*1667 1. The Commissioner did not err in computing profit from sales of real estate on the installment basis where title did not pass when initial payments were made and contract for sale entered into and where taxpayer reported on basis of installment sales.
2. Disallowance of part of officers' salaries approved.
*277
| Petitioner | Docket | Period | Deficiency |
| No. | determined | ||
| Estate of Andrew | 37364 | 1923 | $1,555.76 |
| Stafford | |||
| Charles J. Derbes | 37362 | 1923 | 269.46 |
| Carmen Derbes | 37365 | 1923 | 269.46 |
| Alphonse K. Roy | 37366 | 1923 | 255.17 |
| Inez M. Roy | 37363 | 1923 | 255.17 |
| Stafford, Derbes | 41104 | 1924 | 24,105.77 |
| & Roy, Inc. | |||
| Do | 42642 | Jan. 1 to | 9,707.31 |
| Nov. 16, 1925 | |||
| Do | 42643 | Nov. 17 to | 1,364.44 |
| Dec. 31, 1925 | |||
| Do | 43271 | 1926 | 53,152.45 |
| Do | 47085 | 1927 | 2,810.21 |
| Upstream Realty | 43272 | 1926 | 3,570.33 |
| Company |
In each case the two following errors are assigned:
(1) The Commissioner erred in computing income on the basis of installment sales where*1668 in fact the so-called sales were merely contracts for sales.
(2) In the alternative, the notes received for the unpaid purchase price had no readily realizable market value and should not be included in income.
The following assignment is made in Dockets Nos. 43271, 43272 and 47085: The Commissioner erred in disallowing $50,000 of a deduction for officers' salaries.
In Dockets Nos. 43271 and 43272 the following error is assigned: Disallowing $37,893.90 as a deduction representing expenses of a trip to Europe.
In Dockets Nos. 42642, 42643, 43271, 43272 and 47085 the respondent made claim for an increased deficiency if any change in his determination is made.
The cases were consolidated.
All assignments of error, except those set forth above, were waived.
FINDINGS OF FACT.
A. K. Roy and C. J. Derbes are the executors of the estate of Andrew Stafford.
Charles J. Derbes and Carmen Derbes are individuals residing in New Orleans.
Alphonse K. Roy and Inez M. Roy are individuals. The latter resides in Bay Saint Louis, Mississippi.
Stafford, Derbes and Roy, Inc., and the Upstream Realty Company are corporations organized under the laws of Louisiana. The principal*1669 place of business of each is in New Orleans.
Stafford, Derbes, and Roy, Inc., succeeded a partnership known as Stafford, Derbes and Roy. The partnership was formed in 1923. Andrew Stafford, Charles J. Derbes, and Alphonse K. Roy each owned a one-third interest in the partnership and each owned onethird *278 of the stock of the corporation. Stafford was president and Derbes and Roy were vice presidents of the corporation. Each firm was engaged in buying large tracts of unimproved land, subdividing it and selling it in smaller units.
Some times the purchaser of a smaller unit paid the agreed purchase price in full at once and received a deed for his property or paid part of the agreed purchase price at once, gave a mortgage for the balance, and received a deed for his property. Most prospective purchasers paid in the first instance only a part of the agreed purchase price, and, with the seller, entered into a so-called "bond for deed" contract.
The partnership and the corporation purchased large tracts of ground subject to the liens of mortgages, which liens could be released as lots were sold, but before the lien could be released and a clear title given for the*1670 lot the partnership or the corporation had to receive sufficient cash from the transaction to pay the mortgagee the amount agreed upon for a release. These firms therefore used the "bond for deed" form of contract in those transactions where the amount of the payments did not justify the giving of a deed.
Some times the partnership or the corporation would enter into a contract with one prospective purchaser and before he had received a deed it would, at his request, enter into a new contract with a new prospective purchaser at an increased price. In such cases it paid the first man the difference in price less a commission and a profit and canceled his contract and unpaid notes.
