*1310 Upon the evidence, held that the partnership of Hind, Rolph & Company is not shown to have had no invested capital or not more than a nominal capital employed in its business in 1917 and is not entitled to have its profits tax for that year computed under the provisions of section 209 of the Revenue Act of 1917.
*432 The taxes in controversy are profits taxes for the calendar year 1917, in the amount of $199,611.29. Two issues are raised by the pleadings - (a) the bar of the statute of limitations; and (b) petitioner's right to have his profits tax computed under section 209 of the Revenue Act of 1917.
By opinion promulgated November 9, 1929, , the Board held with respect to issue (a) that collection of the deficiency was barred by the statute of limitations and in view of this conclusion no findings were made and no consideration had in respect of issue (b). On appeal, the *1311 , decided October 13, 1931, reversed the Board's decision and remanded the proceeding for complete findings of fact and decision upon the merits. The proceeding is now before the Board in accordance with the mandate of that court.
FINDINGS OF FACT.
Hind, Rolph & Company was a partnership organized in 1898 and dissolved in September, 1921. During its entire existence it was composed of two partners, George U. Hind and James Rolph, Jr., each owning a one-half interest. At the time of its organization each of the partners contributed $2,500 in cash and no other contribution to capital was ever made by either of the partners.
The partnership's business activities covered a wide range. It acted as agent for sugar plantations, coffee plantations, coal mines, and steamship companies. It owned and operated a lumber business. It owned a hotel which was under lease during 1917, and a cottage in Honolulu which was rented in that year. It owned a number of sailing vessels and an interest in certain steam vessels and did a general shipping business. Its principal business was that of broker, *1312 agent, and commission merchant. It conducted this business largely on credit, borrowed money, and on deposits and balances left with it by concerns with which it did business.
The partnership did a large volume of business and earned large profits. Each partner drew partnership funds for his personal use and such withdrawals were debited on the books to an account in his name. The books also carried a capital account in the name of each partner which contained the capital originally contributed and additions thereto representing earnings computed upon partnership transactions and allocated to the partners. The profits of each year were computed and carried into profit and loss and the credit balance in that account was charged with transfers made to the capital accounts and the drawing accounts of the partners.
On December 31, 1916, the drawing accounts of the partners showed for Rolph a debit balance of $31,953.32 and for Hind a credit *433 balance of $14,175.11. The capital account of each partner showed a credit balance of $100,000 and the profit and loss account showed a credit balance of $7,778.20. In addition to these accounts, the books carried an account*1313 entitled "James Rolph, Jr., Insurance Premium Account," to which were charged payments made from time to time by the partnership on behalf of James Rolph, Jr., representing premiums paid on his life insurance in which the partnership had no interest. On December 31, 1916, this account showed a debit balance of $75,945.03. In the partnership accounts the insurance premiums and the debit balance accounts were treated as withdrawals, resulting in a net capital, as shown by the partnership books at December 31, 1916, of $114,054.96.
In 1904 the partnership purchased the stock of the West Shore Land Company for $155,375. The West Shore Land Company was a corporation holding unimproved real estate. The investment was entered in the partnership's books at cost. During 1904, 1905, and 1907 the account was increased by the amounts of $1,625, $45,000 and $48,000 in the respective years, making a total appreciation in value over cost of $94,625. These items of appreciation when entered in the partnership books were credited to profit and loss account as earnings.
In 1908, book entries were made showing a sale of the West Shore Land Company's stock to the Hind Company for $250,000. *1314 The West Shore Land Company account was at that time debited with $250,000 and a like sum was credited to the partnership's bills receivable account. Both the Hind Company and the West Shore Land Company were owned by the partnership. The Hind Company was a small corporation with a paid-in capital of $2,000, organized to carry on a real estate brokerage and insurance business and to manage age the real estate of the Hind estate. It was managed from the partnership offices by two of the partnership's employees. The purpose of the transaction was to improve the credit of the partnership, the result being that the $250,000 item theretofore appearing in the books as a stock investment was shown in the partnership's bills receivable account as a "liquid asset." Interest totaling $3,500 was credited on the account from August 31, 1909, to December 31, 1911. In 1911 the partnership's bookkeeper was instructed by the petitioner, Hind, that the whole transaction was a nullity. Thereafter, no further interest charges were made. The principal item of $250,000 and unpaid interest in the amount of $30,000, $5,000 of interest having been actually paid to the partnership, remained in the*1315 books until March 30, 1918, when the $250,000 item was transferred back to the West Shore Land Company stock account.
