[709]*709OPINION.
MoRRis:
The questions presented for determination in this appeal are: (1) The amount of paid-in surplus to which the petitioner is entitled; (2) whether the sale price of $30,000 for 250 shares of stock donated to the corporation by one of the stockholders and thereafter sold should be included in invested capital; (3) whether invested capital should be reduced for 1919 by $42,227.10 upon the purchase of its own stock with borrowed money; (4) whether there should be a reduction in invested capital for the years 1919 and 1921 of additional taxes for prior years; (5) whether the Commissioner erred in reducing petitioner’s invested capital for 1919, by the amount of $5,126.94, on account of an adjustment in the opening inventory for 1918; (6) whether petitioner was entitled to deduct the cost of unsalable lumber in its inventory in 1919 and 192.1; (7) whether the Commissioner erred in disallowing in 1921 the sum of $6,916.42, deducted as bad debts; and (8) whether petitioner is entitled to special relief under section 327 (c) of the Revenue Act of 1918.
On the first point it is clear from the evidence submitted that the invested capital, including paid-in surplus, is greater than the amount allowed by the Commissioner. Under the circumstances, we do not consider the sale to the Booth-Kelley Lumber Co. of one-half the capital stock for $30,000 as determinative of the value of the assets. That Compaq was a considerably larger concern whose business extended over a wide area. Its assistance and influence and removal as a competitor were thought to be extremely valuable in the further development of the petitioner’s business. Testimony concerning what was paid in to the corporation is not conflicting. There can be no doubt about the $9,065 cash, and the Commissioner has stipulated of record that the miscellaneous personal property other than the lumber at the time paid in had an actual cash value of $1,259.24. The only other items, the value of which the Board is called upon to determine, are the land with its improvements and the lumber. The expert testimony in regard to the value of the land and buildings is that the actual cash value of the real estate at the time paid in to the corporation was $36,346. The price paid for the land in April, 1915, is immaterial. Between April and September, 1915, the character of the property had been completely changed, having been converted from practically vacant land into an industrial plant. There is no evidence in the record of any sales [710]*710of a similar character in the vicinity where this land was located, but we are satisfied with the expert testimony as to its actual cash value. As to the value of the lumber paid in. to the corporation, the testimony shows the market price of this grade of lumber at the time paid in, and there is no dispute as to the amount thereof. We conclude, therefore, that the actual cash value of the lumber was $46,491.68. This amount plus the actual cash value of the other assets and minus the liability of $13,500, which the corporation assumed, gives the petitioner a paid-in surplus of $29,661.92, as claimed by it.
The second point is whether or not the petitioner may include in its invested capital $30,000 received upon the sale of 250 shares of its stock donated to it by one of its stockholders and thereafter sold. The evidence shows that of the $50,000 capital stock issued in September, 1915, 250 shares thereof were, in November and December, 1915, donated to the corporation by Ralph G. Hutchins and sold to the Booth-Kelley Lumber Co. for a consideration of $30,000, of which $10,000 was paid in cash and $20,000 in lumber at the then market price. This $30,000 was paid in to the corporation for its capital stock and the Commissioner’s action in refusing to recognize it as invested capital is in error. It clearly comes within the definition of invested capital contained in section 326 of the Revenue Act of 1918.
The third question is whether the Commissioner erred in reducing petitioner’s invested capital for 1919 by the amount of $42,227.10, or any other amount, on account of the purchase by it of $25,000 par value of its own stock for $60,000 cash. The amount of the reduction which the Commissioner has made was arrived at by the use of the formula set out in the findings of fact. The petitioner contends that this stock was purchased entirely out of current earnings and borrowed funds which were repaid out of current earnings and, since no money hitherto included in invested capital was taken therefrom by this purchase, there should be no reduction in invested capital. To merely state the petitioner’s contentions is to disclose their fallacy. It lies in the fact that the petitioner is attempting to fix the character of the transaction according to the source from which the funds were derived. It is an attempt to earmark dollars. We think it immaterial whether the funds which were used in the purchase of this stock were borrowed or taken from funds already in the petitioner’s treasury. The important facts upon which we must adjudge the character of this’ transaction are — that the Booth-Kelley Lumber Co. had acquired this stock from the petitioner for the sum of $30,000, which became a part of the petitioner’s paid-in capital; that upon the repurchase of this stock the petitioner returned to the Booth-Kelley Lumber Co, the latter’s, contribution of [711]*711$30,000 capital and its share in the petitioner’s accumulated surplus. It was a capital transaction involving a return to this particular stockholder of its capital contribution plus its share in the accumulated surplus, and the paid-in capital and surplus, of which these funds were a part, were lessened by the withdrawal of the same. The purchase by a corporation of its own capital stock eliminates the stockholder without substituting another in his place,.repays to the withdrawing member his share of the capital, and reduces the amount of the fund contributed to the common venture. See Appeal of Simmons & Hammond Mfg. Co., 1 B. T. A. 803.
