World Publ'g Co. v. Comm'r of Internal Revenue

• Decision Date: 07 October 1960
• Docket Number: Docket No. 72034.
• Citation: 35 T.C. 7
• Parties: WORLD PUBLISHING COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.
• Court: U.S. Tax Court

35 T.C. 7

WORLD PUBLISHING COMPANY, PETITIONER,

v.COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Docket No. 72034.

Tax Court of the United States.

Filed October 7, 1960.

Petitioner in 1950 purchased real estate subject to a lease. The lessee had constructed a building on such property in 1928 under a 50-year lease and in 1950 the remaining useful life of the building was not greater than the unexpired term of the lease. In 1952 petitioner paid $8,500 in fees to television consultants who prepared all necessary material used by petitioner in an application for a television license in June 1952. The original application was amended in November 1953 and in February 1954.

1. Held, petitioner is not entitled to deductions for depreciation of the lessee-constructed building; nor is petitioner entitled to deductions for amortization of any portion of the purchase price attributable to a favorable lease.

2. Held, further, petitioner's expenditures in 1952 for a television license application are capital in nature and therefore not deductible in that year as ordinary and necessary expenses.

Barton H. Kuhns. Esq., for the petitioner.

Ivan L. Onnen, Esq., for the respondent.

MULRONEY, Judge:

Respondent determined deficiencies in the petitioner's income tax for the years 1952, 1953, and 1954 in the amounts of $18,087.04, $14,743.77, and $5,485.91, respectively. The issues are:

(1) Whether petitioner is entitled to a deduction for depreciation or amortization of any part of the purchase price of improved real estate which at the time of purchase was subject to a lease held by the lessee who constructed the improvement; and

(2) Whether petitioner is entitled to a deduction as an ordinary and necessary expense of fees paid in connection with an application for a television license, or whether such fees are a capital expenditure.

FINDINGS OF FACT.

World Publishing Company, hereinafter called the petitioner, is a corporation organized under the laws of the State of Nebraska with its principal place of business in Omaha, Nebraska. Petitioner is owner and publisher of the Omaha World Herald. Petitioner is on a calendar year and keeps its books and filed its Federal income tax returns on an accrual basis. Its Federal income tax returns for the years 1952, 1953, and 1954 were filed with the district director of internal revenue at Omaha, Nebraska.

On June 29, 1928, George Warren Smith, Inc., leased two lots owned by it in downtown Omaha to Farnam Realty Corporation for a period of 50 years commencing July 1, 1928, at the following annual net rentals:

+------------------------+
                ¦First 10 years  ¦$25,000¦
                +----------------+-------¦
                ¦Second 10 years ¦27,500 ¦
                +----------------+-------¦
                ¦Third 10 years  ¦30,000 ¦
                +----------------+-------¦
                ¦Fourth 10 years ¦32,500 ¦
                +----------------+-------¦
                ¦Last 10 years   ¦27,500 ¦
                +------------------------+
                

The lease provided that the lessee, Farnam Realty Corporation, was to erect a building of at least six stories and costing not less than $250,000. The lease also provided that, ‘Any and all buildings erected on the said premises under covenants by, or permission granted, to the Lessee shall, at and upon the construction thereof, be and become a part of the realty and upon the termination of this lease, by the expiration of its term or by default or otherwise, any and all such buildings and improvements shall pass to and remain the property of the Lessor.’ Some of the other provisions of the lease were as follows:

(a) Lessee agreed to pay all taxes (except estate, inheritance, or income taxes) levied, imposed, or assessed upon the land or its improvements or ‘upon any interest of the Lessor or Lessee in or under this lease or which the Lessor shall be required to pay by reason of or on account of its interest in said land or improvements.’

(b) Lessee agreed to obtain fire and tornado insurance on the building and that the loss on such insurance policies was to be payable to the lessor. Lessee also agreed to obtain insurance policies against damage to plate glass, against liability for damages to the public or tenants of the building, against boiler explosion and operation of other appliances, workmen's compensation, and any other reasonable insurance that the lessor might require.

