Opinion
Docket No. 18665.
1949-07-13
LINCOLN STORAGE WAREHOUSES, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Andrew B. Crummy, Esq., for the petitioner. Stanley W. Herzfeld, Esq., for the respondent.
Petitioner corporation, on the accrual basis, credited the account of its sole stockholder, who was on the cash basis, with certain amounts for rents, salary, and interest over a period of years up to and including 1943 and part of 1944 and, after the stockholder's death in 1944, credited the account of the stockholder's estate, which respondent determined to be on the cash basis, with further items. Petitioner made cash payments in 1943 to the stockholder and in 1944 to the stockholder and to his estate. There was no application either by petitioner or by the recipients of any of these payments in satisfaction of any particular credit or credits. In its return for 1943 petitioner deducted from gross income the amounts which it had credited to the account of the stockholder in 1943, and in its return for 1944 the amounts which it had credited to the accounts of the stockholder and of his estate in 1944. Held, that, under the law of New Jersey, the cash payments to the stockholder in 1943 should be applied first to the amounts credited prior to 1943 and then to the amounts credited in 1943, and the cash payments to the stockholder and to his estate in 1944 should be applied first to the amounts credited prior to 1944 and then to the amounts credited in 1944. Accordingly, a portion of the amounts credited to the stockholder in 1943 was not paid by petitioner in 1943 or within 2 1/2 months after the close therof, and a portion of the amounts credited to the stockholder and to his estate in 1944 was not paid by petitioner in 1944 or within 2 1/2 months after the close thereof. Therefore, respondent did not err in disallowing, under section 24(c) of the Internal Revenue Code, the deduction of these portions from petitioner's gross income in 1943 and 1944. Andrew B. Crummy, Esq., for the petitioner. Stanley W. Herzfeld, Esq., for the respondent.
Respondent determined deficiencies for the taxable years 1943 and 1944 as follows:
+---------------------------------------------------+ ¦ ¦ ¦Declared ¦ ¦ +----------+----------+--------------+--------------¦ ¦Year ¦Income tax¦value ¦Excess profits¦ +----------+----------+--------------+--------------¦ ¦ ¦ ¦excess profits¦tax ¦ +----------+----------+--------------+--------------¦ ¦ ¦ ¦tax ¦ ¦ +----------+----------+--------------+--------------¦ ¦ ¦ ¦ ¦ ¦ +----------+----------+--------------+--------------¦ ¦1943------¦$77.51 ¦$3,437.36 ¦$19,449.14 ¦ +----------+----------+--------------+--------------¦ ¦1944------¦None ¦441.36 ¦2,481.42 ¦ +---------------------------------------------------+
The questions presented are: (1) Do the provisions of section 24(c) of the Internal Revenue Code require the disallowance by respondent of the deduction by petitioner of $20,330.95 in its income tax return for the taxable year 1943? (2) Do the provisions of section 24(c) of the Internal Revenue Code require the disallowance by respondent of the deduction by petitioner of $1,816.84 in its income tax return for the taxable year 1944?
The case was submitted upon the pleadings, a stipulation of facts, and a supplemental stipulation of facts, including attached exhibits. The stipulation and supplemental stipulation are adopted by reference and the facts therein set forth are found by us.
It was stipulated that petitioner concedes that, of the amount of $27,132.66 disallowed as a deduction for interest, rents, and salary by respondent for the taxable year 1943, the amount of $6,801.71 claimed as a deduction for interest was not a deductible item and was therefore properly disallowed without regard to section 24(c) of the Internal Revenue Code.
FINDINGS OF FACT.
Petitioner is a corporation, organized in 1917 under the laws of the State of New Jersey. Its income and excess profits tax returns for 1943 and 1944 were filed with the collector of internal revenue at Newark, New Jersey.
From December 31, 1917, to June 26, 1944, Reginald T. Blauvelt, Sr., owned all of petitioner's outstanding stock. He died on June 26, 1944. On that date the estate of Reginald T. Blauvelt, Sr., deceased became the owner of all of petitioner's outstanding stock and continued to own all of the stock at all times material to this proceeding. Also on that date, all legal claims which Reginald T. Blauvelt, Sr., had against petitioner became assets of his estate.
At all times material to this proceeding petitioner used the accrual method of accounting in keeping its books of account and in preparing and filing its income and excess profits tax returns. At all times material to this proceeding Reginald T. Blauvelt, Sr., used the case receipts and disbursements method of accounting in keeping his books of account and in preparing and filing his income tax returns.