In arriving at the amount of the reduction of invested capital the Commissioner has again invoked a theory previously considered and condemned by this Board, that of reducing the net income by a so-called tentative tax for the purpose of determining the earnings available for distribution or retirement of capital stock. Upon authority, of our decision in the Appeal of L. S. Ayers & Co., 1 B. T. A. 1135, we must hold that the Commissioner’s action in this respect is in error. Subject to this modification of the formula used by the Commissioner, we approve the Commissioner’s action in reducing petitioner’s invested capital on account of this transaction, to the extent that the total amount paid, to wit, $60,000, exceeds the current earnings available at the date of purchase.
The fourth point is whether the Commissioner erred in reducing the invested capital for each of the years under consideration on account of income and profits taxes as set out in the findings of fact. The several adjustments made by the Commissioner are in conformity Avith the provisions of the regulations in force in respect of the years under consideration, and are therefore approved. Section 1207 of the Revenue Act of 1926.
The fifth point relates to the reduction of petitioner’s earned surplus, for invested capital purposes, at the beginning of the taxable year 1919, by the amount of $5,126.94, on account of an adjustment, in a similar amount, of petitioner’s opening inventory for 1918, Avhich adjustment resulted, in a reduction of petitioner’s net income for the year 1918.
Free access — add to your briefcase to read the full text and ask questions with AI
[709]*709OPINION.
MoRRis:
The questions presented for determination in this appeal are: (1) The amount of paid-in surplus to which the petitioner is entitled; (2) whether the sale price of $30,000 for 250 shares of stock donated to the corporation by one of the stockholders and thereafter sold should be included in invested capital; (3) whether invested capital should be reduced for 1919 by $42,227.10 upon the purchase of its own stock with borrowed money; (4) whether there should be a reduction in invested capital for the years 1919 and 1921 of additional taxes for prior years; (5) whether the Commissioner erred in reducing petitioner’s invested capital for 1919, by the amount of $5,126.94, on account of an adjustment in the opening inventory for 1918; (6) whether petitioner was entitled to deduct the cost of unsalable lumber in its inventory in 1919 and 192.1; (7) whether the Commissioner erred in disallowing in 1921 the sum of $6,916.42, deducted as bad debts; and (8) whether petitioner is entitled to special relief under section 327 (c) of the Revenue Act of 1918.
On the first point it is clear from the evidence submitted that the invested capital, including paid-in surplus, is greater than the amount allowed by the Commissioner. Under the circumstances, we do not consider the sale to the Booth-Kelley Lumber Co. of one-half the capital stock for $30,000 as determinative of the value of the assets. That Compaq was a considerably larger concern whose business extended over a wide area. Its assistance and influence and removal as a competitor were thought to be extremely valuable in the further development of the petitioner’s business. Testimony concerning what was paid in to the corporation is not conflicting. There can be no doubt about the $9,065 cash, and the Commissioner has stipulated of record that the miscellaneous personal property other than the lumber at the time paid in had an actual cash value of $1,259.24. The only other items, the value of which the Board is called upon to determine, are the land with its improvements and the lumber. The expert testimony in regard to the value of the land and buildings is that the actual cash value of the real estate at the time paid in to the corporation was $36,346. The price paid for the land in April, 1915, is immaterial. Between April and September, 1915, the character of the property had been completely changed, having been converted from practically vacant land into an industrial plant. There is no evidence in the record of any sales [710]*710of a similar character in the vicinity where this land was located, but we are satisfied with the expert testimony as to its actual cash value. As to the value of the lumber paid in. to the corporation, the testimony shows the market price of this grade of lumber at the time paid in, and there is no dispute as to the amount thereof. We conclude, therefore, that the actual cash value of the lumber was $46,491.68. This amount plus the actual cash value of the other assets and minus the liability of $13,500, which the corporation assumed, gives the petitioner a paid-in surplus of $29,661.92, as claimed by it.
The second point is whether or not the petitioner may include in its invested capital $30,000 received upon the sale of 250 shares of its stock donated to it by one of its stockholders and thereafter sold. The evidence shows that of the $50,000 capital stock issued in September, 1915, 250 shares thereof were, in November and December, 1915, donated to the corporation by Ralph G. Hutchins and sold to the Booth-Kelley Lumber Co. for a consideration of $30,000, of which $10,000 was paid in cash and $20,000 in lumber at the then market price. This $30,000 was paid in to the corporation for its capital stock and the Commissioner’s action in refusing to recognize it as invested capital is in error. It clearly comes within the definition of invested capital contained in section 326 of the Revenue Act of 1918.
