Court Opinion

ID: 4604168
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:33:37.447243+00
Date Added: 2024-06-11T07:52:58.322068
License: Public Domain

L. E. Shunk Latex Products, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent.  The Killian Manufacturing Company, Petitioner, v. Commissioner of Internal Revenue, RespondentL. E. Shunk Latex Products, Inc. v. CommissionerDocket Nos. 27143, 27144United States Tax Court18 T.C. 940; 1952 U.S. Tax Ct. LEXIS 112; August 29, 1952, Promulgated *112 Decisions will be entered under Rule 50.  1. Petitioners were two manufacturing corporations which, together with a partnership to which they sold their products, were owned or controlled directly or indirectly by the same interests.  Held, respondent's allocations of part of the income of the partnership to petitioners under sections 22 (a) and 45, disapproved, where petitioners were prohibited by maximum price regulations from receiving the very income sought to be allocated to them.2. Period for the amortization of certain leasehold improvements determined.  Donald Gottwald, Esq., Numa L. Smith, Jr., Esq*113  ., and Robert N. Miller, Esq., for the petitioners.Clarence E. Price, Esq., for the respondent.  Raum, Judge.  RAUM*940  The Commissioner determined the following deficiencies in petitioners' taxes:L. E. Shunk Latex Products, Inc. -- Docket No. 27143DeclaredExcess profitsYearIncome taxvalue excess-taxprofits tax1942$ 4,178.44$ 35,496.91$ 224,961.61194340,029.77383,909.2119446,086.531945416.37142,206.18$ 4,178.44$ 75,943.05$ 757,163.53The Killian Manufacturing Company -- Docket No. 27144DeclaredExcess profitsYearIncome taxvalue excess-taxprofits tax1940$ 7,773.331942$ 3,210.60$ 75,771.63514,596.3619437,919.9447,044.74589,018.06194546,611.88412,032.65$ 11,130.54$ 169,428.25$ 1,523,420.40The principal question in both proceedings is whether, under sections 45 or 22 of the Internal Revenue Code, respondent erred in *941  allocating to each petitioner income of a partnership, Killashun Sales Division.  A minor issue relates to the period over which certain leasehold improvements are to be amortized.  Another minor issue *114  relating to a claimed deduction of $ 2,298.54 for personal property taxes paid by L. E. Shunk Latex Products, Inc., during the year 1943 has been conceded by respondent.These proceedings were consolidated for trial.FINDINGS OF FACT.The stipulations of fact submitted by the parties and the exhibits annexed thereto are incorporated herein, and the facts therein are adopted as part of these findings.L. E. Shunk Latex Products, Inc., (hereinafter also referred to as "Shunk") and The Killian Manufacturing Company (hereinafter also referred to as "Killian") are corporations which were organized under the laws of the State of Ohio in 1928 and 1930, respectively.  Each had its office and principal place of business in Akron, Ohio.  The Federal tax returns of both petitioners were made out on the accrual basis and for calendar year periods, and were filed with the collector of internal revenue for the eighteenth district of Ohio.Since their organization, both Killian and Shunk were engaged in the manufacture and sale of rubber prophylactics. During the years in issue, and for some years theretofore, they were major manufacturers in the field and each was the other's principal competitor. *115  Competition was severe, each often undercutting the prices of the other.Prior to June 1937, Killian sold its output to many outlets.  Prior to June 1937, Shunk sold its entire output to Akron Drug & Sundries Company (hereinafter referred to as "Akron Drug"), which acted as exclusive distributor for Shunk.  This distributorship arrangement existed pursuant to oral understanding between Akron Drug and Shunk.  After June 1937, Shunk no longer sold to Akron Drug, but Akron Drug instead bought from Killashun Sales Division, a partnership more fully described hereinafter.Akron Drug was controlled by Maurice Gusman (hereinafter also referred to as "Gusman") and Charles E. Jenkins (hereinafter also referred to as "Jenkins"), who were officers of Akron Drug and who, with their wives, owned all its stock. Jenkins was a son-in-law of L. E. Shunk, who dominated Shunk's operations.  Akron Drug was located in a corner of the building occupied by Shunk.During the period from 1930 to the middle of 1937, Shunk manufactured its products under the "Gammeter patents," while Killian manufactured its products under the "Killian patents."The Killian patents pertained to a "continuous machine" and *116  to a "ring-roller" device used in the manufacture of thin rubber articles.  *942  The "continuous machine" was a fully automatic machine which converted raw latex into the finished product in a continuous activity.  The "ring-roller," physically a part of the "continuous machine" though not covered by the patent for that machine, formed a bead or ring on the open end of the product.  For its license to use these patents, Killian paid its licensor, for each gross produced on these patented devices, $ 0.04 per gross on the "ring-roller" and $ 0.06 per gross on the "continuous machine."Fred L. Killian was the inventor under the Killian patents. Prior to 1932, the Killian patents were held by a corporation, in which Fred L. Killian had a 75 per cent interest and Perry H. Stevens (hereinafter also referred to as "Stevens") had a 25 per cent interest.  Fred L. Killian died in 1932, and his 75 per cent interest was divided between his wife, Elizabeth Killian, and his son, Frank B. Killian, each of whom then owned a 37 1/2 per cent interest in the corporation.  In or about 1935, the corporation was dissolved, and the patents were then held by Frank B. Killian as trustee (hereinafter *117  also referred to as the "Killian Trustee") under an indenture of trust, in which Stevens held a 25 per cent beneficial interest and Frank B. and Elizabeth Killian each held a 37 1/2 per cent beneficial interest.At some time prior to 1940, Elizabeth Killian died, leaving an estate which contained two main assets: (1) 1,249 shares of common stock in Killian; and (2) the 37 1/2 per cent beneficial interest in the Killian patents. Elizabeth Killian left a will, in which these two assets were placed in trust for 20 years.  One of the beneficiaries, a nephew of Elizabeth Killian, was James L. Tyrrell, Jr. (hereinafter also referred to as "Tyrrell"), who received a 5 per cent interest in the trust; the other beneficiaries likewise were related rather closely to Elizabeth Killian.  Tyrrell was also named trustee and was given the following powers with respect to this trust:During said twenty (20) years period, said James Tyrrell as Trustee shall hold and manage the said rest and residue of my estate and pay the income therefrom to said beneficiaries equally and ratably as they are entitled thereto respectively, he to serve without compensation and without bond, and to have full power and*118  authority to do and perform everything in connection therewith as I personally could do if alive.Thereafter the beneficial interests in the Killian patents were held as follows: Tyrrell (as trustee under the will of Elizabeth Killian) -- 37 1/2 per cent; Frank B. Killian -- 37 1/2 per cent; Stevens -- 25 per cent.  In 1938 and 1939, two beneficiaries, together holding a one-half interest in Elizabeth Killian's trust, died and their one-half interest was bought by Gusman, acting in behalf of himself, Jenkins, and Tyrrell (as an individual and not as trustee).  