Union Pac. R. Co., Inc. v. United States

• Decision Date: 22 October 1975
• Docket Number: No. 310-62.,310-62.
• Parties: UNION PACIFIC RAILROAD CO., INC. v. The UNITED STATES.
• Court: U.S. Claims Court

524 F.2d 1343

UNION PACIFIC RAILROAD CO., INC. v. The UNITED STATES.

No. 310-62.

United States Court of Claims.

October 22, 1975.

COPYRIGHT MATERIAL OMITTED

Robert J. Casey, New York City, attorney of record, for plaintiff. Frank E. Barnett, Covington Hardee, Thomas J. McCoy, Jr., John A. Craig, James E. Pratt, David J. Sweet, Clark, Carr & Ellis, New York City, of counsel.

Theodore D. Peyser, Jr., Washington, D. C., with whom was Asst. Atty. Gen. Scott P. Crampton, for defendant.

Before COWEN, Chief Judge, LARAMORE, Senior Judge, SKELTON, NICHOLS, KASHIWA, KUNZIG and BENNETT, Judges.

OPINION

KUNZIG, Judge.

This income tax refund case comes before the court on appeal from the Trial Division where findings and an opinion were filed November 9, 1973, by Trial Judge David Schwartz, pursuant to Rule 134(h). The court has reviewed his decision on the briefs, exceptions, and oral argument of counsel, finds itself in agreement with major portions of that recommended decision and adopts them, with minor modification, as Parts I-II and IV-X of its opinion. The court also adopts most of the trial judge's findings of fact, but modifies portions deemed proper upon consideration of exceptions by the parties. We limit our departure essentially to Parts III and XI of this opinion.

In Part I we deal with plaintiff's claim that it had a right to "expense" certain property costing less than $500 ("minimum rule" property) in its 1942 tax return. In Part II we consider the 1942 deductibility of plaintiff's payroll taxes paid in 1943. In Part III we treat the issue of whether plaintiff may return $13 million to income based upon 1900-1907 accounting errors. In Part IV we handle plaintiff's assertion that certain stock subscription rights received could be included in income. In Part V we resolve plaintiff's request to include stock in certain leased line subsidiaries in its capital assets. In Part VI we answer plaintiff's demand for interest on a 1948 agreement with the Internal Revenue Service. In Part VII we respond to plaintiff's plea to include certain land sale proceeds in its earnings and profits. In Part VIII we decide defendant's "additional defense" that plaintiff erroneously included bond discounts and expenses in its total assets. In Part IX we rule on another additional defense that plaintiff failed to treat other bond discounts, and call premiums as interest. In Part X we pass on plaintiff's entitlement to include certain donations and grants in its equity. Finally, in Part XI we determine the correct amount of plaintiff's equity invested capital based on the value of its stock issued for its operating assets.

We find that plaintiff is entitled to recover in Parts I, V and in some sections of Part X. Plaintiff does not prevail in Parts II, IV, VI and VII. We hold for defendant on its offset claims in Parts VIII, IX and XI. Finally, we remand the issue in Part III for reconsideration by the trial judge.

The Union Pacific Railroad Company brings suit pursuant to the Tucker Act (28 U.S.C. § 1491) and the Internal Revenue Code (§ 7422(a), 1954 Code) for a refund of income and excess profits taxes for 1942. Plaintiff has paid over $30 million in income tax and over $7 million in excess profits tax. It seeks a judgment for $13,409,961.46 (consisting of $9,222,801.78 in statutory interest for 1942 and $4,187,159.68 in income and excess profits tax and assessed interest thereon paid for 1942) or such other amount which may be legally refundable for 1942, together with statutory interest thereon.

The extraordinary span of time from 1942 to the filing of suit is accounted for by the following. The taxpayer filed returns in 1943 and made payments of a total of some $42 million in 1943, 1944 and 1946. Between that time and the conclusion of the audit of the returns in 1957, various timely claims for refunds were filed in amounts varying from $7.7 million to $348,000, and various credits, adjustments and refunds were made in amounts ranging from $694,000 to $196.

The audit, begun in 1945, was completed in 1957. One Internal Revenue agent spent over 5,000 hours, or about 630 working days, on the report, almost 1,000 pages long. The major part of the work was the required preparation of the surplus or accumulated earnings and profits accounts for 25 closely related or subsidiary corporations for the 44 years from 1898, the year of the creation of the taxpayer on the reorganization of the old Union Pacific Railroad. These accounts were directly relevant to the invested capital method chosen by plaintiff for reporting its tax under the World War II excess profits tax act (Title II, § 201, Second Revenue Act of 1940, 54 Stat. 975, 26 U.S.C. §§ 710-752 (1940 ed.)). The primary issue is the valuation of the original Union Pacific Railroad system. This and other major issues required the study of voluminous documents and underlying data located at various points in the country. Various other factors contributing to the length of the audit period included the pendency until 1954 of suits, brought by the taxpayer for earlier tax years, affecting some of the issues involved in 1942 tax liability.

