1928 BTA LEXIS 3433">*3433 1. PERSONAL SERVICE CLASSIFICATION. - The petitioner corporation, during the years under review, had a paid-in capital stock and an undivided surplus; carried assets such as real estate, stocks and securities of other corporations and approximately two-fifths of its paid-in capital was owned by persons not regularly engaged in the business of the corporation. Held, that this corporation is not entitled to a personal service classification.
2. GAIN FROM SALE OF REAL ESTATE. - During the year 1920 the petitioner corporation received the gain derived from the purchase and sale of a piece of real estate in which transaction the president of the petitioner company appeared as an individual but using the corporation's credit and monies. The corporation received and retained the gain derived from the transaction and can not now be permitted to deny that it received taxable income from that source.
3. INSURANCE PREMIUMS. - The petitioner corporation in 1920, acting as agent for casualty and surety bonding companies, accepted and caused to be issued to general contractors casualty and surety bonds, premiums upon which amounted to more than $14,000. The petitioner paid the insuring1928 BTA LEXIS 3433">*3434 companies and accepted the notes of the insured who were not able to pay cash. During the years 1921 to 1923, inclusive, petitioner received credits on the several notes. Held, that during 1920, petitioner looked to its rights under the notes, did not charge them off and may not have the deduction now claimed in that year.
12 B.T.A. 855">*856 This proceeding results from the Commissioner's determination of deficiencies in income taxes in the amounts and for the calendar years as follows:
| 1919 | $4,775.75 |
| 1920 | 8,763.12 |
| 1921 | 101.46 |
| Total | 13,640.33 |
The petitioner alleges that Commissioner erred (1) in denying it personal service classification and taxing it as an ordinary corporation for all three years; (2) in including in income for the year 1920 the amount of $6,312.50 as income from a real estate transaction; and (3) in disallowing the deduction for the year 1920 of $14,383.62 alleged to be a loss incurred through bad debts.
FINDINGS OF FACT.
Petitioner is an Iowa corporation with its principal place of business at Des Moines.
1928 BTA LEXIS 3433">*3435 Petitioner was organized in 1911 with an authorized capital stock of $10,000. One year later the capital stock was increased to $24,000, the additional $14,000 being paid-in, in cash. During 1919, the authorized capital stock was $50,000, but on December 31, 1919, there was outstanding $35,000 capital stock paid-in, in cash. In 1920 the outstanding capital stock was increased to $50,000 and the additional $15,000 was the amount of a stock dividend paid out of the corporation's surplus earnings. During 1920 and 1921 the stockholders and their respective holdings were as follows:
| Name | Shares |
| P. J. Clancy, president | 188 |
| S. D. Butters, secretary | 75 |
| Ruby Steen, cashier | 3 |
| Manning Martin, treasurer | 42 |
| C. H. Martin | 34 |
| F. P. Flyn | 28 |
| Sheuerman Estate | 36 |
| C. H. Rosenbaum | 21 |
| Clarke Kisky | 14 |
| E. A. Slininger | 8 |
| C. F. Howland | 7 |
| R. B. Parrott | 7 |
| Carl Mesmer | 8 |
| Mrs. Rose S. Aarons | 6 |
| Mrs. Selma S. Lyon | 6 |
| Mose L. Sheuerman | 6 |
| Abe L. Sheuerman | 6 |
| Elizabeth Hooker | 4 |
| W. B. Brown | 1 |
| Total | 500 |
12 B.T.A. 855">*857 Apparently the same persons were stockholders during 1919 but their respective holdings have not been shown. P. J. Clancy, S. D. Butters and Ruby1928 BTA LEXIS 3433">*3436 Steen were actively engaged in and devoted their entire time to petitioner's business. Clancy and Butters solicited insurance and attended to the business affairs of petitioner while Ruby Steen was cashier and attended to all detail office work. Manning Martin has occupied space in petitioner's offices since its incorporation, but he has not devoted all of his time to petitioner's business, but instead has made real estate loans under the name of Manning Martin & Co. and given all of his insurance business to petitioner for which he received no commissions. The other stockholders have not been at any time actively engaged in petitioner's business, but occasionally, through their own connections, turned insurance business to petitioner.
