Court Opinion

ID: 4618678
Source: CourtListenerOpinion
Date Created: 2020-11-21 02:39:07.970882+00
Date Added: 2024-06-11T07:55:30.787916
License: Public Domain

ENTERPRISE OPTICAL MFG. CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Enterprise Optical Mfg. Co. v. CommissionerDocket No. 7021.United States Board of Tax Appeals14 B.T.A. 1202; 1929 BTA LEXIS 2974; January 11, 1929, Promulgated *2974  1.  Value of patents acquired for stock disallowed in computing invested capital on account of lack of proof of value.  2.  Exhaustion of patents based on March 1, 1913, value disallowed for lack of proof of value.  A. R. Foss, Esq., for the petitioner.  John W. Fisher, Esq., and Harry Le Roy Jones, Esq., for the respondent.  TRAMMELL*1202  In this proceeding petitioner seeks a redetermination of its tax liability for the year 1919, for which the Commissioner has determined a deficiency of $1,623.47.  Petitioner alleges error on the part of the Commissioner (a) in disallowing the amount of $4,367.01 of a deduction of $12,218.07 taken by the petitioner for depreciation of machinery, furniture, fixtures, drawings, tools, etc.; (b) in refusing to allow any depreciation on patents protected by letters patent of the United States or applications therefor acquired by the petitioner for stock; (c) in holding that the net loss of the National Stamp Vending Co. was $3,268.50 for the period from March 16, 1919, to December 31, 1919, and that only $1,280.44 thereof was applicable to the period of affiliation between that company and the petitioner, *2975  which period was from September 9, 1919, to December 31, 1919, and in consequence holding that $1,280.44 only was deductible as a loss from the consolidated net income of the petitioner and its affiliated corporations; (d) in failing to allow as a deduction certain bad debts of the National Stamp Vending Co. in the amount of $3,776.53, which were ascertained to be worthless and charged off during the period of affiliation from September 9, 1919, to December 31, 1919; (e) in failing to allow as a deduction a total loss of useful value due to obsolescence of certain property of the National Stamp Vending Co. consisting of patents costing $5,000, patterns and dies costing $16,500, stamp vending machines costing $6,875, and die-cutting photos costing $300; (f) in failing to allow as a deduction an amount of $2,865.42, representing the net loss of the Altis Finance Co.; (g) in refusing to include in invested capital any part of the value of certain patents and applications for patents acquired by the petitioner for stock in 1911; (h) in reducing the invested capital of the petitioner by the amount of an additional assessment of income tax for 1917 which was not determined until after the*2976  taxable year in question, and the amount of which remained in the business of the petitioner during the taxable year; (i) in reducing the invested capital of the National Stamp Vending Co.  *1203  by $596.65 and in failing to allow as its invested capital the sum of $30,546.47, and in failing to allow as the invested capital of the Altis Finance Co. the sum of $1,700.  FINDINGS OF FACT.  Petitioner is a corporation organized under the laws of the State of Illinois, with its principal office at Chicago, Ill.Since the organization of the petitioner in 1901 its business has been the manufacture and sale of optical projection instruments, apparatus, accessories and supplies, including motion picture projection machines, stereopticons, and magic lanterns.  Its moving picture projection machine is known to the trade as Motiograph De Luxe.  About 90 per cent of the manufactured articles of the petitioner were protected by letters patent.  On July 1, 1911, the petitioner had an actual earned surplus of $147,913.71 in addition to its capital stock of $5,000.  On or about that date A. C. Roebuck, then practically the sole owner of the stock of the petitioner, subscribed for an*2977  increase of capital stock in the amount of $245,000 par value consisting of $120,000 par value of common stock and $125,000 par value of preferred stock.  On July 21, 1911, A. C. Roebuck in consideration of $1 and other valuable considerations assigned to the petitioner all his right, title and interest in and to the following described letters patent: Letters  for Lens Boxes for Stereopticons, etc., dated March 28, 1905; Letters  for Lime Light Fixtures, dated May 2, 1905; Letters  for Lime Light Fixtures, dated June 27, 1905; Letters  for Film Reeling Mechanisms, dated May 15, 1906; Letters  for Stands or Tripods, dated July 9, 1907; Letters  for Separator Strips for Slide Racks, dated July 7, 1908; Letters  for Shutter Mechanisms, dated January 12, 1909; Letters  for Film Reeling Mechanisms, dated April 27, 1909; Letters  for Kinetoscopes, dated July 13, 1909; Letters  for Kinetoscopes, dated November 9, 1909; Letters  for