Punch Press Repair Corp. v. Commissioner

Punch Press Repair Corporation, Petitioner, v. Commissioner of Internal Revenue, Respondent Punch Press Repair Corp. v. Commissioner Docket No. 32579 United States Tax Court 21 T.C. 223; 1953 U.S. Tax Ct. LEXIS 25; November 19, 1953, Promulgated *25 Decision will be entered under Rule 50. Petitioner, which commenced business during the base period, held to qualify for relief (I. R. C., sec. 722 (b) (4)). Constructive average base period net income determined. B. Dave Bushaw, Esq., for the petitioner. John L. King, Esq., for the respondent. Arundell, Judge. ARUNDELL *223 Petitioner claims relief under section 722 (b) (4) of the Internal Revenue Code, and seeks refunds of excess profits taxes for 1941, 1942, 1943, 1944, and 1945 in the amounts of $ 5,057.18, $ 13,657.44, $ 7,002.62, $ 12,896.39, and $ 12,512.32, respectively. Issue was framed on whether petitioner qualified*26 for relief under the applicable law and, if so, the amount of its constructive average base period net income. FINDINGS OF FACT. The stipulated facts are hereby found accordingly. The petitioner, Punch Press Repair Corporation, was organized on February 25, 1937, under the laws of the State of Michigan by Percy Boyd, Sr., and its principal place of business at that time was located at 17170 Dequindre Street, Detroit, Michigan. At the time of the hearing, its principal place of business was located at 1975 Hilton Road, Ferndale, Michigan. Respondent allowed the petitioner the following excess profits tax credits based on its invested capital: Year Credit allowed [1941] $ 1,754.84 [1942] 3,161.98 [1943] 3,393.39 [1944] 3,586.05 [1945] 3,921.62 The petitioner filed applications for relief under section 722 (a) and (b) ( 4) of the Internal Revenue Code for the years 1941 to 1945, inclusive. These applications were subsequently amended by petitioner. Related claims for relief and refund (Form 843) were filed by petitioner with the collector of internal revenue for the district of Michigan at Detroit, Michigan, for the years 1941 to 1945, inclusive. As stated in its articles of incorporation, *27 petitioner was organized for the following purposes: To manufacture, or to cause to be manufactured, to buy, sell, lease, and otherwise deal in, to erect, construct, alter, or repair, or to cause to be erected, constructed, altered, or repaired, *224 any and all kinds of machinery or mechanical labor-saving devices and all appurtenances, appliances, and accessories thereto. Petitioner has kept its same name since the date of its incorporation. The total authorized capital stock of petitioner consisted of 5,000 shares of common stock at $ 1 par value per share. There was only one class of common stock and each share had equal rights and voting powers. At the date of incorporation of petitioner, Percy Boyd, Sr., subscribed to 3,000 shares of common stock. The officers of petitioner during the years 1937, 1938, and 1939 were Percy Boyd, Sr., president and treasurer, and John D. Laurence, vice president and secretary. The stockholders of petitioner and the number of shares of common stock owned by each for the years 1937, 1938, and 1939 were as follows: Number of shares Name [1939] Percy Boyd, Sr 2,250 2,250 2,250 John D. Laurence [750] Robert Wright [250] Glenn Forrest [125] *28 Petitioner's balance sheets for the years 1937, 1938, and 1939 were as follows: Dec. 31, 1937 ASSETS: Cash $ 620.43 Notes and accounts receivable $ 1,935.35 Reserve for doubtful accounts 1,935.35 Inventory 67.50 Property, building and equipment: Land 450.00 Building 1,350.00 Building improvements and additions Machinery and equipment 4,525.23 Total 6,325.23 Less: Reserve for depreciation: Building Machinery and equipment 452.52 Total 452.52 Book value 5,872.71 Total assets 8,495.99 LIABILITIES: Accounts payable $ 903.10 Land contract, mortgage and loans payable 2,162.39 Accrued expenses 90.23 Accrued Federal income tax 42.78 Total liabilities 3,198.50 CAPITAL: Common stock 3,250.00 Paid-in surplus 1,793.90 Earned surplus: Beginning of year Net income for period 253.59 253.59 5,297.49 Total liabilities and capital 8,495.99 Dec. 31, 1938 ASSETS: Cash $ 850.99 Notes and accounts receivable $ 2,614.02 Reserve for doubtful accounts 2,614.02 Inventory 295.00 Property, building and equipment: Land 450.00 Building 1,350.00 Building improvements and additions 956.61 Machinery and equipment 6,577.78 Total 9,334.39 Less: Reserve for depreciation: Building 79.46 Machinery and equipment 892.57 Total 972.03 Book value 8,362.36 Total assets 12,122.37 LIABILITIES: Accounts payable $ 1,262.76 Land contract, mortgage and loans payable 2,191.47 Accrued expenses 93.00 Accrued Federal income tax 329.01 Total liabilities 3,876.24 CAPITAL: Common stock 3,375.00 Paid-in surplus 2,314.50 Earned surplus: Beginning of year 253.59 Net income for period 2,303.04 2,556.63 8,246.13 Total liabilities and capital 12,122.37 *29 Dec. 31, 1939 ASSETS: Cash $ 1,962.90 Notes and accounts receivable $ 5,538.72 Reserve for doubtful accounts 286.18 5,252.54 Inventory 610.00 Property, building and equipment: