*2139 1. A fee paid by corporation for services of an accountant in the circumstances of the instant case held not an ordinary and necessary expense of carrying on a business.
2. Evidence held insufficient to show that any part of a debt claimed as a deduction in the taxable year was then ascertained to be worthless.
*380 The Commissioner determined deficiencies in income taxes for 1924 and 1925 in the amounts of $2,562.50 and $1,430.94, respectively.
The deficiencies arise on account of the refusal of the Commissioner to allow as an ordinary and necessary expense a fee paid an accountant and the disallowance as a deduction of a part of a debt claimed to have been ascertained worthless and "charged off" in the taxable years.
FINDINGS OF FACT.
The petitioner is a corporation with its principal office at Winchendon, Mass. It was incorporated in 1919. It kept its books on the accrual basis.
*381 The following proposition was made to it by William M. Whitney:
To the DIRECTORS OF BAXTER D. WHITNEY & SON, INC.
GENTLEMEN:
I*2140 hereby offer to transfer and convey to your corporation all the assets of the business now conducted by me under the name and style of Baxter D. Whitney & Son at Winchendon, Mass., consisting of real estate, machinery, stock, raw, wronght and in process, accounts receivable, patents, trade marks, cash in bank, a statement of said assets with the valuation at which the same are carried on my books as of December 31, 1918, and audited by Marwick, Mitchel, Peet & Co., accountants being hereto annexed marked "A," upon the delivery to me of an agreement by which your corporation will assume and agree to pay all the outstanding obligations of said business, a statement of the same being included in said annexed statement, and upon further delivery to me of $100,000 par value of the first preferred stock, $450,000 par value of the second preferred stock, and $299,700 par value of the common stock of your corporation, and $25,000 in cash, it being expressly understood that the conveyance by me to your corporation shall be as of the date of the transfer and shall cover all assets of every kind and description acquired by me in said business since December 31, 1918, and the date of transfer, *2141 including any taxes, Federal, State or Municipal, which may be assessed or levied against me on account of assets or income thereof between January 1, 1919, and the date of transfer shall be assumed and paid by your corporation. I am to assume and pay all Federal taxes on income of said business for the year 1918.
(Signed) WILLIAM M. WHITNEY.
The proposition so made was accepted by the petitioner and the actual transfer of assets made in 1919.
In 1924 the Commissioner proposed an additional tax against said William M. Whitney for 1918 in the sum of $133,037.12.
The petitioner, on the assumption that the proposed tax against Whitney was on account of the profit he derived from the transfer of assets to it and on the further assumption that its acquisition of such assets required the payment by it of such tax, employed expert accountants to try to have such proposed tax decreased. The tax was decreased to $27,017.90 and the petitioner paid the same in February, 1925.
The fee for services so rendered in securing the reduction of the tax was $10,500 and was paid by petitioner in 1924, and in its return for that year was claimed as a deductible expense item.
In that*2142 year William M. Whitney was president and treasurer of petitioner, owning 2,805 of $3,000 shares of its common stock of the par value of $100 each and $155,900 of the $382,400 par value of the first preferred stock. There was $450,000 par value of the second preferred stock. Common stock, only, had voting power. The salary of the president was $20,800 a year.
In 1924 the petitioner had an account or claim for $42,118.31 against the T. R. Almond Manufacturing Co. of Ashburnham, Mass., on which nothing had been paid since 1922.
*382 In each of the years 1924 and 1925, $10,000 of the Almond Manufacturing Co. account was charged on the books of petitioner to profit and loss and credited to reserve, but there was no actual "charge-off" on the books.
In each of said years petitioner in its tax return claimed a "charge-off" of $10,000 on the assumption that to such extent the Almond Manufacturing Co. account was "worthless" and that it was to such extent a deductible item in each of said years.
No credit statement or definite information as to the financial condition of the Almond Manufacturing Co. was obtained in either of those years. No special effort was made to*2143 ascertain what the Almond Manufacturing Co.'s condition then was. No suit was instituted against the Almond Manufacturing Co. It continued to transact business and was in business as late as March, 1928.
OPINION.
SEAWELL: The first error assigned by petitioner is the failure of the Commissioner to allow as a deductible expense item in the petitioner's 1924 tax return the fee of $10,500 then paid to an accountant for services in getting the proposed income tax for 1918 against William M. Whitney reduced.
