Earl Warren: Number 218, Emory W. Parsons, et al., Petitioners, versus Francis R. Smith, Former Collector of Internal Revenue for the First District of Pennsylvania. And Number 305, George Huss, et al., Petitioners, versus Francis R. Smith, etcetera. Mr. McDowell you may proceed.
Sherwin T. McDowell: May it please the Court. In view of the consolidation of these cases, counsel for the petitioners have agreed that each will speak for 25 minutes, reserving with the permission of the Court 10 minutes of the allotted time for rebuttal argument after respondent presents his case which will be made by Mr. Berger. These cases involved the right of coal operator --
Earl Warren: I suggest you keep track of your own time --
Sherwin T. McDowell: Yes, sir. I understand that we have.
Earl Warren: -- because we can't do that for you.
Sherwin T. McDowell: Thank you, sir. These cases involved the right of coal operators engaged in the business of strip mining coal to present its depletion under the Internal Revenue Code. This is not only the first case involving strip miners to come before the Court, but to our knowledge, it is the first case ever to come before this Court in which the right of the person actually producing the minerals to depletion was ever challenged. The facts in both cases are essentially the same. I will state the facts in the Parsons case and due to the extent there are differences, Mr. Berger will state them in the Huss case. Perhaps it would be helpful to consider briefly the operation known as "strip mining." A strip miner mines from the surface of the earth. Unlike a deep miner, he does not drive shafts into the earth to reach the coal. Basically, the operation is performed by removing the earth which lies over the coal known as "overburden." This overburden is removed by making massive cuts in the earth. The overburden from one cut being deposited into the adjacent cut from which the coal has already been removed. The operation resembles to a degree plowing a field except that the furrows may be as much as 200 feet deep. Strip mining of course, is feasible only where the coal does not lie at too great a depth beneath the surface, and also the thickness of the seam of coal has a bearing because it is profitable to remove more overburden to reach a thick seam than a thin one.Seams of coal do not lie or run at a uniform depth beneath the surface. They may crop, fault or pitch. Coal crops when it comes to the surface of the earth. It faults where the vein is cut off beneath the surface usually by a rock upheaval, and it pitches where it goes into the earth at a sharper incline. The overburden is removed in several ways, by scrapers which are the ordinary road scrapers with which one is generally familiar by high-lift shovels which are basically the standard form of steam shovel with a little longer boom to enable the bucket of the shovel to be raised to a greater height. In other words the high-lift shovel in effect digs itself down into a hole in order to reach the coal. And lastly, coal is removed -- overburden is removed by the use of draglines. These vary in size but basically, they're all the same. They operate on the same principle. They consist of a machinery housing and a long boom perhaps 60 to 135 feet from which is suspended a huge bucket by a cable. This bucket is capable of removing great quantities of earth at one scoop.
Speaker: To what extent is the equipment that you use you need for strip mining?
Sherwin T. McDowell: Well, sir --
Speaker: As distinguished from its use -- usability and generally in other types of operation?
Sherwin T. McDowell: Well, I think a fair answer to that, sir, would be that bulldozers, scrapers, trucks may generally be used in -- in road building and in other instances where it is necessary to remove quantities of earth. A dragline is generally limited to a stripping operation, although where it would be necessary to remove great quantities of earth in a road building operation, I presume that a dragline would be used for the purpose. Draglines are customarily used in coal stripping because of the fact that they do remove great quantities of earth with one scoop or bite, and also because they can work at practically any depth because of the fact that their limitation really is only the extent of the cable --
William J. Brennan, Jr.: You've defined things so well. Would you define the dragline?
Sherwin T. McDowell: Sir?
William J. Brennan, Jr.: The dragline.
Sherwin T. McDowell: A dragline?
William J. Brennan, Jr.: So it's just -- is that the word -- that was used?
Sherwin T. McDowell: Yes, sir. D-R-A-G-L-I-N-E.
William J. Brennan, Jr.: What's that?
Sherwin T. McDowell: Well, I -- I think, if I may, that the definition comes from the fact that there's a long boom with a cable and a bucket is suspended from it. The bucket is dropped into the hole in the earth. The machinery draws it back up. In other words, it drags it up on the --
William J. Brennan, Jr.: It's all a (Voice Overlap) --
Sherwin T. McDowell: -- cable line.
William J. Brennan, Jr.: Okay.
Sherwin T. McDowell: Once the overburden has been removed exposing the coal, the coal is cleaned, loosened and placed usually by dynamiting so that it may be removed from the vein. This removal is accomplished by placing a loading shovel, which is generally a steam shovel on the coal in place bringing trucks down into the cut and loading the trucks with the steam -- with the steam shovel. It's obvious of course, that roads must be built for this operation not only to enable the strip miner to move his heavy-duty equipment in but also to enable the coal to be hauled out in trucks. In the Parsons case, the partnership Parsons mined the coal under an oral contract with Rockhill Coal Company, the owner of the land. This contract, is what is known in the industry as a salvage contract, that is to say, Parsons bore all the expenses of the operation and furnished the equipment and received payment only if it was successful in discovering and extracting marketable coal. Parsons was paid a stated price per ton by the coal company on whose lands they were operating. The contract was terminable on 10 days notice by either party, but if the contract was terminated, Parsons had the absolute right to remove and be paid for all coal which he had uncovered even though that took more than 10 days. Parsons had the exclusive right strip areas allocated to it. Parsons controlled the amount of equipment, the number of workers used in the job, and the quantity of coal to be stripped. The value of the equipment used on the job by Parsons ranged from $60,000 in the four-part of the operation to as high as $250,000 in the latter part of the operation.In fact, Parsons' agreement was never terminated by the landowner. Parsons stripped on the landowner's land continuously for over eight years. The stripping ended when Parsons gave the landowner notice that it intended to cease operations after 30 days if that was satisfactory.
Speaker: The right to terminate, was it mutual (Inaudible)
Sherwin T. McDowell: Yes, sir, it was mutual. After giving the notice which -- 30 days which was satisfactory to the landowner, Rockhill, Parsons ceased operation about five weeks later, which was the time required to remove the coal it had been cleared of overburden. The petitioners brought suit upon rejected claims for refund of federal income tax for the years 1945 through 1949. The District Court and the Court of Appeals for the Third Circuit concluded that they were not entitled to depletion and it is this conclusion which is before this Court for review. At the outset, I think it is important to note that the petitioners here seek only a share of the depletion, not all of it. This is so because the statute provides for a deduction of a -- for depletion in the form of a flat percentage of gross income from the property which is defined as the gross income from mining. There is no dispute here as to the gross income from mining. The dispute is whether the strip miner who mined the coal is entitled to percentage depletion on his share of that gross income from mining. Assume, for example --
Earl Warren: What is that share, Mr. -- as you see it, Mr. --
Sherwin T. McDowell: That share is the price per ton he received from the landowner for the coal. In other words, his gross income from mining, Your Honor, would be -- if he will pay $1.50 a ton as he was here the price was varied upward, but his gross income from mining in respect of that ton of coal would be what he was paid for it.
Speaker: What would be the share the owner would get?
