*1490 1. Balance of cost of a trade catalogue published in taxable year, ordinarily chargeable to the following year as operating expense, held, deductible as operating loss sustained in taxable year where the catalogue became obsolete due to loss during taxable year of agency contract covering major line sold by petitioner and liability therefor has been fixed.
2. No abnormality having been shown to exist, held, petitioner is not entitled to the benefit of the special assessment provisions.
3. Agreement extending period of limitation for the collection of income and profits taxes assessed within period of limitation, executed after the period of limitation applicable thereto had expired but between the effective date of the Revenue Act of 1928 and January, 1929, held valid to extend period of limitation according to its terms. A further agreement entered into after January 1, 1929, but prior to expiration of time fixed in above agreement, held valid.
*737 This is a proceeding for the redetermination of an asserted deficiency in income*1491 and profits taxes for the fiscal year ended August 31, 1920, in the sum of $1,903.73.
The errors assigned in the original petition are as follows:
(a) The disallowance by the Commissioner as a deduction from the petitioner's gross income for the fiscal year ended August 31, 1920, of certain ordinary and necessary expenses paid or incurred in the transaction of taxpayer's business, to wit: (1) expense incurred in the amount of $2,220 for trade catalogues prepared during the fiscal year ended August 31, 1920.
(b) The denial by the Commissioner of the petitioner's application for special assessment of its profits-tax liability for the fiscal year ended August 31, 1920, under the provisions of sections 327 and 328 of the Revenue Act of 1918.
The motion of the Commissioner, filed April 17, 1930, that the hearing in this proceeding be limited to (a) and (b) under the Board's Rule 62 was granted April 22, 1931.
The amended petition received and allowed at the hearing in this proceeding alleged that the collection of $9,589.04, being the unpaid balance of tax originally assessed upon the filing of petitioner's return for the period in question, is barred by operation of the statute*1492 of limitation.
FINDINGS OF FACT.
The petitioner is a corporation, with its principal place of business at Los Angeles, California. It is engaged in the sale of agricultural and farming implements.
About 1876 one B. Hayman was engaged in the business of selling agricultural and farming implements in Los Angeles, California. In 1915 a corporation known as B. Hayman Company, Inc., the petitioner, was organized and as of October 1, 1915, the stock, good will, business and property of the wagon and implement business carried on by B. Hayman at 120 North Los Angeles Street, Los Angeles, California, including bills receivable, were turned over to the B. Hayman Company, the corporation assuming all bills payable of the business, in consideration of the issuance of 2,497 shares of its stock at the par value of $10 a share to B. Hayman.
In 1915 there were five concerns, and quite a few small firms, engaged in the business of the same nature as that of the petitioner, all of which are not now in existence, except one, which, however, is not very active.
The business of the petitioner and B. Hayman has been located practically in the same place on North Los Angeles Street since*1493 1876, B. Hayman being first located at Nos. 114 and 116, later in 1900 at Nos. 118 and 120, and in 1918 petitioner rented Nos. 126 and 128, *738 and thereafter petitioner had places of business located at Nos. 118, 120 and 126-128, North Los Angeles Street, respectively.
B. Hayman leased the premises known as Nos. 118-120 North Los Angeles Street for many years from a Mr. Bush at a monthly rental of $250. B. Hayman and Bush were "old-timers" of Los Angeles and friendly. Later, when Bush died, the rent was increased to $400 a month, which was the rent also paid by the petitioner until it purchased the property in 1923. This building contained three stories and a basement, covering an area of about 40 by 150 feet. All the buildings occupied by the petitioner were about the same in structure and size.
A competitor of petitioner, Dixon & Griswell, purchased in the latter part of 1920 the premises known as No. 114 North Los Angeles Street, adjoining one of the places of business of the petitioner. The building contained three stories and basement and covered an area of about 32 by 133 feet. Dixon & Griswell received a monthly rental of $525. Dixon & Griswell also leased*1494 in the latter part of 1920 the premises known as Nos. 140-144 North Los Angeles Street. This building was somewhat larger than the building known as Nos. 118-120 North Los Angeles Street, occupied by the petitioner, and they paid a rental of $725 per month.
