*2423 1. Invested capital may not be reduced on account of a tentative tax computed on the income for the year in determining the amount of current earnings available for the payment of dividends.
2. No deduction for obsolescence can be allowed where the property with respect to which a claim for such deduction is made was not used either prior to or during the taxable year and where the value of such property can not be determined.
3. No deduction for obsolescence can be allowed where the property with respect to which a claim for such deduction is made remained in actual use in petitioner's business throughout the taxable year, unless it is shown that such property would become obsolete prior to the end of its ordinary useful life, and that it was known during the taxable year, or believed to have been known to a reasonable degree of certainty under all the facts and circumstances, when the state of obsoleteness would likely occur.
*1192 This proceeding is for the redetermination of a deficiency in income and profits*2424 tax for the calendar year 1918 in the amount of $39,157.42. The petitioner alleges that the respondent erred in that (1) he *1193 reduced invested capital on account of a tentative tax for the year 1918 used by him in computing the amount available for distribution of dividends up to June 16, 1919; (2) refused to allow as a deduction from gross income an allowance for obsolescence of the unused portion of a brew house; and (3) refused to allow as a deduction from gross income an allowance for obsolescence of a stock house.
FINDINGS OF FACT.
Petitioner's business was founded by Bernhard Stroh in the year 1850 and was incorporated in 1875 as the Lion Brewing Co. In 1883 it was purchased by Bernhard Stroh, Jr., and Julius Stroh. It was reincorporated in 1885, as B. Stroh Brewery Co.; reincorporated as The Stroh Brewery Co. of West Virginia, in 1902; and was again reincorporated, as The Stroh Brewery Co. of Arizona, in 1909. In 1918 the name was changed to the Stroh Products Co. The business was founded as a lager beer brewery and was continued as such in the City of Detroit until the adoption of prohibition by the State of Michigan, which became effective May 1, 1918. *2425 On this date the petitioner's lager beer business ceased.
A new brew house (building No. 4) was completed by petitioner in the year 1914. The business at that time was firmly established and had prospered to such an extent that the management deemed it advisable to erect a building which would take care of any future expansion that the business might warrant. The building as constructed provided sufficient room to house two complete brewing units, consisting of kettles, mash and lauter tubs, tanks, coolers, etc. The cost to petitioner of this building was $370,803.31, against which depreciation had been sustained and allowed by the respondent in the amount of $68,524.24 up to January 1, 1918. At the time the brew house was erected the cost of constructing a building of the same general type to house only one brewing unit would have been approximately $180,000.
The east side of the building was equipped with a complete brewing unit of the capacity of 850 barrels of beer per brew. Such unit generally consisted of grain-handling machinery, water tanks of various sizes, milling machinery for grinding the grain, a mash tub, two lauter tubs, six copper brew kettles and complementary*2426 masonry, and miscellaneous pumps, motors, and driving machinery, as well as beer coolers, hop storage drums, and grain storage bins. Most of the equipment is of a special nature and is so large that it was necessary to bring it into the building in sections before installation. A portion of the equipment is set in solid masonry, becoming a part of the building. The petitioner completely operated the single brewing unit *1194 that was installed, although it never operated it to capacity even in 1916, the year in which the petitioner had its largest production.
The west side of the building was never equipped with a brewing unit, nor any part of such unit. It was constructed, however, in such a manner that at all times it was in condition to receive such equipment as would be necessary to establish a second unit; notably, with respect to the floors, which contained holes for the installation of the various tanks and kettles that would be contained in such unit. No part of the west side of the building has ever been used for storage or for any other purpose except in the year 1919, when a small canning department was placed upon the first floor and used for the purpose*2427 of canning malt syrup. Unused space was available on the east side of the building for this same purpose, but the canning department was laid out in a small portion of the west side of the building as a matter of convenience.