Sherwin T. McDowell: Well, perhaps I could handle that by an example, sir. A little easier than using the actual figures but the principle is the same. Let us assume that the landowner sold the coal for $4 a ton. Now, that's the gross income from mining because at that point, the coal goes off the market. Let us also assume that the landowner paid the strip miner who mined the coal $2 a ton. The question is whether the landowner is entitled to percentage depletion on $4 and the strip miner nothing. Or whether the strip miner is entitled to depletion on $2 which is his gross income and the landowner on the remaining $2 of the gross income from mining after deducting what he has paid the strip miner for the coal. So that it is a question of sharing the depletion not endeavoring to increase the depletion dollar above $1 --
William J. Brennan, Jr.: (Voice Overlap)
Sherwin T. McDowell: I beg your pardon, sir?
William J. Brennan, Jr.: (Inaudible) -- what did he get -- on your example, did he get it on $4 or $2 or --
Sherwin T. McDowell: Yes, Your Honor. We are informed that he got it on $4 in my -- using my example.
William J. Brennan, Jr.: Yes.
Potter Stewart: So the -- the total amount of depletion, of the -- of the depletion deduction would be the same in either case. It would be 5% of $4.
Sherwin T. McDowell: Yes, sir, that is right.
Potter Stewart: So that assuming that -- which is the --
Sherwin T. McDowell: And all we ask is a share of the 5% of $4.
Potter Stewart: Which would make sense, I guess.
Sherwin T. McDowell: We're not asking -- I beg your pardon, sir?
Potter Stewart: If my arithmetic is right, that's 20 cents --
Sherwin T. McDowell: 20 cents, yes, sir.
Potter Stewart: Not -- and the only question is whether you take a dime of the depletion per ton and the owner takes a dime, or whether he gets full 20 cents.
Sherwin T. McDowell: That is precisely it, sir.
Potter Stewart: And then --
Sherwin T. McDowell: But it will never be more than 20 cents.
Potter Stewart: Right.
Sherwin T. McDowell: Now however --
Potter Stewart: It's more than 5% of the gross income.
Sherwin T. McDowell: That is correct.
Potter Stewart: Now, did that --
Sherwin T. McDowell: That's how the pie is cut up.
Potter Stewart: So, generally speaking, the -- the Government's position here is that of a stakeholder except insofar as the owner and the -- and the strip mine contractor, whatever -- whatever your client is called, might have different -- might be taxed to different rates, is that right?
Sherwin T. McDowell: Yes, that is -- that is essentially correct, sir.
Earl Warren: Suppose --
Speaker: (Inaudible)
Earl Warren: Oh, pardon me? Suppose your -- your client employed an independent contractor to do a certain portion of his -- his job such as the trucking or loading cars or something of that kind, would he be entitled to a share of the depletion?
Sherwin T. McDowell: In our view of the case, he would not, Your Honor, for the reason that he would not be engaged in mining. We were engaged in mining but someone that may be hired as an employee or may perform part of the process subsequent to the actual mining is not engaged in mining and therefore would not be entitled to depletion.
Earl Warren: Well, then if -- if that portion of your -- of your obligation under the contract is not mining, how would you be entitled to a depletion? Why should you be entitled to a depletion for that portion of your -- of your work?
Sherwin T. McDowell: Well, because the statute Your Honor does not -- does not require a division of the portion of the work that is performed. If we are in the business of mining, we derive gross income from mining by the whole of the operation that we perform. And our gross income from that Your Honor is as we see it, what we get paid per ton for the coal which we deliver after we discover it.
Earl Warren: Where there is mining or not? I mean, on those parts of the operation, your operations that are not mining, you're entitled to -- according to your theory, you're entitled to depletion on that the same as you are on the portion that does constitute mining?
Sherwin T. McDowell: Well, I -- if I may put it this way, Your Honor, I think it is all mining for two reasons. One, as a matter of fact, that is to say that delivering the coal to the tipple is part of the mining but beyond that there is a very elaborate statutory definition of the process of mining which includes a number of treatment processes going beyond the actual process of digging the coal out of the ground so that on either score, as I see it, the whole of it would be mining, the whole of what we did.
Earl Warren: But if you parceled any of that out to anybody, it -- they would not be entitled to any depletion.
Sherwin T. McDowell: Well, I would have some hesitancy to making of a -- a flat agreement because I think that it would depend in part on how that was done. But to the extent it was done simply by virtue of our engaging somebody to perform part of it, my answer would be, "Yes, sir. They are not entitled to -- to depletion." Now, of course whether the strip miner is entitled to this share of depletion we seek depends upon whether he has under the decisions of this Court an economic interest in the coal in place. First, we should observe that economic interest does not mean legal title to or ownership of the coal. Indeed, the term "economic interest" includes, as this Court has held in Palmer against Bender, every case in which the taxpayer is acquired by investment, any interest in the mineral in place and secures by any form of legal relationship income derived from the extraction of the mineral to which he must look for a return of his capital. This principle was most recently restated by this Court in the Commissioner versus Southwest Exploration Company. In that case, a -- an oil operator, got a lease from the state to drill for offshore oil. As required by a state law in the absence of an artificial -- a natural or artificial drilling island from which he could drill, he secured the right from the adjacent upland owners to erect drilling equipment on their lands and by the process known as "whipstock drilling" reach the offshore oil. He agreed to pay the upland owners a stated percentage of his net profits for the right to use their land. The issue before this Court was whether the upland owners had an economic interest in the offshore oil. This Court held that they did, that the upland owners' contribution, their land, was an investment in the oil in place sufficient to establish their economic interest. Their income was dependent solely upon production and the value of their interest declined with each barrel of oil produced.
Speaker: Wasn't -- wasn't that a situation in which the taxpayer who -- the landowner had land which was -- could only be used -- there wasn't any other land that could be used for this offshore drilling, was it?
Sherwin T. McDowell: Well, if I might answer that this way, Your Honor. Actually, there were contracts made there in that case with five upland owners. Actually, the land of only three were used to reach the oil so that -- I think it is fair to say that while the upland owners were essential as a class, no single one of them was essential to -- to make it possible for the oil deposit to be reached. The requirements as we stated in the Southwest case may be summarized as follows. There are three. First, the taxpayer must apply by investment an interest in the mineral in place. Second, he must derive income solely from production. And thirdly, his interest must decline with production. The petitioners here urged that we meet precisely these requirements. First, by the contracts, we acquired an interest in the coal namely, the right to mine it, and be paid for it. This interest like the interest of the upland owners in the Southwest case was essential to the mining operation.
Charles E. Whittaker: Can I ask you as to their --
Speaker: Yes, sir.
Charles E. Whittaker: (Inaudible) the coal and the right to be paid for it. Now, what do you mean, paid for the coal or for the mining?
Sherwin T. McDowell: The right to be paid for the coal, Mr. Justice Whittaker, when after we mined it. In other words, we took the risk of discovery and after we got marketable coal above the ground and delivered it to the landowner, we were paid for that coal. So I was -- when I said "it" I meant coal. Yes, sir.
Charles E. Whittaker: Do you have any title as such to the coal?
Sherwin T. McDowell: No, sir. We had no title as such to the coal.
Charles E. Whittaker: And now do you get paid for the work, were you not?
Sherwin T. McDowell: No, sir. I do not think we were being paid for work because you have to have regard for the circumstance under which this arrangement arises. In other words, we received absolutely no pay unless, under the salvage contract, unless after furnishing all of the equipment and doing all of the work we found coal that was marketable and delivered it to the owner. Our position is that the contribution of the strip miner who does the mining is equally essential -- equally as essential as the contribution of the landowner --
William J. Brennan, Jr.: May I ask you as to the --
Sherwin T. McDowell: Yes.
William J. Brennan, Jr.: Do you put any label to that interest?
