Putoma Corp. v. Comm'r of Internal Revenue, Docket Nos. 7468-73— 7472-73.

Citation66 T.C. 652
Decision Date30 June 1976
Docket NumberDocket Nos. 7468-73— 7472-73.
PartiesPUTOMA CORPORATION, SUCCESSOR BY MERGER OF PRO-MAC COMPANY, ET AL.,1 PETITIONERS v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT
CourtUnited States Tax Court

OPINION TEXT STARTS HERE

Individual petitioners Hunt and Purselley each owned 50 percent of the stock of petitioner corporations Putoma and Pro-mac. Individual petitioners were also salaried employees of the two corporations. In 1970, Hunt and Purselley, cash basis taxpayers, canceled about $260,000 that petitioner corporations owned them for accrued but unpaid salaries and interest which the corporations had previously deducted. Held, Petitioner corporations' obligation for accrued but unpaid compensation was conditional and not properly accruable during the years in question. Held, further, cancellation of the interest indebtedness in 1970 did not result in income either to petitioner corporations or to individual petitioners. Commissioner v. Fender Sales, Inc., 338 F.2d 924 (9th Cir. 1964), affg. in part and revg. in part a Memorandum Opinion of this Court, not followed. Held, further, Pro-Mac was not entitled to deduct a commission payable to Hunt. Held, further, a bad debt deduction claimed by Hunt for certain corporate loans is deductible as a nonbusiness bad debt. Richard Lee Brown, for the petitioners.

David L. Jordan, for the respondent.

WILBUR, Judge:

Respondent has determined the following deficiencies in petitioners' Federal income tax:

+---------------------------------------------------------------------+
                ¦Docket No.  ¦Petitioner(s)             ¦Taxable period  ¦Deficiency  ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦                ¦            ¦
                +------------+--------------------------+----------------+------------¦
                ¦7468-73     ¦Putoma Corp., successor by¦                ¦            ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦merger of Pro-Mac Co.     ¦FY 7/31/67      ¦$7,808.88   ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦FY 7/31/68      ¦62,274.65   ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦FY 7/31/69      ¦38,233.57   ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦FY 7/31/71      ¦11,612.39   ¦
                +------------+--------------------------+----------------+------------¦
                ¦7469-73     ¦Lee Roy Purselley         ¦                ¦            ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦and Georgia Purselley     ¦1969            ¦4,094.02    ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦                ¦            ¦
                +------------+--------------------------+----------------+------------¦
                ¦7470-73     ¦Putoma Corp.              ¦FY 6/30/66      ¦17,387.01   ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦FY 6/30/67      ¦11,667.40   ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦FY 6/30/68      ¦166,075.24  ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦7/1-12/31/70    ¦13,016.76   ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦                ¦            ¦
                +------------+--------------------------+----------------+------------¦
                ¦7471-73     ¦J. M. Hunt and Inez Hunt  ¦1970            ¦83,728.45   ¦
                +------------+--------------------------+----------------+------------¦
                ¦            ¦                          ¦                ¦            ¦
                +------------+--------------------------+----------------+------------¦
                ¦7472-73     ¦Lee Roy Purselley         ¦1970            ¦92,580.12   ¦
                +---------------------------------------------------------------------+
                

Certain concessions having been made by the parties, the following issues remain for our decision:

(1) Whether petitioners, Putoma Corp. (hereinafter referred to as Putoma), and Putoma Corp., successor by merger of Pro-Mac (hereinafter referred to as Pro-Mac), are entitled to deduct compensation to shareholder-employees which was accrued but not paid in the years at issue.

(2) Whether the cancellations by stockholders, Lee Roy Purselley and J. M. Hunt, of indebtedness for accrued compensation, interest, and commissions resulted in the realization of taxable income, either by such individuals or by the corporations.

(3) Whether Pro-Mac is entitled to deduct a $6,000 commission payable to J. M. Hunt for its fiscal year ending July 31, 1968.

(4) Whether a bad debt deduction claimed by petitioners J. M. Hunt and Inez Hunt, for calendar year 1970, arising from loans to Jet Air Machine Corp. was a business or nonbusiness bad debt.

