Opinion
Docket No. 24044.
1952-04-10
PRODUCE REPORTER COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
James R. Oberly, Esq., and William W. McKittrick, Esq., for the petitioner. William Schwerdtfeger, Esq., for the respondent.
1. The two trusts created by petitioner for the sole benefit of its employees with five or more years of service, pursuant to a plan for sharing its profits, meet all the requirements to qualify them as exempt under section 165(a), and the contributions thereto in the respective taxable years involved are deductible as provided in section 23(p), Internal Revenue Code.
2. Petitioner, on the accrual system of accounting, properly accrued bonus payments to its employees in the respective year when authorized by its directors and each employee advised of the exact amount he was to receive, notwithstanding the actual payment to the employee was to be made in the year subsequent. James R. Oberly, Esq., and William W. McKittrick, Esq., for the petitioner. William Schwerdtfeger, Esq., for the respondent.
This proceeding involves petitioner's liability for deficiencies in income, declared value excess-profits and excess profits taxes, as follows:
+----------------------------------------+ ¦ ¦ ¦Declared ¦Excess ¦ +----+----------+-------------+----------¦ ¦Year¦Income tax¦value excess-¦profits ¦ +----+----------+-------------+----------¦ ¦ ¦ ¦profits tax ¦tax ¦ +----+----------+-------------+----------¦ ¦1944¦ ¦$1,110.60 ¦$11,634.45¦ +----+----------+-------------+----------¦ ¦1945¦$555.25 ¦408.94 ¦$8,735.23 ¦ +----+----------+-------------+----------¦ ¦1946¦6,193.51 ¦ ¦ ¦ +----------------------------------------+
The issues involved are:
1. Whether petitioner is entitled to deduct, in the respective taxable years, payments made to profit-sharing trusts.
2. Whether petitioner is entitled to deduct bonuses in the respective taxable years when it resolved to distribute them or in the following year when actually paid to its employees.
FINDINGS OF FACT.
Petitioner is an Illinois corporation with its principal place of business at Wheaton, Illinois. It keeps its books and files its tax returns on the accrual basis of accounting. Petitioner's returns for the periods here involved were filed with the collector of internal revenue for the first district of Illinois. Petitioner is a service corporation for the wholesale fresh fruit and vegetable industry in the United States. It supplies credit information, handles disputes, settles controversies, and provides financial and operational advice to its customers.
On May 1, 1941, under petitioner's sponsorship and guidance, a group of its employees with 15 or more years of service in petitioner's employ, formed a nonprofit corporation under the laws of the State of Illinois called the ‘15-50 Year Club.‘ Membership was limited to employees with 15 or more years of service with petitioner. In addition to its officers, the club was to elect three trustees who were authorized to enter into any trust agreements with petitioner for the benefit of its members and make provision for the safekeeping of its funds.
On May 26, 1941, petitioner entered into a so called trust agreement with the ‘15-50 Year Club.‘ The agreement recites that petitioner is desirous of placing certain of its 6 per cent debentures in the name of the trustees of the club; that the trustees acknowledge the receipt of debentures of the par value of $2,490 which are to be held for the benefit of each of certain charter members whose names and proportionate shares are specified. Whereupon it is agreed:
1. THAT, the trustee shall hold said Two thousand Four Hundred Ninety ($2,490) Dollar Bonds with any additions which the Company may at any time see fit to make to Charter Members, plus all accruals on said Bonds, for the benefit of Charter Members.
2. THAT, as all other employees of the Company qualify for Membership in the Club and become Members of the Club, that the Company will deposit with the Trustees in trust One Hundred Fifty ($150.00) Dollars par value 25 year 6% Debenture Bonds for the benefit of each and all such new Members and make any additions thereto which the Company from time to time sees fit to do.
3. THAT, should any Member become discharged, retire, become disabled, or be taken by death, and thus cease as an employee of the Company, that the Trustees shall tender to the Company Bonds sufficient to cover said Member's equity and that said Company shall pay in cash, par, plus accrued interest to date for same; said Trustees then must distribute all cash so received to the Member for whom said Bonds have been held.
4. THAT, Trustees must get from each Member written instructions specifying how such funds, accruals, and additions, are to be distributed to each Member in the event of any of the happenings above mentioned.
5. THAT, the Trustees agree they will never sell, deliver, or assign any of said bonds to any other except the Company.
6. THAT, in the event any Member resigns from the employ of said Company, said Member's interest automatically accrues to the benefit of all remaining Members, and will be promptly distributed to all such Members in the proportion that their term of continuous employment bears to the total terms of continuous employment of all other Members.
