*2279 1. Certain debts held to have been ascertained to be worthless and charged off within the taxable year.
2. Certain trade acceptances acquired during the taxable year represented debts owing to the bank rather than investments, and deductions on account thereof may not be made since they were not both determined to be worthless and charged off within the taxable year.
*638 These proceedings, which were consolidated for hearing and decision, involve a redetermination of an alleged deficiency in tax of the City National Bank of Commerce, amounting to $3,596.86 for the calendar year 1920, and the redetermination of an alleged liability in the amount of $3,596.86 assessable against the City National Bank as transferee of the assets of the City National Bank of Commerce. The petitioners allege that the respondent erred in (1) that he refused to allow as deductions certain debts ascertained to be worthless and charged off within the taxable year; and (2) that he refused to allow as a deduction a*2280 certain loss sustained during the taxable year which was not compensated for by insurance or otherwise.
FINDINGS OF FACT.
The City National Bank of Commerce was a corporation doing business under the authority of the National Bank Act, with its principal offices in the City National Bank Building, Wichita Falls, Tex. On April 30, 1920, a merger of the National Bank of Commerce and the City National Bank of Wichita Falls, Tex., was effected and a charter was granted to the City National Bank of Commerce. Immediately after this merger the capital stock of the City National Bank of Commerce was $1,000,000 and its surplus was $700,000. In 1923 the charter of the City National Bank of Commerce was amended to provide that the corporation should thereafter be known as City National Bank of Wichita Falls, Tex.
During the year 1920 the banking business in Wichita Falls was in a chaotic condition. Speculation was rife and the banks in Wichita Falls in general were very liberal and easy in making loans and very lenient in allowing paper to become past due. This highly inflated condition was due primarily to an oil boom affecting Wichita Falls, Tex., and the surrounding territory. *2281 Both the National Bank of Commerce and the City National Bank brought into the accounts of the merged institution, the City National Bank of Commerce, assets which were highly inflated. The period of inflation continued until the fall of 1920, at which time a period of great deflation set in and struck Wichita Falls with particular severity. The deposits of the City National Bank of Commerce declined approximately from $21,000,000 to $6,000,000 in the last quarter of the year 1920. Due to this fact, the officials of the bank were very reluctant to make charge-offs and at that time it was their definite policy to hold notes and other assets on their books as long as they could possibly be kept there. The consistent practice of the City National Bank of Commerce with respect to loans was to discount the loan and add the discount to the loan, the discount being included in income as at the time a loan or a renewal of a loan was made.
*639 On January 7, 1920, the National Bank of Commerce made a loan to the Lone Star Securities Co. in the sum of $15,253, receiving no collateral as security for this indebtedness. This note was carried into the assets of the City National*2282 Bank of Commerce after the merger on April 30, 1920, and every possible effort was made to effect its collection, both from the Lone Star Securities Co. and from Minchew and Street, endorsers on the note, who were in reality themselves the Lone Star Securities Co. Collection was not possible and this debt in the amount of $15,253 was charged off on the books of the City National Bank of Commerce on December 21, 1920.
During the same period in which efforts were being made to collect the indebtedness of the Lone Star Securities Co., A. P. Minchew and W. H. Street were indebted to the bank on their own personal accounts to the extent of $44,765.40. On May 3, 1920, recovery of $21,600 of this indebtedness of $44,765.40 was made by seizing and applying thereto the personal checking account of W. H. Street. No part of the checking account was applied against the $15,253 note of the Lone Star Securities Co., which was determined to be worthless and charged off on December 21, 1920.
Thereafter, on August 29, 1921, for the purpose of rolling into one all of their personal liabilities and the liability of the Lone Star Securities Co. due the bank, Minchew and Street executed their*2283 own individual notes to the petitioners in the amount of $50,913.13. This amount did not represent the advancing of any new money to Minchew and Street or to the Lone Star Securities Co., but was merely a renewal of old debts. Minchew and Street were financially irresponsible in 1920 and their financial condition was the same when this note of $50,913.13 was made in August, 1921. The note had no value from a credit standpoint, but was taken by the bank in a desperate effort to offset other charge-offs. This note of $50,913.13 was subsequently charged off on the books of the City National Bank of Commerce in January, 1923.