The patents continued to be held by Frank B. Killian as trustee until 1941 or 1942, after which they were held by Frank B. Killian & Company, a partnership in *943  which substantial interests were held by Stevens, Tyrrell, Jenkins, and Gusman, or members of their families.On November 7, 1935, the Killian Trustee started suit in the United States District Court, Northern District of Ohio, against Shunk for infringement of the Killian patents. Legal action usually had been brought with diligence against infringers of the Killian patents. At the time the foregoing suit was brought, Shunk's competition was having a depressing*119  effect on royalties being received under the Killian patents. This suit was settled and terminated by a consent decree filed on June 11, 1937.In connection with the settlement of this suit, Shunk and the Killian Trustee entered into a written agreement (hereinafter referred to as the "license agreement") dated June 11, 1937.  Under this agreement Shunk was given a license under the "ring-roller" patent for 10 years, for which Shunk agreed to pay a royalty of $ 0.04 per gross (less an allowance for scrap) on articles made by it on that device.The agreement provided:VI. "Shunk" hereby agrees that, during the existence of this agreement, the "Trustee" may from time to time, as herein provided, establish prices which the "Trustee" shall decide are just, equitable and fair market prices for articles on which royalty is payable hereunder; and "Shunk" hereby agrees not to sell or otherwise dispose of any of such articles at prices lower than the prices so established by the "Trustee" and then in effect.  The "Trustee", with the assent of "Shunk", hereby establishes as fair, just and equitable, prices as of the date of this agreement, a price of seventy cents (70 cents) per gross for *120  such articles in bulk, and the prices set out in Exhibit A attached hereto and made a part hereof, for such articles in package form.  The "Trustee" agrees not to establish selling prices lower or higher than those established herein without the mutual and unanimous consent of the "Trustee", "Shunk" and the Killian Manufacturing Company.In the event that "Shunk" sells or otherwise disposes of any of said articles at a price lower than those so established by the "Trustee" and applicable to said articles, "Shunk" shall pay to the "Trustee" an additional royalty on such articles equivalent to three (3) times the amount of the difference between the fixed and applicable price then in effect and the price at which "Shunk" sold or otherwise disposed of such articles, said payment to be made within ten (10) days after the facts of such sale or disposal shall have been admitted by "Shunk", or ascertained by arbitration as hereinafter provided.  The "Trustee" agrees to include, in all licenses granted hereafter under the said patent, including the license about to be granted to the Killian Manufacturing Company, substantially the same terms, conditions and obligations as are included herein, *121  including minimum selling prices, regular royalties, additional royalty and payment thereof, installation and use of meters, the basis of calculation of royalties as to waste, and agrees to enforce said obligations strictly and promptly in all cases, which license shall not be modified or altered without the consent of all the parties."Shunk" agrees to sell or otherwise dispose of all the articles it makes under this agreement through the Killashun Agency, or a substitute agency, so long as such agency exists.  The "Trustee" agrees that if the Killashun Agency or a substitute agency ceases to exist at any time hereafter through no fault of *944  "Shunk", "Shunk" shall be released forthwith from the agreement to sell therethrough, and additionally shall have no obligation to pay the aforesaid royalty of four cents (4 cents) per gross during the last half of the period of the then unexpired term of the patent.Thereafter, and during the years in issue, Killian proceeded "along the same lines as specified in the Shunk contract [the license agreement]" and observed similar restrictions on the disposition of its products as applied to the disposition of Shunk's products.  Killian*122  continued to manufacture under the license it had theretofore obtained relating to the Killian patents.At about the same time in June 1937, there were executed two written agreements, one between Shunk and an organization called Killashun Agency, and another between Killian and Killashun Agency.  Both agreements were signed for Killashun Agency by Adam J. Killian, a brother of the deceased Fred L. Killian, and by Jenkins.  Except for the difference in parties, the terms of these agreements were the same, and they provided as follows:(1) That the said "Manufacturer" [Shunk and Killian, respectively] grants to the said "Sales Agency" [Killashun Agency] the exclusive right to sell its entire output and production of prophylactics in the United States of America and all foreign countries, but as Agent only, which articles shall be sold at a price of not less than seventy cents (70 cents) per gross F. O. B. factory for regular bulk merchandise, and in case of special brand or packaged merchandise, for such additional price over and above seventy cents (70 cents) per gross as fixed in "Schedule A" hereto attached or as revised from time to time in writing by all the supervisors and directors*123  of sales.(2) That the said "Sales Agency" shall keep and maintain accurate books of account, vouchers and other records which shall show and reflect clearly and in detail at all times the sales made by the "Sales Agency", and the nature and extent of its transactions; and to transmit at the time of making each sale, a duplicate memorandum thereof to the "Manufacturer"; and that all of said books of account, vouchers and other records shall be open to the inspection of the "Manufacturer" at any and all reasonable times.(3) Said "Sales Agency" agrees to use its best efforts to advertise and promote the trade in and sale of said articles in the United States of America, and in all foreign countries, but in such manner as shall keep the good will of the public, and maintain the reputation of the "Manufacturer".* * * *(5) In consideration of the faithful and honest performance of all the terms and conditions herein on the part of said "Sales Agency" to be performed and complied with, the said "Manufacturer" agrees to pay to the "Sales Agency", as its reasonable compensation for all services and expenses incurred hereunder, the sum of Twenty Cents (20 cents) per gross on bulk articles*124  manufactured by said "Manufacturer", and sold by and through said "Sales Agency" pursuant hereto, and Twenty-five cents (25 cents) per gross on all packaged goods listed in Schedule A.  The said "Sales Agency" shall remit the difference between the selling price of said articles to the consumers thereof and the sum of Twenty Cents (20 cents) per gross on bulk goods, which difference shall be Fifty Cents (50 cents) or more per gross.  In the case of packaged goods the difference to be remitted shall be the *945  prices set forth in Schedule A less Twenty-five Cents (25 cents) per gross.  Said remittances shall be made at least once every thirty (30) days on the tenth day of the month following the preceding month in which sales and collections therefor are made by the "Sales Agency".  