7. THAT, if any Member is granted a leave of absence by the Company, all benefits earned to that date will be held intact by the Trustees for the benefit of said Member until such time as disposition of same must be made in accordance with the agreement.
8. THAT, Members shall participate in the accruals from interest paid on the Bonds in the proportion their equity bears to the total par value of the Bonds held by the Trustees.
9. THAT, neither the company or (sic) its officers shall be in any way responsible for the actions of the Trustees in the faithful performance of their duties as evidenced by their agreement with each Member.
10. THAT, in case of dissolution of the Company at any time hereafter, said Company agrees to retire said Bonds at par and accrued interest, the proceeds thereof to be distributed by the Trustees among the Members in proportion to their interest therein.
11. THAT, the interest of any Member consists solely of his or her right to receive his or her proportionate share of said Trust, upon the happenings of any of either of the contingencies herein set forth, and no person or persons shall have the right to transfer or assign same.
12. THAT, upon maturity of said bonds, and the same are retired by the Company, then the proceeds thereof paid to the Trustees by the Company, shall be distributed to the Members in proportion to their interest therein.
THIS TRUST AGREEMENT may be amended upon the mutual consent of the Trustees and the Company.
Petitioner contributed, in cash or cash equivalent, to the trustees of the ‘15-50 Year Club‘ in the respective taxable years 1944, 1945, and 1946, the following amounts:
+------------+ ¦1944¦$5,250 ¦ +----+-------¦ ¦1945¦11,700 ¦ +----+-------¦ ¦1946¦12,000 ¦ +------------+
All of the amount contributed in 1944 and $2,700 of the amount contributed in 1945 was in the form of United States Government Series ‘E‘ bonds purchased in the individual name of the employee-beneficiary. The ‘E‘ bonds were not delivered to the individual members but were retained in a safety deposit box rented by the Club.
On January 19, 1944, under petitioner's sponsorship and guidance, those employees of petitioner having five or more but less than 15 years of service in the petitioner's employ, formed a nonprofit Illinois corporation called the ‘5-50 Year Club.‘ The membership was limited to employees having five or more years of service. In addition to its officers, three trustees were chosen who were authorized to enter into any trust agreements with petitioner for the benefit of its members.
On February 3, 1944, petitioner entered into a so-called trust agreement with the ‘5-50 Year Club.‘ The agreement recites that petitioner is desirous of placing certain funds with the trustees of the club; that the trustees acknowledge receipt of $2,500 United States Treasury 2 1/2 per cent bonds which they hold for the benefit of each of certain charter members whose names and proportionate shares are specified. The trust agreement then sets forth the matters agreed upon, which, so far as here pertinent, are similar to those specifically set forth herein with respect to the trust agreement with the ‘15-50 Year Club.‘
Petitioner contributed in cash to the ‘5-50 Year Club,‘ in the respective taxable years 1944, 1945, and 1946, the following amounts:
+------------+ ¦1944¦$3,600 ¦ +----+-------¦ ¦1945¦1,500 ¦ +----+-------¦ ¦1946¦2,600 ¦ +------------+
The amounts of the contributions which petitioner made in the taxable years involved, pursuant to the aforesaid so called trust agreements, were determined in relation to the profits. Such contributions were irrevocably made and no part thereof has ever been returned to petitioner. Neither the petitioner nor any of its officers or stockholders has ever exercised any control over the funds which petitioner has contributed under the aforesaid trust agreements.
In determining the deficiencies for the respective taxable years 1944, 1945, and 1946, the respondent disallowed the entire amounts claimed as deductions on account of petitioner's contributions in those respective years to the above-mentioned profit-sharing trusts.
Since 1930 petitioner has each year paid a cash bonus to its employees. In 1942 and 1043 petitioner paid a cash bonus to its employees, the amount of which was based upon and determined in relation to the profits for such years.
In December 1944 the petitioner determined to pay a cash bonus to its employees out of the 1944 profits. Because the cash available for the 1944 bonus was larger in amount than for the preceding year and because the officers of the petitioner were cognizant of the efforts of the National War Labor Board to stabilize wages, it was determined to pay part of the bonus in cash at the 1944 Christmas period and to pay the balance of the bonus in installments in the year 1945.
Following conferences with the attorneys and auditors for the petitioner and after preliminary conversations with the National War Labor Board, in which the Board indicated that the proposed bonus program was permissible, the petitioner's board of directors adopted a resolution on December 12, 1944, which provided for the payment to employees of part of the 1944 bonus in an amount not to exceed $7,000 in installments over the months of 1945, with payments to be handled through a trust account to be established with the First National Bank of Chicago.
