*3404 1. Salaries paid to officers of the petitioner corporation for the fiscal years ended October 31, 1918, and October 31, 1919, held to be only reasonable compensation for services rendered and therefore legal deductions from gross income.
2. Petitioner's liquors on hand at October 31, 1919, were inventoried on the basis of cost or market, whichever was lower. Held that such basis was proper.
3. Collection of assessments of tax for the fiscal years ended October 31, 1918, and October 31, 1919, held not barred by the statute of limitations.
*1067 This is a proceeding for the redetermination of deficiencies in income and profits tax for the fiscal years ended October 31, 1918, and October 31, 1919, of $3,967.92 and $10,730.75, respectively.
The issues are:
(1) Whether the salary disallowance and inventory adjustment which increased the net income were proper; and
(2) Whether collection of the asserted deficiencies is barred by the statute of limitations.
FINDINGS*3405 OF FACT.
The petitioner is a California corporation with its principal place of business at Fourth and Market Streets, San Francisco.
*1068 For the fiscal years ended October 31, 1918, and October 31, 1919, the petitioner paid $33,180 and $41,700, respectively, as salaries of officers and deducted those amounts from gross income in its income-tax returns. Of the amounts claimed as "salaries of officers" there was included $7,410 for the fiscal year ended October 31, 1918, and $6,710 for the fiscal year ended October 31, 1919, paid to assistants who were stockholders but not officers. Of the amounts claimed as deductions for salaries of officers the respondent disallowed $9,180 of the amount claimed for the earlier year and $9,700 of the amount claimed for the later year on the ground that they were in excess of reasonable allowances for compensation for personal services actually rendered. The salaries paid to the two principal officers were as follows:
| Fiscal year | Total | H. L. Hirsch | L. H. Hirsch |
| 1918 | $25,770 | $16,210 | $9,560 |
| 1919 | 35,000 | 18,350 | 16,650 |
In *3406 The Hof Brau Co.,6 B.T.A. 442">6 B.T.A. 442, petitioner was allowed $36,000 as salaries for its two officers for 1920 and a disallowance of $8,734.10 made by the Commissioner in determining a deficiency was disapproved. The findings of fact in that appeal, so far as relevant, are incorporated by reference in the present proceeding.
The shares of stock outstanding during each of the years 1918 and 1919 were 1,000. They were held as follows:
| L. H. Hirsch | 650 shares |
| H. L. Hirsch | 50 shares |
| M. H. Riewarts | 100 shares |
| W. G. Loewe | 100 shares |
| Other parties | 100 shares |
During the taxable years under review petitioner conducted a restaurant in the basement of the Pacific Building, Fourth and Market Streets, San Francisco. The business was operated by Mueller & Co. up to and including 1910. Under the Mueller management the restaurant was unsuccessful and it was not until it was taken over by the petitioner in 1912 that financial success came to it. The Hof Brau restaurant then became a family restaurant whose specialty was the serving of good food at reasonable prices, with the attendant feature of music but no cabaret entertainment or dancing. The success*3407 of the restaurant was due to the genius of the management by L. H. Hirsch and H. L. Hirsch. During the year under review the floor space of the restaurant was 30,000 square feet, with a seating capacity of 1,200 people. The number of customers served in 1918 was 843,065 and in 1919, 859,996. The sales of 1918 were *1069 $635,357.12 and of 1919, $889,730.19. There were approximately 150 employees. The hours of business extended from seven in the morning to one o'clock the following morning. H. L. Hirsch, the father, and L. H. Hirsch, the son, devoted their entire time and energies to the operation of the restaurant. Their duties were so exacting as to deprive them almost entirely of any home life.
For the fiscal year ended October 31, 1919, the petitioner inventoried its liquor stock at the close of such fiscal year on the basis of cost or market, whichever was lower, and thereby showed at the end of the 1919 period a value of $10,039.80 for such liquors. The cost of these liquors as shown by the petitioner's books of account was $32,561.02. The Commissioner has added to the net income reported by the petitioner for the fiscal year ended October 31, 1919, $22,521.22, *3408 representing the difference between the fair market value of the liquors at the end of the fiscal year and the cost thereof.
