*1863 1. Under the facts, petitioner held to be a personal service corporation.
2. Good will, although valuable and a revenue-producing factor, if built up and possessed by the present stockholders and not purchased for a valuable consideration, is not income-producing capital in contemplation of section 200(5) of the Revenue Act of 1921.
*370 This proceeding is for the redetermination of a deficiency in income tax for the year 1921 in the amount of $8,315.26.
The petition presents five assignments of error, four of which relate to and complain of the action of the Commissioner in his refusal to classify petitioner as a personal service corporation. The fifth assignment of error is of an alternative nature and complains of the action of the Commissioner in not granting to petitioner special assessment under section 328 of the Revenue Act of 1921. Consideration of the fifth assignment of error was, by agreement, postponed to await decision of the Board on the first four assignments. Hence, there was no evidence*1864 offered relative to said fifth assignment.
FINDINGS OF FACT.
Petitioner is an Ohio corporation organized in 1900, and has outstanding capital stock consisting of 500 shares of a par value of $100 per share. There are only four stockholders, whose names, number of shares held, and annual salary, are as follows:
| Name | Number of | Salary |
| shares | ||
| Louis J. Grossman | 266 | $7,600 |
| Marc J. Grossman | 19 | None. |
| Nathan Loeser | 115 | 2,100 |
| S. A. Breding | 100 | 8,300 |
Louis J. Grossman is president; Marc J. Grossman, vice president; Nathan Loeser, secretary; and S. A. Breding, solicitor.
The business conducted by petitioner is providing for and furnishing a reliable contact between law firms and manufacturers, wholesalers and others, who have collections to be enforced in places remote from the home of the creditor. In the business conducted by petitioner, *371 the creditor who has a claim to be collected is designated as the "forwarding agent" and the lawyer to whom the claim is sent for collection is designated the "receiving agent," and hereinafter we shall refer to them as forwarder and receiver, respectively.
Breding devoted his whole time to the*1865 business of petitioner, and it was his special duty to travel throughout the United States and, after investigating the character and business ability of a lawyer or firm of lawyers, to solicit and arrange for such lawyers to become associated with petitioner by authorizing the inclusion of their names and business addresses in the list of such attorneys, published by petitioner semiannually and supplemented each month. By the inclusion of an attorney's name in the list petitioner thereby endorsed and recommended, in a limited way, such attorney as one of its receiving agents.
Those published lists of receiving agents contained thousands of names, representing most of the important cities and towns in the United States, with a much more restricted list in several foreign countries. Each and every receiving agent was charged a fee for having his name included in said list, and it was from such fees that petitioner received most of its income. Those published lists were furnished to forwarding agencies free of charge.
Louis J. Grossman and his son, Marc J. Grossman, and Nathan Loeser are lawyers, and constitute a firm which engages in general practice as well as specializing*1866 in commercial law practice. Those three stockholders take care of and run the home office end of the business. Breding takes care of the major part of the field work; however, each of the others did make occasional trips to adjust or attend to some special problem. Also, each of those three stockholders devoted at least a part of every day in handling problems that came in for attention. Complaints from forwarders and from receivers were of daily occurrence, averaging around 20 to 30 daily. All those complaints had to be handled, and in handling them, discretion, diplomacy and skill were necessary. It was largly through such handling of those complaints, adjusting them in a manner satisfactory to all parties concerned, that petitioner built up and maintained its good will.
Petitioner employed an office force of about 23 persons to do the general clerical work, none of whom performed any of the executive work. In the taxable year petitioner's gross income amounted to $107,215.51, of which amount $94,199.82 was derived from fees charged for representation in the list above mentioned; $12,964.25 represented subscriptions to a "Guarantee Subscription Fund"; $51.44 was interest*1867 on deposits. The so-called "Guarantee Subscription *372 Fund" was in the nature of a reserve, inaugurated and set up at the original opening of business by petitioner, and maintained throughout its career, and is a fund kept for the purpose of meeting obligations to forwarders for losses brought about by defalcation on the part of receiving agents. The practice is that when a forwarder suffers a loss through such defalcation, petitioner reimburses the forwarder out of that fund and then institutes a procedure to enforce reimbursement to itself from the delinquent receiving agent.
