National Brass Works v. Commissioner of Int. Rev.

Decision Date23 May 1950
Docket NumberNo. 12295.,12295.
Citation182 F.2d 526
PartiesNATIONAL BRASS WORKS, Inc., v. COMMISSIONER OF INTERNAL REVENUE.
CourtU.S. Court of Appeals — Ninth Circuit

Todd W. Johnson, Donald C. McGovern and Edward D. Robertson, Los Angeles, Cal., for petitioner.

Theron Lamar Caudle, Asst. Atty. Gen., Ellis N. Slack, and I. Henry Kutz, Sp. Assts. to Atty. Gen., for respondent.

Randolph E. Paul, Washington, D. C. (Louis Eisenstein and Louis F. Oberdorfer, Washington, D. C., of counsel), for Pacific Mills, as amicus curiÊ

Before STEPHENS, ORR and POPE, Circuit Judges.

STEPHENS, Circuit Judge.

Petitioner, National Brass Works, Inc., asks us to review a decision of the Tax Court in deficiency redetermination proceedings. The Tax Court found that the Commissioner of Internal Revenue's determination of a deficiency in petitioner's corporate income tax for the year 1944 was correct.

The controversy is over the allowability of a business expense claimed by petitioner under Section 23(a) (1) (A), Internal Revenue Code, 26 U.S.C.A. ß 23(a) (1) (A). Petitioner is engaged in the business of making and selling non-ferrous castings and had deducted from its 1944 gross income as a business expense an amount paid to the government in compromise of admitted violations of certain maximum price regulations promulgated by the Office of Price Administration which established certain maximum selling prices for non-ferrous foundry products. Respondent disallowed the deduction and assessed the disputed deficiency.

The case was submitted to the Tax Court on stipulated facts. In short, after examination of its books by O.P.A. investigators, petitioner admitted that between February 1, 1943, the effective date of such price regulations, and January 31, 1944, it made sales of castings at prices in excess of the maximum prices so established. And, thereafter, "in settlement of the Administrator's Claim for treble damages on account of violations of ceiling prices for non-ferrous castings" quoting from the Enforcement Attorney's acknowledgement of receipt, petitioner paid to the government in 1944 the amount claimed and deducted on its 1944 return as a business expense. It was further stipulated that "the allowability of the deduction is the only issue involved herein" and that the sales in which the overcharging occurred were to "customers who bought the castings for use or consumption in the course of their trade or business within the meaning of Section 205(e) of the Emergency Price Control Act of 1942."

Petitioner contends that the amount so paid to the government in settlement of the Price Administrator's cause of action1 is a deductible business expense. What items may be deducted from gross income for income tax purposes is, of course, a matter of legislative grace and the deduction claimant must bring his case within the statutory authorization. Section 23(a) (1) (A) permits the deduction of "All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business * * *."

As will be later discussed the Commissioner and the Tax Court have consistently taken the position that payment to the government in the circumstances of this case is not an ordinary and necessary expense. However, one appellate court has ruled in a case somewhat similar to the instant one that in some circumstances a payment of damages to the government in settlement of the Price Administrator's claim is a deductible business expense. See Jerry Rossman Corp. v. Commissioner, 2 Cir., 1949, 175 F.2d 711.2 Such is the setting, and petitioner-taxpayer urges us to accept as correct the Second Circuit's reasoning.3 While there are factual differences between that case and the instant one,4 we feel they are of no consequence to our determination because what we must decide here is whether the Tax Court's legal theory, under which certain inquiries were irrelevant is, or is not correct. If not, the matter must be remanded to the Tax Court for further proceedings.

Rulings promulgated by the Commissioner have held that payments to the government in satisfaction of a claim for damages for price violations are not deductible. See I.T. 3627, 1943 Cum.Bull. 111; I.T. 3799, 1946-1 Cum.Bull. 56.5 Compare I.T. 3630, 1943 Cum.Bull. 113. On the other hand, payments to "ultimate consumers" to compromise claims for damages under the Price Control Act have been ruled deductible whether or not "single" damages or more were demanded and paid. See I.T. 3627, supra.6 The Tax Court has consistently disallowed deductions of payments to the government in settlement of O.P.A. violations. See Scioto Provision Co., 1947, 9 T.C. 439; Garibaldi & Cuneo, 1947, 9 T. C. 446; Jerry Rossman Corp., 1948, 10 T.C. 468 reversed, 2 Cir., 1949, 175 F.2d 711; Nazareth Mills, Inc., T.C.Memo. Dec., June 30, 1949. The Commissioner justifies the different result where payment is to a buyer, who is entitled by the Price Control Act to sue, by the touchstone of "remedial" as opposed to "penal". The Tax Court and the Commissioner, on the other hand, have characterized payments to the government as "penalties" and have refused to allow deduction because any mitigation of the "penalty" would be against public policy. See Scioto Provision Co., supra, 9 T.C. 445.

