Dillard-Waltermire, Inc. v. Campbell

• Citation: 255 F.2d 433
• Decision Date: 09 July 1958
• Docket Number: No. 17060.,17060.
• Parties: DILLARD-WALTERMIRE, Inc. v. Ellis CAMPBELL, Jr., District Director of Internal Revenue.
• Court: U.S. Court of Appeals — Fifth Circuit

255 F.2d 433 (1958)

DILLARD-WALTERMIRE, Inc. v. Ellis CAMPBELL, Jr., District Director of Internal Revenue.

No. 17060.

United States Court of Appeals Fifth Circuit.

May 23, 1958.

Rehearing Denied July 9, 1958.

Kiel Boone, Cecil L. Smith, Kilgore & Kilgore, Dallas, Tex., for appellant.

Charles K. Rice, Asst. Atty. Gen., Lee A. Jackson, Melva M. Graney, Morton K. Rothschild, Attys., Dept. of Justice, John C. Ford, Asst. U. S. Atty., Dallas, Tex., Heard L. Floore, U. S. Atty., Fort Worth, Tex., for appellee.

Before TUTTLE, BROWN and WISDOM, Circuit Judges.

TUTTLE, Circuit Judge.

This is an appeal from a judgment of the trial court without a jury finding in favor of the defendant District Director of Internal Revenue in a suit for refund of federal income taxes.

Appellant is engaged in the business of drilling oil and gas wells under contract. It reports income from drilling contracts on a completed contract basis; that is, it is not entitled to any of the contract price unless the well is drilled to the prescribed depth in accordance with the contract. Compensation is not, of course, dependent upon the discovery of oil or gas, but it is dependent upon the overcoming by appellant of all the hazards of drilling to great depths, which are substantial.

On December 1, 1951, appellant sold seven drilling rigs to a partnership consisting of the stockholders of appellant whose interests in the partnership were proportionate to their stock ownership in appellant. Appellant also sold and transferred five partially completed contracts to the partnership, which paid book value for the rigs and the cost to date of the work on the five contracts which appellant claimed averaged 52.57% of completion and which appellee computed on a weighted basis¹ as being approximately 65 percent completed overall. The drilling contracts were all successfully completed, four within the month of December and the fifth in February. The contracts produced a profit of $179,000, all of which was reported as income by the partners, none, of course, having been reported by the appellant, the original contractor and assignor of the partially completed contracts. The Commissioner of Internal Revenue, acting under the authority of Section 41 and Section 45 of the Internal Revenue Code of 1939,² allocated $118,000 of the $179,000 profit to the corporate taxpayer, claiming that this allocation was proper because it was necessary both "clearly to reflect the income" of the two businesses and "to prevent the evasion of taxes." The tax assessed on this additional income was paid and, following the disallowance of timely filed claims for refund this suit for refund of the tax was filed. In an abbreviated but adequate memorandum decision the trial court found:

"* * * I find the facts to be gentlemen, as agreed in the stipulation; plus a finding that this was the transfer by the Plaintiff to individuals of drilling oil well contracts and the majority of which had been almost completed. All of this occurred within the term of the taxable year of the Plaintiff here * * *."

"I find as facts, of course, gentlemen, that the work that had been done upon these contracts for these particular wells were and was satisfactorily done and almost completed on each well. In all of which wells there was a considerable profit. And I believe, gentlemen, as a conclusion of law that the Government should recover in this case and the Plaintiff should take nothing."

The appellant vigorously contends that the action of the Commissioner in real-locating income between these two related taxpayers amounts to a compulsory change of appellant's accounting method which it had uniformly followed, i. e., the completed contract method, in that it in effect amounted to a determination that the percent of the profit represented by the percentage of completion was reportable as income as of December 1st. This is a misconception, we think, of the theory of the reallocation statute. As we said in Jud Plumbing & Heating, Inc., v. Commissioner, 5 Cir., 153 F.2d 681, 685:

"The completed-contract method of accounting determines profits, but it does not always, necessarily and conclusively, determine legal rights to those profits, nor the tax liabilities thereon. `Ascertainment of income\' is chiefly a matter of accounting. `Allocation of income\' is chiefly a matter of the application of income tax law to basic legal rights."

Here the Commissioner's action did not require the accrual as of December 1st, the date of the transfer, of any of the profits ultimately earned. It permitted them to be accrued when, under the appellant's method of accounting, they would normally do so when the contracts were completed. When they were completed and the profits were unmistakably earned, the Commissioner considered under all the circumstances here present that 65% of them were truly earned by the corporate taxpayer and only 35% by the new partnership.

As is apparent from a reading of the statute, there is reposed in the Commissioner some degree of discretion in making the determination whether a reallocation should be made. As to the weight to be given to...