Apex Electrical Mfg. Co. v. Commissioner

The Apex Electrical Manufacturing Company, an Ohio Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent Apex Electrical Mfg. Co. v. Commissioner Docket No. 27274 United States Tax Court 16 T.C. 1171; 1951 U.S. Tax Ct. LEXIS 177; May 29, 1951, Promulgated *177 Decision will be entered under Rule 50. Income -- Compensation for War Contract Termination. -- Upon cancellation and termination of a war subcontract in 1942 petitioner filed claim against the prime contractor for damages for estimated anticipated profits which might have been earned on services petitioner was not permitted to perform. The prime contractor denied any liability. Held, that both prior and subsequent to the enactment of the Contract Settlement Act of 1944 petitioner had no fixed right to receive payment on its claim; that any amount it might receive was not reasonably ascertainable prior to final settlement in 1947; and that the claim did not represent an account receivable properly accruable in 1944. M. E. Newcomer, Esq., for the petitioner. Clarence E. Price, Esq., for the respondent. Tietjens, Judge. TIETJENS *1171 The income and excess profits tax deficiencies determined by respondent and in controversy herein, are as follows: Calendar year Income tax Excess profits tax [1942] $ 3,812.72 [1944] 74,859.80 [1945] $ 573,912.27 Total 78,672.52 573,912.27 The petition herein asserts claim for any overpayments found due upon the redetermination for the above-mentioned years. The deficiency notice embraced respondent's determination for the years 1940 to 1946, inclusive. The year 1946 is also involved in this proceeding for the purpose of determining petitioner's net operating loss for that year and its net operating loss deduction carry-back and unused excess profits*179 credit carry-back from 1946 to 1944 and 1945. All issues, except one, raised by petitioner's various assignments of error have been settled by stipulations, made part of the record, as to additional deductions to which petitioner is entitled for the several years involved, including the year 1946. Effect thereto will be given in a Rule 50 recomputation. The remaining issue is whether the amount of $ 289,815.54, which petitioner received in 1947 in final settlement of its claim arising out of an alleged wrongful cancellation of its subcontract in 1942 by the prime contractor with the Navy Department, was properly included by respondent in petitioner's income for 1944 as compensation for termination of a war contract prior to enactment of the Contract Settlement Act of July 21, 1944. *1172 FINDINGS OF FACT. The stipulated facts, embracing exhibits appended thereto, are so found and included herein by reference. Petitioner, an Ohio corporation with its principal place of business in Cleveland, Ohio, is engaged in producing household electrical appliances. Petitioner kept its books and made its tax returns on the basis of a calendar year accrual method of accounting. Its income*180 and excess profits tax returns for the years here involved were filed with the collector of internal revenue for the 18th district of Ohio at Cleveland. Some time prior to September 1941 and pursuant to certain letters of intent, the Ford Instrument Company, Inc. of Long Island City, New York, (hereinafter called Ford), entered into a prime contract, No. 87446, with the Navy Department for the production of certain fire control apparatus, which embraced the performance of work and services subsequently subcontracted by Ford to petitioner. On September 12, 1941, Ford delivered to petitioner and the latter duly accepted a so-called "Letter of Intent" constituting a preliminary contract which generally outlined the basis of operation and agreement between these two companies for petitioner's manufacture and assembly of complete units and subassemblies for Ford in its performances of its above-mentioned prime contract. Under the letter of intent it was planned to place in petitioner's plant approximately 210 machine tools, purchased and supplied by the Navy, furnishing an estimated 180,000 man hours per month and in addition, it was planned to utilize 70,000 hours per month for assembly*181 on work ordered by Ford. Also, under the letter of intent petitioner was to provide certain equipment, facilities, and trained personnel for the performance of certain machining, assembling, and other services on a fixed hourly price basis on parts and material to be furnished to petitioner by Ford. The contract contemplated the performance by petitioner of a substantial number of hours of work per month on work ordered by Ford. Pursuant to and for the purpose of implementing the letter of intent of September 12, 1941, and from time to time between that date and October 1, 1942, Ford executed and delivered to petitioner and the latter accepted numerous firm purchase orders bearing various job numbers, among which was job No. 1700, involved herein. By reason of the letter of intent and the purchase orders issued thereunder, petitioner became a subcontractor of Ford and each job number related to various phases of the work required to be performed by Ford under its prime contract with the Navy for the production of materials for national defense. Ford's purchase orders to petitioner involved a combined total of work to be performed by petitioner of approximately *1173 180,000*182 man hours per month of machine operations and