1942 BTA LEXIS 864">*864 Petitioner, the owner of all the outstanding stock of corporation, sold that stock at a loss in the taxable year. The corporation had become indebted to petitioner for advances made over a period of years and, in the taxable year, petitioner sold his claim against the corporation to the purchaser of the stock of the corporation for an amount less than the face value of the debt. At the end of the taxable year and after the stock and debt had been sold, petitioner charged off on his books the difference between the amount of the debt and the amount which he received on its sale. Held, that petitioner's loss on his claim against the corporation was a capital loss, subject to the limitations of section 117 of the Revenue Act of 1936.
46 B.T.A. 423">*423 This proceeding is to redetermine a deficiency found by the Commissioner in the sum of $2,782.12 for the taxable year ended December 31, 1937. Petitioner claims the right to deduct $13,283.84 as the unrecoverable portion of a debt under the provisions of section 23(k) of the1942 BTA LEXIS 864">*865 Revenue Act of 1936, while the Commissioner takes the view that the deduction is limited to $2,000 as a capital loss by reason of section 117 of the same act.
FINDINGS OF FACT.
Petitioner is an individual, engaged in the business of importing and manufacturing perfumery and toilet articles in New York City. He filed his Federal income tax return for the year 1937 with the collector of internal revenue for the third New York collection district.
In the year 1926 petitioner organized the Maurice Levy Co., Ltd., a Canadian corporation (hereinafter sometimes referred to as the corporation), to conduct a business in Montreal, Canada, similar to that conducted by him in the United States. At the time of the organization of the corporation petitioner advanced cash to it and 46 B.T.A. 423">*424 sold it merchandise, and continued to do so from time to time thereafter. The amount representing the advance and sales was carried on petitioner's books as an account receivable. During the period 1926 to 1937, the only payments made by the corporation on the account were in 1931, 1933, and 1934, although in 1935, the account was credited in certain amounts for returned merchandise.
During1942 BTA LEXIS 864">*866 the years 1926 to 1937, inclusive, the corporation paid off all its creditors with the exception of petitioner. As of April 22, 1937, the corporation owed the petitioner on his account the sum of $27,837.84.
On December 31, 1936, the corporation had a deficit of $19,871.26. Its earnings for the years 1934, 1935, 1936, and 1937 had been in the amounts of $1,800, $2,600, $1,978.37, and $1,008, respectively.
Prior to September 1936 the corporation had manufactured for another corporation, Charles of the Ritz of Canada (hereinafter referred to as Charles). This source of income was the corporation's only profitable one. In September 1936 the arrangement was changed so that Charles did its own manufacturing and the corporation shared to the extent of 50 percent in the net profits of Charles. In March 1937 petitioner found that the new arrangement was unprofitable.
On April 27, 1937, W. N. Beauchamp, the manager of the corporation, offered to purchase petitioner's stock in the corporation for the sum of $2,200. This offer was accepted by petitioner on the same date. At the same time petitioner offered to sell the debt owed him by the corporation for the sum of $14,554. This1942 BTA LEXIS 864">*867 offer of petitioner was accepted by Beauchamp and acknowledged by him as having been negotiated and satisfied on June 19, 1937.
Petitioner received the cash from the sale of the stock and the debt of the corporation and deposited it in his personal bank account, causing the amount received to be credited to his personal account on his books.
On December 31, 1937, petitioner charged off the corporation's account and his investment in the stock by the following entry:
| Profit and loss | $14,583.84 | |
| Maurice Levy personal | 16,754.00 | |
| Maurice Levy, Ltd | $27,837.84 | |
| Investment | 3,500.00 |
To write off uncollectible investment and receivables
On his income tax return filed for the year 1937 petitioner claimed a loss of $1,300 on the sale of the corporation stock, which loss was taken into account as a capital loss in the amount of $390. Petitioner also claimed a deduction as a bad debt in the amount of $13,283.84.
