Court Opinion

ID: 4606538
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:38:46.767168+00
Date Added: 2024-06-11T07:53:23.607311
License: Public Domain

AMERICAN CODE CO., INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.American Code Co. v. CommissionerDocket No. 9077.United States Board of Tax Appeals10 B.T.A. 476; 1928 BTA LEXIS 4094; February 2, 1928, Promulgated *4094  The petitioner at the close of the taxable year set up on its books as a reserve for the breach of a contract of employment the amount which would have become due under such contract as commissions had there been no breach.  At that time the employee was suing for damages for the breach of such contract and the petitioner had denied any liability.  The amount of the liability was not determined until a subsequent year.  Held, that the petitioner was not entitled to deduct in the taxable year the amount so set up as a reserve.  Clark H. Hebner, Esq., for the petitioner.  Bruce A. Low, Esq., for the respondent.  PHILLIPS *477  The Commissioner determined a deficiency of $122.91 in income and profits taxes of the petitioner for 1919.  The petitioner seeks a redetermination of such deficiency, alleging that it has made an overpayment of its taxes for such year in the amount of $9,365.11.  The petition alleges that the Commissioner committed error in refusing to allow the deduction of a loss alleged to have occurred in 1919 upon breach of a contract.  FINDINGS OF FACT.  The petitioner is a New York corporation, organized in the year 1914 in*4095  the Borough of Manhattan of the City of New York.  On January 3, 1919, the petitioner entered into a contract of employment with one Cosmo Farquhar for a term to begin on January 3, 1919, and to end on February 1, 1937, the compensation of the employee to be a commission based upon the sales made in the petitioner's business.  On May 1, 1919, the petitioner discharged the said Cosmo Farquhar from its employ.  In July, 1919, Farquhar began action against the taxpayer in the Supreme Court of New York County to recover commissions due him for April, 1919, alleged to be $1,000, and for breach of the contract of employment, claiming damages for such breach in the amount of $100,000.  The petitioner defended such action on the ground that Farquhar had previously breached his contract of employment and that his discharge was justified by reason of his failure to perform his duties.  This action was reached for trial in January, 1922, and resulted in a verdict by the jury against the petitioner and an award of damages in favor of Farquhar for breach of contract in the sum of $21,019.19.  The petitioner appealed to the Appellate Division of the Supreme Court, State of New York, which*4096  court, on June 2, 1922, affirmed the judgment.  Petitioner then appealed to the Court of Appeals of the State of New York, in which court the judgment was again affirmed on the 16th day of January, 1923.  The petitioner paid the amount of said judgment in January, 1923.  The petitioner kept its books and made its income-tax returns on the accrual basis.  The petitioner, at the close of the year 1919, set up on its books as a reserve for the breach of the contract of employment, the amount of $14,764.79, such amount having been computed at the rates of commission and on the basis specified in the said contract.  At the close of the year 1920 this reserve was increased on the petitioner's books by $32,994.09 to conform to the amount of its liability computed on the same basis, and at the close of the year 1921, judgment *478  having been rendered early in January, 1922, before the books had been closed for 1921, the reserve so set up on its books, amounting to $47,458.88, was adjusted to the liability as fixed by the judgment against the petitioner in the sum of $21,019.19.  On October 28, 1919, the petitioner wrote the Commissioner that its employee was suing to recover*4097  commissions due under the contract and made a written request of the Commissioner of Internal Revenue for permission to deduct from petitioner's income-tax return for 1919, the accumulated commissions which would be due on December 31, 1919, under the contract, which request was denied on November 11, 1919.  The petitioner, in compliance with said ruling by the Commissioner, did not deduct in its 1919 income-tax return the amount set up as a reserve for 1919 commissions, but on January 21, 1925, its 1919 return being then in process of audit by the Income Tax Bureau, the petitioner filed a claim for refund with the Commissioner of Internal Revenue, in which it claimed the right to deduct from its income for the year 1919 the amount of its liability for breach of the said contract of employment, the sum of $21,019.19, and that by reason of such deduction it was entitled to a refund of income tax paid for 1919 in the sum of $9,364.85.  The Commissioner, in a notice dated September 17, 1925, rejected such claim for refund and asserted a deficiency in tax against the petitioner for 1919 of $122.91.  OPINION.  PHILLIPS: The decision of this case appears to be controlled by the decision*4098  of this Board in . Further, it should be noted that in the present case the amount set up on the books of the petitioner on account of its liability was the amount becoming due to Farquhar under the terms of the agreement.  The suit, however, was not for commissions due under the contract (except as to the month of April, 1919) but was for breach of the contract.  While the amounts becoming due under the contract would be one element to be considered by the jury in fixing damages for its breach, it was by no means the measure of the damages sustained.  It seems clear that the amounts set up on the books in 1919 and 1920 were not considered to be for damages for breach, but were intended to and did represent the amount which would have been a liability had the contract continued in force.  Decision will be entered for the respondent.