Case Name: Vaughan & Barnes, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent
Court: United States Board of Tax Appeals
Jurisdiction: United States
Decision Date: 1927-05-11
Citations: 6 B.T.A. 1279
Docket Number: Docket No. 7311
Parties: Vaughan & Barnes, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
Judges: 
Reporter: Reports of the United States Board of Tax Appeals
Volume: 6
Pages: 1279–1287

Head Matter:
Vaughan & Barnes, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.
Docket No. 7311.
Promulgated May 11, 1927.
'William II. White, Jr., Esq., for the petitioner.
W. Frank Gibbs, Esq., for the respondent.
This decision was prepared during Mr. Korner’s term of office.

Opinion:
OPINION.
KoenbR, Chairman:
The issue here involves the deductibility, as salaries and compensation for personal services, of $24,000 paid in 1922 under the circumstances set out in the findings. Of this amount Vaughan, the president, received $12,000 in payment of salary for 1921 which had theretofore been authorized but which, due to lack of funds in 1921, had not been paid to him. The remaining $12,000 represents additional compensation to the officers authorized by resolution of August 31, 1922 — the last day of the fiscal year. The issue naturally divides itself into two elements, the first concerning the $12,000 paid to Vaughan as salary for 1921, and the second concerning the additional amounts paid as set out above.
The first of these items is clearly allowable. A salary of $12,000 to the president had been voted and authorized by the resolution of May 2, 1912 — ten years before the taxable year in question here. The president, Vaughan, had performed his duties as president in the year 1921, but the financial condition of the company did not permit the payment of his salary in the year in which the services were performed. The next year the money was available and the salary was paid. The petitioner accounted on the basis of cash receipts and disbursements. The resolution of August 31, 1922, in so far as it authorized the payment of Vaughan's salary for 1921, was surplusage. He was entitled to it anyway. The petitioner owed him that salary because it had not paid it to him the year before. The respondent is in error. The salary being paid in 1922 should be allowed as a deduction in that year.
The second group of items, amounting to $12,000, presents a more difficult question. It is necessary, first, to determine what these items represent. Was this "extra compensation" voted for and paid in the year 1922 while measured by services performed in the year 1921, or was it voted and paid in 1922 as and for salaries in 1921? The language of the resolution of August 31, 1922, is ambiguous and might be susceptible to either interpretation. The resolution says:
On motion (Inly made, seconded and unanimously carried the following were voted extra compensation to make up for lack of same in 1921 ».
If the interpretation be that contained in the second query above, then we are of opinion that the deduction should not be allowed. That is to say, if the compensation voted and paid in 1922 was the payment of additional salaries as and for a prior year, without previous authorization therefor, it would not properly be allowable in 1922. The reason is obvious. To hold otherwise would permit a corporation with a large surplus in 1922 to effectually dispose of that surplus by voting salaries over a long series of prior years. No simpler method of evading taxes could be thought of J. E. Duval Printing Co., 1 B. T. A. 1205; H. T. Cushman Mfg. Co., 2 B. T. A. 39; Matchless Metal Polish Co., 2 B. T. A. 79; Melrose Granite Co., 2 B. T. A. 113; Columbia Textile Co., 2 B. T. A. 472; W. W. Harrison Co., 4 B. T. A. 174; W. K. Henderson Iron Works & Supply Co., 6 B. T. A. 92.
But the authorization and payment of salaries in a given year as and for salaries in that year, where the amount thereof is in part measured by services performed in a prior year and in the light of circumstances surrounding the payment of salaries already paid in those years, presents a different situation. This is subject to the modification that the salaries paid in the given year come within the statutory definition of "a reasonable allowance for salaries or other compensation for personal services actually rendered." We should be very cautious in substituting our judgment as to the reasonableness of salaries for that of the corporation itself.
We conclude, therefore, that under the conditions just outlined, where a salary is authorized and paid in a given year as and for salary in that year, although one of the impelling influences in determining the amount to be paid was the services and circumstances surrounding the prior year, and when such payments for the year in which paid are reasonable in amount, the deduction therefor is properly allowable. The Board has so held in C. H. Simonds Co., 1 B. T. A. 105, 107, wherein we said:
The fact that the measure of the additional compensation was the amount of the reduction in salaries suffered during the period above mentioned is not proof that the additional amounts paid for 1918 were not in reality additional compensation for services performed by the officers during the year 1918.
