*127 Decision will be entered under Rule 50.
1. Held, accounts acquired by petitioner prior to the taxable years constituted a single capital asset composed of a list of customers; each individual customer's account lost by petitioner during the taxable years was a partial loss of such capital investment and no deduction is allowable therefor.
2. Deductibility in taxable years of increase in New York State franchise tax payable by petitioner by reason hereof, determined. Concord Lumber Co., 18 T. C. 843; Curran Realty Co., 15 T. C. 341, followed.
*1029 Respondent determined deficiencies in income tax of petitioner in years and amounts, as follows:
| Fiscal year ended | |
| March 31 | Deficiency |
| 1948 | $ 2,510.17 |
| 1949 | 2,013.64 |
Petitioner has acquiesced in certain of the adjustments made by respondent.
FINDINGS OF FACT.
The stipulation of facts filed by the parties with exhibits attached is adopted, and by this reference, made a part hereof.
The petitioner, Anchor Cleaning Service, Inc., is a corporation organized on March 4, 1947, under the laws of the State of New York. It filed its tax returns for the years here involved with the collector of internal revenue for the second district of New York.
On September 14, 1945, Herman Sperber owned all the capital stock of Anchor Cleaning Service, Inc. (a predecessor to petitioner, hereinafter sometimes called Anchor), a cleaning service corporation. At the same time Sperber was also carrying on a cleaning business as sole proprietor under the trade name "General Cleaning Service Company" (hereinafter called General). Prior to October 1, 1945, Irving *1030 M. Shapiro, *129 president of the petitioner corporation, had been carrying on the window cleaning business in partnership with other individuals.
On September 14, 1945, Shapiro and Sperber entered into a executory agreement for the purchase from Sperber by Shapiro of the capital stock of Anchor and the name and goodwill of the business operated under the trade name of "General." This agreement provided, in part, as follows:
WHEREAS, the Purchaser has agreed to buy the stock of the corporation and the other business upon the understanding that on the date of closing the corporation will own nothing but good will and that the Seller's present ownership of the business operated under the aforesaid trade name will likewise, on the date of closing, consist of nothing but good will, and
* * * *
(1) The Seller hereby agrees to sell and the Purchaser hereby agrees to buy the following:
(a) All of the capital stock of the ANCHOR CLEANING SERVICE, INC.;
(b) The name and the good will of the business now operated by the Seller under the trade name of GENERAL CLEANING SERVICE CO. at 611 Broadway, New York, N. Y.
(2) It is understood and agreed by and between the parties hereto that on the date of closing*130 the stock in the aforesaid corporation and the Seller's interest in the aforesaid business operated by him under the trade name will represent nothing but good will and the Purchaser is willing to pay for such good will, the price agreed upon.
(3) The Purchaser agrees to pay to the Seller the sum of $ 81,908.82, as follows:
* * * *
(19) If any of the accounts appearing on the list delivered at the time of the closing discontinues service before December 1, 1945, or are lost to some other concern before December 1, 1945, then and in either of such events the Seller shall pay back to the Purchaser for each $ 1.00's worth of window cleaning or porter service so discontinued or lost as aforesaid, the sum of $ 10.00 and for each $ 1.00's worth of general cleaning work so discontinued or lost as aforesaid, the sum of $ 9.00. It is agreed, however, that the Seller need not make such reimbursement to the Purchaser if such accounts are discontinued or lost due to the fault of the Purchaser.
At Sperber's option, the loss so sustained may be returned to Shapiro either by cash, by return of any of the notes, by reducing any of the notes, or a combination of any of these alternatives.
