*2578 1. DEDUCTIONS - DEPRECIATION. - In the absence of proof of March 1, 1913, value of assets acquired prior to that date, the cost of such assets as established by petitioner's books is the proper basis for computing depreciation.
2. ID. - SUSPENSE ACCOUNT. - Since 1906 petitioner, on the accrual basis of accounting, has credited to a suspense account and charged to profit and loss accrued labor and discount at the close of each year. Held that respondent erred in disallowing such charge to profit and loss until each succeeding year when paid, thereby disallowing any deduction for that item for the year ended June 30, 1920.
3. ID. - LOSS. - Alleged losses not established.
4. INVESTED CAPITAL - PRORATED PRIOR YEARS' TAXES. - Reduction of invested capital thereby approved.
5. ID. - EARNED SURPLUS. - Total amount of premiums paid on life insurance may not be included in invested capital as earned surplus. No evidence submitted to establish a capital value in excess of the cash surrender value of the policy.
6. ID. - ADDITIONS TO EARNED SURPLUS. - Evidence submitted fails to establish the alleged capital items charged to expense or the amounts which should be added*2579 to earned surplus on account thereof.
7. ID. - Invested capital should not be reduced by applying a tentative tax to current earnings available for dividends. L. S. Ayers & Co.,1 B.T.A. 1135">1 B.T.A. 1135.
8. ID. - The reduction of petitioner's surplus and invested capital by prior year's additional taxes in accordance with the regulations applicable to the years in question, as provided by section 1207 of Revenue Act of 1926, should be only as to the amount of such taxes actually due.
*464 The respondent has determined the following deficiencies in respect to petitioner's income and profits taxes:
| Fiscal year ended June 30, 1920 | $84.81 |
| Fiscal year ended June 30, 1921 | 1,106.49 |
| Fiscal year ended June 30, 1922 | 2,759.80 |
| Fiscal year ended June 30, 1923 | 730.38 |
| Total | 4,681.48 |
Petitioner assigns as error the respondent's (1) refusal to allow deductions for (a) depreciation based on the March 1, 1913, value of the plant assets, (b) accrued labor and discount, and (c) losses sustained upon the disposition of certain assets; *2580 and (2) the reduction of invested capital (a) by the prorated taxes for each preceding taxable year, (b) by the inclusion therein of only the cash surrender value of a life insurance policy instead of the total amount of premiums paid, (c) by the exclusion of additions to surplus on account of plant assets charged to expense and excessively depreciated in prior years, (d) by the reduction of current earnings available for dividends for the year ended June 30, 1921, by the amount of a tentative income and profits tax, (e) by an amount of $21,561.91 for the year ended June 30, 1920, on account of additional taxes for prior years, and (f) by not restoring to surplus for the years ended June 30, 1920 and 1922, the amount of taxes overpaid for prior years.
FINDINGS OF FACT.
Petitioner is a Wisconsin corporation with its principal office in Milwaukee. Since its incorporation in 1894 it has been engaged in the business of manufacturing ladies' straw and felt hats.
Since 1894 the petitioner's books contained only two plant asset accounts, the real estate account and the building and machinery account. On June 25, 1914, the accounts were transferred to a new *465 ledger and*2581 on that date the depreciated book value of buildings and machinery was $91,150.47. On June 25, 1915, the building and machinery account showed a balance of $84,221.24. During the early years of petitioner's existence it had followed the practice of charging to expense many items of repairs and small replacements. During the slack season of each year the plant superintendent would engage the employees in making repairs and minor improvements. During those same years the plant was kept in good repair and no entries for depreciation were made on the books prior to 1907. The major items of improvements and replacements were entered on the books.
In 1915, after the death of the plant superintendent and also of the secretary and treasurer who had charge of the books, petitioner's directors decided to have the value of the physical assets appraised for the purpose of determining whether or not the plant was properly insured.
An appraisal company made an appraisal of the value of petitioner's fixed assets as of October 2, 1915. Four employees of the appraisal company made a list of all the buildings, machinery and equipment and noted the then condition of each item. That list*2582 was sent to the head office of the appraisal company where it was segregated as to different classes of items, which were extended and priced by the men of various particular divisions of the office. The value of petitioner's assets so appraised as of October 2, 1915, represented the cost of reproduction new as of that date, less an estimated amount of depreciation sustained. The said appraised values were greater than the book values. Petitioner did not adjust its books in any way on account of the said appraisal, but considered the appraisal as a part of its records.