Sherwin T. McDowell: I beg your pardon?
Hugo L. Black: You put any label on this (Voice Overlap) --
Sherwin T. McDowell: To the contribution?
William J. Brennan, Jr.: To the interest that you acquired?
Sherwin T. McDowell: No, sir. I -- my answer would be, I don't think a label is necessary because the Court has said by any equal relationship and we were not trespassers. We were in there as of right so that I don't know that it's necessary to define the -- the -- by label the right that we had under our contract. I would not regard it as important to do that, Your Honor.
William J. Brennan, Jr.: Well I -- I'm thinking about Mr. Justice Whittaker's question to you. You said that you had "an interest" in the coal as I understood it, is that right?
Sherwin T. McDowell: Yes, sir.
William J. Brennan, Jr.: An interest in the coal.
Sherwin T. McDowell: Yes, sir. Our position is that we had an interest in the coal in the same -- in the same way in which the upland owners in the Southwest case were regarded as having an interest in the offshore oil that was out beyond their -- the actual line of their ownership.
Charles E. Whittaker: (Inaudible)
Sherwin T. McDowell: Yes, sir.
Charles E. Whittaker: (Inaudible)
Sherwin T. McDowell: Well, Mr. Justice Whittaker, I think the answer is this, that the Court held that the upland owners had an economic interest in the oil in place. There is a -- there is a quotation from the Southwest case which I think is --
Charles E. Whittaker: (Inaudible)
Sherwin T. McDowell: All right. But you will find in there, sir, a statement to the effect because under the law as it has developed in this Court under these economic interest decisions, the ultimate conclusion is that the man who has a depletable interest has an economic interest in the mineral in place. The second requirement of the three I summarized, namely, that our income must be dependent upon production is clearly met here, and as we understand it, the respondent has conceded that. And the third requirement, namely, that the interest must decline in value as the coal is exhausted is likewise met here because with each ton of coal removed, the strip miners were that -- there remained that much less coal from which the strip miners might thereafter derive income. We believe that perhaps an apt way of demonstrating our position that the strip miners in this case had an economic interest in the coal in place is to paraphrase the words of this Court in the Southwest case and substitute the word "strip miners" for the word "upland owners" as used in that case. Here, the strip miners chose to contribute their organization and equipment to the coal-stripping venture in return for income based upon production. This contribution was an investment in the coal in place sufficient to establish their economic interest. Their income was dependent entirely upon production and the value of their interest decreased with each ton of coal produced. No more is required by any of this Court's decisions.
Hugo L. Black: In my recollection directly, they were indispensable to this -- to the work they've done there and their property was indispensable --
Sherwin T. McDowell: Well, Mr. Justice Black, their property was indispensable as a class and if -- if I may -- if I may, sir --
Hugo L. Black: Well, could it have been produced without excess to and from their property?
Sherwin T. McDowell: As a practical matter, no, because it would've been too expensive, apparently.
Hugo L. Black: You, in your case.
Sherwin T. McDowell: Yes, sir, we -- it takes a coal stripper to --
Hugo L. Black: I understand that.
Sherwin T. McDowell: -- produce this coal.
Hugo L. Black: There, this was a part of the setup itself. It was a -- he had an asset there and that he was a part of it just as much as though he was --
Sherwin T. McDowell: Well --
Hugo L. Black: And there are other men on -- over -- on that land.
Sherwin T. McDowell: Except this one -- this one fact, sir, which I understand from the case there were five upland owners from whom drill sites were secured and ultimately, wells were drilled on the land of three, so that the oil deposit to the extent of the oil operator desired to reach it was reached from the land of three not the original five upland owners.
Tom C. Clark: Upland owners though was a party to the lease arrangement.
Sherwin T. McDowell: As I understand it -- as I understand it, Mr. Justice Clark, he was not a party to the lease arrangement which the oil operator made with the state. The record in that case, I believe, discloses that it was stipulated indeed that he had no interest in that lease.
Tom C. Clark: The endorsements though in the application (Inaudible)
Sherwin T. McDowell: Well --
Tom C. Clark: The thing is he was going to press the land which is necessary --
Sherwin T. McDowell: Yes, that --
Tom C. Clark: -- if the State gave it.
Sherwin T. McDowell: That is -- that is correct sir, because as I understand that the State required him or required the oil operator to demonstrate that he had a drill site, so he brought his agreement in.
Hugo L. Black: He owned the part of the assets as I recall it. I have read it. He owned the part of assets which were indispensable for the production of that oil. And the more oil that is produced, the less his land would be worth, so it's wasted away.
Sherwin T. McDowell: But of course you understand, Mr. Justice Black, that he didn't sit over and owned any of the oil as such.
Hugo L. Black: I understand that.
Sherwin T. McDowell: His land was here and the oil was offshore.
Hugo L. Black: He owned the part -- he owned the part of the property that was indispensable for the production of the oil. Suppose if -- if the company had owned all that, they would've used it just as it did.
Sherwin T. McDowell: Yes, sir. Well, I -- that is -- that is -- that is correct. He -- he owns something which in those --
Hugo L. Black: He -- he actually sustained a law in connection with the assets that were utilized both for the production over the properties.
Sherwin T. McDowell: But we maintain, Your Honor, that we did here too because with each ton of coal produced, our right to produce coal under this arrangement necessarily declined.
Hugo L. Black: What about a coal miner?
Sherwin T. McDowell: You mean an -- well --
Hugo L. Black: You have the coal miner.
Sherwin T. McDowell: Well,
Hugo L. Black: -- he -- he have an interest to that extent, wasn't it?
Sherwin T. McDowell: No, sir. A coal miner would be, in our view of the matter, Mr. Justice Black, an employee, he would not be engaged in the business of mining for his own account as these strip miners were.
Hugo L. Black: If it was his own account, he'd get some wages for that.
Sherwin T. McDowell: Well, if -- well, to that extent, yes, right -- right so.
Hugo L. Black: He loses that interest. If he loses -- if there -- all that's depleted, he loses his job.
Sherwin T. McDowell: Yes, but he is not deriving gross income from mining sir, in the sense that he is engaged in the business of mining as an entrepreneur. He's an employee.
Speaker: Right. That -- that would be a valid distinction.
Sherwin T. McDowell: I would like to make just one point, if I may, and that is with respect to determination clause in this contract. I direct the Court's attention to the fact that it was under our contract agreed that if 10-days notice was given, Parsons had the absolute right to take out all the coal it had been uncovered irrespective of how long that required. So that as to the coal which was actually removed and the coal with respect to which depletion is sought, our contract in fact was not terminal because the minute the overburden was removed, that coal was coal which could not be taken away from us by termination and that was coal which we had the absolute right to take out, and sell to the landowner for the stated price.


Earl Warren: -- United States, Petitioner, versus Consolidated Edison Company of New York Incorporated. Mr. Jones, you may proceed with your argument.
John B. Jones, Jr.: Thank you very much Mr. Chief Justice, may it please the Court. For the second Monday in a row, this Court is faced with a difficult question on the interrelationship of the accrual accounting and the federal income tax.
William O. Douglas: Are you restricted to Mondays?
