Concord Cab Corp. v. Commissioner

Concord Cab Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent. Bee Cab Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent. Anchor Cab Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent Concord Cab Corp. v. Commissioner Docket Nos. 31633, 31634, 31635 United States Tax Court 18 T.C. 1009; 1952 U.S. Tax Ct. LEXIS 107; September 15, 1952, Promulgated *107 Decisions will be entered under Rule 50. Excess Profits Tax -- Abnormal Deduction -- Consequence of a Decrease in Some Other Deduction -- Section 711 (b) (1) (J) (ii) and (K) (ii). -- Where depreciation deductions for new taxi cabs, having a life corresponding to the four base years, are taken on a declining scale, 45 per cent of cost in the first year, 25 per cent the second, 20 per cent the third, and the remaining 10 per cent the fourth, no disallowance of a part of the 45 per cent deduction for the first year is permissible under section 711 (b) (1) (J) (ii) and (K) (ii). That would distort the base period income rather than eliminate an abnormality and the excess would be a consequence of a decrease in the depreciation deductions for the later three years. Benjamin Grund, C. P. A. and L. William Seidman, Esq., for the petitioners. John A. Clark, Esq., for the respondent. Murdock, Judge. MURDOCK *1010 The Commissioner disallowed claims for refund of excess profits taxes of the three petitioners for their fiscal years ended on the last day of February in 1944 and 1945, holding that none of the petitioners was entitled to restore to its base period net*108 income for its fiscal year ended February 28, 1937, any portion of a claimed abnormal deduction in respect of depreciation under the provisions of section 711 (b) (1) (J) (ii) and (K) (ii) of the Internal Revenue Code. The only issue for decision is whether that holding was erroneous. FINDINGS OF FACT. The three petitioners were incorporated under the laws of New York and began business on or about March 1, 1936. Their returns for the taxable years were filed with the collector of internal revenue for the third district of New York. They kept their books and filed their returns on the basis of a fiscal year ending on the last day of February of each year. Each was engaged in the operation of a fleet of taxi cabs in the city of New York at all times material hereto. They began with new cabs and the number owned by each was as follows: Concord [150] Bee [125] Anchor [125] The petitioners were allowed deductions for depreciation on their taxi cabs and taxi meters during their first four fiscal years at the rate of 45 per cent of cost for the first year, 25 per cent for the second year, 20 per cent for the third year, and 10 per cent for the fourth year. Their fleets were practically*109 exhausted at the end of the 4-year period and each began acquiring new cabs to replace the worn out ones in their fleets during the fiscal year 1941. Each was allowed a deduction of 45 per cent of cost for 1941, beginning with the month of acquisition, *1011 for cabs purchased in that year. The deductions for 1942 and 1943 were on the basis of $ .0125 per mile. Fifty per cent of the remaining undepreciated cost was allowed as a deduction for depreciation for 1944 and the balance of the remaining undepreciated cost was allowed as a deduction for depreciation for 1945. The following table shows the amounts of the deductions for depreciation allowed the petitioners for the fiscal years 1937 through 1945: Anchor Cab Concord Cab Fiscal year ended Feb. 27 Corp. Bee Cab Corp. Corp. [1937] $ 94,250.95 $ 94,303.22 $ 106,401.59 [1938] 54,919.81 55,348.11 66,344.99 [1939] 44,452.68 43,776.11 53,685.85 [1940] 14,012.42 15,903.88 24,501.65 [1941] 41,856.63 32,785.48 57,707.52 [1942] 40,285.90 42,988.20 52,751.74 [1943] 52,115.85 54,801.57 66,119.09 [1944] 31,606.44 33,455.11 30,037.42 [1945] 29,243.21 29,936.25 27,801.30 The petitioners filed timely refund*110 claims under section 711 of the Internal Revenue Code for the taxable years. Those claims were denied by the respondent. All facts stipulated by the parties are incorporated herein by this reference. OPINION. Section 711 (b) (1) (J) is entitled "Abnormal Deductions" and it provides, in (ii), that deductions which were normal for the taxpayer but exceeded 125 per cent of the average amount of similar deductions for the four previous years shall be disallowed in an amount equal to the excess, in computing the excess profits net income for any base period year. Section 711 (b) (1) (K) (i) allows the alleged excessive deduction to be compared with 125 per cent of similar deductions for the subsequent four taxable years where the alleged excessive deductions came in the first year of a taxpayer's existence. Each petitioner claims that its deduction for depreciation for its first fiscal year, 1937, was abnormal in amount under those provisions. Their contentions are mathematically correct. However, it does not follow that the excess is to be eliminated. Congress used the base years in an effort to get a true picture of the normal earnings of the taxpayer during a prewar period for *111 comparison with the income of the excess profits tax year, and it was striving, through section 711 (b) (1) (J) (ii), to eliminate