Greene Motor Co. v. Comm'r of Internal Revenue

• Decision Date: 27 June 1945
• Docket Number: Docket No. 4984.
• Citation: 5 T.C. 314
• Parties: GREENE MOTOR COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Tax Court

5 T.C. 314

GREENE MOTOR COMPANY, PETITIONER,

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 4984.

Tax Court of the United States.

Promulgated June 27, 1945.

1. Petitioner, on the accrual method of accounting in years prior to 1939, improperly set up certain so-called special reserves and made additions thereto which were claimed and allowed as deductions on its income tax returns for 1938. In 1939 the respondent added the amounts of such reserves as shown on the books as of December 31, 1938, to petitioner's income. Held, although the so-called reserves set up and the additions thereto claimed and allowed as deductions reduced petitioner's taxable income in those years when allowed, the amounts thereof are not properly includible in petitioner's income in the subsequent year, 1939.

2. In the year 1940 petitioner claimed as an ordinary and necessary business expense certain attorneys' and accountants' fees disbursed in connection with income tax deficiencies and penalties proposed by respondent under sections 293(b) and 145 of the Revenue Act of 1938, and of earlier revenue acts. The controversy was compromised in accordance with an offer of petitioner stating that the offer was made to secure release of the petitioner from liability for making false and fraudulent income tax returns and evasion of payment, together with penalty and interest, ‘together with any criminal liability incident thereto.‘ Held, the entire amount of attorneys' fees and accountants' fees is allowed as a deduction. Sec. 23(a), I.R.C. Henry H. Mathis, Esq., for the petitioner.

Cecil H. Haas, Esq., for the respondent.

OPINION.

DISNEY, Judge:

This controversy involves deficiencies in income tax for the calendar years 1939, 1940, and 1941, and declared value excess profits tax for the calendar years 1939 and 1940, as follows:

+-----------------------------+
                ¦    ¦          ¦Declared     ¦
                +----+----------+-------------¦
                ¦    ¦          ¦value excess ¦
                +----+----------+-------------¦
                ¦    ¦Income tax¦profits tax  ¦
                +----+----------+-------------¦
                ¦Year¦deficiency¦deficiency   ¦
                +----+----------+-------------¦
                ¦1939¦$632.24   ¦$710.05      ¦
                +----+----------+-------------¦
                ¦1940¦595.00    ¦1,949.75     ¦
                +----+----------+-------------¦
                ¦1941¦90.91     ¦             ¦
                +-----------------------------+
                

The contested issues are: (1) Whether the respondent properly included in petitioner's gross income for 1939 balances totaling $3,149.06 on December 31, 1938, in so-called reserves carried on petitioner's books and never included in petitioner's taxable income, and (2) whether petitioner is entitled to deduct in 1940 the sum of $1,303.44 disbursed in that year for attorneys' and accountants' fees. All facts were stipulated.

The stipulation, except formal parts, reads:

1. Petitioner, Greene Motor Company, is a corporation organized in 1931 and existing pursuant to the laws of the State of Kentucky. It is engaged in the business of dealing in automobiles at Harlan, Kentucky. Its returns for the calendar years 1939, 1940 and 1941 were prepared on the accrual basis, and were made to the Collector of Internal Revenue for the District of Kentucky.

2. Petitioner, on its books, carried so-called reserve accounts designated as unearned interest, service contract deposits, and finance charges, in which there were the following credit balances as at the end of each of the years shown:

+-----------------------------------------------------------------+
                ¦                         ¦1938     ¦1939     ¦1940     ¦1941     ¦
                +-------------------------+---------+---------+---------+---------¦
                ¦Unearned interest        ¦$3,564.00¦$3,357.00¦$5,304.00¦$7,250.00¦
                +-------------------------+---------+---------+---------+---------¦
                ¦Service contract deposits¦319.00   ¦1,006.70 ¦1,267.57 ¦1,628.58 ¦
                +-------------------------+---------+---------+---------+---------¦
                ¦Finance charges collected¦620.48   ¦1,269.27 ¦747.55   ¦854.54   ¦
                +-----------------------------------------------------------------+
                