The net compensation to the Sales Agency shall be Ten Cents (10 cents) per gross on bulk and Fifteen Cents (15 cents) per gross on packaged goods.(6) This agreement shall continue for a period of ten (10) years from the date hereof, and may be renewed by consent of the parties in writing, for an additional period of ten (10) years, or extended for such further period of time as may be mutually agreed*125  upon between the parties hereto, unless sooner terminated by the expiration or termination of the license agreements between the "Manufacturer" and Frank B. Killian, Trustee.* * * *Although the parties sold their products for a brief period in June 1937 through the Killashun Agency, the latter was abandoned, and they then sold their products to Killashun Sales Division (hereinafter referred to as "Killashun"), which was organized as a partnership under the laws of the State of Ohio in 1937.  At the time of its organization, the partners in Killashun were Gusman, Jenkins, Tyrrell (individually), and Adam J. Killian, each of whom owned a one-quarter interest.  There was no written partnership agreement between these persons relating to Killashun; the partnership was based on oral agreement.  Adam J. Killian died in 1939.  The Federal tax returns of Killashun for the subsequent fiscal years listed as partners Gusman, Jenkins, and Tyrrell (individually), and their wives, who were Hannah Gusman, Arline Jenkins, and Julia Tyrrell.As part of the arrangement put into effect after settlement of the infringement suit against Shunk, it was also agreed that, for each gross resold by Killashun, *126  10 cents would be set aside in a fund which would be divided equally between Shunk and Killian, without regard to whether particular goods originated with Shunk or Killian.  The amounts received or accrued by Shunk and Killian in this fund were as follows for the indicated years:YearTo Shunk*To Killian*1937 (7 months)$ 46,312.07$ 31,370.32193840,145.1240,095.02193950,060.2857,904.47194047,361.2650,311.38194178,802.3279,421.99194278,254.2571,015.801943117,352.25103,291.751944149,134.70155,031.201945199,587.25213,728.00Stock in Killian was held as follows: (1) From June 1, 1937, to about July 9, 1938, Killian had authorized common stock of 3,000 shares, of which 2,001 shares were outstanding and owned as follows: *946 StockholderNo. of sharesTyrrell (as trustee under will of Elizabeth Killian)1,249Rua Bertsch750Adam J. Killian1E. S. Killian1(2) From about July 9, 1938, to about July 5, 1939, Gusman, Jenkins*127  and Tyrrell (individually) acquired full ownership of 1,751 shares of Killian common stock, 999 shares of which represented theretofore unissued shares, as well as 5,000 shares of Killian 6 per cent cumulative preferred stock; these persons also acquired equitable ownership of 624 1/2 shares of Killian common stock, legal title to which was held by Tyrrell as trustee under the will of Elizabeth Killian.  (3) About July 5, 1939, Killian was recapitalized, its 3,000 shares of common stock being split into 300,000 shares.  Thereafter, and throughout the years in issue, Killian's capital stock consisted of 5,000 shares of preferred ($ 100 par), owned as aforesaid in equal amounts by Gusman, Jenkins, and Tyrrell (individually), and 300,000 shares of common stock (no par) owned as follows:StockholderNo. of sharesGusman100,000Jenkins100,000Tyrrell (individually)37,750Tyrrell (as trustee under will of Elizabeth Killian)62,450On June 1, 1937, the outstanding capital stock of Shunk consisted of 4,270 shares of common stock. No part of that stock was owned by Adam J. Killian, Gusman, Jenkins, or Tyrrell (individually or as trustee) on that date or thereafter until*128  about February 5, 1939; on or about the latter date, Gusman, Jenkins, and Tyrrell (individually) bought the entire outstanding stock of Shunk.  They then transferred that stock to Killian, and received in return the 5,000 shares of preferred stock in Killian referred to above.  Thereafter, and throughout the years in issue, Shunk was a wholly owned subsidiary of Killian.The acquisitions by Gusman, Jenkins, and Tyrrell of stock in Shunk and Killian were motivated by their desire to protect Killashun's source of supply.On or about March 1, 1939, a written agreement was executed by Gusman, Jenkins, and Tyrrell, in which it was recited that they owned or controlled all the stock in Killian, and in which they appointed Tyrrell as their "Trustee, agent and proxy" for 10 years to vote their Killian common stock "in accordance with their joint and several wishes and instructions which may be mutually and unanimously agreed upon, from time to time, by and between them; provided, however, that said Trustee, agent and proxy shall vote said stock in such manner and for such purposes only when specifically authorized so *947  to do in writing signed by all three parties to this agreement." *129  The agreement also restricted transfer or sale of the Killian common stock, providing for a right of first option in the parties to the agreement.Starting in 1939, the officers of Killian were Adam J. Killian, Tyrrell, Jenkins, and Gusman; after the death of Adam J. Killian in 1939, the remaining three continued as the sole officers through the years in issue.  Each of these persons received a salary, as an officer of Killian, of $ 6,500 in 1940 and $ 15,600 in 1941, 1942, 1943, 1944, and 1945; except that Jenkins, who was then in the Army, received only $ 7,800 for 1943 and 1944 and $ 9,450 for 1945.Starting in 1939, and through the years in issue, the officers of Shunk were Jenkins, Gusman, and Tyrrell.  Each of them received a salary, as an officer of Shunk, of $ 8,333.31 for 1939, $ 9,999.66 for 1940, $ 10,000 for 1941, 1942, 1943, 1944, and 1945; except that for the years 1943, 1944, and 1945 Jenkins received $ 5,000, $ 5,000, and $ 6,250.02, respectively.Both before and after June 1937, and during the years in issue, Shunk's office and plant were located at 355 Morgan Avenue, Akron, Ohio.  During and prior to 1937, Killian's office was located at 1034 South High Street, Akron, *130 Ohio.  Killashun commenced operations at 755 South High Street.  From about August of 1937 until some time in 1939 Killian's office was at 755 South High Street.  Beginning in 1939 and throughout the years in issue Killian's and Killashun's offices were at 355 Morgan Avenue.  Killashun paid rent "for a while" for occupying space at the premises at 355 Morgan Avenue; but thereafter it paid no rent for space at those premises.The premises at 355 Morgan Avenue were leased by Shunk in April 1937 for a term of seven years beginning January 1, 1937, with an option in Shunk to renew the lease for seven more years.  The lessor was L. W. Camp Company, of Akron, Ohio.  This property was bought in April 1939 by Jenkins personally, who was then president of Shunk.  Beginning in 1937, improvements were made on the property by Shunk at a total cost of $ 51,207.29.  On its books Shunk amortized this cost over the remaining life of its lease of the premises, including the 7-year renewal period, and on this basis Shunk deducted on its Federal tax returns an amount for each of the years 1942, 1943, 1944, and 1945.  Respondent disallowed a portion of this deduction for each of these years on the ground*131  that the amortization taken by Shunk was excessive.In 1937, Jenkins, acting in behalf of himself, Gusman, Tyrrell, and Adam J. Killian, bought the building at 755 South High Street, Akron, Ohio; they sold it three or four years later.  