Land 450.00 Building 1,350.00 Building improvements and additions 1,118.37 Machinery and equipment 7,259.57 Total 10,177.94 Less: Reserve for depreciation: Building 174.98 Machinery and equipment 1,474.83 Total 1,649.81 Book value 8,528.13 Total assets 16,353.57 LIABILITIES: Accounts payable $ 115.06 Land contract, mortgage and loans payable 1,304.47 Accrued expenses 5,218.98 Accrued Federal income tax 390.28 Total liabilities 7,028.79 CAPITAL: Common stock 3,375.00 Paid-in surplus 2,559.10 Earned surplus: Beginning of year 2,556.63 Net income for period 834.05 3,390.68 9,324.78 Total liabilities and capital 16,353.57 *225 Petitioner's profit and loss statements for the years 1937, 1938, and 1939 were as follows: 1 [1939] Sales $ 20,280.58 $ 13,618.35 $ 37,684.13 Cost of sales: Inventory 67.50 295.00 Material purchases 8,694.40 4,145.34 12,783.04 Salaries and wages 5,482.35 4,314.90 13,904.90 Total 14,176.75 8,527.74 26,982.94 Inventory 67.50 295.00 610.00 Cost of sales 14,109.25 8,232.74 26,372.94 Gross profit 6,171.33 5,385.61 11,311.19 Expenses: Executive salaries 2,840.75 536.50 5,200.00 Bad debts 286.18 Interest 342.42 79.08 96.12 Taxes 227.89 248.76 588.56 Depreciation -- Machinery 452.52 436.81 582.26 Depreciation -- Building 82.70 95.52 General expense 772.53 886.09 2,252.39 Light, heat and power 137.87 232.96 376.23 Telephone and telegraph 82.62 103.30 181.02 Commissions 303.75 Bank fees and discounts 240.68 395.96 Rent 45.00 Royalties 993.60 Total expenses 5,895.20 2,846.88 10,357.99 Operating profit 276.13 2,538.73 953.20 Other income 20.24 93.32 Net profit before taxes 296.37 2,632.05 953.20 Provision for Federal income tax 42.78 329.01 119.15 Net profit 253.59 2,303.04 834.05 *30 For the periods next above shown, the average gross profits are equal to 32.95 per cent of average sales. Petitioner's monthly sales for the years 1937, 1938, and 1939 and their allocation on an annual basis between antiknock trip bracket sales (hereinafter described) and repair sales were as follows: [1939] January $ 63.65 $ 2,586.35 February 1,182.60 2,273.20 March $ 1,455.70 1,184.75 1,247.66 April 860.00 735.15 2,306.12 May 1,017.32 242.50 1,465.06 June 1,694.90 406.00 2,304.55 July 2,051.00 568.25 2,669.88 August 2,011.45 1,148.12 4,384.32 September 2,384.66 1,813.07 5,323.57 October 2,351.85 2,287.20 5,432.95 November 4,873.65 1,498.04 4,455.22 December 1,580.05 2,489.02 3,235.25 Totals 20,280.58 13,618.35 37,684.13 *31 *226 Allocated as follows: [1939] Antiknock bracket: Sales $ 4,000.00 20% $ 640.00 5% $ 2,240.00 6% Repair sales 16,280.58 80% 12,987.35 95% 35,444.15 94% 20,280.58 100% 13,618.35 100% 37,684.15 100% Number of brackets sold 50 [28] Petitioner purchased machinery and equipment in 1937, 1938, and 1939 at a cost of $ 4,525.23, $ 6,577.78, $ 7,259.57, respectively. Of the $ 4,525.23 expended in 1937, $ 2,095 was for machinery and equipment sold to petitioner by Percy Boyd on March 8, 1937. Petitioner's land, buildings, and improvements for the years 1937, 1938, and 1939 were as follows: Aug. 31, 1937 Land and building: 1710 [sic] Dequindre St., Detroit, Mich., Acquired August 31, 1937, on Land Contract for $ 1,800.00 Allocated purchase price: Land $ 450.00 Building 1,350.00 Building improvements and additions: Building construction Commenced January 1938 -- Additions -- Year 1938 956.61 Additions -- Year 1939 161.76 1,118.37 Dec. 31, 1939, Balance * $ 3,018.37 In 1938, petitioner *32 built an addition to its Dequindre Street plant. It was completed by March of that year. Boyd resided at 95 Greendale Avenue, Detroit, Michigan, at the time of the hearing. From 1916 to 1939, Boyd was employed by the Ford Motor Company. He terminated his employment with that company on August 1, 1939. Boyd was employed by the Ford Motor Company in the following capacities: Stock man, machinist, draftsman, assistant to head foreman, and foreman in charge of the afternoon shift. While he was shift foreman, approximately 80 per cent of Boyd's work related to punch presses. As a Ford Motor Company employee, Boyd worked on the following types of machines: production lathes, mills, screw machines, Bullards, upsetters, and drop hammers. *227 While with the Ford Motor Company, Boyd also ran a small business (a sole proprietorship) which consisted of machining and tooling of an antiknock trip bracket for punch presses which he had invented. He had worked on the invention for about 12 years and had patented it. Prior to and during part of 1936, he operated this business from the basement of his home. In 1936 he rented a shop at 17170 Dequindre Street, Detroit, Michigan, and moved *33 his business to that address. He sold and installed his antiknock trip bracket in the factories of Motor Metals, Buhl Stamping, Chevrolet Gear and Axle, American Metals, and Buick in Flint, Michigan, on a trial basis. Such installation often also involved minor repairs and brought Boyd in touch with factory personnel who sought his assistance in general machinery maintenance. While with the Ford Motor Company, it was Boyd's practice to open his own shop on Dequindre Street at 7 