*566 Petitioner, a foreign corporation, is not entitled to deduct from income earned within the United States, under sections 234(b) and 217(e) of the Revenue Act of 1926, a ratable part of losses sustained on accounts arising from loans to banks in Holland.
*53 This proceeding was brought to redetermine a deficiency in the income tax of the petitioner for the fiscal year ended March 31, 1927, in the sum of $21,108.23.
The questions at issue are whether or not respondent erred (1) in allocating entirely to income derived from sources without the United States certain losses of petitioner known as "Reorganization Loans", amounting to 4,000,000 florins, or $1,600,800, and (2) in disallowing a net loss of $40,804.82 sustained in the prior year and having a similar origin.
The facts were submitted in the form of a stipulation, with exhibits, from which we make our findings.
FINDINGS OF FACT.
The petitioner is and was during the fiscal years ended March 31, 1926, and March 31, 1927, a*567 corporation organized and existing under and by virtue of the laws of the Kingdom of the Netherlands, with its principal place of business in Amsterdam, in the Kingdom of the Netherlands. It is and was during said fiscal years the only bank of issue for said Kingdom of the Netherlands, and is and was required to pay three-fourths of part and seven-eighths of the remainder of its net profits to the Kingdom of the Netherlands. During the fiscal years ended March 31, 1926, and March 31, 1927, it earned profits *54 both from sources entirely within the United States and from sources entirely without the United States. Part of such profits earned from sources without the United States were earned from sources entirely within the Kingdom of the Netherlands.
For the fiscal year ended March 31, 1926, the petitioner filed a Federal income tax return in the office of the collector of internal revenue for the district of Maryland in the United States, reporting no net taxable income and a net loss. For the fiscal year ended March 31, 1927, the petitioner filed a Federal income tax return in the office of the collector of internal revenue for the district of Maryland in the United*568 States. In said return the petitioner deducted from its gross income an alleged prior year net loss of $40,804.82 which the respondent disallowed in determining the deficiency here in issue. In said return the petitioner deducted as "Unallocatable Deductions" $553,470.86. The respondent disallowed $133,041.97 thereof, in determining the deficiency here in issue. The two disallowances by the Commissioner are the only errors alleged in the petition herein.
In its Federal income tax return for the fiscal year ended March 31, 1926, the petitioner reported 20,508,446.82 florins as "unallocatable expenses", including therein 7,826,050.94 florins as "reorganization" loans or expenses written off. In such return the petitioner claimed as a deduction 7.52 percent of said 7,826,050 (sic) florins on the ground that its gross income from sources within the United States represented 7.52 percent of its gross income from all sources. This deduction so claimed, together with a further deduction claimed in the return consisting of a ratable part of 743,214.94 florins representing "discounts" written off, and other deductions claimed in the return, resulted in the reported net loss for*569 the fiscal year ended March 3 , 1926, of $40,804.82. The Commissioner disallowed the deduction from income earned from sources within the United States of such ratable part of both the item of 7,826,050.94 florins and the item of 743,214.94 florins and determined no net loss for said fiscal year. If no part of the deductions of 7,826,050.94 florins and 743,214.94 florins is allowable as a deduction in computing the petitioner's net income earned from sources within the United States, then the petitioner sustained no prior year net loss deductible in computing its Federal income tax liability for the fiscal year ended March 31, 1927. If, however, said item of 7,826,050.94 florins described by petitioner as "Unallocatable Expenses, written off, Reorganization" should be included in "Unallocatable Expenses" and a ratable part thereof should be deducted from income earned from sources within the United States, then the resultant net loss, if any, is a prior year net loss deductible from income earned within *55 the United States in the fiscal year ended March 31, 1927, here in issue.
In its Federal income tax return for the fiscal year ended March 31, 1927, petitioner included*570 in deductions as "Unallocatable Deductions" an item of 4,000,000 florins described as "reorganization accounts written off" and, in computing net income, deducted a part of said 4,000,000 florins on the basis of the asserted ratio between gross income from sources within the United States and gross income from all sources as shown in said return. In determining the deficiency here in issue the respondent disallowed as a deduction the asserted ratable part of the said 4,000,000 florins, but allowed as deductions a ratable part of the remaining "Unallocatable Deductions" reported, consisting of (1) general administrative expenses, (2) depreciation on premises and furniture, (3) amounts charged to the "Pension Fund", (4) amounts paid as bonuses, and (5) amounts paid to the Dutch Government, as a tax.