The third question is whether the Commissioner erred in reducing petitioner’s invested capital for 1919 by the amount of $42,227.10, or any other amount, on account of the purchase by it of $25,000 par value of its own stock for $60,000 cash. The amount of the reduction which the Commissioner has made was arrived at by the use of the formula set out in the findings of fact. The petitioner contends that this stock was purchased entirely out of current earnings and borrowed funds which were repaid out of current earnings and, since no money hitherto included in invested capital was taken therefrom by this purchase, there should be no reduction in invested capital. To merely state the petitioner’s contentions is to disclose their fallacy. It lies in the fact that the petitioner is attempting to fix the character of the transaction according to the source from which the funds were derived. It is an attempt to earmark dollars. We think it immaterial whether the funds which were used in the purchase of this stock were borrowed or taken from funds already in the petitioner’s treasury. The important facts upon which we must adjudge the character of this’ transaction are — that the Booth-Kelley Lumber Co. had acquired this stock from the petitioner for the sum of $30,000, which became a part of the petitioner’s paid-in capital; that upon the repurchase of this stock the petitioner returned to the Booth-Kelley Lumber Co, the latter’s, contribution of [711]*711$30,000 capital and its share in the petitioner’s accumulated surplus. It was a capital transaction involving a return to this particular stockholder of its capital contribution plus its share in the accumulated surplus, and the paid-in capital and surplus, of which these funds were a part, were lessened by the withdrawal of the same. The purchase by a corporation of its own capital stock eliminates the stockholder without substituting another in his place,.repays to the withdrawing member his share of the capital, and reduces the amount of the fund contributed to the common venture. See Appeal of Simmons & Hammond Mfg. Co., 1 B. T. A. 803.
In arriving at the amount of the reduction of invested capital the Commissioner has again invoked a theory previously considered and condemned by this Board, that of reducing the net income by a so-called tentative tax for the purpose of determining the earnings available for distribution or retirement of capital stock. Upon authority, of our decision in the Appeal of L. S. Ayers & Co., 1 B. T. A. 1135, we must hold that the Commissioner’s action in this respect is in error. Subject to this modification of the formula used by the Commissioner, we approve the Commissioner’s action in reducing petitioner’s invested capital on account of this transaction, to the extent that the total amount paid, to wit, $60,000, exceeds the current earnings available at the date of purchase.
The fourth point is whether the Commissioner erred in reducing the invested capital for each of the years under consideration on account of income and profits taxes as set out in the findings of fact. The several adjustments made by the Commissioner are in conformity Avith the provisions of the regulations in force in respect of the years under consideration, and are therefore approved. Section 1207 of the Revenue Act of 1926.
The fifth point relates to the reduction of petitioner’s earned surplus, for invested capital purposes, at the beginning of the taxable year 1919, by the amount of $5,126.94, on account of an adjustment, in a similar amount, of petitioner’s opening inventory for 1918, Avhich adjustment resulted, in a reduction of petitioner’s net income for the year 1918. The Commissioner increased the petitioner’s closing inventory for 1917 by the amount of $5,126.94, which resulted in an increase in the petitioner’s net income for that year, over that shown by the books of account, of a similar amount. To be consistent with his action in respect of the year 1917, the Commissioner increased the opening inventory for the year 1918 by the amount of $5,126.94, which resulted in a decrease in the petitioner’s net income for that year, under that shown by the books of account, of a similar amount. The increase in the 1917 net income was offset by the decrease in like amount of the 1918 net income, and petitioner’s earned surplus is not affected by these adjustments.
[712]*712The sixth point is whether or not the petitioner is entitled to deduct the cost of certain lumber from its closing inventory for 1919 and 1921. The Commissioner in his answer admits that any goods in an inventory which are unsalable at normal prices or unsalable in the normal way because of damage, imperfections, etc., should be valued at bona fide selling prices, less cost of selling. The only evidence in the record in regard to this deduction was the evidence submitted by the petitioner to the effect that, during the years in question, when lumber was loaded out of its yard during the process of unstacking a pile, rotten and damaged pieces would be discovered which the customer would not accept and which were unsalable because of their condition, and that in such cases the cost of the lumber was charged off. From the evidence submitted we are of the opinion that the petitioner was entitled to deduct from inventory in 1919 the amount of $15,315.86 and in 1921, $11,226.43, the cost of this unsalable lumber.
The seventh point is whether the Commissioner erred in disallowing deductions in 1921 amounting to $6,916.42 as bad debts. Of this amount, $4,854.70 represented a freight bill paid by the petitioner on a shipment of lumber, which was stored in its yard, for the United States Lumber & Box Co., of Portland, Oreg. The evidence was not convincing as to the worthlessness of this debt. On the contrary it appears that the petitioner had some security for its final payment, which was made in 1924. We are therefore of the opinion that it is not an allowable deduction for 1921. The balance of $2,061.72 is properly deductible as bad debts in 1921, as it was charged off and the evidence is clear that it could not have been collected.
The eighth proposition submitted is whether the petitioner is entitled to special assessment under the provisions of section 327 (c) of the Bevenue Act of 1918, by virtue of having acquired a mixed aggregate of tangible and intangible property and the Commissioner’s alleged inability to satisfactorily determine the value of the intangible property. Both the bill of sale and the resolution accepting the property paid in to the petitioner, at the time of its organization, mention the good will as one of the items paid in. The Commissioner did not include any good will value in petitioner’s invested capital. The evidence is not sxifficient to convince us that the good will, if any, had a value at the date of its acquisition, which, if properly determined, could be included in invested capital. The petitioner has not proven that it is entitled to assessment under the relief provisions of the Act.
Order of redeiermination will be entered on 15 days’ notice, under Rule 50.