approximately 70,000 man hours per month of assembly work at fixed hourly prices for all such work, and would have required performance by petitioner, at the stated monthly levels, throughout the years 1942 and 1943. Neither the letter of intent dated September 12, 1941, nor any of the purchase orders above-mentioned reserved to Ford any right to cancel or terminate the same prior to full performance and completion by petitioner of the services described therein. Prior to the cancellations hereinafter mentioned, no other agreement was entered into between petitioner and Ford which granted to Ford any right to cancel or terminate the letter of intent and the purchase orders, or which provided any method or formula to be used to establish what compensation or damages, if any, might be payable by Ford to petitioner should Ford arbitrarily terminate any of the purchase orders or otherwise refuse to fulfill its obligations thereunder. Upon receipt of the letter of intent petitioner commenced preparation for the performance of the services referred to therein, and promptly upon receipt of the various purchase orders, including those relating*183 to job No. 1700, commenced performance of the services described therein and performed such services continuously under each purchase order including those pertaining to job No. 1700, until notice of cancellation of the same was received by petitioner from Ford. In October 1942 and in accordance with instructions from the Navy, Ford instructed petitioner to stop work and to cancel the balance of the work remaining on a list of purchase orders applicable to job No. 1700, except for a small amount of work on certain specified units to be completed and paid for in the usual manner. In connection with that cancellation Ford requested petitioner to furnish complete data on the cancelled orders in respect to units ordered, units paid for, units completed but not paid for, units in process, inventories of raw materials and of parts furnished, and a statement of amounts claimed to be due petitioner for work done including any special charges incurred. By letter dated December 9, 1942, and in accordance with instructions from the Navy, Ford ordered petitioner to stop work and to cancel the balance of the work on the remaining units of job No. 1700. At the time of such cancellation no offer*184 was made by Ford to compensate petitioner for loss of profits or as damages for the cancelled portions of the purchase orders relating to job No. 1700. As of March 31, 1943, Ford ordered petitioner to stop work and cancel all purchase orders theretofore given by Ford to petitioner relating to jobs under the letter of intent of September 12, 1941, other than job No. 1700. On or about July 21, 1943, petitioner filed with Ford a formal claim for damages in the amount of $ 2,437,155.60 for alleged wrongful *1174 cancellation and termination of, and/or reduction in quantities under, the above-mentioned purchase orders. The claim did not cover amounts owing from Ford to petitioner for man hours of work performed prior to the date of cancellation on completed and partially completed assemblies. In substance, petitioner's claim was a demand for the gross amount, less estimated cost of performance, which petitioner would have been entitled to receive had it been permitted to perform the services required to complete the work called for under the cancelled portions of the several purchase orders. With its claim petitioner filed schedules showing detailed data on work performed prior*185 to cancellation and on work which would have been performed on the cancelled orders, in support of the estimated profits which it claimed would have been realized on the cancelled orders. In its claim petitioner stated that it had spent large sums of money on rearranging, repairing, and building equipment, and training employees, that such costs exceeded the value of the work performed to date of cancellation, and that petitioner had reasonably anticipated recouping such expenditures and realizing a substantial profit in addition in the course of performing the work contemplated by the cancelled portions of the several purchase orders. Petitioner further stated in its claim that the estimated number of man hours of all types of services which it would have performed in the completion of all of the cancelled purchase orders, was 2,792,590, of which 2,288,190 related to job No. 1700. Upon receipt of petitioner's claim Ford denied all liability for damages arising out of cancellation of the purchase orders, particularly with respect to the purchase orders for job No. 1700. Such denial was based upon the claim by Ford that (1) petitioner was materially in default in the performance*186 of services prior to the dates of cancellation, and that Ford had legal justification for cancelling the purchase orders, and (2) petitioner could not show that it would have made a profit on the total work required to be performed under the purchase orders, and hence that Ford's action in preventing petitioner from performing did not occasion any legal damages. At that time Ford conceded liability with respect to work performed by petitioner on completed assemblies ready for delivery and on partially completed assemblies on the dates of the cancellations. Following negotiations between Ford and petitioner, a settlement was effected between the two on September 9, 1943, as to all claims for cancellation