any deductions which would distort the true picture of the normal earnings for that base period. The Ways and Means Committee of the House said that the success or failure of this provision and others like it "depends, to a considerable degree, upon its intelligent and sympathetic administration." *1012 Ways and Means Committee Report No. 146, 77th Cong., 1st Sess., p. 2. Congress could not have intended to distort the total base period income so that it would not represent normal income for that period by disallowing a part of the total deductions for depreciation taken during that period where those deductions are the exact amount which should be recovered tax free from the income earned during the period. The life of the cabs and meters of these petitioners, with which they started business on March 1, 1936, is conceded to have been four years, and the income of that period can not be reflected properly unless the petitioner is allowed to recover the full cost of that equipment tax free during those years. There are various acceptable ways of*112 accomplishing that result. The petitioners chose a method using declining rates, that is, they claimed a large deduction for the first year and smaller deductions during the three succeeding years. The Commissioner allowed the deductions shown in the findings. The evidence indicates that the declining rate method was used because the value of a new cab shrinks most in the first year and least in the last year of its life. No fault is found with that method of determining "a reasonable allowance for exhaustion, wear and tear (including a reasonable allowance for obsolescence)" of the cabs and meters used in the business. However, it is noteworthy that there would have been no excess under section 711 (b) (1) (J) (ii) if some one of the other acceptable methods, such as a straight line method or one based upon mileage or upon receipts, had been used. The declining rate method would usually tend to create an excess where the life of the depreciating asset is approximately four years but cases can be imagined where the use of that method might distort the normal base period income. Nevertheless, here the life of the assets coincides exactly with the base period and the method used*113 clearly reflects normal income for that period whereas a disallowance of a part of the deduction would enlarge that income beyond what it should be for the purposes which Congress had in mind. The petitioners exhausted their cabs and meters during the four base years in earning their incomes for those years and from their gross receipts they deducted the cost of that equipment in order to reflect their true income from the use of the cabs over their 4-year lives. The normal income of the petitioners for that period would not be clearly reflected if any part of the total deductions for depreciation of the cabs and meters properly deducted during those years as a part of the actual expense of earning that income were to be disallowed. Section 711 (b) (1) (K) (ii) provides that no disallowance of deductions shall be made unless the taxpayer establishes that the "excess is not a consequence of * * * a decrease in the amount *1013 of some other deduction in its base period." The deductions for depreciation of those cabs for the subsequent three years of the base period were each "some other deduction in its base period." The deductions for depreciation allowed for each of the four*114 base period years of these petitioners were part of an integral plan, were interdependent, and were mutually consequential. All four years had to be considered in formulating the plan in the first place in order to make sure that during that period the entire cost, but no more than the entire cost, would be recovered tax free through depreciation deductions. The method used was to take 45 per cent the first year, 25 per cent the second year, 20 per cent the third year, and 10 per cent the fourth year. If a different plan had been selected, using a different figure for any one of the four years, a compensating change in the deduction for one or all of the other three years would have been required. Thus, the deduction taken in each year was a consequence of an integral plan involving, as components, the deductions for the other years, and each deduction was dependent upon and a result of the other. If any one was large, that was a consequence of smaller ones being taken in other years. So the excess of the 1937 deduction over 125 per cent of the average deductions for the four subsequent years in the case of each taxpayer was a consequence of a decrease in the amount of the other*115 three deductions for depreciation within the meaning of section 711 (b) (1) (K) (ii) and the excess may not be disallowed. The petitioners cite and rely upon our decisions in R. C. Harvey Co., 5 T. C. 431, Pacific Gas & Electric Co., 7 T. C. 1142, and Consolidated Apparel Co., 17 T. C. 1570, in which the words "a consequence of" as used in section 711 (b) (1) (K) (ii) were interpreted. The facts in those cases are not like the facts in the present case, the cases are not controlling here, and the holding in this case is not inconsistent with the holdings in those cases. Decisions will be entered under Rule 50.