The brew house (building No. 4) in its entirety consists of an eight-story structural steel frame and reinforced concrete building, on spread foundations of reinforced concrete, with brick walls, fireproof throughout and of exceptionally heavy design for the carrying of heavy loads, owing to the nature of its use. The malt storage bins were built as an integral part of the building structure and their construction was used to support both dead and live storage loads. The building was designed and constructed for double capacity of equipment actually installed. The building houses both a passenger elevator and a freight elevator and when completed was considered to represent the finest type of brew house construction. The floor levels in the building vary. There is a large light court running through the building from the second floor to the roof, and the grain bins occupy space from the fourth floor to the eighth floor in one corner of the building. There*2428 are also several mezzanine floors installed at heights peculiarly adapted for the general purpose for which the building was constructed. In its present condition the west half of the building can not be used for storage purposes, owing to the holes left in the floors for the installation of future equipment. Such holes have never been boarded up.
Prior to May 1, 1918, petitioner manufactured and sold beer and ice and had also manufactured and sold a small amount of so-called temperance beer. This so-called temperance beer had been sold in local option counties or prohibition counties close to Detroit in the State of Michigan shortly prior to the effective date of state-wide prohibition. After May 1, 1918, no more real beer was sold. The petitioner manufactured temperance beer on a large scale, continued the sale of ice from its ice plant, which had been put into operation in August, 1916, and also began to sell soft drinks, such as ginger *1195 ale, birch beer, etc. During the summer of 1918 petitioner decided to go into the ice cream business and began the construction of an ice cream plant, which was placed in operation in June, 1919. It also commenced to manufacture*2429 malt syrup in the year 1919. These activities and lines of business are still engaged in by the petitioner and its soft drink business has been increased from time to time by the addition of various beverages.
The business of the petitioner in 1913 was very prosperous, showing a substantial increase over the year 1912, and over that of prior years. At that time the new brew house (building No. 4) was being erected and just prior to that time, namely, in the fall of 1912, a stock house, known as building No. 26, was completed. There were slight decreases in business during the years 1914 and 1915, but in 1916 business increased to the extent that sales in that year of lager beer amounted to 300,000 barrels, which was approximately 20 per cent in excess of the best previous year, which was 1913. In 1917 there was a slight decrease in sales.
The lager beer which was on hand at April 30, 1918, the last day of sale of real beer, was converted into temperance beer by the dealcoholizing process. The officers of the petitioner had made frequent investigations of conditions existing in other States which had, previous to May 1, 1918, adopted prohibition. The result of these investigations*2430 indicated that most of the breweries concerned enjoyed fair success in the temperance beer business at the beginning, but that such business in each case decreased to a point where it was unprofitable to continue its manufacture, with the result that they closed down. The State of Michigan had voted to adopt prohibition in November, 1916, and the investigations carried on by petitioner's officers were made during the period between that date and May 1, 1918.
Building No. 26, a stock house for storing beer, located on Gratiot Avenue at the extreme end of the petitioner's property, was the most inaccessible of the store houses from the point of manufacture, which was the brew house. It is constructed of structural steel and reinforced concrete, with brick walls. It is five stories high and has cork insulation throughout. It has very few windows, due to the nature of its use, and its floors, which are of asphalt, contain large gutters and are pitched in various directions for drainage purposes. The building is also equipped with steel tanks and ammonia piping, being used as a cold storage store house. The ceilings are about fourteen feet high. During the construction of the*2431 building, openings were left in the walls through which the storage tanks could be put in place. After the storage tanks were erected the walls were bricked up and the insulation installed. The story heights in *1196 the building vary and it is a type of building designed for exceptionally heavy live loads. There is no chimney or stack and no heating or distribution system in the building. The lighting system merely consists of general lighting along the alleyways in front of the storage tanks.