or reduction in quantities on all of the jobs, except job No. 1700. The amounts received by petitioner from Ford as a result of such settlement, including the sum of $ 300,000 paid on September 15, 1943, were included in the petitioner's gross income in its income and excess profits tax returns filed for the years in which such sums were received. *1175 Thereafter, prolonged negotiations were had between Ford and petitioner with respect to the latter's claim arising out of the*187 cancellation of job No. 1700. Petitioner made several successive proposals of settlement to Ford, one on August 9, 1943, in the amount of $ 709,361.92 which was rejected by Ford, and another on November 30, 1943, in the amount of $ 576,221.42. Following such proposals Ford advised petitioner that it would make no settlement whatever on petitioner's claim for cancellation of job No. 1700 at any figure without approval in advance from the Navy Department and an agreement on the part of the Navy Department that it would reimburse Ford for any sum paid to petitioner by way of settlement. In a letter to petitioner dated March 6, 1944, Ford stated that, without prejudice to itself, it would submit to the Navy Department for consideration the petitioner's proposed settlement for the amount of $ 576,221.42, but also reminded petitioner that in a December 1943 conference the Navy Department had requested that the claim be redrawn on a basis of actual cost plus a percentage as profit. Ford did submit petitioner's proposal to the Navy Department which, following a review thereof and conferences with Ford and petitioner, refused to approve the proposed settlement and Ford so notified petitioner*188 by letter dated June 15, 1944. Thereafter, and without prejudice to the remainder of its job No. 1700 claim, petitioner requested that it be paid by way of partial settlement for the conceded liability of Ford for work performed by petitioner prior to date of cancellation and for certain parts, materials and perishable tools which petitioner had on hand at the time job No. 1700 was terminated, and also for certain out-of-pocket expenses incurred at the request of Ford subsequent to termination. The total of those items was approximately $ 184,000. At the request of Ford, the Navy Department approved payment to petitioner of the sum of $ 184,000 as a partial settlement of petitioner's job No. 1700 claim, and such amount was paid by Ford to petitioner on December 2, 1944, pursuant to a partial settlement agreement between such parties dated November 22, 1944. By the terms of such settlement agreement the partial payment was made without prejudice to the prosecution by petitioner of the remainder of its job No. 1700 claim. The agreement further provided that should the partial payment of $ 184,000 exceed the total amount finally determined to be due to petitioner on account of the*189 termination of the listed purchase orders pertaining to job No. 1700, petitioner would repay to Ford the excess with interest at the rate of 6 per cent per annum. The sum of $ 184,000 so received by petitioner was included as gross income in its income and excess profits tax returns for 1944. The balance of petitioner's claim for cancellation of job No. 1700 was made the subject matter of extended correspondence during 1945 *1176 and 1946, and a number of conferences were held during said years in New York, Washington, and Cleveland between representatives of petitioner, Ford, and the Navy Department. During that period no acceptable settlement figure was arrived at by the parties and neither Ford nor the Navy Department made any specific offer of settlement to petitioner of the amount, if any, which they would approve as a final payment to complete the settlement of petitioner's claim. On January 24, 1947, at the suggestion of the Navy Department petitioner made and filed with Ford a new proposal of settlement, on a prescribed form, requesting an additional final payment of $ 429,747.58, and Ford transmitted the proposal to the Navy Department for consideration. As a result*190 of further negotiations between representatives of petitioner and of the Navy Department between January 24, 1947, and May 17, 1947, the Navy Department offered (subject to approval by the Board of Review) to allow to Ford for payment to petitioner in full settlement of the balance of petitioner's job No. 1700 claim, the additional sum of $ 289,815.64, plus interest from January 24, 1947. Petitioner then signified its willingness to accept such settlement. The Navy Department and the Board of Review formally approved the settlement shortly prior to June 3, 1947, and on June 12, 1947, petitioner received from Ford a check dated June 12, 1947, in the amount of $ 292,553.32 representing the principal sum of the settlement, $ 289,815.64, plus interest from January 24, 1947 to June 10, 1947, in the amount of $ 2,737.68. This check was accepted and cashed by petitioner. In connection with such settlement petitioner executed under date of June 9, 1947, and delivered to Ford on June 12, 1947, a general release of all claims of petitioner against Ford and the United States of America in connection with job No. 1700. The release recites a consideration of $ 798,515.84, which was the total*191 of the following amounts: Payments in 1942 and early 1943 for services performed on Job No. 1700 prior to cancellation $ 324,700.20 Partial payment made by Ford to