WC Leonard and Company v. United States
| Decision Date | 12 March 1971 |
| Docket Number | No. EC 6974.,EC 6974. |
| Parties | W. C. LEONARD AND COMPANY, Plaintiff, v. UNITED STATES of America, Defendant. |
| Court | U.S. District Court — Northern District of Mississippi |
James P. Knight, Jr., Jackson, Miss., for plaintiff.
H. M. Ray, U. S. Atty., Oxford, Miss., Leonard Van Slyke, Jr., Tax Div., Dept. Justice, Washington, D. C., for defendant.
This suit seeks the recovery of United States income taxes paid by plaintiff, a Mississippi corporation with its principal office at Kosciusko, Mississippi, as the result of an assessment following examination of its corporate income tax returns. Plaintiff sues to recover $2,931.17, plus interest, which it alleges was overpaid for the fiscal year July 1, 1965 to June 30, 1966, and $1,947.28, plus interest, which it alleges was overpaid for the fiscal year July 1, 1966 to June 30, 1967. The court's jurisdiction is conferred by 28 U.S.C. § 1346(a).
The sole issue in the case is whether certain amounts of salary bonus and rent expense accrued by plaintiff on its books for its two fiscal years are prohibited as deductions for income tax purposes by 26 U.S.C. § 267(a) (2).1
The case, tried to the court without a jury, is submitted for decision upon the pleadings, interrogatories and answers, and stipulated facts. No material fact is disputed.
Plaintiff was an accrual basis taxpayer and was on a fiscal year ending June 30. The income taxes assessed against it were predicated upon disallowance by Internal Revenue Service of the following expenses accrued by plaintiff and deducted on its tax returns:
YEARS ENDED
June 30, 1966 June 30, 1967
Officer's salary 4,000.00 4,000.00
Rent expense 2,105.89 1,214.04
_________ __________
$6,105.89 $5,214.04
W. C. Leonard, Jr. (Leonard), who was plaintiff's president, and his sister, Mrs. Mary Elizabeth Long (Mrs. Long), owned all of plaintiff's outstanding capital stock during the period at issue. Each was a cash basis taxpayer and reported on the calendar year. The accrued officer's salary and bonus which was disallowed, $4,000 in each year, was payable to Leonard, and Leonard and Mrs. Long each received one-half of the accrued rent, also disallowed.
The facts underlying each claimed expense may be summarized as follows:
(a) Officer's salary:
On May 10, 1966, plaintiff's directors adopted a resolution approving "bonuses to the same people and in the same amounts that were paid last year." The previous year's bonuses totaling $15,825 had been paid to eight persons, including a bonus to Leonard of $8,000, which had been paid to him in two equal installments, one during plaintiff's taxable year ending June 30, 1965, and the other more than two and one half months after the close of plaintiff's taxable year. Shortly after the directors' action of May 10, 1966, an aggregate sum of $15,825 was accrued in plaintiff's Bonus Payable account for the same persons, including an $8,000 bonus for Leonard. On May 20, bonuses of $7,875 were paid, of which $4,000 was received by Leonard. This left a balance in the Bonus Payable account of $7,950. This balance included $4,000 owing to Leonard, which sum was not paid until January 5, 1967. This $4,000 is the first of the officer's salary amounts disallowed by the Commissioner in computing plaintiff's taxable income for the fiscal year ended June 30, 1966.
Practically the same thing occurred for the taxable year ended June 30, 1967. An $8,000 bonus payable to Leonard was accrued on plaintiff's books pursuant to a director's resolution adopted May 10, 1967, reading as follows: "The Board approved the same bonus as last year with the following exceptions: delete the ladies since they are under the wage and hours law, increase Mr. Russell's to $600 payable $250 in May, $250 in December and $100 in January." On June 1, Leonard was paid $4,000 or one-half of the accrued bonus, and he was not paid the remaining $4,000 until January 3, 1968. On June 16, 1967, plaintiff's directors authorized a second bonus that "the president Leonard be given a bonus of an additional $5,000 and that Vice Presidents Carnathan and Draper be given raises of $1,400 each, * * * the increases to be paid in a lump sum prior to August 31, 1967." Plaintiff made timely disbursements of all sums accrued in the Bonus Payable account except that the account was not cleared until January 3, 1968, as above stated, when the $4,000 payment to Leonard was made. This $4,000 payment represents the second of the accrued officer's salary amounts disallowed in computing taxable income for the taxable year ended June 30, 1967.
