*105 Decision will be entered for the respondent.
1. Capital Expenditure or Expense. -- Periodic payments made by the petitioner and his new partners to his former partners pursuant to an agreement constituted capital expenditures to acquire assets and not ordinary and necessary expenses of carrying on the business of the new partnership, where the former partnership had been operating at a loss, the payments were based upon the gross income of the new partnership, it acquired certain assets to which it would not otherwise have been entitled, and the new partners, previously uninvolved, were liable for the payments, even though accelerating the dissolution of the former partnership.
2. Deductions -- Depreciation -- Agreement Not To Compete. -- Periodic payments made by the petitioner and his new partners to his former partners pursuant to an agreement did not constitute consideration for a covenant of the former partners not to compete with the new partnership during a stated period and thus are not deductible as a reasonable allowance for the depreciation of that contract, where the petitioner and his new partners made a reciprocal covenant not to compete with the former partners*106 and the evidence shows that the payments were made to acquire certain assets.
*232 The Commissioner determined deficiencies in income tax in the amounts of $ 1,960.49 for 1943 and $ 3,166.21 for 1944. The only error alleged which requires decision is the action of the Commissioner in adding to the petitioner's income, as a part of his distributive share of the net income of Newburger & Hano, $ 1,222.68 for 1942, $ 3,529.99 for 1943, and $ 3,710.76 for 1944, being parts of larger payments made in those years to Newburger, Loeb & Co., deducted by Newburger & Hano as ordinary and necessary expenses and disallowed by the Commissioner in determining the deficiencies.
FINDINGS OF FACT.
The petitioner filed his individual returns for 1942, 1943, and 1944 with the collector of internal revenue for the first district of Pennsylvania.
The petitioner, his brother Richard, and their father, Frank L. Newburger, had been engaged for a number of years prior to 1942 in the general brokerage business handling securities. They were *107 partners in a firm known as Newburger, Loeb & Co., with offices in New York, Philadelphia, Atlantic City, and Lebanon, Pennsylvania.
*233 Their last partnership agreement was executed on December 14, 1939. It provided that the partnership should exist for the period January 1, 1940, to December 31, 1942. Partners were to receive "interest" upon their capital and profits and losses were to be shared by the general partners. Any partners having total interests of 62 per cent in the profits could continue the business under the firm name after December 31, 1942, at no cost and could include or exclude other partners, with an exception not here material. Paragraph 18 of that agreement provided for the continuance of the partnership in cases of involuntary withdrawal of a partner and for the determination and payment of the value of the interest of that partner.
No valuation was to be placed upon any supposed good will of the firm in the case of dissolution.
The partnership agreement of December 14, 1939, was modified on June 30, 1941, and on January 1, 1942, to provide, inter alia, that Richard L. Newburger would be a limited partner from July 1, 1941, to June 30, 1942, and*108 would become a general partner again on July 1, 1942, and that the division of the profits and losses among the partners would be changed. The partnership agreement, as modified, provided that the profits or losses of the firm were to be divided among the partners during the partnership period as follows:
| Jan. 1 to June | July 1 to Dec. | ||
| 1940-1941 | 30, 1942 | 31, 1942 | |
| Per cent | Per cent | Per cent | |
| Lester M. Newburger | 17.1 | 19.22 | 18 |
| Daniel Loeb | 10.3 | ||
| Morris Newburger | 10.3 | 13.83 | 12.6 |
| Frank L. Newburger, Jr | 10.3 | 13.83 | 12.6 |
| David Klee | 10.3 | ||
| Irvin L. Stone | 10.3 | 13.83 | 12.6 |
| Bertram E. Goodman | 9.7 | 13.83 | 12.6 |
| Leo Stern | 9.7 | 13.83 | 12.6 |
| Richard L. Newburger | 6 | 8.6 | |
| Robert L. Newburger | 6 | 9.83 | 8.6 |
| Andrew M. Newburger | 1.8 | 1.8 |
Newburger, Loeb & Co. operated under the agreement of December 14, 1939, as modified, until May 31, 1942.
Petitioner Richard L. Newburger and Frank L. Newburger and Irvin L. Stone will be referred to hereinafter as the Philadelphia partners, and the offices outside of New York will be referred to as the Philadelphia offices. The other partners and the New York offices will be referred to as the New York partners and the New*109 York offices. Only the petitioner and Richard, of the Philadelphia partners, were active in selling. Stone was an office man, who did no selling, and Frank L. Newburger was a limited partner, who assisted his sons by rendering advice and by maintaining contacts with customers and friends.
*234 The commissions earned by the New York offices and by the Philadelphia offices, as shown by the books, were as follows from 1939 through May 1942:
| New York | Philadelphia | |
| 1939 | $ 392,049.06 | $ 293,435.73 |
| 1940 | 283,094.37 | 206,951.84 |
| 1941 | 223,667.20 | 162,753.86 |
| Jan.-Apr. 1942 | 55,392.15 | 37,163.24 |
| Jan.-May 1942 | 66,648.15 | 45,277.56 |
The record does not show the gross income of the firm for any period or the percentage of its net income or loss acounted for by the Philadelphia offices. The firm sustained a loss of about $ 86,000 during the first five months of 1942 and business was then poor.