By 1939, Gusman, acting for himself, Tyrrell, Jenkins, and Adam J. Killian, bought the building at 1034 South High Street, Akron, Ohio.*948  During the years in issue, Shunk and Killian sold their entire production to Killashun.  During the years in issue, the products of Shunk and Killian were sold by Killashun on its own account as principal, and not as agent of Shunk and Killian.  There was no written agreement between Killashun and either Shunk or Killian; the latter sold their output to Killashun pursuant to oral agreement.From about the time it was organized and during the years in issue, Killashun had office space for its partners, a reception room, and some shipping space.  While Killashun was at 755 South High Street, it owned or rented a truck.  Its employees consisted typically of a receptionist; a secretary who also did typing and filing; a part time bookkeeper, who was also employed by Killian; a shipping clerk; and a part time janitress. *132  From 1940 to some time in 1943, however, Killashun had no shipping clerk; that work was done by an employee on Shunk's payroll.  In connection with orders from the Federal Government obtained during the war, more fully described hereinafter, additional men were hired to do shipping work during the latter part of 1943 and in 1944 and 1945.  Killashun had no salesmen other than its partners, of whom Gusman was the most active in this connection.Killashun had its own books of account, which were serviced by the same accountant who serviced Killian's books.  Killashun's books of account accurately reflected income realized on its sales of products obtained from Shunk and Killian.  There was an account for Killashun on the books of Shunk and Killian.  Killashun had its own bank accounts; Killashun had lines of credit with some banks, and on some occasions it borrowed money from banks.  Killashun had its own invoices, stationery, and telephone listing; and, at least in the early years of its existence, it carried on its own advertising in trade journals.During the years 1937 through 1945, Killashun kept no inventory.  When it had an order to be filled, the merchandise was obtained from*133 Shunk or Killian.  Shunk or Killian never invoiced Killashun or made delivery until the latter had already obtained an order for the merchandise. Killashun invoiced the customer, and a copy of the invoice was sent to Shunk or Killian, whereupon Shunk or Killian made out an invoice to Killashun.  Killashun sold petitioners' products to purchasers other than retailers or ultimate consumers (except for the sales to the Federal Government described herein); thus it sold to Akron Drug & Sundries Company, referred to above.The terms on which Killashun acquired merchandise from Shunk and Killian included a 2 per cent discount on cash payment within ten calendar days from the time of sale.  Killashun usually paid within the required time and received the discount. The terms on which Killashun sold the merchandise included a similar 2 per cent *949  discount on cash payment within 10 days.  However, even where these terms as to payment were not satisfied, Killashun usually granted the discount in any event.  In some cases Killashun also gave discounts based on the quantity purchased.Killashun extended more than the usual credit to some customers, and from some customers it received*134  payment in merchandise rather than cash.  Such transactions, and extension of unusual credit, happened only prior to the war years, and not during the years here in issue.The deduction for bad debts taken by Killashun on its Federal tax returns was as follows:Fiscal yearending May 31Amount1938None   1939$ 1,561.091940904.1519413,628.9819421,400.0019438,178.3819443,850.001945None   19462,000.65In order to promote sales and to meet competition from certain manufacturers who became active prior to 1942, Killashun gave its customers a quantity of "free goods" with each quantity of goods they bought. Shunk and Killian made Killashun whole and gave it the same quantity of "free goods." The effect of the "free goods" was to reduce the real price of the goods bought. In addition, the holder of the Killian patents gave up any royalty respecting the "free goods." Shunk and Killian gave "free goods" as follows:ShunkKillianYear(in gross)(in gross)193948,421374,8571940109,398443,5461941* 152,679** 397,444*135  The products of Killian and Shunk were sold in "bulk" and "packaged." The cost of manufacturing the product was the same in both cases, and the basic product itself was the same whether sold in bulk or in packaged form, but the packaged product involved additional packaging costs as against the bulk product.  The packaging was done, for the most part, by employees working by hand.  The packaged product sold at higher prices than the bulk product, and Killian and Shunk made a greater profit on the packaged product than on the bulk product.*950  Usually, when merchandise was delivered by Shunk and Killian to Killashun, it was completely packaged by Shunk and Killian prior to delivery and was ready for redelivery, but Killashun addressed and shipped out the merchandise.Killian and Shunk each sold its products under its own brand or trade names; the brand or trade names of Shunk differed from those of Killian.  The brand or trade names of Killian and Shunk were used by Killashun, which did not have its own brands or trade names.The brands sold by Shunk and Killian remained largely the same from December 1941 through the end of 1945, and the prices charged by Shunk and Killian for*136  these brands remained unaltered from December 1941 through the end of 1945.  The respective prices thus charged for those brands by Shunk and Killian were the same during March 1942 as in December 1941, and were the same in February 1943 as in December 1941.Killashun halted all sales by it at the outbreak of war in December 1941, and did not resume its sales until January 1942, when it raised the price of all products sold by it, both packaged and in bulk, by one dollar per gross.  Killashun continued to charge this increase in price thereafter through the end of 1945, except as otherwise hereinafter found respecting sales to the Federal Government.  No increase at all was made at that time, or in any of the years, in Shunk's and Killian's prices to Killashun.  Killashun's one-dollar per gross across-the-board price increase was not accompanied by any increase in the functions or services performed by it during the years 1942 through 1945.Price controls over rubber prophylactic products were put into effect by the Federal Government in the Spring of 1942.  The prices charged by Shunk, Killian, and Killashun up to that time were put into effect without reference to the price controls*137  which followed.  Shunk and Killian did not manifest dissatisfaction with the prices they charged Killashun after price controls became effective.  Neither Shunk nor Killian ever applied to the O. P. A. for an increase in the maximum prices applicable to them.Killashun obtained orders from the Federal Government in 1942, 1943, 1944, and 1945.  It was not necessary to exert any significant effort for these orders to be obtained, other than settling the matter of packaging, referred to herein.  