*1942 A corporation, for which the petitioner had performed valuable services, surrendered to the petitioner the latter's notes in payment for the services rendered and for certain shares of stock which had cost the petitioner $16,000. The petitioner had income or profit in the amount of the difference between the cost of the stock and the face value of the notes.
*41 The Commissioner determined deficiencies in the petitioner's income taxes as follows:
| 1923 | $2,701.66 |
| 1924 | 10.95 |
| 1925 | 793.40 |
The sole issue is as to whether the Commissioner erred in including $15,901.03 in income for 1923 as a profit from a transaction whereby the petitioner's promissory notes in the total amount of $31,901.03 were canceled upon the transfer to the holder of the notes of certain stock which, according to the Commissioner's calculation, had cost the petitioner $16,000. At the hearing the parties agreed that if the item of $15,901.03 was not income for the year 1923, then the petitioner had a net loss for that year which*1943 will affect the Commissioner's determination for the years 1924 and 1925.
FINDINGS OF FACT.
The petitioner is a corporation with its principal office at Pittsburgh, Pa.
The George J. Hagan Co., hereinafter referred to as the Old Company, was engaged in the business of constructing and equipping metallurgical furnaces. These furnaces required special stokers known as Type H, which were made by the Combustion Engineering Corporation. The Old Company had the exclusive selling rights for the Type H stoker within the United States, and sold these stokers as a part of the equipment for the metallurgical furnaces. At a date undisclosed in the record, the Combustion Engineering Corporation developed and marketed a new stoker known as Type E, for use in steam power plants. Hagan feared that the business of the Old Company would be affected if the manufacturers *42 of the Type E stoker opened a sales agency in the Pittsburgh territory. He procured for the Old Company the rights to sell the new Type E stoker. The Old Company was not equipped to sell this new type of stoker because its engineers were not familiar with steam power plants. J. M. Hopwood, a combustion engineer, *1944 was employed in 1915 for the purpose of handling this branch of the business. He became general manager of the Old Company, which agreed to pay him a salary and a commission, with the understanding that he would be taken into the company if he procured $100,000 worth of business by the end of the first year. By a later agreement he was to have one-half of the profits of the business.
The Old Company spent a considerable sum of money in experimenting with and developing combustion control systems for burning coal and in patent investigation of certain ash conveyors. It developed an ash conveyor which it sold in all parts of the United States, but prior patents prevented the commercial success of this ash conveyor. The total amount expended for the development work directly related to the business of handling the Type E stokers was more than $31,901.03, but the total was reduced to this amount by deducting the profits from the sales of the ash conveyors.
Some time prior to 1918 Hagan decided that it would be advisable to separate the hazardous branch of the business, involving liabilities on construction contracts, from the nonhazardous commission branch selling the Type E*1945 stokers. The petitioner was organized in 1918 to take over the selling of the Type E stokers and to develop, patent, and sell other steam specialties. Hopwood, the general manager of the Old Company, became president of the petitioner. The capital stock of the petitioner consisted of 350 shares, of which Hagan owned 135 shares, Hopwood 135 shares, and the balance was held by stockholders of the Old Company.
At the time the petitioner was organized, the only agreement as to its liability to the Old Company for the $31,901.03 expended in the development of that branch of the business taken over by the petitioner, was a verbal one between Hopwood and Hagan that the Old Company would be reimbursed for these expenditures by the petitioner if the latter succeeded.
The contract of the Old Company with the manufacturers of the Type E stokers was not assignable. The Combustion Engineering Corporation agreed to let the members of the petitioner's organization sell these stokers inasmuch as these men had been doing the selling all along, but would not pay the commissions directly to the petitioner. The Old Company agreed to pay the commissions earned by the petitioner, and the manufacturer*1946 continued to apply *43 the commissions on the sale of these stokers against the account of the Old Company for the purchase of the Type H stoker. Instead of paying the commissions to the petitioner regularly as earned, the Old Company retained them in its business. In April, 1919, Hopwood engaged a lawyer to procure the prompt payment of these commissions so that the petitioner could meet its expenses of operation. Hagan thereupon insisted that the petitioner give the Old Company notes for the development expenses amounting to $31,901.03. Hopwood caused the necessary notes to be executed and delivered to the Old Company at a date undisclosed by the record.