October*131 1, 1945, was the actual date of closing of the transaction between Shapiro and Sperber, and on that date Sperber executed an instrument pursuant to the terms of the foregoing agreement to purchase to which were attached, as Schedule "A," lists of accounts of customers under the heading "Anchor Cleaning Service, Inc. Customers" and "General Cleaning Service Customers." Such lists were of customers for which the respective business entities were providing window and general cleaning service. These accounts *1031 were personal service accounts which could be freely discontinued by the customers and were not enforceable contracts. Following execution of the above agreements, Sperber was no longer in the window cleaning business, although he remained in business servicing only the floor waxing accounts. He operated this business under the name "Anchor" as permitted by the agreement of September 14, 1945, and exercised his right thereunder to select and solicit 26 inactive accounts and to deal with them for such business.
The purchase price paid by Shapiro to Sperber for the stock of Anchor and the name and goodwill of General was the aggregate of the valuation of the accounts computed*132 by multiplying the monthly dollar billing of each account by $ 9 for general cleaning accounts and by $ 10 for window cleaning accounts, both as shown in the separate columns of Schedule "A" attached to the aforementioned instrument of October 1, 1945. The journal entry made to record this transaction of October 1, 1945, is as follows:
This opening journal entry is made to record the opening of a double entry set of books for Anchor Cleaning Service Co., the window and office cleaning business operated by Irving Shapiro. Then I have debit cost of route $ 83,972.72, credit indebtedness Herman Sperber, $ 22,000.
Notes payable Herman Sperber, $ 61,972.72 to record the purchase of route and business by Irving Shapiro and his investment therein.
The route includes 443 accounts at $ 10, $ 4,048.76, giving a total of $ 40,487.60 and 74 accounts at $ 9, $ 4,831.68, giving a total of $ 43,485.12, total of $ 83,972.72. 1
Some time during the period October 1, 1945, *133 to March 4, 1947, Irving M. Shapiro employed a solicitor to acquire more customers. New customers were in fact obtained.
Anchor Cleaning Service, Inc., a New York corporation, was dissolved by certificate of dissolution filed in the New York Department of State on December 30, 1946, and advertised in the American Banker, a daily newspaper, once each week for 2 successive weeks commencing January 6, 1947. In the liquidation of Anchor, the corporation dissolved on December 30, 1946, and Shapiro, its sole stockholder, acquired all of its assets. Thereafter, he carried on the window and general cleaning business as sole proprietor until March 4, 1947, on which date petitioner was incorporated and Shapiro transferred thereto the window and general cleaning business that he was carrying on as a sole proprietor in exchange for which he received all the capital stock thereof. The journal entry recording this transfer of a business to petitioner on March 4, 1947, shows that the following assets and liabilities were transferred:
Cost of route; machinery and fixtures; truck and autos; notes payable Herman Sperber; loans payable Modern Industrial Bank; loans payable Nathan Shapiro; loans *134 payable Federal House and Window Cleaning Company; loans *1032 payable Keystone Window Cleaning Company; notes payable Chase National Bank; to record assets taken over and liabilities assumed as of this date as per Irving M. Shapiro's agreement in corporation's minutes.
The value which had been assigned to each account on Schedule "A" attached to the instrument of October 1, 1945, for purposes of calculating the purchase price of the stock of Anchor Cleaning Service, Inc., and the name and goodwill of General Cleaning Service Company was deducted by the petitioner whenever a customer on those lists discontinued doing business with the petitioner. Schedule B (Cost of Operations) attached to petitioner's Federal income tax return for the fiscal year ended March 31, 1948, contains, among other items, one entitled "Route Expense -- $ 9,728.76" representing the total value assigned to the accounts which discontinued doing business with the petitioner during such years. Schedule B (Cost of Operations) attached to petitioner's Federal income tax return for the fiscal year ended March 31, 1949, contains, among other items, an item entitled "Route Expense -- $ 7,755.00" representing *135 the total value assigned to the accounts which discontinued doing business with the petitioner during such year. At no time did Shapiro or petitioner depreciate or amortize, or take obsolescence or other periodic adjustment with respect to these accounts. They remained capitalized at the purchase price thereof on petitioner's books until actual loss occurred.