The returns were meantime kept open by consents on the part of the taxpayer. Plaintiff did not press for an early submission of the agent's report, for reasons connected with a certain agreement with the Commissioner concerning freight "cutbacks" or rate refunds, discussed below. It is agreed that the consents were voluntary and without any pressure or coercion and that at no time did plaintiff complain to the Internal Revenue Service concerning the time required to complete the audit of its returns.

The audit, completed in 1957, was the basis of a determination in 1959 of a large net overassessment of tax for 1942. On September 16, 1960, after approval of the determination by the Joint Congressional Committee on Internal Revenue Taxation, a deficiency in excess profits tax for 1942 was satisfied by credits in income tax and a post-war credit, and a total of $7,793,219.55 was refunded or paid to plaintiff, consisting of income tax and declared value excess profits tax for 1942 and statutory interest thereon.

In 1961 plaintiff filed a timely comprehensive claim for refund of $13,409,-961.46, together with interest, and on notice of disallowance, the instant suit was timely brought, on September 14, 1962. The petition as first filed contained 27 counts, to which seven counts were added by an amended petition in 1966. In an answer and four amended answers filed in 1966 and 1968 the Government pleaded 22 separate additional defenses.

Aspects of the case have finally been disposed of as follows. On January 19, 1968, the court pursuant to the Government's additional defense 11 dismissed counts 27 through 30 and 32 through 34 as claims for refund, allowing them to remain only as offsets to defendant's set-offs. 389 F.2d 437, 182 Ct.Cl. 103 (1968), cert. denied, 403 U.S. 931, 91 S.Ct. 2254, 29 L.Ed.2d 710 (1971). Summary judgment dismissing counts 29 and 30 was granted in 1968, thus rendering additional defenses 14 and 15 moot. 401 F.2d 778, 185 Ct.Cl. 393 (1968), cert. denied, 395 U.S. 944, 89 S.Ct. 2017, 23 L.Ed.2d 462 (1969), motion for reconsideration denied, 194 Ct.Cl. 1021. Counts 7 and 31 and the additional defenses thereto, Nos. 2, 3, 4 and 10, were ordered separately tried, after final adjudication of the remaining issues, by then Trial Commissioner (now Judge of the U. S. Customs Court) Herbert N. Maletz.

The parties have through their able and diligent counsel engaged in extensive and fruitful pretrial proceedings and negotiations. A substantial number of counts and affirmative defenses were in the course of these proceedings conceded by one or the other party, by agreements limited to this proceeding.

While counts and additional defenses which have been conceded, by agreements limited to this proceeding, are these: it is conceded that plaintiff is entitled to prevail on counts 1 and 16; it is conceded that plaintiff is not entitled to prevail on counts 3, 10 through 14, and 27 (thus rendering additional defense 5 moot); and it is conceded that the defendant is not entitled to prevail on additional defenses 12 and 13. Count 28 is entirely disposed of by agreement. A number of partial concessions of counts were also made as to counts 17, 20, 21 and 22 and additional defense 20. Various items in counts 19-25 not agreed upon by the parties are disposed of in other counts.

The pretrial proceedings culminated in a stipulation of facts of approximately 500 pages, over 500 exhibits agreed by the parties to be received in evidence or ruled upon in advance of trial and an exchange before trial of the direct testimony of the experts to be called by the parties on the valuation issue. The case was tried between February 26 and March 6, 1969. Testimony consisted of the cross and redirect examination of the expert witnesses, and testimony by three additional witnesses. Proposed findings of fact, objections to proposed findings of fact and briefs were filed between October 13, 1969 and January 5, 1971, and further memoranda were filed in May and June, 1973.

I. "MINIMUM RULE" ACQUISITIONS

The Interstate Commerce Commission's rules for accounting by railroads, effective in 1940-1942, required that items of road and equipment property costing less than $500 be charged to operating expenses rather than to a capital account. Such a rule, known as the "minimum rule," had been in effect for many years; in 1940 the break point was raised from $100 to $500. The Government challenges the effectiveness for tax purposes of the change in the rule. The contention is that (1) items of property costing between $100 and $500, concededly of a capital nature and having a useful life of longer than a year, are "permanent improvements" under section 24(a)(2) of the 1939 Code, must be capitalized, and only depreciation deducted, and (2) the minimum rule...