It has been the policy of the Price Administrator to save the innocent price violator from excessive civil liability. The custom to demand of him only the amount of the overcharge, recognizable from a course of conduct at the time these violations occurred, came to be stated in the law. Section 205(e) of the Price Control Act, as amended in 1944, 58 Stat. 640, provides for an affirmative defense to a litigated claim for any more damages than the overcharges, in the following language: "Provided, however, That such amount of damages shall be the amount of the overcharge or overcharges or $25, whichever is greater, if the defendant proves that the violation of the regulation, order, or price schedule in question was neither wilfull sic nor the result of failure to take practicable precautions against the occurrence of the violation."7 The administrative practice and policy as to settlement in cases in which the purchase is for use or consumption in the course of trade or business are stated in Section 9.1601 of the O.P.A. Manual.

It cannot be doubted but that the instant expenditure was incurred by petitioner "in carrying on" quoting from the tax statute its business. Compare Kornhauser v. United States, 1928, 276 U.S. 145, 48 S.Ct. 219, 72 L.Ed. 505. However, it is further required that the expense be "ordinary and necessary", but we are given no help in defining such terms either by the statute or treasury regulations. Compare Kornhauser v. United States, supra; Welch v. Helvering, 1933, 290 U.S. 111, 54 S.Ct. 8, 78 L.Ed. 212; Textile Mills Securities Corp. v. Commissioner, 1941, 1933, 314 U.S. 326, 62 S.Ct. 272, 86 L.Ed. 249. Other than for the idea that it is a "penalty" or that its deduction for tax purposes would be against public policy, the expenditure seems as "ordinary and necessary" as legal expenses incurred in an unsuccessful attempt to resist a postal fraud order see Commissioner of Internal Revenue v. Heininger, 1943, 320 U.S. 467, 64 S.Ct. 249, 88 L.Ed. 171 or the payment of a judgment for damages for fraud see Helvering v. Hampton, 9 Cir., 1935, 79 F.2d 358.

This country has experienced no more complicated and involved regulation of business than that invoked as a war measure to combat inflation through price control. The hazards of inadvertent violation became a common business risk to such an extent as to be the subject of congressional debate and remedy. "The daedalian mazes of the regulations" quoting from Jerry Rossman Corp. v. Commissioner, supra, 175 F.2d 714 proved too much for many persons. See also Samuel v. United States, 9 Cir., 1948, 169 F.2d 787, 791.

But respondent insists that the civil liability to the government for price violations, as provided for in Section 205(e) of the Price Control Act, was imposed as a "penalty" and hence by reason of an asserted rule that statutory penalties are not deductible from gross income, payments in satisfaction of such liability are not deductible.8 Compare, e. g., Commissioner of Internal Revenue v. Longhorn Portland Cement Co., 5 Cir., 1945, 148 F.2d 276, certiorari denied, 1945, 326 U.S. 728, 66 S.Ct. 33, 90 L.Ed. 432; Davenshire, Inc., 1949, 12 T.C. 958, 961. Petitioner argues that such liability was not intended to be a "penalty", at any rate to the extent the amount paid represents overcharges.

While it would perhaps be convenient to attach a tag or label to civil liability for price violations, to do so by the use of the term "penalty" confuses more than it simplifies. What is considered a penalty differs with circumstances and viewpoints.9 That a payment was or was not in the nature of a penalty would give no quick nor sound answer to deductibility. However, if we had to decide the nature of damage payments to the government under Section 205(e), we would liken them to penalties for the reasons expressed in Porter v. Montgomery, 3 Cir., 1947, 163 F.2d 211. We doubt that 205(e) was in any respect intended to provide for restitution.10

The real reason for denying the deductibility of "penalties" is not that they are characterized as such but because allowance in many cases would be against public policy. As the Supreme Court stated it in Commissioner of Internal Revenue v. Heininger, 1943, 320 U.S. 467, 473, 64 S.Ct. 249, 253, 88 L.Ed. 171, a tax deduction must not "frustrate any sharply defined * * * policies" of the sovereign. It is true that neither the tax statute nor the treasury regulations condition deductibility upon the lawful character, either directly or remotely, of the expenditure made. Compare Textile Mills Securities Corp. v. Commissioner, supra. But, in the nature of things, public policy must narrow the field of...

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