*3755 Certain amounts paid by a corporation to its president during his lifetime and to his estate after his death in pursuance of the terms of an agreement for the sale to the corporation of the business owned by the president, as an individual, are disallowed as ordinary and necessary expenses.
*643 This is a proceeding for the redetermination of a deficiency in income and profits taxes for the calendar years 1920 and 1921. It is alleged in the petition that the determination of the petitioner's tax contained in the deficiency letter is based upon the following errors: (a) Disallowing salary of $6,500 paid to the petitioner's president during 1920 and 1921, (b) reduction of 1921 invested capital by $1,407.93 on account of taxes payable within the year 1921 upon the income of the preceding taxable year.
FINDINGS OF FACT.
The petitioner is an Indiana corporation with its principal office at Evansville, Ind. During the years 1920 and 1921 and up to the time of hearing it was engaged in the business of an insurance agency, carrying on both a life and fire*3756 insurance business. The firm of Greene & Greene was one of the oldest firms of its kind doing business in the State of Indiana. For fifteen or twenty years prior to 1920 Alfred Greene had been in personal charge of the business, having taken it over after his father's death. It had always been owned by members of his family. He was the sole owner of the business at the beginning of the year 1920.
On January 1, 1920, the petitioner and Alfred Greene entered into the following agreement in writing:
BILL OF SALE AND TRANSFER AGREEMENT.
This bill of sale WITNESSETH:
That for and in consideration of EIGHTY THOUSAND DOLLARS ($80,000.00), and in further consideration of the covenants and agreements hereinafter stated and referred to, the undersigned ALFRED GREENE, of Evansville, Indiana, hereby sells, transfers and delivers unto GREENE & GREENE, a corporation created and existing under the laws of Indiana, his Insurance business and agency heretofore operated by him under the trade name of Greene & Greene (including his life insurance agency operated as Alfred Greene, Agent) together *644 with the good will thereof and together with all the current insurance records and*3757 papers (not including books of account) and also the Greene & Greene office furniture, and all other rights, interest and property in said business and insurance agency, with the exceptions herein stated. The sale and transfer shall not include cash or notes on hand January 1, 1920, nor uncollected premiums on policies written before said date, and shall not include the two office desks used personally by said Alfred Greene.
The purchase price above stated is evidenced as follows:
1. Fifty (50) shares of the capital stock of the Mercantile-Commercial Bank of Evansville of the par value of Five Thousand Dollars ($5,000.00) and estimated and hereby agreed to be of the actual value of Tne Thousand Dollars ($10,000.00).
2. Seven hundred shares of the six per cent. (6%) cumulative preferred stock of Greene & Greene, certificates for which bear date of January 1, 1920.
In further consideration of this sale and transfer the said Greene & Greene hereby promises and agrees to pay to Alfred Greene the sum of SIXTY-FIVE HUNDRED DOLLARS ($6,500.00) per year payable in equal monthly installments, and agrees to pay the same so long as he shall live; it being understood, however, that*3758 in the event of his death within three (3) years from the 1st day of January, 1920, that the said monthly payments shall continue to the end of said three (3) year period and be paid to his estate; and it is further understood that the said sum of Sixty-five Hundred Dollars ($6,500.00) per year is a payment to Alfred Greene for his good will and his counsel at such times as he is able to render same but that the extent and the amount of the work or service that he may hereafter do or perform in connection with the Greene & Greene business shall be wholly as his own preference and discretion may determine.
It is further understood that the said Alfred Greene does not guarantee to Greene & Greene, a corporation, that the various insurance companies will renew or transfer their agency contracts to the corporation but he agrees in that behalf to assist in accomplishing such renewal or transfer; it being contemplated that the insurance agency and business will continue without interruption or without any great change in the general policy and manner of conducting the agency.
It is the purpose of this bill of sale and transfer agreement to carry into full force and effect all of the*3759 terms and provisions of the sale agreement entered into by said Mercantile-Commercial Bank and Alfred Greene on the 13th of December, 1919, and said contract is hereby referred to and attached herewith and made a part hereof. This instrument supplements the contract of December 13, 1919, and Greene & Greene, a corporation, hereby assumes and agrees to perform all of the covenants and agreements upon its part to be performed under the terms of said contract of December 13, 1919.
* * *
The sale agreement of December 13, 1919, referred to above was not attached or offered in evidence. Four or five drafts of the socalled "Bill of Sale and Transfer Agreement" were made before it was eventually signed. The first one provided for the payment of $80,000 to Alfred Greene in consideration of the transfer of his business. After this agreement had been drafted, Greene insisted that as a preferred stockholder in the company he desired to have something to do with its management. After some discussion the petitioner finally entered into the above agreement.
*645 The preferred stock certificates of the company which were issued to Alfred Greene all contained the following provisions:
*3760 The term "net earnings" as used in this certificate shall mean the excess of the gross earnings over and above the operating expenses. The term "operating expenses" as used herein shall include the salaries of Alfred Greene, Nathan D. Smith and Alfred Greene, Jr., according to the corporation's contracts with each of them, and shall also include all taxes and all interest on money necessarily borrowed from time to time to make premium settlements with insurance companies, all dividends on preferred stock and all customary and necessary clerical and office expenses; but in no event shall the deduction for wages and salaries (exclusive of salaries to Alfred Greene and Nathan D. Smith) exceed twenty-five per cent. (25%) of the gross earnings of the business for any six months' period.
