Court Opinion

ID: 4602675
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:30:16.329664+00
Date Added: 2024-06-11T07:52:42.563185
License: Public Domain

WEBSTER & ATLAS NATIONAL BANK, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Webster & Atlas Nat'l Bank v. CommissionerDocket No. 42285.United States Board of Tax Appeals18 B.T.A. 1200; 1930 BTA LEXIS 2503; February 17, 1930, Promulgated *2503  Bad debt deduction disallowed where the debt was in part ascertained to be worthless and charged off in petitioner's books within the preceding taxable year and where there was no ascertainment of worthlessness or charge-off made in respect of the indebtedness within the taxable year.  A. T. Wilkinson, C.P.A., for the petitioner.  W. Frank Gibbs, Esq., for the respondent.  SMITH *1200  The respondent has determined deficiencies in income tax for the calendar years 1925 and 1926 amounting to $6,014.96 and $96.47, respectively.  No issue was raised with respect to the year 1926, but the petitioner contends that the respondent erred in disallowing deductions on account of bad debts in the aggregate amount of $42,000.  At the hearing the parties entered an agreement with respect to two of the three items involved.  FINDINGS OF FACT.  The petitioner is a National bank with its principal place of business at 199 Washington Street, Boston, Mass.  At the beginning of the calendar year 1920 it opened a line of credit not to exceed $200,000 to the Brightwood Manufacturing Co., of North Andover, Mass. (hereinafter sometimes referred to as the company), *2504  manufacturers of worsted dress goods.  The company had been in business for many years prior to the taxable year 1925.  During 1920 and 1921 the petitioner made frequent loans to the Brightwood Manufacturing Co. represented by short-term notes upon which payments were made at irregular intervals.  These notes all bore interest and were endorsed by the president and by the treasurer of the company.  The company's total indebtedness to the petitioner at no time exceeded $200,000.  At December 31, 1921, and at December 31, 1922, the company was indebted to the petitioner in the amount of $200,000.  During 1923 this indebtedness was reduced by the amount of $40,000, leaving a balance due the petitioner at December 31, 1923, of $160,000.  During 1924 the company further reduced its indebtedness by $16,000, leaving a balance due at December 31, 1924, of $144,000.  Due to unfavorable business conditions existing in the woolen textile industry in the year 1924, the company operated at a considerable loss over that year, and, on December 31, 1924, the petitioner *1201  charged to profit and loss $28,000 of its remaining indebtedness.  The charge-off was made upon the loan card which*2505  bore a complete record of the company's loan account with the petitioner since it was opened in 1920.  The loan cards were used by the petitioner much in the same manner as an accounts receivable ledger in the case of an ordinary commercial account and were referred to by the bank officials for detailed information regarding the loans.  During 1924 and 1925 the petitioner received financial reports on the company prepared by a Boston firm of accountants which it considered in making its determination with respect to the company's loan account.  The financial report submitted to the petitioner under date of October 21, 1924, contained a balance sheet of the company as at September 27, 1924, showing total current assets of $1,260,728.43 and total current liabilities of $1,599,014.63.  The report showed a net loss for the period December 1, 1923, to September 27, 1924, of $144,674.08.  A similar report submitted under date of January 17, 1925, contained a balance sheet of the company as of November 29, 1924, showing current assets in the amount of $1,143,994.72, current liabilities in the amount of $1,449,193.21, and notes payable in the amount of $1,157,400.  The report showed an operating*2506  loss for the 12 months ended November 29, 1924, of $116,567.91.  Another report submitted to the petitioner under date of January 2, 1926, contained a balance sheet of the company as of November 28, 1925, showing current assets of $1,185,403.54, current liabilities of $1,513,155.58, and notes payable in the amount of $1,093,100.  The report showed an operating deficit for the 12 months ended November 28, 1925, of $36,446.89.  A large part of the amount of notes payable shown on the company's balance sheets represented its indebtedness to other creditors, principally bankers in or near Boston.  During 1924 and 1925 the creditors organized informally and held meetings from time to time for the purpose of formulating plans for protecting their interests and assisting the debtor company.  The petitioner was represented by its president at these meetings.  At the creditors' suggestion a general manager was appointed by the company's board of directors to act with its president and treasurer who had previously managed the business.  There was also a creditors' committee appointed to assist in the management.  After the charge-off of the $28,000 above referred to the petitioner made no*2507  further charge-off in respect of the company's indebtedness until the year 1927.  On June 30, 1927, it charged off $10,000 of the indebtedness and during the year 1928 it charged off an additional $44,000.  The company was subsequently forced to discontinue operations and its assets were liquidated.  *1202  OPINION.  SMITH: The petitioner alleges error on the part of the respondent in disallowing the deduction of bad debts in the amount of $42,000.  There are three separate items involved: one for $28,000, one for $10,000, and one for $4,000.  