No recovery was made on the Lone Star Securities Co.'s debt of $15,253, or on the individual indebtedness of Minchew and Street during 1921, 1922, or 1923, but by reason of a fortunate oil strike by Minchew in the Wilmot Pool in Archer County, Texas, the City National Bank was enabled to take a part of his acreage and recover all of the outstanding debt of the Lone Star Securities Co. and of Minchew and Street individually in the year 1924. The only collateral securing any of the $50,913.13 indebtedness was 100 shares of stock in the Mid-West Oil Co., which*2284 was in reality a mere promoting company for wildcat operations. The stock of the Mid-West Oil Co. had no value.
On September 13, 1920, and September 18, 1920, respectively, the City National Bank of Commerce acquired from M. Overton McDowell *640 two certain 90-day trade acceptances in the face amount of $25,000 each. Trade acceptances were handled by the bank in its note department. They were discounted and the discount added to the face of the acceptances in the same manner as in the case of a note. The trade acceptances acquired from McDowell purported to cover sacked oats, represented to be held in the warehouse of the Indian Grain Co., at Wichita Falls, the acceptances being drawn by McDowell and accepted by the Indian Grain Co., which was operated by McDowell and his relatives. Neither of the acceptances was written off the books of the bank during the year 1920. McDowell's credit was greatly strained during the latter part of 1920 and he was definitely known to be hopelessly insolvent before December 31, 1920, and was thrown into bankruptcy at the beginning of 1921. The bank, through its officials, made every effort to collect the debt arising from these trade*2285 acceptances before the end of 1920, unsuccessfully endeavoring to take over his home at a high price and apply it on this debt, which was definitely determined to be worthless before the end of the year 1920. By investigation it was learned that if there had ever been any oats behind the trade acceptances, such oats had been shipped out and disposed of before the maturity date of the acceptances. During the same period involved in the trade acceptance transaction McDowell was personally indebted to the bank to the extent of some $75,000 in the form of a $25,000 note and a $50,000 note. Nothing has ever been collected on the trade acceptance obligation of $50,505 or on the $50,000 note.
At the time of the merger of the National Bank of Commerce and the City National Bank on April 30, 1920, creating the City National Bank of Commerce, there were carried into the assets of the merged institutions, two notes in the amount of $8,408 and $10,168.65, executed by the Brundage Hancock Oil Association #2 and #1, respectively, on September 20 and September 21, 1919. The notes of $8,408 and $10,168.65 were charged off on the books of the City National Bank of Commerce on December 21, 1920. *2286 These notes were not secured by any collateral. Each note bore the endorsements of J. F. Pickle, J. O. Hancock, J. A. D. Smith, W. C. Myers, and C. T. Engle, none of whom, with the exception of W. C. Myers, were men of any financial responsibility. The officers of the bank made every effort to collect both of these notes prior to the time they were charged off, attempting to collect them from the company and from the individuals as well. Investigation revealed that all of the endorsers, with the exception of Myers, were hopelessly insolvent at the date of the charge-off on December 21, 1920, and that Myers was so heavily involved on his own individual indebtedness and endorsements that his name gave no value to the notes.
*641 On October 28, 1920, the Crystal Cafe, by G. D. Coston and F. Cappathleson, executed to the City National Bank of Commerce a certain demand note for $8,500, secured by a second chattel mortgage on the furniture and fixtures at 722 Indiana Avenue, Wichita Falls, Tex. A payment of $750 was collected on this note through the seizure and sale of about 100 sacks of sugar on November 9, 1920, and the balance of $7,750 was charged off on the books of the*2287 bank as a bad debt on December 21, 1920. The only collateral securing this debt was a second chattle mortgage on furniture and fixtures. The cafe was closed and out of business, and the former proprietors gone before the end of 1920. Because of the existence of a prior lien, the collateral was determined to be of no value at the time of the charge-off of this debt on December 21, 1920. Thereafter, in October, 1921, by reason of a settlement among the creditors of the Crystal Cafe, a further amount of $2,910.53 was realized on this debt and was reported as income in 1921, but this sum of money did not come from any collateral held by the petitioners.
