Court Opinion

ID: 4595110
Source: CourtListenerOpinion
Date Created: 2020-11-20 19:14:21.692616+00
Date Added: 2024-06-11T07:51:22.724702
License: Public Domain

TUNNELTON BANK, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Tunnelton Bank v. CommissionerDocket No. 11433.United States Board of Tax Appeals12 B.T.A. 187; 1928 BTA LEXIS 3592; May 28, 1928, Promulgated *3592  Debts ascertained to be worthless and charged off the taxpayer's books of account in 1920 held to be a legal deduction from gross income.  Louis F. Tanner, C.P.A., and J. V. Gibson, Esq., for the petitioner.  M. N. Fisher, Esq., and E. C. Algire, Esq., for the respondent.  SMITH *187  The petitioner seeks the redetermination of a deficiency in income and profits tax for 1920 in the amount of $11,812.38.  The assignment of error made by the petitioner is that the Commissioner failed to allow as a deduction from gross income in its income-tax return for 1920 the amount of $23,720.30 representing notes discounted by the petitioner prior to 1920 and considered uncollectible during 1920, after a diligent effort had been made to collect them.  FINDINGS OF FACT.  The Tunnelton Bank is a West Virginia corporation with its principal place of business in Tunnelton.  It was organized in 1903 and from that date to 1917 had intimate business relations with the Grafton Bank of Grafton, W. Va.  Under this arrangement it discounted notes of the Grafton Bank endorsed by that bank.  The Grafton Bank went into the hands of a receiver in 1917 and was*3593  liquidated either in 1917 or 1918 by the State Banking Commissioner.  At the time the Grafton Bank became insolvent, the petitioner held notes which it had received from the Grafton Bank aggregating more than $25,000.  Several of these notes were dated in 1914, 1915, and 1916.  They were short-term notes, in no case running for more than six months, and they were past due prior to January 1, 1918.  The notes had been placed in the hands of an attorney for collection *188  prior to 1918, and he had been unable to collect from the original makers.  He discussed the matter with J. T. McGraw, who was the principal stockholder of the Grafton Bank and who had induced the petitioner to discount the paper.  McGraw had promoted several public utilities in Grafton and was the principal stockholder of the Grafton Gas & Electric Light Co., the Grafton Traction Co., and the Grafton Light & Power Co.  He also owned most of the stock of a hotel company.  The utility companies became insolvent in 1917.  McGraw was endeavoring to effect a sale of the enterprises with which he was connected and if he had been enabled to do so at a satisfactory price would have been enabled to pay most of his debts. *3594  He promised the attorney of the petitioner that he would see to it that the petitioner lost nothing upon the paper which it held and which was endorsed by the Grafton Bank.  Early in 1918, the petitioner engaged a firm of public accountants to make an audit of its books.  In the course of their investigation they discovered that certain notes discounted by it were long past due.  They also found that the petitioner was carrying a piece of real estate at a price at which it had acquired it in 1915 at public auction.  The figure at which this property was carried on the books did not represent its true value in 1918.  Upon recommendation of the accountants a directors' meeting was held and a resolution adopted authorizing an increase in the value of its real estate account to the extent of $23,720.30 and the decrease of the loan and discount account in a like amount.  This $23,720.30 represented the unpaid balance upon certain notes endorsed by the defunct Grafton Bank.  If these notes had been charged to profit and loss in 1918, it would have created a deficit in the petitioner's accounts which would have forced the petitioner into liquidation or have necessitated an assessment*3595  upon its stockholders.  The charging of the overdue paper to the real estate account did not serve to increase the book value of the real estate beyond its actual value, and was approved by the State banking authorities.  In 1919 J. T. McGraw made an arrangement with W. S. Barstow & Co., Inc., bankers, for the sale of the public utilities in Grafton which he had promoted upon condition that the creditors of those companies would agree to accept bonds and stock in a new company which was to be organized to take these properties over.  It was necessary for McGraw to get the sanction of the petitioner to this agreement since it was a creditor of one or more of the public utility companies.  Since McGraw had verbally agreed to guarantee the paper which the petitioner had taken from the Grafton Bank, the attorney for the petitioner prepared a written agreement which was signed by McGraw and which provided that in the event of the consummation *189  of the sale of the utility properties McGraw should receive $200,000 cash, which would have enabled him immediately to take up the overdue paper of the Grafton Bank held by the petitioner.  McGraw then entered into an agreement under*3596  date of July 22, 1919, with W. S. Barstow & Co., Inc., to sell the three public utility companies above referred to for a consideration of $200,000 cash plus $100,000 second-mortgage bonds, $100,000 7 per cent preferred stock and $500,000 common stock of the Potomac Edison Co., a new company which was to be organized to take over the Grafton public utility companies.  McGraw died April 29, 1920, prior to the consummation of the sale of the utility companies.  His assets were less than his liabilities and the Tunnelton Bank never realized anything from the guarantee of the notes by McGraw.  After the death of McGraw it was apparent to the petitioner that it would never realize anything upon the overdue paper of the Grafton Bank and it accordingly, in 1920, charged off to profit and loss the Grafton Bank paper in the amount of $23,720.30.  The respondent has disallowed this deduction from gross income upon the ground that the notes were clearly worthless prior to 1920.  OPINION.  SMITH: The question presented for our determination is whether certain notes were deductible as uncollectible in the year 1920.  It is the contention of the respondent that they were ascertained to be worthless*3597  prior to 1920 and accordingly not a legal deduction from gross income of 1920.  Although a taxpayer may not deduct from gross income of the taxable year debts that must be presumed to have been ascertained to be worthless in a prior year, , it does not follow that he may not deduct from gross income debts ascertained to be worthless during the taxable year where there was some ground for a reasonable expectation that they would be paid up to a point of time during the taxable year.  In , we said: While the debt is to be deducted in the year in which the taxpayer ascertains its worthlessness, and some discretion must be given him to act within sound business judgment, it is our opinion that the information in his possession in 1919 was insufficient upon which to ascertain either worth or worthlessness.  In 1920, however, petitioner learned that Von Greuber's plant had been sold under foreclosure, that his property had been taken to pay his debts, and that he was earning a precarious living in engineering.  This constituted sufficient information of the situation of his*3598  debtor upon which to act.  We have accordingly reached the conclusion that it was in 1920 that the debt was ascertained to be worthless.  *190  The record of this action shows that the petitioner had a reasonable expectation of the collection of the Grafton Bank paper until some time in 1920.  McGraw felt morally bound to make the petitioner whole in respect of this paper.  He had agreed to do so.  The petitioner had relied upon his promise.  In 1919 he had entered into a written agreement to make good his promise provided a deal went through which he had expected would be consummated.  His death in 1920 frustrated this plan.  In the circumstances, we are of the opinion that te petitioner is entitled to deduct from gross income of 1920 the $23,720.30 in question as debts ascertained to be worthless and charged off during the year.  Judgment will be entered under Rule 50.