At the hearing the respondent agreed to the deduction of the $4,000 item, representing the debt of the Chandler & Patten Co., and the petitioner withdrew its contention with respect to the $10,000 item, representing the debt of the United States Worsted Co.  There remains for our determination the question of the deductibility in 1925 of the $28,000 item, representing a part of the indebtedness of the Brightwood Manufacturing Co.  The evidence shows that the amount in question was charged off in the petitioner's books on December 31, 1924.  The company was indebted to the petitioner at that time in the amount of $144,000.  The charge-off*2508  of $28,000 of the indebtedness was indicated by the notation in red ink on the loan card upon which the petitioner kept a complete record of the company's loan "Chgd. to P & L 28,000." The petitioner's president testified that the charge-off was the result of a careful analysis by the petitioner of the company's financial condition and business outlook at that time.  His testimony was in part as follows: The Member: How did you come to charge off $28,000; how did you determine that would be the amount to which the account should be written down?  The Witness: In analyzing the condition of the company at that time, I felt that there was a loss in that amount.  The Member: And was it your expectation the balance would be collected?  The Witness: I thought there was a loss of at least that amount.  * * * Q.  How did you arrive at this figure of $28,000; what was in your mind; how did you arrive at it; why did you not take $18,000 or $38,000?  A.  From an analysis of the statement of the condition of the company as of November 29, 1924, together with the information which we had and from our experience and general knowledge of this particular situation, the general condition*2509  indicated that there was probably a loss there of about twenty per cent of the note.  Q.  So, from all the information you had at that particular time, including these reports, and your general knowledge of the industry in New England, was the balance you would collect on, but you would lose the $28,000?  A.  That was the conclusion at that time, that we would lost at least $28,000.  The company had operated upon a losing basis during the calendar year 1924 and had sustained an operating deficit for that year amounting to $116,567.91.  Its current liabilities as shown by its balance sheet as of November 29, 1924, exceeded its current assets by the amount of $305,198.49.  The petitioner at that time was thoroughly acquainted with the affairs of the company, being one of several creditors who were receiving financial reports on the company *1203  and advising with its officers as to matters of management.  The evidence indicates that the charge-off at December 31, 1924, was made by the petitioner of its own volition and upon its own judgment and not by direction of any banking official, either of the Commonwealth of Massachusetts or the Federal Government.  The evidence does*2510  not show that there was any charge-off made in the petitioner's books with respect to the Brightwood Manufacturing Company's indebtedness during 1925.  Upon this point the petitioner's president further testified as follows: Q.  Now, that card record there, will you please examine it and tell me whether or not there was any charge-off in this account at any time during the year 1925?  A.  No, sir.  Q.  There was not?  A.  No, sir.  Q.  The next charge-off, as you related, after that one of December 31, 1924, was June 30, 1927, of $10,000, is that correct?  A.  Yes, sir.  * * * Q.  Would you say that between the first and second charge-off, the banks that had been loaning money to this concern were interested in trying to save them and see them come out all right in the end?  A.  Yes, sir.  Q.  Therefore, would you say that, by reason of what the cards show there, you had made no definite decision in your mind you would lose anything else until you made the next charge-off?  A.  I think that is correct, sir.  Under these circumstances it seems to us that the deduction of the $28,000 item should have been claimed in 1924 and that it is allowable, if at all, in*2511  that year when the debt in part was actually ascertained to be worthless and charged off in the petitioner's books.  The facts here are materially different from those in , where we allowed the deduction of debts which were tentatively ascertained to be worthless by an officer of the petitioner bank in a prior year and were charged off, with the approval of the directors, within the taxable year.  We have consistently held that the ascertainment of worthlessness, by those with authority to act for the taxpayer, within the taxable year is the essential requirement of the statute and that the charge-off must occur substantially as of the date of the ascertainment of worthlessness.  See ; ; ; . The Revenue Act of 1924, section 234, permits a taxpayer to deduct in part of in whole either the specific bad debts ascertained to be worthless and charged off within the taxable year, or, in the discretion of the Commissioner, *2512  a reasonable addition to a reserve for *1204  bad debts.  Since the evidence does not show that the petitioner maintained a reserve for bad debts during the years under consideration, it is entitled to a deduction in 1925 of only the debts ascertained to be worthless and changed off within that year.  With respect to the amount in dispute, the petitioner has not complied with the requirements of the statute and the deduction must be denied.  Judgment will be entered under Rule 50.