*1226 Held, that certain payments made to field representatives of the petitioner were compensation for services rendered in soliciting and securing new business and that the amount of such payments in the taxable year is deductible from income as ordinary and necessary expenses.
*886 The respondent asserts deficiencies in income tax for the fiscal years ended February 28, 1927, and February 29, 1928, in the respective amounts of $13.14 and $417.22, and also proposes to collect a penalty of $104.31 for delinquency in filing a return for the latter year. The issues are (1) whether certain payments made by the petitioner to its field representatives in the taxable years were commissions on the sale of capital stock or compensation for services in connection with placing loans; and (2) whether the penalty for delinquency should be collected.
FINDINGS OF FACT.
The petitioner is a Minnesota corporation, with its principal office at Minneapolis, where it is engaged in lending money to dairy farmers on chattel mortgages*1227 covering dairy herds owned by the borrowers. It is what is known as a national credit corporation, and operates through Intermediate Credit Banks, which are associations within the Federal farm loan system, established for the purpose of supplying short-term credits to persons engaged in agriculture and allied industries.
Petitioner was organized prior to 1925, with authorized common capital stock in the amount of $100,000, divided into shares of the par value of $10 each, which was afterwards increased by authorization to issue 40,000 shares of preferred stock of the same par value. Officers and directors subscribed for 780 shares of the original issue of common stock. It secures its funds for loans to its clients by rediscounting their notes in the Intermediate Credit Bank of St. Paul, which requires the deposit of sound securities as collateral in the amount of 10 per cent of the face value of the paper offered for rediscount.
The petitioner's only source of income is the difference between the interest rates charged to borrowers and the rediscount rate of the Intermediate Credit Bank which during the taxable years here involved averaged 1 1/2 per cent. It supplied credit*1228 to its clients at a *887 rate of 6 3/4 per cent as against a rate of 8 per cent or more charged to farmers by the commercial banks in the area of the operations.
Field representatives of the petitioner visit the country banks in its territory at seasonable intervals and obtain lists of dairy farmers who are borrowers therefrom. They then call on each farmer whose name is on such lists and arrange to have his loans transferred to the Intermediate Credit Bank, secured by chattel mortgage on his dairy herd. This involves an inspection of the herd and an examination of the credit standing of the owner thereof. If a favorable report is made the petitioner takes up the farmers' notes from the local bank and rediscounts them in the Intermediate Credit Bank.
In each case where farmers' notes are transferred from the local bank to the Intermediate Credit Bank as above set forth, the borrower is required to subscribe for capital stock of the petitioner in the amount of 10 per cent of the loan, and no loans are ever made except to borrowers who are stockholders of the petitioner. When loans are renewed no additional stock subscriptions are required. When loans are paid the borrowing*1229 farmer may have his stock transferred on the books of the petitioner. If a proposing borrower is already a stockholder of the petitioner, no additional stock subscription is required. The receipts from the sale of stock to its clients are used to purchase securities for the 10 per cent deposit required by the Intermediate Credit Banks as a condition precedent to rediscounting any paper offered by the petitioner.
In the taxable years the petitioner's field representatives received a commission on every transaction with borrowers not theretofore stockholders that amounted to 1 1/2 per cent of the face of the loan, or to one-half of 1 per cent of the face of the loan plus 10 per cent of the stock issued to the borrower.
The laws of Minnesota permit a corporation in process of organization to pay a commission of not more than 10 per cent for the sale of its stock. The petitioner's business was so small in its earlier years that it operated without profit. To avoid showing a deficit on its balance sheet it charged all commissions paid to its field men to an asset account which it called "Organization Expense." As the volume of business and profits increased the account was closed*1230 by a charge against surplus at the request of the securities division of the Minnesota Department of Commerce, and thereafter such commissions were charged to operating expenses in their entirety.
The petitioner's income-tax return for the fiscal year ended February 29, 1928, was timely made up in its office and sent by mail to its president for signature. The president failed to receive it and *888 later it was recalled to the home office and finally executed and filed sometime after the due date. Both the president and vice president of the petitioner were engaged in field work at a distance from the home office at the due date of the return.
OPINION.
LANSDON: The principal question here is whether the payments made by the petitioner to its field representatives as set forth in our findings of fact were commissions on stock sales or on the volume of loans secured by the services of the recipients thereof. In every instance the amount of the commission paid was a percentage of the business obtained. The sale of stock equal to 10 per cent of the face of the loan was only an incident in the transaction. If the client was already a shareholder to the extent of 10*1231 per cent of the loan involved, no additional stock subscription was required, since the sole purpose of stock sales to borrowers was to enable the petitioner to purchase sound securities equal in amount at all times to 10 per cent of its rediscounts with the Intermediate Credit Banks.
Petitioner concedes that for several years it accounted on its own books for all commissions paid as organization expenses. This procedure does not now bar it from claiming that such payments were operating expenses if they were such in fact. In our opinion the petitioner is not now attempting to vary facts for the purpose of reducing its Federal taxes, but is asking us to consider actual facts instead of bookkeeping entries. "Tax liability must be determined by what in fact was done." . Cf. . In our opinion the evidence is convincing that the entire commission paid in each instance by the eptitioner in the circumstances herein was in fact compensation for services rendered in securing loans. On this issue the determination of the respondent is reversed.
The evidence*1232 is clear that the delay in filing petitioner's return for the fiscal year ended February 29, 1928, was due to reasonable cause and not due to willful neglect. The return was filed later and was accompanied by an affidavit which, we think, is a satisfactory explanation.
Decision will be entered under Rule 50.