collect the unpaid portion of the note, without success. It made a careful investigation and ascertained that the company was without assets. It concluded that the debt was worthless and charged it off within the year 1920. Subsequently, sometime during 1921, the taxpayer discovered four threshing machines belonging to the debtor and caused them to be attached and sold. Notes were given by the purchasers to the taxpayer for the machines and have never been paid.
    During the first part of 1920, taxpayer’s operations were profitable and resulted in large earnings during that period. In June or July, 1920, there was a marked decline in the price of lumber, with the result that taxpayer’s operations during the last half of 1920 were not profitable.
    Prior to March, 1920, the entire capital stock of the par value of $100,000 was owned 51 per cent by L. E. Cornelius, president, and 49 per cent by R. W. Siegel, vice president and treasurer. Thereafter, J. A. Johnson acquired 150 shares.

      On January 5, 1920, at a meeting of the directors, the following resolutions were adopted:
    On motion, duly seconded, it was ordered that the officers of this Company be paid the following salaries in equal semi-monthly installments, to wit: The President $800.00 per month, the Vice-President and Treasurer $400.00 per month, the Secretary $250.00 per month, and the Assistant Secretary $175.00 per month.
    **♦**♦£
    Mr. R,. W. Siegel offered the following resolution:
    Be it resolved that a stock dividend of 20% on the capital stock of this Company be and the same is hereby declared, and that the same be charged to the surplus account of this Company for the year 1919 as shown by the statements heretofore submitted to this meeting, and credited to capital account.
    * * * * * * *
    Resolved, further, that a cash dividend be and the same is hereby declared, of any amount recovering in said surplus account, namely $409.66, being 81.93 cents per share, and distributed in the same proportion.
    On motion said resolution was adopted.
    At a special meeting of the directors held March 15, 1920, the following resolutions were adopted:
    Mr. J. A. Johnson, a stockholder of this Company, was nominated as a Director to fill the vacancy caused by the resignation of Mrs. Vera L. Cornelius, and a ballot being had he was declared duly elected by the unanimous vote of the members present.
    Mr. Yern N. Cornelius offered the following preamble and resolution:
    Whereas, by reason of sundry contracts for the sale of the product of this Company made in the year 1919, for delivery during the year 1920, this company expects to transact a greatly increased volume of business during the year 1920, and
    Whereas, said increase is largely due to the activities and efficiency of the President, Mr. L. E. Cornelius, and the Vice-President and Treasurer, Mr. R. W. Siegel, in building up the trade and good will of this company, Now, Therefore,
    Resolved, that the sum of thirty thousand ($30,000.00) dollars to be paid out of the net earnings of this company for the year 1920, be and the same is hereby appropriated as special compensation for the services of the President and of the Vice-President and Treasurer.
    Resolved, further, that the amount so appropriated be credited to L. E. Cornelius and R. W. Siegel, in twelve equal monthly installments, as follows:
    To L. E. Cornelius, $1,275.00 per month_$15, 300. 00
    To R. W. Siegel, $1,225.00 per month_ 14, 700. 00
    and paid to them, respectively, or to their heirs, at the end of the year 1920.
    On motion, duly seconded, the foregoing resolution was adopted by unanimous vote of those present.

      On motion, it was ordered that the number of Vice-Presidents of this company be increased from one to two, and Mr. J. A. Johnson was elected Vice-President to fill the position so created. On motion it was further ordered that the salary of J. A. Johnson as such Vice-President shall be $500.00 per month, to relate to and begin on the 1st day of January, 1920.
    On April 26, 1920, a special meeting of the directors was held, the minutes of which were as follows:
    A special meeting of the Board of Directors of the Cornelius Lumber Company was held at the Office of the Company, * * * on this the 20th day of April, 1920, at 2:00 P. M.
    Those present were:
    L. E. Cornelius, President, Presiding,
    R. W. Siegel, Vice-President & Treasurer,
    J. Albert Johnson, Vice-President,
    Vern N. Cornelius, Secretary, and
    Boy B. Siegel,
    when the following proceedings were had:
    On motion duly made and seconded it was ordered that the following salary changes be made:

      Mffeettve as of January 1st:

    L. E. Cornelius_$1300. 00 .
    B. W. Siegel_ 900. 00
    J. A. Johnson_ 1000. 00

      Mffeettve as of April 15th:

    V. N. Cornelius_$300. 00
    B. W. Bira_ 300.00

      G. E. Goodsell_ 200.-00
    W. L. Kurz_ 250.00
    The minutes of a meeting of the directors held on May 7, 1920, were as follows:
    Pursuant to notice duly given, the Directors of the above Company met at the above time and place.
    There were present:
    Messrs. L. E. Cornelius,
    V. N. Cornelius,
    B. W. Siegel,
    J. A. Johnson, and
    B. B. Siegel,
    being all of the directors of the Company.
    The President, L. E. Cornelius, presided, and Mr. V. N. Cornelius acted as secretary of the meeting.
    The President stated that the present surplus of the Company was in excess of $75,000.00, and suggested that a stock dividend of 33⅝% be declared to the stockholders of the Company on this date, payable out of the surplus of the Company. Thereupon, upon motion duly made and seconded, and unanimously carried, it was resolved that a stock dividend of 33½% be, and it is hereby declared to the stockholders of the Company of record on this date, being a total distribution of 250 shares of the common stock of this Company to be divided among the stockholders in proportion to their holdings, and that the officers be instructed to make the proper entries on the books and to do all things necessary to complete the transaction.

      Upon motion duly made and seconded and unanimously carried, it was resolved tliat on account of tlie extraordinary earnings of the Company during the past six months, and on account of the unusual services rendered by the officers of the Company, that a bonus of $3000.00 be voted as extra compensation to Messrs. L. E. Cornelius, J. Albert Johnson, and It. \V. Siegel.
    The total compensation of the three officers, Cornelius, Siegel and Johnson, authorized during the year amounted to $68,400. A portion of this amount was paid to them in cash and preferred stock and the balance was credited to their accounts upon the books as follows:

    At the end of the year 1920 each of the three officers, on account of the condition of the company resulting from a slump in the lumber market, voluntarily canceled $9,000 of the salaries paid or credited to them, leaving the officers’ salaries paid or accrued for the year in the net amount of $41,400, which amount is now claimed as a deduction from gross income for 1920.
    During the year 1919 the taxpayer had a net income of $16,624.06 and paid its three officers a total compensation of $12,350, as follows:
    L. E. Cornelius, president_$6, 950
    R. W. Siegel, vice president_ 4, 350
    V. N. Cornelius, secretary_ 1, 050
    For 1921 the company paid officers salaries totaling $18,400, as follows:
    L. E. Cornelius, president_$8, 250
    H. E. Cornelius, vice president_ 2, 225
    V. E. Cornelius, vice president_ 1, 525
    R. W. Siegel, vice president_ 3, 800
    J. A. Johnson_ 2, 600
    The return for 1921 showed a loss of $17,466.72.
    In the audit of the return for 1920 the Commissioner determined that $24,050 was reasonable compensation for officers and allowed this amount as a deduction.
   OPINION.