The petitioner entered into contracts, renewable yearly, with manufacturers of farming and agricultural implements and machinery for the sale thereof. The petitioner had contracts with many of these manufacturers continually for many years and, prior to the date of its organization, its predecessor had had contracts with some of these same manufacturers for five to eight years, respectively, and with the Oliver Chilled Plows Company for more than 20 years. The Oliver Chilled Plows Company contract expired in about June, 1920, and thereafter the Oliver Chilled Plows Company did not give the petitioner a contract for the sale of products manufactured by it.
The officers of the petitioner were B. Hayman, president, W. K. Hayman, vice president, and Thomas F. Osborn, secretary and treasurer. They owned all the stock of the petitioner as follows:
| Shares | |
| B. Hayman | 1,199 |
| W. K. Hayman | 801 |
| Thomas F. Osborn | 500 |
*1495 During the fiscal year ended August 31, 1920, they each received a salary of $5,400, or a total of $16,200. They devoted their entire time to the business. B. Hayman acted in an advisory capacity and had charge of the finances of the petitioner, bookkeeping and related matters. W. K. Hayman and Thomas F. Osborn acted as salesmen on the road as well as in the place of business, and had charge of ordering stock. Thomas F. Osborn was general manager and had *739 charge of the publishing of catalogues. He has been secretary of the petitioner since 1918. W. K. Hayman had been with the petitioner ever since its incorporation and prior to that time for about 26 years he worked for B. Hayman, his father.
Dixon & Griswell, a copartnership, engaged in the-same business as the petitioner, located at 146-148 North Los Angeles Street, near the place of business of the petitioner, doing a business from 1917 of a million and a half dollars, paid each of its executive officers, Dixon and Griswell, as salary, $750 a month. Dixon & Griswell disposed of their business in July, 1919, and did not engage in business until the latter part of 1920. W. L. Dixon, member of this co-partnership, *1496 was manager, hired practically all employees of the partnership and spent about 25 per cent of his time outside of the place of business in travel in the conduct of the business. The gross sales of petitioner for the period ended August 31, 1920, amounted to $554,439.84.
It was the custom of the petitioner to publish catalogues and price lists from time to time showing the farming and agricultural implements and machinery sold by it. These catalogues were used until they became obsolete. Whenever prices were changed or new goods arrived, new price lists were printed to supplement the catalogues in use. These price lists were printed about twice a year. In the latter part of 1919 Osborn prepared a new catalogue, which was thereafter printed and delivered to the petitioner in the latter part of April or middle of May, 1920, and then distributed. In June, 1920, the petitioner lost its major line, the Oliver Chilled Plows Company contract, which made the catalogue obsolete. Since that time the petitioner has published four catalogues.
The total cost of this catalogue and two price lists was $4,475.29. The Commissioner disallowed $2,200 of this amount as a catalogue expense*1497 deduction for that year. The "Expense-Catalogs" account in the books of the petitioner shows the following debit entry: "1920 Aug. 31 Catalogs - 1920-21 41 $2,000.00." This amount represents the balance due on the catalogues. It was set up in the book of original entry of the petitioner at the end of the fiscal period as an expense, posted as a debit in its ledger to "Expense-Catalogs" account, as set forth herein, and credited to the account of the printer of this catalogue, one of petitioner's customers and a purchaser of considerable machinery, upon open account.