John B. Jones, Jr.: But, it was last Monday Mr. Justice Douglas that this Court considered the American Automobile Association case. And I was trying to recall to the Court that some of the matters which are relevant here will be considered just one week ago. At 17 years ago, this Court in the Dixie Pine Products case and in the Security Flour Mills case laid a rule which was -- which has been universally followed to the effect that when the taxpayer contest a tax which is deductible for federal income tax purpose and does not pay that tax. That it would be contrary to the principles of accrual accounting in our federal income tax law to permit him to deduct that tax. The question today is in a sense of refinement to that question. What is the rule to be followed where the taxpayer pays the tax? Perhaps, under -- as in this case, under violent protest but nonetheless pays the tax, but then -- and then goes on to contest in the appropriate forum his liability for that tax. Position which the Government is urging is that payment is a very important matter, one that is not made likely in the business world. And that ones payment is made, the position of the parties has changed considerably. That change should be reflected in the tax accounting. In this case, the respondent has been described by the Second Circuit as a well-known public utility. It has large real estate holdings in New York City. For the years 1946 through 1950, the respondent contested the liability alleged to be owing one hundredths of parcels of real estate which he owned. The settlement for all five of these years, which reached in 1951, this case presents to the Court the question of the tax treatment for 1951. However, if this Court will determine what was the appropriate accounting at the end of the tax year in question all of the other questions ini the case were fall into place. Now, I call to the Court's attention a stipulated example which is printed in perfusion. It's in the record page 5, petitioner's brief page 5, respondent's brief page 7. This example has -- has been agreed by all parties and by all the courts which have considered this matter to be one which brings out with full clarity the true issues in the case. The stipulated example takes the year 1949, but this would -- the same thing would be true as to any of the other years of the tax years in question. On January 25, the respondent would receive a notice from the City Tax Commission that he owed in respect of certain property a tax of $100. Within a short period thereafter, the respondent was required to file what amounted to a -- a protest. And in this protest, which is admittedly a bona fide protest of the tax liability. The respondent would admit that on his estimated value, a true tax would be $85. But, respondent denied any liability in excess of that. Now, in terms of the stipulated example, it's assumed that this administrative protest was unsuccessful which at by and large was. Then in -- on May 25, the $400 tax was assessed by the appropriate authority. Then, October 1st, was the payment dates for the taxes. On that date, responded paid the $400. Now, he did this under a violent protest and for the stated purpose of avoiding levy, seizure, penalties, interest and all of the problems that come to people who don't pay taxes. And I want to be very careful that nothing I say later in this argument would give any indication that the Government contest that this respondent was acting in anything other than good faith in making that type of protest and that the reasons for making their payment are as stipulated. Then on October 25, the respondent would commence in the New York Supreme Court certiorari proceedings. And in these certiorari proceedings, it would admit as it did earlier liability for $85 of the tax. It would deny liability for the rest.But since it had paid the money, the obvious relief sought was it would be refunded the $15 which it had paid as tax. Now, those are all of the events which happened in the tax year. Looking at the books of the company, at the end of -- in this case, 1949, what is the appropriate accounting treatment? Well though, as I see it, there would be three ways that this could be done. Perhaps, the soundest in the long run would be to say, "Well, this is such a contest. We'd just have to hold the books open and see how things come out." This would be the most accurate. But nobody in this Court urges that approach. This was foreclosed by a number of decisions of the Court perhaps Burnet versus Sanford & Brooks would be as good an example as any. But the income tax rule requires that we do make an annual estimate if you wish, or the best -- based on the best information possible, an annual determination of the income, so that no one beliefs that you can accurately reflect everything that happened in the year 1949. Now, the second possibility would be to say that the payment of $100 was a payment of tax and accrue the entire amount. And say that at the end of the year, the contingency is whether the taxpayer will get a refund of the $100. That is what we don't know. We do know that he's paid $100.
Potter Stewart: A refund of a maximum of $15.
John B. Jones, Jr.: Excuse me, a refund of a maximum of $15. Now, this is the position which the Commissioner advised respondent to take a published and announced ruling on this. It's the method which was followed in taxpayer's books, it's a method that the Government is urging in this case, it's a method which the Court of Claims has decided should be followed, it was a method to the District Court accepted here. The Second Circuit held for the third possibility, which I'll now discuss. The third possibility would be to say that the Dixie Pine products and Security Flour Mills cases say that whenever taxes is -- is in dispute, we will never, under any circumstance, record an amount until that dispute is settled. And under these principles, he would in the tax year accrue an expense of $85 and in effect hold the $15 in suspense until the litigation was terminated. This is the view which the Second Circuit adopted. Now, I stop short of the last step of the stipulated example because I wish to focus the attention of the Court on the end of tax year. In fact, in 1951 under the stipulated example, there was a determination of this litigation. The tax liability was found to be $95. This meant that the taxpayer had overpaid his taxes $5. But it also meant that the taxpayer owed the remaining $10 out of the 15.
Charles E. Whittaker: But he already paid that amount.
John B. Jones, Jr.: That's right. He had already paid that amount. But, in effect, the -- if the item was in suspense under some method of accounting, it was supposing at that time as being forever applied to the tax liability, there was no further litigation possible. Now, in the refund suit in this case, the taxpayer said that the method it followed in this returns in the tax years was incorrect. It should now in 1951 when it settled five years of tax liability. So a reading must considered that we're asking it to take a deduction five times $10. The taxpayer says that in effect, it should deduct the $10 which is unsuccessfully contested only in the later year. And the Government on the other hand says that the method you treated it on your tax return is what is required by the annual accounting system for income tax purpose. The way you correct your adjustment which is now shown to have been slightly erroneous is to take the $5 which is refunded to you back into income. Now, I'm sure that we all recognize --
Potter Stewart: In other words, the -- the Government's position is, that you treat this taxpayer just as though he were a cash basis taxpayer?
John B. Jones, Jr.: Well, I'm not sure that that's true.
Potter Stewart: Why not?
John B. Jones, Jr.: Well, we have the problem -- for example, there might be a prepayment of tax before the tax year which came up. For example, if he prepaid 1949 taxes in 1948 --
Potter Stewart: But I'm -- well, I'm -- I'm looking to the stipulated example.
John B. Jones, Jr.: The -- the tax -- the cash basis taxpayer would report on the method we're now urging as well.
Potter Stewart: Just the same?
John B. Jones, Jr.: Well, that's right, that's right. But this -- I don't think we're converting this man to a -- the respondent to a cash basis because it is our position not that we use a hybrid method at all, but that under any proper accrual accounting system, payment which distinguishes a liability, it so brings about an accrual within the full meaning of the accrual concept.
Charles E. Whittaker: Mr. Jones.
John B. Jones, Jr.: Yes.
Charles E. Whittaker: If I may ask you, in as much as you have mentioned prepayments, is it your contention that they too must be accrued even though there is no tax yet against which to apply them?
John B. Jones, Jr.: No, but it would not be our position. That -- that is actually raised in the first Court Of Claims case involving the same parties. There was a slight prepayment of tax in Court Of Claims though adopted the rule which the Government urges here today said that that did not go as far as to permit the prepayment to be deducted for an accrual basis of taxpayer. I did want to mention to the Court at just this point that this is not the first time this taxpayer has made this claim. For the years 1938 through 1940, that's three years, were similarly contested and settled in 1941. Exactly the same contentions were made, the same stipulated example was made, this was went through the Court of Claims and it was decided adversely to the respondent, certiorari was denied. Now, naturally enough in the first instance in the hearing of this case before the District Court, the Government urged that perhaps some doctrine of res judicata or collateral stopper would preclude respondent from re-litigating the issue. Neither the District Court nor the Second Circuit felt that there was the complete identity of facts required by the Sunnen case, that's in 333 U.S. Thus, both courts found against the Government of that issue, this is not raised in the petition for certiorari.