Included in the partnership balance as of December 31, 1916, was an account termed "Wm. T. Lewis Ship Investment Account," representing *434 an investment made by the partnership in 1910. On December 31, 1912, the cost of the investment was increased by the amount of $14,000 and on June 30, 1916, by the amount of $50,000, representing estimated appreciation. The amounts of these additions were carried into profit and loss account as earnings.
On December 31, 1916, there was included in the partnership balance in bills receivable notes of one L. A. Crandall for $30,024.95 and $16,577.16, or a total of $46,602.11, and interest thereon which had been charged on the books in 1911, 1912, and 1913 in a total of $5,460.25, and included in profit and loss as income of those years. None of this interest had been collected and none was charged on the books after 1913. For the year 1917 these notes and interest were charged off as uncollectible, but credit for their total, as a deduction in computing net income for that year, was disallowed by the respondent upon*1316 the ground that their worthlessness was evident in prior years. These notes, together with the interest, were uncollectible on December 31, 1916.
There was included in the partnership balance as of December 31, 1916, an account entitled "Ship John Eno, Nitrate Account." On June 30, 1916, this account was debited $9,400 as "estimated profit" and the amount was carried into profit and loss as earned income. The nitrate account was an investment or venture in a ship cargo. The profit in question was not actually realized until 1917 and, in computing the partnership income for the latter year, respondent included it as income for that period.
Included in the partnership balance on December 31, 1916, was an account in the amount of $106,709.24 termed "Lost Hills Account." This represented an original investment by the partnership in 1913 of $134,206.90 for a two-thirds interest in a section of desert land in California, purchased as a speculation, because of its possibilities as an oil property.
The purchase was made jointly with one Sullivan, who took a onethird interest. In May, 1913, the partnership and Sullivan sold one-half of this section to the Monte Cristo Oil Company*1317 for a consideration of $144,000, payable $70,000 cash, a note for $10,000 and 64,000 shares of stock of the oil company. This oil company immediately drilled for oil and, none being found, the operations were abandoned. The consideration for the sale of this half section of land was entered as $144,000 on the "Lost Hills Account" and the partnership thereupon appreciated the book value of its two-thirds interest in the remaining one-half section of land, and took credit against the account for payments made to Sullivan of one-third of the proceeds of the sale and transfers made to profit and loss as profits realized, leaving a net balance in the account of $106,709.24.
*435 Included in the partnership accounts as of December 31, 1916, were bills receivable, "Miss Gregory," $75; "E. M. Long," $250; and "F. Bronwell," $25, or a total of $350. These intems represented indebtedness due the partnership for advances made to Miss Gregory, a stenographer, in 1911, and to the other parties in 1908. The accounts were charged off as uncollectible in 1917 and 1918, and credit taken therefor in computing income for those years. The deductions were disallowed by respondent, upon the*1318 ground that the three items represented losses incurred in prior years. The items were uncollectible on December 31, 1916.
Included in the partnership asset accounts on December 31, 1916, was one "Albermain Collieries - $498.60." This item represented the cost of advertising by the partnership, in 1910, 1911, and 1912, of a coal of which they were the selling agents. These expenditures were not capital in character, but merely business expenses of the years in which made, and should have been so charged. The item represented nothing of asset value on December 31, 1916.
Included in the partnership asset accounts on December 31, 1916, were two designated as "Merchants Exchange Membership" and "United Steel Account." The first account had been arbitrarily written down in amount by $300 in 1913, and the second had been written down $1,316.09 in 1916, these reductions being made from book cost on an estimate of loss in value.