a. m. and to remain at the shop until 2:15 p. m. He would then go to the Ford Motor Company to supervise the afternoon shift and after finishing would return to his shop to see that the work had been completed and to close the shop. He estimated that at the time he was working for Ford's and running his own shop he was working approximately 18 hours per day. The antiknock bracket is used on a block type clutch. The block clutches have hardened drive blocks in them which drive punch presses. When the edges of these blocks become worn, a thumping sound occurs and results in a dangerous situation. The purpose of the antiknock bracket was to provide a running clearance at all times between the drive collar*34 and the mating jaw of the clutch and thereby eliminate any knock. This bracket allowed the blocks to be used approximately five times longer than under ordinary conditions. The antiknock trip brackets are used exclusively on punch presses. When Boyd organized the Punch Press Repair Corporation in 1937, it was necessary for him to acquire some minor machines. He paid cash for these machines due to the fact that he did not have a business credit standing. After he had acquired a few machines, he was allowed to use them as collateral when he negotiated a loan. He also borrowed on his life insurance policies and discounted his accounts receivable. Petitioner could have used more money in its business during the base period years. While working for the Ford Motor Company, Boyd was paid no fixed salary by petitioner. After terminating his employment with the Ford Motor Company in August 1939, Boyd devoted his entire time to the affairs of the petitioner. As a result of Boyd's efforts, petitioner's sales increased substantially in volume. The petitioner's repair work consisted primarily of repairs to punch *228 presses. If petitioner could not do the work and a complete overhaul*35 was necessary, the customer would send the machine back to its maker. There were no manufacturers of punch presses in Michigan. The petitioner rejected heavy repair work during the years 1937, 1938, and 1939 due to the fact that it did not have the plant facilities to handle such work. There was plenty of this type of work available. Petitioner's employees worked primarily with a chain fall. The building in which it operated had a 16-foot ceiling and, therefore, could not accommodate presses which were as high as 30 feet. Most of the work done by the petitioner was handled on the premises of its customers. The petitioner's employees would remove the parts for repair from the particular machine, transport them to petitioner's shop, if necessary, and then return them for installation on the customer's machine. In order to dismantle a heavy press, it was necessary to have from 2 to 6 men work on it. If 6 men worked on such a machine, Boyd estimated that it would take them a total of approximately 60 hours to dismantle the machine. The petitioner employed both full and part-time help. During the years 1937, 1938, and 1939, the petitioner was only able to engage in ordinary repair*36 work and was not able to completely overhaul a punch press. The petitioner was grouped with the Automotive Tool and Die Manufacturers Association during World War II in order for the United States Government to have some basis for allocating materials and manpower to it. The petitioner's business was entirely different from that carried on by the members of the Automotive Tool and Die Manufacturers Association in that while it used machinery similar to the tool and die industry, its craft trades and job work were entirely different. William Norman Davis was one of the controlling stockholders of the Davis Tool and Engineering Company which is located at 19250 Plymouth Road, Detroit, Michigan. This company is primarily engaged in operating a stamping plant and a tool jobbing shop. It was organized in 1924 by Mr. Davis and his four brothers. Davis and his brothers at some time prior to 1936 formed another corporation, engaged in a similar business, which was located on Epworth Boulevard, Detroit, Michigan. The gross business done by this corporation and the Davis Tool and Engineering Company was approximately $ 500,000 a year in the years 1936 through 1939. These corporations had*37 in their shops punch presses, lathes, grinders, shapers, boring mills, and other tool and die machinery. Davis first became acquainted with Boyd and petitioner in 1937 when the corporations with which he was associated needed someone *229 to repair their machinery, and petitioner was employed to perform this service. Prior to employing petitioner, the machinists in the corporations with which Davis was associated repaired the machinery in their own tool rooms. There were times when it was not practical to have the machinists do the repair work due to the fact that they were not specialists in particular repair jobs. The corporations with which Davis was associated continued to use Boyd's services through 1939. The work done for Davis by petitioner and Boyd had been very satisfactory and Davis at all times was