*2668 1. A segregated surplus of $20,610.54 should not have been applied to reduce invested capital at December 31, 1917.
2. The voluntary payment without assessment of income and profit taxes in the amount of $17,298.79 for 1918 should have been given effect in determining a tax liability for that year, and the Board has jurisdiction in such matters.
3. The so-called "tentative tax" may not be applied in determining a reduction of invested capital by reason of dividends paid in 1918.
4. Excess reserves for accrued state, real estate and personal property taxes may not be applied to reduce invested capital beyond the amount actually due and unpaid at the end of the preceding taxable year; and such taxes actually accrued for any taxable year are proper and lawful deductions in such year and in none other.
*1401 This appeal is from the determination of the Commissioner rejecting the petitioner's claim in abatement. The taxes in controversy are income and profits taxes for the calendar year 1918 and are in the total amount of*2669 $50,866.92.
The petitioner asserts that the Commissioner erred:
(a) In reducing the petitioner's invested capital by the amount of $20,610.54, representing a portion of the petitioner's surplus included in a special account at December 31, 1917;
(b) In failing to take into consideration in computing the amount of tax due fur 1918, an amount of $17,298.79 paid subsequent to the filing of the income and profits-tax return for the year 1918;
(c) In reducing the invested capital on account of a tentativet tax, and thus reducing the amount of current earnings for the payment of dividends, paid in 1918;
(d) In reducing invested capital for the year 1918 by the amounts of $9,376.74 and $18,637.73 alleged to represent accrued state taxes and accrued taxes on real estate and personal property;
(e) In reducing invested capital by amounts alleged to represent accrued state and property taxes at December 31, 1917, and at the same time failing to allow as a deduction in computing 1918 taxable income the amount of state and property taxes accrued during the year 1918.
*1402 FINDINGS OF FACT.
The petitioner is a New Jersey corporation with its principal office at 90 West*2670 Street, New York City. Affiliated with the petitioner during 1918, was the Manitowoc Land and Fuel Co. of Manitowoc, Wis., a consolidated income-tax return being filed for the year 1918. The Commissioner proposed a deficiency assessment for that year of $50,866.92 and subsequently rejected a claim in abatement for that amount, thus giving rise to the questions here involved.
The petitioner and its subsidiary are engaged in the business of buying and selling coal. The business of the Lehigh Valley Coal Sales Co. is wholesale only, while its subsidiary sells both at wholesale and retail. The petitioner purchases coal from the operators or mine owners and sells it to wholesale coal dealers.
(a) During the year 1913, the legislature of the Commonwealth of Pennsylvania passed a law levying a tax on all coal mined in that State. All of the producing companies from which the petitioner purchased coal, with one exception, charged the petitioner with the amount of the tax. The exception was the Raub Coal Co. In February, 1916, the petitioner set up a reserve of $20,610.54 to cover any possible claim that the Raub Coal Co. might later assert for the amount of such tax. This amount*2671 was segregated from its surplus by the petitioner in filing its 1916 income-tax return, but was not deducted from its income for that year. Business relations under the Raub Coal Co. contract had been terminated by that company prior to December 31, 1917. No claim had ever been asserted against the petitioner for any part of the tax that the Raub Coal Co. might have been called upon to pay to the Commonwealth of Pennsylvania, and during the year 1918 this segregated part was retransferred by the petitioner to its general surplus account.
(b) The petitioner erroneously deducted from its income in its original tax return for 1918 an amount of $25,000 donated to the American Red Cross. Later, it discovered the error and on April 5, 1921, it voluntarily filed with the collector a recomputation of its tax liability, after restoring to its net income for 1918 the erroneous deduction, and at that time paid to the collector the sum of $17,298.79, representing the additional taxes disclosed by that recomputation. When the Commissioner rejected the petitioner's claim in abatement and computed its tax liability as set forth in the notice of his determination mailed February 2, 1924, he*2672 failed to take into consideration this additional payment, and until the time this petitioner appealed to this Board from the Commissioner's determination of the deficiency in accordance with his letter of July 6, 1926, he had refused to consider such payment. Subsequent to the filing of this appeal, the collector has credited this amount, together with three *1403 other payments, against the additional assessment of $50,966.92 which had been made on the basis of the Commissioner's letter of February 2, 1924.