The partnership and the corporation filed returns for the years in question reporting the profits from the transactions by the installment method. The Commissioner also used this method in determining the deficiencies.
The partnership and the corporation employed a number of salesmen and usually paid them 10 per cent of the contract price for the sale of lots. One salesman received commissions of $50,000 in 1925 and $43,000 in 1926. Other salesmen received from $8,000 to $20,000 in 1925 and 1926. *1671 Derbes and Roy made some sales and assisted in others on which they received no commission. The three officers held membership in a number of clubs partly for business purposes and also at times used their private automobiles for the business of the corporation. Stafford was active in 1926 and 1927 in purchasing land for the corporation. Stafford, Derbes and Roy were all experienced in the real estate business. The annual income of Derbes and Roy from the real estate business prior to the incorporation of Stafford, Derbes and Roy, Inc., had been as much as $20,000 for each in some years. Stafford had a larger income. The net sales for 1926 amounted to about $1,000,000. Sales *279 decreased materially in 1927. In 1925 and 1926 the real estate business in New Orleans was booming. The commissions paid for 1924 sales were about $39,000 and for 1927 sales were about $9,000.
On May 1, 1926, the salaries of the three officers were increased by the board of directors as of January 1, 1926, from $24,000 each to $50,000 each. These salaries were also in effect for 1927. Stafford died in August, 1927. The salaries of these three officers for other years were: 1924, $6,000*1672 each; 1925, $12,000 each.
Deductions for officers' salaries of $150,000 and $144,133.17, respectively, were claimed in the returns for 1926 and 1927. The Commissioner for each year disallowed $50,000 of the deduction claimed. A reasonable allowance in each of these two years for salaries paid or incurred for personal services actually rendered by these three officers was not in excess of the amount allowed by the Commissioner for each year.
From 1924 to 1927 the corporation owned motion-picture equipment and employed a motion-picture photographer and operator. He took pictures of events of local interest and showed them in prominent homes and clubs in New Orleans for advertising purposes. The name of the corporation was prominently displayed on the screen when these films were shown. In 1926 the photographer was one of a party which made a trip to Europe, lasting about three months. The party sailed on the Berengaria. During this trip he took motion pictures of places visited and some times of the members of the party. These pictures were likewise shown in New Orleans under the firm name and proved to be popular. The expenses of the photographer and his salary were*1673 paid by the corporation. The other members of the party were Stafford, Derbes, Roy, Dr. Ledbetter, and Ferguson of New Orleans and Harry Stafford of Atlanta, Ga. Stafford had not been in good health. Dr. Ledbetter was his friend and physician. Ledbetter and Ferguson had each purchased lots from the corporation. The trip was planned as a method of advertising as a result of a discussion of summer vacations. The other motion pictures were becoming stale. The Commissioner disallowed $37,893.90 of a deduction claimed in 1926 as expenses of a European trip, which he explained as:
| European trip | $37,893.90 |
| Expenses of three officers and a photographer | $16,523.87 |
| incurred on a a trip to Europe | |
| Cost of operating the Yacht "Lurline" | 21,370.03 |
| on trip to Europe | |
| Total | $37,893.90 |
The above deductions are deemed not to be ordinary and necessary expenses as contemplated by Section 214 of the Revenue Act of 1926. The amount is accordingly restored to net income.
*280 The parties entered into a stipulation in part as follows:
* * *
VII.All contracts of sale executed by the petitioner in the years under review were on the form of contract annexed*1674 hereto and made part hereof as exhibit A-1. Annexed to such contracts and representing the unpaid portion of the agreed price of such contracts was a promissory note on the form annexed hereto and made part hereof as Exhibit B-2.
* * *
It is further stipulated and agreed that should the Board decide that the petitioner's taxable income for the years in question should be determined on the installment basis then and in that event the deficiencies proposed in the notices of deficiency from which these appeals have been filed for the years 1923, 1924 and 1925 shall be agreed to by the petitioner and the deficiencies appealed from for the years 1926 and 1927 shall be agreed to unless adjusted on account of officers' salaries and/or European trip expense.
