Lamark Shipping Agency, Inc. v. Commissioner

• Decision Date: 11 June 1981
• Docket Number: Docket No. 12326-79.
• Parties: Lamark Shipping Agency, Inc. v. Commissioner.
• Court: U.S. Tax Court

42 TCM (CCH) 38

1981 TC Memo 284

T.C. Memo. 1981-284.

Lamark Shipping Agency, Inc. v. Commissioner.

Docket No. 12326-79.

United States Tax Court.

Filed June 11, 1981.

Hilary G. Lynch, 700 Commonwealth Bldg., Pittsburgh, Pa., for the petitioner. Stephen R. Takeuchi, for the respondent.

Memorandum Findings of Fact and Opinion

DAWSON, Judge:

Respondent determined deficiencies in petitioner's Federal income tax for investment credit recapture tax and accumulated earnings tax in the amounts of $286.88 and $31,811, respectively, for the taxable year ended September 30, 1976. Petitioner has conceded the correctness of the recapture tax. Thus, the only issue presented for decision is whether petitioner's accumulation of earnings during the taxable year in issue was beyond the reasonable needs of its business and for the purpose of avoiding income taxes with respect to its shareholders under section 532(a).¹

Findings of Fact

Some of the facts have been stipulated, and the stipulation of fact and attached exhibits are incorporataed herein by reference.

Lamark Shipping Agency, Inc. (sometimes hereinafter referred to as petitioner or the Corporation) is a Pennsylvania corporation with its principal offices located in Pittsburgh, Pennsylvania. Petitioner's income tax return for the taxable year ended September 30, 1976 was filed with the Internal Revenue Service Center in Philadelpehia, Pennsylvania. Petitioner reports its income and expenses on the cash method of accounting.

The business of petitioner was originally established as a sole proprietorship by Victor A. Lamark (Victor) in 1925, and was operated under the name Lamark Shipping Agency. Albert A. Lamark (Albert), Victor's brother, has been an employee of the business since 1930. The business was incorporated on October 13, 1966. Initially all the outstanding stock (2,000 shares) of the Corporation was held by Victor. Subsequently he transferred 100 shares to Albert, 100 shares to his nephew, Joseph J. Lamark, Jr. (Jay), and 30 shares to his sister, Rose Kozak. In January 1975 75 shares of Albert's stock were redeemed by the Corporation, and in February 1975, 10 shares of Rose Kozak's stock were redeemed.

Victor was born in 1904 and Albert was born in 1900. Jay, born in 1940, worked for the Lamark Shipping Agency on a part-time basis during high school and college and became a full-time employee of the business in 1962. From October 14, 1966 through December 3, 1976, the board of directors of the Corporation consisted of Victor, Albert, and Jay. During this period the officers of the Corporation were Victor, President and Treasurer; Albert, Vice President; Jay, Secretary; and Gerald J. Hickly, Asssistant Secretary and also the Corporation's accountant.

At all times the business of the Corporation has been the solicitation of contracts for the transportation of cargo and passengers in the international shipping trade. The Corporation's principal source of income is commissions paid by various international carriers. The commissions are computed as a percentage, usually 2½ percent, of the total freight charge to the customers solicited by the Corporation for the shipping lines. The agency agreements entered into by the Corporation and the shipping lines have been limited to a specific geographical region in which the corporation is given the exclusive authority to solicit customers. At all relevant times petitioner's territory has been confined to Ohio, Western Pennsylvania, West Virginia, Kentucky, and part of New York. Petitioner is considered to be one of the leading interior shipping agencies in the country.

The key to operating a successful shipping agency such as petitioner lies in establishing agency relationships with as many lines as possible. Achieving this objective is difficult because a shipping agency can effectively represent only one line serving a particular global region. If that line chooses to take its business elsewhere or decides instead to open up its own office for handling cargo arrangements and customer solicitation, it often takes years for the agency to secure a new relationship with a competitive line in that region. To be successful the agency must also generate sufficient business to satisfy the principals which it serves. To achieve this end petitioner employs salesmen whose job it is to call on manufacturers and exporters located in the territories specified in the agency contracts and to secure cargo contracts for the lines which petitioner represents. In the event either of the parties to the agency agreement becomes dissatisfied, the contracts normally allow for unilateral termination of the agreement upon 60 to 90 days notice to the other party.