The Old Company had some financial difficulties in 1923, at which time the arrangement continued whereby the petitioner was supposed to receive its commissions on the sale of the Type E stokers through the Old Company. Hopwood realized that the collapse of the Old Company would result in a loss of these commissions to the petitioner. He then decided that it would be advisable to separate the petitioner from the Old Company, and took the matter up with the directors of the Old Company. The petitioner had rendered*1947 the Old Company certain valuable services for which it had not been paid. At the directors' meeting the separation of the two companies was agreed to and it was decided that the Old Company owed the petitioner more than the amount of the notes for services rendered it by the petitioner, but on account of the financial condition of the Old Company the notes could not be canceled outright. It was then agreed that if the petitioner would give the Old Company 160 shares of Hagan Foundry Co. stock, the indebtedness of each company to the other would be canceled and the petitioner's notes returned to it. At the meeting of the board of directors of the petitioner corporation on July 13, 1923, the following resolution was passed:
WHEREAS, this Corporation, upon an old indebtedness incurred in the early period of its development, is indebted to the Hagan Company [Old Company] in the amount of $31,901.03, the proceeds of said loan having been expended in a manner which resulted in considerable profit to the Hagen Company; and
WHEREAS, the Hagen Corporation [petitioner] now desires to settle the said claim in order to clear the way for a new program of financing, which program can*1948 probably not be satisfactorily accomplished while said claim exists; and
WHEREAS, the Hagan Company has expressed its willingness to accept in settlement of said claim 160 shares of the capital stock of the Hagan Foundry Corporation.
NOW, THEREFORE, BE IT RESOLVED, that the officers of this Corporation are hereby authorized and instructed to immediately assign to the Hagan Company 160 shares of said Foundry Company's stock with delivery of partly endorsed certificates from their present holdings to be considered as full and final settlement of said claim of $31,901.03.
*44 The Commissioner has computed a profit of $15,901.03 upon the transaction by deducting $16,000 as the cost of the stock, and has included this profit in the petitioner's gross income for the taxable year 1923.
OPINION.
MURDOCK: The petitioner's books of account were not offered in evidence, but we assume that they were kept on an accrual basis. The petitioner's counsel contended at the hearing that in consideration of the return of its notes in the amount of $31,901.03, it gave stock which had cost it $16,000 and services worth more than $32,000. He also contended that the stock given was worth*1949 $24,000 at the time it was transferred. The Commissioner has taxed the transaction as if stock which cost $16,000 had been sold for $31,901.03. In our opinion it is immaterial which of these theories is correct, as the petitioner's profit or income is $15,901.03 under each. Either it sold stock at a profit of $15,901.03, or it sold stock and was paid for services in one transaction from which it had income and/or profit in the total amount of $15,901.03.
The principal argument made in the petitioner's brief is that there was no profit because the transaction was in reality the forgiveness of an indebtedness. It is there contended that the petitioner originally got nothing of value from the Old Company for which it gave the Old Company its notes; neither company regarded the notes as representing a true liability and did not enter them on its books; and the notes had no fair market value at the time they were returned to the petitioner. In our opinion the evidence does not warrant findings of fact to support these contentions. Furthermore, there was no forgiveness of indebtedness when the petitioner's notes were returned to it. The petitioner gave value for what it got and*1950 it received a valuable consideration for what it gave. It had a gain derived from capital, from labor, or from both combined. . A solvent corporation had its outstanding notes in the amount of $31,901.03 returned to it for some services performed and/or some stock which cost it $16,000. It does not matter if, as contended by the petitioner, these notes were originally given for a capital asset. We are not particularly concerned with the original transaction nor with the proper treatment of what was acquired in that transaction. It is sufficient for present purposes to know that after the petitioner received its own notes, it had income or a profit amounting to $15,901.03 which it has never reported for tax purposes and which it could not have reported properly at any other time.
Judgment will be entered for the respondent.