Liquors on hand at November 1, 1918, the beginning of the petitioner's fiscal year ended October 31, 1919, were inventoried at cost, the market value thereof being in excess of cost. Under war-time prohibition the sale of spirituous and vinous liquors for beverage purposes, except for export, was prohibited after June 30, 1919, until demobilization was completed. The stock of liquors owned by the petitioner on October 31, 1919, was badly broken. The market value of the liquors on hand was not in excess of $10,039.80.
Pursuant to the Revenue Act of 1917 petitioner on January 30, 1919, filed with the collector at San Francisco its corporation income and excess-profits-tax returns for the fiscal year ended October 31, 1918, disclosing a tax liability of $1,940.55 upon the net income shown therein. This tax due under the Revenue Act of 1917 was assessed by respondent against petitioner on February 28, 1919. On March 29, 1919, petitioner filed with the collector its claim for abatement of said assessment in the amount of $1,617.12, on the ground that the*3409 petitioner was a personal service corporation. On March 31, 1919, petitioner paid to the collector the sum of $323.43 on account of said assessment, leaving the sum of $1,617.12 assessed and unpaid.
Pursuant to the Revenue Act of 1918 petitioner, on July 2, 1919, filed its return for the fiscal year ended October 31, 1918, on Form 1065 (partnership personal service corporation income-tax return), claiming classification as a personal service corporation. In this return petitioner disclosed the same net income reported in its return for the same fiscal year filed under the provisions of the Revenue Act of 1917 but set forth no tax liability. After the filing of this return respondent duly audited it and on May 28, 1921, assessed against the petitioner under the provisions of the Revenue Act of 1918 additional income and excess-profits tax for the fiscal year ended October 31, 1918, in the amount of $16,869.44.
*1070 Upon receiving notice and demand from the collector for payment of the assessment referred to above on June 27, 1921, petitioner filed its claim for abatement of the assessment in the amount of $9,656.30 and paid to the collector $7,213.14, leaving assessed*3410 and unpaid on account of the taxes assessed under the provisions of the Revenue Act of 1918 the sum of $9,656.30.
Upon consideration of the said claims for abatement in the amounts of $1,617.12 and $9,656.30, aggregating $11,273.42 tax for the fiscal year ended October 31, 1918, respondent by his official communication dated January 24, 1925, determined the total 1918 tax to be $11,504.49 and credited against the same the total outstanding assessments of $1,940.55 (originally assessed under the Revenue Act of 1917) and $16,869.44 (assessed under the Revenue Act of 1918), or $18,809.99, resulting in a net overassessment of $7,305.50 and thereby allowed said claims in the amount of $7,305.50 and rejected same for $3,967.92.
On May 7, 1925, respondent issued a certificate of overassessment for the said allowance of $7,305.50.
On June 17, 1925, the collector applied said allowance of $7,305.50 against the unpaid assessment of $9,656.30 for the fiscal year ended October 31, 1918, and reduced the same to $2,350.80. No part of the amount of said certificate of overassessment was applied against the unpaid assessment of $1,617.12.
Pursuant to the Revenue Act of 1918, petitioner*3411 on February 16, 1920, filed with the collector its corporation income and profits-tax return for the fiscal year ended October 31, 1919, disclosing an income and profits tax of $8,887.27, which amount was assessed by respondent on April 28, 1920, and was paid by the petitioner on or before October 14, 1920. In due course the respondent audited this return and on May 28, 1921, assessed against the petitioner under the provisions of the Revenue Act of 1918 additional income and profits tax for the fiscal year ended October 31, 1919, in the amount of $25,636.76.
Upon receiving notice and demand from the collector for payment of said additional income and profits tax for the taxable year 1919, petitioner on June 27, 1921, filed a claim for abatement of said assessment in the amount of $23,859.76 and paid to the collector the sum of $1,777, representing the difference between the amount of the additional income and profits tax assessed for the taxable year 1919 and the amount set forth in its claim for abatement of said additional taxes assessed against it. In 1922 said assessment of $23,859.76 was credited with $9.62 by the collector. This credit is not in controversy.
