R. H. Comey Co. v. Commissioner

R. H. COMEY CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. R. H. Comey Co. v. Commissioner Docket No. 25125. United States Board of Tax Appeals 16 B.T.A. 958; 1929 BTA LEXIS 2477; June 10, 1929, Promulgated *2477 Deduction on account of alleged bad debt loss denied where the debt resulted from intercompany transactions between petitioner and an affiliated company. Gould Coupler Co.,5 B.T.A. 499; et alia. Isaac Siegel, Esq., and Jacob H. Corn, Esq., for the petitioner. H. LeRoy Jones, Esq., for the respondent. SMITH *958 This proceeding is for the redetermination of a deficiency for the years ended June 30, 1921, and June 30, 1922, in the respective amounts of $1,104.89 and $8,572.12. The respondent has also determined a deficiency of $684.60 for the fiscal year ended June 30, 1922, against the St. Louis Comey Co., with which the petitioner *959 filed a consolidated return for the year ended June 30, 1922, but which is not a party to this proceeding. The only error alleged by the petitioner is the disallowance by the respondent in the year ended June 30, 1922, of a deduction on account of an alleged bad debt loss of $54,461.52, representing advances and loans made to the said St. Louis Comey Co. At the hearing counsel for the respondent moved for a dismissal of the proceeding in so far as it relates to the year 1921, *2478 for the reason that the petitioner had not alleged any error in respect of the respondent's determination for such year. For the reason stated said motion is hereby granted and an order will be entered accordingly. The facts pertinent to the issue herein presented are agreed upon by the parties and are as follows: FINDINGS OF FACT. The petitioner is a New Jersey corporation with its principal place of business at Brooklyn, N.Y. It is engaged in the business of dyeing and bleaching. During the year 1920 a subsidiary corporation known as the St. Louis Comey Co. was organized and began doing business at St. Louis, Mo. It was engaged in the same business and was organized for the purpose of serving customers in the vicinity of St. Louis. The said St. Louis Comey Co. had a preferred stock issue of $75,000 par value, which was taken principally by outsiders who were not connected with the petitioner. Of the 750 shares of preferred stock issued, 25 shares were taken by the petitioner; 70 shares by persons who were connected with the petitioner, and 655 shares were taken by outsiders. The petitioner subscribed to $25,000 par value of common stock of the said company, for which*2479 it paid cash, and $50,000 par value of common stock for which it gave certain formulae and processes for dyeing and bleaching. The petitioner carried this $50,000 of common stock upon its books at a valuation of $1. There was no other common stock issued. The preferred stock had no voting power. It carried cumulative dividends of 8 per cent annually and was redeemable by the St. Louis Comey Co. 10 years after incorporation at 110 per cent of par value plus any unpaid dividend, such redemption to be out of net profits or funds otherwise provided by the said company. The common stock carried the voting power and the right to receive dividends out of profits, after dividends on the preferred stock. Between July 5, 1920, and January 8, 1921, the petitioner made advances and loans of cash to the St. Louis Comey Co. to be used in its business operations amounting to $114,651.29. It took notes of the St. Louis Comey Co. as security for these loans and advances. *960 At the beginning of the year ended June 30, 1922, the total capitalization of the St. Louis Comey Co. was as follows: Capital stock issued - Preferred stock (cash) $ 75,000.00 Common stock (cash) 25,000.00 Common stock (formulae and processes) 50,000.00 Real estate (borrowed capital secured by mortgage) 75,000.00 Cash supplied by the R. H. Comey Co 114,651.29 Total capitalization 339,651.29 *2480 The above item of $75,000 represents a mortgage on real estate purchased by the St. Louis Comey Co. which was secured by a lien on the building and land and the petitioner's guarantee. In its first year of operation the St. Louis Comey Co. was not successful. Its total sales for the year ended June 30, 1921, amounted to $82,975. On June 28, 1921, an agreement was entered into between the petitioner, the St. Louis Comey Co., and the preferred stockholders of the St. Louis Comey Co., whereby the petitioner agreed to waive all interest on the $114,651.29 indebtedness of the St. Louis Comey Co., accrued to that date and thereafter to accrue, up to June 1, 1922. The preferred stockholders of the St. Louis Comey Co. waived all right to dividends on their preferred stock for the same period. On May 1, 1922, the petitioner, the St. Louis Comey Co. and the preferred stockholders of the St. Louis Comey Co. entered into a further agreement with the following provisions: The stockholders of the St. Louis Comey Co., both common and preferred, surrendered their stock and the charter of the St. Louis Comey Co. was so amended as to extinguish the old classification of stock and create*2481 a new classification with the stock designated as class "a" and class "b" stock. The stockholders of the St. Louis Comey Co. surrendered 40 per cent of their old stock receiving in exchange therefor class "b" new stock to the extent of 60 per cent of their former holdings. The petitioner canceled 40 per cent of the $114,651.29 indebtedness of the St. Louis Comey Co., reducing said indebtedness to $68,790.70, for which it accepted $20,000 par value of the new class "a" stock and a note of the St. Louis Comey Co. for the remaining $48,790.70. The petitioner agreed to cancel without consideration its $50,000 par value of common stock which it had received in exchange for formulae and processes. Class "a" stock only carried the power to vote and there was no preference between class "a" and class "b" stock as to dividends. At the time the agreement of May 1, 1922, was entered into the stockholders of the St. Louis Comey Co. were the same as at the *961 time of its organization. The said agreement of May 1, 1922, was entered into in good faith and for the purpose of protecting the interests of the stockholders of the St. Louis Comey Co. The petitioner charged off on its*2482 books during the taxable year ended June 30, 1922, the amount of $45,860.52, representing 40 per cent of the indebtedness of the St. Louis Comey Co., which it had canceled under the agreement of May 1, 1922. OPINION. SMITH: The petitioner contends that it is entitled to deduct as a bad debt loss the amount of $45,860.52 representing a partial cancellation of the indebtedness of its subsidiary company, the St. Louis Comey Co., for monies loaned and advanced to it. We have heretofore held in numerous cases that intercompany transactions of this character between affiliated corporations filing a consolidated tax return do not result in a deductible loss to one of such corporations. See ; ; and others. See, also, Utica Knitting Co. v.United States, Court of Claims, decided May 6, 1929, and cases therein cited. The theory upon which such losses are denied to one of an affiliated group of corporations is that the result of all intercompany transactions must necessarily be reflected in the consolidated return on which the affiliated companies are entitled to report*2483 their income. There is no evidence before us that the respondent in his audit of the consolidated return filed by the petitioner and the St. Louis Comey Co. for the taxable year involved in this proceeding did not make proper allowance for all losses sustained during the taxable year by the affiliated group. Judgment of dismissal for 1921 and judgment for the respondent for 1922 will be entered.