*130 Decision will be entered under Rule 50.
The petitioner, a manufacturing corporation, in 1933 paid approximately $ 300,000 on judgments in suits brought by the Superintendent of Banks alleging unlawful preference in withdrawals of deposits. In 1937 it paid approximately $ 70,000 in settlement of a suit brought against it involving a dispute over a contract as to patent rights, also in settlement of a suit brought by stockholders, alleging mismanagement in connection with the patent rights and the litigation growing therefrom. In computing excess profits taxes for 1941 the Commissioner denied restoration of deduction of $ 70,000 taken by the petitioner in 1937. Held, that Regulations 109, section 30.711 (b)-2, is not valid basis for the Commissioner's determination that the deductions in 1937 were normal; and that they were abnormal for the petitioner; held, further, that the petitioner has shown, under section 711 (b) (1) (K) (ii), that the abnormality was not a consequence of a change at any time in the type, manner of operation, size or condition of the business engaged in by the petitioner.
*354 This case involves income tax for the calendar years 1940 and 1941 and excess profits tax for 1941. A deficiency of $ 12,165.81 in excess profits tax was determined for 1941, and overassessment of income tax was determined of $ 288 for 1940 and $ 2,490.62 for 1941. The petition prays for a refund of $ 40,951.37 for the year 1941. The general issue presented is whether the petitioner, in computing excess profits tax, was entitled to have certain deductions of expense incurred in connection with litigation in 1937 disallowed as abnormalities. From evidence adduced, admission, and stipulations (which stipulations we adopt, setting forth here only parts considered necessary), we make the following findings of fact.
FINDINGS OF FACT.
1. The petitioner is an Ohio corporation, incorporated February 23, 1929, with its principal office at Toledo, Ohio. The return for the calendar year 1941 relating to the income and excess profits tax liability of this corporation was filed with the collector of internal revenue for the tenth district of Ohio. Petitioner was in existence during the years 1936 to*132 1939, inclusive.
2. The notice of deficiency from which the appeal herein is taken was mailed to the petitioner on June 5, 1944. Claim for refund of $ 40,951.37 was filed on June 15, 1944, by petitioner with the collector for the tenth district of Ohio.
*355 3. The articles of incorporation of the petitioner corporation state its main purpose as follows: "To carry on a general stamping business, including the manufacturing, buying, selling and otherwise dealing in metal stampings of all kinds, forms and combinations, and the doing of all things necessary, incident and convenient thereto."
4. The principal business of the City Auto Stamping Co. consists of the manufacture of stampings and stamping assemblies, as well as truck cab roofs and backs, automobile doors, grills, hoods, fenders and other parts for automobiles, trucks, farm tractors and refrigerators. Petitioner also manufactures dies for the production of the aforesaid assemblies and other items such as power saw parts, metal table legs, and other articles adapted to manufacture by the facilities of petitioner. Petitioner operates exclusively as a contract shop, making products according to the specifications of its*133 customers.
5. In connection with the settlement of a suit brought by the Dole Valve Co. involving the cancellation of a patent license contract, petitioner made payments in the year 1937 totaling $ 48,023.99. The suit was filed by Dole Valve Co. against petitioner in the United States District Court for the Northern District of Ohio, to recover judgment for $ 100,000, with 6 per cent interest from May 17, 1934, on $ 50,000 and from May 17, 1935, on $ 50,000, as payments allegedly agreed upon as consideration for the sale of certain patent rights (held by Dole Valve Co. under license from one Morrison, and involving inventions of ventilating windows for automobiles), under which agreement, consented to by Morrison, petitioner had agreed to pay $ 300,000, $ 50,000 in cash and $ 50,000 yearly, and of which it paid the first $ 50,000. The Dole Valve Co. alleged breach of contract. Petitioner filed a general denial and further defended on the ground that Morrison was a necessary party plaintiff; that it entered into the contract because of reliance upon false representations knowingly made, and demanded repayment of the $ 50,000 already paid; that it had notified the plaintiff of its*134 refusal to be bound by the contract and had surrendered and formally offered in writing to surrender all rights under such contract; that if the agreement had been legally made it had been repudiated by the plaintiff; and that the petitioner had been caused losses in the total amount of $ 84,249.45. Petitioner also claimed return of the $ 50,000 paid, making the total sum claimed $ 134,249.45, and interest.