Kinetoscopes, dated April 19, 1910; Letters*2978  for Film Reeling Mechanisms, dated June 14, 1910; Application filed August 20, 1906, Serial No. 331,258, for Slide Changers; Application filed, February 11, 1909, Serial No. 477,436 for Optical Projection Apparatus; Application filed April 21, 1909, Serial No. 491,310 for Optical Projection Apparatus; Application filed April 21, 1909, Serial No. 491,311, for Kinetoscopes; Application filed October 14, 1909, Serial No. 522,676, for Kinetoscope Safety Shutters, being a renewal of application filed November 27, 1907, Serial No. 404,091; Application filed May 26, 1910, Serial No. 563,438, for Kinetoscopes; Application filed May 22, 1911, Serial No. 628,837, for Rewinding Mechanism; *1204  As a result of this assignment petitioner canceled the stock subscriptions for the additional capital stock of a par value of $245,000 and canceled a personal account amounting to $2,204.50, and issued to A. C. Roebuck such additional stock fully paid and nonassessable.  Some time after the issuance of the increased capital stock of A. C. Roebuck a journal entry was made as of July 1, 1911, as follows: Patents and Copyrights$99,290.79Surplus Account147,913.71To Subscription Account$247,204.50*2979  Entry to show payment of increased capitalization of $245,000 as subscribed for.  Surplus account of the petitioner from July 1, 1911, to January 1, 1919, as taken from its books, is as follows: ENTERPRISE OPTICAL MFG. CO.Surplus accountDr.Cr.Net cumulative additions to surplusJuly 1, 1911, balance$147,913.71July 1, 1911 1$147,913.71Dec. 31, 1911, profit and loss14,081.21$14,081.21Dec. 31, 1912, profit and loss5,236,9619,318.17Dec. 31, 1913, profit and loss992.7320,310.90Dec. 31, 1914, profit and loss6,489.8726,800.77Dec. 31, 1914 dead accounts J 3442,916.2315,666.77Dec. 31, 1914, dead stock J 3458,217.77Dec. 31, 1915, profit and loss18,887.38Dec. 31, 1915, bonus to A.C.R., J 3901,748.93Dec. 31, 1915, bonus to O.F.S. 3901,105.87Dec. 31, 1915, special tools - Depreciation, J 3901,400.0030,299.38May 31, 1916, A. C. Roebuck - Bonus J 4031,748.93Dec. 31, 1916, profit and loss26,766.2858,814.56Dec. 31, 1916, Premium - Capital stock 2 J 45110,000.0048,814.56Dec. 31, 1917, profit and loss13,103.6061,918.16Dec. 31, 1917, balance61,918.16235,220.67235,220.67Jan. 1, 1918, balance61,918.16Dec. 31, 1918, profit703.6162,622.77Jan. 1, 1919, balance of surplus62,622.77*2980 Subsequent to the assignment of patents and applications for patents certain patents were granted as follows:  granted July 18, 1911.   granted June 10, 1913.   granted April 29, 1913.   granted March 11, 1913.   granted October 17, 1911.   granted September 3, 1912.   granted April 30, 1912.  These patents became the property of the petitioner.  *1205  Prior to July 1, 1911, A. C. Roebuck permitted the petitioner to manufacture articles covered by the patents and applications for patents owned by him.  Such permission, however, was upon sufferance only.  A. C. Roebuck was practically the sole stockholder of the petitioner at that time, owning $4,800 par value of the $5,000 par value stock outstanding; the remaining two shares being held as qualifying shares only.  *2981  A correct statement of the assets and liabilities of the petitioner as of June 30, 1911, before the increase in capitalization referred to, is as follows: Trial balance after closing, June 30, 1911Inventory accounts:Dr.Cr.Circular advertising$78.50Sundry advertising74.75Camera237.70Copyrights270.00Cuts and catalogue sundries3,509.91Drawings3,280.63Office furniture and fixtures2,863.05Shop furniture and fixtures3,297.76Insurance325.00Machinery21,929.24Merchandise61,232.02Models5,532.28Motiograph catalogue account345.44Negatives2,920.35Office supplies and stationery266.75Patterns7,740.34Patents cost account1,934.50Postage65.00Taxes82.51Special tools, dies, jigs, etc22,225.11Small tools1,764.54$139,975.38Accounts receivable:Customers' accounts32,336.83F. A. Clerk100.00E. A. Schultz50.00A. C. Roebuck14,220.25H. Wallance400.0047,107.08Cash on hand169.30J. A. King - Note account207.84Adjustment account$1,094.41Bank1,127.86Bills payable12,500.00Capital stock5,000.00Accounts payable19,823.62Surplus and undivided profit147,913.71187,459.60187,459.60*2982 *1206  The following table shows the basis of the rates of depreciation used by the Commissioner in computing the depreciation allowance for the items in schedule (a)(18) of the return filed by the petitioner for 1919 and the correct rates and amount of depreciation: Correct depreciationDeduction allowed by CommissionerItemsCostRateAmountRateAmountPer centPer cent1.  Cuts, Electros, etc.:Balance Jan. 1, 1919$2,566.5925$641.6525$641.65Additions 1919152.6712 1/219.082.  Drawings:Balance Jan. 1, 1919124.395062.202531.10Additions 19191.4425.363.  Furniture and fixtures:Balance Jan. 1, 19193,342.5710334.2610334.26Additions 1919299.50514.974.  