The securities brokerage business depends primarily upon personal efforts and reputation. The petitioner became concerned in the spring of 1942 over the possibility that the Philadelphia business might be lost during the war if he were to follow Richard, then on active duty, into the*110 armed forces. He tried unsuccessfully to get his firm to combine with their principal competitor in Philadelphia, Content, Hano & Co., to conserve the Philadelphia business and reduce overhead expenses. This effort resulted in a division between the Philadelphia partners and the New York partners. The latter wanted the firm to continue alone, as formerly.
The petitioner then proposed that the firm be dissolved immediately the New York partners taking the New York business and the Philadelphia partners taking the rest of the business, which they would put into a new firm with Hano and his partners. Hano and his partners were in accord with the petitioner.
The New York partners were opposed to that proposal. They did not want the Philadelphia partners to withdraw from the firm in 1942 or at any time. They felt that the Philadelphia partners were unduly alarmed about the draft situation and the future of the Philadelphia business, since their competitors there were also subject to the draft. The New York partners also pointed out that the Philadelphia partners were seeking to take away from the firm a greater portion of business than they were entitled to, since the Philadelphia*111 offices accounted for over 40 per cent of the firm's earnings, although the interest of the Philadelphia partners in the firm's capital and profits were substantially less than 40 per cent, and the Philadelphia partners would not be entitled to the accounts in their offices whether they withdrew from the firm before or at the expiration of the partnership agreement, since the New York partners held in excess of 62 per cent of the interests in the profits and, under the partnership agreement, they *235 would be entitled to retain all leases and existing accounts of the firm without making any payments as compensation therefor. The Philadelphia partners argued that, in spite of the right of the New York partners to retain the Philadelphia accounts, it would be difficult for the New York partners to retain that business against the competition of the Philadelphia partners and Hano and his partners.
The two groups, after the New York partners had demanded $ 50,000 and after further negotiating, finally entered into an agreement between the partners of Newburger, Loeb & Co. and the general partners of Content, Hano & Co., dated May 20, 1942, and effective June 1, 1942, under which*112 the Philadelphia partners were allowed to withdraw their shares of the capital computed in accordance with paragraph 18 of their existing partnership agreement and were to have all records and assets pertaining to the Philadelphia offices. The New York partners were to have the use of the firm name and good will of the firm, but were not to open offices in Philadelphia, Atlantic City, or Lebanon prior to January 1, 1945, without permission. The Philadelphia partners were prohibited from using the name of Newburger, Hano & Co. until January 1, 1945, and from ever using a combination of the names Newburger and Loeb in New York without permission. The immediate use of the name of Newburger & Hano was authorized. Content, Hano & Co. and the Philadelphia partners, for themselves and for their proposed new firm, agreed "to pay to the New York partners for the period June 1, 1942 to December 31, 1944," a percentage of the commissions of Newburger & Hano for the period based upon the ratio of the 1941 receipts of the Philadelphia offices to the total of those receipts and the Philadelphia business of Content, Hano & Co., and a percentage of interest charged customers of the new firm based*113 upon a ratio computed by comparing debit balances of customers' accounts in the two Philadelphia offices as of April 1, 1942.
The agreement was carried out, beginning at the end of May 1942. The Philadelphia partners joined with the Content, Hano & Co. partners on June 1, 1942, in a new firm, Newburger & Hano, and the New York partners formed a new firm on that day.
Newburger, Loeb & Co. turned over the leases, accounts, and employees of the Philadelphia offices to Newburger & Hano and surrendered all securities pertaining to the Philadelphia offices.
Newburger & Hano paid a percentage of its gross commissions and interest to the New York partners of Newburger, Loeb & Co. during the taxable years in accordance with the agreement of May 20, 1942, in the following amounts:
| 1942 | $ 9,781.50 |
| 1943 | 28,239.96 |
| 1944 | 29,686.10 |
*236 The New York partners reported the payments from Newburger & Hano as long term capital gains.
Newburger & Hano filed partnership returns for 1942, 1943, and 1944. The payments made to Newburger, Loeb & Co., as set forth above, were deducted in those returns as ordinary and necessary expenses of the business in determining the ordinary net income *114 of the partnership, and the payments were thus reflected in the distributive shares of income reported on the individual income tax returns of the petitioner and the other partners of Newburger & Hano for 1942, 1943, and 1944.
The Commissioner restored $ 1,219.94, $ 4,040.65, and $ 4,225.69 to the income of the petitioner for 1942, 1943, and 1944, respectively, with the explanation that "The amounts alleged to have been paid by the partnership of Newburger and Hano to the New York City partners of Newburger, Loeb and Company during the years 1942, 1943 and 1944, under the agreement dated May 20, 1942, claimed as deductions in the partnership returns of Newburger and Hano filed for said years and alleged to represent ordinary and necessary business expenses, have been disallowed."