6. After execution of the agreement with Dole Valve Co., and about the latter part of 1933, and pursuant to the patents involved in the contract, the petitioner began manufacture of wing ventilators for several companies for assembly into bodies of several well known makes of automobiles. Such production was continued until February 1935. Production was discontinued as the result of investigation as to the patent applications involved in the contract. On February 9, *356 1935, petitioner, in writing, notified Dole Valve Co. that the contract was void, that it refused to be bound by it and surrendered all rights thereunder, and that it demanded restoration of all moneys paid.
7. On November 8, 1937, the litigation with Dole Valve Co. was dismissed, after settlement. The*135 contract was rescinded, and the patent rights involved in the agreement were reassigned. The petitioner paid Dole Valve Co. $ 25,000 and paid attorneys' fees of $ 23,023.99.
8. In 1937 petitioner made payments of attorney and counsel fees and expenses aggregating $ 22,560.43, pursuant to a judgment or decree of the Common Pleas Court of Lucas County, Ohio, in final disposition of two related suits brought by certain stockholders against the directors of petitioner, the corporation being named as a party defendant. These stockholders' suits involved claims of mismanagement which were not sustained, growing out of the contract, litigation, and settlement of the Dole Valve Co. matter above. The Chrysler Corporation was made a defendant by amended petition in one of the suits, with allegations that petitioner had paid a rebate of $ 22,000 to that corporation in connection with the Morrison patent applications. Both suits were filed by the same attorney in the Court of Common Pleas of Lucas County, Ohio, and were consolidated. After the formation of a shareholders' committee and investigation of the matters involved in the two cases, a shareholders' meeting was held and a large proportion*136 of petitioner's stockholders, by vote, disapproved of the suits and approved the action of the company's officers. The consolidated case was decided for the defendants, but decree was entered that petitioner pay the costs and expenses, and the petitioner paid thereon $ 22,560.43 in 1937.
9. The payments made in 1937, which have been referred to in the two preceding paragraphs, were deducted from petitioner's taxable income in its income tax return for the year 1937. In computing petitioner's average base period income for the purpose of determining petitioner's excess profits credit based on income for the year 1941, petitioner added back the amounts paid out in connection with the aforesaid litigation to its 1937 excess profits net income. Respondent has disallowed, that is, has refused to allow, the disallowance of the aforesaid deductions.
10. In the year 1933 petitioner paid out $ 299,529.33 attributable to the judgments and orders of the Common Pleas Court of Lucas County, Ohio, in connection with two suits brought by the Superintendent of Banks in charge of the liquidation of the Security-Home Trust Co., Toledo, Ohio, one against petitioner and the other against its constituent*137 corporation, the CityMachine & Tool Co. It was alleged, inter alia, in substance, that the two companies had obtained unlawful *357 preference in the withdrawal of deposits, not in due course of business, and at a time when the bank was insolvent, and known so to be by the officers of the two companies. The two suits were, with the approval of the court, settled for the amount above stated after entry of judgment, for $ 45,000 and interest in the one case and $ 315,000 and interest in the other, in favor of the Superintendent of Banks. This payment was of the same class as those made in 1937, above described.
11. Since its existence petitioner has never been involved in any other suit, claim, award, or decree similar to any of the suits mentioned in this proceeding, nor has it ever made payment or claimed a deduction in connection with any other suits, awards, judgments or decrees similar to those hereinabove described. It made no payments and claimed no deductions in its income tax return for 1941 attributable to claims, awards, judgments or decrees, or any interest thereon, other than as above described.
12. The petitioner's manufacturing plant was built in 1929. *138 Since that time the only change made in floor was in 1937 when floor area was expanded about 40 per cent. No major equipment changes have been made. All production is built according to specifications and releases of customers. No "end use products" have ever been made and sold to the public. No enlargements were made in floor area or personnel, and no special machinery was purchased or machinery redesigned (though floor space was rearranged) for the purpose of producing the Dole-Morrison items, which were wing ventilators, parts of automobile doors, and windows manufactured for Seman Body Co. for Nash cars, for Briggs Manufacturing Co. for Chrysler, Dodge, and Plymouth cars, and for Pierce Arrow Co. It was necessary, however, to make changes in equipment, such as tools and fixtures, for each particular job. In subassemblies, the assembly fixtures, jigs, and fixtures are all special build, and for each stamping operation special dies and tools are required. No wing ventilators were sold to the public by petitioner; they were sold in the same way as other products, and were made under specifications of customers. At the time the manufacture under the Dole Valve patents on ventilators*139 (which contained glass) was undertaken, petitioner was making nothing containing glass. The only handling of glass was to receive it already cut to size and specification, and to place it in proper order to be used in the production line for assembly. The only special equipment necessary for installing glass was the special fixtures necessary in any assembly attempted. No additional expense, other than for routine arrangements, was incurred in connection with preparation to manufacture Dole Valve items.
