*1563 1. The Commissioner erred in including note interest for three years in the income for one year where the taxpayer was on an accrual basis.
2. For five years beginning with 1918 the Commissioner allowed deductions for depreciation which were reasonable in amount in the light of what was known during those years. These deductions were at the rate of 20 per cent and were based on a 5-year life for the assets. In computing the deduction for the six year he properly eliminated from the computation the cost of the assets for the first year. He did not err in making similar adjustments for later years. In determining a reasonable deduction for a later year, due consideration must be given to proper deductions allowed in previous years.
*173 The Commissioner determined deficiencies of $6,906.35 and $19,644.49 in the petitioner's income-tax liability for the calendar years 1925 and 1926, respectively. The petitioner contends that the Commissioner erred (1) in including, in the petitioner's income for 1926, $60,000*1564 representing interest at the rate of 5 per cent on 6 notes, and (2) in determining the amount of depreciation for the years 1924, 1925 and 1926 (the deduction for 1924 being material hereto, since the petitioner had a net loss for that year). The cases were consolidated.
FINDINGS OF FACT.
The petitioner is a Louisiana corporation. Its principal office is in New Orleans. It was engaged in the business of producing and selling turpentine and rosin.
One-half of the petitioner's outstanding capital stock, with the exception of certain qualifying shares, stood in the name of A. Vizard, and the other half stood in the name of Gillican-Chipley Company. In 1918 the petitioner has borrowed at a bank an amount approximately equal to the par value of its capital stock. It had borrowed this money on its notes which had been endorsed and guaranteed by Vizard and Gillican. Vizard was a director of this bank. Someone representing the bank suggested to the petitioner that it increase its capital structure in order that its borrowings at the bank might appear more satisfactory to the bank examiner. *174 Accordingly, the petitioner's capital stock was increased. Shares of the*1565 par value of $200,000 were issued to Vizard in exchange for his three promissory notes each dated April 17, 1918, and bearing interest at 5 per cent. One note for $66,000 came due one year after date; one for $67,000 came due two years after date; and one for $67,000 came due three years after date. The notes were endorsed by the petitioner to the bank and with the stock were delivered to the bank as collateral security for present or future loans from the bank to the petitioner. After some years the loans were repaid by the petitioner. The notes were then returned to the petitioner, which held them for some time until on or about January 31, 1930, when the petitioner's capital stock was reduced by $400,000. The stock given for the notes was then canceled and likewise the notes were canceled. The notes were never used in any other transaction. Vizard never paid any interest or principal on the notes. He was at all times able to meet his obligations on these notes. The petitioner's books were kept on an accrual basis. In determining the deficiencies the Commissioner added $60,000 to the petitioner's income, representing "interest on notes of W. B. Gillican and A. Vizard for*1566 1924-25-26."
The petitioner generally operated under leases permitting it to extract the turpentine from certain tracts of timber. This work is carried on so as to be completed just prior to the time the timber is to be cut. The logging company each year designates the timber to be turpentined under the lease. The size of the tract designated usually depends upon the amount of timber which the logging company intends to cut and this in turn depends upon market conditions for lumber.
After obtaining a lease the petitioner established a main camp near a railroad. It erected stills, commissaries, stables and shacks for its employees at this point. Later, as the work progressed, it sometimes built side camps nearer the particular timber then being turpentined. When the adjacent timber was exhausted some of the equipment had to be abandoned, but some might be moved to a new site. The petitioner usually had a number of camps in operation many miles apart. The petitioner's business, which began in 1918 and ended in 1929, reached its peak of production about 1919 and 1920. In 1921 its business fell off about one-third. It opened only one new camp from 1921 to 1926. During 1925*1567 and 1926 it was operating four camps. A number of camps were closed finally in 1923 and 1924.
The assets used consisted principally of stills, houses, sheds, motor trucks, wagons, teams, aluminum cups, aprons, and general camp equipment. The buildings were constructed of cheap lumber and *175 had little salvage value. They had a useful life of from eight to ten years provided there was use for them that long. The cups, representing a large part of the investment, could be used indefinitely except that about 5 per cent were lost or broken each year. Stills had a useful life of from ten to fifteen years, provided there was use for them that long. Wagons had a useful life of four or five years.