The record does not show that any portion of the payments made by Newburger & Hano to Newburger, Loeb & Co. from 1942 through 1944 represented consideration either for the agreement of the New York partners not to compete in Philadelphia, Lebanon, and Atlantic City, or for the dissolution of the firm seven months prior to the expiration of the partnership agreement of December 14, 1939. Those payments were*115 not ordinary and necessary expenses of carrying on the business of Newburger & Hano during the taxable years.
The stipulations of facts are incorporated herein by this reference.
OPINION.
The petitioner contends that the payments to the New York partners were ordinary and necessary expenses paid and incurred during the taxable years in carrying on the business of Newburger & Hano and, as such, are deductible under section 23 (a) (1) (A) of the Internal Revenue Code. His argument is that they were ordinary and necessary expenses because they were paid to accelerate the dissolution of Newburger, Loeb & Co. seven months rather than to acquire any capital asset. While it is not too clear just what their purpose was, nevertheless, the evidence fails to show that these payments were current operating expenses paid or incurred merely in producing current income, but shows, on the contrary, that they are more proximately related to and were paid to acquire assets which were expected to produce income for Newburger & Hano over a longer, more permanent period. Cf. Crowley v. Commissioner, 89 Fed. (2d) 715; *237 Simmons Co. v. Commissioner, 33 Fed. (2d) 75;*116 certiorari denied, 280 U.S. 588">280 U.S. 588; Williams v. Burnet, 59 Fed. (2d) 357; Burt L. Davis, 26 B. T. A. 218.
The agreement of May 20, 1942, accelerated the dissolution of the partnership seven months, as the petitioner wanted it, but the evidence does not show that any definite or approximate part or, indeed, any part of the payments was actually paid and received for the purpose of shortening the life of the existing partnership. The primary concern of the New York partners was not to obtain compensation for possible loss of profits during the last seven months of 1942. The first five months had produced a loss. There is no evidence of prospective profits for the last seven months. The payments agreed upon were out of all proportion to any profits which might have been anticipated for that period. A further loss was in prospect and both sides had reason to expect it. Business was bad. It is unreasonable that one should be paid or expect payment for the chance to avoid an anticipated loss. Breach of the contract would not have resulted in any apparent damages for loss of 1942 profits. The*117 contention becomes even more unreasonable when it appears that the Content, Hano & Co. partners, previously uninvolved, were to share in making the payments. The firm of Newburger & Hano, for which the payments are claimed as ordinary and necessary expenses of conducting its business during each year, was to have the going business of the Philadelphia offices indefinitely. It was acquiring valuable property which would benefit it beyond the taxable years. Also, the lump sum asked and the actual amount paid were both in excess of the gross commissions of the Philadelphia offices for the first five months of 1942, the payments were based upon gross commissions and interest rather than upon actual profits, and they were based upon gross of a period of two years and seven months rather than a share of the Philadelphia offices' profit for the last seven months of 1942. A finding that all or some part of the payments was for foreshortening the partnership period is not warranted by the evidence.
Furthermore, the evidence indicates that the payments were demanded for a different reason. The Philadelphia partners would not have been entitled to more than their capital upon termination*118 of the partnership. The New York partners, having interests of more than 62 per cent in the profits, would have had the right to continue the business without the capital and services of the Philadelphia partners. The Philadelphia offices did a larger portion of the total business than the percentage of capital or profit sharing represented by the Philadelphia partners. The New York partners were fully aware of all aspects of the situation. They knew the importance of the Philadelphia partners to the Philadelphia business. They did not want to *238 lose the Philadelphia partners or the Philadelphia business, but they drove the best bargain they could in disposing of their interests in the going business of the Philadelphia offices. They regarded all of the payments as consideration for those interests and reported them in that way. The payments were not deductible by Newburger & Hano under section 23 (a) (1) (A).
The petitioner makes an alternative contention in his brief that the payments were for the agreement of the New York partners not to compete in Philadelphia, Atlantic City, and Lebanon until after December 31, 1944, and should be deducted as paid, since the period*119 of noncompetition was running concurrently. That contention is not suggested in the pleadings and is not supported by the evidence. An agreement by the New York partners not to compete was incorporated in the contract of May 20, 1942, but there is inadequate indication of its importance and that it was the paramount consideration for the cash payments. There were reciprocal agreements not to compete and a fair inference is that each was the consideration for the other.
The petitioner and his associates acquired a going business to which they were not theretofore entitled. The evidence does not show error on the part of the Commissioner. Cf. Home Trust Co. v. Commissioner, 65 Fed. (2d) 532; Newark Milk & Cream Co. v. Commissioner, 34 Fed. (2d) 854.
Decision will be entered for the respondent.