13. Patented items were manufactured by the petitioner from time to time, such as radiators, mudguards, headlight mountings, fender and lamp housings, radiator guards, automobile grilles, and radiator *358 shells, but none were being manufactured in 1933 under patent license arrangements. About November 1934 such manufacture was commenced, but in 1936 the patents were purchased outright, and manufacture continued.
14. The above described deductions taken by petitioner in 1937 and added back in computing excess profits tax for 1941 were not a consequence of an increase in gross income of petitioner in its base period, or a decrease in the amount of some other deduction in its*140 base period. They were not the result of any change in the financial condition of the petitioner's business. The settlement of the Dole Valve litigation and the litigation itself resulted from certain imperfections and faults that were found in the validity of the patents. The payments made in the stockholders' suit were caused by mistake and lack of knowledge as to the alleged improper or negligent conduct of the petitioner's directors. The deductions were not a consequence of a change at any time in the type, manner of operation, size, or condition of the petitioner's business. The deductions in 1937, above described, were for the petitioner abnormal.
OPINION.
There is, as the respondent on brief states, no dispute about the essential facts presented to us here. The only issue is whether the respondent erred in disallowing as an abnormality, under the provisions of section 711 (b) (1) (H) of the Internal Revenue Code (providing for computation of excess profits tax income by disregarding certain deductions earlier taken), the above described deductions taken by the petitioner in 1937, a base period year. In that year the petitioner paid out, and deducted on its income*141 tax returns, $ 48,023.99 in settlement of the Dole Valve Co. suit and $ 22,560.42 upon two consolidated stockholders' suits. Petitioner's disallowance of these deductions, for the purpose of computing excess profits tax for 1941, was disallowed by the Commissioner.
It is the petitioner's position, in substance, that the payments were abnormal for it and, therefore, fall squarely under the language of section 711 (b) (1) (H), Internal Revenue Code, 1 providing for disallowance, *359 in computation of excess profits tax, of deductions taken in the base period and attributable to "any claim * * * judgment or interest on any of the foregoing" if abnormal for the taxpayer; while the respondent, though admitting the applicability of subsection (b) (1) (H), relies upon its further language to the effect that if the deductions were normal for the taxpayer, only the excess over 125 per cent of the average amount of such deductions in the base period years may be disallowed; and he contends first that the deductions here were normal. Since the amounts deducted in 1937 were less than the "average of such deductions" in the four previous years, he therefore allows no disallowance*142 of the deductions. The fact that the deductions in 1937 were less than the four-year average is not disputed by the petitioner, and arises from the fact that in 1933 the petitioner expended $ 299,529.33 in payment of a judgment in favor of the State Superintendent of Banking. The petitioner contends, however, that the fact that the four-year average of claims or judgments exceeds the amounts deducted in 1937 is immaterial, for that provision applies only if such deductions are normal, to which the respondent answers that Regulations 109, as amended, section 30.711 (b)-2, provides that:
A class of deductions is abnormal only if the taxpayer had no deductions of that class in the taxable years prescribed for determining average deductions.
and that since in 1933 the petitioner paid the $ 299,529.33 on another judgment, a deduction of the same class as those in 1937, the latter are under the regulation not abnormal. To this the petitioner proffers the challenge that the part of the regulation relied on is invalid, as an attempt to read into the statute something not placed there by Congress, unreasonable, arbitrary, inconsistent with the statute, and invalid as applied to it.
*143 The gist of this matter is that the petitioner had another deduction, in a previous year, of the same nature or class as those in 1937 here in issue, and that the respondent, under the regulation, contends that such fact renders those in 1937 normal, while the petitioner urges that to a manufacturing corporation payment of such judgment or claims is in its nature abnormal, and that a regulation can not validly cause it to be considered otherwise.