Again, in Lihue Plantation Co., Ltd., 2 B. T. A. 740, 742, the Board said:
So long as additional compensation paid within a year does not exceed a reasonable amount it may be deductible even though it is measured by services rendered and compensation received in prior years.
To the same effect: Flint River Brick Co., 2 B. T. A. 31; H. T. Cushman Mfg. Co., 2 B. T. A. 39; Van De Kamps Holland Dutch Bakers, 2 B. T. A. 1247.
A case well nigh on all fours with the instant case is that of Union Dry Goods Co., 1 B. T. A. 833. There a resolution was passed in 1918 reciting that " the back salary should be credited for the years ending July 31, 1915, 1916, 1917, and 1918." By the evidence it was shown that by the resolution it was meant to pay additional salaries for the taxable year in question, 1918. The Board said:
We conclude from the evidence that the additional salaries paid to taxpayer's officers, pursuant to the action of the advisory board, taken on July 12, 1918, were, and were intended to be, additional compensation for personal services actually rendered by them in the fiscal year ended July 31, 1918.
As we have said above, the language of the resolution in tbe instant case, of August 31, 1922, is ambiguous and gives rise to a reasonable doubt as to its meaning. However, in view of our interpretation of a similar given state of facts, we conclude that the resolution of August 31, 1922, was intended to authorize additional compensation for the fiscal year 1922, measured by the services of the recipients of the compensation in a prior year.
The respondent contends that the sum of the two items of $12,000, which is here in controversy, shows a distribution of profits in the ratio of stockholdings but in the guise of salaries. He calls attention to the fact that Vaughan held 60 per cent of the stock, Bruce 20 per cent, Crews 10 per cent, and Pincus 10 per cent; that adding the salary of Vaughan for 1921 to the additional compensation paid, the following is obtained:
Vaughan:
1921 salary-$12, 000
1922 bonus_ 2, 400
- $14,400=60 per cent of $24, 000
Bruce, 1922 bonus_ 4, 800 4, 800=20 per cent of 24, 000
Orews, 1922 bonus_ 2,400 2, 400=10 per cent of 24,000
Pincus, 1922 bonus_ 2, 400 2,400=10 per cent of 24, OCX)
The predicate of respondent's position is (1) that the liability of the petitioner to pay Vaughan his salary for 1921 did not exist until after there had been sufficient profits to pay the other officers their salaries and percentages of the profits computed after other expenses had been met, and (2) that since there was a deficit in 1921, there was no liability to pay Vaughan any salary for that year.
If the foregoing predicate were founded in fact, there might be strong reasons for sustaining his contention. But we can not find that such is the case. All hinges on the resolution of May 2, 1912. We are unable to find in that resolution that the salaries and percentages of net profits payable to Bruce, Crews, and Pincus were to be computed before ascertaining whether or not Vaughan was to receive any salary. The resolution provides first for definite and fixed salaries for the officers, including Vaughan. The resolution then continues — " and it was further resolved that, in addition to the above named amounts [specific annual salaries], the Treasurer shall receive 15% of the annual profits of the business, the Secretary 10% and the Assistant 8%, all to be calculated annually. Said profits, however, to be fixed and determined upon the following basis Then follows the method of computing the profits which were to be divided. No provision is made that the designated salary of the president shall depend on the amount of the profits. On the contrary, it would appear that the profits were to be computed without reference to the president's salary. It seems to have been the intent to deduct all salaries of - officers, except the president's, from gross profits to ascertain net profits as the basis for the payment of the percentages to the treasurer, secretary, and assistant secretary.
If, as we haye held, the salary of $12,000 for 1921 was due and payable to Vaughan under the former authorization of May 2, 1912, the remaining $12,000 was not distributed in its entirety to the stockholders in-proportion to their stockholdings. That failing, the conclusion of the respondent is unsupported in fact.
A further contention of the respondent is that in any eyent the salaries and compensation paid were unreasonable. In the light of what we have said above, in this opinion, we conclude that the salaries paid for services in 1922 were reasonable. It should be noted, that in spite of the salaries and compensation paid and after the deduction of all other allowable expenses, the petitioner, declared and paid 6 per cent on its stock to its stockholders.
Accordingly, we find that the disallowance of the items aggregating $12,000 paid to Bruce, Crews, Pincus, and Vaughan was in error. They should be allowed as claimed by the petitioner.
Judgment will he entered for the petitioner.