The said amounts of 7,826,050.94 florins written off during the fiscal year ended March 31, 1926, and 4,000,000 florins written off during the fiscal year ended March 31, 1927, represent a portion of certain loans made by the petitioner in prior years. All of said loans were made to banks located and doing business in Holland, which were incorporated or organized under the laws of Holland. *571 The banks receiving said loans in turn loaned the proceeds to persons, firms, associations, corporations, businesses, and industries located and doing business within Holland. The amount of 4,000,000 florins written off during the fiscal year ended March 31, 1927, was written off as a loss sustained on loans to Marx and Co.'s Bank, which was a Dutch banking concern located in Amsterdam, Holland.
The total loans termed "Reorganization Loans" outstanding at the end of the fiscal year ended March 31, 1926, were in the amounts and to the banks set forth below:
| March 31, 1926 | Florins |
| Marx & Co.'s Bank, Rotterdam | 17,013,000 |
| Unie-Bank voor Nederland en Kolonien, Amsterdam | 1,558,000 |
| Merwede Bank, Dordrecht | 30,000 |
| Buisman, Gratama & Co., Zwolle | 3,179,000 |
| Lotichius & Co., Helmond | 565,000 |
| Total | 22,345,000 |
Of these loans, 7,826,050.94 florins were charged off and deducted by the petitioner from gross income from all sources and a part thereof was deducted from income earned from sources within the United States, in reporting the petitioner's income tax liability to the United States for the fiscal year ended March 31, 1926.
*56 The total loans termed*572 "Reorganization Loans" outstanding at the end of the fiscal year March 31, 1927, were in the amounts and to the banks set forth below:
| March 31, 1927 | Florins |
| Marx & Co.'s Bank, Rotterdam | 11,013,000 |
| Unie-Bank voor Nederland en Kolonien, Amsterdam | 315,000 |
| Buisman, Gratama & Co., Zwolle | 983,000 |
| Total | 12,311,000 |
Of these loans, 4,000,000 florins were charged off and deducted by the petitioner from gross income from all sources and a part thereof was deducted from income earned from sources within the United States, in reporting the petitioner's income tax liability to the United States for the fiscal year ended March 31, 1927.
In arriving at the deductions of 7,826,050.94 florins and 4,000,000 florins the petitioner determined certain loss balances for each year, and during the fiscal years ended March 31, 1926 and 1927, deducted from said loss balances for said years as originally estimated, the amounts which were received in said fiscal years on said loans included in said loss balances. The loans were made by discounting promissory notes. The deductions as "Reorganization Accounts Written Off" were based on the face value of certain of said notes, principally*573 those of the Marx & Co.'s Bank of Rotterdam.
Petitiioner's books and accounts in Holland were kept in terms of the currency of Holland, with the florin, also called the guilder, as a unit. During the fiscal year ended March 31, 1927, the current rate of exchange between the florin, or guilder, and the United States dollar was $0.4002, that is to say, one florin, or guilder, was worth 40.02 cents in United States currency.
Petitioner's gross income from all sources for the fiscal year ended March 31, 1927, was 17,886,225.61 florins, being $7,158,067.49, and petitioner's gross income from sources within the United States for said fiscal year ended March 31, 1927, was $592,674.50. The said gross income from sources within the United States was 8.27 percent of the gross income from all sources for said fiscal year.
The petitioner was founded in 1814 and operated under a royal charter until 1863 when the Sovereign confirmed a charter granted to it by the Dutch Parliament. Its charter has been extended periodically by the Dutch Legislature. The present extension, issued July 25, 1918, is called the "Regulations" and expires in 15 years from the date of issue. The petitioner*574 is also governed by "Statutes" which are in the nature of bylaws.
The petitioner occupies in Holland a position similar to that of the Bank of England, the Bank of France, and other central banks *57 of issue in the various European countries. Its activities are carefully limited and circumscribed by its charter, which imposes on it many duties not required by private banking institutions. The petitioner's executives consist of a president, a secretary, appointed by the Sovereign, and not less than two directors. Those officials constitute the "management." There is also an advisory committee of five members with five-year terms. A board of 15 directors known as "Commissaries" is elected by the stockholders. A "Royal Commissioner", acting at the will of the Sovereign, supervises the transactions of the bank on behalf of the government. The petitioner must furnish to the "Royal Commissioner" all information and data demanded by him.