Since its incorporation petitioner has been engaged in the business of acting as agent for insurance companies, soliciting every kind of insurance except life insurance, writing policies, collecting premiums therefor, and remitting such premiums less commissions, to the respective companies represented. Petitioner's principal business has been soliciting insurance, and casualty and surety bonds constituted the greatest volume of its business during1928 BTA LEXIS 3433">*3437 the years in question, but since its incorporation, petitioner has also made investments in real estate, stocks and bonds, occasionally borrowed money for such investments and derived some income from such investments. During the years in question petitioner owned real estate, stocks and bonds. The insurance companies which petitioner represented required it to remit premiums 45 days after they become due and petitioner had to remit whether it had collected from policy-holders or not. Petitioner did remit premiums on behalf of its clients and did keep cash on hand to enable it to do so and at times petitioner borrowed money to make such advance remittances. During the years in question petitioner borrowed money mostly from the Peoples Savings Bank, Des Moines, which was used in purchasing and maintaining real estate investments.
12 B.T.A. 855">*858 The balance sheets of petitioner as per its books at the close of each calendar year here in question showed:
| 1919 | 1920 | 1921 | |
| ASSETS | |||
| Peoples Savings Bank (cash) | $13,544.14 | $3,634.32 | $6,167.10 |
| Accounts receivable | 38,792.25 | 25,339.30 | 22,359.36 |
| Bills and notes receivable | 2,126.70 | 18,250.78 | 15,479.28 |
| Stocks and bonds | 5,800.00 | 14,525.00 | 7,613.49 |
| Furniture and fixtures | 1,008.93 | 1,102.75 | 1,876.49 |
| Agency account (good will) | 5,255.00 | 4,000.00 | 3,000.00 |
| Petty cash | 15.50 | 15.50 | 15.50 |
| Real estate | 32,675.00 | 24,815.56 | 25,678.69 |
| Total | 99,217.52 | 91,683.21 | 82,190.21 |
| LIABILITIES | |||
| Capital stock | 35,000.00 | 50,000.00 | 50,000.00 |
| Surplus | 8,221.93 | 3,386.28 | 3,269.50 |
| Accounts payable | 48,514.47 | 26,376.64 | 18,102.87 |
| Bills and notes payable | 7,050.00 | 10,950.00 | 6,750.00 |
| Return premium unpaid | 431.12 | 970.29 | 4,067.84 |
| Total | 99,217.52 | 91,683.21 | 82,190.21 |
1928 BTA LEXIS 3433">*3438 The revenue agent's report submitted in evidence shows a revision of some of the above figures and balances of $107,063.57 for 1919; $108,322.43 for 1920 and $99.445.61 for 1921, but some of the revisions are in dispute. The accounts receivable represent premiums due and payable to petitioner and the accounts payable represent remittances due from petitioner to insurance companies it represents. Petitioner used capital in both its insurance and real estate business, but during the years in question very little income was produced from real estate which consisted of several vacant business lots, a large lot in the residence section with an old dwelling upon it in Des Moines and one or two farms in Iowa. Rent received on real estate was as follows:
| 1919 | Nothing. |
| 1920 | $543.69 |
| 1921 | Nothing. |
During the latter part of 1916 one B. T. Hough, agent for the Hartford Fire Insurance Co. for the State of Iowa, and an old friend of P. J. Clancy, came to P. J. Clancy for advice as to investing in city business property. Clancy aided Hough in looking over several pieces of property for sale and Hough selected a vacant lot in the business section at 13th and Mulberry Streets, 1928 BTA LEXIS 3433">*3439 Des Moines, as a fair investment. Hough invited Clancy, as an individual, to put up half the purchase price and share likewise in the profits or losses which Clancy agreed orally to do, but their agreement did not include petitioner as a party nor did either Clancy or Hough intend to make petitioner liable for anything connected with the transaction. Clancy, not having sufficient cash nor sufficient security to personally borrow the necessary cash, borrowed $2,250 on petitioner's credit and as president 12 B.T.A. 855">*859 of petitioner executed its note to a bank for that amount. Such action was not authorized by petitioner's board of directors nor did the directors formally approve of such action at any subsequent meeting. Clancy turned over to Hough the said $2,250 as his half of the cash payment on said property which was acquired on October 9, 1916, by B. T. Hough in his own name and neither petitioner nor Clancy were parties to the contract of purchase. The purchase price was $14,500; $4,500 cash and Hough and his wife executed a new mortgage back to the vendor as purchase price money mortgage. The title remained in Hough's name until the property was sold in 1920.
P. J. Clancy1928 BTA LEXIS 3433">*3440 gave petitioner his personal note for $2,250 as security for the said amount borrowed at the bank on petitioner's credit. As between Hough and Clancy the latter entered into the transaction in his own behalf, but petitioner's funds were used by Clancy and the item was carried on petitioner's books in a special account designated "Real Estate" and subsequently all of Clancy's share of disbursements for and receipts from said transaction were entered in that account. One-half of the taxes on the property and interest on the $10,000 mortgage were paid with petitioner's funds and charged to expense during the time the property was held by Hough.