In section 234(a)(1) of the Revenue Act of 1924 it is provided that:
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, including a reasonable allowance for salaries or other compensation for personal services actually rendered, * * *
The evidence shows that the tax about which the petitioner incurred an expense of $10,500 (in having such tax reduced) was an income tax proposed against one William M. Whitney for the year 1918. It was not a tax proposed against the petitioner. *2144 The contract between William M. Whitney and the petitioner, the proposition made by the former and accepted by the latter constituting the same, is set forth in our findings of fact. The exact dates of the proposition and its acceptance are not shown in the evidence. There is no provision or requirement in the contract so made that the petitioner should pay the individual Federal income tax of William M. Whitney for the year 1918, nor for 1919, except such tax as might arise from the income of the particular business mentioned in the contract. The contract expressly provided that he should pay "all Federal taxes on income of said business for the year 1918."
The tax proposed against said William M. Whitney for 1918 and, in the decreased amount, paid by the petitioner, was not, in fact, under *383 the contract any liability of the petitioner nor was such tax based on the income derived from the operation of the business which petitioner acquired by virtue of the contract between them.
The payment of the $10,500 by the petitioner to an accountant in 1924 to get said tax for 1918 against William M. Whitney decreased was not an "ordinary and necessary expense" paid or incurred*2145 by the petitioner during said taxable year in carrying on its business.
In the case of , we said:
The liquidation of a liability of known or unknown amount assumed by a corporation as a part consideration for the purchase of assets is not an ordinary and necessary expense of doing business. It is a capital transaction. It is not a legal deduction from gross income. The same is true of legal expenses paid in connection with the organization of a corporation. They are capital items.
The evidence indicates that the actual transfer of assets by Whitney to the petitioner was in March, 1919. The sale transaction between Whitney and the petitioner was treated by the Commissioner as complete, rights of the parties to the contract vested as of 1918, and the income tax was computed on the profit realized by Whitney as of that date. In the light of the contract and evidence, we can not say that the Commissioner erred. If the proposed tax against Whitney on account of the profit he realized from the sale to petitioner were viewed as a 1919 tax instead of 1918 tax, it would not have been a tax, considering its nature - being*2146 on the profit from the sale and not on income from the business operated, which petitioner was under its contract obligated to pay and the payment of the $10,500 to an accountant to have that tax reduced would not be allowable as a deductible item, as an ordinary and necessary expense of carrying on business.
The petitioner also assigns as error the failure of the Commissioner to allow a reasonable increase to a reserve for bad debts. While such was the assignment of error, in the presentation and argument of the case counsel for the petitioner stated: "Our position is that while the book entry shows this as a reserve for bad debts, as a matter of fact and in reality, it was purely and simply a charge off, * * *."
Such being the insistence in behalf of the petitioner, we will consider the matter on the basis of a "charge-off."
Section 234(a)(5) of the Revenue Acts of 1924 and 1926 provides:
In computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions:
* * *
(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*2147 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.
*384 In our opinion, the evidence is insufficient to show that the Almond Manufacturing Co.'s debt in 1924 and 1925 was ascertained to be worthless in whole or in part. The evidence indicates that in the years involved, 1924 and 1925, petitioner made no special effort to collect the debt against the Almond Manufacturing Co., nor to ascertain the actual condition of said company. No suit to collect was ever brought against it and it continued in business to 1928. The evidence fails to show that the debt was not recoverable in 1924 and 1925. Furthermore, instead of actually charging off any part of it, profit and loss account was simply charged with $10,000 in each of said years and reserve account was credited in same amounts.
The case of , is cited and relied on by petitioner. The facts in that case and in the instant case are not similar. In it there were debts represented by open accounts and it was stipulated at the hearing that such accounts were ascertained to be "worthless" *2148 during the taxable year and as to such the question was simply whether there had been a proper" charge-off" within the meaning of the statute so as to entitle the petitioner to a deduction on account thereof.
In the instant case, there is no stipulation nor any satisfactory evidence that the debt or any portion of it was ascertained to be worthless in the taxable year in which a "charge-off" is insisted upon. It is not, therefore, necessary to further discuss the question whether there was a proper "charge-off." As was said by the United States Circuit Court of Appeals in :
* * * But a debt cannot to written off as worthless merely because it is doubtful. Reasonable and intelligent effort must be made to determine its value, and the circumstances thus discovered must be such as reasonably to generate the belief that it is in fact worthless. * * *
See ; .
The action of the Commissioner herein is approved.
Judgment will be entered for the respondent.