Atzingen-Whitehouse Dairy, Inc. v. Comm'r of Internal Revenue
| Decision Date | 27 April 1961 |
| Docket Number | Docket No. 83717. |
| Citation | 36 T.C. 173 |
| Parties | ATZINGEN-WHITEHOUSE DAIRY, INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
Martin D. Cohen, Esq., for the petitioner.
Sheldon Seevak, Esq., for the respondent.
1. In computing milk company's gross income there must be excluded from its receipts amounts of rebates which it made to its customers pursuant to oral arrangements with them, notwithstanding that such rebates were in violation of State law. Pittsburgh Milk Co., 26 T.C. 707, followed.
2. Amount of disputed cash rebates for 1955 and 1956 determined.
3. A payment of $7,000 to the Office of Milk Industry of New Jersey as an ‘adjustment’ for willful violation of minimum price law held not deductible as ‘ordinary and necessary’ business expense.
4. Legal fee of $6,000 paid for services culminating in petitioner's purchase of its own stock from dissident stockholders held capital expenditure to be added to the cost of acquiring the stock and not a deductible expense.
5. Amount of deductible entertainment expenses determined.
Respondent determined deficiencies in the income tax of petitioner in the amounts of $13,441.49 for the calendar year 1954, $5,105.44 for the calendar year 1955, and $12,671.60 for the calendar year 1956.
The issues are:
(1) Is the petitioner entitled to exclude from its gross income for the taxable years amounts equal to certain payments which it made to customers who purchased milk and dairy products from it?
(2) Did the respondent err in determining that payments claimed to have been made by petitioner to its customers were unsubstantiated to the extent of $940.65 and $2,998.52 for the years 1955 and 1956, respectively?
(3) Is the amount of $7,000 which petitioner paid to the Office of Milk Industry in 1955 deductible as an ordinary and necessary business expense?
(4) Is the amount of $6,000 which petitioner paid to its attorney for legal services in 1956 deductible as an ordinary and necessary business expense?
(5) Did the respondent err in disallowing a deduction of $1,500 claimed by petitioner in its return for 1956?
Some of the facts have been stipulated, and, as stipulated, they are incorporated herein by reference.
Petitioner is a corporation organized under the laws of the State of New Jersey. Its principal office is located in Jersey City, New Jersey. It filed United States corporation income tax returns for the years 1954, 1955, and 1956 with the district director of internal revenue at Newark, New Jersey. It maintains its books of account and files its income tax returns on a calendar year basis using an accrual method of accounting.
During the years 1954, 1955, and 1956, petitioner was engaged in the business of selling milk and related dairy products to both wholesale and retail customers. The major portion of its annual sales volume during those years consisted of sales to wholesale customers, which included grocery stores, moderate-sized supermarkets, delicatessen stores, luncheonettes, and restaurants.
Under the laws of the State of New Jersey only milk dealers, processors, subdealers, and stores, duly licensed as provided by those laws, are permitted to sell, transport, import, dispose of, store, or distribute milk or otherwise engage in the milk business within that State. During the period involved herein, petitioner was duly licensed to sell milk in the State of New Jersey.
The Office of Milk Industry (hereinafter referred to as OMI) is a legally constituted agency of the State of New Jersey. The director of OMI is empowered by statute to fix the price at which milk is to be bought, sold, or distributed; regulate conditions and terms of sale; establish and require observance of fair trade practices; and supervise, regulate, and control the entire milk industry of the State of New Jersey.
During the year 1954 and the periods January 1, 1955, to February 15, 1955, and June 30, 1956, to December 31, 1956, various orders and regulations of the director of OMI were in full force and effect which established minimum prices for the sale of milk, cream, and milk products in the State of New Jersey. Sales made for less than those prices violated the milk control laws of the State of New Jersey.1
More milk is consumed in New Jersey than is produced there, necessitating a daily importation of milk into the State. Milk imported into New Jersey could be bought for less than the price of New Jersey produced milk as fixed by OMI. During the period in question certain New Jersey dealers buying from out-of-State producing dairies paid lower prices than those prevailing in New Jersey.