These orders resulted at times in absorption of the productive capacity of Shunk and Killian; on occasion, while these orders were being filled, the productive capacity of Shunk and Killian was insufficient to meet the demand for their products.Concerning these Government orders, the armed forces required special packaging for the individual product, and, in order to provide this packaging, Killashun bought ten special automatic packaging machines in or about 1944 at a total cost of $ 118,700.39.  These machines *951  were placed on Shunk's premises together with packaging machines belonging to Shunk at 355 Morgan Avenue; Shunk made no charge to Killashun for rent or electricity or other*138  expense relating to the operation of these machines. The armed forces also required special crating for the Government orders; Killashun bought the materials needed for this crating.The profits made by Shunk, Killian, and Killashun through these Government orders were subsequently renegotiated pursuant to written agreements entered into by them with the Government.  As a result of these renegotiation agreements, profits were eliminated and monies were refunded to the Government as follows: (1) By Killashun -- for its fiscal years ending in 1943, 1945, and 1946, 1 $ 397,000, $ 600,000, and $ 110,000, 2 respectively.  (2) By Shunk -- for the years 1942, 1943, and 1944, $ 9,000, $ 89,000, and $ 180,000, respectively.  (3) By Killian -- for the years 1942, 1943, and 1944, $ 17,000, $ 81,000, and $ 60,000, respectively.*139  Beginning in 1937, Killashun filed partnership returns for Federal tax purposes.  Killashun kept its books and filed its returns for a fiscal year ending May 31.  Those returns reported the following information:Fiscal year ending May 31Gross incomeDeductionsNet income 31940$ 207,821.41$ 85,149.59$ 122,671.821941279,254.8071,676.01207,578.7919421,019,480.0893,086.73926,393.351943* 1,299,731.17155,753.87* 1,143,977.3019441,177,484.0982,649.831,094,834.261945* 795,488.0365,378.38* 730,109.651946988,006.57121,193.70866,812.87*140  The distributable income reported by Killashun on its Federal tax returns was reported by the partners of Killashun on their Federal tax returns for the calendar years 1942 through 1946, and a tax was paid by the partners on their respective shares of that income.Shunk reported the following data in its Federal tax returns for the indicated years: *952 Calendar yearGross incomeNet income1939$ 58,070.73$ 7,452.86194060,825.8017,896.921941241,177.43101,026.941942147,319.8975,715.091943305,309.09183,560.491944486,218.42343,577.071945297,353.89138,782.181946227,444.2710,401.16Killian reported the following data in its Federal tax returns for the indicated years:Calendar yearGross incomeNet income1939$ 215,643.85$ 89,309.451940294,489.43173,866.881941301,156.51113,285.221942381,730.53184,629.751943295,627.82126,364.731944500,787.85323,981.911945595,334.65284,771.76Respondent determined that part of the income reported by Killashun was attributable to petitioners for the latter's calendar years as follows:AmountYearTo ShunkTo KillianTotal1942$ 291,618.33$ 658,897.73$ 950,516.061943490,708.39727,534.871,218,243.261945158,625.79568,341.51726,974.30*141  In a notice of deficiency sent to each petitioner, respondent determined that the foregoing amounts were taxable to petitioners and that deficiencies in taxes were due on that account.  Each notice of deficiency referred to a statement attached thereto, and the following explanation was given in that statement:It is held that part of the net income reported by Killashun Sales Division, the partnership which acted as distributor of your manufactured products, is taxable income to your corporation for the years 1942, 1943, and 1945.  This adjustment is made to apportion and allocate gross income and deductions, credits or allowances, between your corporation and Killashun Sales Division during such years in order to clearly reflect income on business transactions between them and to eliminate excessive compensation paid Killashun Sales Division for services rendered your corporation.The method used by respondent in determining the amounts thus to be attributed to Shunk and Killian was as follows: (1) There was ascertained the number of gross of bulk and packaged products sold by Killashun during each year from 1941 through 1945.  (2) Killashun was allowed 10 cents per gross for the*142  bulk products sold, and 15 cents per gross for the packaged products sold, and there was thus calculated the amount of income allowed to Killashun for each of these years.  *953  (3) Killashun's net income, as reported on a fiscal year basis for Federal tax purposes, was converted to a calendar year basis, after reduction on account of renegotiated income; and the amounts of income allowed to Killashun were then subtracted from this converted net income for each of these years.  (4) The remainder of the converted net income was allocated between Shunk and Killian in the amounts listed above, which were determined according to the number of products (without distinction between bulk and packaged products) of each petitioner which had been sold by Killashun.  No allocation was made respecting the calendar year 1944 because the amount allowed to Killashun under this method was greater than the net income reported by Killashun for that year.The following table shows the number of gross (exclusive of "free goods") sold by Killashun during the indicated fiscal years:NumberNumberTotalYear endedgrossgrossnumberMay 31KillianShunkgrossbulkbulkbulk1938383,209197,533580,7421939284,2217,155291,3761940332,56018,064350,6241941278,25363,428341,6811942519,998186,771706,7691943358,330234,500592,8301944531,131237,036* 768,16719452,615,844743,128* 3,358,972*143 NumberNumberTotalYear endedgrossgrossgrossTotalMay 31KillianShunkpackagegrosspackagepackage1938267,596297,365564,9611,145,7031939559,578146,297705,875997,2511940547,470172,967720,4371,071,0611941580,532235,057815,5891,157,2701942768,439268,1691,036,6081,743,3771943835,505523,1551,358,6601,951,4901944660,169693,5361,353,7062,121,8721945716,075428,9831,145,0584,504,030The number of gross sold by Killashun to the Government during the years 1942, 1943 and 1945, and the extent to which the products came from Killian or Shunk, was as follows:1942GrossKillian89,763    Shunk58,832    148,595    1943Killian357,557    Shunk340,462 2/3698,019 2/31945Killian1,677,352    Shunk618,500    2,295,852    The number of gross sold by Killashun to purchasers other than the Government during the years 1942, 1943, and 1945, and the extent to which the products came from Killian or Shunk, was as follows: *954 1942GrossKillian1,198,674    Shunk396,108    1,594,782    1943Killian836,278    Shunk417,192 1/31,253,470 1/31945Killian1,654,567    Shunk553,611    2,208,178    *144  In 1942 and 1943, the Government orders, referred to above, were filled entirely with packaged products consisting of the following: Killian's brands numbered 10A, 100A, and 1,000A, and Shunk's brands numbered 10 and 100, all of which were sold by Killian and Shunk respectively to Killashun at 95 cents per gross; "Individual Envelopes," which were sold to Killashun at $ 1.25 per gross.  In 1945 the Government orders were filled mainly with bulk products (over 1,600,000 gross from Killian and over 600,000 gross from Shunk) for which Killian's and Shunk's selling price was 70 cents per gross.  