On March 23, 1920, Hough and his wife sold the Mulberry Street property to W. T. Irwin and E. J. Askew. Neither petitioner nor Clancy were mentioned in nor were parties to the contract of sale. The sale price was $36,750 and the terms of payment were $5,000 upon the execution of the contract; April 1, 1920, $5,000 by the assignment and endorsement of a note for $5,000 executed by the Guarantee & Mortgage Co. due July 1, 1921; May 1, 1921, $2,500; May 1, 1922, $2,500; May 1, 1923, $4,000; May 1, 1924, $4,000; May 1, 1925, $3,750; and $10,0001928 BTA LEXIS 3433">*3441 by assumption of the mortgage then on the said premises. Hough received the $5,000 cash payment and on or about April 1, 1920, gave one-half of it to Clancy who in turn gave his share of $2,500 to the petitioner. The said $2,500 was credited on petitioner's books in the special account opened for the Mulberry Street transaction. On or about April 1, 1920, Hough received the above-mentioned $5,000 note of the Guarantee & Mortgage Co. endorsed by W. T. Irwin. After Hough and Clancy endorsed and guaranteed the said note personally the Peoples Savings Bank purchased it during 1920 at a 25 per cent discount and the $3,750 received therefor was divided between Hough and Clancy, the latter's share of $1,875 being credited to the real estate account on petitioner's books. The said note was paid at maturity by the makers thereof. All subsequent payments which Clancy received from Hough under their contract were credited to the real estate account on petitioner's books 12 B.T.A. 855">*860 in the years in which received. One-half of the profits from the Mulberry Street transaction went to petitioner, were shared in by all its stockholders and were included in income to petitioner in the years1928 BTA LEXIS 3433">*3442 in which received. From the inception of the transaction Clancy intended that petitioner should receive all profits, if any, for the original investment was money borrowed on petitioner's credit, but that he, Clancy, should stand for all losses, if any.
During the spring of 1920, petitioner took several notes executed by James Horrabin & Co. for premiums due petitioner for surety bonds written during the latter part of 1919 and the first part of 1920 on certain municipal contracts which said company had entered into. The said company was not financially able to carry out its contracts and when the premiums became due James Horrabin & Co. could not pay; petitioner could not cancel the surety bonds without release from the principal; petitioner had to remit to the company it represented, and accepted from James Horrabin & Co. its notes executed on the dates and for the amounts as follows:
| Date | Due | Amount |
| (1) Apr. 1, 1920 | Payable 6 months after date | $2,500.00 |
| (2) Apr. 1, 1920 | Payable 9 months after date | 2,956.00 |
| (3) June 22, 1920 | do | 2,500.00 |
| (4) June 22, 1920 | Payable 12 months after date | 2,500.00 |
| (5) June 22, 1920 | Payable 1 year after date | 2,225.57 |
| Total | 12,681.57 |
1928 BTA LEXIS 3433">*3443 On the back of the first note listed above appear the following credits:
| May 18, 1921 | $500.00 |
| July 6, 1922 | 323.84 |
| July 31, 1922 | 156.15 |
| Jan. 31, 1923 Cr. Int | 494.96 |
The record does not establish who made those payments. The other notes, 2 to 5 inclusive, did not become due until some time during 1921. Petitioner made every effort to collect cash for the premiums due, but not being able to do so accepted the notes which petitioner attempted to sell but which the banks in Des Moines would not purchase or discount because James Horrabin & Co. was considered insolvent during 1920. However, James Horrabin & Co. continued doing business during 1920 and no bankruptcy proceedings were begun. To date the notes have remained in possession of petitioner and it has continued to attempt to collect the notes. No part of either of the five notes has been charged off petitioner's books during 1920 nor subsequently. during 1920 petitioner took four notes executed by George F. Lambert, a contractor, for premiums due petitioner for insurance 12 B.T.A. 855">*861 and surety bonds. Lambert was not able to pay cash for the premiums when due and petitioner took his demand notes executed1928 BTA LEXIS 3433">*3444 on the dates and for the amounts as follows:
| (1) June 18, 1920 | $1,136.83 |
| (2) June 18, 1920 | 1,500.00 |
| (3) June 21, 1920 | 859.05 |
| (4) Nov. 19, 1920 | 854.49 |
| Total | 4,350.37 |
Petitioner endeavored to sell those notes to the banks in Des Moines which would not purchase or discount them because Lambert's credit was not good during 1920 nor subsequently. However, Lambert continued doing contracting work and a portion of his work was taken over by Lytton Construction Co. On the back of the first note appears "6-25-21 Paid by Lytton Const. Co. $573.56." On the back of the second note appear the following credits:
| Oct. 26, 1921. Credit by Ret. Prem | $35.48 |
| Dec. 10, 1921 | 25.92 Ck. |
| Jan. 25, 1922 | 100.00 Ck. |
| 161.40 |
On the back of the third note appear the following:
| Apr. 9, 1921. On Account | $137.87 Cr. |
| June 15, 1921. On Account | 300.00 Cr. |
| Pd. by Lytton Const. Co. |
During 1920 and until his death in 1926 Lambert was considered insolvent by bankers of Des Moines, but he continued in the contracting business.