petitioner on December 2, 1944 184,000.00 Final settlement payment by Ford on June 12, 1947 (exclusive of interest) 289,815.64 TOTAL $ 798,515.84 Prior to the receipt of the final settlement payment on June 12, 1947, petitioner did not at any time accrue on its books of account or include in its published income statements and balance sheets for the years 1944, 1945, and 1946, any item as income or accounts receivable, or any item as an estimate of recovery value with respect to the remaining portion of its job No. 1700 claim which was the subject matter *1177 of that final payment made on June 12, 1947. Such omission was made on advice of petitioner's certified public accountant that the unliquidated portion of its claim was not properly accruable. The sum of $ 289,815.64 representing the final settlement payment received from Ford in June 1947, was included by petitioner as taxable income in its income tax return for the year 1947. That sum was also included in petitioner's "Consolidated Profit*192 and Loss Statement" for the year ended December 31, 1947, and in its published Annual Report to Stockholders for the year 1947. As heretofore stated, petitioner's income and excess profits tax returns for 1944 did not include in income any part of the 1947 final settlement payment on its job No. 1700 claim. Upon audit of petitioner's returns for the year 1944, respondent determined that the amount of $ 289,815.54 (sic) was properly includible in petitioner's income for that year as representing, under Mimeograph No. 5897 dated July 24, 1945 [1945 C. B. 131], (replacing Mimeograph No. 5766 dated November 1, 1944 [1944 C. B. 156]) a sum received by way of settlement of war contract claims on account of terminations occurring prior to July 21, 1944. OPINION. The issue herein presents the primary question of whether respondent erred in including in petitioner's income for the taxable year 1944, the amount of $ 289,815.54 received in 1947 in final settlement of a claim arising out of the cancellation and termination, in 1942, of a subcontract for production of materials for national defense. The supplementary questions involved*193 are whether 1944 is a proper year for accrual of that amount for tax purposes under the facts herein and whether the applicable regulation required in the inclusion of that amount in income in 1944 as determined by respondent and, if so, the validity thereof. Under Regulations 111, section 29.42-1 respondent promulgated Mimeograph 5897, 1945 C. B. 131, 1 to prescribe rules, for other than *1178 cash basis taxpayers, for the treatment and inclusion in gross income of compensation for the termination of a contract which constitutes a "war contract" within the meaning of section 3 of the Contract Settlement Act of July 21, 1944. Under that portion of Mimeograph 5897 pertaining to war contracts terminated prior to July 21, 1944, and particularly under the provisions of the first paragraph of subparagraph (a) (1) respondent determined that the amount of $ 289,815.54 (sic), received in the 1947 contract termination settlement, was includible in petitioner's income for the calendar year 1944 which was the first taxable year ending after the effective date of the Contract Settlement Act. *194 The petitioner's subcontract with Ford was for the production of materials for national defense and there is no question herein but that it constituted a "war contract" which was "terminated" within the meaning of section 3 of the Contract Settlement Act of 1944, 58 Stat. 649 (U. S. Code Ann., Title 41, Chap. 2). That section defines the term "prime contract" as meaning "any contract, agreement, or purchase order heretofore or hereafter entered into by a contracting *1179 agency and connected with or related to the prosecution of the war"; defines the term "subcontract" as meaning "any contract, agreement, or purchase order heretofore or hereafter entered into to perform any work, or to make or furnish any material to the extent that such work or material is required for the performance of any one or more prime contracts"; defines the term "war contract" as meaning "a prime contract or subcontract"; and defines the terms "termination," "terminate," and "terminated" as referring to "the termination or cancellation, in whole or in part, of work under a prime contract for the convenience or at the option of the Government (except for default of the prime contractor) or of work *195 under a subcontract for any reason except the default of the subcontractor." It may be stated as a general proposition that the Contract Settlement Act of 1944 prescribes methods and procedure for Governmental contracting agencies for determining speedy and fair compensation under terminated war contract claims. For purposes of the instant proceeding a brief analysis of some of the provisions of that act will be helpful. It is noted that section 6 of that act provides, inter alia, (in subparagraph b) that each agency shall establish methods and standards for determining fair compensation on the basis of certain standards of cost, or percentage of contract price for work completed, "or on any other equitable basis" deemed appropriate; (in subparagraph c) that settlement may be made by agreement which is conclusive with certain exceptions or made by determination by the contracting agency; (in subparagraph d) that where made by determination the methods and standards established shall take