EXHIBIT B-2
No. New Orleans, La., 192 Beginning 192 for value received, promise to pay to the order of Stafford, Derbes and Roy, Inc., or order Dollars at the rate of $ or more monthly.
at this City.
This note being one of a series of notes given by me this day for the purchase of lots No. Square No. purchased by me from Stafford, Derbes and Roy, Inc. as per contract of even date, with interest after date at the rate*1675 of Six per cent per annum, and if not paid at maturity and collected by an attorney or by legal proceedings, an additional sum of ten per cent. on the account of this note as attorney's fees.
* * *
Exhibit A-1
BOND FOR DEED
METAIRIE PARK SUB-DIVISION
No.
THIS AGREEMENT made and entered into at New Orleans, Louisiana, this day of , A.D., 192 , by and between STAFFORD, DERBES AND ROY, INC. of New Orleans, Louisiana, hereinafter known as the party of the first part, and of hereinafter known as the party of the second part.
WITNESSETH:
That the party of the first part, hereby agrees to sell, and party of the second part hereby agrees to buy, and both under the hereinafter named special conditions the certain lots or parcels of land situated and being in the Parish of Orleans, State of Louisiana and being more particularly described as lots or parcels number on the map of STAFFORD, DERBES AND ROY, INC. land the same in size and location to be *281 in accordance with the map or plan of lots or parcels on file in the office of STAFFORD, DERBES AND ROY, INC. copy of which is to be filed in the City Engineer's Office of said City of New Orleans.
The party of the*1676 second part agrees to purchase and does purchase the above mentioned property for the sum of ($ ) Dollars, on the followings terms and conditions, to-wit:
($ ) Dollars, being paid this day and receipt whereof is hereby acknowledged, and notes of ($ ) Dollars each, and notes of ($ ) Dollars each, to be paid STAFFORD, DERBES AND ROY, INC. or their order, beginning on or before the day of A.D., 192 , and each months hereafter payable at the rate of $ or more monthly until the full sum shall have been paid together with interest at the rate of (6%) per cent. per annum from date hereof, which notes are hereby identified with this agreement.
The party of the second part reserves the right to pay any or all of the remaining notes herein specified, before their maturity, interest being charged from date of note until time of payment only.
In consideration of the covenants and agreements, hereinabove made by the party of the second part, the party of the first part agrees, when the payments have been made in accordance with the terms and conditions of this agreement, to deliver to the party of the second part the usual notarial act to the premises herein described at the cost of the*1677 party of the second part, together with "GUARANTY OF TITLE" of the Louisiana Abstract and Title Guarantee Company, also at the cost of the party of the second part, in the amount here above shown.
It is mutually agreed that should the party of the second part fail to make any of the payments hereinbefore specified, the whole amount remaining unpaid shall at once become due and payable, and at the option of the party of the first part, may either be recovered in any proper action on said note or notes, or the notes may be returned to the party of the second part, and all payments previously made shall be forfeited to said party of the first part as liquidated damages for the failure to make such payments in whole or in part, and all payments that may have been made previously to such default shall be forfeited to the party of the first part as liquidated damages, notwithstanding the partial performance of this agreement by the party of second part, the party of the second part, hereby waiving all demands and formal putting in default. Thirty days' written notice of such action on the part of the party of the first part, to be granted to the party of the second part, such written*1678 notices to be by registered mail to the address of the party of the second part which is now declared to be
The party of the second part further agrees and warrants that there shall not be erected on this property any residence to cost less than Three Thousand ($3,000.00) Dollars, nor any saloon, nor noxious or offensive establishment, that no house shall be built or set nearer to the front property line than fifteen feet; no shed or garage shall be built within twenty-five feet of front property line; no lots are/or will be sold to negroes or colored people.
Party of the second part agrees to assume taxes for the year 192 and thereafter.
This agreement shall be mutually binding upon the heirs, assigns and successors of the parties hereto.