The plan for the payment of the 1944 bonus was orally communicated to the employees at the petitioner's Christmas party on December 22, 1944, by S. E. Baker, president of petitioner. At that time each employee was also given a check for the part of the 1944 bonus which was being paid in cash and a payroll memorandum showing that amount and stating that A. M. Abrahamson, petitioner's secretary, would inform each employee between Christmas and New Year's Day of the plan for 1945.
Between Christmas 1944 and New Year's Day 1945, A. M. Abrahamson talked with each of the petitioner's employees who was to participate in the bonus plan, and informed him of the exact amount he would receive in 1945 as a bonus from the 1944 profits. Each employee was informed that a ruling would be sought by the petitioner from the National War Labor Board as to the method of payment, that the payments would be made by the First National Bank of Chicago under a trust arrangement to be made with that bank, and that if any employee terminated his employment relationship with the petitioner prior to the payment of the final bonus installment in 1945, such employee would forfeit his right to the unpaid installment or installments and such unpaid amounts would be distributed to the remaining employees participating in the bonus.
The aggregate amount of the bonus, which in December 1944 the employees of the petitioner were promised they would receive in 1945 was $6,111.36. A check in this amount was drawn by the petitioner on December 30, 1944, payable to the First National Bank of Chicago. The check was not delivered to the bank at this time because the bank informed the officers of petitioner that it would not accept the undertaking until a ruling from the National War Labor Board was obtained by the petitioner.
An accounting entry was made on the books of account of the petitioner in December 1944, prior to the close of business on December 31, 1944, accruing the liability to pay the bonus of $6,111.36 to employees in 1945. This amount was charged as an expense for 1944 and taken as a deduction from gross income in 1944.
Formal application for a ruling that the proposed method of payment of the bonus was permissible without approval of the National War Labor Board under General Order No. 10 was made to the Board on February 10, 1945, and a favorable ruling was received in late February 1945, subject to the condition that the arrangement with the bank be one of agency rather than a trust account. The check drawn on December 30, 1944, in the amount of $6,111.36, was delivered to the bank in late February or early March 1945 and was cashed by the bank on March 2, 1945.
The bank made monthly payments of the bonus to the employees of the petitioner throughout 1945, all of the $6,111.36 being paid except for taxes withheld which were returned to the petitioner for remittance to the United States Treasury Department.
There were instances of employees who terminated their employment relationship during 1945 prior to their receiving a final bonus payment. Such employees received no bonus payments subsequent to the termination of their employment relationship and the amounts to which they would have been entitled had they remained in the employ of the petitioner were distributed to the remaining employees participating in the bonus.
In December 1945 the petitioner determined to pay a bonus to its employees in relation to 1945 profits. The board of directors of petitioner adopted a resolution on December 11, 1945, authorizing the payment of such bonus in installments over the year 1946. The bank was not utilized as the paying agent for the 1945 bonus because the bank informed the officers of the petitioner that it preferred not to continue the arrangement. Approval of the National War Labor Board was not sought with respect to the 1945 bonus because the method had been approved for the preceding year.
The plan to pay a bonus out of the 1945 profits to be paid in installments in 1946 was communicated to the employees of the petitioner at the 1945 Christmas party by S. E. Baker. Between Christmas 1945 and New Year's Day 1946 A. M. Abrahamson informed each employee of the exact amount he would receive in 1946 as a bonus from the 1945 profits. Each employee was also informed that in 1946 the bonus payments would be made by the petitioner rather than the bank, that a ruling from the National War Labor Board was not necessary, that the same procedure as in the preceding year would be followed with respect to employees who terminated their employment relationship with the petitioner, and that the balance of the bonus payments which such employees would have received had they not terminated their employment relationship would be paid to the remaining employees.
The aggregate amount of the bonus which in December 1945 the employees of the petitioner were promised they would receive in 1946 was $5,660.97. An accounting entry was made on the books of account of the petitioner in December 1945, prior to the close of business on December 31, 1945, accruing the liability to pay the bonus of $5,660.97 to employees in 1946. This amount was charged as an expense for 1945 and taken as a deduction from gross income for 1045. All of the $5,660.97 accrued as a liability in December 1945 was paid to and for the benefit of the employees in 1946.
In December 1946 the petitioner determined to pay a bonus to its employees out of 1946 profits. The board of directors of the petitioner adopted a resolution on December 10, 1946, authorizing the payment of such a bonus in installments over the year 1947. The procedure of communicating to the employees the amounts and manner of payments with respect to the 1946 bonus was the same as for the previous year, 1945.
The aggregate amount of the bonus which in December 1946 the employees of the petitioner were promised they would receive in 1947 was $11,770.15. An accounting entry was made on the books of account of the petitioner in December 1946, prior to the close of business on December 31, 1946, accruing the liability to pay the bonus of $11,770.15 to employees in 1947. This amount was charged as an expense for 1946 and taken as a deduction from gross income for 1946. All of the $11,770.15 accrued as a liability in December 1946 was paid to or for the benefit of the employees in 1947.