Charles E. Whittaker: If you -- if you would not contend that one who prepays taxes -- the accrual basis taxpayer must accrued them, then, how can you contend that he must accrue taxes that he disputes does not admit to be due?
John B. Jones, Jr.: I -- I believe it's our position that payment is a -- is a transcendent fact when a man makes --
Charles E. Whittaker: Well -- there's been payment when there's been prepayment to something that he's part with the money, can he?
John B. Jones, Jr.: That -- that's true. But we -- we have in the code a recognition that a -- a prepayment situation would distort the annual accounting principle. It would take the taxes out of the year to which they are attributable. And the language in Section 43 which is sometimes cited for this purpose is design to deal with -- with that problem. There is a special authority in there that works necessarily to clear to reflect income, the deductions or credit should be taken of a different period.
Charles E. Whittaker: If I find on your books in the suit where it's to my interest and adverse to your interest and admission by you that you have a liability that you accrue, may I not use that as an admission against interest against you? And isn't it true that if you setup -- if you require to setup an accrued liability that the taxpayer disputes, aren't you making any setup of dishonest entry?
John B. Jones, Jr.: Well, I -- I believe accounting is -- is designed to meet the realities in situation. I assume that in any substantial contest, any statement of financial condition given out by the taxpayer would have to make some note of this contested taxes that there is a claim and that the financial picture of the corporation cannot be adequately represented without specifying that. I -- I don't know whether any court would go so far as to hold that such specification was an admission of an amount. But it seemed to me that if there was a footnote that this is contested, you could still accrue for tax purposes without embarrassing yourself before the Court.
Charles E. Whittaker: (Inaudible)
John B. Jones, Jr.: Well, I would -- I -- I don't object to the footnote, I object to not accruing.
John M. Harlan II: Could I put something to you? The difference in your hypothetical of $85 and $100 as the hypothetical taxpayers sought to put over to this succeeding year or at least until settlement, the $15. Now, supposing he had undertaken to make an estimate based on his past experience with the City of New York, and instead of putting over the whole $15, he had undertaken to say, "Well, I think the reasonable estimate of what I'm going to get back is have that need and therefore, he had reported he put over $7.5 of it, half of it. What -- what was the Government's position be there?
John B. Jones, Jr.: I think the Government would not recognize such an estimate.
John M. Harlan II: In other words, you say it is an all or nothing proposition and not to the -- and no question is opened as to the reason of malice of what the taxpayer undertakes to do in a particular situation.
John B. Jones, Jr.: Well, that is not our case.
John M. Harlan II: I know.
John B. Jones, Jr.: But I -- I -- on the basis of --
John M. Harlan II: But your proposition is the proposition --
John B. Jones, Jr.: Well, I think that the argument last Monday has some bearing on this, an accrual system where you put --
John M. Harlan II: This is a different case from last Monday.
John B. Jones, Jr.: This is a different case but you are taking a closer to that. The accrual system when you get into the business of putting up an estimate is peculiarly subject to abuse and peculiarly beyond the control of the Government. And unless Congress makes -- gives an express mandate that a reserve for this or for that is permitted, the Government is not going to welcome --
John M. Harlan II: Well, I just wanted to get your thesis. Your thesis is that payment closes the door and once payment is made, whether under protest or otherwise that fixes the year in which recording has to be made.
John B. Jones, Jr.: Subject to this prepayment.
John M. Harlan II: Subject to the prepayment.
Charles E. Whittaker: Well, doesn't that read Section 41 out of the book?
John B. Jones, Jr.: I don't believe so. We -- we're not -- we're claiming that any proper accrual system takes account of the fact whether payment has been made.
Charles E. Whittaker: Last stanza to 51, that if the system of accounting to use does accurately reflect income, the Commissioner has no choice but to accept it.
John B. Jones, Jr.: Well, first let me point out that there is no claim in this case that this is the method used on the taxpayer's books. There is -- the findings in this case are somewhat less complete than they were in the earlier case. In the earlier case, it was made very clear that the taxpayer did not follow the method which he's urging here in its own books. It is trying to get a special rule for tax purposes which may also be adopted on its own book. So, that this is not a case, what we are trying to do what the tax -- let the taxpayer do what it's done on his own books. He says that the only proper way to treat the accrual of taxes is to do what he has alleged here.
Charles E. Whittaker: But you -- he did expense it all here in the original years of payment when you say that was proper.
John B. Jones, Jr.: Yes, I say that's proper. I say that the record here is perhaps -- is -- is not complete on that specific point coming as it did after the earlier case. In the earlier case, it was quite clear that the books accrued the taxes on the basis of the original assessments. There's been no claim by anyone that the -- that there has been a change in the taxpayer's book but, it is not -- nothing on that point is directly supportive by the record. Now, I would like to take issue with the statement of the question as stated by the respondent on page 2 of his brief. He purports to make an all important distinction between our phrase, "pays a local property tax assessment under protest and then sues to recover part of the payment."
William J. Brennan, Jr.: What page is that?
John B. Jones, Jr.: Page 2 of the respondent's brief. He states -- we take our statement case and he says that it is improper for failing to take account of the fact that the tax is involuntary paid because "it was necessary to state the imposition of penalties and foreclosure of the tax leans." Now, we -- we would urge on the Court very strongly that the question is as the Government has stated. A careful reading of the Second Circuit opinion, well, I believe, convinced the members of the Court that the Second Circuit even though it reached the result contrary to the Government, did not put great weight on the fact that this payment was involuntary. Now, I suppose it's very hard to describe a voluntary payment of taxes. I suppose if we had a payment of tax without adequate enforcement, there would be very few payments of tax and perhaps if there were no enforcement, it could be described as voluntary. But to attempt to go in to the motive of a person making a payment of tax or give the Government an impossible job of administration, not only are there hundreds of taxing statutes with all kinds of sanctions to compel payment but also suppose under this case, suppose another New York City taxpayer comes in and says, "Well, I know that those are penalties but that wasn't the reason I made payment. I made payment because we had extra cash around and it seemed to us sound a business judgment to pay the tax, get it back with 6% interest which would be -- would fit our purposes better." I assume that no one ask for the subjective test but I'm sure that this Court does not wish to be put in the position or to put the Government in the position of going in each payment and determining how willing the payment was. So, this brings us back to the real issue which we -- we perhaps discuss completely whether payment in the tax year itself brings about accrual under the accrual system of accounting. Even though at that time, there is a contest pending which may resolve in a refund. Now, this is a question on which men may differ as indeed the court below has. But we think that if you look at the real principles underlying Dixie Pine and Security Flour Mills, you will -- you will agree that the -- what we are looking for is where is the contingency? What is contingent? And at the end of the tax year in this case as in other cases arise here, the contingency is, is this taxpayer going to get his money back? And if we permit this method of accounting, we are holding the wrong question in suspense.It's not whether he's going to pay the tax. He's paid it. He doesn't owe any tax. And if it -- and if he -- for some strange reason, the dispute has never terminated, which method will reflect it better? It would be the method that recognizes where the cash dollars are. The city has the dollars. It's collected its tax. It may or may not refund the tax. Now, I don't want to -- to claim that Dixie Pine and Security Mills compel this result.I don't believe they do. And it would be hypocritical perhaps because the Government has often and court cases urged the opposite result. But let me say that a reading of those two opinions which are quite briefed will make it clear to the Court that in both -- in both decisions, the Court was quite aware of the fact that the tax had not in fact been paid.
