Court Opinion

ID: 4591340
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:05:35.631254+00
Date Added: 2024-06-11T07:50:38.967612
License: Public Domain

MANEY MILLING CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Maney Milling Co. v. CommissionerDocket No. 7704.United States Board of Tax Appeals14 B.T.A. 1001; 1929 BTA LEXIS 2999; January 7, 1929, Promulgated *2999  1.  Disallowance of a reserve to meet a contingent liability approved.  Apportionment of expense in accordance with Producers Fuel Co.,1 B.T.A. 202">1 B.T.A. 202, approved.  2.  Respondent erred in restoring to income $12,492.38 written off by petitioner on account of repudiation of a contract of sale by the purchaser.  Florence Mills, Inc.,9 B.T.A. 579">9 B.T.A. 579. Chester A. Gwinn, Esq., for the petitioner.  Bruce A. Low, Esq., and George S. Herr, Esq., for the respondent.  VAN FOSSAN *1002  This proceeding is brought to redetermine the income and excess-profits taxes of the Maney Milling Co. for the year 1920 in the amount of $8,553.55.  The petitioner alleges the following errors on the part of the respondent: (1) The disallowance of the sum of $6,924.25 as a deduction from gross income, representing a portion of an item of $7,500 set up on the petitioner's books to meet the demands of the Nebraska Power Co. for electric power furnished to the petitioner during the year 1920; and (2) the inclusion of the sum of $12,492.38 in gross income, representing an unliquidated claim for damages against Hallett & Carey for breach of*3000  contract and not appearing as accrued income on the books of the petitioner on December 31, 1920.  FINDINGS OF FACT.  The petitioner is a corporation organized under the laws of the State of Nebraska, with offices at Omaha.  It is engaged in the business of milling flour and trading in wheat.  It kept its books of account and made its income and excess-profits-tax return for the year 1920 on an accrual basis.  During the year 1920 the Nebraska Power Co. furnished electric current to the petitioner for power purposes and rendered its bills therefor monthly.  During that year the said Power Company secured the passage of an ordinance by the City of Omaha permitting it to increase its charges for such service and in August, 1920, billed the petitioner at the higher rates.  The petitioner challenged the validity of the ordinance, protested the increased charges, denied its liability therefor, and refused to pay them.  It tendered to the Power Company its checks covering charges for the electric current computed at the lower rates in effect prior to August, 1920.  On December 31, 1920, it entered on its books the sum of $7,500 as a reserve to cover this contingent liability to the*3001  Power Company for the payment of the excess electric service charges.  Such excess charges for the amounts from August to December, 1920, both inclusive, amounted to $2,759.26 as they appeared on the statements submitted by the petitioner.  On June 15, 1921, the books of the petitioner showed an unexplained entry of $7,500 to offset the contingent charge above described.  In April, 1923, a compromise settlement was made with the Power Company, whereby petitioner paid that Company the sum of $3,800 as compensation for electric current furnished at the excess rates for the period of 33 months beginning August 1, 1920.  The respondent allowed a proportionate part of that sum as a deduction for 1920 in lieu of the $7,500 disallowed as above stated.  *1003  On October 13, 1920, the petitioner entered into a contract with Hallett & Carey for the sale of 25,000 bushels of wheat at $2.30 per bushel for first half November shipment, payment to be made by demand draft with bill of lading attached.  On or about November 5, 1920, the petitioner received instructions to ship 10,000 bushels; on or about November 12, 1920, to ship an additional 10,000 bushels; and on November 15, 1920, it*3002  was instructed by wire to ship the remaining 5,000 bushels.  On November 15, 1920, Hallett & Carey by wire notified the petitioner as follows: The time limit on contract P-3023 dates October 13th for 25 wheat shipment November 15th has expired period.  We hereby notify you we have cancelled purchase.  HALLETT & CAREY CO.  On the same day the petitioner shipped to Hallett & Carey 20,166.40 bushels of wheat and drew on them by sight draft with bill of lading attached for the sum of $46,383.33.  The consignee refused to accept the shipment and to honor the draft, which was thereupon protested.  Protest fees of $33.70 were paid by the petitioner.  Thereafter the petitioner informed Hallett & Carey that it would submit the question of damages to the Omaha Grain Exchange Arbitration Board, but by agreement the matter was adjusted in March, 1922, by the National Grain Dealers Association, the petitioner being awarded the sum of $8,207.83 as damages.  On November 24, 1920, the petitioner sold the said shipment of 20,166.40 bushels of wheat to E. E. Huntley for $1.68 1/2 per bushel, or $33,980.83, and credited that amount to the account of Hallett & Carey, who were charged with an option*3003  cost of $56.18; leaving an unpaid balance of $12,492.38 in their account.  Under its system of bookkeeping the entries relating to this transaction were made by the petitioner as follows: At the time of the shipment of wheat to Hallett & Carey the sales price thereof was billed to that firm and credited to sales.  A sight draft, with bill of lading attached, calling for the same amount was deposited for collection with a bank and Hallett & Carey's account was credited with that amount, while the cash account was correspondingly charged.  Upon the refusal of Hallett & Carey to honor the draft a reverse entry was made crediting the cash account and charging to Hallett & Carey the amount of the original draft plus protest fees and option cost.  Upon the sale to E. E. Huntley the amount received therefrom was credited to the Hallett & Carey account and on December 31, 1920, the balance remaining in their account, or $12,492.38, was written off to profit and loss.  