The amounts of $6,111.36, $5,660.97 and $11,770.15 were properly accrued in the respective taxable years 1944, 1945, and 1946 as liabilities incurred from payments of bonuses to petitioner's employees.
OPINION.
HILL, Judge:
The first issue presented is whether the two profit-sharing plans of petitioner meet the requirements prescribed by section 165(a) of the Internal Revenue Code. From the opening statement of counsel for the petitioner, fully concurred in by counsel for the respondent, the only issue requiring consideration is whether the profit-sharing plans fail to meet the requirements of section 165(a) because they provide no definite, predetermined basis for determining the profits to be shared.
The primary contention of petitioner is that neither section 165(a), which prescribes the requirements necessary to qualify a plan as a 165(a) trust, nor section 23(p), governing the allowable deductions for contributions to such trusts, makes any reference to the requirement of a definite, predetermined formula; and that the only requirement that there be such a formula is contained in Treasury Regulations 111, section 29.165-1. Petitioner, therefore argues that, as Congress has expressly prescribed, in section 165(a), the requirements necessary to qualify an exempt trust, the regulation in question, in so far as it provides for an additional requirement, is unreasonable and an invalid exercise of administrative authority.
The respondent contends that the validity of the regulation has been upheld in Lincoln Electric Co. Employees' Profit-Sharing Trust, 14 T.C. 598, and Wooster Rubber Co., 14 T.C. 1192. In the Lincoln Electric Co. case, supra, we held that the profit-sharing trust there in question was not an exempt trust within the purview of section 165(a), sustaining the regulation requiring the plan to be permanent and based on a definite, predetermined formula for determining the profits to be shared. The United States Court of Appeals for the Sixth Circuit reversed, and held the trust to be exempt (190 F.2d 326). The Wooster Rubber Co. case, supra, was reversed, but on other grounds (189 F.2d 878). In the Lincoln Electric Co. case, supra, the Court of Appeals, while indicating that, if the regulations must be interpreted as limiting the exemption, they are invalid additions to the law, premised its decision on other grounds. It said:
Section 165(a) and, of necessity, any regulation adopted for its implementation, must be interpreted in the light of the statutory scheme. Tavannes Watch Co. Inc. v. Commissioner, 2 Cir., 176 Fed.(2d) 211. There the court pointed out that the Act was primarily designed to insure that profit-sharing plans be operated for the welfare of the employees in general and to prevent the trust device from being used for the benefit of the shareholders, officials or highly paid employees, and to insure that it shall be impossible for any part of the corpus or income to be used for purposes other than the exclusive benefit of the employees. These purposes are materialized in the present trust. That they should be liberally implemented is, we think, also the teaching of 23(p).
In view of the narrow issue submitted for our consideration, we think the purposes as above set forth by the Court of Appeals are likewise ‘materialized‘ in the two profit-sharing trusts established by petitioner. We therefore conclude and hold that petitioner's two profit-sharing trusts are exempt trusts within the purview of section 165(a). So holding, we deem it unnecessary to pass upon the validity of the respondent's regulations. The contributions which petitioner made to such trusts in the respective taxable years involved are deductible to the extent provided in section 23(p) of the Code.
The remaining issue presents the limited question whether petitioner is entitled to deduct, in the taxable years 1944, 1945, and 1946, amounts authorized and accrued as bonuses, when the payments were made to the employees in the year subsequent. The amounts involved are not in dispute. Petitioner was on the accrual basis of accounting. The evidence establishes that since 1930 petitioner has followed the custom of paying year-end bonuses. In each of the respective taxable years involved petitioner's board of directors authorized the payment of bonuses. Around Christmas the employees were advised that a bonus would be paid, and prior to the end of the year, the secretary of petitioner talked with each employee and advised him of the exact amount he was to receive in the following year. Each employee was also advised that the payments were to be made in installments, but in the event he left petitioner's employ he would forfeit the unpaid balance which would be prorated among the remaining employees. Prior to the end of each of the respective taxable years an accounting entry was made accruing as a liability the total amount the employees had been advised they would receive. Petitioner contends that a fixed, definite obligation to pay the bonuses was incurred in the respective years of accrual. We agree. We therefore hold that the amounts of $6,111.36, $5,660.97, and 11,770.15 were properly accrued in the respective taxable years 1944, 1945, and 1946, and are deductible as ordinary and necessary business expenses under section 23(a)(1)(A) of the Code.
Reviewed by the Court.
Decision will be entered under Rule 50.