Alfred Greene was president of the petitioner on January 1, 1920, and continued to hold that office until his death on June 2, 1921. During this period he spent part of his time in the petitioner's office where he attended to some of the general correspondence of the petitioner and looked after insurance which he had on the books at the time. He also turned in some orders for insurance but these*3761 were not extensive. He was in poor health during this period and for some weeks he would not be in the office at all, while in other weeks he would sometimes spend a half day or more there. During the years 1920 and 1921 the petitioner paid Greene the amount of $6,500 per year in monthly payments of $541.67 until the date of his death, after which payments of subsequent amounts due were made to his estate. Greene received from the corporation no other compensation than the $6,500 mentioned in the agreement.
For each of the taxable years the Commissioner disallowed as a deduction the amount of $6,500 paid to Alfred E. Greene and his estate, and added this amount to invested capital. For the taxable year 1921, the Commissioner decreased invested capital by the amount of $1,407.93 representing income and profits taxes for the year 1920, prorated from the dates on which payments were due during the year 1921.
OPINION.
MURDOCK: The petitioner has made no mention in its argument or brief as to the Commissioner's deduction from invested capital of the amounts due during 1921 for income and profits tax of the year 1920, prorated as of the dates due, and even if this allegation*3762 of error were not abandoned by the petitioner our decision on this point would be for the Commissioner, since his action was in accordance with section 1207 of the Revenue Act of 1926. ; . Therefore the petitioner's invested capital for 1921 must be reduced by the amount of $1,407.93, provided that the amount of its income *646 and profits tax for 1920, as determined by the Commissioner, was not incorrect.
The petitioner has claimed a deduction for each of the taxable years in the amount of $6,500, on the ground that it was a salary paid by a corporation to its president in pursuance of a contract between the two. In his deficiency notice the Commissioner has stated that these yearly payments were to be made solely to secure the benefit of Greene's individual good will and influence and, consequently, were not proper deductions from gross income. In his answer to the petition the Commissioner contends that these amounts did not constitute salary payments but were, in fact, additional payments on the purchase of Greene's insurance business.
The provisions of*3763 the Revenue Acts of 1918 and 1921 in regard to deductions for salaries are identical and read as follows:
SEC. 234. (a) That in computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions:
(1) All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for salaries or other compensation for personal services actually rendered, * * *
The transfer agreement between the petitioner and Alfred Greene states that the yearly payment of $6,500 was in further consideration of the sale and transfer of the latter's business and if this were all that the agreement contained in regard thereto, there would be no doubt that these payments constituted an additional consideration for the purchase of the business. The petitioner, however, in order to show that this was in reality a salary, points out particularly the following facts: The agreement contains a further provision, stating that "the said sum of Sixty-five Hundred Dollars ($6,500.00) per year is a payment to Alfred Greene for his good will and his counsel at such times as he is able*3764 to render same but that the extent and the amount of the work or service that he may hereafter do or perform in connection with the Greene & Greene business shall be wholly as his own preference and discretion may determine"; Alfred Greene thereafter as president of the petitioner spent part of his time in its offices attending to some correspondence of the company and looking after certain insurance which he had on the books and he turned in some few applications which he presumably solicited after the sale of his business; and the preferred stock certificates issued by the petitioner to Greene contained a statement that the term "operating expenses" as used therein, should include the salaries of three persons, among them Alfred Greene, according to the corporation's contract with each of them.
The petitioner asks us to draw from the above facts the conclusion that $6,500 a year was intended by the parties to be a salary to *647 Alfred Greene, in consideration of his services, and that this intention was carried out by the subsequent acts of the parties.
This agreement was not one made between a corporation and its president for salaries to be paid to the latter but*3765 was a bill of sale by which the owner of a business contracted to transfer it to another. A witness testified as to the discussions occurring before the final agreement was executed. He did not give the conversation of the parties but gave his interpretation thereof which was to the effect that several agreements had been drafted before the final one was executed; that in the first of these the total consideration had been $80,000 and that Greene had objected thereto; that he had insisted that as a preferred stockholder in the company he wanted to have something to do with its management and that it was thought he would personally be able to serve his friends if he were financially interested in the company. However, even assuming that Greene wished to have something to do with the management of the corporation because he was a preferred stockholder and it was considered he would personally be able to serve his friends if he were interested in the company, this alone does not show that the yearly payments set forth in the agreement were to be made to him in consideration of his services as president. It is clear from the agreement that such yearly payments would have to be made*3766 to him, even if he performed no service whatsoever, and that if he died one day after the agreement went into effect the payments were to be made to his estate for three years in spite of the fact that no services of any nature were being performed. This condition actually existed for approximately one-half of the second taxable year.
It is a significant fact that nowhere in the agreement is the amount of yearly payments referred to as a salary, and that the agreement also recites the fact that such payments were to be in further consideration of the sale and transfer of the business. Because the agreement also stated that this was a payment for Greene's good will and counsel at such times as he might be able to render the same, it does not follow that the services he performed as president of the petitioner in attending to its correspondence and soliciting some insurance were rendered in consideration of the payments in question. The fact that he was paid nothing in addition to the $6,500 is not controlling, since from the testimony it would seem that the right to participate in the management of the corporation was a benefit conferred by the corporation upon Greene, who had*3767 a substantial interest in the corporation through his stock holdings.
We have considered carefully the testimony adduced by the petitioner to show the intention of the parties and the acts of the parties subsequent to the agreement, because we are of the opinion that the *648 paragraph of the agreement which we have in question is somewhat ambiguous in regard to the exact nature of the payments set forth therein. But we think that where the agreement recites that such payments were to be made in further consideration of the sale and transfer of Greene's business to the corporation it was incumbent upon the petitioner to clearly demonstrate that this was not the intention of the parties, especially when it is apparent that the petitioner was obligated to make these payments even if no services whatsoever were rendered. We think that, considering the circumstances of this case, the petitioner has not adduced sufficient evidence to show that these were payments for services as distinguished from additional payments upon the purchase of the business, and our judgment is therefore for the respondent.
Judgment will be entered for the respondent.