The New York State franchise tax for 1948 was 4 1/2 per cent and for 1949 was 5 1/2 per cent. Respondent made no allowance for such tax in adjusting petitioner's net income and determining the deficiency herein involved.
OPINION.
The primary question here is whether petitioner is entitled to deduct the losses sustained in the taxable years by reason of the discontinuance by certain of its customers of their general and window cleaning accounts which accounts petitioner had purchased.
According to the pleadings herein, petitioner seeks to establish such deductions as either trade or business expenses under section 23 (a) of the Internal Revenue Code or as losses sustained by a corporation and not compensated for by insurance or otherwise under section 23 (f) thereof. 2
*136 *1033 The facts found by us on this record not only do not establish the propriety of the claimed deductions under section 23 (a), supra, but to the contrary, tend affirmatively to refute them. It is quite clear that the acquisition of the accounts in question constituted a capital investment and that the principal element of the property so acquired was goodwill. The Pevely Dairy Co., 1 B. T. A. 385. Nor do we understand petitioner seriously to contend otherwise. This being true, the deductions sought cannot be justified under section 23 (a). Furthermore, since the element of goodwill is involved, it is also clear that such deductions are not allowable under section 23 (l). Cf. Red Wing Malting Co. v. Willcuts, 15 F. 2d 626. See also Regs. 111, sec. 29.23 (l)-3.
With regard to petitioner's claims under section 23 (f), supra, the basic disagreement between the parties appears to be as to whether the accounts in question collectively constitute one capital asset or a composite of separate individual capital assets. Petitioner takes the latter view and maintains that the present situation is to be distinguished*137 from those involving unitary business routes or customer lists wherein the aggregate of patrons constitutes the indivisible goodwill of a business entity. It is petitioner's contention that here there was a purchase of separate accounts, so evaluated and bargained for, and acquired for a consideration which equaled the total of the purchase prices individually so assigned to each. On the other hand, respondent takes the position that the accounts in controversy constitute one asset, consisting largely of goodwill, and composed, for the most part, of a list of customers who subscribed for petitioner's services. Respondent, therefore, argues that any increase or decrease in the number of such customers would be merely an incidental fluctuation of the whole listing; that, while such may cause a corresponding fluctuation in the value of the asset, goodwill, the entire asset itself is not thereby lost; and that any loss deduction must await a final disposition thereof. To support such divergent views, both parties cite and strongly rely upon Metropolitan Laundry Co. v. United States, 100 F. Supp. 803">100 F. Supp. 803.
In the cited case the taxpayer, at the time of*138 its organization in 1903, acquired certain plants, equipment, and laundry routes in both San Francisco and Oakland in exchange for its capital stock. Thereafter, for a period of approximately 40 years, the taxpayer successfully carried on its laundry business in the two cities. The operation in San Francisco was wholly distinct from that in Oakland, the business in the latter city being carried on under an entirely different name. In 1943, the United States took possession of the taxpayer's San Francisco plant and facilities for the use of the Armed Forces, whereupon the taxpayer was forced to abandon completely its San Francisco laundry routes, although it continued to operate its Oakland plant and to service its routes therein. Thereafter, upon being *1034 restored to possession of its San Francisco plant, the taxpayer immediately resumed operation and tried unsuccessfully for approximately 3 years to regain and re-establish its civilian business. Finally, in 1949, it closed its San Francisco plant and abandoned its laundry routes in that city.