The petitioner obtained a number of leases in 1918 and in 1919. Most of these were for a fixed period. The principal ones were for five years. Some were for the turpentining of all timber then owned by the lessor. Later, if the lessor acquired more timber it sometimes permitted the petitioner to turpentine that new timber under an oral agreement. The petitioner obtained some new leases after 1919. In 1921 it learned it would get an extension on some of its leases. It got*1568 the extension in 1923. In 1923 it learned it would get another lease, which it actually entered into in 1926. The petitioner's principal leases were with subsidiaries of the Long-Bel Lumber Company. These leases entered into in 1918 and 1919 contained a provision as follows:
The term of this contract shall extend for a period of five years from date, meaning five annual designations, and equal in acreage with the average annual cut of the lessor's sawmill, and if, at the expiration of this contract, the [lessor] should decide to continue working their timber for turpentine purposes, this contract is to be continued at the same price and conditions providing the relations at that time are mutually satisfactory to both parties to the contract. It is also understood and agreed that should the contract be continued for a greater period than hereinafter provided it is to cover only the timber at this date owned by the lessor.
The parties stipulated the facts shown in the following table:
| Year | Total cost as of Dec. 31 of assets involved in contested depreciation deduction | Depreciation allowed | Net income or loss determined by the commissioner |
| 1918 | $544,822.50 | $106,128.41 | 1 $2,401.52 |
| 1919 | 857,809.71 | 149,719.58 | 153,574.87 |
| 1920 | 1,085,784.47 | 2 241,442.28 | 1 59,821.44 |
| 1921 | 1,088,222.97 | 217,644.59 | 1 342,713.60 |
| 1922 | 1,097,310.71 | 213,467.69 | 1 17,771.73 |
| 1923 | 1,133,508.55 | 108,166.83 | 58,939.48 |
| 1924 | 1,173,097.55 | ||
| 1925 | 1,148,935.55 | ||
| 1926 | 1,141,053.47 |
In determining the cost figures shown in the above table, the parties have eliminated certain costs shown on the petitioner's books because the eliminated figures do not affect the present controversy.
*176 In computing the deductions for 1923, 1924, 1925 and 1926 the Commissioner reduced the total cost of assets for each particular year as shown in the above table by the total cost of assets as of the end of 1918, 1919, 1920 and 1921, respectively. He allowed depreciation at the rate of 20 per cent for each of the years 1918 to 1926, inclusive.
The following table shows the amount of depreciation which the petitioner charged off on its books and claimed on its returns, the depreciation allowed for three years, and the net income or loss as determined by the Commissioner for those three years:
| Year | Depreciation taken | Depreciation allowed | Net income or loss |
| 1918 | $106,128.41 | ||
| 1919 | 136,043.51 | ||
| 1920 | 236,097.64 | ||
| 1921 | 2,874.76 | ||
| 1922 | 213,467.69 | ||
| 1923 | 226,615.64 | ||
| 1924 | 186,239.24 | $63,057.57 | 1 $50,266.25 |
| 1925 | 103,191.03 | 12,630.22 | 103,392.02 |
| 1926 | 20,641.43 | 10,566.10 | 207,810.41 |
OPINION.
MURDOCK: The Commissioner was obviously in error in including $60,000 in the petitioner's income for 1926 as interest due on notes. The petitioner has proven certain facts in connection with notes of the total face value of $200,000 given by Vizard. It contends that Gillican also gave similar notes and received stock of the face value of $200,000 in connection with the same transaction, but it offered no proof to show that this was true. It argues that there was never any intention that the notes or the interest should be paid, the transaction was a "simulation," and the statute of limitations barred the collection of the notes. If, by simulation, the petitioner implies a lack of bona fides or fraud, it is attempting to impeach its own acts and those of its stockholders. We see no lack of bona fides or fraud in the transaction. The notes were valid debts due the petitioner until the notes and the stock were canceled. There is nothing to indicate that the makers of the notes would have pleaded the statute of limitations, and the record is not too clear as to whether or not the notes might have been renewed. For all we can see, *1571 the petitioner should have accrued in each year the interest on these notes at the rate of 5 per cent. But, even assuming Gillican also gave notes, there was no reason to accrue the interest for three years in one. For the year 1926 the interest would not have amounted to more than $20,000 and the Commissioner was in error in including any greater amount in the petitioner's income for that year. The *177 proper treatment of this interest for 1924 and 1925 has not been placed in issue, and not knowing the facts, we make no decision concerning it.