After the completion of building No. 26 in the year 1912 it was used for storing beer, with the exception of the first year, when the first floor was used for washing kegs, after which tanks were also installed on the first floor. It was fully used for the foregoing purpose up to May 1, 1918, after which its use steadily declined until July, 1920, when its use was discontinued. After that date no further attempts were made to keep the building in a good state of repair and it was eliminated from the rounds of the watchman at the plant. No repairs of any kind have been made or painting done to the building and it has never been used for any purpose since July, 1920. Prior to*2432 the effective date of state prohibition the petitioner considered the advisability of converting building No. 26 into a general cold storage warehouse. Such conversion, however, was found to be impracticable, due to the fact that the building was not located on a railroad track and, further, because of its type of construction. The building was not accessible from the street without crossing a considerable portion of the petitioner's property, which had the effect of hampering any possible sale of the building by itself. The building was advertised for sale during the year 1917 in various newspapers and brewery trade journals, but no offers for it were received by the petitioner as the result of the advertising. It represented a cost to the petitioner of $84,487.25, against which depreciation has been allowed by the respondent to January 1, 1918, in the amount of $20,916.81.
The beer production in the year 1916 was 309,554 barrels. In 1918 the production consisted of 27,400 barrels of lager beer and 151,447 barrels of temperance beer. The production in 1919 was 102,261 barrels; in 1920, 91,650 barrels, and in 1927, 8,925 barrels of temperance beer. Prior to May 1, 1918, petitioner*2433 used buildings Nos. 5, 6, 8, 9, 16, 19, 20, 24, 25, and 26 for the storage of lager beer. Building No. 16 was a bottling house, but it also contained storage tanks for the beer being bottled. A portion of the storage capacity for beer on May 1, 1918, was as follows:
| Building No. | Barrels. |
| 26 | 26,388 |
| 20 | 12,060 |
| 19, 24, 25 | 12,713 |
| 5 | 12,210 |
| 16 | 2,200 |
*1197 Subsequent to the effective date of state prohibition the greatest quantity of beer on storage during any one year was as follows:
| Barrels. | |
| July 1, 1918 | 27,000 |
| August 1, 1919 | 23,065 |
| July 1, 1920 | 16,015 |
| February 1, 1920 | 12,963 |
Subsequent to prohibition both sales and quantity of beer on storage declined in amount during each following year. The quantity of temperance beer sold by the petitioner during the period from May 1 to December 31, 1918, was 115,969 barrels, having a sales value of $943,399.84.
Dividends paid by petitioner in 1918 were as follows:
| March 19 | $20,272.00 |
| June 18 | 83,520.00 |
| June 26 | 243,098.97 |
| December 17 | 22,704.00 |
The taxable income prorated to June 26, 1918, was $131,095.36. Respondent in computing invested capital for the year*2434 1918 determined a tentative tax for the year of $92,981.58, which sum when prorated to June 26, 1918, resulted in reducing the amount of income available for dividends in the amount of $44,834.94.
The books of account of the petitioner were kept upon the accrual basis.
OPINION.
SMITH: The original petition filed in this proceeding alleged error on the part of the respondent in that he failed to allow deductions for obsolescence of good will and for obsolescence of a brew house and machinery. It related solely to the calendar year 1918, although the deficiency notice from which the appeal was taken disclosed deficiencies for the years 1919 and 1920 as well. At the hearing counsel for the petitioner abandoned its claims for obsolescence of good will and for obsolescence of machinery and filed an amended petition covering the years 1918, 1919, and 1920, in which it is alleged that the respondent erred in reducing invested capital and in refusing to allow certain deductions for obsolescence of physical property.
Counsel for the respondent objected to the receipt of so much of the amended petition as relates to the years 1919 and 1920 and read into the record an amended answer*2435 which denied the allegations of error contained in the amended petition. He admitted, as an allegation of fact, paragraph (d)(11) of the amended petition, reading as follows:
The taxable income prorated to June 26, 1918, was $131,095.36. Respondent in computing invested capital for the year 1918 determined a tentative tax *1198 for the year of $92,981.58, which sum when prorated to June 26, 1918, resulted in reducing the amount of income available for dividends in the amount of $44,834.94.
No petition having been filed with respect to the years 1919 and 1920 within the jurisdictional time, we can not consider that portion of the amended petition offered at the hearing which relates to those years. From that portion of the amended petition which relates to the year 1918 and from the amended answer it appears that the issues before us are (1) whether invested capital for the year 1918 may be reduced on account of a tentative tax computed on the income of the taxable year for the purpose of ascertaining the amount of current earnings available for payment of dividends up to June 16, 1918; (2) whether the petitioner is entitled to the deduction from gross income on account*2436 of obsolescence of the unused portion of a brew house; and (3) whether the petitioner is entitled to a deduction from gross income on account of obsolescence of a stock house.