The United States District Court for the Northern District of California, Southern Division, sustained the taxpayer in its contention*139 that its capital investment in San Francisco laundry routes was completely lost in 1943 when the routes were abandoned and that such loss was deductible under section 23 (f) of the Code. In the course of its opinion, the court said that:
in a tax sense, a capital asset in the form of a list of customers regularly subscribing for goods or services is not to be regarded as an aggregation of disconnected individual subscribers. Such lists have been treated as unitary structures irrespective of incidental fluctuations and alterations. Houston Natural Gas Corporation v. Commissioner, 4 Cir., 1937, 90 F. 2d 814, natural gas consumers; Meredith Pub. Co. v. Commissioner, 8 Cir., 1933, 64 F.2d 890">64 F. 2d 890, magazine subscribers; Commercial National Insurance Co., 1928, 12 B.T.A. 655">12 B.T.A. 655, insurance policyholders; Rose C. Pickering, 1926, 5 B.T.A. 670">5 B.T.A. 670, newspaper subscribers; Appeal of The Danville Press, Inc., 1925, 1 B.T.A. 1171">1 B.T.A. 1171, newspaper subscribers. The gradual replacement of old patrons with new ones is not to be regarded as the exchange of old capital assets *140 for new and different ones, but rather as the process of keeping a continually existing capital asset intact. * * *
The foregoing rationale is that to which respondent adverts for support of his present position. Later in its opinion and in answer to the Government's contention that the loss there sustained by the taxpayer was not recognizable for tax purposes because it was not evidenced by a "closed and completed" transaction since the taxpayer did not completely withdraw from the laundry business at the time its San Francisco routes were lost, the court spoke as follows:
It may be granted that good will cannot exist in the abstract, apart from a going business, and that, generally speaking, the good will of a business cannot be entirely disposed of or destroyed while the business continues. But certainly a going concern can dispose of its business in a particular area or in respect to a particular product or service along with the incident good will without abandoning its entire business. * * * And, * * * so long as the business and the good will disposed of may be assigned a distinct transferable value, the transaction may properly be recognized, for tax purposes, as a closed*141 one. * * *
Petitioner relies upon the language last above quoted to bolster its position. However, it is our considered opinion that petitioner draws scant support therefrom. The significant fact which is the key to the conclusion there reached by the court, as to the propriety of which we do not feel called upon to express an opinion, is not the loss by the taxpayer of part or all of its customers in San Francisco, but rather that following such loss, petitioner abandoned its entire *1035 San Francisco operation. The same is not true here. In this case, following the loss by petitioner of a portion of its customers, there was no abandonment or disposition by it of any identifiable segment of its business. Neither, for aught the record shows, did petitioner put itself in a position where it would be unable to solicit or to serve such customers should they later decide to return to it.
Moreover, the accounts acquired by petitioner through Shapiro from his vendors constituted a single intangible asset in the form of a list of customers, petitioner's contentions to the contrary notwithstanding. That the total price paid was the sum of the monthly billing of each customer, *142 multiplied by $ 9 or $ 10, as the case may be, does not make each customer's account a separate unit or asset. The base thus employed was merely a formula for determining the total purchase price to be paid. What petitioner actually is seeking here is a deduction for a partial loss of a capital investment, which deduction is not permitted under the Code. Rather, any such deduction must await the final disposition of the capital investment. Respondent is sustained on this issue.
There remains petitioner's claim with regard to the New York State franchise tax which it asserts will be increased as the result of the holding herein. Insofar as the liability on which such tax is based was proper and uncontested by petitioner, the deficiency for the taxable year before us will be reduced by that portion of the increase in State tax applicable thereto. Curran Realty Co., 15 T. C. 341. However, no deduction is allowed for the year in controversy for the additional State tax that will be payable with respect to the item herein litigated. Concord Lumber Co., 18 T. C. 843. Accordingly, we so hold.
Decision will be entered under*143 Rule 50.
Footnotes
1. These figures are as testified by petitioner's accountant.↩
2. SEC. 23. DEDUCTIONS FROM GROSS INCOME.
In computing net income there shall be allowed as deductions:
(a) Expenses. --
(1) Trade or business expenses. --
(A) In General. -- All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, * * *
* * * *
(f) Losses by Corporations. -- In the case of a corporation, losses sustained during the taxable year and not compensated for by insurance or otherwise.↩