Littleton :

We are of the opinion that the taxpayer is entitled to a deduction for 1920 of $48,078.19 as a loss sustained within the year as a result of the advances made to the Sycamore Plantation Co. for lumber to be furnished by it. The taxpayer was not to be repaid the advances in money direct. Instead taxpayer was to receive lumber and, in making remittances to the Plantation Co., taxpayer, under the contract, deducted from the price at which the lumber was invoiced to it, among other sums, the amount of $30 or $35 a thousand feet, according to the grade of lumber. The contract between the parties provided that, in the event of failure of the Plantation Co. to fulfill its part of the contract, the taxpayer should take possession of all the lumber on hand and apply the same against the advances theretofore made. When the Plantation Co. became insolvent and ceased operations early in November, 1920, the taxpayer took possession of the lumber and found that it was of a value of $50,062.08. It therefore sustained a loss of $48,078.19, being the difference between the amount advanced against which the lumber was to be applied and the value of the lumber taken over.

The evidence convinces us that the debt of the American Harvester Co. was properly ascertained to be worthless and charged off within the year. The amount was therefore properly deducted from gross income.

The taxpayer claims that it should be allowed a deduction for 1920 of $41,400, the net amount of officers salaries paid or accrued within the year. The Commissioner contends that the amount arrived at by him represented reasonable compensation for the services rendered and that the amount authorized by the directors in excess of that amount represented a distribution of profits of the corporation. We have no evidence as to the character or extent of the services rendered by the taxpayer’s officers. The several resolutions constitute the only evidence relating to this issue. On January 5, the president’s salary was fixed at $800 a month and that of the vice president and treasurer at $400 a month. This was in excess of the salaries paid in the prior year. The company started the year 1920 without a surplus, after declaring a stock dividend of 20 per cent and a cash dividend of 81.93 cents. The company’s earnings during the first part of 1920 were large. On March 15 the directors authorized $30,000, special compensation, to be paid to Cornelius and Siegel upon the basis of their stockholdings of 51 per cent and 49 per cent, respectively. At that time J. A. Johnson was elected a director and vice president and his salary was fixed at $500 a month from January 1,1920. The record does not show that Johnson had been, theretofore, in the employ of the company. On April 26, 1920, the company’s earnings were still on the increase and the monthly salaries of Cornelius, Siegel, and Johnson were further increased to $1,300, $900, and $1,000, respectively, effective from January 1,1920. On May 7,1920, the president reported a surplus of $75,000. A stock dividend of 33½ per cent was declared and the three officers were voted a further bonus of $3,000 each. These facts indicate that the directors were distributing the profits of the company in the guise of compensation. The Board is not warranted, upon the evidence submitted, in allowing a deduction for compensation of officers in excess of the amount determined by the Commissioner.

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


author: Lansdon:

text:
    Appeal of Richard M. McCoy.
    Docket No. 3591.
    Decided October 27, 1926.
    A member of the Osage Indian Tribe is subject to tax on royalties and proceeds from the sale of mineral rights.

      T. J-. Leahy, Esq., for the petitioner.

      Ellis W. Manning, Esq., for the Commissioner.
    This appeal is from the determination of a deficiency in income tax for the calendar year 1919 in the amount of $344.73, all of which is in controversy.
    The taxpayer’s counsel did not appear at the hearing. Counsel for the Commissioner stated that the parties had agreed that the issues involved in this appeal should be determined and controlled by the decision of the Board in the Brunt appeal, Docket No. 2869, then under submission. The appeal was submitted on the pleadings.
    FINDINGS OF FACT.
    The taxpayer is an individual member of the Osage Indian Nation or Tribe, and resides at Bartlesville, in the State of Oklahoma. The income upon which the deficiency is based was his pro rata share of the proceeds of sales of leases and receipt of bonus by the United States for the Osage Indian Nation or Tribe during the calendar year 1919. Portions of such proceeds were subject to deferred payment and were not received by the taxpayer during the year involved in this appeal.
   OPINION.

Lansdon:

This taxpayer was subject to taxes on income received in 1919. Appeal of Leah Brunt, 5 B. T. A. 134. It appears, however, from certain admissions of the Commissioner, that a'redeter-mination of the deficiency will be required.

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


author: Lansdon :

text:
    Louis Gassner, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 4415.
    Decided October 27, 1926.

      Frederick M. Shipper, Esq., and Anson Herrick, G. P. A., for the petitioner.

      Donald D. Shepard, Esq., for the respondent.
   Lansdon :

The Commissioner has found a deficiency in income and profits taxes for the years 1920, 1921 and 1922, in the amount of $52.56. The petitioner contends that it is entitled to an annual deduction from its gross income on account of the exhaustion of a certain leasehold which it acquired prior to March 1, 1913, and undertakes to prove a value of such leasehold at that date. The Commissioner contends that the petitioner did not own the leasehold in question at the basic date, or at any other time, and that even if the alleged ownership is established the leasehold was acquired without cost and had no value at the basic date.

FINDINGS OF FACT.

The petitioner is a California corporation, incorporated on February 11, 1909. Its principal office is in San Francisco and its principal stockholders are Louis Gassner and his wife, Henrietta Gassner, but at all times since the date of incorporation there have been other stockholders owning substantial amounts of the capital stock of the petitioner.

On September 26, 1908, Louis and Henrietta Gassner leased from certain parties a certain parcel of real estate, situate in the City of San Francisco, for a term of 15 years, to begin at the completion of a Class C six-story and basement loft building, which was to be erected by the lessor in accordance with plans and specifications approved by the lessees. The lessees agreed to pay rent for such land and building at the rate of $1,550 per month, or a total rental of $279,000, but not to begin such payments prior to July 1, 1909.

After the completion of the building a part of the space therein was occupied by the petitioner and the remainder was subleased to other tenants. The lease was-never assigned by the lessees to the petitioner either directly or by a sublease. The petitioner paid the monthly rentals to the lessor during the term of the lease and collected and took into its income all rentals paid by other tenants. None of the subleases were offered in evidence at the hearing.

Judgment will be entered for the Commissioner.


author: MaRQUette :

text:
    Appeal of Florence M. Smith, Executrix of the Estate of Sarah F. Mason.
    Docket No. 3782.
    Decided October 27, 1926.
    The sole beneficiary for life of the entire income of an estate or trust, created under a will, is taxable on the basis of such income as is credited or distributable to her, regardless of the fact that it was not actually distributed within the taxable year.

      Melvin G. Pallister, Esq., for the petitioner.