In addition, a small portion of the Government orders in that year was filled with the following packaged products: Killian's numbers 10A, 100A, and 105A, priced at 95 cents per gross, and 5A, priced at $ 1.10 per gross; and Shunk's numbers 10 and 100, priced at 95 cents per gross, and 5, priced at $ 1.10 per gross.The foregoing prices were the same as those charged by Shunk and Killian for the same commodities used in filling non-Government orders.  Killashun received lower prices (prior to renegotiation) for these commodities in filling the Government orders than it received in filling non-Government*145  orders: it did not apply the full dollar a gross increase to Government purchases.  Immediately prior to January 1942, Killashun had charged $ 1.20 per gross for bulk products, and $ 1.45 per gross for packaged products of the 10, 10A, 100, 100A, and 1,000A kind.  Killashun sold these packaged products to the Government in 1942 and 1943 at prices which, on the whole, were higher than its pre-1942 prices, but which were not as high as the prices resulting from the $ 1 a gross increase instituted in January 1942.  Killashun sold the bulk products to the Government in 1945 at an increase in price of 10 cents above its price immediately prior to January 1942.In 1937, Shunk, Killian, and Killashun were not owned or controlled directly or indirectly by the same interests.  Beginning in July 1939, and throughout the years 1942, 1943, and 1945, Shunk, Killian, and Killashun were owned or controlled directly or indirectly *955  by the same interests.  Those interests were represented by Jenkins, Tyrrell, and Gusman.OPINION.Respondent allocated to petitioners a portion of the income of a third business entity, Killashun Sales Division, and the principal question is whether that action*146  was authorized by section 454 or the general provisions of section 22 (a) of the Internal Revenue Code.  On the answer depends petitioners' liability for the largest part of the income, excess profits, and declared value excess-profits taxes respondent determined to be due from them for 1942, 1943, and 1945.Petitioners L. E. Shunk Latex Products, Inc., and*147 The Killian Manufacturing Company, to which we also refer as "Shunk" and "Killian," respectively, were two corporations engaged in the manufacture of rubber prophylactic articles.  Prior to 1937, as major producers, they vigorously competed with each other, often at a loss of profit to both.  The adverse effect of Shunk's competition on Killian's business caused a reduction in the royalties paid by Killian on certain patents it was licensed to use in its manufacturing operations, and, spurred by the decline in these royalties, the holder of the patents in 1935 brought suit against Shunk for infringement.  The suit was settled in June 1937, on the basis of an agreement which provided for the following: grant of a license to Shunk under one of these patents; minimum prices at which Shunk and Killian were to sell their products; and formation of another business entity to or through which both Shunk and Killian would dispose of their entire output.  This agreement was put into effect, and, at first, an organization called Killashun Agency was formed, but shortly after its creation it was superseded by another and distinct organization, a partnership named Killashun Sales Division, which*148  will be referred to as "Killashun." Thereafter Shunk and Killian sold all their products to Killashun, which Killashun in turn resold on its own account.This arrangement, between petitioners and Killashun, grew out of arm's length negotiations between petitioners and owners of the patents under which Killian operated.  In 1937, when the arrangement was entered into, Shunk, Killian, and Killashun were separate businesses, not subject to common ownership or control.*956  By the end of 1939, however, three persons, Maurice Gusman, Charles E. Jenkins, and James L. Tyrrell, Jr., who had been the partners in Killashun since its organization and who controlled its operations if not also its ownership, acquired control of Shunk and Killian as well.  Petitioners contend that Gusman, Jenkins, and Tyrrell did not control Shunk, Killian, and Killashun after 1939 because there were other interests in the businesses.  These are alleged to consist, first, of the wives of these three persons, who purportedly became partners in Killashun; and, secondly, of the beneficiaries of a trust, of which Tyrrell was trustee, which owned stock in Killian.Even if the wives are recognized as partners in*149  Killashun, ownership of the three businesses to a large degree was still in Gusman, Jenkins, and Tyrrell.  Furthermore, common control is not excluded merely because there is variation between some of the owners of proprietorship interests in related businesses.  "The term 'controlled' includes any kind of control, direct or indirect, whether legally enforceable, and however exercisable or exercised.  It is the reality of the control which is decisive, not its form or the mode of its exercise." Treasury Regulations 111, sec. 29.45-1 (a) (3).  Cf.  Grenada Industries, Inc., 17 T. C. 231, 254. Gusman, Jenkins, and Tyrrell held important positions in these businesses, fixed their policies, and had complete authority over their operations.  The record leaves it clear that all three organizations, during the years in issue, were "owned or controlled directly or indirectly by the same interests."Allocation between controlled businesses of "gross income, deductions, credits or allowances" is permitted under section 45 of the Code where "necessary in order to prevent evasion of taxes, or clearly to reflect the income of any of such organizations, trades, or *150  businesses." Section 45 empowers the Commissioner to act to rectify abnormalities and distortions in income which come about through the common control to which separate taxpaying entities may be subject.  "The purpose of section 45 is to place a controlled taxpayer on a tax parity with an uncontrolled taxpayer, by determining, according to the standard of an uncontrolled taxpayer, the true net income from the property and business of a controlled taxpayer." Treasury Regulations 111, sec. 29.45-1(b).Using this standard, we think respondent erred in allocating to Killashun any income of petitioners.  The premise on which respondent's allocation was constructed, that Killashun was acting as an agent of petitioners, following an agreement they had made earlier with Killashun Agency, is contrary to the facts as we find them, and cannot, in our opinion, support a redistribution of Killashun's income.  While there were other circumstances described herein, which establish a clear diversion of petitioners' income to Killashun, they too seem to us to be unavailable to support corrective action under section 45 for *957  reasons which we shall discuss presently.  No other basis appearing*151  on which to sustain respondent's allocations, our ruling on this issue must be for petitioners.The agreement between petitioners and Killashun Agency provided that the latter was to sell petitioners' products as their agent, and, from the proceeds of sales, was to retain as compensation a specified amount for each gross of their product sold, remitting the remainder to petitioners.  It was not long, however, before that agreement was replaced, and it did not govern at all petitioners' relations with Killashun Sales Division.  The latter bought and sold on its own account; it was not "compensated" by petitioners; and the proceeds of sales made by it were not the property of petitioners, to be surrendered to them.The arrangement between petitioners and Killashun Sales Division was established in 1937 in accordance with arm's length negotiations conducted by persons having antagonistic interests.  