Upon the*3412 consideration of said claim for abatement in the amount of $23,859.76, respondent, by his official communication of June 24, 1925, allowed said claim in the amount of $13,117.90 and rejected *1071 same in the amount of $10,741.86, subject to said credit of $9.62, leaving an assessed balance of $10,732.24.
After reconsideration of the determination of the tax liability of the petitioner for the taxable years 1918 and 1919, as set forth in his official letter of January 24, 1925, respondent by his official letter of April 24, 1925, sustained and affirmed such determination.
Within 60 days after the mailing of respondent's official communication of April 24, 1925, to wit, on June 3, 1925, petitioner appealed from said determination to this Board.
On May 7, 1925, respondent issued a certificate of overassessment for the sum of $13,117.90 assessed for the fiscal year ended October 31, 1919. Upon receipt of said certificate of overassessment from respondent, the collector on June 17, 1925, applied the amount thereof against the unpaid assessment of $23,850.14 for the fiscal year ended October 31, 1919, and reduced same to $10,732.24.
On May 7, 1925, respondent issued*3413 a certificate of overassessment for the taxable year 1917 in the amount of $7,677.77, said sum representing a refund allowed but not paid to petitioner on account of the overpayment of its tax liability for the taxable year 1917.
On June 17, 1925, the collector credited the said overpayment of $7,677.77 against the unpaid assessment of $10,732.24 for the taxable year 1919. On September 2, 1925, the collector further credited the said unpaid assessment for the taxable year 1919 with the sum of $433.63, representing interest allowed but not paid to petitioner in connection with the overpayment of its tax liability for the taxable year 1917. These credits reduced the unpaid assessment for the taxable year 1919 to $2,620.84. Without said credit of $433.63 the balance is $3,054.47.
On June 17, 1925, the collector issued his second notice and demand for the payment of the outstanding unpaid assessment of $2,350.80 for the taxable year 1918, together with interest of $552.44, a total of $2,903.24, demanding payment thereof not later than June 22, 1925. On the same date the collector issued his notice and demand for the collection of the outstanding assessment of $3,054.47 for the*3414 taxable year 1919, together with interest of $717.80, a total of $3,772.27, the same being exclusive of the credit of $433.63 referred to above, demanding payment thereof not later than June 22, 1925.
Under date of June 22, 1925, petitioner addressed a communication to the collector reading as follows:
We hand you herewith claim for abatement, Form 843, in abatement of additional income and profits taxes and interest assessed against this company for its fiscal year ended October 31, 1918, as follows:
| Income and profits taxes | $2,350.80 |
| Interest | 552.44 |
| Total | 2,903.24 |
You are respectfully advised that prior to the issuance by you of the notice and demand for the payment of the above amount of additional taxes and interest, this company had filed with the United States Board of Tax Appeals at Washington, D.C., its appeal from the deficiency asserted by letter of the Commissioner of Internal Revenue which was mailed to the taxpayer on April 24, 1925.
The said appeal to the United States Board of Tax Appeals*3415 is still pending and request is hereby made that you transmit this claim for abatement to the Commissioner of Internal Revenue with the request that no action thereon be taken by him until final determination by the United States Board of Tax Appeals of the appeal of taxpayer now pending before that Board.
The surety bond referred to in the above-quoted communication was conditioned upon the outstanding unpaid assessment of $2,350.80 for the taxable year 1918 upon notice and demand of respondent.
Under date of June 22, 1925, petitioner addressed a communication to the collector reading as follows:
We hand you herewith claim for abatement, Form 843, in abatement of additional income and profits taxes and interest assessed against this company for its fiscal year ended October 31, 1919, as follows:
| Income and profits taxes | $10,732.24 |
| Interest | 717.80 |
| Total | $11,450.04 |
together with bond of Fidelity and Deposit Company of Maryland, for $16,100.00 as required under Section 279(a) of the Revenue Act of 1924.
It is noted from the notice and demand that you have applied the amount of $7,677.77, representing overpayment made by this company in respect of its*3416 income and profits taxes for the fiscal year November 1, 1916 to October 31, 1917, against the additional income and profits taxes assessed against this company for its fiscal year ended October 31, 1919 and that the notice and demand made by you on this company for additional income and profits taxes for its fiscal year ended October 31, 1919, is for the amount of $3,054.47, being the difference between the additional tax of $10,732.24 and the amount of $7,677.77 by which this company overpaid its income and profits taxes for its fiscal year ended October 31, 1917.