Petitioner has not charged off its books any portion of Lambert's notes, has continued its efforts to collect them and1928 BTA LEXIS 3433">*3445 has filed claim against Lambert's estate for the amounts due.
The Commissioner refused to allow petitioner personal service classification and computed the tax as upon an ordinary corporation; included in petitioner's income for 1920 profits in the amount of $6,312.50 from the Mulberry Street property transaction, holding that the petitioner owned a one-half interest in the property, owed one-half of the mortgage of $10,000 and that the sale was a completed transaction in 1920 even though Hough did not transfer title to vendees until property was paid for; and Commissioner disallowed the claimed deduction for the year 1920 of $14,383.62 as bad debts.
OPINION.
LITTLETON: The record of this action shows that the petitioner during 1919 had a paid-in capital of $35,000, and during the years 1920 and 1921 of $50,000; that during all of these years it had a surplus or undivided profits accounts of from $3,000 to $8,000. During 12 B.T.A. 855">*862 all of these years it carried among its assets real estate, obligations of the United States, stocks and bonds of other corporations, from which it received income, and the annual balance sheets of the company appear to show that the paid-in capital1928 BTA LEXIS 3433">*3446 and surplus was continually used in the business of the company without any segregation as between the investment accounts and the insurance agency accounts. During the same time the company had 15 stockholders owning 192 out of 500 shares of stock who were not regularly and actively engaged in the business of the corporation. Under these circumstances, we are of the opinion that this petitioner falls so far outside of the limits of the statutory definition of a personal service classification that no further discussion of that question is needed here. .
This record also establishes the fact that during the year 1920 the petitioner corporation received through the agency of its president one-half of the net gain produced by a real estate transaction in which the president of the petitioner corporation had appeared as one of the buyers and sellers and that in this transaction he had borrowed both the corporation's credit and its money. He testified that it was his intention when he went into this transaction to give the corporation the benefit of the profit, if one was realized, and having realized a profit from the1928 BTA LEXIS 3433">*3447 sale of the property that profit was turned in to the corporation which retained it and treated it as a part of its surplus distributable to its stockholders as dividends. Under these circumstances, we are convinced that the corporation may not now properly claim that it did not receive income from such transaction and that such income was properly included in its gross income for the year 1920.
Respecting the losses claimed as a result of the company's inability to collect the total amount of certain insurance premiums, the situation presented by the record is in brief, that during the late months of 1919 and the early months of 1920 the petitioner accepted from two general contractors applications for casualty and surety bonds, premiums upon which amounted to $17,031.94. The gross amount of these premiums was entered on the petitioner's books in the ordinary course of business as accounts receivable. Such accounts receivable were due and payable in cash within 30 or 45 days, but were not so paid. The two contractors were unable to pay cash and petitioner accepted their notes in 1920 and substituted the notes receivable for the accounts receivable in petitioner's books. Petitioner1928 BTA LEXIS 3433">*3448 could not cancel the surety bonds and had to remit the premiums due the companies it represented. Due to the financial condition of the two contractors during 1920, petitioner had reason to doubt the collectibility of the notes in full, but hoped to collect when the contract work was completed and paid for. During the 12 B.T.A. 855">*863 years 1921 to 1923, inclusive, petitioner did receive various credits upon the various notes, either from the two contractors, their subcontractors or assignees. During the year 1920 petitioner still looked to its rights under the notes it held and the only facts relied upon in this proceeding to show a loss in 1920 is that during that year the two contractors were not in a sound financial condition and that since 1923 no collections have been made on the unpaid balances of the notes. The notes were not charged off in 1920, and petitioner may not take a deduction as a loss in 1920, on account of the said business transaction, under section 234(a)(4) of the Revenue Act of 1918. Cf. . Petitioner may not deduct in 1920 the amount of the notes nor the amount of the unpaid balances as a bad1928 BTA LEXIS 3433">*3449 debt under section 234(a)(5) of the Revenue Act of 1918 for not only were the notes not ascertained to be worthless during 1920, but they were not charged off during that year.
Judgment will be entered for the respondent.