The manner of operation and price structure under that arrangement were plainly not of such character as to divert income from either of the petitioners to Killashun.  This was certainly true during the period 1937-1939, when petitioners and Killashun were not subject to common control.  *152  And when common control was achieved in 1939 the same situation persisted until at least 1942, for there was no change of any consequence in the manner of operation or price structure.  Certainly, therefore, there could be no valid basis for an allocation of income to petitioners under section 45 prior to 1942, and the Commissioner has not in fact attempted to make any such allocation.  Yet, the very theory upon which he proceeded would have supported an allocation after 1939.  Plainly, the mere existence of common control would not justify resort to section 45, if the same manner of operation and price structure continued in effect after the attainment of common control as existed prior thereto.However, in 1942 that common control was exercised in such manner as to shift income from petitioners to Killashun, and, but for certain wartime price regulations on which petitioners rely, we would be constrained to regard action under section 45 as warranted.  With the coming of the war, and the consequent critical shortage of rubber, there appeared to be a likelihood that petitioners' products could be sold at a substantial increase in prices.  In these circumstances, Killashun halted all*153  sales in December 1941.  It resumed sales in January 1942, and at the same time imposed a one-dollar per gross across-the-board increase on all products sold by it.  There was no change in the items sold, or in the services or functions performed by Killashun; conditions simply made it possible to get a higher price from the trade for the same products.  In the case of unpackaged goods, the increase *958  was considerably in excess of one hundred per cent.  However, although Killashun raised the price to its customers, Shunk and Killian kept their prices to Killashun completely unchanged.  On the very products on which Killashun was realizing increased income of one dollar per gross, Shunk and Killian deliberately refrained from increasing their own profits at all through an increase in the prices charged to Killashun.We cannot believe that business organizations free of control by common interests would have acted in this way.  If there had been no ties of common control or ownership between petitioners and Killashun, it would have been reasonable to expect petitioners to take advantage of market conditions and to raise their prices as was done by Killashun.  Their failure to*154  do so can be viewed only as a consequence of the common ownership and control which dominated all three entities, and plainly shifted income of petitioners to Killashun.  This sort of distortion in income, springing from arrangement or manipulation made possible by common control or ownership, was exactly the kind of vice at which section 45 was aimed.  Cf. Treasury Regulations 111, sec. 29.45-1; Advance Machinery Exchange, Inc., 196 F. 2d 1006 (C. A. 2, 1952); Asiatic Petroleum Co. v. Commissioner, 79 F. 2d 234 (C. A. 2, 1935), certiorari denied 296 U.S. 645">296 U.S. 645; National Securities Corporation v. Commissioner, 137 F. 2d 600 (C. A. 3, 1943), certiorari denied 320 U.S. 794">320 U.S. 794.Petitioners contend that a good business reason was responsible for their failure to increase their prices in January 1942.  They assert that earlier, in 1938, they had raised their prices to the partnership, and that the higher prices encouraged new competition in the field, causing petitioners to lose business and profits.  To avoid a recurrence of this situation, *155  petitioners claim they withheld raising their prices in 1942.  It is difficult, however, to assign any weight to this explanation.  Gusman, an officer of petitioners and one of the persons who controlled the operations of the two corporations and the partnership, testified that the trade at large did not know what price arrangements existed between petitioners and Killashun.  If the trade was uninformed as to whether a price increase by Killashun originated with it or whether Killashun was only passing on in whole or in part an increase instituted by petitioners, the actual fact in this connection could not have been a factor affecting competition in the industry.  The prices in effect between petitioners and Killashun would appear, so far as the matter of outside competition was concerned, to have been unimportant in comparison with the prices charged by Killashun and which were ultimately obtainable for the products; the latter would appear to have been the significant prices in determining the level of profit at which competing manufacturers *959  could operate.  If the hazard to which petitioners refer really existed in January 1942, it is not apparent how, on increasing Killashun's*156  prices, it could have been avoided merely by keeping petitioners' prices stationary.We would therefore regard this diversion of income as an appropriate occasion for applying section 45, were it not for certain wartime price regulations issued by the Office of Price Administration.  These regulations fixed maximum prices, and created a rather extraordinary situation in which an increase in price appears to have been permitted by Killashun but prohibited by petitioners.  Consequently, petitioners argue that they could not have raised their prices to Killashun even if they had desired to do so.The General Maximum Price Regulation issued April 28, 1942, and effective May 11, 1942 (7 Fed. Reg. 3153), fixed maximum prices of petitioners and Killashun at the highest prices charged by them in March 1942.  Since Killashun had already increased its prices, petitioners contend that it was permitted to continue to charge the higher prices.  Petitioners, not having done likewise, assert that they were confined to their pre-1942 prices.  Thereafter two new regulations were issued on January 16, 1943, effective February 1, 1943, which, to the extent they applied, displaced*157  the General Maximum Price Regulation. One, Maximum Price Regulation 300 (8 Fed. Reg. 867) applied to manufacturers of "rubber drug sundries," within which prophylactics were included by explicit definition.  The second, Maximum Price Regulation 301 (8 Fed. Reg. 873), applied to wholesalers of "rubber drug sundries." The general effect of both these regulations was to roll maximum prices back to those charged on December 1, 1941.  However, by an amendment (8 Fed. Reg. 9212, 9215), effective July 9, 1943, prophylactics were expressly excluded from the scope of Maximum Price Regulation 301.  As a result, maximum prices of manufacturers of prophylactics remained rolled back to December 1, 1941, but the prices of wholesalers of such articles were subject to no such restriction.  Petitioners therefore contend that, even if they had increased their prices to Killashun at the beginning of 1942, they would have been compelled by the price regulation applicable to manufacturers to surrender the increase and to roll their prices back to their pre-1942 level, whereas the price regulation applicable to wholesalers, *158  since it did not apply to prophylactics, left Killashun free to keep its 1942 price increase in effect.  