Respondent for each of the taxable years involved herein, namely: 1939, 1940 and 1941, has disallowed as deductions taken by petitioner in its said returns for those years the respective amounts added during each of said years to said so-called reserves by petitioner, as not being properly treated under the accrual method, which disallowances are not being contested herein by petitioner. Of said balances as at the end of 1938, appearing above, the sums of $319.00, shown in the so-called reserve for service contract deposits, and of $620.48, shown in the so-called reserve for finance charges collected, had never been included in income reported by petitioner, and were added by respondent to petitioner's income for 1939; of said balance of $3,564.00 shown in the so-called reserve for unearned interest, as at the end of 1938, appearing above, the sum of $1,147.42 was disallowed by respondent as a deduction in petitioner's income tax return for 1938, but the remainder of said balance, amounting to $2,416.58 was never included in income reported by petitioner; after subtracting the decrease of $207.00 in said account during 1939 from said $2,416.58, the net sum of $2,209.58 was arrived at, which was added by respondent to petitioner's income for 1939; the inclusion of said sums of $319.00, $620.48 and $2,209.58 by respondent in petitioner's income for the calendar year 1939 are being contested herein by petitioner. For the year 1938 and prior years, petitioner's books of account were kept and its income tax returns were made upon the accrual basis, except as to said so-called reserves.

3. In said income tax return for 1940, petitioner took a deduction for accountants' and attorneys' fees and expenses paid in the total amount of $1,303.44, which was disallowed by respondent. Said accountants' and attorneys' fees and expenses were incurred and paid by petitioner for services rendered by certain accountants and/or attorneys in representing petitioner before the Bureau of Internal Revenue in connection with liability of petitioner, as asserted by respondent and/or his predecessor, for deficiencies in income taxes and excess profits taxes for the years 1934 to 1938, inclusive, together with penalties as provided by sections 293(b) and 145 of the Revenue Act of 1938, and corresponding provisions of earlier revenue laws, which asserted liability was settled and disposed of as the result of the acceptance by the respondent and/or his predecessor of an offer in compromise dated January 15, 1941, submitted by petitioner to respondent and/or his predecessor in terms and figures, in part, as follows:

‘The following offer in compromise is submitted to you by the undersigned:

‘Charges of violation of law or failure to meet an internal revenue obligation have been made against the proponent as follows: Making false and fraudulent income tax returns for years of 1934, 1935, 1936, 1937 and 1938, and evasion of the payment of income and excess profits taxes for the said years, together with penalty and interest.

‘To secure the release of the proponent from the liability resulting from the violation or failure above specified, the sum * * * is hereby tendered voluntarily with request that it be accepted in compromise of the said liability, * * * , together with any criminal liability incident thereto.‘

The above-described offer in compromise was thereafter, and in due course, on February 22, 1944, accepted by the respondent and/or his predecessor, with the advice and consent of the Secretary of the Treasury.

4. With respect to the year 1941, petitioner claims a net operating loss carryback of $5,316.27 from the year 1942 pursuant to section 122 of the Internal Revenue Code. By a 30-day letter dated August 31, 1944, the Internal Revenue Agent in Charge informed petitioner that sundry adjustments, including the adjustments relating to certain of the issues in this case, disclosed that petitioner sustained a net operating loss carry-back in the sum of $4,694.90 for 1942. It is agreed that said amount of $4,694.90, may be substituted as the correct net operating loss carry-back from 1942 to 1941, instead of $5,316.27 as claimed in the petition.

The first issue presents the question whether the respondent has properly added to petitioner's 1939 income the amount of $3,149.06 carried by petitioner in so-called reserves as of December 31, 1938. Petitioner concedes that under its accrual method of keeping its books the so-called reserves were improper and that the amount of $3,149.06 was never returned as income. Petitioner, however, contests the respondent's right to include in its 1939 income amounts claimed as a deduction in its 1938 return and erroneously allowed in that year by the respondent.

Income taxes are generally assessed on the basis of annual returns showing the net result of all the taxpayer's transactions during a fixed accounting period. Burnet v. Sanford & Brooks Co., 282 U.S. 359. In Estate of William Steele, 34 B.T.A. 173, 176, this Court said:

We have frequently pointed out that each year stands on a separate basis in the tax law and that an error made in computation of the tax for one year can not be corrected by making an erroneous computation under the law of a later year. Union Metal Manufacturing Co., 1 -b.t.a. 395; MacMillan Co., 4 B.T.A. 251; Cooper-Brannan Naval Stores Co., 9 B.T.A. 105; Bank of Commerce, 10 B.T.A. 73; Houston Baseball Association, 24 B.T.A. 69; Virginia-Lincoln Furniture Corporation v. Commissioner, 56 Fed.(2d) 1028.

It is true that the stipulation in the present case contains no statement to the precise effect that respondent was aware of petitioner's action in deducting the additions to the so-called reserves during the prior year— as was found as a fact in the Steele case, supra. Nevertheless, it seems equally clear that respondent actually did know here what petitioner was doing in deducting the so-called reserve additions,...