      John W. Fisher, Esq., for the Commissioner.
    This appeal is from the determination of deficiencies in income taxes for the years 1918 to 1921, inclusive, in the amount of $22,396.92, consisting of proposed additional tax of $14,544.43 for the year 1919 and $1,302.30 for the year 1021, an overassessment of $1,611.29 for the year 1920, and additional tax of $8,161.48 assessed for the year 1918, a claim for the abatement of which has been denied.
    FINDINGS OF FACT.
    The taxpayer is the duly appointed, qualified, and acting executrix of the last will and testament of Sarah F. Mason, deceased, who died in February, 1922, a resident of Kings County, New York.
    Prior to October, 1917, one Isaac Mason engaged in the business of operating a furniture store in Brooklyn, N. Y. The greater part of the sales made by him were on the deferred payment plan, that is, a part of the purchase price was paid by the buyer in cash and the remainder ivas payable over a period of time, the deferred payments being secured by a chattel mortgage on the furniture sold. The contracts of sale usually provided that the entire purchase price should be paid in from ten months to two years, but in some instances payment in full was not made until four or five years after the sale. Isaac Mason died in October, 1917, leaving a last will and testament which was duly admitted to probate in the Surrogate’s Court, Kings County, New York. By his last will and testament Mason left all his household goods and personal effects and money on deposit in his personal account to his widow, Sarah F. Mason, absolutely, clear and free of all debts. The remainder of his estate was disposed of by the fifth item of his last will and testament, as follows:
    Fifth: I give, devise and bequeath all the rest, residue and remainder of my property, both real and personal, of every name and nature, wheresoever the same may be situated to my Executors and Trustees hereinafter named, in trust nevertheless to hold, possess, invest and manage the same and keep the same invested and to pay the income thereof to my wife, Sarah Frances Mason, for and during the term of her natural life, and upon the death of my said wife, if my sister, Frances M. Crawford, be then living, I give and bequeath to her the sum of Five Thousand Dollars, and I give, devise and bequeath all of the rest, residue and remainder of my estate so held in trust by my said Executors and Trustees to my daughters, Maybelle Cochran and Florence M. Smith, in equal shares, and in the event of the death of either of my daughters before the death of my wife, I give, devise and bequeath to the issue of my said deceased daughter, the share of my estate to which such daughter would have been entitled, if living. Should the net income of my estate payable to my wife as above provided be less than Ten Thousand Dollars in any year, I hereby authorize and direct my Executors and Trustees to pay from that part of the principal of the trust fund held by them not invested in my said business such amount as shall be required to make the payment to my wife for such year the full sum of Ten Thousand Dollars. It is my wish and I do hereby direct that the income payable to my wife under this clause of my will shall be paid her as follows: the sum of Twenty Dollars shall be paid to her each week and the balance of the income secured to her by said will shall be paid her in equal monthly payments.
    The two persons named as executors and trustees under the will of Mason were duly qualified as executors thereof by the Surrogate’s Court for Kings County, New York. They continued the operation, during the years 1918 to 1921, inclusive, of the furniture business conducted by Mason in his lifetime. The books of the furniture business had been kept by Mason on the accrual basis. The executors continued to keep the books of the business on the accrual basis and credited Sarah F. Mason with the accrued profits in each year, although they were not actually paid to her. The books and records kept by the executors showed the following:

    In the year 1918 the executors paid Sarah F. Mason $18,979.59 from the operation of the store and $4,819.26 from rents and interests on securities.
    Sarah F. Mason, widow of Isaac Mason, kept no records or books of account other than a check book, and she rendered her income-tax returns on the cash receipts and disbursements basis. The Commissioner credited to Sarah F. Mason for the years 1918 to 1921, inclusive, the entire net income of the furniture store business for those years, computed on the accrual basis, and determined that there is a deficiency in tax in the amount of $14,544.43 for the year 1919 and $1,302.02 for the year 1921, and an overassessment of $1,611.29 for the year 1920. He also, on March 3, 1925, rejected the taxpayer’s claim for the abatement of additional tax in the amount of $8,161.48 theretofore assessed for the year 1918. The Commissioner’s letter of March 3, 1925, rejecting the claim for abatement is as follows:
    Your claim for abatement of $8,161.48 individual income tax assessed for 1918 against the above named estate has been examined.
    The claim is based on the statement that income should be reported on the installment basis instead of the accrual basis.
    The case was referred to the Solicitor of Internal Revenue and it has been held by that office that the method used of reporting income on the accrual basis is correct and should not be changed to the installment basis.
    Article 23, Regulations 45 make it obligatory for the taxpayer to file returns on the basis on which the books are kept. The requirements of the Bureau relative to keeping accounts so as to permit the reporting of income on the installment plan basis are set forth in office decision 623 (C. B. 3, page 105) and Treasury Decision 3082 (C. B. 3, page 107). As the evidence in the case indicates that taxpayer’s accounts were not kept in such a manner as to meet these requirements, but were kept on the accrual basis, it is held that the net income should be stated on the accrual basis. Mimeograph 3170 (O. B. Ill, page 107) covers this case. It states:
    “(b) Where the accounts of a taxpayer in prior years have been kept upon the cash basis, or upon the straight accrual basis, amended returns may not be filed for the purpose of reporting the income upon the installment plan. In no event may amended returns be filed on the basis of estimates.”
    The claim will, therefore, be rejected.
    The rejection of the claim will officially appear on the next schedule to be approved by the Commissioner, but payment of the amount rejected should not be made until a bill is received from the Collector of Internal Revenue for your district, and remittance should then be made in accordance with the conditions of his notice.
   OPINION.

MaRQUette :

The Commissioner in liis answer to the petition herein denies that the Board has jurisdiction to hear and determine the taxpayer’s appeal as to the years 1918 to 1920, for the reason “ that the Commissioner has not determined that a deficiency in tax is due from the taxpayer for either the years 1918 or 1919.”

We think that the Commissioner’s position as to the jurisdiction of the Board to determine the taxpayer’s tax liability for the year 1920 is well taken. The record herein discloses that no deficiency in tax has been asserted by the Commissioner for that year, but that, on the contrary, he has determined that there is an overassessment. The taxpayer asks that we hear the appeal as to the year 1920 and find that the overassessment should be increased. The situation presented comes squarely within the rule laid down by the Board in Appeal of Cornelius Cotton Mills, 4 B. T. A. 255, and Appeal of John F. Cook, 4 B. T. A. 916, and on the authority of those decisions this appeal, in so far as it relates to the year 1920, is dismissed.