ready to recommend them. There were many shops in Detroit which needed petitioner's services. The corporations with which Davis was associated did not discontinue having their machinists repair their own machinery but followed the practice of calling in Boyd on what they considered to be major repair jobs. Petitioner commenced business during the base period. Petitioner's*38 excess profits credit allowed to it for the taxable years 1941 to 1945, inclusive, computed under section 714 of the Code, resulted in an excessive and discriminatory tax. Petitioner did not reach, by the end of the base period, the earning level which it would have reached if petitioner had commenced business 2 years before it actually did. Petitioner's average base period net income is an inadequate standard of normal earnings. A fair and just amount, representing normal earnings to be used by the petitioner as a constructive average base period net income, is $ 11,000. OPINION. Respondent concedes that because petitioner commenced business during the base period years, under Rand Beverage Co., 18 T. C. 275, and section 722 (b) of the Internal Revenue Code, it is entitled to proceed with proof to establish that an excess profits credit, based on a fair and just amount representing normal earnings, to be used as a constructive average base period net income, is in excess of its excess profits tax credit computed without the benefit of section 722. Petitioner has attempted to make a reconstruction said to be based upon the alleged experience of the *39 Automotive Tool and Die Manufacturers Association. Our finding of fact that the business of this association and the business of petitioner were entirely different precludes consideration of such a reconstruction. Moreover, there are such extreme hiatuses between other facts used in petitioner's proposed recomputation and the facts of record that petitioner's recomputation is not acceptable. *230 By reason of the fact that petitioner commenced business in the base period, it is entitled, under the provisions of section 722 (b) (4) of the Code, if its business "did not reach, by the end of the base period, the earning level which it would have reached if * * * [it] had commenced business * * * two years before it did so," to show what its level of earnings would have been by December 31, 1939, had it commenced business 2 years before it did. See Del Mar Turf Club, 16 T. C. 749. Petitioner's substantial growth in sales between 1937 and 1939, and particularly the consistent growing strength in its sales figures during most all the months in 1939, compel us to conclude that it had not reached a normal level of sales by the end of 1939. The growing*40 strength of sales in 1939 overcomes any implications which might flow from the fact that 1938 sales were less than those for 1937. In finding this December 31, 1939, level of earnings, the petitioner is not required to establish, and indeed this Court is not able to determine, more than a fair and just amount under all of the circumstances. Exact mathematical computations are not necessary. See Danco Co., 17 T. C. 1493, 1498; Radio Shack Corporation, 19 T. C. 756; and Crossfield Products Corporation, 20 T. C. 97. The record discloses that after petitioner commenced business during the base period, it expanded its capacity by the acquisition of some new machinery, and it also enlarged its plant. The record further demonstrates that petitioner had no competition in its line of endeavor in the Detroit area, and that petitioner did good work and was well thought of by companies using its services. And the devotion of the full time of petitioner's president to the management of the business in August of 1939 was followed by successive months in which sales were approximately twice what they*41 had been in the earlier months of that year. In addition, we believe that it is reasonable to assume that had petitioner begun its business 2 years earlier, costs would have been well in hand by December 31, 1939, so that its projected level of earnings as of that date would be normal. Such factors properly may be considered in arriving at a constructive average base period net income. See Rand Beverage Co., supra. The entire record, including the items above enumerated, compels us to this conclusion that had petitioner commenced business 2 years before it did, it would have reached a higher level of earnings for its year ending December 31, 1939, and to the conclusion that $ 11,000 is a fair and just amount representing normal earnings to be used as a constructive average base period net income. See W. J. Voit Rubber Corporation, 20 T. C. 84; Fishbeck Awning Co., 19 T. C. 773. Reviewed by the Special Division. Decision will be entered under Rule 50. Footnotes 1. After giving effect to adjustments in revenue agent's report of January 26, 1942, for 1938 and 1939. Prior to adjustments by reason of disallowances under section 24 (c) of the Code, petitioner's net income for 1938 and 1939 was reported as $ 463.06 and $ 260.87, respectively.↩ *. Stipulated thus. Correct addition equals $ 2,918.37.↩