The following schedules show the amounts borrowed in notes of petitioner from time to time as required in the conduct of its business during the taxable period and the payments thereon:
| Bank notes bearing interest at 6% | |||||
| Date | Date | Payments | Amount | Balance | Remarks |
| of | of | ||||
| maturity | note | ||||
| 1919 | |||||
| Sept. 6 | Dec. 5, 1919 | $7,000 | |||
| Sept. 23 | $3,500 | Acct. of note dated 9/6/19 | |||
| Sept. 29 | Dec. 28, 1919 | 9,000 | $12,500 | ||
| Oct. 9 | 3,500 | Acct. of note dated 9/6/19 | |||
| Oct. 14 | 4,000 | Acct. of note dated 9/29/19 | |||
| Oct. 28 | Jan. 26, 1920 | 6,000 | 11,000 | ||
| Nov. 13 | 5,000 | 6,000 | Acct. of note dated 9/29/19 | ||
| Dec. 12 | 6,000 | Acct. of note dated 10/28/19 | |||
| Dec. 26 | Mar. 25, 1920 | 12,500 | |||
| Dec. 31 | Mar. 30, 1920 | 2,500 | 15,000 | ||
| 1920 | |||||
| Jan. 14 | 4,000 | Acct. of note dated 12/26/19 | |||
| Jan. 26 | Apr. 25, 1920 | 4,000 | 15,000 | ||
| Feb. 13 | 8,500 | Acct. of note dated 12/26/19 | |||
| Feb. 13 | 2,500 | Acct. of note dated 12/31/19 | |||
| Feb. 16 | 4,000 | None. | Acct. of note dated 1/26/20 | ||
| Mar. 25 | May 26, 1920 | 10,000 | 10,000 | ||
| Apr. 14 | 5,000 | Acct. of note dated 3/25/20 | |||
| Apr. 20 | 5,000 | None. | Acct. of note dated 3/25/20 | ||
| May 10 | June 8, 1920 | 10,000 | |||
| May 13 | 10,000 | Acct. of note dated 5/10/20 | |||
| May 20 | Aug. 18, 1920 | 8,000 | |||
| May 21 | 8,000 | None. | Acct. of note dated 5/20/20 | ||
| July 2 | Sept. 30, 1920 | 2,000 | |||
| July 30 | Oct. 28, 1920 | 8,500 | 10,500 | ||
| Aug. 5 | 2,000 | Acct. of note dated 7/2/20 | |||
| Aug. 5 | 8,500 | Acct. of note dated 7/30/20 | |||
| Aug. 16 | Nov. 11, 1920 | 12,000 | |||
| Aug. 23 | Nov. 21, 1920 | 5,000 | 1 17,000 |
| Interest bearing notes - 6% - miscellaneous | ||||
| Date | Date of maturity | Payments | Amount of | Balance |
| note | ||||
| 1919 | ||||
| Sept. 1 - Balance | $27,000 | |||
| Monthly payments of $2700; | ||||
| beginning 12/15/19. | ||||
| Oct. 15 | $5,400 | $21,600 | ||
| Dec. 15 | 2,700 | 18,900 | ||
| 1920 | ||||
| Jan. 15 | 2,700 | 16,200 | ||
| Feb. 16 | 2,700 | 13,500 | ||
| Mar. 12 | 2,700 | 10,800 | ||
| Apr. 14 | 5,400 | 5,400 | ||
| Apr. 30 | 5,400 | None. |
*740 On November 15, 1920, the petitioner filed its income and profits-tax return for the fiscal year ended August 31, 1920, showing a tax of $33,206.81, which was assessed on January 8, 1921. At the time of filing the return, petitioner paid $8,301.71 of the tax; on February 16, 1921, $8,301.71; and on May 17, 1921, $7,014.36, leaving a balance unpaid of $9,589.04. On or about May 16, 1921, claim in abatement for such unpaid balance was filed by the petitioner, which was rejected by the respondent in full December 4, 1925.
*741 On December 4, 1925, the following instrument in writing dated November 19, 1925, was delivered to a deputy to the collector of internal revenue:
In order to*1499 enable the Bureau of Internal Revenue to give thorough consideration to any claims for abatement or credit filed by or on behalf of B. Hayman Co. of 118-120 N. Los Angeles St., Los Angeles, Calif., covering any income, excess-profits or war-profits tax assessed against the said taxpayer under the existing or prior Revenue Acts for the year(s) Fis. Yr. End. 8-31-20, Fis. Yr. End. 8-31-19 addtl., and to prevent the immediate institution of a proceeding for the collection of such tax prior to the expiration of the six-year period of limitation after assessment within which a distraint or a proceeding in court may be begun for the collection of the tax, as provided in Section 278(d) of the existing Revenue Act, the said taxpayer hereby waives any period of limitation as to the time within which distraint or a proceeding in court may be begun for the collection of the tax, or any portion thereof, assessed for the said year(s), and hereby consents to the collection thereof by distraint or a proceeding in court begun at any time prior to the expiration of this waiver.