In April, 1925, petitioner employed a public accountant to audit and correct its books of account for that year. The said accountant set up the sound values as shown in the said appraisal of October 2, 1915, and worked them back to March 1, 1913, by eliminating additions made and depreciation sustained between those two dates. The figures so arrived at were used as the March 1, 1913, values of petitioner's fixed assets in the accountant's audit for the fiscal year ending June 30, 1925. Petitioner now contends that the accountant's computed March 1, 1913, values should be used as the basis for computing depreciation, *2583 at rates which are not in dispute, which would materially increase the depreciation deduction allowed by respondent based on cost as shown by petitioner's books.
Petitioner kept its books of accounts on the accrual basis and at the end of each fiscal year entered in a "Suspense Account" accrued labor and discount. For many years petitioner has paid its *466 employees on the 10th and 25th of each month and the accrued labor item represented salaries and wages accrued but not paid between the 25th of June and end of the fiscal year June 30. Also, since about 1906 petitioner has followed the practice of closing out all accounts payable by the end of its fiscal year and as to accounts receivable petitioner has allowed a 6 per cent discount for payment within 10 days and so credited to the suspense account the discount allowable upon accounts receivable as of the end of each fiscal year. The same amount was charged to profit and loss. In the succeeding fiscal year, as the accounts receivable were collected the discount allowed was charged to the suspense account. The difference, if any, between the amount of discount credited and the amount charged to the suspense account*2584 was very slight. For the fiscal year ended June 30, 1919, petitioner charged to profit and loss the amount of $6,416, which was credited to the suspense account, and such reduction of profits was allowed by respondent for that year as well as in prior years. For the fiscal year ended June 30, 1920, petitioner credited $8,500 to the suspense account and charged the same amount to profit and loss. Respondent disallowed that item for the fiscal year ended June 30, 1920, and allowed it for the year ended June 30, 1921, when it was paid. Respondent followed the same procedure as to the other years here in controversy.
During each of the years in question petitioner wrecked or scrapped certain of the assets shown in the aforementioned appraisal. The disposition of those assets was not set up on petitioner's books of account. The loss claimed by petitioner on the property disposed of in each of the years is based upon the March 1, 1913, value thereof as computed by the public accountant in his audit made in 1925.
Respondent reduced petitioner's invested capital for each of the years in question by a prorated amount of the preceding years' taxes.
Respondent included in petitioner's*2585 invested capital the cashsurrender value of a life insurance policy taken out upon the life of the plant superintendent for the benefit of petitioner and excluded the total amount of premiums paid by petitioner.
For the fiscal year ended June 30, 1921, respondent reduced petitioner's invested capital by computing a tentative tax theoretically set aside from the current earnings available for dividends in determining the extent to which dividends were paid from current earnings.
For the fiscal year ended June 30, 1920, respondent reduced petitioner's invested capital by an amount of $21,561.91 as additional Federal income taxes due for 1916-1917 and June 30, 1918.
In 1920 petitioner paid additional income taxes for the taxable periods from 1916 to 1919, inclusive, and it has filed claims for *467 refunds which are still pending for the periods and amounts as follows:
| For the periods ended June 30, 1916 and 1917 | $36,832.37 |
| For the period ended June 30, 1918 | 7,987.00 |
| For the period ended June 30, 1919 | 6,690.08 |
| Total | 51,509.45 |
Petitioner has alleged in its petition that the additional taxes for those periods amounted to a total of $104,930.99 and*2586 that that amount was paid on July 1920.
OPINION.
TRUSSELL: The first issue involves the March 1, 1913, value of petitioner's fixed assets for the purpose of computing depreciation. The respondent has computed depreciation upon the cost of assets acquired prior to March 1, 1913, as established by petitioner's books, and he has allowed as a deduction an amount materially less than that claimed by petitioner. The appraisal was made for insurance purposes and the testimony relative thereto submitted to establish the sound values of petitioner's fixed assets on October 2, 1915. Those alleged sound values are based on cost of reproduction new less depreciation. We deem it not necessary to set out in our findings of fact the long tabulation of the said appraised values. To establish the March 1, 1913, value of its fixed assets petitioner has submitted an accountant's mathematical computation based upon the appraisal. We can not accept such computation as establishing the actual March 1, 1913, value of petitioner's fixed assets acquired prior to and used the business on that date. No other evidence or testimony as to the March 1, 1913, value has been offered except that of an*2587 officer of the appraisal company, who testified that in general there was no upward trend in labor and prices between 1913 and 1915, inclusive. Petitioner has failed to establish the actual fair market value of its assets on hand on March 1, 1913, and accordingly we must hold that respondent, in computing depreciation, properly used as the basis the cost as established by petitioner's books. Cf. .