FINDINGS OF FACT

During the years in issue, the individual petitioners were residents of Texas and filed their respective returns with the Director, Internal Revenue Service Center, Austin, Tex. At all times pertinent to this case Putoma Corp. and Pro-Mac Co. were Texas corporations each having their principal offices and places of business located in Fort Worth, Tex. Putoma is on the accrual basis of accounting and filed its corporate income tax returns for fiscal years ended June 30, 1966, and June 30, 1967, with the District Director of Internal Revenue, Dallas, Tex., and its corporate income tax returns for fiscal years ended June 30, 1968, June 30, 1969, and taxable period July 1, 1970, to December 31, 1970, with the Director, Internal Revenue Service Center, Austin, Tex. Pro-Mac is also an accrual basis taxpayer and filed its corporate income tax returns for the taxable year ended July 31, 1967, with the District Director of Internal Revenue, Dallas, Tex., and its corporate income tax returns for the taxable years ended July 31, 1968, July 31, 1969, July 31, 1970, and July 31, 1971, with the Director, Internal Revenue Service Center, Austin, Tex.

During the years in issue Purselley and Hunt each owned 50 percent of the stock of Putoma and Pro-Mac. Putoma was organized on July 15, 1963, with Purselley serving as president and Hunt as treasurer. The board of directors consisted of Purselley, Hunt, and Harold Wright, Putoma's accountant. On July 19, 1969, Hunt resigned as officer and director of Putoma and Wilson E. Guest was elected as director.

At a meeting of PutomaS directors held in July 1964, the salary of Purselley was fixed at $600 per month, retroactive from July 1, 1963. This salary was not to be paid, but to accrue to his credit until such time as in the judgment of the majority of directors the earnings of the corporation justified the payment of the salary. Purselley was also given as part of his compensation, 25 percent of the net profits. Compensation from July 1, 1964, was to be determined at a future meeting.

The minutes for the board of directors meeting for Putoma held on August 23, 1965, contain the following statement relating to salary:

Upon motion duly made and seconded, the salary of Lee Roy Purselley for the current year was fixed at $2,000.00 per month plus 25% of the net profit of the corporation after deduction of the $2,000.00 monthly salary, but before deduction for any bonus or Federal income taxes. This salary is to be retroactive from July 1, 1965. Such salary in excess of the $2,000.00 per month is not to be paid but to accrue to his credit until such time as in the judgment of the majority of the directors of the company, the company has such cash reserve in order to pay the additional salary.

Upon further motion duly made and seconded, the salary of J. M. Hunt was established at 10% of the net income of the company before the deduction of any bonus or Federal income taxes. This salary is to be retroactive from July 1, 1965. Such salary is not to be paid, but to accrue to his credit until such time as in the judgement of the majority of the directors of the company, the company has sufficient cash reserve in order to pay the salary.

The compensation formula set out above remained unchanged until January 1, 1970. At a meeting of Putoma's directors held on December 10, 1969, bonuses for Purselley and Hunt were discontinued as of December 31, 1969, and Purselley's salary was set at $3,000 per month beginning January 1, 1970.

The following schedule shows salary and bonus accruals, and cash payments for Purselley and Hunt recorded on Putoma's books for fiscal years ended June 30, 1964, through calendar year December 31, 1971:

+-----------------------------------------------------------+
                ¦Lee Roy Purselley                                          ¦
                +-----------------------------------------------------------¦
                ¦              ¦               ¦Accrued amounts  ¦Cash      ¦
                +--------------+---------------+-----------------+----------¦
                ¦Period ended  ¦Yearly salary  ¦Yearly bonus     ¦payments  ¦
                +--------------+---------------+-----------------+----------¦
                ¦              ¦               ¦                 ¦          ¦
                +--------------+---------------+-----------------+----------¦
                ¦6/30/64       ¦$7,200         ¦$2,763.64        ¦---       ¦
                +--------------+---------------+-----------------+----------¦
                ¦6/30/65       ¦7,200          ¦2,791.59         ¦$10,335.94¦
                +--------------+---------------+-----------------+----------¦
                ¦6/30/66       ¦24,000         ¦21,408.42        ¦11,210.00 ¦
                +--------------+---------------+-----------------+----------¦
                ¦6/30/67       ¦24,000         ¦45,115.41        ¦29,909.32 ¦
                +--------------+---------------+-----------------+----------¦
                ¦6/30/68       ¦24,000         ¦85,324.03        ¦38,004.57 ¦
                +--------------+---------------+-----------------+----------¦
                ¦6/30/69
...

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