*3539 Where an opening inventory was taken at cost and in the closing inventory certain articles were inventoried at market which was higher than cost and the inventory otherwise was taken at cost, the closing inventory should be reduced by the difference between market and cost of the items inventoried at market.
*412 Income and profits taxes for the calendar year 1920, are in controversy. The following errors were alleged:
(1) No depreciation was claimed on the return and none was allowed by the Commissioner;
(2) In the closing inventory for 1920, certain bottles were inventoried at market which was considerably higher than cost;
*413 (3) No amount representing good will, trade-marks, and formulae, was included in the computation of invested capital;
(4) No deduction was taken for bad debts either on the books or on the return of the petitioner;
(5) The petitioner deducted $1,550 from its return for 1920 as Federal income taxes paid for the year 1919; the Commissioner in correcting this error added a larger amount to income.
FINDINGS*3540 OF FACT.
The petitioner was incorporated in June, 1919, under the laws of Delaware. Its principal office is at Long Island City, N.Y., where it is engaged in the manufacture and sale of "Delatour" ginger ale.
On July 9, 1919, it issued its stock for certain assets of the Delatour Beverage Co. Among the possessions of the predecessor company certain letters and labels were found, indicating that the Delatour brand of ginger ale was established in 1808.
The predecessor company carried on its books in 1919, a good will account having a credit balance of $65,000. The petitioner opened its books with an account entitled "Good Will, Trade-Marks, Etc." in the amount of $283,730.69. By the end of the year 1920, this amount was increased to $284,030.69. The letters "Etc." in the heading of this account represented valuable secret formulae. Good will, trade-marks and formulae in the amount of $291,147.44 were reported on the 1920 income-tax return. The difference between the amount shown on the return and the amount shown on the books represented commissions paid for the sale of stock.
In 1920, some of the petitioner's preferred stock was sold and certain commissions were*3541 paid for making the sale. The difference between the par value of the preferred stock and the amount of money actually received from the sale of the stock was entered on the books as good will. During the last three months of 1920, payments, made to a chemist for a ginger ale formula, totaling $200 were entered in this account. The par value of certain common stock that was given to the purchasers of preferred stock was also entered in this account. The opening entry in the account represented the difference between the assets and liabilities taken over from the predecessor company and the amount of stock issued for the assets.
The petitioner's books were not closed at the end of 1919, because at that time the corporation intended to have a fiscal year rather than a calendar year. At some time in 1920, it was decided to have a calendar year, but the books were never closed for 1919. An inventory in which the cost of each article was entered was taken at the close of 1919. An inventory was taken at the close of 1920, in which *414 all articles were inventoried at cost except that 5,500 gross of 16-ounce bottles which had cost the petitioner $4.75 a gross were inventoried*3542 at their market value of $6.40 a gross, and 5,000 gross of 10-ounce bottles which had cost the petitioner $4.50 a gross were inventoried at their market value of $6 a gross. These inventories were used in making the income-tax return.
