*2757 Petitioner held not entitled to special assessment.
*970 The respondent determined a deficiency in income and profits taxes for the year 1919 in the amount of $23,317.07. In the petitioner for redetermination it is alleged that the respondent erred in denying petitioner's application for special assessment and in reducing invested capital on account of taxes for the preceding year. The latter assignment of error was waived by petitioner in its brief.
Upon motion of counsel for the respondent the hearing was limited in the first instance to the issue of whether petitioner is entitled to special assessment. Rule 62.
FINDINGS OF FACT.
Petitioner is a California corporation with its principal office at Los Angeles. It was incorporated June 13, 1918, and acquired and the assets and assumed the liabilities of Cohn, Goldwater & Co., a partnership. The members of the former partnership control more than 50 per cent of the stock of petitioner.
The partnership was formed in 1899, prior to which the business had*2758 been conducted by an individual. The business, which has been continued by the petitioner, was that of manufacturing overalls, shirts, and pants and jobbing men's furnishings. These goods were sold by salesmen throughout the States of Arizona, California, Nevada, New Mexico, Oregon, and Texas, and in Mexico, the Hawaiian Islands, and some South American States. The business was built up by the solicitation of the salesmen and by advertising through magazines, programs, posters, billboards, and giving away novelties. Petitioner's products were sold under several trade names, the principal ones of which were "Boss," "Out West," and "Big Four." The word "Boss," which was used on workmen's clothing, had been used by the predecessor partnership and prior to that by the individual proprietorship.
On December 26, 1917, the partnership set up on its books an item of $20,000 to cover intangibles, as shown by the following journal entry and explanation: $200,000 Trade Marks, Good Will, etc.
| To M. Cohn - Capital | $100,000 |
| L. Goldwater - Capital | 100,000 |
To place on the books the value of Trade Marks, Good Will, etc., among which are the following:
"Boss" in use and*2759 advertised for twenty-seven years in connection with overalls and other workingmen's clothing.
"Big 4" in use and advertised for ten years in connection with overalls, etc.
"Slip-on-kids" in use and advertised for eight years in connection with children's play suits.
"Out West" in use and advertised for ten years in connection with shirts, night shirts, and pajamas.
*971 At no time prior to the taxable year were advertising expenses capitalized. Prior to the time that the above entry was made such expenses were not segregated from other expenses. The amount entered as above represented an estimate by the partners of the amount of their sales expense and advertising costs up to March 1, 1913, they having been advised by their attorneys or accountants that the value of property as of that date could be included in invested capital.
In its return for 1919 petitioner included in invested capital the amount of $200,000 for intangibles as above described. This amount was excluded from invested capital by the respondent in his computation.
Among the assets acquired by petitioner from the partnership were the following parcels of real property: (1) Lots known as*2760 216-220 South Los Angeles Street, Los Angeles, 102 by 185 feet, improved with a five-story and basement building 102 by 150 feet. The building, constructed in 1904, was a steel construction to the second floor and the upper floors heavy timber construction. In 1919 the fair market value of the land was $100,000, and of the building $210,000.
(2) Lot at the northwest corner of San Julian and Twelfth Streets, Los Angeles, 150 by 150 feet, improved with a four-story and basement reenforced concrete building of the dimensions of 100 by 150 feet. The fair market value of the land in 1919 was $93,750, and of the building $187,500.
(3) A lot on San Julian Street, opposite petitioner's factory, 50 feet by 145 feet, on which two cottages were located. This lot had a fair market value of $20,000 in 1919. The cottages added no value to the land.
(4) A ranch at Baldwin Park, part of which was planted in walnut trees and a part being farmed.
These properties were carried on the books of the partnership and of the petitioner at the total figure of $421,323.24, at which they were *972 appraised as of March 1, 1913, petitioner having been advised that the value as of that date*2761 could be included in invested capital. The figure at which they were carried included appreciation in the amount of $167,856.90.
In its return for 1919 petitioner included the above real estate in its invested capital at the amount of $421,323.24. The respondent deducted from the invested capital reported the appreciation of $167,856.90 and depreciation in the amount of $45,396.
Petitioner's notes and mortgages payable during the year 1919 were as follows:
| Amount | Months effective | Average | ||
| Notes payable - | ||||
| Farmers & Merchants | ||||
| National Bank: | ||||
| May 20 to July 17 | $22,500.00 | 2 | $45,000.00 | |
| July 17 to Aug. 4 | 47,500.00 | 1/2 | 23,750.00 | |
| Aug. 4 to Aug. 26 | 97,500.00 | 2/3 | 65,000.00 | |
| Aug. 26 to Dec. 31 | 72,500.00 | 4 1/6 | 302,083.00 | |
| 435,833.00 | $36,319.42 | |||
| Mortgage payable - | ||||
| Baldwin Ranch: | ||||
| Jan. 1 to Dec. 31 | 14,000.00 | 12 | 14,000.00 | |
| Store property: | ||||
| Mortgage payable - | ||||
| Security Trust & Savings | ||||
| Bank - Jan. 1 to Dec. 31 | 65,000.00 | 12 | 65,000.00 | |
| Factory property: | ||||
| Mortgage payable - | ||||
| Security Trust & Savings | ||||
| Bank - Jan. 1 to Dec. 31 | 45,000.00 | 12 | 45,000.00 | |
| Total | 160,319.42 |
Interest paid on notes payable during the year*2762 amounted to $1,857.52, which was at the average rate of 5.11 per cent.