The following schedule shows a summary of the account of Reginald T. Blauvelt, Sr., on the books of petitioner for the period January 1, 1935; to June 30, 1944, and a summary of the account of the estate of Reginald T. Blauvelt, Sr., deceased, on the books of petitioner for the period July 1, 1944, to December 31, 1944, and the amounts reported in the income tax returns of Reginald T. Blauvelt, Sr., and of his estate for the years 1935 to 1944, inclusive, on account of sums accrued on the books of petitioner for rent, salary, and interest.
Credits to Account
+------------------------------------------------------------+ ¦Year ¦Salary ¦Interest ¦Rents ¦Loans and¦Total credits¦ +----------+-------+---------+-------+---------+-------------¦ ¦ ¦ ¦ ¦ ¦advances ¦ ¦ +----------+-------+---------+-------+---------+-------------¦ ¦ ¦ ¦ ¦ ¦ ¦ ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1935---- ¦$4,800 ¦------- ¦$38,100¦---------¦$42,900.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1936---- ¦4,800 ¦------- ¦38,100 ¦$1,000.00¦43,900.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1937---- ¦-------¦---------¦38,100 ¦375.00 ¦38,475.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1938---- ¦-------¦---------¦38,100 ¦140.00 ¦38,240.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1939---- ¦-------¦---------¦38,100 ¦---------¦38,100.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1940---- ¦-------¦---------¦38,100 ¦---------¦38,100.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1941---- ¦-------¦---------¦38,100 ¦---------¦38,100.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1942---- ¦6,000 ¦---------¦37,725 ¦---------¦43,725.00 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1943---- ¦6,000 ¦$6,801.71¦36,600 ¦1,990.00 ¦51,391.71 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1944 1 --¦3,000 ¦1,118.88 ¦18,250 ¦1,024.00 ¦23,392.88 ¦ +----------+-------+---------+-------+---------+-------------¦ ¦1944 2 --¦-------¦755.13 ¦18,350 ¦128.50 ¦19,233.63 ¦ +------------------------------------------------------------+
+----------------------------------------------------------------+ ¦ ¦ ¦Balance of account ¦Reported in personal ¦ ¦ +----+-----------+-------------------+---------------------+-----¦ ¦ ¦Payments ¦¦income tax returns¦ ¦ ¦ ¦ ¦ ¦end of year¦¦ ¦ ¦ ¦ ¦ +----+-----------+-------------------+---------------------+-----¦ ¦Year¦and other ¦-------------------¦---------------------¦Rents¦ +----+-----------+-------------------+---------------------+-----¦ ¦ ¦charges ¦¦ ¦ ¦ ¦ ¦ +----------------------------------------------------------------+
Debit Credit Salary Interest 1935---- $29,370.92 ------- $37,138.80 $5,037.00 --------- $24,311.00 1936---- 60,074.35 ------- 52,964.45 4,800.00 --------- 22,995.00 1937---- 33,249.31 ------- 58,190.14 ---------- --------- 32,874.31 1938---- 30,735.90 ------- 65,694.24 ---------- --------- 30,735.90 1939---- 35,280.00 ------- 68,514.24 ---------- --------- 35,275.00 1940---- 34,308.33 ------- 72,305.91 ---------- --------- 34,313.33 1941---- 47,935.00 ------- 62,470.91 ---------- --------- 47,935.00 1942---- 50,466.26 ------- 55,729.65 6,000.00 --------- 37,725.00 1943---- 64,388.75 ------- 42,732.61 6,000.00 $6,801.71 36,600.00 1944 1 -- 33,147.45 ------- 32,978.04 3,000.00 1,118.88 18,250.00 1944 2 -- 34,092.32 ------- 18,119.35 ---------- 755.13 18,350.00 FN2 Estate of Reginald T. Blauvelt, Sr., deceased, to December 31, 1944.
None of the payments by petitioner to Reginald T. Blauvelt, Sr., or to his estate referred to in the above schedule which were debited to the accounts of Reginald T. Blauvelt, Sr., and his estate was applied by either petitioner or the recipients in satisfaction of any particular credit or credits in the accounts of the recipients.