Leonard reported the $4,000 bonus payment received on January 5, 1967, in his individual income tax return for the calendar year 1967, and the $4,000 bonus payment received on January 3, 1968, in his individual income tax return for the calendar year 1968.
(b) Rent expense:
On February 8, 1955, W. C. Leonard, Sr., the father of Leonard and Mrs. Long, leased to plaintiff the property on which plaintiff's dry goods store is located for a ten-year period expiring December 31, 1964, at an annual rental of 2% of plaintiff's sales, but in no event less than $10,800 payable in monthly installments of $900. The lessor died during the original term of the lease and the real property passed by the laws of descent and distribution of Mississippi to his two children, Leonard and Mrs. Long. In February 1965 Leonard and Mrs. Long renewed the lease contract with plaintiff upon the same rental for an additional ten-year period beginning January 1, 1965.
Pursuant to the above renewal agreement, plaintiff paid $900 monthly to Leonard and Mrs. Long. On June 30, 1966, the close of plaintiff's fiscal year, the annual payment of $10,800 was determined to be less than 2% of plaintiff's annual sales by the amount of $3,458.10; therefore, the company bookkeeper, as of July 1, accrued this sum in the Accrued Rent account in favor of Leonard and Mrs. Long. During the months of November and December plaintiff made certain payments on behalf of Leonard and Mrs. Long, to discharge their obligation as landlord, for building insurance and taxes, thereby reducing the balance in the Accrued Rent account to $2,105.89. On January 4, 1967, this amount was paid equally to Leonard and Mrs. Long. Plaintiff claimed this amount as a deduction on its tax return for the taxable year ended June 30, 1966, and it was disallowed by Internal Revenue Service. Leonard and Mrs. Long reported their one-half share of this amount in their 1967 individual income tax returns.
At the end of the next corporate taxable year: viz., on June 30, 1967, a balance of $2,578.26 was determined to be the balance payable to Leonard and Mrs. Long as landlord under the lease, and this amount was set up in the Accrued Rent account as of July 1. Following payments of insurance and taxes made for Leonard and Mrs. Long by plaintiff, $1,214.04 remained as a balance in the Accrued Rent account. This latter amount was disallowed as a deduction on the corporate return for the fiscal year ending June 30, 1967, since the amounts of $607.02 each were not paid to Leonard and Mrs. Long until January 3, 1968. Leonard and Mrs. Long reported their one-half share of this income on their 1968 individual income tax returns.
Leonard, as plaintiff's president, was alone authorized to draw checks on plaintiff's bank accounts. Plaintiff's bank accounts were never less in amount than $13,632.57 from July 1, 1966, to the close of business on September 14, 1966, and never less than $22,685.79 from July 1, 1967, to the close of business on September 14, 1967. Also, plaintiff had an unused line of credit up to $25,000 at a local bank at any time within two and one-half months following the close of each fiscal year.
Plaintiff contends that the Commissioner's disallowance of the deductions was improper because of the absence of an essential element of nondeductibility under § 267: viz, that the payments were constructively received by Leonard and Mrs. Long within two and one-half months after the close of each taxable year, and this constructive receipt constituted a timely payment even though the actual checks to pay the expenses were not issued until after the expiration of the two and one-half month period. Plaintiff urges that the doctrine of constructive receipt applies here because the undisputed evidence shows that the items in question were payable as soon as they were accrued and without any substantial limitation or restriction. While acknowledging that the doctrine of constructive receipt now exists in determining the conditions for § 267—nondeductibility, the government denies that it is applicable to this case for two reasons: (1) Leonard and Mrs. Long did not report the income in their individual returns until the year subsequent to the year of accrual by plaintiff, and (2) plaintiff's policy, as reflected by its past practice of installment payments, constituted a substantial limitation on the recipients' right to withdraw the amounts in the year of their accrual or within two and one-half months following its close. For reasons that follow, we disagree with defendant's contentions and uphold plaintiff's right to recover.
The purpose of § 267, under well-established decisions, is Young Door Co. v. Commissioner, 40 T. C. 890, 893 (1963); Geiger & Peters, Inc. v. Commissioner, 27 T.C. 911 (1957); Platt Trailer Co. v. Commissioner, 23 T.C. 1065 (1955), S.Rept.No.1242, and House...
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