Concrete Eng'g Co. v. Commissioner

CONCRETE ENGINEERING CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Concrete Eng'g Co. v. Commissioner Docket No. 19257. United States Board of Tax Appeals 19 B.T.A. 212; 1930 BTA LEXIS 2450; March 5, 1930, Promulgated *2450 1. The president of the petitioner, subsequently to March 1, 1913, without consideration, assigned to the petitioner certain patents, the value of which has been determined for the purpose of computing the annual deduction for exhaustion. 2. Intangible property transferred to a corporation without any consideration therefor may not be included in invested capital as paid-in surplus under the provisions of section 326(a)(3) of the Revenue Act of 1918. 3. Because of abnormality in invested capital due to the exclusion of valuable patents from invested capital, the petitioner is entitled to have its excess-profits taxes computed under the provisions of section 328 of the Revenue Act of 1918. 4. Where the petitioner pleads the statute of limitations and urges the invalidity of a waiver offered in evidence by the respondent which appears to be regular on its face, to sustain its plea, on the ground that the officer signing for it did so without authority and also because the respondent did not execute the waiver in person, it must show affirmatively that the petitioner's officer exceeded his powers in signing for the company, and in the absence of evidence to the contrary*2451 it will be presumed that the respondent discharged his official duty in a proper and legal manner when he delegated the signing of his name to the said waiver. George E. H. Goodner, Esq., for the petitioner. John D. Foley, Esq., and Lloyd W. Creason, Esq., for the respondent. MORRIS *213 In this proceeding, the petitioner seeks a redetermination of its income and profits-tax liability for the calendar year 1920, for which year the respondent has determined a deficiency in the amount of $29,483.78. The petitioner claims that, instead of a deficiency for the year 1920, the respondent should have found an overassessment for that year in the amount of $2,430.68, which makes the total taxes here in controversy the amount of $31,914.46. The errors alleged are, (1) the failure to allow a deduction of $38,235.29 from gross income on account of exhaustion of patents owned by the petitioner and used in its business; (2) the failure to include in invested capital as paid-in surplus, the unexhausted portion of the value of patents acquired by the petitioner in 1914 and 1918, amounting to not less than $476,429.81; (3) the failure and refusal to*2452 allow the petitioner the benefits of sections 327 and 328 of the Revenue Act of 1918; and (4) that the respondent is attempting to assess and collect an alleged deficiency in tax, for the year 1920, after the statute of limitations has run against such assessment and collection. Petitioner prays that if the Board finds the value of the patents may not be included in invested capital, as paid-in surplus as set forth in allegation of error numbered two hereinabove, and/or finds depreciation deductions on account of exhaustion of said patents are not allowable in computing net income, as set forth in allegation of error numbered one hereinabove, then, in the alternative, it should find that its profits tax should be computed under the provisions of section 328 of the Revenue Act of 1918 as urged in allegation of error numbered three hereinabove. FINDINGS OF FACT. The petitioner is a corporation, organized on July 28, 1914, under the laws of the State of Nebraska, with its principal place of business *214 at Omaha. Ever since organization it has been exclusively engaged in reinforced concrete floor construction, utilizing a patent on removable steel forms. In April, *2453 1912, Charles Louis Meyer, who was an engineer with several years experience in reinforced concrete construction, conceived the idea of using removable steel forms in combined concrete floor and joist construction, instead of the stationary metal and tile forms then in use. He did not have capital of his own with which to exploit the idea, and took the matter up with John W. Towle and the two agreed to organize a partnership in or about April, 1912, under the name of Concrete Engineering Co., Towle to supply the necessary credit, and Meyer to contribute his experience and the use of his idea. Meyer was to have full charge of the partnership's operations. On July 31, 1912, Meyer, in his own name, made application to the United States Patent Office for a patent on his invention. The partnership continued until July 28, 1914, at which time it was incorporated as the petitioner herein. During the two years of its existence the partnership manufactured a certain number of steel forms for use under Meyer's invention, and with such forms it, as a subcontractor, constructed 1,500,000 square feet of floor construction at a net profit of approximately $30,000, an average net profit*2454 of 2 cents per square foot of floor construction. Prior to Meyer's invention, the first type of fireproof reinforced floor construction used was the solid concrete slab. This type combined excessive weight with excessive cost. The upper third of the floor slab was in compression, while the lower two-thirds was in tension, the reinforcing steel taking care of this tensional strain. To save on this excessive weight and cost of concrete, the industry resorted to the hollow clay tile construction, in which the hollow tile replaced most of the solid concrete in the lower two-thirds of the slab. This improvement saved both on weight and cost, the steel reinforcing taking care of the tension, and the solid concrete of the upper one-third taking care of the compression. The next improvement was the substitution of a metal form for the hollow clay tile, which further lightened the weight and cheapened the cost without impairing the strength. It was while working with the stationary or permanent steel form that Meyer conceived the idea of a removable steel form, which could be held in place on a frame work until the reinforcing could be placed and the concrete poured and set, and*2455 then removed and used on as many subsequent operations as the life of the form would permit. The advantage of the removable form over the stationary one was the great saving in the cost of the metal of which the forms *215 were constructed. Meyer's idea was merely to rent, install and remove the forms on each contract. It had an additional advantage in that the metal laths necessary for plastering the ceiling, could, under Meyer's idea, be