1928 BTA LEXIS 3109">*3109 Personal service classification denied petitioner for the year 1918 and allowed for the year 1919.
13 B.T.A. 1090">*1090 This is a proceeding for the redetermination of deficiencies in income taxes for the years 1918 and 1919, in the respective amounts of $3,720.76 and $4,407.90.
The petition alleges error of the respondent in holding that the petitioner was not, in 1918 and 1919, a personal service corporation.
It is further alleged by the petitioner that since the petitioner was denied personal service classification, and since it was also denied the right to deduct, as an expense, a reasonably salary for its president, although the same was not actually paid to him, the respondent erred in holding that petitioner was not entitled to special relief under sections 327 and 328 of the Revenue Act of 1918.
FINDINGS OF FACT.
The petitioner is a Missouri corporation with its principal office in St. Louis. Prior to its incorporation in 1904, the business was conducted as a partnership. The original incorporators were David J. Gol, Harry M. Pollard, H. F. Mildrum1928 BTA LEXIS 3109">*3110 and B. E. Chappelow. In 1918 and 1919 the officers were B. E. Chappelow, president, W. E. Blacklidge, vice president and A. B. Chappelow, treasurer. W. E. Blacklidge is the father-in-law of B. E. Chappelow, and A. B. Chappelow is the wife of B. E. Chappelow. From the latter part of 1917 to the present time, these three have held all of the stock of petitioner. The petitioner was originally incorporated for $5,000, but prior to 1918 the capital stock was increased to $25,000. In 1918 the stockholdings were:
| Shares | ||
| 1918 | 1919 | |
| W. E. Blacklidge | 1 | |
| A. B. Chappelow | 86 1/2 | 25 |
| B. E. Chappelow | 162 1/2 | 224 |
13 B.T.A. 1090">*1091 Blacklidge is an elderly gentleman and while he was the vice president and a director of the petitioner in 1918 and 1919, he was not actively engaged in the business, but assisted in an advisory capacity. A. B. Chappelow was also inactive, except in an advisory capacity. Neither Blacklidge nor A. B. Chappelow received a salary in 1918 or 1919.
The business conducted by the petitioner was that of a general advertising agent. It consisted of giving advice as to advertising, submitting plans for advertising and carrying out such advertising1928 BTA LEXIS 3109">*3111 by means of various types of advertising media. These media included all kinds of publications, street cars, billboards and direct mail. The petitioner prepared advertising material, which necessitated preparing the art work and furnishing, in many cases, a plate or plates for use in connection with the advertising. The petitioner reserved space in the publications in the name of the client.
A certain rate was set by the publisher which the petitioner was required to charge the client. Upon this amount the petitioner received as compensation a certain percentage, usually 15 per cent. The petitioner also charged the clients for the cost involved in the preparation of the work and a service charge was also imposed based upon the cost. This was for professional service rendered. Some publications allowed a discount for cash paid before a certain date and if it was paid by the client to the petitioner before that date, the client received the benefit of this. If no discount was allowed, the amount was payable in 30 days or thereabouts. All business with various media was handled on the same basis.
The clients were billed for costs of advertising space before the publication1928 BTA LEXIS 3109">*3112 date in order that payment might be received by the petitioner from the client about 3 days before payment was due to the publishers. In no case in 1918 and 1919 did clients fail to pay the petitioner ultimately although, at times, they did not pay the petitioner before the petitioner was required to pay the publisher. The petitioner was always careful to pay the publishers upon the date the amount was due in order to retain good will and a good reputation. The petitioner never held itself out as being responsible to the publishers for any amounts due from clients who did not pay.
13 B.T.A. 1090">*1092 In 1918 the petitioner did not accept notes in settlement of open accounts. At the end of 1919 there were notes due petitioner amounting to $6,000. In 1919 the petitioner received in settlement of the account of Otto F. Stiefel, Union Brewing Co., the following notes:
| Date | Paid | Amount |
| Oct. 20, 1919 | Oct. 24, 1919 | $1,791.76 |
| Nov. 1, 1919 | Feb. 13, 1920 | 1,500.00 |
| Nov. 20, 1919 | Apr. 13, 1920 | 1,500.00 |
| Dec. 5, 1919 | Dec. 9, 1919 | 1,500.00 |
| Dec. 20, 1919 | Jan. 5, 1920 | 1,500.00 |
Prior to the date of payment of these notes the petitioner paid these accounts to the1928 BTA LEXIS 3109">*3113 parties to whom they were due.