This waiver is in effect from the date it is signed and will remain in effect until December 31, 1926.
*1500 B. HAYMAN CO., INC.By: THOMAS F. OSBORN,
Secy. & Treas.
[SEAL.]
If this waiver is executed on behalf of a corporation, it must be signed by such officer or officers of the corporation as are empowered under the laws of the State in which the corporation is located to sign for the corporation, in addition to which, the seal, if any, of the corporation must be affixed.
On December 10, 1926, the following instrument in writing was entered into by the petitioner and the Commissioner:
It is hereby agreed by and between B. Hayman Company of 181 N. Los Angeles St., Los Angeles,California, party of the first part, and the Commissioner of Internal Revenue, party of the second part, that the amount of $9,589.04, representing an assessment of Income tax for the year(s) 8/31/20 made against the said party of the first part, appearing on the November, 1920 assessment list, Account 402460, Page , line , for the 6th district of California, may be collected (together with such interest, penalties, or other additions as are provided by law), from said party of the first part by distraint or by a proceeding in court begun at any time prior to *1501 December 31, 1927.
B. HAYMAN & CO. INC.,Taxpayer.
By THOMAS F. OSBORN,
Secy. & Treas.
D. H. BLAIR,Commissioner of Internal Revenue.
By GALON H. WELCH,
Collector of Internal Revenue.
[SEAL.]
If this waiver is executed on behalf of a corporation, it must be signed by such officer or officers of the corporation as are empowered under the laws of *742 the State in which the corporation is located to sign for the corporation, in addition to which, the seal, if any, of the corporation must be affixed.
The petitioner and Commissioner entered into three additional written instruments in the same form purporting to extend the time of collection of the tax as follows:
| Expiration date | |
| October 15, 1927 | December 31, 1928. |
| October 15, 1928 | December 31, 1929. |
| October 16, 1929 | December 31, 1930. |
A guarantee by the First National Bank of Los Angeles dated September 25, 1925, in the following form was filed with the Commissioner:
(RECEIVED SEPT. 26, 1925.
Internal Revenue, 6th Cal.)
Honorable REX B. GOODCELL,
Collector of Internal Revenue,Los Angeles, California.
SIR: We have been advised by the B. *1502 Hayman Co., a customer of our bank, that it is charged with income and profits taxes for the fiscal year ended August 31, 1920, against which claim in abatement has been filed, in the amount of $9,589.04.
In compliance with a request made by your office that a surety bond or bank guarantee should be filed to secure payment of the outstanding assessment in the event the claim referred to is disallowed, we hereby guarantee to make payment to your office, of the amount covered by the claim in abatement above mentioned or so much thereof as shall not be allowed by the Commissioner of Internal Revenue in the final adjustment of said claim, together with accrued interest thereon to the date when payment, if any, shall finally have to be made, with the understanding that the amount guaranteed will not exceed $14,383.56, or 150% of the amount of said claim in abatement.
Very truly yours,
(Signed) E. S. PAULY,
Vice President.
The deficiency letter is dated April 1, 1926. The petitioner filed its original petition with the Board in this proceeding on May 29, 1926, and the amended petition was filed May 20, 1930.
The petitioner's books of account were kept on an accrual basis*1503 and its income tax was computed on the same basis.