Among the concerns engaged in the same line of business and which were competitors of petitioner were the Brownstein-Louis Co. of Los Angeles, Levi Strauss & Co., of San Francisco, and Greenbaum, Weil & Michels of San Francisco. The Brownstein-Louis Co.'s application for assessment under section 328 of the Revenue Act of 1918 was denied by the respondent. As determined by the respondent, the net income of that company for 1919 was $194,505.94; its invested capital $668,546.27; its profits tax $39,763.79; and its total tax $54,970.16.
Petitioner's income, invested capital, and taxes for 1919 as determined by respondent were:
| Net income | $570,242.26 |
| Invested capital | 1,255,514.73 |
| Profits tax | 157,188.07 |
| Total tax | 198,185.09 |
OPINION.
ARUNDELL: Petitioner claims that its profits taxes for 1919 should be computed under section 328 of the Revenue Act of 1918 for the reasons (1) that the Commissioner is unable to determine invested *973 capital under section 326 and (2) that owing to abnormal conditions affecting its capital and income the tax as determined by the Commissioner works*2763 an exceptional hardship upon petitioner as evidenced by a comparison with tax rates of representative corporations.
1. The first of the cases specified in the statute for the application of the special assessment provisions are those "where the Commissioner is unable to determine the invested capital as provided in section 326." (Section 327(a)). The basis for petitioner's claim under this provision is that in the taxable year it had valuable good will and trade-marks or trade brands which should be included in invested capital, but because of the lack of records the amounts spent in building up these intangibles can not be ascertained; hence its invested capital can not be satisfactorily determined.
The amount of $200,000 set up on the books of the partnership in December, 1917, for intangibles represents the estimated amount of sales and advertising expenses up to March 1, 1913. Inasmuch as the expenditures for sales promotion and advertising were treated as expenses, the petitioner under section 331 of the Revenue Act of 1918 would not in any event be entitled to include in invested capital any greater amount than the cost to the predecessor at March 1, 1913. The amount*2764 set up on the books is admittedly an approximation. It does not establish cost.
As a predicate for the application of section 327(a) it must be shown that there exists some item should be included in invested capital. There apparently is no dispute in this case as to the tangibles and the figures at which they were included. The question then is whether there existed any valuable good will or trade brands or trade-marks which should be reflected in petitioner's invested capital. To establish the existence of these intangibles petitioner offered testimony of two witnesses. One was an officer of a competitor firm. He was permitted to express an opinion as to the value of petitioner's good will, but it was developed on cross-examination that the opinion was given without any knowledge of facts essential to support it. He did not know the amount of capital invested, the volume of sales, the number of salesmen employed, or any of the expenses of petitioner. As far as the record shows, he did not know whether the petitioner earned profits or sustained losses. We can not give any weight to the testimony of this witness. The other witness was an officer of the petitioner company. *2765 In his case again we are faced with the lack of essential facts by which the soundness of his opinion can be tested. As stated above, the amount of $200,000 entered on the partnership books was an approximation, but even if we take it that that amount was actually expended, it does not necessarily follow that intangibles of equivalent value resulted. This witness did not furnish us with any data as to whether the corporation or its *974 predecessor earned profits or sustained losses in any year. Nor does the record anywhere give this information. Nothing is presented from which we can determine whether or not the promotion schemes for which expenditures were made were successful or whether or not they resulted in increased sales or any wider distribution of products. We know nothing whatever as to the business policies of petitioner and its predecessor, or as to their reputation in the trade. On the record it is impossible for us to say that either the petitioner or its predecessor had any intangibles for which a value should be allowed in computing invested capital.
The evidence in this case is insufficient to permit of an application of the principle followed in*2766 , upon which petitioner relies. There we had evidence of amounts spent for advertising, samples, agents, and other forms of promotion, of the amount of sales and income which, but for comparatively slight fluctuations, increased from year to year. Here we have no evidence as to any of these items; we are not even furnished with the aggregate of the expenditures; we do not know whether sales and income increased or decreased as a result of the alleged expenditures.
The failure of petitioner to produce essential facts on the question involved brings it within the principle announced in , where we said:
A taxpayer should be held to a reasonable diligence in determining his invested capital, and it is only after a showing of reasonable diligence and the resulting inability then to establish his invested capital that the relief provisions will be applied on this account.
See also .
The claim that there were abnormalities affecting capital and income is based on the existence of valuable good will, trade-marks, land, and buildings, *2767 which by reason of the time and manner of petitioner's organization could not be included in invested capital. We have set forth above that it has not been established that the good will and trade-marks were valuable. As to the land and buildings, petitioner says, and establishes, that they had a value of over $600,000, but by reason of the technical provisions of section 331 only a value of $208,000 has been allowed for invested capital purposes. We have recognized that the statutory exclusion of assets may result in an abnormality, but such is not the result in every case of such exclusion. The view we have taken of this proposition is stated in , as follows:
Where the item excluded has been the principal income-producing factor and primarily responsible for the production of the income of the taxpayer, we have not hesitated to say that an abnormal situation existed. . But it does not follow that every time an asset is excluded from invested capital there results an abnormalty within the meaning of section 327 of the Act. *2768 . In many *975 businesses there will be some good will, or some appreciation in the value of the assets, or some other factor which can not enter into the computation of invested capital. The exclusion must be such as to cause exceptional hardship.
The petitioner here has not brought itself within the rule in the Whitman case, for it is not shown to what extent the excluded assets contributed to income. Cf. .
To what extent borrowed capital contributed to income is not disclosed by the evidence. The mere showing that money was borrowed is no evidence of any abnormality.
The evidence fails to disclose any abnormality within the meaning of section 327(d) and in our opinion the petitioner is not entitled to have its profits taxes computed under section 328 of the Revenue Act of 1918.
Judgment will be entered for the respondent.