We agree with the petitioner on this point. It is a manufacturing corporation, plainly not one where claims, litigation, and judgments might be considered usual incidents to its business. See W. H. Loomis Talc Corporation, 3 T. C. 1067; Consolidated Motor Lines, Inc., 6 T. C. 1066. We consider this so self-evident as to obviate further comment, and that the only question is whether the regulation, in effect denying abnormality of deduction unless there is none of that class in the period used to secure an average, is valid as applied in this case. We do not think it is. The statute gives the petitioner the benefit of the 1937 deductions "if abnormal for the taxpayer." The *360 *144 words "for the taxpayer" are to us highly significant. They call for an examination of the facts as to each particular petitioner. The deduction might not be abnormal for some other petitioner. It might not conform to some generality (such as the regulation). But if abnormal for the petitioner here, it may not be viewed otherwise. Moreover, logic forbids a conclusion that the fact that there are two abnormalities causes both to become normal. They may become so in a sense by comparison with each other, but may be still very abnormal by comparison with the business experience of petitioner. The statute not only does not limit the inquiry to the four-year period, but noticeably does not state that a deduction must be the only one of its class in order to be abnormal. Definition of "abnormal" is "not conformed to rule or system; deviating from the type; anomalous; irregular" -- Webster's New International Dictionary. Two deviations from type do not cause normality in both. The Report of the Senate Committee on Finance on the Second Revenue Act of 1940, on this subject, says "an additional adjustment is provided * * * to the effect that deduction attributable to any claim, award, *145 judgment, or decree * * * will not be required to be taken into account if, in the light of the taxpayer's business, it is abnormal for the taxpayer to incur a liability of such character * * *." The same language is found in the Conference Committee Report (see pp. 537 and 551, C. B. 1940-2) and in the earlier statute, as more particularly noted below. The committee reports do not explain the change in language, from which it appears that no such change in meaning was made as to call for explanation. We therefore regard "if abnormal for the taxpayer" in subsection (H) as equivalent to "if in the light of taxpayer's business it was abnormal [etc.]." So viewed, the language does not permit the limitation contained in the regulation.
The regulation above referred to attempts to classify deductions as to abnormality. Section 711 (b) (1) (H) contains no language as to a "class" of deductions, but, as above seen, merely provides for disallowance of deductions abnormal for the taxpayer. Therefore, the regulation appears not well based upon or applicable to section 711 (b) (1) (H), however well based it might be on subsection (J), which does cover class of deductions. "Where*146 a payment falls within a particular provision of the law, the payment may not be claimed under another and, possibly, broader provision." W. H. Loomis Talc Corporation, supra.So a regulation, even though properly based on subsection (J), does not necessarily have proper basis in subsection (H). 2 Subparagraph (J) was inserted in the law in 1941, though subsection (H), above considered, appeared as subsection (G) in the *361 Second Revenue Act of 1940. There the expression was "if in the light of the taxpayer's business it was abnormal for the taxpayer to incur a liability of such character," instead of merely "if abnormal for the taxpayer," as in the 1941 amendment. The regulation here discussed did not appear until 1941, when, "to conform to the Excess Profits Tax Amendments of 1941," it was added by T. D. 5045 (C. B. 1941-1, p. 69, 73). Thus it is seen that subsection (H) (as (G)) not only provided in substance the present law as to abnormalities prior to enactment of subsection (J), referring to classes, or promulgation of any regulation in that respect, but also that the old subsection (G) *147 specifically refers to "in the light of the taxpayer's business."
Moreover, in our opinion, the regulation (so far as here concerned and applied) is arbitrary, and unreasonable, and not within the statute. Morrill v. Jones, 106 U.S. 466">106 U.S. 466; International Railway Co. v. Davidson, Collector, 257 U.S. 506">257 U.S. 506, are examples of many cases forbidding regulations of that character. In Green Bay Lumber Co., 3 T. C. 824, 829, although discussing classification of bad debts and holding them not all to be of the same class, we quoted Truax v. Corrigan, 257 U.S. 312">257 U.S. 312,*148 to the effect that classification "must regard real resemblances and real differences between things and persons and class them in accordance with their pertinence to the purpose at hand." So here we think that real differences and real resemblances must be regarded in determining what is normal or abnormal, and that a regulation may not validly determine that a lawsuit is normal merely because another like it happened within the preceding four years, and without examining the facts as to what, in the petitioner's business, is normal. We hold that the part of the regulation here involved is invalid as applied here by the respondent, and that the deductions because of the litigation in 1937 were abnormal for the petitioner, a manufacturer, within the meaning of section 711 (b) (1) (H), Internal Revenue Code.
It remains to be considered, however, whether the petitioner, under the burden imposed by section 711 (b) (1) (K) (ii) of the Internal Revenue Code, 3 has shown that the abnormality was "not a consequence of a change at any time in the type, manner of operation, size, or condition of the business engaged in by the taxpayer." (Since it was stipulated that "Said deductions*149 were not a consequence of an increase in gross income of petitioner in its base period or a decrease in the amount of some other deduction in its base period," we are not *362 concerned here with the other elements of section 711 (b) (1) (K) (ii); also, since it is stipulated that the petitioner had no other suits, claims, awards, or decree similar to those above described, or claimed any deduction in connection with other suits, awards, etc., section 711 (b) (1) (K) (iii) does not apply; likewise, since petitioner was in business during the four years prior to 1941, section 711 (b) (1) (K) (i) is not here involved.)