Earl Warren: Mr. Jones, may I ask -- may I ask this question. Wherein would the Government suffer or the -- the respondent gained an unconscionable benefit by following his -- his theory of accounting and his present position in the case?
John B. Jones, Jr.: What is involved in his case is the fact that the -- there is a difference in tax rates between the years. 1951 was a Korean excess profits tax year. And that the earlier years, the corporations were taxed at lower rates. So that by not taking any deduction in 1949 for example, I'm taking it in 1951, it's worth the great deal more. I'm not sure if the exact percentages but say that a deduction is -- is worth 40% in 1949 and its worth 65% in 1951, that's where the difference lie. Now, may I say this --
Earl Warren: Well, in the tax when -- the taxes were lower in -- in second year instead of higher, why he had -- the reverse would be true, wouldn't it?
John B. Jones, Jr.: That's quite true.
Earl Warren: Now, may I ask if -- if there is any question -- there is no question I understood you to say about the good faith of the --
John B. Jones, Jr.: That's correct.
Earl Warren: -- would you make any distinctions as to all between whether it was in good faith or not?
John B. Jones, Jr.: Well, I think everybody agrees that there is a danger in the Dixie Pine approach that must be tempered by the good faith. Let me say this though about the matter, that goes to the question of whether the contest is in good faith. But suppose a -- a large utility paying a great number of taxes is running a -- running a big contest, who can say that --
Earl Warren: Running what?
John B. Jones, Jr.: It's running a big contest with the local authorities about this.
Earl Warren: Oh, yes. Yes.
John B. Jones, Jr.: Who is to say that when it comes to settling that dispute, it won't cast an eye at what's going to happen when it takes the deduction if the respondent's method is adopted here? It will look to that. Now --
Earl Warren: Well, it won't get anymore than it's entitled to it in the end.
John B. Jones, Jr.: No, but they -- suppose that they -- there is already a perspective lowering of rates where there's a particular reasons for lowering tax liability in this year.
Earl Warren: I see.
John B. Jones, Jr.: Payment makes a great deal of difference because, if the city authorities do not have any payment that they're worried about, they are not going to press for settlement. If the city authorities do have to worry about payment, they're not going to let the taxpayer sit around and wait until it's convenient for him to take a deduction, so that the -- the danger of tax evasion is really in this running account with the local authorities.
Earl Warren: Well, danger to whom?
John B. Jones, Jr.: The danger to the federal revenues that they -- that they will be completely free to time their deduction to take maximum advantage if the state authorities are not present.
Earl Warren: Mr. Polk.
James K. Polk: Mr. Chief Justice and may it please the Court. There is a single question involved here. The question is the proper year for the deduction of contested, litigated, unadmitted real property taxes. The Government is -- has misstated the issue 20 odd times in its brief where it refers to this contest litigation as a suit for refund. There has been no such thing as a suit for refund of local taxes in the State of New York since 1880. This proceeding starts as a contest of a -- of a tentative assessment of value of real property taxes and application for correction of the assessed valuation is filed. That is an absolute prerequisite for any contest in the State of New York. If that is not filed, there can no suit ever be brought on any ground. The tax will become final and owing. That has to be followed up by a certiorari proceeding filed before the 25th of October of the taxable year. When that is filed its certiorari to the Tax Commission to bring before the Court the proposal of assessment, it is the -- the assessment is -- is not a valid, fixed finalized thing until after this litigation is terminated. So, the precise question in this case is whether while such a litigation is pending to determine if there is any tax and if there is a tax to the contested amount. If there is any tax, the amount thereof whether a payment made under the circumstances related here will accelerate the time for deduction. Now, the facts as -- as have been related are substantially accurate. Actually, to simply the matter, reference was not made to the fact although it is stipulated and in the record, it was not made to the fact that the payment is in to installments. The first installment is due October 1 of the tax year 1949 in the illustrative example. The second installment is due April 1 of 1950. Each installment was paid, it was paid because if you do not pay that tax as bills, although it as not yet determined or fix or finalized, if you do not pay it, a lean -- leans attached, the property can be seized and sold to satisfy the lean. There is a compulsion there, an economic compulsion that makes it very practical to pay. That gets the moneys into the city -- into the city treasuries in regular order. That enables the city counsel to assert the proper tax rate because it knows by the time it does that exactly how much is in contest. Only for the application for correction has been filed, admitting tax liability which is irrevocably admitted there, that's the $85, only then have you any remainder that can possibly be in dispute. Now, the -- the taxpayer has claimed the deduction for the $85 in 1949. It claims that no further amount is deductible until some tax is validated, finalized in a pending litigation and that did not occur in this case until 1951. At which time, the Court's said you owe $10 more, a payment has been made. But that payment was no different from the payment in the Rosenman case or the Lewyt in the Second Circuit, the issue that wasn't brought up here. That is a deposit. It's a payment in advance of a determination of tax. It can't be a payment of tax. The -- the reason -- the Government bases its case upon the reasoning of the Court of Claims in the Chestnut Securities case. In the Chestnut Securities case, the facts were identical as far as the issue is concerned. There were disputed taxes from 1936, 1937, and 1938, a dispute that it did not terminate until 1942. In 1942, the taxpayer lost his case and owed the tax. It paid the taxes in 1940 and attempted to deduct that amount its 1940 returned, the Government said, "No." The Commissioner's position at that time and its position in several of these cases was the same, was it you should relate the amount back to the year for which the tax was asserted, a position untenable completely so under the Security Flour Mills doctrine of this Court. The -- when the -- consequently, when the case got tried in the Court of Claims in the Chestnut Securities, when it got tried, the Government shifted its position adopting Dixie Pine and said, "Yes, 1940 is still not the right year but it's 1942." That is the precise position that the respondent is now taking. It's taking the position the Government originally took. In the Court of Claims, in the Chestnut Securities case, announced a rule of accrual accounting. It said accrual cannot survive payment so far as the deter is concern, and it said that that was within its understanding of the terminology of accounting. Now, the respondent had a case involving that's been referred to of 1938, 1939 and 1941.Disputed taxes of 1938, 1939, finalized in 1941 and attempt to take the deduction in 1941, the Government disallowed it, we brought suit in the Court of Claims for a refund for that year on the ground that the tax -- the disputed amount finalized in that year was then deductible, the identical question that had been involved in Chestnut Securities. Now, in Chestnut Securities, there is no evidence of record whatsoever concerning accrual accounting, nothing in the record, nothing in the brief of either party. But in the Consolidated Edison case of 1938 and 1939, evidence was adduced. Evidence was put in so that the Court found the facts respecting accrual accounting and the effective cash.Cash had -- flow of cash has absolutely nothing to do with the accrual. Accrual can precede, coincide with or survive payment. Payment has nothing to do with it. The instances of accrual surviving payment are legion. It's the foundation in the backbone of accrual accounting. All prepaid expenses deferred charges to future operations or depreciation deductions 40 years after payment are instances of accrual surviving payment. Inventories are -- where the purchases are not deducted in the year in which they're paid. The -- the Government won't permit tax returns for inventories are employed except on the accrual basis. The -- the whole fundamental concept of accrual is -- is the -- is the antithesis of the cash, receipts and disbursements theory. The result of that was that the Court of Claims found as a fact in the -- found facts in the Consolidated Edison case respecting accrual accounting and the effect of the flow of cash and found them in the terms of this illustrative example. Those findings of fact for the convenience of this Court are reproduced as Exhibit 2 -- appendix 2 of respondent's brief, page 55 my associates says. Now, the Court of