As to the second issue, petitioner contends that respondent has put it on the cash basis as to the one item of accrued labor and discount expense, which results in the disallowance of any deduction for that item for the fiscal year ended June 30, 1920. Petitioner has kept its accounts on the accrual basis and since 1906 has followed the practice of crediting to a suspense account and charging to profit and loss accrued labor and discount. Section 212(b) of the Revenue Acts of 1918 and 1921 provides that net income shall be computed upon *468 the basis of the taxpayer's annual accounting period in accordance with the method of accounting regularly employed in keeping the books of such taxpayer, if such method clearly reflects*2588 the income. No question has been raised as to petitioner's method of accounting except as to this one item, and there is no controversy as to the amounts charged to profit and loss in each of the years ending June 30, 1920 to 1923, inclusive. We are of the opinion that petitioner's method of accounting regularly employed over a long period of years clearly reflects its income and that respondent erred in increasing petitioner's net income by $8,500 for the fiscal year ended June 30, 1920. The said amount should be allowed as a charge to profit and loss for the said year and a similar adjustment should be made in respect to the similar charge to profit and loss for each of the succeeding years here in controversy.
The loss claimed by petitioner for each of the years upon the disposition of certain property has not been established. Petitioner's books contained no record of the disposition of the various pieces of property. One of petitioner's officers testified that he knew that certain property was scrapped during the years in question, but his testimony as to the particular year and the amount of loss sustained, if any, was based upon the audit made by the public accountant*2589 and his mathematically computed March 1, 1913, value. It appears that the property disposed of had been fully depreciated on the basis of cost as shown by petitioner's books.
Pursuant to the provisions of section 1207 of the Revenue Act of 1926, we must approve respondent's reduction of petitioner's invested capital for the years in question by the preceding year's prorated tax in accordance with the regulations in force with respect to such years.
Under authority of , we must hold that petitioner is not entitled to include in invested capital as earned surplus the total amount of premiums paid by it on an insurance policy on the life of its superintendent and for its benefit. There is no evidence as to the type of policy taken out by petitioner nor as to any existing capital value in excess of the cash surrender value which respondent has included in petitioner's invested capital.
Petitioner contends that it is entitled to include in invested capital as an addition to earned surplus an amount representing certain assets charged to expense and excessively depreciated. There is some general testimony to the effect*2590 that for several years petitioner charged repairs and small items of replacements and improvements to expense, but that such items could not be identified on the books. To establish this claim petitioner relies upon the appraisal *469 of October 2, 1915, and the public accountant's audit of April, 1925, which show that the total value of petitioner's assets so computed exceed by certain amounts the total book values for the years in question. Those additional values in excess of the book values are claimed as additions to surplus, but such additional values are based on all of petitioner's assets, including many items other than alleged capital items charged to expense. There is no specific evidence identifying the alleged capital items charged to expense and we have no facts of record upon which to determine the amounts, if any, of the claimed additions to earned surplus for the years in controversy on account of capital items charged to expense.
Under authority of the Board's decision in , we must hold that respondent erred in reducing petitioner's invested capital for the year ending June 30, 1921, by computing a tentative*2591 tax theoretically set aside from the current earnings in determining the extent to which dividends were paid from current earnings.
The last two issues involve the reduction of invested capital on account of additional income taxes paid in 1920 for prior years. Petitioner's surplus and invested capital should be reduced in accordance with the regulations applicable to the years in question, as provided in section 1207 of the Revenue Act of 1926, but such reduction should be only as to the amount of taxes actually due. Inasmuch as petitioner has filed claims for refund of a substantial portion of the prior year's additional taxes and those claims are still pending, we are of the opinion that the actual amount of taxes due for those prior years should be determined by respondent prior to any final decision by this Board as to the years here in question. In the recomputation of the taxes due for the years in question, petitioner's surplus and invested capital should be reduced only by the actual amount of taxes due and payable for prior years as finally determined by respondent.
Judgment will be entered pursuant to Rule 50.