*150 We need not examine as to change in financial condition, since it is also agreed that the deductions were not the result of change in financial condition of the business. Our inquiry, therefore, is as to change in other conditions, type, manner of operation, or size. In William Leveen Corporation, 3 T. C. 593, we noted that such facts were "crucial though negative," that establishment may be difficult, that manner of its accomplishment can not be formulated in a rule, and that "perhaps the proof is best made by proving affirmatively that the abnormal deduction is a consequence of something other than" (the increase in gross income in that case). The petitioner in this case therefore contends that it devoted effort to show, and did show, that the deduction was consequence of something else than change in type, condition, etc., here of interest; also that it showed all changes made, and that none affected the deductions involved. After detailed examination of the evidence adduced, we have concluded that the petitioner's burden has been met. It is unnecessary to repeat the facts already recited above. Suffice it to say that in our opinion the petitioner*151 has demonstrated that the deductions were the result of litigation over a contract involving imperfections and faults in patent rights applications, also litigation instituted by stockholders through dissatisfaction over the handling of the patent matters and the litigation incident thereto, caused by lack of knowledge as to improper conduct alleged against directors; also, that no change in type, manner of operation, size, or other condition of the business caused such litigation and the payments which it entailed. It is shown that the petitioner's business was that of manufacturing on order of customers, that there was, in connection with the Dole Valve matters, no increase in floor plan, no change in personnel, no change in equipment, except incidental to such as fixtures and jigs in assemblies and nothing in the way of expense other than routine matters. Glass had not been earlier used, but its use in the manufacture entailed no essential change, since it was purchased cut to size and specification, and no more than minor change in equipment was necessary. Other manufacturing under patent licenses was done. We consider it plain that the litigation with Dole Valve Co., and *152 therefore the expense thereof, was a consequence, not of the elements of change in type, condition, size, or manner of operation of business, as stated in the statute, but of disagreement over the patent matters, involving *363 questions as to their validity. We are unable to discern wherein the litigation was a consequence of the changes named in the statute, for we find no such changes of any note, and further find such minor matters to have no casual connection with the litigation over the patent matters. Petitioner's business had not been changed to go into manufacturing under patents. The litigation with stockholders has the same ultimate basis as that with Dole Valve Co., since it arose therefrom and from matters connected with the usual business of the petitioner. We conclude that the petitioner has met the burden under subsection (K) (ii).
Decision will be entered under Rule 50.
Footnotes
1. SEC. 711. EXCESS PROFITS NET INCOME.
* * * *
(b) Taxable Years in Base Period. --
(1) General rule and adjustments. -- The excess profits net income for any taxable year subject to the Revenue Act of 1936 shall be the normal-tax net income, as defined in section 13 (a) of such Act; and for any other taxable year beginning after December 31, 1937, and before January 1, 1940, shall be the special-class net income, as defined in section 14 (a) of the applicable revenue law. In either case the following adjustments shall be made (for additional adjustments in case of certain reorganizations, see section 724 (e)):
* * * *
(H) Payment of Judgments, and So Forth. -- Deductions attributable to any claim, award, judgment, or decree against the taxpayer, or interest on any of the foregoing, if abnormal for the taxpayer, shall not be allowed, and if normal for the taxpayer, but in excess of 125 per centum of the average amount of such deductions in the four previous taxable years, shall be disallowed in an amount equal to such excess.↩
2. On brief the respondent urges, in distinguishing Green Bay Lumber Co., 3 T. C. 824↩, that subsections (J) and (H) are contrasted in purpose and intent, and that the Ways and Means Committee regarded (J) "as an entirely separate adjustment in addition to the specific items set forth in the preceding subdivision of section 711 (b) (1)."
3. SEC. 711. [(b) (1) has been heretofore set forth in the margin.]
(K) Rules for Application of Subparagraphs (H), (I), and (J). -- For the purposes of subparagraphs (H), (I), and (J) --
* * * *
(ii) Deductions shall not be disallowed under such subparagraphs unless the taxpayer establishes that the abnormality or excess is not a consequence of an increase in the gross income of the taxpayer in its base period or a decrease in the amount of some other deduction in its base period, and is not a consequence of a change at any time in the type, manner of operation, size, or condition of the business engaged in by the taxpayer.↩