To maintain uniformity and stability in the rates charged by American and foreign lines, it is the general custom in the international shipping industry for competing lines serving the same trade route to form an association known as a conference. Members of the conference are required to post a bond to insure their compliance with conference rules and regulations. All of the lines represented by the Lamark Shipping Agency prior to 1976 were conference lines.

During the early 1970's the Corporation's major account was the Prudential-Grace line, which the Corporation and its predecesor had served since 1932. The line was originally known as the Grace line until it was sold to the Prudential line in 1970. Soon after the sale the new management informed the Corporation that it intended to phase out the line's agencies and establish its own offices in the United States and abroad to solicit business. In accordance with this plan the Prudential-Grace line terminated its agency relationship with the Corporation on March 31, 1975.

On January 20, 1975, after receiving advance notice of the proposed termination, the directors of the Corporation held a special meeting to discuss the financial ramifications of losing the Prudential-Grace account. The minutes of that meeting are as follows:

LAMARK SHIPPING AGENCY, INC.

Special Directors Meeting January 20, 1975

V.A. Lamark called the meeting to order and stated that the reason for the meeting was to discuss the fact that on January 15, 1975 they received a notice from Prudential Lines that our agency agreement would be terminated on March 31, 1975. This action they claimed was in line with their new policy to establish their own offices throughout the United States and also in foreign countries. We are the last inland agency to be terminated. After 43 years of continuous service starting with Grace Line in 1932 and then Prudential in 1970, we naturally regret losing this long-time association.

V.A. Lamark noted that undoubtedly this will have considerable effect on our business as Prudential Lines was our number one account in 1974, having generated about 27½% of our income. He further noted that every effort must be made to secure new accounts to offset this loss which will not be easy. Overtures have already been made to several lines but nothing tangible has developed. Meanwhile, every possible move must be made to economize on expenses. The reduction of personnel will have to be considered; however, it was pointed out that due to the problem of obtaining good personnel this should only be considered as a last resort. A.A. Lamark noted that we cannot stimulate more business for the remaining three lines we represent as the economy is in a downward trend and indications are that this will continue throughout the curent year, and we can expect the income from these lines to decline starting the first quarter, of 1975 and into 1976.

V.A. Lamark stated that while 1974 was a banner year for our company, we are now faced with a gloomy picture which has been compounded by the loss of Prudential Lines.

* * *

From 1967 through 1976 the Prudential-Grace Line generated the following commissions for petitioner:

                                                     Percentage
                                                      of Gross
                     Taxable                           Annual
                   Year Ended       Commissions       Revenues
                  September 30        Received       (Rounded)
                  1967 ...........  $113,209.96         59%
                  1968 ...........   102,841.20         58
                  1969 ...........   105,860.36         52
                  1970 ...........    94,352.92         41
                  1971 ...........    73,092.40         32
                  1972 ...........    51,403.04         23
                  1973 ...........    58,134.02         22
                  1974 ...........    55,255.11         13
                  1975 ...........   186,140.70         29
                

The large increase in commission income during fiscal year 1975 was attributable primarily to the payment by the Prudential-Grace line of accrued but unpaid commissions earned during the 1974 fiscal year, which amounts were paid shortly after the date of contract cancellation.²

Petitioner made attempts to secure a replacement line to offset the loss of revenue caused by the termination of the Prudential-Grace contract but was unsuccessful. These efforts, as well as the financial impact of the lost commissions, were discussed at two special meetings of the board of directors on May 1, 1975 and September 2, 1975. The minutes of those meetings are as follows:

LAMARK SHIPPING AGENCY, INC.

Special Meeting of the Board of Directors May 1, 1975 4:30 P.M.

The Meeting was called to order by the Chairman, V.A. Lamark.

All Directors were present.

The chairman stated that the meeting was held to review the present status and future potentials of our business. The loss of Prudential Lines on April 1, 1975, has created a serious problem and it is definite that we cannot maintain our present organization unless we secure some replacements for Prudential. The chairman stated that very little if any reduction in operating costs can be made which might offset some of the large loss in revenues. Our business is developed through the contacts of our outside salesmen and any cutback in these activities would jeopardize our remaining four

...