In its income and declared value excess profits tax return for 1943 petitioner deducted from gross income and showed as credits to the account of Reginald T. Blauvelt, Sr., the following items:
+--------------------+ ¦Salary ¦$6,000.00 ¦ +--------+-----------¦ ¦Interest¦$6,801.71 ¦ +--------+-----------¦ ¦Rents ¦$36,600.00 ¦ +--------+-----------¦ ¦Total ¦$49,401.71 ¦ +--------------------+
The Commissioner disallowed $27,132.66 of the deductions, contending that that amount should have been applied to the reduction of a credit balance owing Blauvelt growing out of transactions of prior years and that it was not a permissible deduction during the taxable year.
The Commissioner's disallowance was computed as follows:
+--------------------------------------------------------------------------+ ¦Credit balance due Reginald T. Blauvelt, Sr., for ¦ ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦interest, rents, and salary as of December 31, ¦ ¦ ¦ +---------------------------------------------------------------+----------¦ ¦1943, (see schedule) ¦$42,732.61¦ +---------------------------------------------------------------+----------¦ ¦Payments made to Reginald T. Blauvelt, Sr., for ¦ ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦interest, rents, and salary during the period ¦ ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦January 1 to March 15, 1944, incl ¦$14,649.95¦ ¦ +----------------------------------------------------+----------+----------¦ ¦Loans and advances by Reginald T. Blauvelt, Sr., to ¦ ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦petitioner during the period January 1 to December ¦ ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦31, 1943, inclusive ¦950.00 ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦ ¦ ¦15,599.95 ¦ +----------------------------------------------------+----------+----------¦ ¦Amount disallowed for interest, rents, and salary ¦ ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦allegedly paid to Reginald T. Blauvelt, Sr., ¦ ¦ ¦ +---------------------------------------------------------------+----------¦ ¦for the year 1943 ¦27,132.66 ¦ +---------------------------------------------------------------+----------¦ ¦Interest (see schedule)—conceded by petitioner to be¦ ¦ ¦ +----------------------------------------------------+----------+----------¦ ¦properly disallowed without regard to section 24 (c)¦ ¦ ¦ +---------------------------------------------------------------+----------¦ ¦Internal Revenue Code ¦6,801.71 ¦ +---------------------------------------------------------------+----------¦ ¦Portion of disallowed deduction at issue ¦20,330.95 ¦ +--------------------------------------------------------------------------+
In its income and declared value excess profits tax return for 1944 petitioner deducted from gross income and showed as credits to the account of Reginald T. Blauvelt, Sr., the following items:
+--------------------+ ¦Salary ¦$3,000.00 ¦ +--------+-----------¦ ¦Interest¦$1,118.88 ¦ +--------+-----------¦ ¦Rents ¦$18,250.00 ¦ +--------+-----------¦ ¦Total ¦$22,368.88 ¦ +--------------------+
The Commissioner disallowed $1,816.85 of the deductions, contending that that amount should have been applied to the reduction of a credit balance owing to Blauvelt growing out of transactions of prior years and that it was not a permissible deduction during the taxable year.
The Commissioner's disallowance was computed as follows:
+-----------------------------------------------------------------------------+ ¦Credit balance due Estate of Reginald T. Blauvelt, Sr.,¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦deceased, for interest, rents, and salary as of ¦ ¦ ¦ +------------------------------------------------------------------+----------¦ ¦December 31, 1944, (see schedule) ¦$18,119.35¦ +------------------------------------------------------------------+----------¦ ¦Payments made to estate of Reginald T. Blauvelt, Sr., ¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦Deceased, for interest, rents, and salary during the ¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦January 1 to March 15, 1945, inclusive ¦$15,150.00¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦Loans and advances made by Reginald T. Blauvelt. Sr., ¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦and by the estate of Reginald T. Blauvelt, Sr., ¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦deceased, to petitioner during the period January 1 ¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦to December 31, 1944, inclusive, (see schedule) ¦1,152.50 ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦ ¦ ¦16,302.50 ¦ +-------------------------------------------------------+----------+----------¦ ¦Amount disallowed for interest, rents and salary ¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦allegedly paid to Reginald T. Blauvelt, Sr., and to ¦ ¦ ¦ +-------------------------------------------------------+----------+----------¦ ¦the estate of Reginald T. Blauvelt, Sr., deceased, ¦ ¦ ¦ +------------------------------------------------------------------+----------¦ ¦for the year 1944 ¦1,816.85 ¦ +-----------------------------------------------------------------------------+
After examination of the income tax returns of Reginald T. Blauvelt, Sr., for the years 1942 and 1943 and for the period January 1 to June 26, 1944, and of the estate of Reginald T. Blauvelt, Sr., deceased, for the period June 26 to December 31, 1944, the internal revenue agent, in charge of reports of examination addressed to the estate of Reginald T. Blauvelt, Sr., deceased, proposed to adjust the reported incomes as follows:
+--------------------------------------------------------------+ ¦Rent and Salary Income of Reginald T. Blauvelt, Sr., for 1942.¦ +--------------------------------------------------------------¦ ¦ ¦ ¦ ¦ +--------------------------------------------------------------+
As Reported by Taxpayer (see schedule) As Adjusted Salary $6,000.00 $50,466.26 (Actual amount of Rent 37,725.00 cash received— see schedule) $43,725.00
The difference, $6,741.26, was added to income because the taxpayer was on the cash basis, the report stated.