The only thing we need to determine in connection with the depreciation issue is whether or not the deduction allowed by the Commissioner in each of the years 1924, 1925 and 1926 was a reasonable one in the light of all the circumstances. The petitioner apparently began business in 1918. For that year the Commissioner allowed the exact amount claimed by the petitioner as a deduction for depreciation. We know that this deduction was computed at the rate of 20 per cent. We do not know why the deduction allowed is not precisely 20 per cent of the total cost of the assets as of December 31, 1918, as stipulated by the parties, but*1572 no point is made of this slight discrepancy or of others like it for later years. During the next four years the Commissioner continued to compute and allow depreciation at the rate of 20 per cent. For 1919 he allowed an amount slightly but not greatly in excess of the amount claimed by the petitioner. In 1920 he allowed the amount claimed by the petitioner on these particular assets. But in 1921, when the petitioner's operations resulted in a very large loss, the petitioner claimed a deduction for depreciation amounting to less than $3,000, whereas the Commissioner, still applying his 20 per cent rule, allowed a deduction in excess of $217,000. The amount which he allowed for 1922 was again the exact amount claimed by the petitioner. The petitioner had losses in four of these five years, but in 1919 it had a substantial net income. In 1923 the Commissioner, in order to be consistent in applying the method theretofore used, reduced the total cost of the petitioner's assets as of the end of that year by the cost of assets as of the end of the year 1918. This was proper if the rate was appropriate. The cost of the assets as of December 31, 1918, had been entirely returned to*1573 the petitioner through depreciation prior to the year 1923. Any further deduction after 1922, based upon the cost of those assets, would have been improper under the system being used. The Commissioner made a similar adjustment before computing depreciation in each of the years 1924, 1925 and 1926. The petitioner, however, went on claiming deductions upon some basis unknown to us. If its books reflected either the amount of depreciation which it had claimed in prior years or the amount of depreciation which it had been allowed in prior years, the total depreciated cost of its assets as of December 31 in each of the years 1924, 1925 and 1926 would certainly not have been sufficient to justify the amount of depreciation claimed for each of those years.
It seems quite clear from the record that the deductions allowed by the Commissioner for depreciation for 1918, 1919 and 1920 were *178 correct. They not only correspond approximately with the deductions claimed, but the record does not indicate that anything was known during those years which would have led to the belief that the allowances were not reasonable in amount. The petitioner now contends very strenuously, however, *1574 that the petitioner knew in 1921 that its operations would last beyond the 5-year period which was originally estimated. It offered proof to show that by that time some of its designations had been reduced for one reason or another; it was seeking extensions on some of its leases; and it had already obtained additional timber or had been promised additional timber. Its principal contracts were with subsidiaries of the Long-Bel Lumber Company. These leases were not extended beyond the 5-year period until 1923, but the petitioner claims that it knew in 1921 it would get such extensions. The petitioner's so-called "operating vice president," who spent most of his time outside the office, was called as a witness and was asked whether he was able in 1920 to estimate how long the operations would last. He said the thought at that time the company had work for about four more years ahead of it, and in 1921 he thought that the company still had about four more years to operate, due to the fact that it had by that time obtained some additional timber. In 1924, due to the acquisition of some additional timber, he added one year to his prior estimate, and in 1925 he added two or three more*1575 years. We do not question the honest intention of this witness in giving his testimony. But opposed to this evidence is the fact that those higher in authority in the company must have thought differently, for in 1920 and also as late as 1922, the petitioner was still claiming depreciation on the old basis of 20 per cent, or approximately that. Also in 1923 it claimed even a larger amount of depreciation than in 1922. In other words, except for the year 1921, when it cut its claim for depreciation to practically nothing for the insufficient reason that it had in that year an enormous loss, we do not find the reduction in its claims for depreciation which we would expect if at that time its officers thought that the life of its assets was going to be longer than they had originally estimated. Furthermore, some of the camps were actually closed after about five years of operation and the useful life of the assets in a particular camp depended a great deal upon the life of the camps. The petitioner never has asked that the assets at the different camps be considered separately for depreciation purposes. On the contrary, it finds no fault with the fact that the Commissioner has*1576 applied a composite rate. It merely claims that the rate was too high in the past.
Depreciation for any year should be computed upon the basis of facts known during that year and not upon facts subsequently discovered. *179 ; ; affd., ; certiorari denied, ; . The reasonableness of a deduction for any particular year usually depends to some extent upon what has been done in former years. Here the uniform method applied in former years should not be abandoned in later years, but should be followed in those years unless there is a cogent reason for a change. Cf. ; . The record does not justify disturbing the determination of the Commissioner in this respect.
But even if we were convinced that the record shows for any of the years 1924, 1925, or 1926 that the deduction allowed was not reasonable in amount, nevertheless no*1577 adequate basis has been afforded for the computation of deductions which would be any more reasonable. Cf. ; affd., . The computation of a proper deduction for depreciation must be based upon as accurate information as is available. It must be an intelligent estimate, not a mere guess. Some contracts were placed in evidence and also some figures showing a breakdown of the total cost figures for certain years as stipulated into cost of assets used at each camp. But we have no knowledge of other material factors. With the odds and ends of information which are before us we would be unable to make an intelligent estimate for any of the three years of a reasonable allowance for the exhaustion, wear and tear of the property used in the petitioner's business, including a reasonable allowance for obsolescence.
Judgment will be entered under Rule 50.