Claims in the Consolidated Edison case, however, had this to say when it came to reach its decision. It said, "We do not hold that accrual cannot survive payment." They said, "What we hold is the payment of an item which is otherwise accruable in the taxable year accrues the item." Now, we couldn't understand that. If an item is otherwise accruable in the taxable year, it's otherwise accruable in the taxable year and you have no need to refer the payment or to anything else in the world. We sought to review this decision but there was no conflict at the time and this Court did not allow our application for certiorari. However, the -- since that time, a conflict has a reason. The conflict has a reason not in the -- in the frame that the Government puts the picture not where there has been a payment of a tax and then he suit for refund because the payment of a tax where tax is finalized and paid is customarily and admission of that liability. And as an admission of liability, a proper basis for accrual that by the way is the basis for the decision of the Court in the Western Cartridge case which I will discuss in a moment. But the Court did decide in the Northern District -- the District Court of the Northern District of Ohio in the Standard Oil of Ohio case that the accrual can -- can of course survive payments and that the Chestnut Securities doctrine was in error. Now, in that case, you had some excised taxes, excised taxes, federal excised taxes on oil from 1932 and 1933. The Commission of Internal Revenue does not have to send a notice of deficiency for excised taxes and he just assessed them as a jeopardy assessment. The taxpayer litigated this. The propriety of that tax liability contested it until 1947 when he lost his case in the Circuit Court of Appeals. He deducted in 1937 the amount when he paid it. The Commissioner said, "No, throw it back to 1932 and 1933 the years for which the taxes asserted." And of course, that's wrong under the Security Flour Mills. And then the taxpayer deducted it in 1947 when the contest finished. This time, the Commissioner said, "No, it belongs back in 1937 under -- under Chestnut Securities." The accrual cannot survive payment so the issue was precisely before the Court. And what did the Court say? The Court said the rule to be uniformed should follow the straight rule, laid down in Dixie Pine and Security Flour that all events do not occur within the taxable year that fix the amount and the fact that tax liability until the litigation has ended. Then the Court observed, after all, payment is not really one of the events which fix the amount or the fact of the -- tax liability and the final adjudication is the last to those events. The -- the Government has -- has urged that there's some converse of a claim of right doctrine involved here that cash should be followed because it's definitive. When you receive cash, it has to be income. Therefore, when you pay cash out, it must be a deduction. Utterly inconsistent with accrual accounting concepts but, it's also inconsistent because it isn't the convert. This case is not the converse of the Claim of Right doctrine. This is a disclaimer of deduction and its -- its opposite or converse would be a disclaimer of right and that has been litigated. That was litigated in this Ohio Corporation case. In that case, the taxpayer had been compelled by state law to take -- to receive moneys which he said it didn't belong to it and sought to have a law declared unconstitutional. But the Commission said, you have received cash under color of title, if not claim of right something, you have received cash and you must be taxable on it. But the Court disagreed. The Court said, "We do not think that when a taxpayer is compelled by state authority over its protest to retain possession temporarily of funds, he can't be charged with having income on that account." The cases of Dixie Pine and Security Flour dealt with deductions from income and held that a taxpayer may not accrue and expense the liability for which is contingent and is contested by the taxpayer. The problem in the present case concerns income rather than a deduction but we think the same principle applies. If as a matter of law a deduction is not accruable, if the liability as contingent and contested by the taxpayer, similarly, income is not accruable if the right thereto is contingent being denied and contested by the taxpayer. We would contend that just as for a taxpayer who receives moneys is because of his disclaimer of right not taxable on them, so a taxpayer who denies a liability -- who denies a liability and who disclaims a deduction cannot be compelled to take the deduction. Now, there's a variation between tax accounting and recognized principles of accounting in respect of the protection of the revenue aspect where an item is contingent under general -- generally recognized principles of accounting. You will use a reserve approach and accrue something to measure that and bring the addition to the reserve or the charge to the reserve in the current year. You have that for reserve for intermission damages. All sorts of reserves in that kind which are not recognized for tax purposes although they are for accounting purposes. The Congress in enacting Section 462 sought to bring those to closure together. It sought to permit in 462 the deduction of some of this contingent liability provision -- provision for those things in the year of the transaction gave rise to the liability.But, and if later repeal that section, it's true. But it's a particular significance to note that the Congress said even as to Section 462, it shall not reach the type of contingent liability that is in litigation. It's specifically excluded litigated matters from the reach of 462 and let them to United States versus Anderson, all the events must occur to fix the amount and effect of liability before you can have a deduction, to Chestnut Securities that a -- a contested item must await the outcome of the litigation before it can mature, and the Security Flour Mills that each year stands on its own basis.
Charles E. Whittaker: May I ask you Mr. Polk?
James K. Polk: I meant Dixie Pine, pardon me.
Charles E. Whittaker: Mr. Polk.
James K. Polk: Yes, sir.
Charles E. Whittaker: May I ask you, can there be such a thing under your law, in the state law as a voluntary payment of real property tax? Or is it always a deposits and you can sue she'd find you've overpaid, now what is the situation?
James K. Polk: You -- you cannot sue if you find you have overpaid. When you said is there such a thing as a voluntary payment of taxes, I was a little puzzled. I don't think that anybody makes any very voluntary payment of a -- of an enforced obligation like a tax. But in the State of New York, unless you contest that the -- the tentative assessment by filing an application for correction by March 15th and admit your liability to the extent that you admitted, the $85 and then denied that there is any further liability unless you do that. Unless that paper is filed under New York law, it is impossible at any time on any basis to recover an amount paid. The -- the New York statute says that this is a pre -- that the filing of this application for correction is a prerequisite to the institution of the exclusives judicial remedy that is allowed.
Charles E. Whittaker: I suppose you have by far payment, the prepayment made -- put enough money with the tax collector to cover this tax in advance at the time you had to act. You still -- but -- by the taking the steps you will require here or you outlined here, the query application, that 22 tax, could you?
James K. Polk: I think you probably could. Yes, sir.
Charles E. Whittaker: Well, I'm taking out (Inaudible) Normally, if one makes whether it's a voluntary payment then he was on the accrual basis, it's -- he (Inaudible) statute ruin.
James K. Polk: Yes.
Charles E. Whittaker: But if I make a deposit to secure a debt or something of that kind which is not include the payment, then, I don't have to admit a payment.
James K. Polk: That is correct. That is --
Charles E. Whittaker: (Inaudible) did you make payment or did you make a deposit (Voice Overlap)?
James K. Polk: We -- we claim it was a deposit. The Court of Claims on the basis of the testimony of the expert accountants in their findings of fact which we have reprinted at appendix 2 of our brief found that that was a deposit and should be so accounted for as a deposit under accrual principles of accounting. It is not the satisfaction of a liability because the liability isn't fixed yet. That is the fundamental proposition that respondent urges. There was no satisfaction of a liability here by this half payments October and the next April. And by the way, the payments were not made in advance of the initiation of the contest. The -- the respondent believes as I have said that the decision of the court below is in complete accord with sound accrual accounting concepts that the rate that the Internal Revenue Code in Sections 41, 42, 43 require that returns be filed in accordance with these sound accrual accounting concepts and that viewed therefore either from the legal aspect of the case or from the accounting aspect of the matter. The decision of the court below is proper. We respectfully urge the Court affirmed the decision of the court below.
