Clark v. Comm'r of Internal Revenue

• Decision Date: 25 October 1948
• Docket Number: Docket No. 13686.
• Citation: 11 T.C. 672
• Parties: WILLIS W. CLARK, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Tax Court

11 T.C. 672

WILLIS W. CLARK, PETITIONER,

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 13686.

Tax Court of the United States.

Promulgated October 25, 1948.

Where prior to the close of the taxable year 1942 the petitioner entered into an agreement with the other officers and directors of the corporation of which he was president, limiting his salary and bonus for 1941 to the amount allowed by the Commissioner as a deduction to the corporation in that year, and gave the corporation his promissory note for the difference between such amount, as tentatively agreed upon by representatives of the Commissioner and the corporation, and the compensation for 1941 already paid to him in that year and 1942, held, that the petitioner is not taxable in 1942 on that portion of the compensation which, prior to the close of the taxable year, he agreed to return to the corporation. David A. Gaskill, Esq., and William A. Polster, Esq., for the petitioner.

Howard M. Kohn, Esq., for the respondent.

The respondent has determined a deficiency of $24,287.58 in the petitioner's income and victory tax for 1943. The year 1942 is involved because of the forgiveness provisions of the Current Tax Payment Act of 1943.

The sole question in issue is whether the petitioner is taxable in 1942 on the entire amount of compensation which he received in that year from a corporation of which he was president and a principal stockholder, although during the taxable year he undertook to repay to the corporation a portion of the compensation by promissory note.

Most of the facts have been stipulated. The written stipulation is incorporated herein by reference

FINDINGS OF FACT.

The petitioner is a resident of Shaker Heights, Ohio. He filed his income tax returns for the years involved with the collector of internal revenue for the eighteenth district of Ohio, at Cleveland. The returns were made on a cash basis.

The petitioner is and for many years has been the president and general manager of the Dingle-Clark Co., hereinafter sometimes referred to as the company, an Ohio corporation engaged in the business of constructing electrical installations for industrial establishments. The company had outstanding in 1942 5,353 shares of capital stock, of which the petitioner owned 2,168 shares, his wife 72 shares, Howard Dingle 2,240 shares, and several other stockholders not related to the petitioner the remaining 873 shares. Howard Dingle was vice president and secretary of the company, but did not actively participate in its operation. He and the petitioner and one of the other stockholders were the directors.

The petitioner had an employment contract with the company, entered into in 1939, which provided for payment to him as president and general manager a salary of $24,000 a year, plus a bonus of 20 per cent of the net profits. The contract was tu run for an indefinite time, but could be canceled by either party at the end of any calendar year on ninety days' written notice. Howard Dingle had no employment contract with the company. He and some of the other officers and employees received a salary and bonus based on the profits. These bonuses were fixed near the end of the year when the profits became ascertainable.

During 1941 the company paid the petitioner his base salary of $24,000 and a bonus of $60,000, based on its estimated profits for that year. On March 5, 1942, it paid him an additional bonus of $34,208.14, based on the 1941 profits as finally determined. Also, during 1942, the petitioner received a salary and bonus for that year of $90,000.

Howard Dingle received a salary and bonus for 1941 of approximately $28,000.

In its returns for 1941, which were made on an accrual basis and for a calendar year, the company claimed a deduction of $118,204.14¹ as compensation paid to the petitioner for that year.

A revenue agent made an examination of the company's 1941 returns a few months after they were filed and in a report dated June 3, 1942, recommended the disallowance of a portion of the compensation paid to the petitioner and Howard Dingle. The petitioner discussed the matter with the other directors and it was agreed among them at the petitioner's suggestion that he, the petitioner, would refund to the company any compensation for 1941 in excess of that finally allowed by the Commissioner as a deduction to the company. It was also agreed that the petitioner's compensation in future years would not exceed the amounts so allowed in those years. The petitioner felt that it would be unfair to the other officers and stockholders for him to draw more compensation than the company was permitted to deduct in its returns.

After several conferences between representatives of the Commissioner in the Cleveland office and the company, it was agreed that the reasonable compensation for the petitioner for 1941 was $90,000 and for Howard Dingle $15,000. This agreement was finally approved by the Commissioner on January 21, 1943.

Pursuant to his agreement with the other officers and directors the petitioner, on or about December 31, 1942, gave the company his promissory note for $28,208.14, representing the disallowed portion of his 1941 compensation. The note was payable on demand, without interest. The petitioner did not have sufficient funds in his checking account to pay the amount in cash at that time, although he had several times that amount in savings accounts. His associates agreed to accept the note in full satisfaction of his agreement to repay the excessive compensation.

No such agreement was made with respect to the compensation of Howard Dingle and he did not repay to the company any of his compensation for 1941.

The company entered the petitioner's note in its books, along with other notes receivable, early in 1943 and has continued to carry it as an assets up to the present time. The petitioner is and has been at all times able to pay the note, but has not done so. The company has not been in need of the funds and the other officers and directors have not sought its payment. The petitioner and his associates all regard the note as a binding obligation and expect it to be paid in full.

Since 1942 the petitioner has not received compensation in excess of $90,000 for any one year, although a larger amount would have been due him in some years under the original terms of his employment contract with the company.

In his 1942 return the petitioner reported $96,000 as his total compensation from the company, including the $90,000 of salary and bonus for that year and $6,000 of the $34,208.14 received as bonus for 1941. He had already received $84,000 of his 1941 salary and bonus in that year, leaving him only $6,000 short of the $90,000 agreed upon as his compensation for 1941.

The respondent has determined that the petitioner is taxable on the entire amount paid to him as compensation by the company in 1942, including the salary and bonus of $90,000 for 1942 and the $34,208.14 additional bonus on the 1941 profits.

OPINION.

LE MIRE, Judge:

Ordinarily, a taxpayer reporting on a cash basis is taxable in each year on all of the income received in that year under a claim of right and without restriction as to its use. North Americal Oil Consolidated v....