On June 20, 1918, the petitioner borrowed $3,000 from the bank for 27 days and on June 30, 1918, it borrowed $5,500 for 82 days. This money was used in the business.
The petitioner employed clerical help, bookkeepers, stenographers and people to help on the copy. In 1918 the petitioner had no art department and the art work was bought on the outside. In 1919 the petitioner installed an art photo department in which it employed, generally, two or three artists. In January only one artist was employed and in December four were employed. Petitioner continued to buy some art work on the outside.
In 1918 B. E. Chappelow handled 87.7 per cent of the business of the petitioner and in 1919 he handled 86 per cent. This includes both securing the business and handling the accounts, and no plans were ever submitted to advertisers that had not been formulated by him. In 1918 he received a salary of $5,000 and in 1919, a salary of $6,591.64. The customary amount paid salesmen for securing advertising clients for an advertising agency in 1918 and 1919 was one-third of the commissions. In 1918 the professional fees and commissions secured for petitioner1928 BTA LEXIS 3109">*3114 by B. E. Chappelow amounted to $81,225. In 1919 the total fees and commissions secured by him amounted to $75,797.89. In 1918 the total fees and commissions received by petitioner amounted to $92,864. The total for 1919 was $87,259.72. The total advertising space reserved for clients amounted to $232,934.24 in 1918 and $396,277.42 in 1919.
In 1918 the petitioner employed Clarence Cooksey until July 30, 1918, at a salary of $368.33 1/3 per month. F. H. Codding was employed during the whole year upon a salary basis. Both these employees solicited business in St. Louis. In 1919 Codding continued to work for petitioner as assistant to B. E. Chappelow and Leonard McGrath was employed from February 24, 1919, on. The petitioner also employed D. E. Roubel from June 1, 1919, to the end of that year. He was formerly employed by the St. Louis Union Trust Co.13 B.T.A. 1090">*1093 and remained there under directions of the petitioner to organize an advertising department for this bank which was at that time consolidated and was known as the First National Bank of St. Louis. B. E. Chappelow cooperated with Roubel on this work. In the latter part of 1919 the petitioner entered into an agreement1928 BTA LEXIS 3109">*3115 with Stephen Doughton, a former employee of petitioner, by which petitioner agreed to handle the business of Doughton, who was located in Chattanooga, Tenn., and to help him develop his advertising business. Petitioner did this because it was thought that this business might become identified with petitioner later. In November or December, 1919, the petitioner furnished Doughton $137.25.
The assets and liabilities of the petitioner for each of the years in controversy were as follows:
| Dec. 31, 1917 | Dec. 31, 1918 | |
| ASSETS | ||
| Cash | $4,356.16 | $5,439.97 |
| Accounts due petitioner | 4,185.47 | 2,620.88 |
| Liberty bonds | 250.00 | |
| Furniture and fixtures | 3,465.32 | 3,621.04 |
| Designs and engraving | 4,000.00 | 4,000.00 |
| Paper stock | 838.22 | 1,105.22 |
| 16,845.17 | 17,037.11 | |
| LIABILITIES | ||
| Accounts payable | 869.62 | |
| Capital stock | 25,000.00 | 25,000.00 |
| 25,000.00 | 25,869.62 |
The expenditures of petitioner during 1918 were as follows:
| Salaries | $31,967.66 |
| Printing | 19,096.55 |
| Paper stock | 8,278.53 |
| Engraving and electros | 8,001.68 |
| Art work and photos | 7,358.90 |
| C.A. Co. postage | 805.39 |
| Postage for customers | 13,702.79 |
| Space in publications | $230,710.58 |
| Improvements | 328.99 |
| B.G. expense | 860.84 |
| Miscellaneous (office expense, drayage, etc.) | 7,006.77 |
| 328,118.68 |
1928 BTA LEXIS 3109">*3116 The item "Art Work & Photos - $7,358.90" represents the amount paid for work received from the outside.