We are, however, of the opinion that the Board has jurisdiction to determine the taxpayer’s liability for the year 1918. The evidence herein shows that the Commissioner has, since the enactment of the Revenue Act of 1924, heard and denied the taxpayer’s claim for the abatement of additional tax assessed for the year 1918. The record does not disclose when the additional tax was assessed. That, however, we think is of no importance, for even if the tax was assessed prior to the enactment of the Revenue Act of 1924, the Board has jurisdiction to hear an appeal from the Commissioner’s determination denying a claim for abatement of such tax, where the determination was made subsequent to the date of said enactment. Appeal of Joseph Garneau Co., 1 B. T. A. 75; Appeal of Terminal Wine Co., 1 B. T. A. 697. The action of the Commissioner as set forth in the letter of March 3, 1925, quoted in the findings of fact herein, was made subsequent to the enactment of the Revenue Act of 1924 and is clearly a final determination of the taxpayer’s income tax for the year 1918, from which an appeal lies to this Board.

The taxpayer contends that the estate of Isaac Mason is still in process of settlement and that although by his last will arid testament the persons named as executors thereof were also named as trustees, they never qualified as trustees or became such, and that the entire net income of the estate computed on the accrual basis should not be included in the income of Sarah F. Mason, as beneficiary under the last will and testament of Isaac Mason, but only the amounts actually paid her by the executors. They also contend that, while the books of the furniture store were kept on the accrual basis, the sales made by it were on the installment plan; that the books accurately reflect the facts necessary to show the net income of the furniture store, computed on the installment sale basis, and that in any event only the amounts actually paid by the executors to Sarah F. Mason in the years 1918, 1919 and 1921, should be included in her income as having been received by her from the estate of Isaac Mason. The taxpayer has not, however, produced sufficient evidence to enable us to determine the net income of the furniture store computed on the installment sale basis, even if we were to hold that method to be a proper one. Therefore, since it is admitted by the parties hereto that the books were kept on the accrual basis and that the income for the several 'years involved herein, computed on that basis, is as set forth in the findings of fact, we must conclude that the income so determined and computed was the true income of the estate of Isaac Mason for those years.

The net income of each year was credited to the account of Sarah F. Mason.

The question to be determined, therefore, is whether there should be included in the income of Sarah F. Mason for the years 1918, 1919 and 1921, the entire net income of the estate of Isaac Mason, so computed, or only the portions thereof actually paid to her by the executors in those years.

The years 1918 and 1919 are governed by section 219 of the Revenue Act of 1918, which provides:

See. 219. (a) That the tax imposed by sections 210 and 211 shall apply to the income of estates or of any kind of property held in trust, including—
(1) Income received by estates of deceased persons during the period of administration or settlement of the estate;
(2) Income accumulated in trust for the benefit of unborn or unascertained persons or persons with contingent interests;
(3) Income held for future distribution under the terms of the will or trust; and
(4) Income which is to be distributed to the beneficiaries periodically, whether or not at regular intervals, and the income collected by a guardian of an infant to be held or distributed as the court may direct.
(b) The fiduciary shall be responsible for making the return of income for the estate or trust for which he acts. The net income of the estate or trust shall be computed in the same manner and on the same basis as provided in section 212, except that there shall also be allowed as a deduction (in lieu of the deduction authorized by paragraph (11) of subdivision (a) of section 214) any part of the gross income which, pursuant to the terms of the will or deed creating the trust, is during the taxable year paid to or permanently set aside for the United States, any State, Territory, or any xjolitical subdivision thereof, or the District of Columbia, or any corporation organized and operated exclusively for religious, charitable, scientific, or educational purposes, or for the prevention of cruelty to children or animals, no part of the net earnings of which inures to the benefit of any private stockholder or individual; and in cases under paragraph (4) of subdivision (a) of this section the fiduciary shall include in the return a statement of each beneficiary’s distributive share of such net income, whether or not distributed before the close of the taxable year for which the return is made.
(c) In cases under paragraph (1), (2), or (3) of subdivision (a) the tax shall be imposed upon the net income of the estate or trust and shall be paid by the fiduciary, except that in determining the net income of the estate of any deceased person during the period of administration or settlement there may be deducted the amount of any income properly paid or credited to any legatee, heir or other beneficiary. In such cases the estate or trust shall, for the purpose of the normal tax, be allowed the same credits as are allowed to single persons under section 216.
(d) In cases under paragraph'(4) of subdivision (a), and in the case of any income of an estate during the period of administration or settlement permitted by subdivision (c) to be deducted from the net income upon which tax is to be paid by the fiduciary, the tax shall not be paid by the fiduciary, but there shall be included in computing the net income of each beneficiary his distributive share, whether distributed or not, of the net income of the estate or trust for the taxable year, or, if his net income for such taxable year is computed upon the basis of a period different from that upon the basis of which the net income of the estate or trust is computed, then his distributive share of the net income of the estate or trust for any accounting period of such estate or trust ending within the fiscal or calendar year upon the basis of which such beneficiary’s net income is computed. In such cases the beneficiary shall, for the purpose of the normal tax, be allowed as credits in addition to the credits allowed to him under section 216, his proportionate share of such amounts specified in subdivisions (a) and (b) of section 216 as are received by the estate or trust.

The question in so far as it relates to the year 1921 is governed by section 219 of the Revenue Act of 1921, which is as follows:

Sec. 219. (a) That the tax imposed by sections 210 and 211 shall apply to the income of estates or of any kind of property held in trust, including—
(1) Income received by estates of deceased persons during the period of administration or settlement of the estate;
(2) Income accumulated in trust for the benefit of unborn or unascertained persons or persons with contingent interests;
(3) Income held for future distribution under the terms of the will or trust; and
(4) Income which is to be distributed to the beneficiaries periodically, whether or not at regular intervals, and the income collected by a guardian of an infant to be held or distributed as the court may direct.
(b) The fiduciary shall be responsible for making the return of income for the estate or trust for which he acts. The net income of the estate or trust shall be computed in the same manner and on the same basis as provided in section 212, except that (in lieu of the deduction authorized by paragraph (11) of subdivision (a) of section (214) there shall also be allowed as a deduction, without limitation, any part of the gross income which, pursuant to the terms of the will or deed creating the trust, is during the taxable year paid or permanently set aside for the purposes and in the manner specified in paragraph (11) of subdivision (a) of section 214. In cases in which there is any income of the class described in paragraph (4) of subdivision (a) of this section the fiduciary shall include in the return a statement of the income of the estate or trust which, pursuant to the instrument or order governing the distribution, is distributable to each beneficiary, whether or not distributed before the close of the taxable year for which the return is made.
(e) In cases under paragraphs (1), (2), or (3) of subdivision (a) or in any other case within subdivision (a) of this section except paragraph (4) thereof the tax shall be imposed upon the net income of the estate or trust and shall be paid by the fiduciary, except that in determining the net income of the estate of any deceased person during the period of administration or settlement there may be deducted the amount of any income properly paid or credited to any legatee, heir, or other beneficiary. In such cases the estate or trust shall, for the purpose of the normal tax, be allowed the same credits as are allowed to single persons under section 216.
(d) In cases under paragraph (4) of subdivision (a), and in the case of any income of an estate during the period of administration or settlement permitted by subdivision (c) to be deducted from the net income upon which tax is to be paid by the fiduciary, the tax shall not be paid by the fiduciary, but there shall be included in computing the net income of each beneficiary that part of the income of the estate or trust for its taxable year which, pursuant to the instrument or order governing the distribution, is distributable to such beneficiary, whether distributed or not, or, if his taxable year is different from tlmt of the estate or trust,-then there shall be Included in computing his net income his distributive share of the income of the estate or trust for its taxable year ending within the taxable year of the beneficiary. In such cases the beneficiary shall, for the purpose of the normal tax, be allowed as credits, in addition to the credits allowed to him under section 216, his proportionate share of such amounts specified in subdivisions (a) and (b) of section 216 as are received by the estate or trust.
(e) In the case of an estate or trust the income of which consists both of income of the class described in paragraph (4) of subdivision (a) of this section and other income, the net income of the estate or trust shall be computed and a return thereof made by the fiduciary in accordance with subdivision (b) and the tax shall be imposed, and shall be paid by the fiduciary in accordance with subdivision (c), except that there shall be allowed as an additional deduction in computing the net income of the estate or trust that part of its income of the class described in paragraph (4) of subdivision (a) which, pursuant to the instrument or order governing the distribution, is distributable during its taxable year to the beneficiaries. In cases under this subdivision there shall be included, as provided in subdivision (d) of this section, in computing the net income of each beneficiary, that part of the income of the estate or trust which, pursuant to the instrument or order governing the distribution, is distributable during the taxable year to such beneficiary.

