*1964 Pursuant to a plan adopted by the petitioner in 1911, and amended in February, 1918, the petitioner entered into contracts with certain of its employees to sell to them shares of its capital stock at $100 per share, purchase price to be paid by credits of dividends payable on shares. Interest upon deferred payments was to be at the rate of 5 per centum per annum. Credits to the stockholders in respect of their purchases fully equaled the purchase price plus interest within 5 years from January 1, 1917. The shares of stock fully paid up were turned over to the employees in 1921 and in its income-tax return for that year petitioner deducted from gross income as ordinary and necessary expenses of operation the market value of the shares of stock issued. Petitioner kept its books of account and made its returns upon the accrual basis. Held that the petitioner is not entitled to deduct from its gross income of 1921 as additional compensation to employees the fair market value of the shares of stock surrendered to its employees in 1921 or any part thereof.
*1109 *1965 This is a proceeding for the redetermination of a deficiency in income tax for the calendar year 1921 of $1,766.43. The question in issue is whether the market value of 150 shares of capital stock issued to certain employees in 1921 is a proper deduction from gross income of the taxable year. The facts were stipulated.
FINDINGS OF FACT.
Petitioner is an Alabama corporation with its principal office at Century, Fla.
Pursuant to a plan adopted by the petitioner in 1911, and amended in February, 1918, to change the purchase price of the stock to $100 per share and to provide that the petitioner would forego its right to the 5 per cent interest charges up to January 1, 1917, it transferred on its books and delivered 150 shares of its capital stock to four of its employees in 1921. Three of the contracts dated February 1, 1918, were made retroactive to January 1, 1917. The date of the fourth contracts is not in evidence, but this contract was likewise made retroactive to January 1, 1917. The stock was set aside at the date of the contracts entered into between petitioner and the four employees several years prior to 1921 and held in petitioner's treasury for said employees*1966 until 1921, at which time the 150 shares were delivered to the employees in accordance with the *1110 terms of the contracts. The contract with A. W. Ranney, to whom 50 of the 150 shares of petitioner's stock were delivered in 1921, is as follows:
EXHIBIT "F"
STATE OF FLORIDA.
COUNTY OF ESCAMBIA.
This contract entered into between A. W. Ranney, party of the first part, hereinafter called the employee, and The Alger-Sullivan Lumber Company, party of the second part, hereinafter called the company.
Witnesseth: 1st. The company has this day agreed to set apart and hold in its Treasury Fifty (50) shares of the capital stock of the Alger-Sullivan Lumber Company and sell the same to the employee at and for the sum of One Hundred & 00/100 ($100.00) Dollars per share, subject to the following conditions.
2nd. So long as the employee remains in the employ of the company he shall be entitled to a credit on the purchase price of said stock a sum equal to whatever cash dividend said shares would be entitled if outstanding less five (5%) per annum on the principal sum, and whenever the dividends on said shares shall have fully paid the full purchase price thereof, with*1967 interest, then the said shares shall be issued to the employee as fully paid stock of the company. Provided, however, that if the company should fail to pay dividends during any calendar year of as much as five (5%) per cent, the employee shall not be chargeable with interest on the sum due by him during said year in excess of the dividends paid by the company.
3rd. If during the period of this contract, the employee should die, while in the employ of the party of the second part, his direct heirs, meaning those who are dependent upon him for support, shall have the privilege within three months after his death, of paying up the amount still due under this contract and receive the shares which it covers, provided the employee shall not have sold his interest in said shares or allowed the same by operation of law or otherwise, to get beyond his control.
4th. If during the period of this contract, the employee should resign, be discharged or otherwise cease to be an employee of the company or should sell his interest in said shares or allow the same by operation of law or otherwise to get beyond his control, then the company shall have the right and option to cancel this contract, *1968 and in lieu of continuing same, pay the employee or his assigns the aggregate amount of the dividends which have been placed to the credit of the purchase price of said stock with interest at the rate of 5% per annum for the time.
5th. If at the end of five years from this date the employee is still an employee of the company, he shall have the privilege of paying up the amount still due in cash, and receive his shares.
6th. So long as this contract remains in full force and effect, the employee shall have the right to vote said shares at all stockholders' meetings as fully as if said shares had been issued to him.
In witness whereof, the party of the first part has hereunto set his hand and seal, and the party of the second part has caused this instrument to be executed in its name by its President and attested by its Secretary under its corporate seal on this the first day of February, 1918. The same being executed in duplicate each party receiving a copy.
(Signed) A. W. Ranney (L.S.)
The Alger-Sullivan Lumber Co.,
By Edward A. Hauss,
President.
*1111 The contracts with the other three employees were identical with that quoted above except with respect*1969 to the number of shares involved therein, and also with the exception that the date of the contract with James H. Jones is not shown by the record.