(c) During the year 1918, the petitioner paid dividends in the total amount of $1,726,482.84. In the audit of the petitioner's income-tax return for that year, the Commissioner determined its net income available for such dividends by "the method outlined in Article 857, Regulations 45." The result of the computation was a "tentative tax" of over $1,500,000, thus reducing the amount of earnings available for the dividends at the times they were paid, and so decreasing in turn the petitioner's invested capital by an "adjusted average" for the year of more than $320,000.
(d) and (e) The Commissioner reduced the petitioner's consolidated invested capital for the year*2673 1918 by the sum of two reserves; one captioned "Real Estate and Personal Property Taxes" in the amount of $18,637.73, and the other, "State Tax" in the amount of $9,376.74, "for the reason that an analysis of surplus for the taxable year 1917 indicates that these accounts have been treated as accrued expenses and as such are properly excluded from the computation of invested capital." In doing this the Commissioner deducted a greater amount than the amount of taxes accrued or accruable at December 31, 1917. A part of that amount was recovered in 1918, and a part in 1919. In 1918 the Commissioner failed to permit a reduction from gross income of all the taxes actually accrued in that year.
OPINION.
LOVE: In regard to the first issue - (a), counsel for the respondent concedes "that the sum of $20,610.54 (erroneously quoted as $20,614.54), being a contingent liability in 1918, should not have been deducted from petitioner's invested capital for the calendar year 1918." Accordingly we find for the petitioner on this issue.
In regard to the second issue - (b), counsel for the respondent argues that it is neither proper nor necessary for this Board to take into consideration this*2674 voluntary payment by the petitioner of $17,298.79, and that the proper application of this credit is solely a matter for adjustment by the collector of internal revenue at New York. We do not agree with that contention.
We cite , not because it offers an exact precedent for the case at bar, but because the exhaustive discussion of its several issues, both direct and collateral, and the reasoning upon which that opinion was based, bear directly upon and illuminate such controversies as that now before us for determination. Briefly, the Board there held that an appeal once properly before it in connection with a deficiency determined and declared *1404 by the Commissioner, it was clearly within its province and power to examine into and decide all issues presented for its consideration. Therefore, it is within the jurisdiction of this Board not only to redetermine the taxpayer's deficiency, but to establish as well his tax liability. In the instant case the petitioner concedes that subsequent to the filing of this appeal, the collector has credited the payment of $17,298.79 in question, made in 1921, together with three*2675 other payments, against the additional assessment of $50,866.92; but it is contended that it is the right of the taxpayer to have such payments taken into account by this Board in its determination of the taxpayer's liability. We are of the opinion that since the Commissioner has determined and is claiming a deficiency, this taxpayer is entitled to have the Board determine whether the deficiency is as determined by the Commissioner or a lesser amount. We, therefore, on this issue sustain the principle contended for by the petitioner, although it is conceded that the situation premised has been avoided in this case by the proper, though apparently delayed, credit upon the books of the collector of internal revenue in New York.
The third issue - (c) - has to do with the question of the reduction of invested capital by the computation and deduction from earnings available for dividends of the so-called "tentative tax" upon such earnings. This question has been heretofore so often passed upon by this Board that it would be supererogatory to do more than refer to prior decisions, the earliest of which is *2676 , and to the extended discussion in All , and the cases therein considered. In all of these cases the Board denied the propriety of the theory of the "tentative tax." In two recent court decisions rendered in January, 1929, this action of the Board has been affirmed. , and .
