*427OPINION.
Trammell :The statute allows, as a deduction from gross income in determining net taxable income, business expenses and taxes. The statute does not leave the question open to taxpayers to consider such expenditures capital items. The statute provides that such payments shall be allowed as deductions from gross income in determining net income. They can not be added to the cost of the property as capital expenditures in determining gain or loss on the sale thereof. Westerfield v. Rafferty, 4 Fed. (2d) 590.
The second question is whether the increase in value of property existing on March 1, 1913, over the cost when such appreciation in value is realized by sale of the property in 1920, may be included in invested capital for 1920. That such appreciation in value existing on March 1, 1913, is not taxable when realized subsequently, is well settled. It is only the gains or profits arising or accruing since March 1, 1913, that are subject to the tax. This is conceded by both the Commissioner and taxpayer, but the taxpayer contends that, notwithstanding the fact that unearned increment existing on March 1, 1913, is not subject to tax, when it is realized by sale of the *428property in 1920 it should be included in invested capital from the date of realization.
Section 326 of the Revenue Act of 1918 provides that the term “ invested capital ” means:
(1) Actual cash bona fide paid in for stock or shares;
(2) Actual cash value of tangible property, other than cash, bona fide paid in for stock or shares, at the time of such payment, but in no case to exceed the par value of the original stock or shares specifically issued therefor, unless the actual cash value of such tangible property at the time paid in is shown to the satisfaction of the Commissioner to have been clearly and substantially in excess of such par value, in which case such excess shall be treated as paid-in surplus: * * *
(3) Paid-in or earned surplus and undivided profits; not including surplus and undivided profits earned during the year * * *.
It is claimed by the Commissioner that if the realization of the appreciation of the value of property existing on March 1, 1913, is to be included in invested capital at all, it can only be included under section 326 (a) (3) which provides for a paid-in or earned surplus. Clauses (1) and (2) of section 326 refer to actual contributions of cash or of tangible property in exchange for stock or shares. The realization during the taxable year by sale of the increase in value which existed on March 1, 1913, clearly does not come under clauses (1) or (2). It is equally clear that it is not a paid-in surplus. That phrase contemplates an actual contribution to the capital of the corporation by a stockholder in money or its equivalent resulting in an excess capital contribution over and above the par value of the stock. Earned surplus or undivided profits must come to the taxpayer in the form of income. An earned surplus is an accumulation of gains and profits. The gain or profit from the sale of the property having been realized during 1920 was surplus or undivided profits of that taxable year and as such can not be included in invested capital for that year under the express language of section 326 (a) (3).
With respect to the contract to sell the real property, the buyer agreed to pay $2,500,000 to the taxpayer. Six hundred thousand dollars was paid on the execution of the contract and the balance was to be paid in installments within a period of three years. The contract had the usual provisions reserving the title in the seller until all payments were made, gave the seller the right of repossession in case of failure to make payments, and provided for forfeiture of all rights and all money paid as liquidated damages in case of default. The buyer had the right of possession and the right to remove timber. He could not assign the contract without the written consent of the seller. There were no notes, mortgages,- or other securities given by the buyer other than the provisions of *429the contract. Payments subsequent to the initial payment of $600,000 were made as set out in the findings of fact.
Section 212 (d) of the Revenue Act of 1926 is as follows:
(d) Under regulations prescribed by tbe Commissioner with the approval of the Secretary, a person who regularly sells or otherwise disposes of personal property on the installment plan may return as income therefrom in any taxable year that proportion of the installment payments actually received in that year which the total profit realized or to be realized when the payment is completed, bears to the total contract price. In the case (1) of a casual sale or other casual disposition of personal property for a price exceeding $1,000, or (2) of a sale or other disposition of real property, if in either ease the initial payments do not exceed one-fourth of the purchase price, the income may, under regulations prescribed by the Commissioner with the approval of the Secretary, be returned on the basis and in the manner above prescribed in this subdivision. As used in this subdivision the term “ initial payments ” means the payments received in cash or property other than evidences of indebtedness of the purchaser during the taxable period in which the sale or other disposition is made.
Section 1208 of the Revenue Act of 1926 makes the above section retroactive to the Revenue Act of 1918, under the provisions of which the tax liability of the taxpayer must be determined.
The initial payment is less than one-fourth of the purchase price and the balance of the purchase price was to be paid in installments. The transaction, therefore, comes within the purview of the above-quoted section of the statute. The proportionate part of the profit to be reported in 1920 is of $104,429.97. 2,500,000.00
Judgment will he entered on 15 days’ notice, under Rule 50.