On its income and profits-tax return for the calendar year 1920 the City National Bank of Commerce reported as taxable income the sum of $113,186.61. The respondent disallowed certain deductions for bad debts, made other adjustments, and recomputed the tax on the basis of a taxable income for the year 1920 amounting to $128,766.35.
OPINION.
SMITH: The issues presented by the record in these proceedings involve (1) bad debts as follows:
| Lone Star Securities Co. | $15,253.00 |
| Brundage Hancock Oil Association | 8,408.00 |
| Brundage Hancock Oil Association | 10,168.65 |
| Crystal Cafe | 7,750.00 |
| M. O. McDowell | 51,010.00 |
| J. F. Barker et al | 150,000.00 |
| D. H. Milton | 20,476.67 |
| H. L. Lewis and D. H. Milton | 21,000.00 |
| International Petroleum Co. | 18,752.00 |
| Friedner & Ruby | 7,724.00 |
*2288 (2) a loss amounting to $50,505 occasioned by the purchase of a worthless "trade acceptance" from M. Overton McDowell; (3) the improper computation of invested capital in prior years; and (4) that the taxes in question were outlawed by the statute of limitations. With respect to the bad debts, however, counsel for the petitioners concede that none of the debts, with the exception of those of the Lone Star Securities Co., the Brundage Hancock Oil Association, and the Crystal Cafe, were charged off within the taxable year, and that with respect to such debts as were not charged off no claim is *642 made as to their deductibility. With respect to the allegation of error relative to the improper computation of invested capital for prior years it was conceded that that question had no bearing upon the computation of the deficiency involved and it was stipulated by both parties that a consent had been entered into between the City National Bank of Commerce and the Commissioner extending the period within which an assessment of taxes with respect to the year 1920 might be made until December 31, 1926. Consequently we have for our consideration only the deductibility of debts due*2289 from the Lone Star Securities Co., the Brundage Hancock Oil Association, and the Crystal Cafe, and losses arising through the acquisition of certain trade acceptances from M. Overton McDowell.
With respect to the three debts under consideration we are convinced from the record that each was ascertained to be worthless and charged off by the City National Bank of Commerce during the taxable year 1920. Consequently they should be allowed as deductions in computing taxable net income for that year.
With respect to the trade acceptances acquired from M. Overton McDowell, we are convinced that neither the acceptor nor the endorser thereof was financialy responsible and we are further convinced that when the acceptances became due the merchandise which they purported to cover had disappeared. However, it appears that the City National Bank of Commerce made no distinction in the manner in which it handled notes and trade acceptances and it does not appear that the bank considered trade acceptances in any other light than that of current accounts receivable. Since McDowell, shortly prior to the time that the bank acquired the trade acceptances in question, became indebted to it on*2290 his own personal notes in the amount of $75,000, it is not unreasonable to assume that when the bank acquired the acceptances it regarded the transaction as a secured indebtedness of McDowell. Consequently we are of the opinion that at the end of the year 1920 these particular transactions represented debts due the bank that should have been charged off to be deductible, rather than investments that had become worthless during that year, and, inasmuch as they were not charged off by the bank during the year 1920, they are not allowable deductions from income for that year.
Since the allowance as deductions of the accounts of the Lone Star Securities Co., Brundage Hancock Oil Association, and Crystal Cafe will more than offset the amount of the alleged deficiency, it is apparent that there is no liability assessable against the City National Bank as transferee of the National Bank of Commerce.
Judgment will be entered under Rule 50.