The petitioner had a furniture and fixture account which at the end of 1920 showed a balance of $2,711.73. It also had a machinery and equipment account which showed the following entries:
| 1919 | |
| July 16. Opening entry | $22,870.00 |
| Aug. 15. Tank and table | 150.00 |
| 17. Gauge | 166.25 |
| 26. Tanks | 25.00 |
| Sept. 12. Autographic register | 31.12 |
| 12. Labeling equipment | 25.00 |
| 30. Belt | 24.00 |
| Oct. 1. Labeling-machine part | 6.19 |
| 3. Freight | 71.89 |
| 3. Cordial equipment | 57.42 |
| 7. Freight | 34.79 |
| 14. Cordial equipment | 27.00 |
| 15. Cartage | 56.04 |
| 28. Freight | 52.51 |
| 28. Freight | 95.16 |
| 31. Freight | 22.00 |
| Nov. 7. Storage | 74.83 |
| 12. 2 tanks | 100.00 |
| Dec. . | 23.24 |
| 13. Cartage | 5.00 |
| 1920 | |
| Jan. 14. Freight | 53.61 |
| 17. Storage | 11.61 |
| 17. J. H. Myers | 121.75 |
| 28. Franz Bros. (moving equipment from old plant to new) | 215.00 |
| 29. Soaker (new parts necessary) | 87.00 |
| 29. Soaker (for operation with new machinery) | 132.00 |
| 31. Quedor | |
| Feb. 7. Plumbing (in leased building at new plant, lease | |
| having 4 years and 11 months to run) | 450.00 |
| Mar. 5. Steinhart (electrical work, repair work on gas | |
| generators) | 300.00 |
| 9. Tanks | 375.00 |
| 12. Plumbing (insulating water containers) | 833.00 |
| 16. Freight on conveying machinery | 129.78 |
| 24. Block tin for piping | 34.40 |
| Apr. 3. Conveying machinery | 1,800.00 |
| 3. Laboratory equipment | 12.50 |
| 3. Conveyor equipment | 1,899.65 |
| 8. Steinhart, electrical work | 574.08 |
| 15. Steinhart, electrical work | 95.00 |
| 15. National Lead Company for block tin piping | 97.26 |
| May 21. Arrows machine for brushing and rinsing bottles | $3,965.00 |
| 21. Bishop & Babcock for filling machine | 1,960.00 |
| 21. Owens J., machine (bottle capper, crowner, and | |
| labeler) | 5,436.00 |
| 21. Conveyor machine | 326.80 |
| 21. Bishop & Babcock (filling machine) | 2,802.80 |
| 28. Measures | 23.75 |
| 28. Graduates | 17.13 |
| June 5. Laboratory equipment | 71.70 |
| 7. Gallagher machine (bottle washer) | 165.25 |
| 7. Express on Gallagher machine | 3.84 |
| 8. Tank | 25.00 |
| 28. Profit and loss item (reversing obsolescence | |
| deduction of 1919) | 10,000.00 |
| July 8. Plumbing | 360.00 |
| 13. Soaking machine | 22.00 |
| . Bishop & Babcock (filling machine) | 1,313.00 |
| Aug. 19. Counting machine | 18.40 |
| 19. Electrical work | 168.00 |
| 27. Hayes, nailing machine | 40.00 |
| Sept. 3. Laboratory equipment | 9.55 |
| 25. Bishop & Babcock, on account | 500.00 |
| 28. McNamara plates | 100.00 |
| 28. Nailing machine | 876.51 |
| Oct. 3. Laboratory equipment | 5.80 |
| Dec. 1. Conveying machinery | 200.00 |
| 3. Plumbing | 200.00 |
| 31. Geise filter machines | 294.00 |
| 31. | 1,433.11 |
*3543 *415 The petitioner ordered all of the above machines, with the exception of the nailing machine and counting machine, in the fall of 1919, to be delivered at its new plant on January 1, 1920, but the new plant was not ready on January 1, 1920, and it was not until March 15, 1920, that the plant was in operation.
The opening entry of July 16, 1919, in the above account, represents machinery taken over from the predecessor company in exchange for the petitioner's stock. This machinery included the following articles which for the purpose of the transfer were assigned approximately the following values:
| 1 soaking machine | $1,000 |
| 8 copper fountains at $600 each | 4,800 |
| 3 gas generators at $500 each | 1,500 |
| 1 gas engine | 800-1,000 |
| 3 small bottling machines at $250 each | 750 |
| 2 labeling machines, value not over | 500 |
| Miscellaneous equipment, shafting, belts, elevators, about | 8,000 |
During 1919, $10,000 was charged to the machinery and equipment account to represent obsolescence. On June 28 this charge-off was reversed by a corresponding credit. At the beginning of 1920 the *416 machinery and equipment account showed a credit balance of $13,891.26. *3544 At the close of 1920 it showed a credit balance of $52,297.58.