In 1927 the petitioner had an authorized capital of 20,000,000 guilders fully paid and owned by citizens of The Netherlands, who exclusively are the voting shareholders.
The "Regulations" prescribe many activities comprising the usual*575 functions of a banking institution. In addition, the petitioner is specifically required to act as custodian of treasury funds; to act as government cashier and paymaster in Amsterdam, Rotterdan, and other established bank agencies; to act as cashier and paymaster of the Post Office Savings Bank and similar government institutions; to act as custodian of government-owned securities; to assist in the withdrawal of government notes; to advance to the Dutch Government, without interest, up to 15,000,000 guilders, unless the government should issue its own notes or the petitioner's metallic surplus should fall below 10,000,000 guilders; all such duties being performed without charge to the government. The petitioner is accountable to the Minister of Finance and Accountant General for its actions as cashier and paymaster. The petitioner also performs other services for the benefit of The Netherlands, such as maintaining a gold and silver coin and bullion supply sufficient for the current needs of the Kingdom, investing in Dutch Government and municipal bonds, carrying foreign bank balances to maintain Dutch exchange at par and undertaking to promote the general economic welfare of the*576 nation, particularly in times of crises.
In 1903 a legislative requirement to compel the petitioner to maintain Dutch exchange at par was proposed but, due to its traditional as well as its prescribed functions, the petitioner undertook to do so voluntarily. During the World War the bank was relieved of the promise by royal decree.
The division of the petitioner's profits is governed by the "Regulations." Profits amounting to 3 1/2 percent of its authorized capital are exclusively for the petitioner's benefit. Ten percent of the surplus over the 3 1/2 percent goes to a reserve fund (until such fund *58 equals one-fourth of the petitioner's authorized capital). Three percent of the remainder shall be paid to the "Management", "Advisory Committee", and "Commissaries" (or 3 1/2 percent if the "Management" consists of more than four members). Of the remainder the petitioner receives one-fourth and the state, three-fourths, until the petitioner's share amounts to 7 percent of its authorized capital. Of the profit, if any, then remaining after such distribution, the petitioner receives one-eighth and the state seven-eighths. Profits are distributed on the basis of the*577 petitioner's annual balance sheet, which is finally determined in accordance with the provisions of the "Regulation" and the "Statutes."
Early in 1922 the petitioner opened a so-called "Reorganization Account" in which were entered exclusively certain loans which were granted by the petitioner to commercial banks and which, through those banks, benefited certain commercial interests in Holland in financial distress. The necessity thus to furnish banking assistance arose from the economic crises that faced Holland immediately after the war. Bank credit was then at a premium, business was at a standstill, and the guilder was below par. The business depression threatened to cause a collapse of the entire economic and financial structure of the nation. Several of the larger private banking institutions, having a surplus of assets over liabilities but owning a large amount of "frozen credits", were unable to meet their current obligations. In view of this critical fiscal condition, Holland turned to the petitioner as its only bank of issue for aid.
In the petitioner's charter, issued in 1918, provision was made to establish a reserve against possible capital losses. The "Reorganization*578 Account" loans were made by discounting promissory notes of the borrowing banks and rediscounting commercial paper of Dutch concerns carrying on many kinds of businesses. The loans were made with the expectation that a large proportion of them never would be repaid. All repayments of principal and all interest payments were credited to the "Reorganization Account" and were not treated as income. The Dutch Government accepted this method of accounting in computing its share of the profits.
ONINION.
VAN FOSSAN: The single question for determination is whether or not petitioner is entitled to deduct from its taxable income earned within the United States a ratable part of losses carried in its "Reorganization Loans", it being contended by petitioner that such losses can not definitely be allocated to any item or class of its gross income. The pertinent provisions of the Revenue Act *59 of 1926 are found in section 234(a)(1)(4) and (5), section 234(b), and section 217(e). 1
*579 Under the above provisions and the pertinent regulations, the facts as to the case are controlling. If the accounts giving rise to the losses claimed are of such character that they can not be attributed to any item or class of gross income a ratable part of the expenses or losses is to be allowed as a deduction from such gross income separately allocated to sources within the United States. The burden is on the petitioner to prove that the deductions are of such a character as to make them allowable.