into account certain items of costs, etc., including "such allowance for profit on the preparations made and work done for the terminated portion of the war contract as is reasonable under the circumstances"; *196 and (in subparagraph g) that war contracts which did not provide for fair compensation for termination shall be amended to provide therefor. Section 13 of the act provides, inter alia, that an aggrieved war contractor may appeal to an Appeal Board or bring suit against the United States in the Court of Claims or a United States District Court. Respondent contends that Mimeograph 5897 is a reasonable and therefore valid exercise of his authority, under sections 41 and 42 of the Internal Revenue Code, to prescribe a method of reporting income from compensation for termination of war contracts so as to reflect income clearly and prevent distortion in tax accounting; that the method therein prescribed is consistent with recognized principles of tax accounting; and that the prescribed method is proper even if inconsistent with standard accrual accounting practices. Respondent argues that petitioner's expenses connected with performance of its subcontract prior to cancellation were deductible in the years in which *1180 incurred and reduced excess profits net income for those years; that to include the $ 289,815.54 in 1947 income would allow it to escape excess profits taxation resulting*197 in a distortion in tax accounting; and that while the inclusion of that amount in income for 1944 under Mimeograph 5897 is not a perfect solution, the result is less distortion in tax accounting than postponing the inclusion until 1947. Respondent further argues that upon enactment of the Contract Settlement Act of 1944 petitioner became definitely entitled to receive compensation for the termination of its war contract and while there remained the necessity of a determination being made of the amount of compensation the latter could be estimated by petitioner with reasonable accuracy at that time, i. e., in 1944, and accordingly Mimeograph 5897 is a reasonable application of principles of tax accounting and is fully supported by Continental Tie & Lumber Co. v. United States, 286 U.S. 290. Petitioner contends that its claim against Ford was an unliquidated claim for damages which under the standard accrual method of accounting was not properly accruable in income until 1947 when events occurred definitely fixing the right to receive income and the amount thereof became certain or determinable with reasonable accuracy; that its treatment of the settlement*198 with Ford as income for 1947 was in accordance with the accounting method regularly employed in keeping its books and correctly reflected its income; and that Mimeograph 5897 should not be construed as requiring an inclusion in 1944 income of the amount of the 1947 settlement, but if it must be so construed then it is unreasonable and invalid. In the instant case we are not concerned with the contract termination payment (incidentally received in 1944) for work done up to the time of the cancellation of job No. 1700, for that payment was not embraced in the claim involved herein. The issue involves petitioner's claim for damages in not being permitted to perform the portion of job No. 1700 which was cancelled in 1942, and whether on account thereof the amount of $ 289,815.54, received under a final settlement agreement in 1947, is includible in income for 1944. The mere fact that petitioner's books of account did not reflect such item as accrued income for 1944, based on the opinion of its accountants that the item was not accruable, is not conclusive. Respondent urges that his determination is consistent with standard accrual accounting practices but, if not, it is nevertheless*199 consistent with recognized principles of tax accounting clearly to reflect income and is therefore reasonable. In our opinion, the respondent's determination is contrary to the established general principles of accrual accounting as to accepted standard practices and also for tax purposes. Unless the circumstances herein are exceptional because *1181 of the enactment of the Contract Settlement Act of 1944, the petitioner's taxable year 1944 can not be brought into focus as having any bearing upon when income accrued to it under its claim for damages against Ford. The contract termination giving rise to the claim for damages occurred in 1942. The contract contained no provision, nor was there any other agreement in effect between the parties setting any formula for liquidated damages and the claim remained in dispute, both as to liability and amount, until the final settlement agreement was reached in 1947. Throughout that intervening period, Ford's denial of any liability was on the ground that petitioner was in default in performance and the cancellation did not occasion any legal damages. Furthermore, up to that time the Navy Department steadfastly refused its approval*200 of Ford's paying any amount on the basis of various proposed settlements made by petitioner. Thus, aside from any factual or legal effect which may have arisen from the enactment of the Contract Settlement Act, the facts establish that, in 1944, petitioner had no fixed right to receive payment in any amount on its disputed claim for damages for contract termination and there could be no account receivable which was accruable in income of petitioner in 1944, for tax purposes. The cases uniformly agree that before an item of income or expense may be accrued there must be a fixed or determined right to receive or pay an amount. Spring City Foundry Co. v. Commissioner, 292 U.S. 184; United States Cartridge Co. v. United States, 284 U.S. 511; Lichtenberger-Ferguson Co. v. Welch (C. A. 9), 54 F. 2d 570; Luckenbach Steamship Co., 9 T. C. 662; William Justin Petit, 8 T. C. 228; and Jamaica Water Supply Co., 42 B. T. A. 359, affd., 125 F. 2d 512, certiorari denied, *201 316 U.S. 698. 