In the statement attached to the deficiency letter of December 4, 1925, the following computation appears with respect to invested capital:
| Capital Stock | $25,000.00 |
| Surplus (See Exhibit A) | 72,683.40 |
| $97,683.40 | |
| Deduction: Preceding years tax $11,484.83 prorated | 4,840.28 |
| Invested Capital Adjusted | $92,843.12 |
*743 Exhibit A referred to shows that the amount of surplus as shown by the books of account of petitioner as of August 31, 1919, was $71,384.65, which amount was increased by two items of $78.22 and $1,298.75, being adjustments of 1917 and 1918 tax liability of the petitioner.
OPINION.
MCMAHON: The Commissioner disallowed as an expense deduction an item of $2,200 set up at the end of the fiscal period on the books of account of petitioner and representing the balance due on account of a catalogue published during the fiscal period, on the ground that this amount was not a proper deduction for the taxable year in question, but an expense prepaid.
Thomas F. Osborn, petitioner's secretary and treasurer, testified that, because of the loss of the Oliver Chilled Plows Company contract in*1504 June, 1920, which was petitioner's major line, the catalogue just published became obsolete. Even though the intention of the petitioner at the time the catalogues were published was to use the catalogues for several years, supplemented by price lists, as indicated by the custom followed in prior years, when the catalogues for some unforeseen occurrence became obsolete in the year publishd, as in this proceeding, the petitioner sustained an operating loss which it is entitled to deduct in such year. As the catalogues became obsolete in the year published and as petitioner's liability for the cost of the catalogues was fixed at the time of the delivery and acceptance thereof, and fully accrued on petitioner's books and credited in full on the printer's account, which was an open account, the balance of the cost of the catalogues, in the amount of $2,200, is deductible as a business loss sustained during the taxable year. Cf. ; ; ; *1505 ; and .
The petitioner contends that its excess-profits taxes should be computed under the provisions of sections 327 and 328 of the Revenue Act of 1918 because (1) its invested capital can not be properly determined because of the impossibility of determining the value of the good will and agency contracts acquired through purchase by it of the business theretofore conducted by B. Hayman, and (2) its taxable income is abnormal in that salaries paid by the petitioner to its officers and rent paid by the petitioner for its place of business are abnormally low.
The petitioner's claim that it is impossible to determine its invested capital is based upon the fact that at the time of its organization it acquired for all but three shares of its capital stock the entire business of B. Hayman, including the good will of the going business, and certain *744 agency contracts of B. Hayman not included in invested capital by the Commissioner, which petitioner claims were of considerable value in excess of the par value of the stock paid therefor. There is no evidence whatever from*1506 which we can determine the value of the good will of the business of B. Hayman except that he had been in that business for a considerable length of time and had had for years a number of these contracts which were turned over to the petitioner. The fact that these contracts were on a yearly basis is not sufficient to show that the value thereof, if any, can not be determined. No evidence was presented from which we can determine that it is impossible to ascertain the value, if any, of the good will and contracts. Their exclusion, therefore, from invested capital is not a ground for granting special assessment. ; ; and .
The petitioner claims that the salaries paid its officers were wholly inadequate to compensate for the services rendered by them. It argues that the conservatism of its officers, who also owned all the capital stock of the petitioner, as shown in paying themselves salaries just sufficient to cover their living expenses, resulted in an increase to its surplus available for dividends*1507 and that it was of no concern to these officers whether they were compensated in the form of salaries or in the form of dividends. This conservatism, however, in increasing surplus effected an increase in invested capital. However, mere inadequacy of salary does not, of itself, create an abnormality. . In our opinion the evidence is not sufficient to enable us to determine that the low salaries paid the officers created an abnormality within section 327 of the Revenue Act of 1918. . Abnormality is a fact that must be determined in each case and the burden of proof in this respect is upon the petitioner. ;; .
What has been stated in reference to the low salaries paid to officers may be applied also to the contention that the payment of low rental by the petitioner created an abnormality. *1508 , and There was no evidence of a reasonable rental for the property or sufficient evidence from which the reasonable rental can be determined. We are, therefore, unable to say that the rent paid created such an abnormality as to justify special assessment. .
The fact that the income of the petitioner was very high or about 95 per cent of invested capital is not a ground in itself for computing *745 its tax under section 327 of the Revenue Act of 1918. ;; and .