Earl Warren: Mr. Jones.
John B. Jones, Jr.: Well, I -- I can agree with Mr. Polk that if this payment of tax liability was a deposit of tax, then he is correct and the Government is wrong. But I see no evidence in this record that would suggest that this was anything other that a payment of tax. I don't have the full New York statutes with me. They are here. They're cited in Mr. Polk's brief but note to the New York statute talks about a refund. It is not a return of deposit. A substantial change of position has occurred. This is a matter which this Court considered carefully in the Rosenman case in -- for federal tax purposes in deciding when a payment has occurred. And that this Court should decide it under the New York procedures. This is not a payment of tax. It did not extinguish the liability and Mr. Polk is correct. But I'm sure that this record will not in any sense support such a finding.
Felix Frankfurter: When you say the record, I want to know Mr. Jones what extent determination of this case turn on a precise, an exact appreciation of the New York law with reference to this tax?
John B. Jones, Jr.: Well, I don't believe that it got to that because I don't believe despite the -- the attempt of respondent here, there really is an issue under New York law that this is a full payment of tax which extinguishes the liability and subject to refund. The New York statute calls to that, so for that reason I don't believe the Court (Voice Overlap) --
Felix Frankfurter: What you're saying is that -- that as a matter of New York law, it's clear for federal purposes what this is. But what I want to know is does one have to determine, will he be alright about that. It doesn't have to pass a construe New York legislation.
John B. Jones, Jr.: Well, Mr. Justice Frankfurter, I think that it is true in our approach that we must find whether there is a payment or not. We -- we would agree that if there's a merely a deposit, then it should not be treated to satisfaction. That's necessary to be consistent with earlier decisions of this Court.
Felix Frankfurter: And that turn on how New York conceive this, is that right?
John B. Jones, Jr.: Yes. And I have no doubt --
Felix Frankfurter: Well, that turns -- well, that turns on the first statutes in how the Court has construed it, is that right?
John B. Jones, Jr.: Yes, yes. But I think the statute is evidence on its phase. There is no question but what -- in a deposit, the liability has not discharged.
Felix Frankfurter: I'm -- I'm not contesting anything you say. I'm just trying to find out the basis on which I must decide this case. You said the statute is clear on its phase. But nothing is more pressure but you suggest -- for you to suggest that for us to act on the suggestion that all one has to do is to read the New York statute to find out what it mean.That is true sometimes but I should think it -- that it isn't enough.
John B. Jones, Jr.: I -- I won't --
Felix Frankfurter: If you say -- if you say that the statute is quite clear, there has been no litigation under it, there'd be doubt cash on it or no practice that looks the other way as that.
John B. Jones, Jr.: Well, that --
Felix Frankfurter: Can you say all that?
John B. Jones, Jr.: The only litigation I'm aware is awarding interest to the taxpayer. That case is cited in our brief that they awarded interest to the taxpayer when they gave the money back.That's inconsistent with the deposit. The discharge of liability is inconsistent. I don't believe there is a substantial question. I don't believe this meets the federal standard of the deposit. Now, just in closing let me state.
Felix Frankfurter: Well, you now should be federal standard. That's what the whole --
John B. Jones, Jr.: Well, we are getting --
Felix Frankfurter: (Voice overlap) -- my question.
John B. Jones, Jr.: Well --
Felix Frankfurter: Do I have to decide whether this -- whether the payment is a general federal concept or does one revert to the New York situation?
John B. Jones, Jr.: Well, I -- I -- New York cannot call it a deposit if it doesn't have the earmarks of the deposit.
Felix Frankfurter: I understand that, can capriciously but --
John B. Jones, Jr.: And --
Felix Frankfurter: -- but the incidence, that legal consequences and incident that New York may attach, they make a difference.
John B. Jones, Jr.: That's correct, sir.
Felix Frankfurter: And you say that -- I even bother about that. It's clear -- it's clear as the basis?
John B. Jones, Jr.: I will (Voice Overlap) --
Felix Frankfurter: May be on the day like this.
Charles E. Whittaker: Mr --
John B. Jones, Jr.: I -- I will walk in you independent reexaminations.
Felix Frankfurter: Alright.
Charles E. Whittaker: Mr. Jones, it would help me if you could give your idea of when this tax became fixed in fact and amount. Was it 51 or prior 51?
John B. Jones, Jr.: It -- it is -- it is my view and the view of the Government that the full tax became due -- due and paid in the tax year.
Charles E. Whittaker: Well, that is the one I want to know. When did it become fixed in law in amount?
John B. Jones, Jr.: I believe it became fixed in law in amount there. What happened afterwards was whether the man got a right to a refund subsequent -- by subsequent events. And the subsequent event which determined whether he got a refund and how much of a refund he got occurred in 1951.
Charles E. Whittaker: The case turns on the answer to that question, doesn't it?
John B. Jones, Jr.: Yes. But I don't believe there's any. I -- I think that the record is clear on that.
Potter Stewart: How do you say it became fixed in amount in 1949 --
John B. Jones, Jr.: He --
Potter Stewart: -- at $100 when it -- when it never -- never was $100?
John B. Jones, Jr.: Well, that extinguished his liability for tax -- for a tax of $100 shown on the books and he could never be sued for that and if the contest had been allowed to go on forever without being settled, his tax liability for the year was paid. There was no further contingency as to that $100 which had in fact been paid.
John M. Harlan II: How could the tax payer contest to this otherwise (Inaudible)?
John B. Jones, Jr.: Well, let me answer it this way Mr. Justice Harlan that -- that there it -- let us take the taxpayer's word that there is no other method under the laws of New York.
John M. Harlan II: Well, there isn't any doubt about that.
John B. Jones, Jr.: Yes. And so therefore, he cannot contest the tax but we're not harming taxpayers here. If this was a case where taxpayers were trying to accelerate their deductions and there were some, excuse me -- if taxpayers were -- were in a position where it harmed them to bring the deductions down to the current year, then I would think there would be some equity in the fact that New York does not offer an alternate procedure. But, by and large for the run of the mill common taxpayer, a decision that -- in accordance with the Government's position today will -- will aid most taxpayers. It's only the occasional taxpayer who's able to collect the liability, keep it in suspense for a while and then pull it down when he needs it. That's -- and he -- I don't think we need to worry about an equity that New York deprives him of this way of manipulating tax form.
John M. Harlan II: I wasn't thinking about equities. I was thinking about law that has bearing on as Mr. Justice Whittaker asked you as to whether or not this was a voluntary payment so called or whether it was a --
John B. Jones, Jr.: In suppose -- in suppose that there is -- perhaps suggested. No question that this is a payment of tax and the New York just set --
John M. Harlan II: Statement of tax --
John B. Jones, Jr.: Suppose --
John M. Harlan II: (Voice Overlap) disputed tax.
John B. Jones, Jr.: Alright. Suppose the New York law just stated absolutely boldly the tax must be paid so is for refund may be entertained in the succeeding year, it seems to us that that's almost as what law does say here. And in that situation, the contingency is will the man get a refund. He has discharged his liability. His books vis-à-vis the governmental entity are satisfied. They are not going to be pressing him for anything and that a true substance of this matter is that the contingency lies in the refund. And in effect under the respondent's method here, you're allowed to anticipate the refund and if you're wrong in that, make the adjustment in later year. We say that payment is what governs. It extinguishes the liability and after that, there is no tax in dispute. What in dispute is the right of refund.