Geuder, Paeschke & Frey Co. v. Com'r of Internal Revenue
| Decision Date | 18 June 1930 |
| Docket Number | No. 4201.,4201. |
| Parties | GEUDER, PAESCHKE & FREY CO. v. COMMISSIONER OF INTERNAL REVENUE. |
| Court | U.S. Court of Appeals — Seventh Circuit |
Walter W. Hammond, of Kenosha, Wis., for petitioner.
John G. Remey, of Washington, D. C., for respondent.
Before ALSCHULER, PAGE, and SPARKS, Circuit Judges.
Petitioner is a Wisconsin corporation organized in 1882, and since its organization has been engaged in the business of manufacturing tin and japanned sheet metal, galvanized ware, and metal stampings. Its books of accounts showed its invested capital and surplus, a part of which consisted of physical assets of buildings, machinery, tools and dies, factory fixtures and equipment, and automobiles. The company's investment in these assets was shown, and the accounts also showed depreciation reserves and sinking fund accounts representing the amount of accrued depreciation of these assets as determined by the company. In the years prior to 1918 petitioner charged off depreciation on these physical assets at varying rates. This was done for the reason that replacements of machinery parts, prompt and adequate repairs, and careful attention in various years arrested the ordinary depreciation, and kept the machinery in proper condition and prolonged its useful life. The cost of such repairs and replacements was not charged to capital investment, but, on the contrary, was charged to operating expense; and at the time petitioner made its return, and subsequently at the hearing, it was absolutely impossible to determine how much petitioner had expended for such repairs and replacements during the previous years of the company's existence.
The record of depreciation sustained on buildings was entered in an account called depreciation account; that of machinery, tools, dies, and other equipment, was entered in the sinking fund account. Mr. Frey, petitioner's secretary and treasurer, who had been connected with the company since 1882, fixed the rates of depreciation for the years 1918 and 1919, and also during the years previous to 1918. He also testified to petitioner's capital accounts for the assets in controversy and the depreciation reserves, and his figures are as follows:
Depreciation
in Percentage
Capital Depreciation of Asset
Account Reserve Account
Buildings ....... $ 511,148.37 $ 38,249.09 7.5%
Machinery ....... 311,730.32 88,347.01 28.3%
Tools and Dies .. 199,864.77 89,060.83 44.6%
Factory, Fixtures
and Equipment .. 111,674.47 55,842.46 50.0%
Automobiles ..... 4,784.60 1,342.33 25.9%
_____________ ___________ _____
Totals ........ $1,139,202.53 $272,841.72 24.0%
The witness Frey testified that in determining the rates of depreciation he entered sufficient amounts to cover the actual depreciation of the assets, and took into consideration the fact that renewals and replacements were charged as expenses; and that the above column of depreciation reserve reflects the true depreciation of the assets referred to therein. This evidence is also supported by the testimony of Mr. Harmon, auditor of petitioner, who has been associated with the company for over thirty years. It is also supported by the testimony of Manager Kempter, who has likewise been associated with the company for thirty years. It is likewise supported in a large measure by witness Roethe, a tax consultant, who made an audit of the books of the company for the period involved, so far as related to a determination of investment and depreciation.
It is uncontradicted that petitioner at all times endeavored to keep its plant and equipment in the best condition possible, and they were in good, efficient operating condition during the taxable years in question. The evidence further shows that there were some years in which no depreciation was taken on the buildings; however, the only testimony submitted is that the sound depreciated value of these buildings was fully as great as the amount at which they were carried on petitioner's books. Witness Harmon testified positively that he considered the total depreciation on buildings, as shown by petitioner's figures, to be ample.
There was no evidence introduced on behalf of respondent except the Commissioner's computations, but respondent relied entirely on the legal presumption that the Commissioner's determination is prima facie correct and will stand unless overcome by competent evidence. In arriving at his figures of depreciation the Commissioner proceeded on the theory that the books and records of petitioner did not provide depreciation in the manner prescribed by the Department (which, without question, is the best method); therefore it must be presumed that depreciation was not provided for at all. He therefore arbitrarily determined that the invested capital and surplus in the assets referred to were less, by $259,184.25, than the actual capital and surplus as determined by the corporation and as shown on its books of account. He accomplishes this result, in effect, by saying that he allows taxpayer to take depreciation at certain percentages, which he calls permissible rates of depreciation. These percentages of depreciation from 1898 to 1917, inclusive, were applied by Commissioner regardless of petitioner's contention that it had adequately provided for depreciation by renewals and replacements and proper maintenance of its assets, the expense of which was charged to operating expense, thereby reducing its surplus as effectually as a charge to a depreciation reserve would do. The computation began with 1898, because the company's records for earlier years were not available. The Commissioner, for example, applied a straight rate of 5 per cent. as the rate of depreciation on machinery, on the assumption that machinery would be worn out, exhausted, and useless at the end of twenty years. Theoretically this is quite a safe procedure in the absence of better evidence; but in this particular case there were machines that had been in use as long as forty-five years and were still rendering proper service, due to keeping them in good repair and promptly replacing all broken parts, and making such renewals as were necessary. This fact proves conclusively that no rule or rate can in all instances accurately measure depreciation. While it may form a safe basis for a prima facie case, it must give way to the facts in each particular case if those facts are presented and are inconsistent with the rate.
Previous to the enactment providing for income tax, the necessity for detailed records of depreciation was not so apparent as now, and they were...
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