The respondent restored to income the amount so written off.  On June 13, 1921, the petitioner made a further entry of $10,000 as the "estimated amount recoverable," but submitted no basis for *1004  such estimate. *3004  At the close of 1920 the firm of Hallett & Carey was solvent.  Prior to January 1, 1921, that firm offered to open negotiations looking toward arbitration but denied its liability to the petitioner under the contract of October 13, 1920.  OPINION.  VAN FOSSAN: The first issue presented for our consideration is whether or not the petitioner is entitled to deduct from its gross income the sum of $7,500 entered on its books on December 31, 1920, as a reserve to cover a contingent liability to the Nebraska Power Co., a occasioned by the increase of its electric service rates during the period from August to December, 1920, both inclusive.  The record discloses that at no time during 1920 did the petitioner admit its liability to pay the increased rates charged to it by the Power Company under the ordinance authorizing such increases.  The contrary appears and the petitioner continued to protest against and oppose the higher rates as unwarranted and the ordinance as invalid, until April, 1923, when an adjustment of the controversy was effected through a compromise settlement.  In *3005 , we held as follows: * * * Conceding that it may be proper to accrue any approximation, it is certainly essential that there be a recognized obligation to pay before one's right to accrue arises, and a mere liability to suit is not sufficient.  Where the liability is denied and the injured party takes no action to compel payment, there is no basis for an accrual, and any amount set up on the books to take care of this liability would be in the nature of a contingent reserve which, as we have held in the , is not permitted under the Revenue Acts.  See also ; ; ; and . In the absence of an accurate statement allocating to each month its proper proportion of the $3,800 paid under the compromise settlement, the respondent assigned to each month an equal part thereof.  Thus, the petitioner was permitted to deduct $575.75 as a proper charge for the excess electric service. *3006  Such allowance was made under the theory set forth in , and we are not inclined to disturb the respondent's action.  The petitioner is not entitled to the deduction claimed in its first assignment of error.  Passing to the second issue, the following facts are noted.  On October 13, 1920, the petitioner entered into a contract with Hallett & Carey for the sale of 25,000 bushels of wheat under certain terms and conditions.  On that date it made no entry on its books but exchanged memoranda with Hallett & Carey setting forth the detailed conditions governing the transaction.  On November 15, 1920, *1005  it shipped to Hallett & Carey 20,166.40 bushels of wheat and entered as a charge on its books against that firm the item of $46,383.33, the value of the shipment.  As a matter of bookkeeping, the account of Hallett & Carey was credited with the same amount when a draft with bill of lading attached was sent through the bank to be collected from Hallett & Carey prior to its receipt of the wheat and acquisition of title thereto.  The consignee attempted to cancel its contract by its telegram of November 15, 1920, on the ground that*3007  the contractual time limit had expired.  It also refused to accept the shipment of wheat and to honor the draft with the bill of lading attached.  Subsequent entries of the petitioner clearly indicate that it accepted the purchaser's repudiation and attempted cancellation of its contract as a refusal to comply with its terms, thereby warranting and possibly requiring the petitioner to make a resale or a new sale of the wheat in transit.  Such a sale was made to E.E. Huntley for $33,980.83, and by reason of the crediting of the proceeds therefrom to the account of Hallett & Carey resulted in a decrease of $12,492.38 in the amount which the petitioner deemed itself entitled to receive from the original shipment of November 15, 1920.  In this sum there were included charges for protest fees and the cost of the option.  We do not deem it necessary to determine what the status of the transaction between the petitioner and Hallett & Carey may have been on October 13, 1920, nor to ascertain the motive which may have prompted the petitioner to charge off to profit and loss the balance remaining in the Hallett & Carey account.  In any event, the effect of the dealings between the petitioner*3008  and Hallett & Carey based on their contract of October 13, 1920, and consummated during the taxable year, was to create and to extinguish as an item of actual or potential income the profit of the 20,166.40 bushels of wheat shipped thereunder.  We have held repeatedly that in order that bookkeeping methods and individual entries may be taken as a basis for determining income tax, they must reflect true income.  Bookkeeping entries are evidentiary and not conclusive.  We must look to the transactions to which such entries purport to relate and for which they serve as a record before we can arrive at a proper conclusion as to their true character and their effect on income.  ; ; ; ; ; and . By reason of the repudication and attempted cancellation of the contract of October 13, 1920, on the part of Hallett & Carey, the character of the item appearing on the petitioner's*3009  books as an entry *1006  presumably reflecting the dealings between the parties was transformed from an account receivable into a claim for damages for breach of contract.  As such it had no place in the computation of the petitioner's income on an accrual basis.  Applying the principle set forth in  (see also ), we are of the opinion that the sum of $12,492.38, representing the amount charged off to profit and loss from the account of Hallett & Carey and restored to income by the respondent was not a proper element of income, and we so hold.  Judgment will be entered under Rule 50.