The petitioner's books showed a profit of $14,791.27 for the period from July 16 to December 31, 1919. The Commissioner determined that the correct income for the period was $21,006.57. For this same period the petitioner's books showed expenditures for advertising in the total amount of $3,123.88. The books also showed expenditures for advertising for the year 1920 of $1,927.69.
The petitioner's income-tax return for 1920 reported net income of $24,218.91, and its return for 1921, reported a net loss of $54,840.68.
The petitioner discontinued its operations in August, 1925.
No deduction for wear and tear, or exhaustion of machinery and equipment, or furniture and fixtures was claimed or allowed for the year 1920.
OPINION.
MURDOCK: The petitioner is entitled to deduct a reasonable allowance for the exhaustion, wear and tear of property used in its trade or business. This allowance in the case of this petitioner should be based upon the cost of the property. We are unable to determine from the evidence the cost of the property which the petitioner acquired from its predecessor. The petitioner gave*3545 stock for this property and we do not know the value of the stock or the value of the assets. Consequently, we can not determine the proper amount to allow for the exhaustion, wear and tear of this property.
The petitioner's books indicate that during 1919 it acquired and paid for certain equipment. Whether the equipment acquired represented capital assets of merely represented repair parts we are unable to determine and even if we were able to determine this we do not know the period of the probable useful life of this equipment, and we can not determine a reasonable allowance for the exhaustion, wear and tear of this property.
The books of the petitioner also indicate that during 1920 the petitioner acquired and paid for certain property. From these entries it seems clear that on April 3, the petitioner acquired certain conveying machinery for $3,829.43, including freight; that on May 21, it acquired a filling machine at a cost of $4,762.80, and a machine for capping, crowning and labeling bottles at a cost of $5,436.00; that on June 7, it acquired a bottle washer at a total cost of $169.09, and on some date in July, a filling machine at a cost of $1,313.00; and that on*3546 September 28, it acquired a nailing machine at a cost of $916.51. From the evidence it acquired a nailing machine at a cost had a probable useful life of 15 years; that the filling machines had a probable useful life of 6 years; that the crowning, capping and labeling machine had a probable useful life of 10 years; that the bottle washer *417 had a probable useful life of 7 years; and that the nailing machine had a probable useful life of 5 years. An allowance for the exhaustion, wear and tear of these machines should be computed from the respective dates on which they were acquired, based in each instance on the probable useful life as above indicated.
In regard to any other equipment which the petitioner may have used during the year 1920, either we are unable to determine its probable useful life from the evidence, or we are unable to determine from the book entries that they represent capital assets upon which an allowance for exhaustion, wear and tear should be computed.
The petitioner in its closing inventory for 1920, included certain bottles at market, which was substantially higher than cost. The opening inventory for the year had been taken at cost. Under*3547 the circumstances the petitioner's closing inventory should be reduced by $16,575, the excess of the market value over the cost of these bottles.
The evidence does not indicate that the petitioner acquired any good will from its predecessor. If, perchance, any good will, trade-marks, and formulae were acquired by the petitioner from its predecessor, the evidence does not establish the cost of these assets to the petitioner. We are unable to determine that during the year 1920 the petitioner had good will, trade-marks, and formulae of any particular value, or that the Commissioner made any error in his computation of the petitioner's invested capital.
No evidence was offered in regard to worthless debts and on this point we must affirm the Commissioner.
Neither the petitioner's income-tax return for the year 1920 nor any letter of the Commissioner indicating the method by which he computed the deficiency in question was made a part of the record in this case, and we are unable to determine any fact in connection with the last error alleged by the petitioner. However, the Commissioner did not deny that he made some such error as was alleged, and inasmuch as it is a mere mathematical*3548 error, it can be corrected on recomputation under Rule 50.
Judgment will be entered under Rule 50.