The balance sheet of the partnership as of December 31, 1916, filed with the partnership's 1917 return, shows the following assets and liabilities:
| ASSETS | ||
| Assets necessary for conduct of business from whichrevenues are derived: | ||
| Cash on hand | $550.00 | |
| Furniture and Fixtures | 5,390.48 | |
| $5,940.48 | ||
| Assets not necessary for conduct of business, but acquiredthrough use of borrowed money: | ||
| Bills Receivable | $146,093.19 | |
| Due from Principals | 224,416.59 | |
| 370,509.78 | ||
| Assets having no connection with, and distinctly apart from, operation of business: | ||
| Real Estate | $252,860.96 | |
| Stock Investments | 537,982.78 | |
| 790,843.74 | ||
| $1,167,294.00 | ||
| LIABILITIES | ||
| Bank Overdraft | $51,021.49 | |
| Notes Payable | 452,567.00 | |
| $503,588.49 | ||
| Due to Principals | 585,266.14 | |
| Due Geo. U. Hind, Partner | 14,175.11 | |
| Undivided Profits | $207,778.20 | |
| Less Advances to Partners | 143,513.94 | |
| 64,264.26 | ||
| $1,167,294.00 |
*1319 *436 The following is a statement of income for the calendar year 1917, also filed with the partnership's 1917 return:
| Income from Commissions, brokerages, etc., involving no Capital: | ||
| Commissions on Sugar, Union Steam Ship Co., etc | $84,015.76 | |
| Ship Brokerages | 20,284.64 | |
| Importing Gains | 99,813.22 | |
| Exporting Gains | 113,192.15 | |
| Insurance Commissions | 5,819.93 | |
| Miscellaneous Gains | 1,350.80 | $324,476.50 |
| Income from investment of borrowed money: | ||
| Profit on sale of vessel interests | $100,110.22 | |
| Hotel Beresford rents | 12,663.48 | |
| Interest received | 23,724.89 | 136,498.59 |
| $460,975.09 |
The real estate item in the balance sheet includes the Lost Hills property at $106,709.74, the hotel property at $143,651.22, and the cottage at Honolulu at $2,500. The stock investments item includes the vessels referred to above, being 16 in number, at $235,410.88, and miscellaneous stocks at $302,571.90.
The respondent has refused to compute the petitioner's profits tax under section 209 as a partnership having no invested capital or not more than a nominal capital, but has computed it under section 210. The computation in the deficiency notice shows a profits tax*1320 of $223,405.77, computed on a net income of $581,294.24 and a net income subject to profits tax of $517,862.24.
OPINION.
SMITH: The only question to be determined is whether the partnership of Hind, Rolph & Company is entitled to have its profits tax for the calendar year 1917 computed under the provisions of section 209 of the Revenue Act of 1917. This section of the act reads as follows:
That in the case of a trade or business having no invested capital or not more than a nominal capital there shall be levied, assessed, collected and paid, in addition to the taxes under existing law and under this Act, in lieu of the tax imposed by section two hundred and one, a tax equivalent to eight per *437 centum of the net income of such trade or business in excess of the following deductions: In the case of a domestic corporation $3,000, and in the case of a domestic partnership or a citizen or resident of the United States $6,000; in the case of all other trades or business, no deduction.
Under the Revenue Act of 1917, the partnership is considered, for purposes of computing income and profits taxes, as an entity. Its invested capital is to be determined as in the case*1321 of a corporation. Section 207 of that act provides in part:
That as used in this title, the term "invested capital" for any year means the average invested capital for the year, as defined and limited in this title. averaged monthly.
As used in this title "invested capital" does not include stocks, bonds (other than obligations of the United States), or other assets, the income from which is not subject to the tax imposed by this title nor money or other property borrowed, and means, subject to the above limitations:
(a) In the case of a corporation or partnership: (1) Actual cash paid in, (2) the actual cash value of tangible property paid in other than cash, for stock or shares in such corporation or partnership, at the time of such payment (but in case such tangible property was paid in prior to January first, nineteen hundred and fourteen, the actual cash value of such property as of January first, nineteen hundred and fourteen, but in no case to exceed the par value of the original stock or shares specifically issued therefor), and (3) paid in or earned surplus and undivided profits used or employed in the business, exclusive of undivided profits earned during the taxable*1322 year * * *.
We do not think that the evidence before us warrants a finding that the partnership had no invested capital or not more than a nominal capital in 1917.
The respondent was unable to determine the partnership's invested capital for 1917 and therefore computed its liability to profits tax under the provisions of section 210 of the Revenue Act of 1917. The petitioner contends that it had no invested capital and that it is entitled to assessment under the provisions of section 209 of the taxing act. The burden is on the petitioner to prove that the partnership had no invested capital in 1917.
The evidence shows that the partnership began operations in 1898 with a paid-in capital of $5,000. Its operations from that date to 1917 were admittedly profitable. Large amounts were invested in capital assets. The witness, Chamberlain, testified that the partnership owned a number of ships which it carried on its books at December 31, 1916, at an aggregate sum of approximately $200,000 and a hotel which it carried on its books at $143,651.22. The balance sheet as of December 31, 1916, filed with the partnership return for 1917 lists total assets of $1,167,294, among which*1323 are bills receivable of $146,093.19, amounts due from principals of $224,416.59, real estate of $252,860.96, and stock investments of $537,982.78. The stock investments item includes ships referred to at a value of $235,410.88 and miscellaneous stocks at $302,571.90. Chamberlain, who identified and explained all of the book accounts referred to above, upon *438 being asked how he arrived at the conclusion that the partnership had no invested capital, stated as follows:
I have a knowledge of certain conditions of assets which were simply picked out of the air. In other words, they would increase the valuation of an asset and credit their profit and loss or their drawing account in order to take care of withdrawals of capital. In addition to that they held as assets a number of accounts which should have been written off in prior years.