It may be pointed out that subdivision (c) of both of the sections of law above quoted provides that, in the case of income received by estates of deceased persons during the period of administration or settlement of the estate, the tax shall be imposed upon the net income of the estate and shall be paid by the fiduciary, except that, in determining the net income of such estate, there may be deducted the amount of any income properly paid or credited to any legatee, heir, or other beneficiary, and in such cases the estate, for the purpose of the normal tax, is to be allowed the same credits as are allowed to single persons under section 216. Subdivision (d) of section 219 of the Act of 1918 provides that, in the case of income which is to be distributed to the beneficiaries periodically, whether or not at regular intervals, and in the case of any income of an estate during the period of administration or settlement permitted by subdivision (c) to be deducted from the net income upon which tax is to be paid by the fiduciary, “the tax shall not be paid by the fiduciary, but there shall be included in computing the net income of each beneficiary his distributive share, whether distributed or not, of the net income of the estate or trust for the taxable year.” The corresponding subdivision of section 219 of the Revenue Act of 1921 provides that in the cases referred to “ the tax shall not be paid by the fiduciary, but there shall be included in computing the net income of each beneficiary that part of the income of the estate or trust for its taxable year which, pursuant to the instrument or order governing the distribution, is distributable to such beneficiaries, whether distributed or not.”

Under the last will and testament of Isaac Mason, Sarah F. Mason was entitled to receive during her lifetime the entire net income of his estate. The net income of the estate was therefore income “to be distributed to the beneficiaries periodically,” within the meaning of subdivision (d) of section 219 of the Revenue Act of 1918, and also “the income of the estate or trust for its taxable year which, pursuant to the instrument or order governing the distribution, is distributable to such beneficiary,” within the meaning of subdivision (d) of section 219 of the Revenue Act of 1921, and under these sections is taxable to the beneficiary and not to the fiduciary. We are of the opinion that the facts of this appeal bring it clearly within the provisions of subdivision (d) of section 219 of the Revenue Act of 1918, and subdivision (d) of section 219 of the Revenue Act of 1921, and that there should be included, in computing the net income of Sarah F. Mason as beneficiary under the last will and testament of Isaac Mason for the years 1918 to 1921, inclusive, the entire net income of the estate or trust for those years, regardless of the fact that it was not actually paid to her.

It is not considered necessary to discuss the question whether the income involved herein is to be treated as income of an estate in course of administration or as income of a trust. If income of an estate during the period of administration, it was deductible by the executors, under subdivision (c) of section 219 of both the Revenue Acts of 1918 and 1921, as income properly paid or credited to the beneficiary, and if income of a trust, it was clearly income which was to be distributed to the beneficiary periodically or which, pursuant to the instrument or order governing the distribution was distributable to such beneficiary. The treatment of the income must therefore be the same in either case, and the result is that the entire net income of the estate or trust is taxable to the beneficiary and not to the fiduciary.

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


author: SteRniiagen :

text:
    Appeal of Northwestern Yeast Co.
    Docket No. 1511.
    Decided October 27, 1926.
    A corporation expended large sums of money in an advertising and promotion campaign over a period of years, and the portions thereof respectively allocable to capital for the building up of future business, and to current expense for the maintenance of current business, can not be segregated. Held, the disallowance of the entire expenditure and of any portion thereof as invested capital is proper. Held; further, that under the facts of this case the petitioner is entitled to have its profits tax computed under the provisions of section 328 of the Revenue Act of 1918.

      William M. Williams, Esq., and John G. Weisbach, Esq., for the petitioner.

      Lee I. Park, Esq., for the Commissioner.
    Deficiency for 1920 of $246,486.97 income and profits tax. Originally the petition alleged several errors, but by withdrawal, stipulation or other disposition the only issue now in dispute is the petitioner’s right to include in its invested capital an aggregate amount of $2,734,900.31, alleged to have been expended by it prior to 1909 in an advertising and promotion campaign and charged off at the time of expenditure through profit and loss. The parties at the hearing presented an agreed statement of facts, all of which, with certain minor changes in form, is embodied in the following findings. This statement was supplemented by oral testimony of witnesses for the petitioner.
    FINDINGS OF FACT.
    The petitioner was incorporated in Illinois on April 14, 1893, with a capital stock of a par value of $1,000,000, all of which was subscribed and paid for in cash.
    Shortly after its incorporation petitioner purchased for $600,000 all of the assets of the Northwestern Yeast Co. of Wisconsin, which had been manufacturing and selling a product known as “ Yeast Foam.” At about the same time petitioner also purchased for $400,-000 all of the assets of a business which had been conducted by E. W. Gillett, of Chicago, Ill., consisting of the manufacture and sale of another yeast product known as “ Magic Yeast.”
    The products manufactured by the petitioner were the said Magic Yeast and Yeast Foam, and in 1893 the sales of these products were largely limited to farmers and to housewives in small villages and towns who did their own baking. The business was confined to certain localities in the States of Illinois, Iowa, Kansas, Michigan, Minnesota, Missouri, and Wisconsin; and in other localities ■ the products were known or used but slightly or not at all. .
    Petitioner adopted a plan to expand and enlarge its sales territory to include the entire United States, organized- an advertising department, and borrowed $30,000 for advertising purposes.
    The plan consisted of a selection of routes in the localities where the products were not known or used, or were but slightly known and used, and the distribution of samples of its products to the housewives in those localities. These distributions were made by persons employed for the purpose, whose salary and expenses were paid by the petitioner. These persons also posted at prominent places in the localities signs advertising the products and distributed illustrated printed matter respecting the products. These persons were not employed as salesmen and did not attempt to sell any goods. No salesmen were employed because they were considered unnecessary and likely to defeat the plan by overselling and thus to bring about a surplus of stale goods in the hands of dealers.
    Pursuant to the plan, the petitioner mapped out each year additional territory in which it distributed samples of its products and advertising matter. After 1908 no further territory was added, except that localities which were within the limits of existing routes would be included when the population increased sufficiently to justify such action.
    From 1893 to 1908, both inclusive, petitioner expended $2,884,-172.51, included in its advertising account. From 1909 to 1921, inclusive, petitioner expended $3,580,763.16 for advertising. These amounts are shown more in detail as follows:

    In addition to the foregoing expenditures petitioner expended various sums for replacing its stale products in the hands of dealers with fresh articles, which method is known by it as the “ supporting method ” of advertising. This was facilitated by the use of an age key denoting the date of manufacture which was placed by petitioner upon each box of its yeast. These replacements were made by the persons who distributed the samples. The cost of the goods used for such replacements, not including the cost of distribution, from 1893 to 1908, inclusive, and from 1909 to 1921, inclusive, is as follows:

    The cost of distributing these replacements is included in the advertising costs set forth above, but the portion attributable thereto, although slight, can not be segregated.
    All the foregoing amounts, and also the amount of $2,884,172.51 and the amount of $3,580,768.16 shown above, were charged to profit and loss on petitioner’s books in the particular year in which they were incurred. In addition petitioner had certain overhead expenses in making such replacements which were charged to general expenses and as to which no segregation can be made.
    The number of cakes of its yeast products produced and sold by petitioner from 1893 to 1921, inclusive, and the number of cakes distributed as samples and to replace stale cakes, are as follows:

    The sale by the petitioner of its products was practically confined to the smaller towns and country districts, and prior to 1908 it encountered very little competition. About the year 1908 competition became very keen, due mainly to improved methods of transportation whereby other yeast and bakers’ bread could be marketed in the smaller communities.
    The distribution of samples and the replacement of stale products in the hands of dealers was continuous throughout the period from 1893 to 1921, over its entire sales territory.
    Petitioner’s gross sales and net profits from 1893 to 1908, inclusive, and from 1909 to 1921, inclusive, are as follows:

    Petitioner expended $108,444.30 in the acquisition of the following yeast concerns: Diamond Yeast Co., McCullough Co., On Time Yeast Co., Yeast Wafer Co., Burroughs Yeast Co., and Yeast Froth Co. This amount was included in its advertising account and the parties agree that it should be included in invested capital.
    One million dollars was expended for advertising prior to petitioner’s incorporation and the parties agree that it should be excluded from invested capital.
   OPINION.

SteRniiagen :

The petitioner seeks to have included in its statutory invested capital an amount of $2,734,900.31, which was expended by it prior to 1909, as shown in the findings. These expenditures, it is said, were not current expenses but were investments by the petitioner in a capital asset, which it calls its “ intangible structure,” made to establish and build up its business for the future, irrespective of the immediate return. The items were not capitalized in the petitioner’s accounts but were written off currently through profit and loss; but petitioner attributes this to overconservative bookkeeping which it says should not preclude full consideration of the true nature of the outlay. Without going further, we adopt this view as correct, leaving it to a consideration of other facts as well as bookkeeping to determine the proper treatment of the expenditures and the taxpayer’s rights under the statute.

From the evidence, most of which as to essential facts is not in dispute, we gather, and the Commissioner admits, that substantia] sums were spent by this corporation in the early period of its existence in the promotion and expansion of its business. The taxpayer argues that all of the amount in question was so spent and hence was an investment. The Commissioner urges that some part was not promotion and expansion but was the cost of maintenance and hence not invested but properly chargeable against current income. Thus it will be seen that the question becomes one of evidence of the extent to which the amount in question is to be classified and apportioned between capital and expense.

The Commissioner raises the shield of the burden of proof to defend his complete disallowance, the argument being that there can be no allocation to capital except to the extent actually proven, and since it is clear from the evidence that some uncertain part of the amount, however slight, is not capital, no allowance can be made. Falsus in uno, falsus in omnibus.

There can be little doubt in the minds of reasonable men fairly acquainted with modern business that promotion expenditures like those before us have a significance similar to the investment in more tangible assets. They fertilize the field for new production. The free distribution of samples at the state fair is justified only if it lures a new customer. It was not to the housewife already convinced that the petitioner planned to give away its samples of yeast year after year, but to one who would become a new unit in its expanding business. In this way it was risking new capital in the business in the hope of future profits — making an investment. Whether this investment is to be called good will or trade name or trade-mark, or something else, is unimportant. It may not need a name, except for accounting purposes, in order to reflect the expenditure and yet not ignore its investment significance.

Generally and theoretically, therefore, it is safe to say that some part of the cost of a campaign or system of promotion may be of permanent significance and may be regarded as a capital investment rather than a deductible expense. But how far in a given case the recognition of this doctrine may require the capitalization of some expenditures and the charging off of others is hard to say. Clearly, when the question is submitted for judicial consideration, it may not be answered ab inconvenienti by an arbitrary rule. The present case demonstrates this clearly. The petitioner during all the twenty-nine years of its life through 1921 spent amounts of similar character which it classified similarly in its accounts. These it claims were capital before 1909, although it deducted them as expense after 1908. Obviously no such distinction existed in fact, even if petitioner’s alleged peak of expansion occurred in 1908. To say that before the alleged peak, when there was no tax based on income, no part was current expense, and immediately thereafter, when taxable income could be reduced by these deductions, all of it was current expense, would require support greater than appears in che present record. The officer’s statement is not convincing.

Looking alone to the years prior to 1909 covered by the claim, we find no such evidence as enables üs to say with any assurance how much capital ⅞-as invested and how much of the outlay was properly charged oif. As to each class of expenditure the record shows the amount spent each year. Each one varied from year to year. Take, for example, the three items of agents’ expenses, agents’ salaries, and promotion men’s salaries and expenses.

These wide variations lead one, in the abseiice of any further knowledge, to doubt that there was any consistent policy of investment or any satisfactory way of determining a fair allocation; Perhaps it would be reasonable to believe that as time went on and the business grew the proportion of capital decreased and current maintenance increased. But as to this the Board has no knowledge of the probabilities and there is no proof. It is not a matter of judicial notice, and we are not permitted to guess. If anyone has any evidence upon which an allocation can be predicated, such evidence must be produced by the petitioner. Any analysis which this Board might otherwise make of the bare figures in evidence would require assumptions that it is not our province to make.

