Opinion
Docket Nos. 37118 37119.
1953-08-7
CHARLES F. DALLY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.SARAFRANCIS DALLY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
Gerald D. Hile, Esq., for the petitioners. John H. Pigg, Esq., for the respondent.
TIME OF ACCRUAL OF INCOME.— The petitioner, on the accrual basis, contracted with the United States Government in 1942 to manufacture and deliver housing units. Performance of the contract was completed in 1943. Payments under the contract were to be made on the basis of periodical estimates certified to by the petitioner and the Government, and were so made. The contract also provided that 10 per cent was to be retained until final acceptance by the Government contracting officer. Estimates submitted in 1942 showed the contract 86.7 per cent performed in that year. This was not contested by the Government. Held, the petitioner should have accrued in 1942, 86.7 per cent of the contract price less the 10 per cent the Government was entitled to retain. Gerald D. Hile, Esq., for the petitioners. John H. Pigg, Esq., for the respondent.
The Commissioner determined the following deficiencies in income tax for the year 1943:
+-----------------------------+ ¦Charles F. Dally ¦$71,947.50¦ +------------------+----------¦ ¦Sarafrancis Dally ¦71,936.11 ¦ +-----------------------------+
The only question for decision is the proper amounts to be accrued in 1942 and 1943 under a contract for prefabricated housing units between the petitioner Charles F. Dally, d.b.a. Prefabricated Products Co., and the United States. The year 1942 is involved because of the forgiveness features of the Current Tax Payment Act of 1943.
FINDINGS OF FACT.
The stipulated facts are so found and the stipulation incorporated herein by reference.
At all times involved herein the petitioners were husband and wife, residents of the State of Washington, and all income involved was community income. Their returns were filed for the years 1942 and 1943 with the collector of internal revenue for the district of Washington. The petitioners were authorized to and did report their income on the accrual basis. Charles F. Dally will hereafter be referred to as the petitioner.
During 1942 and 1943 the petitioner was engaged in the construction business. On May 28, 1942, he, doing business as Prefabricated Products Co., entered into a contract with the United States of America acting through National Housing Agency. This contract called for the manufacture and delivery of 1,000 prefabricated demountable housing units consisting of certain numbers of 1-, 2-, and 3-bedroom units at specified prices per unit. The first deliveries were made in October 1942 and the contract was completed in February or March 1943. Because of the shortage of certain materials, units were not necessarily complete at the time of delivery.
Article 8 of the contract provided as follows:
Payments.— The contractor shall be paid, upon the submission of properly certified invoices or vouchers semi-monthly, ninety percent (90%) of the prices stipulated herein for articles delivered and accepted or services rendered, less deductions, if any, as herein provided. The remaining ten percent (10%) of the prices stipulated herein shall not be paid until all of the construction and erection work of all the dwelling units has been finished and finally accepted by the contracting officer.
Following the deliveries from time to time of completed units and parts of others eight ‘Periodical Estimates for Partial Payment‘ were prepared on Government forms. These estimates were certified to by the petitioner and on behalf of the United States by the area project manager. They were based on estimates of completed units and took into consideration certain change orders which did not affect the number of units to be manufactured. No attempt was made by either party to check the exact number of ‘complete‘ units actually delivered before certifying the estimates.
The periodical estimates certified to in 1942 showed 862 units delivered in 1942 and indicated that 86.7 per cent of the contract had been performed. The estimate for 1943 showed 138 units delivered in that year.