With respect to the first issue, it is well settled that invested capital may not be reduced on account of a tentative tax computed on the income for the year in determining the amount of current earnings available for the payment of dividends, and we so hold in this proceeding. , affirming ; .
Counsel for the petitioner stated at the hearing that its contention with respect to the brew house is based entirely upon absolute nonuse of one-half of that building, and that it was making no claim whatsoever on the one-half of the building, together with the equipment contained therein, which was in use. The Revenue Act of 1918 provides in part as follows:
SEC. 234. (a) That in computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions:
* * *
*2437 (4) Losses sustained during the taxable year and not compensated for by insurance or otherwise;
* * *
(7) A reasonable allowance for the exhaustion, wear and tear of property used in the trade or business, including a reasonable allowance for obsolescence.
The evidence shows that, subsequent to the effective date of statewide prohibition in the State of Michigan and throughout the remainder of the taxable year under review, the petitioner employed its brew house in the manufacture of near beer. The evidence also clearly shows that the brew house was just as well adapted for, and just as efficient in, the brewing of near beer as it was for the manufacture of lager beer. Under these circumstances, can it be said that the *1199 brew house became obsolete in 1918? We think not. Consequently, no allowance could be made for obsolescence of so much of the brew house and machinery as was employed by the petitioner in the conduct of its business during the year 1918 and, as stated above, the petitioner makes no claim for any such allowance.
The petitioner does claim - and the second issue in this proceeding is limited solely to such claim - that it is entitled to an allowance*2438 for obsolescence of approximately one-half of its brew house, which the petitioner contends it never used. However, the testimony adduced at the hearing relative to this issue can only be regarded as evidence of the fact that the petitioner did not make use of the space or of any of the facilities contained in such one-half portion, inasmuch as the brew house constituted a single structural unit and it is clear that all of its walls, floors, ceilings, etc., were employed in the maintenance of the whole.
The business of the petitioner for the year 1913 was larger than it had been for any year prior thereto, and in 1916 its business was very considerably larger than it had been in 1913. Even so, however, the 850-barrel capacity of the one brewing unit installed in the brew house was not taxed to capacity. Consequently, while the evidence conclusively supports the contention of the petitioner that it had never used, either during the year 1918 or prior thereto, any of the space or facilities contained in the west side of its brew house, it also shows that at no time prior to the year 1918 did the petitioner contemplate immediate use of such space or facilities. On the contrary, *2439 the employment of such space or facilities was wholly prospective.
After the effective date of prohibition in the State of Michigan the petitioner still had the opportunity to manufacture near beer. It is true that a greater hardship may have been thrust upon it in that it was faced with the necessity of building up a business in near beer and soft drinks. However, prohibition legislation did not serve to cut off or eliminate the uses for which the brew house was constructed, inasmuch as it was just as efficient for the manufacture of near beer under the dealcoholization method employed by the petitioner as it was for the manufacture of real beer. Even the latent possibilities of the unused portion of the brew house were present, but perhaps not to so great an extent.
The effect of prohibition legislation was to cause the petitioner to convert its prior business into one in many respects very similar thereto. It did not have for its effect the prevention of all the business activity of the petitioner with respect to its brew house. It still owned facilities used in the manufacture of near beer and soft drinks and it did not follow, necessarily, that the unused facilities*2440 of its *1200 brew house would never be used merely because the petitioner changed its business from that of the production of real beer to that of the production of near beer and soft drinks. Having never used the space or facilities contained in a portion of its brew house, it can not claim that it was compelled to discontinue their use. Cf. ; also, .