Machinery:Balance Jan. 1, 191917,914.26101,791.43101,791.43Additions 19192,283.285114.165.  Models:Balance Jan. 1, 19191,009.4850504.7425252.37Additions 1919235.132558.786.  Patterns:Balance Jan. 1, 19193,433.95501,716.9825858.49Additions 1919695.7425173.937.  Small tools:Balance Jan. 1, 19191,583.2025395.8025520.80Additions, 19191,125.5012 1/2140.688.  Special tools, dies, jigs, etc.:Balance Jan. 1, 19193,704.50501,852.2525926.13Additions 191930.52257.639.  Designs and patent:Investigation expense - Balance Jan. 1, 19191,905.0050952.5025476.2510.  Development:Balance Jan. 1, 19194,000.00502,000.00502,000.0011.  Models on safety razor:Balance Jan. 1, 191974.342518.582518.58Additions 191990.4312 1/211.30Total45,072.4910,811.287,851.06Depreciation allowed by commissioner7,851.06Additional amount allowed2,960.22*2983  The deficiency asserted by the respondent is based on a computation of the consolidated net income of three corporations, consisting of the petitioner, the Amusement Supply Co. and the National Stamp Vending Co., which the Commissioner properly held to be affiliated within the meaning of section 240 of the Revenue Act of 1918.  In computing the consolidated net income a deduction of $4,087.65 is allowable representing the net loss sustained by the National Stamp Vending Co. instead of the sum of $1,868.30 as set forth in the Commissioner's letter of August 29, 1924.  OPINION.  TRAMMELL: Issues (d), (e), (f), (h), and (i) were abandoned by the petitioner at the hearing.  Therefore, the action of the Commissioner in respect to those issues is approved.  Issue (a) was settled as set forth in the findings of fact, by stipulation.  The petitioner is, accordingly, allowed as a deduction for depreciation an *1207  amount of $10,811.28 in lieu of $7,851.06 allowed by the Commissioner.  Issue (c) was also settled by stipulation.  Therefore, the petitioner is entitled to a deduction of $4,087.65, representing the net loss sustained by the National Stamp Vending Co. instead of the*2984  amount of $1,886.30 as set forth in the Commissioner's letter of August 29, 1924.  There remain but two issues - (1) the amount to be included in invested capital with respect to the patents acquired in 1911, and (2) the deduction allowable on account of the exhaustion thereof.  In determining the amount of invested capital with respect to the patents, we must first decide whether they were acquired for stock or were acquired for something else, that is, the cancellation of an indebtedness.  The petitioner treated the transaction on its books as amounting to the capitalization of the earned surplus to the extent of $147,913.71, and valued the patents and copyrights at $99,290.79.  Roebuck was for all practical purposes the sole owner of the stock of the corporation.  He had certain patents and applications which he desired to transfer to the corporation.  The transaction took the form of a stock subscription for the additional stock, which represented not only consideration for the patents, but also the surplus of the corporation.  In his opening statement counsel for the petitioner stated that they were not able to determine the value of the patents, but had to measure it by*2985  the stock issued therefor.  While the transaction took the form of a cancellation of indebtedness for stock, the substance of the transaction was that the stock was issued in part for patents and applications.  It appears that the entire transaction was pursuant to a plan of Roebuck, the sole stockholder.  On the other hand, if we look only to the form, we have no evidence as to the terms of the subscription agreement.  We do not know whether there was a definite and fixed liability to pay for the stock in cash.  We are convinced that it was the plan to issue stock to Roebuck for his patents or, in any event, to satisfy his subscription agreement by the transfer of the patents.  In view of our conclusion that the patents were acquired for stock, it is necessary to determine the value thereof at the time acquired.  On this question we think the evidence is insufficient.  The only facts we have before us consist of the book entries in which patents and copyrights were entered at $99,290.79 and the surplus account, together with the trial balance on June 30, 1911.  We are unable to determine a valuation of the patents from this evidence.  On the question of the valuation of patents*2986  for purposes of depreciation, there is the same situation.  The evidence presented is wholly insufficient.  We must, therefore, affirm the action of the respondent on these issues.  Judgment will be entered under Rule 50.Footnotes1. This surplus was closed out to capital stock by a book entry as of July 1, 1911, when patents were acquired for capital stock.  See paragraphs 4, 5, and 6 of Stipulation.  ↩2. The company paid $110,000 for $100,000 par value of its preferred stock. ↩