2 The above stated principle as to the necessity of a fixed right to receive a reasonably ascertainable amount to establish accrued income, has its counterpart in the necessity of a fixed liability to pay an ascertainable amount to support an accrued deduction from gross income, United States v. Anderson, 269 U.S. 422; Dixie Pine Products Co. v. Commissioner, 320 U.S. 516; Security Flour Mills Co. v. Commissioner, 321 U.S. 281; and Virginia Stage Lines, Inc., 16 T. C. 557. In our opinion, the facts herein clearly distinguish the instant case from Continental Tie & Lumber Co. v. United States, supra,*202 relied on by respondent as fully supporting his determination of petitioner's tax liability for 1944. In the Continental Tie & Lumber Co. case the Court sustained the Commissioner in taxing as accrued income in 1920, an award which was determined in amount and paid in 1923 under the Transportation Act of 1920 [49 U. S. C. A. 377], authorizing payment to railroads for partial redress for losses on account of operating *1182 deficits suffered during the period of Federal control of railroads. The Court found that the taxpayer's "right to the award was fixed" and again its "right to payment ripened" when the Transportation Act became law and that what thereafter "remained was mere administrative procedure to ascertain the amount to be paid." The Court said the case did "not fall within the principle that, where the liability is undetermined in the tax year, the taxpayer is not called upon to accrue any sum [Lucas v. American Code Co., 280 U.S. 445, 50 S. Ct. 202, 74 L. Ed. 538]," but presented a problem of whether, upon the taxpayer's own data and the calculations required *203 by the statute, the amount of the award could be ascertained within reasonable limits. All the basic facts to support the necessary data had transpired prior to 1920, and the Court concluded that the taxpayer's "books and accounts fixed the maximum amount of any probable award" and "it could have arrived at a figure to be accrued for the year 1920." In the instant case the factual circumstances are materially different for, in our opinion, not only was the right of petitioner to receive payment vigorously contested, but also, the claim was speculative in amount for services never to be performed rather than for a reasonably ascertainable amount based on events which had already occurred. Here, Ford denied liability and the Navy refused to approve any payment on the claim both before and after enactment of the Contract Settlement Act of 1944. A study of that act convinces us that its passage did not ripen in petitioner any fixed right to payment on the particular character of claim involved herein. We must remember that petitioner was a "subcontractor." With this in mind the following language of the Court in Rumsey Manufacturing Corporation and Arthur T. McAvoy, Trustee*204 in Bankruptcy v. United States Hoffman Machinery Corporation (C. A. 2), 187 F. 2d 927, becomes pertinent: It appears to us that the scheme or plan of the Act is reasonably apparent. It was of course to be expected that "prime contractors" would let out some of the work to subcontractors, that the accounts between the two would have to be settled, and that the "prime" contractor would wish whatever he paid the subcontractor to be credited to him in his own settlement with the "agency." Thus the "agency" had a lively interest in the "prime contractor's" settlement with his subcontractor which § 7 (a) recognized when it gave the "agency" power to "approve" the terms which the contractor was willing to tender to the subcontractor, or to "ratify" his settlement, if he had made one, or to "authorize" him to settle on his own terms if it thought him "reliable" enough. These courses the "agency" might take as between the contractor and itself; and they involved no action by it vis-a-vis the subcontractor. However, it might happen that the subcontractor, although by hypothesis he had no contract with the "agency," was so unreasonable in his demands upon*205 the "prime contractor" that he was blocking that speedy settlement which the Act was especially designed to promote. In that event the "agency" might intervene directly and "settle" the subcontractor's claim, though only in case it had been able to induce the *1183 subcontractor to consent by offering the liability of the United States. In that event § 13 would come into play and we may assume that, if that happened, the subcontractor might not sue the contractor. Be that as it may, in the absence of such an agreement the "agency" was not authorized to "settle" a subcontractor's claim at all, and there is no reason to suppose that the Act meant to put any limitations upon his action at common-law against the contractor. The only exception is that the regulations require all subcontractors promptly to file with "prime contractors" any claims they might have against