*282 Time is the essence of this contract.
IN WITNESS WHEREOF, the parties to this agreement have hereunto set their hands and seals, and to a duplicate instrument of like tenor on the day and year above written.
SIGNED, SEALED ANY DELIVERED
IN THE PRESENCE OF
OPINION.
MURDOCK: The petitioners' principal contention is that most of the so-called sales made by the partnership and the corporation were not in fact sales*1679 but were merely contracts for sales so that the payments received prior to the delivery of a deed did not belong to the seller and were not income until a deed was delivered. Tax returns for the years in controversy were filed on the basis of installment sales; the Commissioner has approved and used this method in determining the deficiencies; the deficiencies apparently resulted from adjustments of other kinds not contested; in the original petitions for 1923 and 1924 the petitioners insisted that the installment method be used; and not until the hearing was there any change in those pleadings.
Counsel for the petitioners now urges that this method be abandoned and less tax computed on some other basis never before applied by either party. Unless the installment method is faulty, we do not think its use should be abandoned under the circumstances of these cases. Cf. ; ; , affd., ; *1680 ; . Having heard nothing to the contrary, we must assume that the installment method is in accordance with the method used in keeping the books and clearly reflects income and, in all cases where the initial payments did not exceed one-fourth of the purchase price, the Commissioner has allowed the income to be reported on the installment basis. If there were any transactions on the "bond for deed" contract where the installment sales method of reporting would not apply because more than one-fourth of the purchase price was paid as an initial payment, the petitioners' contention might have some merit. But we do not know that there were any such transactions or, if there were, how the Commissioner has treated them and, in any event, the petitioners make no complaint about the treatment of transactions of that kind and offer no alternative method of treating them in case we hold that the installment basis was a proper way of reporting income from *283 the transactions in which the initial payments did not exceed one-fourth of the purchase price. In other words, if, *1681 as to transactions of the latter class, there is any income which can be reported on the installment basis, then the petitioners' first contention fails and they agree to abide by the determination of the Commissioner.
We do not agree with the petitioners in their contention that title must pass by the delivery of a deed before any income can arise for tax purposes and, therefore, any method of reporting as income any part of the payments before title passes in unsound and improper. If correct, it would almost completely emasculate the retroactive provisions of section 212(d) of the Revenue Act of 1926 relating to a sale or other disposition of real property. Those provisions do not require that title pass when the initial payments are made. In most installment sales, title does not pass with the initial payments. Cf. ;; . Of course, title must pass eventually in order to have a sale or other disposition, but there is nothing to indicate that title did not pass eventually in the transactions on which the taxes in these cases were computed. *1682 If a sale falls through after some income has been reported, some adjustment becomes necessary and would no doubt be permitted by the Commissioner. Cf. . But that question is not before us. The installment basis of reporting the income from such transactions permits that income to be reported as it is received, regardless of whether title has or has not passed at that particular time. Under that method notes of the purchaser are not included in income. The first two contentions of the petitioners suggest no reason for disturbing the determinations of the Commissioner. Cf. ;
In prior decisions we have indicated that we are slow in substituting our judgment for that of a board of directors on the question of the reasonableness of officers' salaries. But, here, the officers and the board were in effect one; the salaries were more than double the amount these men ever received for their services before or since, so far as the record shows; the Commissioner determined that the amounts deducted were unreasonable; and the evidence*1683 does not require its review here or indicate that the Commissioner erred.
If the expenditures of the trip to Europe had been proven, it is possible that some part, at least, would appear to be a deductible expense. We do not know how much was spent by the corporation or for what particular purpose any amount was spent. Certainly, if all of the expenses of the entire party were paid by the corporation, the larger portion was not an ordinary and necessary expense of carrying on the business of the corporation. The connection of the cost of operating the yacht Lurline with the European trip does not *284 appear. The corporation had a yacht, but this trip was made on the Berengaria. We are not in position to order any modification of the commissioner's determination in this connection.
Judgment will be entered for the respondent.