In , we had under consideration a case where the usefulness of business property was lost to a taxpayer through the operation of the prohibition law and the property, instead of being abandoned or sold, was placed in storage. In deciding that case we said:
It seems clear that property is not ipso facto lost to a taxpayer because it is no longer useful to him. Ownership and possession still exist, and in some cases value may not wholly disappear. Value and usefulness are not necessarily interdependent, even though they very commonly look to each other for support. The want of either does not make certain the absence of the other. *2441 It should be kept in mind that the considerations in ascertaining net income must always be expressed in money and that all the factors relied upon must be translated into terms of money. Use is only significant to the extent that it is susceptible of such expression. No one would urge that an income deduction may be claimed because a fixture or tool proves less useful than expected when the purchase was made. Until the investment is converted into terms of money by sale or other disposition or its worthlessness otherwise demonstrated, there is neither loss nor gain and income is neither greater nor less.
So when we put aside the legislative cause of petitioners' misfortune, and find further that the evidence shows only that the glass could no longer be used by petitioner in its business, we are still far removed from the establishment of such a loss as offsets income. It is not necessary to consider whether we should be brought closer if no sale or disposition could have been made after reasonable effort, for there is no evidence of an effort; and voluntary storage is not a final disposition. * * *
In the instant proceeding testimony was offered by the petitioner to the*2442 effect that a brew house one-half the size of the one in question would have cost approximately $180,000. Otherwise, the record is silent as to the value of unused space and facilities contained in the west portion of petitioner's brew house. Consequently, even if it be conceded, for the sake of argument, that the petitioner is entitled to a deduction for obsolescence with respect to the west portion of its brew house, we could not determine from the record what would constitute a reasonable allowance for such obsolescence, since the evidence presented by the petitioner can not be accepted as proof of the value of the unused space and facilities.
Under these circumstances we are convinced that the respondent must be sustained in disallowing a deduction for obsolescence of petitioner's brew house.
*1201 The third issue involves petitioner's claim to an allowance for obsolescence of a stock house. This building was erected for the purpose of storing beer under refrigeration. The evidence shows that after May 1, 1918, the effective date of state-wide prohibition, the building and its equipment were just as efficient for the purposes for which they were designed and erected*2443 as they were before; that they were in use throughout the taxable year for such purposes; and that not until some time in the year 1920 was their use discontinued. The evidence further shows that in 1918 the petitioner had reasonable grounds for believing that some time in the future it would no longer use the stock house in question. Such belief was based in part upon information gathered from investigations into the operations of other breweries which, because of prohibition legislation, had engaged in the manufacture of near beer, and in part upon the large excess storage capacity which existed in its own plant at all times subsequent to May 1, 1918. The evidence does not disclose, however, at what future date the petitioner believed it would discontinue the use of the stock house. Obsolescence is defined as the state of becoming obsolete and obsolete is defined as meaning "no longer in use; disused; neglected." Webster's New International Dictionary. We have held that obsolescence is the state or process of becoming obsolete, and the state of obsoleteness is reached when the property which can not be used for any other purpose is no longer useful for the purpose for which*2444 it was acquired. . The right to an obsolescence deduction must be based upon substantial reasons for believing that assets would become obsolete prior to the end of their ordinary useful life; and it must have been known, or believed to have been known, to a reasonable degree of certainty, under all the facts and circumstances, when that event would likely occur. ;; ; affirming . Cf. , in which we said:
Upon the evidence, the only change made in the taxpayer's business, when it transferred its activity from beer to soft drinks and near beer, was the enlargement of its bottling department. That occurred in 1917. The identical machinery and equipment were used after prohibition as before. * * * How can we say there was obsolescence of property when it was actually used and sold to be used? "Obsolescent is the state or process of becoming obsolete." *2445 . A reduction in value does not necessarily prove the property to be obsolete or obsolescent * * *.
and , in which we said:
*1202 * * * We have had occasion, heretofore, to consider similar contentions and have reached the conclusion that the deduction representing the decreasing value in use of assets continued in the same or related business is not allowable. Cf. ; ; . * * *
In view of the foregoing, we are of the opinion that the petitioner is not entitled to a deduction from gross income for the year 1918 of an allowance for obsolescence of its stock house.
Judgment will be entered under Rule 50.