(c) Lessee agreed, in the event of fire or other damage to the building, to restore and replace the building, or any part of it, at its own cost and expense. Lessee was, for the purpose of such restoration, entitled to the proceeds of all insurance policies, but if the damage occurred after July 1, 1958, the lessee was obligated to make the restoration only to the extent of any insurance proceeds received by it.

(d) Lessee agreed to keep the building in good condition and repair at its own cost and expense.

Farnam Realty Corporation, the lessee, erected a building on the leased lots. On January 4, 1950, the petitioner, for a total consideration of $700,000 purchased the lots owned by George Warren Smith, Inc., subject to the lease, ‘together with all the tenements, hereditaments and appurtenances thereunto belonging, and all the estate, right, title, interest, claim or demand whatsoever of the said George Warren Smith, Inc., of, in or to the same or any part thereof.’

It is stipulated that the remaining useful life of the building in January 1950 was not greater than the unexpired term of the lease.

In its income tax returns for each of the years 1952, 1953, and 1954, the petitioner claimed a deduction for ‘Depreciation and Amortization’ in the amount of $10,546.92, which was computed by charging off $300,000 of the purchase price over the remaining years of the lease, about 28 1/2 years. Respondent disallowed these deductions, with the explanation in the notice of deficiency that ‘no part of the amount of $700,000.00 paid by you (petitioner) in 1950 to acquire real estate which was subject to a lease granted by the previous owner may be allocated to the building constructed by the lessee under the terms of the lease and, further, that no part of said purchase price may be allocated as a basis for annual amortization deductions.’

During the year 1951 petitioner investigated the field of television and its economic prospects, and sought advice on the necessary steps in obtaining a television license. On April 16, 1952, petitioner entered into an agreement with Noran E. Kersta & Company and Frank E. Mullen & Associates, consultants in the radio and television field. Under the agreement the consultants were to ‘make the necessary studies and submit complete plans and reports to the World Publishing Company in connection with the application for a television broadcast license, such studies and reports to be submitted in sufficient time so that if accepted the World Publishing Company could file the necessary application with the FCC in Washington by July 1, 1952.’ For these services petitioner agreed to pay the consultants a fee of $10,000, less $1,500 which had already been paid to the Kersta organization.

The agreement further provided that, ‘If the recommendations and reports of Kersta and Mullen are accepted by the World Publishing Company, and the services of Kersta and Mullen are desired for subsequent activities in connection with putting the World Publishing Company in actual operation of a TV and/or radio station, it is agreed that an additional fee of $15,000 will be paid to Kersta and Mullen covering such services. * * * ’

On May 15, 1952, the petitioner's board of directors adopted a resolution that petitioner file an application before July 1, 1952, with the Federal Communications Commission for a VHF television station.

Petitioner's articles of incorporation were amended on June 18, 1952, to permit it to form a wholly owned subsidiary, the Herald Corporation, to engage in the operation of a television station. The Herald Corporation was subsequently incorporated and all of its then-authorized capital stock in the amount of $1,250,000 was purchased by petitioner.

Under the April 1952 agreement, the consultants prepared all the necessary material for the television license application, which was filed with the Federal Communications Commission under date of June 20, 1952, in the name of the Herald Corporation. At the time the application was filed, it appeared that it would be 6 months or more before the Federal Communications Commission took any action on such application.

Petitioner made payments of fees to the consultants in the amounts of $2,500, $3,000, and $3,000 in May, June, and July 1952, respectively.

On December 15, 1952, the petitioner wrote as follows to the consultants:

At the time our application was prepared and submitted it was thought that the FCC would be taking action upon our application within at least six to nine months. It is our present understanding, however, that it is quite likely to be at least a year from now before our application comes on for hearing.

Under these circumstances our board would like to clear the company of any outstanding obligations in connection with procedures we have taken thus far. While it may not be necessary, since our agreement of April 16, 1952, seems to definitely contemplate that any further services by yourself or Mr. Mullen would be subject to further agreement at the time of acceptance of such services by the World Publishing Company, I thought it might be...