Payments under the contract were made in 1942 and 1943 based on the figures shown in the periodical estimates for partial payment. The following tabulation shows the payments made to the petitioner by the Government on account of performance of the contract in question, on the basis of the eight progress reports, as above stated:
+----------------------------------------------------------------------------------+ ¦ ¦ ¦Number of ¦ ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦Periodical estimate No. ¦Date submitted ¦houses ¦Amount of partial payment ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦1 ¦Oct. 15, 1942 ¦20 ¦$36,499.60 ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦2 ¦Oct. 31, 1942 ¦140 ¦254,568.78 ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦3 ¦Nov. 30, 1942 ¦200 ¦390,997.22 ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦4 ¦Dec. 14, 1942 ¦210 ¦399,265.10 ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦5 ¦Dec. 29, 1942 ¦220 ¦403,807.02 ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦6 ¦Dec. 31, 1942 ¦72 ¦136,528.34 ¦ +------------------------------------------------------+---------------------------¦ ¦Total estimates for partial payments in 1942 ¦$1,621,666.06 ¦ +------------------------------------------------------+---------------------------¦ ¦7 ¦Jan. 23, 1943 ¦100 ¦176,662.82 ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦8 ¦Jan. 31, 1943 ¦38 ¦71,922.36 ¦ +-------------------------+----------------+-----------+---------------------------¦ ¦Total contract price ¦ ¦ ¦$1,870,251.24 ¦ +----------------------------------------------------------------------------------+
In accordance with the above quoted provision of the contract, 10 per cent of the amount of each estimate for partial payment was retained by the Government pending completion of the contract in a manner acceptable to the contracting officer. The amount retained with respect to the total estimates for partial payments in 1942 of $1,621,666.06, amounted to $162,166.61. Payment on account of the last progress report (No. 8) was made to the petitioner in February or March 1943, and final payment of the 10 per cent retained was made to him in June 1943. The dates of actual payments of the remaining amounts shown in the above tabulation are not disclosed by the record.
The petitioners in making their original 1942 and 1943 income tax returns reported their accrued income on the basis of the partial payments received by them under such estimates. Accordingly their original 1942 returns showed gross receipts of $1,459,499.45 from the contract in 1942, based on the estimated 862 completed units certified to have been delivered in 1942, less 10 per cent, and their 1943 original returns reflected gross receipts of $410,751.79, based on the estimated 138 completed units certified to have been delivered in 1943, which also included the 10 per cent retained amount of the whole contract which was paid in 1943; costs were likewise so proportionately allocated between such years.
The petitioner derived a profit of $832,202.33 from the contract.
On March 20, 1947, the petitioner and his wife filed separate amended returns for the years 1942 and 1943, in which the profit of $832,202.33, so derived from the Government contract here in controversy, was allocated, respectively, in the amounts of $380,396.47 and $451,805.86. In these separate amended returns, the last two stated amounts were divided equally between the petitioner and his wife, i.e., $190,198.23 was allocated to each of them for the year 1942, and $225,902.93 was allocated to each of them for the year 1943. These amended returns of the petitioner disclosed income tax and/or income and Victory tax liabilities for the years 1942 and 1943, in the respective amounts of $144,742.65 and $215,245.02, with corresponding tax liabilities being shown on the corresponding amended separate returns filed by his wife.
The revised figures, including the reductions in tax liabilities, and the filing of the amended returns were the result of certain estimates and computations made by the petitioner's brother who was in the employ of the petitioner, in a supervisory capacity, during the years 1942 and 1943, and the petitioner's accountant. The petitioner's brother, sometime subsequent to the filing of the petitioner's original returns for the years 1942 and 1943, made a check or ‘analysis‘ of the bills of lading covering the shipments from Seattle to Bremerton, by ferry, of the various prefabricated parts of the several housing units, for the purpose of ascertaining the number of completed units actually delivered on the building sites, at the latter place, during each of those years. Based upon the figures so arrived at, the accountant prepared a statement in which he arrived at the percentage figures of 58.96 and 41.04 as representing the number of completed housing units actually delivered during those respective years. The amended returns, referred to above, were prepared by the accountant and the revised figures, including the reduction in tax liabilities, as shown thereon were based on the percentage figures so computed and arrived at by him.
On June 13, 1947, the petitioner and his wife filed a second set of amended returns for the years 1942 and 1943, wherein the profit of $832,202.33 was allocated in the same manner and amounts as in their first set of amended returns, but in which their respective separate community net incomes and tax liabilities were shown in reduced amounts, because of another income adjustment, relating to an alleged increased net operating loss carry-back, which is not now in controversy.
In his determination of the deficiencies involved in these proceedings, the Commissioner further determined that of the total profit of $832,202.33, so derived by the petitioners from the contract, the sum of $714,846.52 constitutes community income taxable to them for the year 1942, the balance of $117,355.81 being includible in their community income for the year 1943. In support of such determinations, the notices of deficiencies were accompanied by the following explanatory statements:
It is held that the profit realized on the partial completion of your contract No. WAh (D-WASH-45111)-1, with the Federal Public Housing Authority, should be reported in the year 1942 for income tax purposes to the extent of $714,846.52, on the basis of the certified Periodical Estimate for Partial Payment furnished by you to the Federal Public Housing Authority covering work completed to December 31, 1942, under the contract. Your community one-half of this profit was $357,423.26, $167,225.03 in excess of the amount reported in your second amended return.