The Commissioner in his determination increased the capital loss claimed by petitioner on his return by $1,610 and disallowed the 46 B.T.A. 423">*425 $13,283.84 claimed as a bad debt, with the following explanation in the notice of deficiency:
(a) Income1942 BTA LEXIS 864">*868 from your business reported on your income tax return for the year 1937, in the amount of $42,472.08, has been increased to $55,667.28. The difference of $13,195.20 has been added to your taxable income and was arrived at as follows:
| 1. Bad debts claimed in the amount of $13,666.31 has been reduced by | $13,283.84 |
| (It is held that deduction allowable on the loss sustained in the amount of $13,283.84 is limited to $2,000.00, under the provisions of Section 117 of the Revenue Act of 1936.) | |
| 2. The above adjustment has been offset by | 88.64 |
| representing an additional deduction for United States Unemployment Insurance Tax. |
* * *
(c) The capital loss claimed on your income tax return in the amount of $390.00 has been increased to $2,000.00, representing the maximum amount allowable under Section 117 of the Revenue Act of 1936. This adjustment has been made in accordance with the explanation made of item (a) 1.
OPINION.
ARUNDELL: The only question before us is whether or not petitioner is entitled to a deduction for a partial bad debt with respect to the account receivable sold by petitioner in the taxable year or whether he is limited in his deduction by section1942 BTA LEXIS 864">*869 117 of the Revenue Act of 1936. Petitioner contends that he ascertained the account to be partially uncollectible and charged off that amount in the taxable year. Respondent argues that the sale of the account receivable gave rise to the loss and that the transaction was a sale or exchange of a capital asset within the purview of section 117.
Section 23(k) of the Revenue Act of 1936 permits a deduction for a debt ascertained to be partially worthless and written off in the taxable year. Section 117 provides that a loss on the sale or exchange of capital assets will be allowed only to the extent of $2,000 plus gains from sales or exchanges of such assets.
Petitioner concedes that the account receivable here under consideration is property. It follows that it must also constitute a capital asset. . Unquestionably, the account was sold. It would seem therefore that, unless petitioner has shown the deduction to be allowable under section 23(k), the limitations of section 117 must be imposed.
We do not disagree with petitioner's claim that he ascertained the account to be partially worthless. Petitioner was in full possession1942 BTA LEXIS 864">*870 of all facts concerning the debtor's condition and the fact that he sold the account for a price far less than its face amount is strong indication of ascertainment of partial worthlessness. But this fact does not change what occurred. The debt was sold and at the time the charge-off was made on the books of the petitioner he was not in 46 B.T.A. 423">*426 fact the owner of the account receivable. ; affd., ; .
We may pass the query as to what would have happened had the partial write-off taken place in a prior year when petitioner was still the owner of the debt. Nor are the cases in point which deal with a settlement made directly between a creditor and debtor where the debt is liquidated for less than the amount due. Cf. . In such circumstances the creditor would ordinarily have a right to charge off the difference.
What actually is done rather than what might have been done usually determines the tax consequences. Here there was, within the taxable year, before the actual charge-off of the indebtedness, 1942 BTA LEXIS 864">*871 the sale of the account. The facts bring the case squarely within the provisions of section 117 and, in our opinion, that fact must control, with the consequent limitation of the loss from the sale.
, is helpful. While in that case the court was concerned solely with determining whether certain bond transactions would be regarded as retirements so as to bring into play section 117(f), the broad question of the deductibility of a bad debt where there was a sale or exchange was necessarily involved. The holding of the court was that the transaction resulted in a retirement of bonds and must necessarily be treated as a sale or exchange with a consequent limitation of the loss. In so holding, the court stated that in such circumstances Congress intended by the new subsection (f) to take out of the bad debt provision certain transactions and to place them in the category of capital gains and losses.
It follows that the respondent's determination must be sustained.
Decision will be entered for the respondent.