them. * [Emphasis added.] Nowhere in the record*206 before us can we find that petitioner's claim was settled directly by the "agency" or that the United States became liable for petitioner's claim, albeit the Navy Department took a hand in negotiations and finally did approve the settlement between Ford and petitioner. Nor do we find anything in the Contract Settlement Act by which the "agency" could force the petitioner to submit its claim to the procedure laid down in the Act. So far as petitioner was concerned under the Act, it was free to proceed with an action at law against Ford had it not been able to agree on a settlement. In our opinion, the enactment of the Contract Settlement Act is without significance in this proceeding. We conclude that at all times prior to the final settlement in 1947 petitioner's disputed claim against Ford remained wholly contingent both as to the right to receive payment and the amount receivable, if any, and that respondent erred in including the sum of $ 289,815.54 in petitioner's income for the year 1944. Decision will be entered under Rule 50. Footnotes 1. Section 29.42-1: When included in gross income. 1945-16-12108 Mim. 5897 (July 24, 1945) * * * * Mimeograph 5766 [C. B. 1944, 156], dated November 1, 1944, contains rules governing the treatment of compensation for the termination of fixed-price contracts which constitute war contracts within the meaning of section 3 of the Contract Settlement Act of 1944 [58 Stat., 649, 650], in cases where the contractor renders his returns other than on a basis of cash receipts and disbursements and the compensation is received pursuant to a negotiated settlement, together with rules with respect to the effect of a no-cost settlement in respect of a termination of a fixed-price contract. The method of treatment therein prescribed will continue to be followed. Pursuant to the provisions of section 29.42-1 of Regulations 111, as amended by Treasury Decision 5405 [C. B. 1944, 154], approved September 22, 1944, the provisions of Mimeograph 5766 are, however, restated in this mimeograph and are supplemented to prescribe rules for the treatment of compensation for the termination of all war contracts in all cases where the contractor renders his returns other than on a basis of cash receipts and disbursements. (a) When Compensation Included in Cross Income. -- In the case of a termination of a contract which constitutes a war contract within the meaning of section 3 of the Contract Settlement Act of 1944, compensation for the termination shall be included in computing gross income for the taxable year or years determined in accordance with the following rules: (1) Taxable Years Ending Prior to July 21, 1944. -- In case a war contract is terminated within a taxable year ending prior to July 21, 1944, the effective date of the Contract Settlement Act of 1944, compensation for the termination shall be included in computing gross income for the taxable year in which the claim is allowed (or the settlement proposal is accepted), or for the taxable year in which its value is otherwise definitely determined, or for the first taxable year ending after July 20, 1944, whichever year is the earliest; provided, however, that the contractor shall not be required or permitted to include in income for such year any part of the income from the contract termination which was included in income for the taxable year of the contract termination. The provisions of the preceding sentence are applicable in the case of negotiated settlements of fixed-price war contracts and in all other cases of terminations of war contracts. * * * If at the close of the taxable year of the contract termination there is no agreement to pay to the contractor any compensation for the termination, or if the agreement to pay is conditioned upon events which have not occurred, no compensation for the contract termination shall be includible in computing gross income for such year. * * * (2) Taxable Years Ending on or After July 21, 1944. -- In case a war contract is terminated within a taxable year ending on or after July 21, 1944, the income from the contract termination shall be included in computing gross income for the taxable year of the contract termination. * * * (3) Adjustment of Return. -- If the income from the contract termination which, under the above subparagraph (1), is to be taken into account in computing gross income for the taxable year in which the Contract Settlement Act of 1944 became effective, or which, under the above subparagraph (2), is to be taken into account for the year of the contract termination, is not definitely ascertained at the time of filing the return, the contractor shall include in his return a reasonable estimate of such income, and should attach to his return a statement identifying the contract termination to which such estimate relates. When the correct amount of such income from the contract termination is ascertained, an adjustment shall be made for the year for which such income was included. (Cf. Continental Tie & Lumber Co. v. United States, 286 U.S. 290↩, [Ct. D. 494, C. B. XI-1, 260 (1932)].) 2. The Cartridge↩ case involved a war contract termination claim which was wholly contingent as to the right to receive payment, if any, until final settlement was made subsequent to the taxable year there involved. Footnotes [_fnote3] § 845.521-3, Joint Termination Regulation, 9 Fed. Reg. 13359.