Associated Patentees, Inc. v. Comm'r of Internal Revenue, Docket No. 112051.
| Decision Date | 15 March 1945 |
| Docket Number | Docket No. 112051. |
| Citation | 4 T.C. 979 |
| Parties | ASSOCIATED PATENTEES, INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Four individuals transferred to petitioner certain patents which they jointly owned in equal proportions under a contract obligating petitioner to pay them 80 percent of its income from licenses granted for their use. Under this contract petitioner paid them $42,209.76 in the taxable year and in its return deducted that amount as royalties paid. Held:
(1) This payment was a capital expenditure in acquisition of the patents.
(2) Petitioner is entitled to recover by depreciation its total cost of the patents over their lives and, since such cost is not determinable until the close of the term when all of the value of the patents passes and since the yearly payments are attributable to income of the year in which made, the ‘reasonable allowance‘ for depreciation provided by section 23(1), I.R.C., requires the allowance of a deduction in each year equivalent to the payment made in that year. Such allowance will give petitioner over the term no more than its cost and no distortion of income will result. Howe P. Cochran, Esq., and Margaret F. Luers, Esq., for the petitioners.
Jonas M. Smith, Esq., for the respondent.
Memorandum findings of fact and opinion was entered in this proceeding on August 31, 1943. The deficiencies involved arose wholly from the disallowance by respondent of a deduction of $42,209.76 taken by petitioner for the calendar year 1940 as patent royalties paid in that year by it to four individuals. Our conclusion was that this payment was a capital expenditure by petitioner in the acquisition of the patents from those individuals and as such was not deductible. Decision was entered for the respondent.
Thereafter, petitioner filed timely motions to vacate the decision, to reconsider the opinion, and for rehearing or new trial. On October 20, 1943, we entered an order, upon petitioner's motions vacating our decision and opinion theretofore entered, and granted petitioner's motion for rehearing, directing that such rehearing be limited to the question of the depreciation to which petitioner would be entitled in the taxable year in question for exhaustion of its capital investment in view of our holding that the expenditures deducted by petitioner were capital in character. Petitioner, by our order, was permitted to file an amended petition raising the issue as to allowance of depreciation. Such amended petition was duly filed.
The rehearing as directed by our order was held May 8, 1944. Certain evidence was introduced, without objection, bearing upon the question of the value of the patents in question. We make the following findings of fact.
The petitioner is a business corporation organized in 1933 under the laws of the State of New Jersey. Its principal place of business was in East Orange, New Jersey. Its authorized capital stock consisted of 100 shares of common without par value. All shares were issued. In about 1928 or 1929, Alwyn E. Borton, Frederick Koch, and Walter P. Powers, all inventors and holders of patent rights, together with Cecil Todd, a financier, entered into an oral agreement to pool the patents and inventions on an equal share basis of one-quarter to each. They caused the petitioner to be formed. Each became an officer and director of the corporation. At the first meeting of the directors, held on January 14, 1933, the aforementioned individuals made an offer to sell, assign, and transfer to the petitioner all of their right, title, and interest in and to 20 patents in exchange for the 100 shares of the capital stock of the petitioner. The directors, by resolution, accepted the offer. On January 16, 1933, these individuals executed and delivered to the petitioner a written assignment of 20 patents, designated therein by number, date of issue, and a brief description thereof. Thereupon the petitioner caused to be issued to each of these assignors 25 shares of its capital stock of no par value. On January 16, 1933, the individuals trusteed their respective shares of said capital stock to William Dunkel.
Subsequent to the incorporation of the petitioner, and pursuant to the pooling arrangement, certain other patents were similarly assigned from time to time to the petitioner without fixing the consideration therefor, because it was then impossible to approximate their value, since they had not yet been used commercially.