During the period here involved, the method used by petitioner for billing sales to its customers, collecting from its customers, and recording such sales and receipts (without taking into account certain rebates hereinafter made fully referred to) was as follows:
(a) Petitioner had in its employ approximately six drivers or routemen. To each driver was assigned a group of petitioner's customers who were located in a particular geographical area. Each day of the week, except Sunday, the drivers would pick up milk and other dairy products at petitioner's main office and then proceed to make deliveries to their assigned customers.
(b) Each driver maintained his own record of sales to and collections from customers. A daily ticket was made out showing products sold to each customer, priced at the minimum legal prices which had been fixed by OMI and which were in effect on the date of the sale. In most instances the driver would present to the customer a daily bill or invoice showing sales for the day billed at OMI minimum prices. The driver would then collect from the customer the amount of the day's bill. In some cases collections were made from customers on a monthly basis. In a very few cases collections were made on a weekly basis. Otherwise, the method of billing and pricing was the same as described above.
(c) All moneys collected by petitioner's drivers from customers located within their route area were turned in to petitioner. Petitioner did not record sales or receipts from sales according to individual customers; instead, petitioner recorded its sales according to drivers or routemen. Thus, petitioner's sales were listed as having been received from its several drivers. Sales of dairy products as thus recorded on petitioner's books were based on OMI minimum prices.
Competition between petitioner and the other members of its industry serving the New Jersey area was keen and neither petitioner nor its competitors adhered to the minimum prices which OMI had prescribed during the years involved herein. Petitioner continually received demands from its wholesale customers for downward adjustments in prices. These customers threatened to discontinue buying from petitioner unless it complied with their demands. In many instances petitioner did not do so and as a consequence lost customers.
At all material times prior to January 4, 1956, the officers and directors of petitioner and the owners of the petitioner's 600 outstanding shares of stock were as follows:
+---------------------------------------------------------------+
¦ ¦Office held ¦Director¦Number of ¦
+--------------------+-------------------+--------+-------------¦
¦ ¦ ¦ ¦shares held ¦
+--------------------+-------------------+--------+-------------¦
¦Ernest Zima ¦President ¦Yes ¦199 (class B)¦
+--------------------+-------------------+--------+-------------¦
¦Walter Von Atzingen ¦Vice president ¦Yes ¦200 (class A)¦
+--------------------+-------------------+--------+-------------¦
¦William Von Atzingen¦Secretary-treasurer¦Yes ¦200 (class A)¦
+--------------------+-------------------+--------+-------------¦
¦Henry Zima ¦None ¦Yes ¦1 (class B) ¦
+---------------------------------------------------------------+
As petitioner's president, the duties of Ernest Zima (hereinafter referred to as Zima) included general supervision of the business, personnel matters, and servicing of roughly one-half of petitioner's approximately 200 wholesale accounts. The balance of such accounts was looked after by William Von Atzingen (hereinafter referred to as William).
Petitioner entered into oral agreements with certain customers agreeing to make payments (sometimes hereinafter referred to as rebates, discounts, or allowances) to them based upon a percentage of sales or a specific amount per quart of milk. The agreements varied from 1/2 cent to 2 cents per quart and from 3 percent to 10 percent of gross sales. The amount of the rebate was arrived at through bargaining, with the petitioner making the best deal with each individual customer that it could negotiate.
It was petitioner's practice to keep certain working sheets showing the name and address of each customer with whom an agreement was in effect, the terms of such agreement, and, for each month, the amounts of milk and dairy products sold and the discount payable to each such customer. Such discounts were computed by applying the agreed rate of discount to total monthly sales as shown in the drivers' route books.
Between 60 and 85 percent of the customers with whom petitioner had agreements received a cash rebate from petitioner once a month; a small number received cash rebates only once a year; and the remaining received cash rebates every 3 months. The majority of the agreements as to rebates remained constant. However, from time to time petitioner did agree to pay discounts to certain customers at an increased rate.
On some occasions, customers who received a rebate only once a year were given rebates in round sums rather than in the precise amount of dollars and cents which would result from applying the agreed discount rate to the actual amount of the year's sales. Payment...
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