You are respectfully advised that this company at this time objects to and protests against your so applying the amount of $7,677.77 on the grounds:
First, that taxpayer is not indebted to the United States Government in the said amount of $10,732.24 or in any other amount for additional income and profits taxes for its fiscal year ended October 31, 1919;
Second, because Section 281(a) of the Revenue Act of 1924 only directs the crediting of an overpayment against income, war profits, and excess profits tax, or installment thereof, when such income, war profits, and excess profits tax or installment are then*3417 due from the taxpayer.
Third, that you are, and the Commissioner of Internal Revenue also is, without authority to apply the amount of the overpayment made by this company for its fiscal year ended October 31, 1917, against any alleged tax for any other year without the consent and permission of this company, and no such consent or permission has been granted.
*1073 This company asserts that there is no income, war profits, or excess profits tax or installment thereof due by it for its fiscal year ended October 31, 1919 and that error has been made by you in applying the 1917 overassessment of $7,677.77 against an alleged tax liability for 1919.
For the reasons set forth above, this company has filed a claim for abatement of the total amount of the additional taxes assessed against it for the fiscal year ended October 31, 1919, together with bond, as required under Section 279(a) of the Revenue Act of 1924.
Request is hereby made that there be refunded to this company the overpayment of $7,677.77 of income and profits tax for its fiscal year ended October 31, 1917, together with interest thereon as provided by the Revenue Act of 1924.
You are respectfully advised*3418 that prior to the issuance by you of the notice and demand for the payment of the above amount of additional taxes and interest this company had filed with the United States Board of Tax Appeals at Washington, D.C. its appeal from the deficiency asserted by letter of the Commissioner of Internal Revenue which was mailed to the taxpayer on April 24, 1925.
The said appeal to the United States Board of Tax Appeals is still pending and request is hereby made that you transmit this claim for abatement to the Commissioner of Internal Revenue with the request that no action thereon be taken by him until final determination by the United States Board of Tax Appeals of the appeal of taxpayer now pending before that Board.
The surety bond referred to in the above communication was conditioned upon the payment of the sum of $10,732.24 additional tax for the taxable year 1917 upon notice and demand of respondent.
On July 9, 1925, the collector addressed a communication to the respondent reading as follows:
In accordance with the demands of the taxpayer, there are forwarded herewith for your consideration claims for abatement in respect to taxes assessed for the fiscal years ending October 31, 1918 and*3419 October 31, 1919 against
Hof Brau Company
Market & 4th Sts.,
San Francisco, Calif.
It appears from the records of this office that previous claims for abatement were considered by the Department and resulted in Certificates of Overassessment appearing on Schedules No. 14391. For this reason, this office is of the opinion that no further claim for abatement may be entertained by the Department.
If your office is of the same opinion, you are requested to return the claims to this office for return to the taxpayer.
The tax involved is covered by surety bonds.
No action has as yet been taken by the respondent on the claims for abatement referred to in the above quoted letter of July 9, 1925.
Under dates of November 7, 1925, and December 10, 1925, respectively, warrants of distraint for the collection of the outstanding unpaid assessments for $1,617.12 and $2,350.80 for the taxable year 1918 were issued by the collector but were not served on the petitioner. Thereafter, to wit, on November 17, 1925, and January 15, *1074 1926, petitioner executed and filed with the collector certain consents relative to the collection on or before December 31, 1926, of any*3420 income and profits taxes assessed against petitioner for the taxable year 1918. By these consents the petitioner waived -
any period of limitation as to the time within which distraint or a proceeding in court may be begun for the collection of the tax, or any portion thereof, assessed for the said year(s), and hereby consents to the collection thereof by distraint or a proceeding in court begun at any time prior to the expiration of this waiver.
On December 7, 1926, petitioner executed and filed with the collector a so-called "tax collection waiver," relative to the collection on or before December 31, 1927, of the amount of $1,617.12 representing the outstanding unpaid assessment of taxes for the taxable year 1918 assessed under the provisions of the Revenue Act of 1917.