We are therefore constrained to approve the Commissioner’s dis-allowance notwithstanding our approval of the general contention of the petitioner’s counsel that in a proper case invested capital may include a proper part of the amounts expended for promotion in the early period of a business.

The impossibility of finding the portion to be capitalized brings the case squarely within section 321, Revenue Act of 1918, and it is our opinion that an investigation should be made by the Commissioner under section 328, so that if the amount of tax paid by comparable corporations is such as to reduce the petitioner’s deficiency, that may be done.

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


author: Smith:

text:
    Durabilt Steel Locker Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 3121.
    Decided October 27, 1926.

      J. W. Fisher, Esq., for the respondent.
   Smith:

This is a proceeding for the redetermination of a deficiency in income tax for the fiscal year ended April 30, 1923, in the amount of $793.94, arising from the disallowance of a deduction from gross income of a net loss sustained for the period May 7, 1921, to April 30, 1922.

FINDINGS OF FACT.

The petitioner was incorporated under the laws of Illinois on May 7, 1921, and kept its books of account on a fiscal year basis ended April 30. For the fiscal period ended April 30, 1922, the petitioner had a net loss of $6,351.49. It filed án income-tax return for the succeeding fiscal year ended April 30, 1923, which, before the deduction of the net loss shown upon its return for the preceding year, showed a net income of $13,234.36. From this total it deducted the net loss for the preceding fiscal period in the amount of $6,351.49. The Commissioner has disallowed the deduction of this net loss for such fiscal period and has computed the deficiency accordingly.

Judgment will he entered for the petitioner. Appeal of Carroll Chain Co., 1 B. T. A. 38.


author: Green :

text:
    James F. Kutz, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 5309.
    Decided October 27, 1926.
    Tbe amounts paid as premiums on life insurance may not be deducted from gross income in tbe computation of net income.

      James F. Kutz pro se.

      Robert A. Littleton, Esq., for the respondent.
    This is a proceeding for the redetermination of a deficiency in income tax for the calendar year 1922 in the amount of $26.29. The taxpayer assigns error on the part of the Commissioner in refusing to allow as deductions in computing net income the premiums which the taxpayer paid on his war risk insurance during the calendar year 1922.
   OPINION.

Green :

This appeal has been submitted on the petition filed by the taxpayer and the answer thereto filed by the Commissioner. The answer admits only the date of the deficiency letter and the amount of the taxes in controversy. All the other averments of the petition are specifically denied. We assume the insurance premiums sought to be deducted by the taxpayer are for the annual premiums paid during the calendar year 1922 on his war risk insurance. Section 215 of the Revenue Act of 1921 specifies the items that are not deductible in computing the net income of an individual. The premiums which the taxpayer paid during the year 1922 fall within the non-deductible items enumerated by the statute.

Judgment will be entered for the Commissioner.


author: GRRen :

text:
    M. Cohen, Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 1071.
    Decided October 27, 1926.

      Held, that there was no evidence to warrant a conclusion that the Commissioner was not correct in determining that the petitioner’s net income was 18 per cent of , his gross sales.

      M. Cohen pro se.

      Robert A. Littleton, Esq., for the respondent.
    This is a proceeding for the redetermination of a deficiency in income taxes for 1922 and 1923 in the amount of $1,486.29.
    FINDINGS OF FACT.
    The taxpayer is an individual residing at Corsicana, Tex., and is engaged in the wholesale grocery business on a commission basis. He does not operate on a very large scale, and for that reason a number of the larger firms, such as the American Tobacco Co., do no business with him. This makes it necessary for him to procure much of his goods from local jobbers, thereby reducing his commissions.
    The taxpayer has never kept a complete set of books, and in his income-tax returns for the years in question reported as gross income amounts equal to 10 per cent of his gross sales for those years. Gross sales were $72,306.90 for 1922 and $141,396.94 for 1923. Upon audit of the taxpayer’s returns the Commissioner increased gross income to 18 per cent of the gross sales. This increase was based upon the average gross profits of other concerns in the United States doing a similar business.
   OPINION.

GRRen :

The taxpayer did not during the taxable years keep records from which his income could accurately be determined, and m making his returns estimated that 10 per cent of his gross sales was a fair return of income. The Commissioner has concluded on the facts before him that a return of 18 per cent of total sales properly reflects the taxpayer’s gross profits, and the burden is now on the petitioner to show error in this determination. This he has failed to do. He has testified as to conditions-existing which might tend to reduce profits to a smaller percentage of his total sales, and with reference to certain commodities has testified as to the percentage of profit which he “ figured ” (whatever that may mean) he made thereon, but at the most these are merely estimates and are not based on known facts.

Judgment will ~be entered for the Commissioner.


author: GReen:

text:
    Meadows & Company, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket No. 114.
    Decided October 27, 1926.
    In the circumstances of this proceeding, held, that the value of a stock subscription agreement may not be included in invested capital for the taxable years.

      Walton D. Taylor, Esq., for the petitioner.

      John D. Foley, Esq., for the respondent.
    This is a proceeding for the redetermination of deficiencies in income and excess-profits taxes for the fiscal years ended January 31, 1919, and January 31, 1920, in the amounts of $6,491.96 and $1,319.62, respectively.
    The issue is whether the value of certain subscriptions for capital stock in the amount of $38,900 may be included in invested capital.
    FINDINGS OF FACT.
    The petitioner is a Texas corporation engaged in the wholesale grocery business, with principal office at Waco, Tex. In September, 1917, the stockholders of two Texas corporations engaged in the wholesale grocery business decided to dissolve them and organize the petitioner as a successor corporation. One of the corporations to be dissolved, having a capital stock of $200,000, was engaged in business in Waco, Tex., under the name of Taylor-Hanna-James Co., and the other corporation, the Meadows Grocery Co., .was engaged in business in Comanche County, Tex. On September 17,. 1917, a contract was executed by the president of the Meadóws Grocery Co. and the vice president of the Taylor-Hanna-James. Co., on behalf of the stockholders of the respective corporations, whereby most of the assets of the two corporations were to be transferred to the new corporation which eventually became the petitioner. The new corporation was to issue its stock in payment for certain assets of the Taylor-Hanna-James Co. and assume certain of its obligations. The contract provided that the stockholders of the Taylor-Hanna-James Co. would subscribe for $50,000 of the stock in the new corporation and that the Taylor-Hanna-James Co. would retain and collect all its outstanding accounts and bills receivable and would apply the proceeds thereof, as collected, first, to the payment of any amounts due the creditors of the Taylor-Hanna-James Co., and the balance to the subscription of $50,000 of stock in the new corporation by the stockholders of the Taylor-Hanna-James Co. If, after collecting all accounts and bills receivable, there remained any balance due upon the subscription of $50,-000, then the stockholders of the Taylor-Hanna-James Co. in the new corporation would have fifteen months from the date of the contract within which to pay the balance of said subscription. Shortly after the execution of the contract the stockholders of the Taylor-Hanna-James Co. delivered to the new corporation goods and merchandise of the value of $11,100, leaving $38,900 due to the subscriptions.
    On April 8, 1918, C. W. Meadows took over and assumed the obligation of $38,900 of the stockholders of the Taylor-Hanna-James Co. under the subscription contract.
    The $50,000 of stock of the new corporation was not issued at the date of execution of the contract on September 17, 1917, nor was it issued until actual payment was made for the stock. No motes were received from the stockholders to secure pajunent for the stock.
   OPINION.

