Davenshire, Inc. v. Commissioner

Davenshire, Incorporated, Petitioner, v. Commissioner of Internal Revenue, Respondent Davenshire, Inc. v. Commissioner Docket No. 16861 United States Tax Court 12 T.C. 958; 1949 U.S. Tax Ct. LEXIS 173; June 8, 1949, Promulgated *173 Decision will be entered for the respondent. Payments made by petitioner to the United States Government by reason of claims for "liquidated damages" for child labor violations under the Walsh-Healey Public Contracts Act, held not deductible as an ordinary and necessary business expense. Edward A. Doerr, Esq., for the petitioner. William B. Springer, Esq., for the respondent. Opper, Judge. OPPER *958 By this proceeding petitioner challenges respondent's determination of a deficiency in excess profits tax for the year ended November 30, 1944, in the amount of $ 2,760.31. The only issue is whether respondent erred in disallowing as a deduction the sum of $ 3,200 paid in the taxable year by petitioner to the United States Government for alleged violations of child labor provisions included in contracts between petitioner and an*174 agency of the United States as required by the Walsh-Healey Public Contracts Act. FINDINGS OF FACT. Petitioner, an Iowa corporation engaged at Davenport, Iowa, in the manufacture of wearing apparel, filed its corporation income and declared value excess profits tax and excess profits tax returns for the taxable year ended November 30, 1944, with the collector of internal revenue for the district of Iowa. The returns were filed on an accrual basis. During the years 1941, 1942, and 1943 petitioner produced Army clothing under contracts with the United States Army. Those contracts were subject to the Walsh-Healey Public Contracts Act, and, *959 as required by that act, the contracts provided petitioner should not employ girls under 18 years of age in connection with work under the contracts. Several girls employed by petitioner to operate power sewing machines were trained by the National Youth Administration, hereinafter called NYA, which maintained a sewing project in Davenport, and referred some of its trainees to petitioner. Kathryn Tate, NYA project supervisor, was informed by petitioner's officers that only girls over 18 years of age could be hired. Two measures were used*175 by Kathryn Tate to assure that girls who were too young would not be referred to petitioner. She checked their birth dates as reported on their NYA application forms, and she made an announcement to the trainees of petitioner's age requirements. However, in several instances petitioner discovered that girls referred by NYA were under age, and refused to employ them. Two such girls were Hazel Hayes and Margaret Aust. On or about February 24, 1941, petitioner employed Phyllis Jean Sothmann, who was referred by NYA. She stated to Kathryn Tate that she was 18, and reported her age as 18, but her date of birth as April 1, 1923, on a "history sheet" form provided by petitioner. On or about September 2, 1941, petitioner employed Lenora Thomas, who was also referred by NYA. She stated her age as 18 to Kathryn Tate and so reported it on petitioner's "history sheet," where she gave her date of birth as November 28, 1923. On or about December 12, 1941, petitioner employed Norma Jean Blocker, referred by NYA. On petitioner's "history sheet" she reported her age as 17 and her date of birth as May 21, 1924. On or about March 21, 1942, petitioner employed Mary Alice Van Camp, another NYA trainee, *176 who gave her age as 17 and her date of birth as May 28, 1925, on petitioner's "history sheet." Neither NYA nor petitioner required applicants to submit birth certificates or other proof of birth dates. In December 1942 petitioner received notice from Division of Public Contracts, Department of Labor, that an investigation disclosed "that 4 employees had performed * * * work before they became eighteen years of age and that the company's records showed their correct birth dates." Specifically, the notice charged petitioner with the following violations "of the Walsh-Healey Public Contracts Act": Employee Days Period of time Norma Jean Blocker [144] 12-12-41 to 7- 4-42 Phyllis Sothmann [30] 2-24-41 to 3-31-41 Lenora Thomas [63] 9- 2-41 to 11-26-41 Mary Alice Van Camp [51] 3-23-42 to 5-27-42 *960 The notice assessed petitioner $ 2,880 (288 days of violation times $ 10 per day), to be "retained by the Federal Government as liquidated damages on account of the child labor violations." On November 11, 1942, the Secretary of Labor ruled that thereafter employment of girls between the ages of 16 and 18 was permissible "in the performance of any contracts subject to the *177 Public Contracts Act," provided "(2) That no girl under 18 years of age shall be employed for more than 8 hours in any one day * * *." On March 6, 1944, petitioner was notified by Wage and Hour and Public Contracts Divisions, Department of Labor, that a further investigation disclosed "additional violations of the child labor provisions of the Public Contracts Act," or specifically, violations "of Condition No. 2 of the six conditions * * * as specified by the Secretary of Labor on November 11, 1942," as follows: Employee Days Period of