Petitioners argue that it is improper, under section 45, to allocate income to them based on prices higher than they were permitted to charge under the price regulations, which they assert to be their pre-1942 prices, and that section 45 does not authorize an allocation of income to them which under other laws they were prohibited from earning.*960  The effect of the regulations, as contended by petitioners and as outlined above, has not been challenged by respondent, and he offers no other interpretation of the regulations or their significance.  Assuming this understanding of the regulations, he makes two points in answer.  First, he argues that petitioners cannot take advantage of the price regulations because they made no application to the Office of Price Administration for permission to increase their prices.  The record is barren of any showing, however, that petitioners had grounds on which to file such an application or that they were in any way qualified for such relief.  Respondent has done nothing to establish the basis on which such an application might have been*159  filed or the conditions required for its successful prosecution.  Resort to section 45 cannot be justified on unfounded speculation, and in these circumstances we are not going to conjecture as to what price relief, if any, would have been given to petitioners by the O. P. A., if they had applied therefor.  Secondly, respondent asserts, without citation of authority, that sales to the Federal Government were not subject to the price ceilings.  However, it was not petitioners, but Killashun which sold to the Government, and any exemption from price controls, to be of aid to respondent, would have to extend to indirect suppliers such as petitioners.  Moreover, neither as to such indirect suppliers nor as to the immediate vendor has respondent demonstrated the truth of his underlying premise that sales to the Government were not subject to maximum prices imposed by the foregoing regulations. Again he has referred us to no authority, and his bald assertion becomes particularly unconvincing in the presence of indications that at least a substantial number of sales to the Government were controlled by the price ceilings.  Cf.  10 C. F. R. § 81.1130 et seq. (1944 Supp.).  And finally, not*160  all of the sales of petitioners' products were made to the Government: in 1942, petitioners' products were sold mainly to non-Government purchasers, and in 1943 and 1945 substantial sales were made to such purchasers.We recognize that the price structure of petitioners and Killashun from December 1941 through March 1942 was not shaped in reliance on the price regulations which followed.  The regulations, so far as those prices of petitioners and Killashun were concerned, were purely a subsequent fortuitous development.  The regulations merely froze a condition theretofore deliberately created without reference to them by the interests in control of the three entities.  There is no basis in the record for believing that petitioners would have raised their prices to Killashun in the absence of these regulations, and we can only infer that the respective prices of the controlled entities, in relation to each other, would not have been any different even if the price regulations had never come into being.  To say, therefore, that because *961  of the price regulations an improper shift of income is to be insulated from the corrective provisions of the statute, is to permit petitioners*161  to enjoy an unexpected piece of good fortune in reduction of their taxes.  But we can see no logical basis on which petitioners can be denied this windfall, in view of the uncontroverted effect of those regulations in prohibiting petitioners from receiving the very income sought to be attributed to them.  We think that the Commissioner had no authority to attribute to petitioners income which they could not have received.  We therefore conclude that, in allocating Killashun's income to petitioners, respondent acted in excess of his power.A second, minor issue pertains to the rate of amortization of certain improvements made by Shunk on leased property.  In 1937 it leased the premises at which its office and plant were located.  The lessor apparently had no affiliations with Shunk.  The lease ran for 7 years, and was renewable at Shunk's option for a further term of 7 years.  Beginning in 1937, Shunk improved the property, and, for tax purposes, as to the years 1942 through 1945 amortized the cost of the improvements over the life of the lease, including therein the 7-year renewal period.  Respondent contends that amortization should have been made over the life of the improvements, *162  relying on the facts that Charles E. Jenkins purchased the premises in 1939 and that Jenkins was then president of Shunk and one of the persons controlling the operations of petitioners and Killashun.  Respondent's position apparently rests on the conclusion that in reality Jenkins bought the property for Shunk, which thereafter occupied the premises as owner and not as lessee; or that after the purchase by Jenkins, Shunk became a lessee for an indefinite term.  The evidence is contrary to both of these inferences, and we rule against respondent on this issue.Decisions will be entered under Rule 50.  Footnotes*. The amounts here listed were stipulated by the parties.  There was no explanation why, in accordance with the purported agreement, there was not an even division of the fund.↩*. Shunk gave "free goods" in 1941 only through November of that year.↩**. Killian gave "free goods" in 1941 only through July of that year.↩1. This fiscal year was involved only through December 31, 1945.↩2. The parties stipulated that $ 110,000 was repaid, although the pertinent renegotiation agreement provided for elimination of only $ 82,085 for this period.  The reason for the difference is in doubt, but seems to be related to an additional amortization allowance of $ 27,915 taken into account for renegotiation purposes.↩3. Respondent made adjustments in Killashun's returns which produced comparatively small changes in its net income for the fiscal years ending in 1942, 1943, 1944, 1945, and 1946.  The parties have stipulated that, if it becomes necessary in this proceeding to determine the net income of Killashun on a calendar year basis for the years 1942-1945, Killashun's net income "before making the adjustments here in issue" is as follows:↩Calendar YearNet income1942$ 1,274,835.1319431,373,168.991944463,167.061945982,088.72*. These amounts were reported in amended returns which eliminated renegotiated income.↩*. These figures include 3,169,334 gross which Killashun Sales Division purchased in bulk form but re-sold in packages.↩4. SEC. 45. ALLOCATION OF INCOME AND DEDUCTIONS.In any case of two or more organizations, trades, or businesses (whether or not incorporated, whether or not organized in the United States, and whether or not affiliated) owned or controlled directly or indirectly by the same interests, the Commissioner is authorized to distribute, apportion, or allocate gross income, deductions, credits, or allowances between or among such organizations, trades, or businesses, if he determines that such distribution, apportionment, or allocation is necessary in order to prevent evasion of taxes or clearly to reflect the income of any of such organizations, trades or businesses.↩