Under date of October 15, 1934, the petitioner entered into a written agreement with the U.S. Tool Co. which contains, inter alia, the following provisions:
WHEREAS, The U.S. TOOL is desirous of using certain patents, trade marks, etc. now owned by the ASSOCIATED PATENTEES; and
WHEREAS, The ASSOCIATED PATENTEES are willing to grant to the U.S. TOOL exclusive right to use the patents, trade marks, etc. in question;
1. In consideration of the complete payment of all expenses in connection with the obtaining and development of the said patents, trade marks, etc., the ASSOCIATED PATENTEES agree that the U.S. TOOL shall have the exclusive use of the said patents, trade marks, etc. for the period of five (5) years from the date of this agreement subject to the following provisions.
2. It is understood that the U.S. TOOL shall in no way transfer, assign or sell its right to use said patents, trade marks, etc. herein granted.
On November 23, 1938, a modification was made to paragraph 2 of this agreement allowing the U.S. Tool Co. to permit the General Electric Co. the use of certain of the patents. On October 10, 1939, the petitioner entered into a new and more comprehensive general licensing agreement with the U.S. Tool Co. This agreement contained, inter alia, the following provisions:
WHEREAS, said Licensee has been and is now manufacturing and selling various articles manufactured under the terms of a license agreement involving various patents, inventions, etc., trademarks, etc., dated October 15, 1934, granted by Licensor, which said license agreement expires October 15, 1939; and
WHEREAS, in order to encourage the building up of a market for products manufactured under the patents, etc. as set forth in the said agreement, and others subsequently included under the same terms by oral agreement, said Licensor did not, under the terms of the existing license, require the payment of any royalties on the said license other than the payment of development expenses, as set forth in the said agreement, but it is now apparent to both Licensor and Licensee that there are prospects of substantial business from the sale of articles produced under the patents, etc. covered by the said license, and Licensee has agreed that a royalty of five per cent (5 percent) on the gross sales of products manufactured under such license is fair in addition to the continued payment of any development expenses on patents, inventions, etc. covered by the present license or which may hereafter be included in a future license; and
WHEREAS, Licensor is willing to grant a new license covering all the patents, inventions, trademarks, etc. included in the present agreement, as well as any that may be subsequently added by mutual agreement, either in writing or orally, on the terms hereinafter set forth;
NOW, THEREFORE, in consideration of the sum of One Dollar ($1.00) paid to each other, receipt of which is hereby acknowledged, and of the mutual covenants and agreements hereinafter set forth, said parties have agreed as follows:
1. LICENSE AND RENEWAL PROVISION.
Licensor hereby gives and grants unto the Licensee, subject to the conditions hereinafter set forth, the exclusive right and license to manufacture, have manufactured for it, and sell, and sell to others for use or sale throughout the United States, its territories and colonial possessions, the various products referred to above under the patents or applications or inventions, etc. as listed in the Schedule annexed to this agreement and under any patent or patents that may hereafter issue for inventions set forth in any applications now pending or which may hereafter be pending, or any reissue thereof, and under any patent or patents for such articles that may hereafter be acquired, obtained or controlled by the Licensor in anywise related to the aforesaid patents, provided that any such after-acquired patents, inventions, or trademarks not specifically set forth in this agreement may be covered by the terms of this agreement if mutually agreed to by the parties hereto, either in writing or orally. Such license shall extend from October 15, 1939 to October 15, 1941 unless earlier terminated as hereinafter provided. It is mutually agreed that unless notice is given by either party to the other, as hereinafter provided, on or before April 15, 1941 that such party does not desire to renew the agreement, then this agreement shall automatically be renewed for a period of one year from October 15, 1941, and thereafter shall automatically renew itself each year unless and until such six months' prior notice is served by either party in any year that such party does not desire to renew the agreement. Any such notice shall be sent by registered mail to the above addresses unless a new address shall have been furnished prior to the sending of such notice. This provision for automatic renewal is subject to the other provisions hereinafter referred to in this agreement relating to cancellation or termination. All of the rights covered by this license are hereinafter collectively referred to as ‘license rights.‘
2. ROYALTIES.
Said Licensee agrees that during the continuance of this agreement it will pay to the said Licensor, its successors or assigns, royalties on the devices or products manufactured and/or sold by Licensee, or anyone deriving rights through Licensee, which royalty shall be at the rate of five per cent (5 percent) of...
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