time Ruth Roxana Edwards [10] 11-23-42 to 4-19-43 Dorothy D. Hagen [4] 1- 6-43 to 4-19-43 Loretta Peel [10] 12-16-42 to 4-19-43 Geraldine Potter [2] 1-19-43 to 4-19-43 Alice Terronez [6] 11- 9-42 to 1- 9-43 The notice assessed petitioner an additional $ 320 (32 days of violation times $ 10 per day) and, since petitioner had not yet paid the $ 2,880 previously assessed, the notice stated: Unless you desire to take issue with the facts or the law as applied to them, you are hereby requested to forward certified checks made payable to the Treasurer of the United States in the amount of $ 3,200 for the child labor violations * * *. During *178 the years 1941, 1942, and 1943 petitioner employed an average of about 100 persons in manufacture under its Government contracts. The turnover among employees was rapid. Sue Essy was petitioner's supervising employee who was in charge of hiring and firing production workers. She was informed by one of petitioner's officials concerning the Secretary of Labor's ruling limiting the employment of girls under 18 to 8 hours. However, because she failed to understand the 8-hour limitation, the above 5 girls were permitted to work excess hours. Petitioner's "history sheet" for each of those girls disclosed her age as 16. A letter from petitioner's attorney to Walter W. King, Regional Director, Wage Hour and Public Contracts Divisions, U. S. Department of Labor, dated April 5, 1944, stated: * * * * I enclose herewith certified check of Davenshire, Inc. payable to the order of The Treasurer of the United States in the sum of $ 3200.00. This check is enclosed in payment of claims for liquidated damages asserted *961 in your letter of March 6, 1944 * * * and claimed to have arisen as a result of violation of child labor provisions of the Walsh-Healey Public Contracts Act. The payment*179 made by the check is not, however, to be construed as an admission of liability or as an admission with respect to any question of law or fact asserted as a ground for the liability claimed. * * * * In computing its income and excess profits net income for the taxable year petitioner deducted the above $ 3,200 on line 29 of its income tax return, "Other deductions authorized by law." In his notice of deficiency respondent "determined that the amounts assessed and paid in violations of the Walsh-Healey Public Contracts Act are liquidating [sic] damages and are not deductible." OPINION. We can not distinguish this case from Longhorn Portland Cement Co. (C. C. A., 5th Cir.), 148 Fed. (2d) 276; certiorari denied, 326 U.S. 728, except in two respects which Scioto Provision Co., 9 T. C. 439, and Universal Atlas Cement Co., 9 T. C. 971; affirmed per curiam (C. A., 2d Cir.), 171 Fed. (2d) 294; certiorari denied, 336 U.S. 962, render immaterial. The Longhorn case was a reversal of the Tax Court, but its principle*180 has now been adopted here. Universal Atlas Cement Co., supra. And the exaction in the Longhorn case was denominated a "penalty," whereas here it is referred to as "liquidated damages." But the possible operation of such punitive payments, however denominated, as penalties designed to discourage violations of Government policy, is inescapable. The legislation with which we are here concerned is the Walsh-Healey Act: 1 "Its purpose is * * * to raise labor standards" through use of Government purchases and "the Secretary [of Labor] * * * was authorized to investigate * * * an alleged violation of this Act * * *." Endicott Johnson Corporation v. Perkins, 317 U.S. 501, 507-508. The national policy becomes peculiarly apparent with respect to objectives like profiteering, Scioto Provision Co., supra, and the control of child labor. 2 We refused in the Scioto case to regard as material whether the payments there *962 made of "treble damages" were "penal or * * * in the nature of civil damages," and we see no reason to do otherwise here. It is as evident as it was in the Longhorn*181 case that "to permit the violator to gain a tax advantage through deducting the amount of penalty as a business expense, and thus to mitigate the degree of his punishment, would frustrate the purpose and the effectiveness of that public policy." The aptness of the quoted statement is even more apparent when the tax rates imposed by the excess profits tax are considered. On authority of the cases cited, *182 Decision will be entered for the respondent. Footnotes 1. 41 U. S. C., sec. 35↩. 2. That Congress in fact considered such payments an effectuation of this purpose appears from the House Report on the Walsh-Healey Act: "Section 2 is the penalty section. Briefly it provides for * * * (b) a penalty in the sum of $ 10 per day for each person employed in violation of the child labor and convict labor provisions * * *." (H. Rept. (Judiciary Committee) No. 2946, 74th Cong., 2d sess., p. 5.) On the floor of the House, Congressman Healey, who introduced the bill, made a similar reference: "The second section deals with the penalty for the employment of children and convicts and also makes provision for the recovery of deductions and kick-backs, and the procedure for their repayment to those persons from whom these sums have been withheld." (80 Cong. Rec., p. 10002.)↩