The expenditures of petitioner during 1919 were as follows:
| Printing | $34,596.63 |
| Paper stock | 8,911.28 |
| Engraving and electros | 18,714.74 |
| Art work and photos | 8,709.28 |
| C.A. Co. postage | 1,111.32 |
| Postage for customers | 12,750.67 |
| Space in publications | 397,847.25 |
| Bus getting expense | 780.55 |
| Miscellaneous: | ||
| Rent | $3,967.30 | |
| Phone | 468.76 | |
| Association of Advertising Agencies | 200.00 | |
| Barbour's rate sheets | 100.00 | |
| Long & Co. (posters) | 2,322.95 | |
| E. J. Baker | 1,720.13 | |
| Loan | 5,500.00 | |
| 14,279.14 | ||
| Office expense, drayage, etc | 4,908.91 | |
| $19,188.05 | ||
| 502,609.87 |
13 B.T.A. 1090">*1094 The item "Art Work & Photos - $8,709.28" represents the amount paid for outside work and also salaries to individuals in petitioner's employ.
OPINION.
SIEFKIN: The error assigned in this case is the denial by the respondent of personal service classification for the petitioner during the years 1918 and 1919. An alternative contention of the petitioner is that if personal service classification is denied and it is not permitted to deduct as an expense a reasonable1928 BTA LEXIS 3109">*3117 salary for its president, it being contended that the amount actually paid to him was inadequate, the petitioner is entitled to special relief under sections 327 and 328 of the Revenue Act of 1918.
Section 200 of the Revenue Act of 1918 states:
The term "personal service corporation" means a corporation whose income is to be ascribed primarily to the activities of the principal owners or stockholders who are themselves regularly engaged in the active conduct of the affairs of the corporation and in which capital (whether invested or borrowed) is not a material income-producing factor; * * *
It seems clear that the income of the petitioner during the years in controversy must be ascribed primarily to the activities of B. E. Chappelow. In 1918 Chappelow held 162 1/2 shares of the total shares of the petitioner, and in 1919 he held 224 shares. The other two stockholders were more or less inactive, assisting only in an advisory capacity. In 1918 Chappelow secured about 87 per cent of the business of the petitioner and in 1919 he secured about 86 per cent. Furthermore, he handled all the business secured by the petitioner, since no plans were ever submitted to the advertisers1928 BTA LEXIS 3109">*3118 that had not been formulated by him. In 1918 the professional fees and commissions secured for the petitioner by B. E. Chappelow amounted to $81,225. The total fees and commissions received by petitioner in 13 B.T.A. 1090">*1095 1918 amounted to $92,864. In 1919 Chappelow secured $75,797.89 of the total professional fees and commissions of $87,259.92. The petitioner had other employees but it seems apparent that the income must be ascribed primarily to the activities of this one stockholder.
During 1919 B. E. Chappelow owned about 90 per cent of the stock of the petitioner and, therefore, constituted the principal stockholder, his wife, A. B. Chappelow holding only about 10 per cent of the stock. He was regularly engaged in the active conduct of the business of the petitioner.
However, with regard to the year 1918, when A. B. Chappelow owned about 35 per cent of the stock, it can not be said that she was not one of the principal stockholders, and since she was not regularly engaged in the active conduct of the business, the petitioner is not entitled to personal service classification for that year.
The evidence discloses that the petitioner customarily received payment for advertising1928 BTA LEXIS 3109">*3119 and space from its clients about three days prior to the date the payment was due to the publisher rendering the service. In some cases payment was not received before the petitioner paid the publisher. In no case in 1918 or 1919 did any client fail to pay ultimately, but occasionally payment by the clients would be delayed for a short while after the petitioner paid the publisher. While it is true that the petitioner received, in 1919, certain notes totaling $7,791.76 in payment of an open account, which notes were not paid prior to the time the petitioner paid the publisher, and that petitioner expended $8,709.28 in 1919 for art work and photos received from the outside and for salaries to individuals employed in the petitioner's art department, we do not believe that these facts indicate that capital was a material income-producing factor, since the total amount of business done by the petitioner in reserving advertising space for clients was $396,277.42 in 1919.
We hold that the petitioner is entitled to classification as a personal service corporation during the year 1919.
The petitioner advances, as an alternative contention, that if personal service classification is1928 BTA LEXIS 3109">*3120 denied and it is not allowed to deduct as an expense an adequate and reasonable salary for its president, although the same was not actually paid to him, the petitioner is entitled to special assessment. We have held contrary to this contention where, as here, there is no showing that the low salary creates such an abnormality as to justify special assessment. See ; , and .
Reviewed by the Board.
Judgment will be entered under Rule 50.