Here the losses included in the account styled "Reorganization Loans" were suffered on loans made to financial houses, chiefly Marx & Co.'s Bank of Rotterdam. The loss of 4,000,000 guilders in 1927 was exclusively on the Marx & Co's Bank account. The losses are thus clearly identified with specific accounts of banks located in Holland. Moreover, the proceeds of these loans were further advanced by the bank to other concerns doing business in Holland.
Though it appears that petitioner was motivated by a patriotic impulse of striving to preserve the parity of the guilder, this fact can not obscure the other fact that the actual transactions were identifiable and related to*580 identifiable accounts. The loans bore interest *60 and interest was collected. Neither the names by which an account is denominated nor the manner of keeping accounts is controlling. The determination of taxable income is a practical matter governed by specific statutes and regulations. It is our opinion that to hold that these losses, suffered on clearly identifiable accounts, were so related to the national policy of Holland as to make them deductible from gross income within the United States as items not susceptible of allocation would require us to shut our eyes to the obvious facts. The simple fact seems to be that, whatever the motive that impelled the loans, they were losses suffered on specific accounts in Holland and should be allocated to income earned in Holland.
The corollary of this line of thought is to consider the "Reorganization Loans" from their relation to the earning of income within the United States. The applicable statute (section 234(b)) allows deductions "only if and to the extent that they are connected with income" within the United States. The remainder of the statute allowing a ratable part of items which can not definitely be allocated*581 does not purport to be based on any other premise. The concept underlying this provision is that some part of such items is related to the earning of income within the United States. This relationship to the income within the United States must be apparent, although the determination of the amount may be left to more or less arbitrary allocation. On the record before us we must hold that the petitioner has not proved the existence of this relationship.
The cases of Fajardo Sugar Co. of , and the (petition to review dismissed July 25, 1935, C.C.A. (5th Cir.), have been cited by the petitioner. Those cases, however, afford us little assistance in deciding the case before us. In the Fajardo Sugar Co. case the petitioner claimed as a deduction the ratable part of certain so-called "operating charges." We held that the evidence established that substantially all of such expenditures were allocable to income produced outside of the United States and that the petitioner had not sustained its burden of proof of showing such amounts should be apportioned ratably. In the*582 Texas Land & Mortgage Co., Ltd., case the question at issue was whether or not certain losses chargeable against income from sources within and without the United States should be deducted before arriving at the "ratable part" of unallocable expenses deductible from the petitioner's gross income from sources within the United States. We held that they should not be deducted. In both cases we followed the obvious import of the statutory language.
*61 We are of the opinion and hold that petitioner has not proved respondent's determination to be in error.
Reviewed by the Board.
Decision will be entered under Rule 50.
Footnotes
1. SEC. 234. (a) In computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions:
(1) All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business * * *.
* * *
(4) Losses sustained during the taxable year and not compensated for by insurance or otherwise. * * *
(5) Debts ascertained to be worthless and charged off within the taxable year (or in the discretion of the Commissioner, a reasonable addition to a reserve for bad debts); and when satisfied that a debt is recoverable only in part, the Commissioner may allow such debt to be charged off in part.
(b) In the case of a foreign corporation or of a corporation entitled to the benefits of section 262 the deductions allowed in subdivision (a) shall be allowed only if and to the extent that they are connected with income from sources within the United States; and the proper apportionment and allocation of the deductions with respect to sources within and without the United States shall be determined as provided in section 217 under rules and regulations prescribed by the Commissioner with the approval of the Secretary.
SEC. 217. (e) Items of gross income, expenses, losses and deductions, other than those specified in subdivisions (a) and (c), shall be allocated or apportioned to sources within or without the United States under rules and regulations prescribed by the Commissioner with the approval of the Secretary. Where items of gross income are separately allocated to sources within the United States, there shall be deducted (for the purpose of computing the net income therefrom) the expenses, losses and other deductions properly apportioned or allocated thereto and a ratable part of other expenses, losses or other deductions which can not definitely be allocated to some item or class of gross income. The remainder, if any, shall be included in full as net income from sources within the United States. In the case of gross income derived from sources partly within and partly without the United States, the net income may first be computed by deducting the expenses, losses or other deductions apportioned or allocated thereto and a ratable part of any expenses, losses or other deductions which can not definitely be allocated to some items or class of gross income; and the portion of such net income attributable to sources within the United States may be determined by processes or formulas of general apportionment prescribed by the Commissioner with the approval of the Secretary. * * * ↩