It is held that the profit realized on the completion of your contract No. WAh (D-WASH-45111)-1, with the Federal Public Housing Authority, should be reported for income tax purposes to the extent of $117,355.81 in the year 1943 by you and your wife, Sarafrancis Dally, that amount being the portion of the contract profit not reportable in the year 1942. Your community one-half of this profit was $58,677.91 instead of $225,902.93, the amount reported in your amended return.
The amount of $714,846.52, representing the portion of the total profit in controversy which the Commissioner has so treated as community income of the petitioners for the taxable year 1942, represents approximately 86.7 per cent of such total profit.
Of the total contract price of $1,870,251.24, the aggregate of the partial payments which were either paid or were payable to the petitioner on account of work performed under the contract during 1942, on the basis of the progress reports was $1,621,666.06, less the 10 per cent retainage.
There was no substantial contingency as to the right of the petitioner to receive on December 31, 1942, the full amount of any then unpaid portion of the aforesaid amount of $1,621,666.06, except the 10 per cent retainage.
On, or as of December 31, 1942, the events had occurred which fixed the liability of the United States of America to pay to the petitioner 86.7 per cent of the total contract price of $1,870,251.24, or $1,621,666.06, less the 10 per cent retainage.
OPINION.
TIETJENS, Judge:
There is no controversy between the parties as to the principles which should govern the questions here in issue. Both cite and rely on Spring City Foundry Co. v. Commissioner, 292 U.S. 182. It is over the application of those principles to the facts of this case that differences arise.
The petitioner, in effect, contends that the contract called for ‘completed‘ units, and that the estimates for partial payments were, after all, only estimates and did not accurately reflect the amounts to the payment of which he was entitled of right. Consequently, the estimates being in error as a matter of hindsight checking, he says he was entitled to accrue income on the basis of actually delivered completed units only and was not bound to accrue the amounts called for by the estimates which he was in fact paid.
We do not agree with the petitioner in his contention. The contract provided that payments should be made upon the submission of properly certified invoices or vouchers of 90 per cent of the stipulated prices for articles delivered or services rendered. In this case, as we see it, these certified invoices or vouchers were the periodical estimates for partial payment referred to in our Findings of Fact. These estimates were certified to both by the petitioner and the Government. It is obvious from the facts that the certified figures contained in the estimates were to be the basis for determining the amounts which the petitioner was entitled to be paid and which he was in fact paid. No controversy existed between the petitioner and the Government over the petitioner's right to the payments in question, and the only reason the question is now raised is that the petitioner himself raises it in the hope of gaining a tax advantage. While the contract was in the course of performance neither party contemplated any course other than that payments were to be figured and paid on the basis of the estimates. As we see it, the petitioner's right to be paid ripened and became absolute upon the submission of the certified periodical estimates. That right did not depend upon a recheck of the figures shown on the estimates; and neither was the amount to be paid governed only by completed units actually delivered. The project engineer for the Government was called as a witness by the petitioner. He testified that there naturally were deviations between the estimates and actual completed units delivered, and, in response to the Court's question as to whether payments were made according to the estimates or actual count, responded, ‘the payment was made on the basis of the periodical estimate.‘ On the record before us we have found that on December 31, 1942, the events had occurred which fixed the liability of the United States to pay and the petitioner to receive 86.7 per cent of the total contract price less the 10 per cent retainage. Accordingly, that amount should have been accrued in 1942. This disposes of the main issue.
One other question remains to be answered. The Commissioner determined that the full 86.7 per cent should have been accrued in 1942. The petitioner argues that even if we decide the main issue against him, at least it would not be proper to include the 10 per cent retainage in his accrual for 1942. The Commissioner contends this issue is not before us because not specifically raised by the pleadings. We think, however, that a fair construction of the pleadings places the treatment by the Commissioner of the 10 per cent retained in issue. Under the contract, as we read it, the petitioner's right to the 10 per cent did not and could not ripen ‘until all of the construction and erection work of all the dwelling units has been finished and finally accepted by the contracting officer.‘ That did not happen until 1943 and the petitioner, accordingly, did not have to accrue in 1942 10 per cent of the periodical estimates submitted in that year.
We hold, therefore, that the petitioner should have accrued in 1942, $1,621,666.06 less 10 per cent.
Decision will be entered under Rule 50.