GReen:

The petitioner claims that its invested capital, for the years in question, of $38,900 should be increased by an amount equal to the subscription to its stock by the stockholders of- the Taylor-Hanna-James Co., and relies on the decision in Appeal of Hewitt Rubber Co., 1 B. T. A. 424, in support of its contention. The facts in the Appeal of Hewitt Rubber Co. were that Hewitt actually delivered his note on April 1, 1918, in the sum of $1,000,000 for $1,000,000 par value of the stock of the company; that on April 1, 1918, the certificate for $1,000,000-'par value of stock was issued to Hewitt and registered with the corporation’s transfer agent. Hewitt regularly paid interest to the corporation on the note given for the stock, received dividends, and actually paid the note for $1,000,000 during the year 1918.

The facts in this appeal are quite different. No stock was actually issued or delivered until full payment had been made therefor; no notes were received from the stockholders.

We have had occasion to consider a question similar to the one here in issue in Appeal of Central Consumers Wine & Liquor Co., 1 B. T. A. 1190, and we see no reason to depart from the decision rendered in that appeal. See also Appeal of Forge Coal Mining Co., 2 B. T. A. 975.

Judgment will be entered for the Commissioner.


author: Smith :

text:
    Lindsey-Long Coal & Lumber Co., Petitioner, v. Commissioner of Internal Revenue, Respondent.
    Docket Nos. 11279, 11669.
    Decided October 29, 1926.
    Reasonable compensation paid to officers of a corporation held deductible from gross income.

      Lee C. Bradley, Jr., Esq., and E. L. All, Esq., for the petitioner.

      W. Frank Gibbs, Esq., for the respondent.
    This is a proceeding for the redetermination of deficiencies in income and profits taxes for the years 1920, 1921, 1922, and 1923, in an aggregate amount of less than $10,000. The two appeals, involving different tax years, were, on motion of counsel, consolidated for the purpose of the hearing and decision. The petitioner waives its claim to the deduction of 'certain bad debts in its income-tax return for 1921, the amount of which was disallowed by the Commissioner, and also its claim to the deduction of $2,400 of the amount’ deducted as compensation for officers for the year' 1922. At the hearing it waived its objection to the determination of the deficiency with respect to the year 1923.
    •FINDINGS OF FACT.
    The petitioner is an Alabama corporation, organized in May, 1915, with a paid-up capital stock of $5,000, which was later increased to $15,000. In 1916 the petitioner was actively engaged in the retail lumber business! J. E. Lindsey was president and A. R. Long was secretary from its inception to 1923. Lindsey devoted all of his time to the business until January 15, 1922. During that period he was not only the chief executive but also the only salesman, the only collector, and the only buyer of lumber for the petitioner. Long was vice president, of a large coal' mining company, secure. 1 business for the petitioner, which was handled by Lindsey, ai l was in frequent touch with Lindsey with respect to the buying and selling policies and with respect to other details of the business. Gross sales for the years 1919 to 1922, inclusive, were as follows:
    1019_'_$246,820.38
    1920_ 336, 943.32
    1921_ 320,607.45
    1922_ 35,433.38
    The business was sold out to the Scott Lumber Co. on January 15, 1922. The tax returns filed for the years above enumerated show net income as follows:
    1919_$13, 849. 33
    1920_ 18, 058.66
    1921_ 9,735. 89
    1922_ 5,521.01
    The amounts deducted for compensation of officers on the returns were as follows:
    1919_$2,775
    1920_14,050
    1921_14,200
    1922_ 6, 400
    During the years 1920 to 1922, inclusive, the entire stock of the corporation, divided into 150 shares, was owned by J. E. Lindsey, A. R. Long, and P. L. Whiteside. On January 1, 1920, Lindsey owned 51 shares, Long owned 58½ shares, and Whiteside owned the balance. Whiteside’s stock was acquired by Lindsey and Long in 1920 and 1921. Long never received anjr compensation for his services to the company prior to 1920, and Whiteside never received any compensation whatever. Lindsey was paid a salary of $300 per month during the first three months of 1920, and a salary of $350 per month during the last nine months of that year. On December 28, 1920, at a meeting of the three stockholders, he was voted additional compensation in the amount of $6,100, and Long was voted compensation in the amount of $3,900. The corporation was not in funds to pay the additional amounts in cash, and it gave Lindsey and Long notes for the amounts voted, which notes were paid off during the succeeding year. During the year 1921, Lindsey was paid a monthly salary of $350, and at the close of the year additional compensation of $5,000 was voted to Lindsey and an equal amount was voted to Long. These amounts were paid by notes, which notes were paid during the succeeding year.
    During the first four months of 1922, Lindsey was paid a salary at the rate of $350 per month, and, during the next six months, at the rate of $100 per month. At the end of the year he was voted additional compensation of $2,000, which, compensation was paid by note, and the note was later liquidated.
    The petitioner’s books of account were kept upon the accrual basis. They show the payment of only $4,000 as compensation for officers for the year 1922.
    Of the amounts claimed as deductions from gross income for compensation of officers, the Commissioner disallowed the deduction of $7,050 for the year 1920, $7,200 for 1921, and $4,200 for 1922. The petitioner admits that $2,400 of the amount disallowed for 1922 was properly disallowed.
   OPINION.

Smith :

The amounts of compensation claimed as deductions from gross income in the petitioner’s tax returns for 1920, 1921, and 1922, were payments of salaries to officers rendering services to' the company during thosé years. They were not, in our opinion, unreasonable deductions.

During the year 1920, Lindsey and Long each owned approximately one-third of the capital stock of the corporation. During the year 1921 they acquired Whiteside’s stock, and at the close of the year they owned all of the stock of the corporation, but in what proportion is not in evidence. We can not make any finding that the amounts paid were in effect distributions of profits. In the light of the record, we can not do otherwise than to find that the salaries paid to officers were ordinary and necessary expenses of doing business, and as such were deductible from gross income.

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

Trammell dissents.