During the taxable year $7,183.60 was paid out of that fund, and $4,569.68 was collected as reimbursements. The expense account for the taxable year was:
| Printing coupons | $410.25 |
| Dictaphone expense | 298.87 |
| Exchange on checks | 35.39 |
| General expense | 718.55 |
| Express | 16.49 |
| Overcharges and embezzlements | 2,613.92 |
| Legal services | 166.80 |
| Office supplies | 153.47 |
| Postage | 1,946.21 |
| Quarterly postage | 601.90 |
| Printing quarterly | 5,133.21 |
| Rent | $4,588.00 |
| Employees' salaries | 31,053.61 |
| Employees' salaries (N.Y.) | 4,401.00 |
| Officers' salaries | 18,000.00 |
| Traveling, etc. expenses | 6,320.53 |
| Stationery, etc | 1,453.65 |
| County and State taxes | 435.01 |
| Telegraph and telephone | 1,407.19 |
| Depreciation on office furniture and fixtures | 84.82 |
| 79,838.87 |
| Balance sheet ended December 31, 1921 | |
| Liabilities | |
| Assets | |
| Accounts receivable | $45,078.19 |
| Cash | 11,215.13 |
| Office furniture and fixtures | 763.33 |
| Good will | 50,000.00 |
| 107,056.65 | |
| Accounts payable | $1,374.34 |
| Guaranty fund | 43,538.30 |
| Capital stock outstanding | 50,000.00 |
| Undivided profits, Dec. 31 | 12,144.01 |
| 107,056.65 | |
OPINION.
LOVE: The question to be answered in this case is whether or not petitioner comes within the purview of the definition given by Congress to "personal service corporations," as contained in section 200(5) of the Revenue Act of 1921. The pertinent part of that section is:
(5) The term "personal service corporation" means a corporation whose income is to be ascribed primarily to the activities of the principal owners or stockholders who are themselves regularly engaged in the active conduct of the affairs of the corporation and in which capital (whether invested or borrowed) is not a material income-producing factor.
An analysis of the quoted statute discloses that it prescribes three essential elements, viz:
*373 1. The income must be derived in such a way as to be ascribed primarily to the activities*1869 of the principal stockholders.
2. Those stockholders themselves must be regularly engaged in the active conduct of the affairs of the corporation.
3. Capital (either borrowed or invested) must not be a material income-producing factor.
In the instant case the evidence is clear and positive that all four of the stockholders were regularly, every day, actively engaged in the affairs of the corporation. Breding devoted his whole time in field work. The two Grossmans and Loeser each devoted a part of practically every day to the home office end of the work, which embraced the formation of policies, the selection of receiving agents, the handling of complaints and various other executive duties. We have no hesitancy in finding and holding that the four stockholders were each regularly engaged in the active conduct of the affairs of the corporation. That those three men were conducting a general law practice does not preclude a holding that they were at the same time regularly and actively engaged in the conduct of the affairs of the petitioner corporation. *1870 ; ; and .
Was petitioner's income derived in such a way that it may, in contemplation of the statute, be ascribed primarily to the activities of those four stockholders? We do not deem it material that petitioner had on its pay roll 23 employees to perform the necessary clerical work. Those employees, performing that kind of work were not, in contemplation of the statute here involved, income-producing factors.
Reserving, and not now considering the question as to whether capital was a material income-producing factor, we believe and so find and hold that the income of petitioner may be ascribed, primarily, to the activities of the four stockholders. ; cocks-; ; and *1871 .
We will now consider the question as to whether or not capital was a material income-producing factor. An examination of petitioner's balance sheet at the close of 1921 shows that its assets consisted of accounts receivable, cash, office furniture and fixtures, and good will. Petitioner's income for the taxable year amounted to $107,215.51, of which amount $94,199.82 was derived from fees charged receiving agents, $12,964.25 from "subscriptions" to the *374 guarantee fund, and $51.44 was interest on deposits. Petitioner used no borrowed funds. The $51.44 interest received, of course, is derived directly from the employment of capital, but is so negligible in amount that it may not be considered. The accounts receivable drew no interest and hence produced no income. In fact, those accounts were explained in argument to represent fees charged against receiving agents, in the annual fee amount, but payable in quarterly or other installments. The only item in the list of capital assets to which income may be ascribed is good will. That item is valued at $50,000 and we believe it had that value. We are also convinced that*1872 such good will, built up as it was through 20 years of effort and operations, constituted a material factor in producing petitioner's income during the taxable year.
The crucial question to be answered is, Was the good will such an asset as to be classed as income-producing capital as contemplated by the statute here involved? We do not believe that it is such an asset. To hold that good will is such an asset, would destroy the whole scheme of personal service corporations. Those corporations are taken out of the class of ordinary corporations for tax purposes, and made a class unto themselves, on the theory that a few stockholders, grouping themselves together and personally conducting the business, using their personal influence, popularity, and without the aid of money capital - in fact, capitalizing the confidence with which they inspire the public, obtain patronage and make income. It is just that kind of an organization that Congress meant to grant a concession to, a concession that allowed the income to be taxed as personal, and not as corporate income, because in fact it is income derived by and through the personal element in the corporate activity.
A different*1873 situation might exist, demanding an entirely different conclusion, if a group of stockholders purchased the assets and business of a going concern, and in such purchase had recognized and paid cash for an existing good will asset. In such a situation the purchase price of the good will would likely be held to be an investment of income-producing capital. Under the circumstances of the instant case, we hold that good will was not such capital. See .
Judgment will be entered for the petitioner.