The witness was unable to furnish his computation of invested capital.
Petitioner contends that the capital assets on its books of account at December 31, 1916, had been written up to the extent of more than $300,000, which the petitioner contends should apply against the net capital as shown by the partnership books at December 31, 1916, of*1324 $114,054.96, leaving a deficit or minus invested capital of more than $200,000. In the making of this computation the total capital account, as shown by the books at December 31, 1916, of $221,953.31, is reduced by the amounts of the Rolph drawing account, $31,953.32, and the Rolph insurance account, $75,945.03, leaving a partnership net worth, as shown by the books, of $114,054.96.
In , the Supreme Court stated:
* * * Section 207 [Revenue Act of 1917] shows that Congress was fully alive to this and designedly adopted a term - "invested capital" - and a definition of it, that would measurably guard against inflated valuations. The word "invested" in itself imports a restrictive qualification. When speaking of the capital of a business corporation or partnership, such as the act deals with, "to invest" imports a laying out of money, or money's worth, either by an individual in acquiring an interest in the concern with a view to obtaining income or profit from the conduct of its business, or by the concern itself in acquiring something of permanent use in the business; in either case involving a conversion*1325 of wealth from one form into another suitable for employment in the making of the hoped-for gains. * * *
The evidence clearly shows that the partnership on December 31, 1916, had large amounts of capital invested in assets from which income was derived in 1917. In the circumstances of the case, we are of the opinion that the amounts which had been advanced to the partners by the partnership did not represent distributions of earnings or distributions to the partners of the original paid-in capital of the partnership which was carried on the partnership books at December 31, 1916, in substantial amount. The partners were liable to the partnership creditors for the amounts that they had drawn from the partnership. We think the evidence does not show that the partnership had no invested capital in 1917.
If it is true that substantially all of the partnership income in 1917 was due to its commission and brokerage business, in which not more than a nominal capital was used, it is not shown by the evidence. *439 The petitioner, Hind, testified that most of the partnership business was "foreign business." Was the merchandise transported to and from foreign countries in the*1326 vessels which the partnership owned and operated? The evidence before us does not show for what purpose the vessels were used or to what extent their use contributed to the partnership income. In these respects, the petitioner has failed to meet the burden of proof. See ; ; certiorari denied, . The evidence indicates that the partnership employed in its business large sums of money, amounting at times to $300,000 or $400,000, left on deposit with it by other concerns with which it did business. In , the court expressed the opinion that borrowed money should be considered in determining whether there was more than a nominal capital employed in the business. In , the court, in considering the identical question here raised, said:
* * * The real criterion is in the fact finding of whether money as an income producer played any real and substantial part in producing the income to be taxed. Each tub must thus stand on its own*1327 bottom, and the sole question becomes how the fact stands here.
With respect to the source of the partnership's income for 1917, the respondent's deficiency notice contains the following statement:
1. Careful consideration of all the evidence submitted fails to show "no invested capital" or "not more than a nominal capital" for the year 1917. The partnership was engaged in buying and selling merchandise as principals, made loans, owned stocks, vessels, real estate and operated a hotel and a lumber business. Depreciation was allowed for the year 1917. It is apparent that the partnership had a substantial amount of invested capital. The manner in which it was furnished by the partners does not alter the fact that it existed.
2. From the evidence submitted it is evident that in addition to be commission or brokerage business, the partnership was engaged regularly in the buying and selling of merchandise, lumber business, operating a hotel, owning and operating vessels, investing in stocks and real estate, making loans, in fact was ready to invest in any venture from which a profit could be realized. It is noted that of the total income amounting to $638,750.90 for the year*1328 1917, only $93,542.82, or about 14 2/3%, represented commissions.
It is accordingly held that the partnership had invested capital as set forth in office letter dated November 15, 1921, and that all the transactions requiring the use of capital were a part of the regular business of the partnership.
The evidence before us fails to overcome the presumption of correctness attaching to the respondent's determinations, and upon the record the respondent is sustained.
Reviewed by the Board.
Judgment will be entered for the respondent.