The summary of the Commissioner's computation is as below:
| Dividends paid | |||||
| Date | Amount | Available earnings | Paid out of surplus | Number of days effective | Adjusted average |
| Apr. 1 | $390,584.00 | $597,242.70 | None. | ||
| May 16 | 945,256.84 | 505,280.05 | $439,976.79 | 230 | $277,245.65 |
| Feb. 1 | 390,642.00 | 305,257.38 | 85,384.62 | 184 | 43,043.21 |
| Invested capital decrease | 320,288.86 |
We hold the result of this computation erroneous because based upon an error of principle, and sustain the petitioner upon this issue.
From a consideration of the evidence introduced in*2677 connection with the fourth issue (d), it appears that prior to December 31, 1917, the *1405 petitioner had overpaid its real estate and personal property taxes in the amount of $2,228.14, of which $2,165.34 was recovered in 1918 and $62.80 in 1919. The petitioner contends that this amount was paid under protest and since the amounts were recovered under decisions of the Supreme Court of the State of Illinois, they formed in fact a part of the petitioner's invested capital at December 31, 1917. Counsel for the respondent contends, on the other hand, that these amounts, among others, were properly deducted from the petitioner's invested capital at that time and that they should be included as income in the years in which recovery was had, asserting "that the analogy between this situation and that in which a question of a bad debt presents itself is perfect." On our part, we see nothing even remotely analogous in the two cases, and we are bound to find for the petitioner. The Board has heretofore considered such questions, notably in *2678 , where we held that certain Spanish War taxes paid to the United States Government between 1898 and 1910, and recovered in 1926, formed a part of the taxpayer's invested capital for the interim.In that case the Commissioner confessed error in reducing earned surplus by reason of such payments. To the same effect, but of somewhat different tenor, is our decision in , where we held that a state inheritance tax paid in 1922 under a law which was later held to be unconstitutional, and which tax was refunded in 1925, was not a legal deduction from gross income in 1922. Obviously, then, it could not be income in 1925 when the recovery was had, although that was not the issue presented to the Board for consideration.
In the instant case, the amount of state taxes paid prior to December 31, 1917, and deducted on the returns for the years for which the payments were made, was paid under protest and in compliance with unconstitutional legislation. Hence, such taxes were illegally demanded, paid and deducted, and therefore void ab initio. That being true, it follows*2679 inevitably and in conformity with our decisions above cited, that the amounts so paid and deducted formed a part of the petitioner's taxable income in the years in which the unwarranted deductions were made, on which it was, in fact and in law, due an income tax. The petitioner paid a less amount of Federal taxes in those years than it legally owed, and amended returns or additional assessments were available to correct the error; but the fact that state taxes were erroneously paid in those years does not render them taxable income in a subsequent year in which they were refunded.
The petitioner contends that the correct amount of taxes accrued against the Lehigh Valley Coal Sales Co. at December 31, 1917, was $18,600.20, and that the correct amount of taxes accrued against the Manitowoc Land & Fuel Co. at the same date was $35.84; and that *1406 therefore the amount by which the petitioner's invested capital should have been reduced at December 31, 1917, was $18,636.04. With this computation the respondent agrees, provided that we find ourselves unable to support his contention. We therefore hold for the petitioner upon this issue, in the amount last mentioned. These*2680 items may not have been taxes at all, but a part of the cost of coal. See .
Concerning the fifth issue - (e), it follows as a corollary to what we have said above, that state taxes accrued in 1918 are a proper and lawful deduction in that year and in none other.
There is some doubt in the mind of the Board whether all these items considered here as taxes are properly so classified. In some instances they appear to have been amounts paid to or received from lessees or lessors in adjustments required under the various leases. In that case they would seem to be of the nature of adjustments of rent rather than the payment of or recovery of taxes; but as either rents accrued or such taxes accrued are proper deductions, that point is not material to the discussion and decision of the principles considered and decided herein.
Judgment will be entered under Rule 50.