At the hearing the petitioner also contended that it was required to borrow large sums of money in the conduct of its business, which created a hardship and abnormality. This contention was not referred to in its brief and apparently has been abandoned by the petitioner. There is evidence showing that the petitioner borrowed money during the taxable year in question, but there is no evidence whatever showing that the*1509 use of it created an abnormal condition or that the borrowing of such money was unusual in a business of its kind. Therefore there is no evidence on which we can base an opinion of either normality or abnormality. ; ; and
Nor does an aggregate of a number of conditions, each inadequate in itself, necessarily constitute a basis for special assessment. ; and .
No abnormality within section 327 of the Revenue Act of 1918 having been shown to exist, in our opinion, the petitioner is not entitled to the benefit of the special assessment provision.
The petitioner contends that the collection of the unpaid balance of $9,589.04 of the original tax is barred by the statute of limitations. To refute this contention the respondent presented five waivers as set forth in our findings of fact, which he contended extended the statutory period of limitation.
Section 506 of the Revenue Act of 1928, amending section 278 of the Revenue Act of*1510 1926, is as follows:
SEC. 506. WAIVERS AFTER EXPIRATION OF PERIOD OF LIMITATION.
(a) Section 278(c) and (d) of the Revenue Act of 1926 are amended to read as follows:
* * *
"(d) Where the assessment of any income, excess-profits, or war-profits taxes imposed by this title or by prior Act of Congress has been made (whether before or after the enactment of this Act) within the period of limitation properly applicable thereto, such tax may be collected by distraint or by a proceeding in court (begun before or after the enactment of this Act), but only if begun (1) within six years after the assessment of the tax, or (2) prior to the expiration of any period for collection agreed upon in writing by the Commissioner and the taxpayer before the expiration of such six-year period. The period so agreed upon may be extended by subsequent agreements in writing made before the expiration of the period previously agreed upon."
(b) Section 278 of the Revenue Act of 1926 is further amended by adding at the end thereof a new subdivision to read as follows:
"(f) Any agreement which would be within the provisions of subdivision (c) or (d) of this section but for the fact that it was*1511 executed after the expiration of the period of limitation extended by such agreement, shall be valid and *746 effective according to its terms if entered into after the enactment of the Revenue Act of 1928 and before January 1, 1929."
(c) The amendments made by this section to the Revenue Act of 1926 shall not be construed as in any manner affecting the validity of waivers made prior to the enactment of this act, which shall be determined according to the law in existence at the time such waiver was filed.
In examining these five waivers we find that the fourth waiver entered into on October 15, 1918, extending the time within which to collect the taxes herein involved to December 31, 1929, comes squarely within subdivision (f) of the above quoted section, as it was entered into after the enactment of the 1928 Act, May 28, 1928, and before January 1, 1929. It is therefore valid and effective according to its terms. ; .
The fifth waiver was executed October 16, 1929, before the expiration of the time fixed in the fourth waiver, and provides that the unpaid*1512 portion of the income tax assessed for the year ended August 31, 1920, may be collected by distraint or by a proceeding in court begun at any time prior to December 31, 1930. Since the fourth waiver was validated by subsection (b) of section 506 of the Revenue Act of 1928 and since section 506(a), supra, provides that the period agreed upon may be extended by subsequent agreements in writing made before the expiration of the period previously agreed upon, the fifth waiver in our opinion is also valid and effective according to its terms.
Since we have concluded that the fourth and fifth waivers are valid and effective according to the terms thereof, it is unnecessary in our opinion, to consider and determine the validity of the first three waivers.
The guarantee by the First National Bank of Los Angeles to secure payment of the outstanding assessment in the event the claim in abatement filed by the petitioner was disallowed does not constitute a waiver of the statute of limitations. ; *1513 .
Reviewed by the Board.
Judgment will be entered under Rule 50.
VAN FOSSAN dissents.
Footnotes
1. No balance as at September 1, 1919. ↩