On December 8, 1926, petitioner executed and filed with the collector a "tax collection waiver," relative to the collection on or before December 31, 1927, of the sum of $2,350.80, representing the outstanding unpaid assessment of taxes for the taxable year 1918 assessed under the provisions of the Revenue Act of 1918.
On December 7, 1927, petitioner executed and filed with the collector a "tax collection*3421 waiver" relative to the collection of the sum of $1,617.12, representing the unpaid portion of an assessment made under date of February 28, 1919, for taxes due upon its return filed on January 30, 1919, for the fiscal year ended October 31, 1918.
The consents above referred to and so-called tax collection waivers filed with the collector were retained by him and remain in his possession and control. The collector was duly authorized by the respondent to sign in respondent's behalf any and all of these consents executed by the petitioner relative to the collection of the outstanding unpaid assessments for the taxable years 1918 and 1919.
A period of more than five years has elapsed since the returns of petitioner for the taxable years 1918 and 1919 were filed and no suit or other proceeding whatsoever for the collection of the deficiencies in controversy of $3,967.92 for the taxable year 1918, and $10,741.86 for the taxable year 1919, has been or was ever instituted or begun by respondent or by the United States, excepting the notices of distraint referred to above and excepting the notices and demands and the mailing of respondent's letters of January 24, 1925, and April 24, 1925, referred*3422 to above.
OPINION.
SMITH: This case is presented to the Board for a decision either (a) on the merits whether the salary disallowances and inventory adjustment, which increased the net income and gave rise to the additional tax, should have been made, or (b) on the application of *1075 the statute of limitations as barring collection of the asserted deficiencies.
In auditing the petitioner's income and profits-tax returns for the fiscal years ended October 31, 1918, and October 31, 1919, the respondent disallowed the deduction from gross income of $9,280 and $9,700, respectively, for "salaries of officers." The petitioner paid salaries to its two principal officers of $25,770 for the earlier year and of $35,000 for the later year. In The Hof Brau Co.,6 B.T.A. 442">6 B.T.A. 442, we held that $36,000 paid to the same two officers for the year 1920 was not in excess of reasonable compensation for services rendered. We must hold the same with respect to the salaries paid these two officers for the taxable years under review. The contentions of the petitioner upon this point are sustained.
At the close of the fiscal year ended October 31, 1919, the petitioner had*3423 on hand wines and liquors which cost it $32,456.02. National prohibition became effective within a few weeks after the close of its fiscal year. Its stock of liquors was badly broken on October 31, 1919, and there was then practically no market for the liquors since they could not be sold for beverage purposes. The evidence indicates that the fair market value of the liquors at the close of its fiscal year was less rather than more than $10,039.80, the amount at which they were inventoried. The market value of the petitioner's inventory of wines and liquors at the beginning of the fiscal year was in excess of cost. The inventory at the close of the preceding fiscal year was made on the basis of cost. Since cost was, however, lower than the market, the inventory was actually taken on the basis of cost or market, whichever was lower. The same basis was used in valuing inventory at the close of the year. Counsel for the respondent argues that inasmuch as the inventory of liquors had always been made on the basis of cost prior to October 31, 1919, the inventory could not be taken upon the basis of cost or market, whichever was lower at the end of the fiscal year, since the regulations*3424 of the Commissioner prior to 1920 did not authorize the taking of inventories on any basis other than cost. There is, however, no basis for this contention. See article 1582 of Treasury Decision 2831, promulgated April 16, 1919. The petitioner's net income for the fiscal year ended October 31, 1919, was correctly reflected by taking the inventory at cost or market, whichever was lower, at the close of such fiscal year, since that was in effect the basis upon which the inventory was taken at the beginning of the year. The contention of the petitioner upon this point is sustained.
It is not clear from the pleadings whether the entire deficiencies determined by the respondent are wiped out by the decision of this case upon the merits in favor of the petitioner. The facts upon *1076 which the petitioner bases its contention that the collection of any deficiencies for the fiscal years ended October 31, 1918, and October 31, 1919, are barred are set forth in the findings of fact. From a careful consideration of them we are of the opinion that any deficiencies which may be found for the taxable years are not barred of collection by the statute of limitations.
Judgment*3425 will be entered under Rule 50.