+--------------------------------------------------------------+ ¦Rent and Salary Income of Reginald T. Blauvelt, Sr., for 1943.¦ +--------------------------------------------------------------¦ ¦ ¦ ¦ ¦ +--------------------------------------------------------------+
As Reported by Taxpayer (see schedule) As Adjusted Salary $6,000.00 $62,398.75 (Actual amount of Interest 6,801.7 cash received, Rent 36,600.00 less loans and advances — see 49,401.71 schedule)
Rent and Salary Income of Reginald T. Blauvelt, Sr., for the period January 1, 1944, to June 26, 1944.
As Reported by Taxpayer (see schedule) As Adjusted Salary $3,000.00 $32,123.45 (Actual amount of Interest 1,118.88 cash received, Rents 18,250.00 less loans and advances — see $22,368.88 schedule)
Rent Income of the Estate of Reginald T. Blauvelt, Sr., Deceased, for the period June 26, 1944, to December 31, 1944.
As Reported by Taxpayer (see schedule) As Adjusted Rents $18,350.00 $19,105.13 Interest 755.13 * 32,978.04 $19,105.13 $52,083.17 FN* Back rent collected by taxpayer and not previously reported by the decedent.
In this report of examination an additional deduction of $4,573.62 not claimed by the estate on its return and not germane to the matters at issue here was proposed.
The above deficiencies in income tax of Reginald T. Blauvelt, Sr., for 1943, and for the period January 1 to June 26, 1944, and of the estate of Reginald T. Blauvelt, Sr., deceased, for the period June 26 to December 31, 1944, have been assessed by the respondent.
OPINION.
HARLAN, Judge:
Respondent disallowed the deduction by petitioner of $27,132.66 in its income tax return for 1943, of which the amount of $20,330.95 is in controversy, and of $1,816.85 in its income tax return for 1944. The disallowances were computed as set forth in our findings of fact. We shall discuss these disallowances in the order named.
MURDOCK, J., dissenting:
The prevailing opinion denies the petitioner deductions by carrying section 24(c) beyond its intended purpose. The petitioner is on an accrual basis. The general rule is that it is entitled to deduct items of the character involved herein when it incurs a liability to pay them and accrues them on its books. Those things all occurred in the taxable years.
Section 24(c) is an exception to the general rule. It originally appeared as section 301(a) of the Revenue Act of 1937, which inserted section 24(c) of the Revenue Act of 1936. The report of the Joint Committee on Tax Evasion and Avoidance, which is dated August 5, 1937, states that the Committee had presented to it cases of artificial deductions created where the debtor kept its books and claimed deductions on an accrual basis, whereas the closely related creditor would not be required to report the items for tax purposes on the cash basis until they are actually received; the Government was delayed in getting its tax where payment in such cases was postponed for a long period of time; and the payments, if made at all, were being made in low income years, with the result that little or no tax was paid by the creditor. The Committee felt that a provision should be inserted in the law to encourage prompt payment of such obligations. The report of the Ways and Means Committee, 75th Cong., 1st sess., H.Rept. No. 1546, stated: ‘Under existing law, some individuals have attempted to take advantage of the difference in operation between different accounting methods of reporting income to obtain artificial deductions for interest and business expenses.‘ This was accomplished by not making payment to the creditor until the later, more favorable year. Section 24(c) was recommended to prevent this abuse by requiring payment within two and one-half months after the close of the taxable year of the debtor.
The petitioner in the present case paid to its creditor, within each taxable year, more than the amount of the deductions which it is claiming and the creditor reported for that year at least the amount claimed by the debtor as deductions. Thus this creditor and this debtor during these years did not do the sort of thing that Congress was trying to stop and, under such circumstances, no such technicalities as are resorted to in the majority opinion should be used to deny the petitioner the deductions which it claims.