Dividends paid and applied against the stock subscribed for by the four employees were as follows:
| Jan. 1, 1917. R. A. Gamble, Century, Fla.: | ||
| 40 shares, purchase price $100 share | $4,000.00 | |
| Interest, 1917 | 195.00 | |
| Dividends credited in 1917 | $400.00 | |
| Interest, 1918 | 156.83 | |
| Dividends credited in 1918 | 700.00 | |
| Interest, 1919 | 137.73 | |
| Dividends credited in 1919 | 1,400.00 | |
| Interest, 1920 | 54.31 | |
| Dividends, 1920 | 1,500.00 | |
| Interest, 1921 | 17,64 | |
| Dividends, 1921 | 561.51 | |
| Total | 4,561.51 | 4,561.51 |
| Jan. 1, 1917. John W. Taylor, Century, Fla.: | ||
| 30 shares, purchase price $100 share | 3,000.00 | |
| Interest, 1917 | 146.25 | |
| Dividends credited in 1917 | 300.00 | |
| Interest, 1918 | 117.58 | |
| Dividends credited in 1918 | 525.00 | |
| Interest, 1919 | 103.33 | |
| Dividends credited in 1919 | 1,050.00 | |
| Interest, 1920 | 40.72 | |
| Dividends credited in 1920 | 1,125.00 | |
| Interest, 1921 | 13.23 | |
| Dividends credited in 1921 | 421.11 | |
| Total | 3,421.11 | 3,421.11 |
| Feb. 28, 1919. Jas. H. Jones, Century, Fla.: | ||
| 30 shares, at $100 par value | 3,000.00 | |
| Interest, 1919 | 238.66 | |
| Interest receivable | 525.00 | |
| Dividends credited in 1919 | 1,050.00 | |
| Interest, 1920 | 49.46 | |
| Dividends, 1920 | 1,305.24 | |
| Interest, 1921 | 13.23 | |
| Dividends, 1921 | 421.11 | |
| Total | 3,301.35 | 3,301.35 |
| Jan. 1, 1917. A. W. Ranney, Century, Fla.: | ||
| 50 shares, at $100 | $5,000.00 | |
| Interest, 1917 | 243.75 | |
| Dividends, 1917 | $500.00 | |
| Interest, 1918 | 195.99 | |
| Dividends, 1918 | 875.00 | |
| Interest, 1919 | 172.18 | |
| Dividends, 1919 | 1,750.00 | |
| Interest, 1920 | 67.85 | |
| Dividends, 1920 | 1,875.00 | |
| Interest, 1921 | 22.06 | |
| Dividends, 1921 | 701.83 | |
| Total | 5,701.83 | 5,701.83 |
*1970 *1112 During 1921 the conditions specified in the said contracts with the four employees involved were fully complied with in that the credits to the accounts of the employees made during the years 1917 to 1921 equaled the cost price of the stock plus the interest charges and thereupon there were delivered to them in that year certificates for a total of 150 shares.
The fair market value of the 150 shares issued to the four employees as aforesaid at the date of transfer in 1921 was $18,375. In computing the taxable income for 1921, the petitioner deducted from gross income $18,375 representing the fair market value of the shares of stock issued to the employees as bonuses or additional compensation paid to its employees for services rendered. Respondent disallowed this deduction in its entirety in determining the deficiency.
During the years 1917 to 1921, inclusive, petitioner kept its books on the accrual basis and rendered its Federal income-tax returns on that basis.
OPINION.
SMITH: In its brief petitioner states that the sole question in dispute in this proceeding is whether the petitioner is entitled to a deduction for 1921 of $18,375 or any part thereof*1971 representing the market value of its capital stock issued and delivered to certain of its employees during that year. The contention of the petitioner is that the fair market value of the shares of stock surrendered to its employees in 1921 was paid as additional compensation to its employees and is therefore a deduction from gross income under article 33 of the Commissioner's Regulations 62, which provides in part:
* * * Compensation paid an employee of a corporation in its stock is to be treated as if the corporation sold the stock for its market value and paid the employee in cash.
This regulation deals with the taxable income of the employee and is not relevant to the point in issue.
In *1113 inspection of the contract introduced in evidence shows that the petitioner agreed with the employee to sell to him a certain number of shares of its capital stock at a par value of $100 per share; and that the shares of stock should be held by the petitioner until such time as the dividends paid thereon should equal the sale price plus accrued interest upon deferred payments at the rate of 5 per centum per annum. Such credits to the employees were made on the purchase price*1972 of the shares of stock in 1921. The shares of stock were surrendered to the employees in 1921, in pursuance of the several contracts entered into. Under the contracts the employee was not to lose his right to the dividends which had accrued upon the shares of stock standing in his name; if during the period of the contract the employee died while in the employ of the petitioner, his direct heirs had the privilege within three months after his death of paying the amount still due under his contract and of receiving the shares which the contract covered provided the employee should not have sold his interest in those shares or allowed the same, by law or otherwise, to get beyond his control.
The contract does not provide that any shares of stock or any dividends thereon shall be paid to the employee as additional compensation for services rendered. It provides on its face for the sale of a certain number of shares to the employee at par. Whether the stock had a fair market value in excess of par at the date the several contracts were executed is not shown by the record. From the record we can not find that any portion of the amount disallowed as a deduction by the respondent*1973 in 1921 represented compensation for services performed by employees. The disallowance of the deduction is therefore sustained.
Reviewed by the Board.
Judgment will be entered for the respondent.
TRAMMELL dissents.
ARUNDEL concurs in the result only.