attached after the cement had set; thereby eliminating the possibility of the penetration of rust through the plaster, which was common where the laths had to be installed before the wet cement was poured. About one-half of the first forms made are still in use. The removable forms invented by Meyer effected a saving to the building industry, in labor and material, amounting to from 3 to 8 or 10 cents per square foot of floor construction, depending upon the types of construction against which the petitioner was competing and the location of the building to be constructed. On the May Building in Cleveland, which was begun in 1913 and finished in 1914, a saving of $70,000 was made by substituting the Meyer idea and forms for the*2456 method originally prescribed for the building. This was on an area of 700,000 square feet. During the two years of the partnership operations, Meyer's steel forms were used as far west as Los Angeles, and as far east as Cleveland. At that time fireproof construction was steadily on the increase. In 1914 the quantity of floor construction in the United States amounted to 200,000,000 square feet annually, of which one-fourth, or 50,000,000 square feet, was the estimated amount of fireproof or reinforced concrete construction. In July of that year Meyer had reached definite conclusions as to the marketability of his idea and estimated that a corporation operating on his patent could reasonably expect to do an average of 10 per cent of this amount, or 5,000,000 square feet annually, over a period of 15 years. On the basis of this estimate, and using the 2 cents per square foot net profit made by the partnership as a basis, he arrived at a total expected profit from his invention of $1,500,000 over the ensuing 15-year period. He, at that time, placed a cash value on his invention and patent rights of one-third of the total expected profit of $1,500,000, or $500,000. In 1914*2457 it became apparent that, in order to properly exploit the idea, a corporation was necessary. On July 18, 1914, Meyer assigned to the petitioner, then in the process of organization, his rights to said patent application. On July 28, 1914, the corporation was duly organized and on August 11, 1914, Letters Patent No. 1106665, covering Meyer's invention of "Removable Molds for Concrete Floors," was granted. No stock was issued to Meyer for this patent, and no value therefor has ever been set up on the books of the petitioner, which were but a continuation of the books of the partnership. *216 At the time of incorporation, the petitioner issued $49,500 par value of its capital stock for tangible assets. Since organization, the petitioner has been exclusively engaged in the reinforced concrete floor and joist construction business, by the use of the Meyer invention and patent thereon. Meyer's original idea remained the highest development in the art of reinforced concrete floor construction until he developed the double tapered and type feature in 1917, covered by Letters Patent No. 1262686 granted to him on April 16, 1918. He immediately, without consideration, assigned*2458 this patent to the petitioner. No value has ever been placed on the books of the petitioner for this patent. Meyer's second invention was the double tapered end form, the idea being to economize further on the quantity of concrete used where the floor joints join the girder, and yet afford greater strength where strength is needed. While this invention represented a separate and distinct idea, it could be used only in connection with the first invention, although the first one could be used independently of it. The economy effected by this second invention calculated by engineering methods, resulted in a further average saving of threefourths of a cent per square foot of floor construction. The petitioner was in the position to take for itself the benefit of this additional saving. This saving, applied to the estimated average annual construction of 5,000,000 square feet by petitioner, would amount in 15 years to a total saving of $562,500. No infringement proceedings have ever been brought against the petitioner in connection with the two patents here in question. The total amount of square feet of floor constructed by petitioner, from organization in 1913 to October 31, 1928, and*2459 the net profit per year, before deducting income taxes, are as follows: Year Square feet of floor Net profit construction [1913] 1,503,010 1914 (July 29 to Dec. 31) 195,876 $8,101.86 [1915] 1,710,344 39,750.99 [1916] 2,724,784 46,177.47 [1917] 3,356,147 18,499.61 [1918] 2,171,450 28,648.03 [1919] 2,171,037 41,415.55 [1920] 3,135,270 72,841.46 [1921] 1,500,600 37,147.35 [1922] 3,750,980 $69,714.03 [1923] 7,250,500 99,284.51 [1924] 6,334,304 86,597.28 [1925] 10,916,535 161,288.59 [1926] 12,672,032 221,565.94 [1927] 10,928,954 229,949.60 1928 (to Oct. 31) 9,703,386 Total 80,025,209 1,160,982.27 With the unexecuted area of floor construction for 1928 of 4,463,736 square feet, the total volume of business per square foot was 14,167,122. The recession in business which took place in 1917, and which was not corrected until 1922, was due to restrictions placed upon buildings during the World War. *217 The petitioner has never engaged in any other business than renting, installation, and removal of steel form equipment. The income and profits taxes, as computed by the petitioner, on the above net profits, are as follows: Year Taxes 1914 (July 29 to Dec. 31) $55.31 [1915] 181.60 [1916] 285.67 [1917] 3,531.09 [1918] 5,540.13 [1919] $2,609.74 [1920] 18,196.21 [1921] 5,144.78 [1922] 9,238.79 [1923] 12,785.98 [1924] 11,190.48 [1925] $27,982.78 [1926] 25,468.30 [1927] 26,568.58 Total 148,779.44 *2460 During its existence the petitioner has declared stock and cash dividends as follows: Year Stock Cash [1915] $10,300 $5,150 [1917] 15,000 3,000 [1918] 10,000 65,000 [1919] 20,000 [1920] 25,000 [1921] 37,500 [1922] 60,000 24,000 [1923] $50,000 $28,800 [1924] 40,500 [1925] 45,000 [1926] 175,000 50,000 [1927] 25,000 [1928] 150,000 45,000 Total 495,300 389,450 The following tabulation shows the stock outstanding, the surplus and undivided profits, and the total liabilities of petitioner on December 31 of each of the years stated. There was no entry on the books in respect of any intangible assets, and the total of these three items, given in the fifth column, equals the total tangible assets of petitioner on the respective dates: Year Stock outstanding Surplus and undivided profits Liabilities Total [1914] $49,500 $5,432.18 $2,425.38 $57,357.56 [1915] 63,300 7,677.86 24,729.56 95,707.42 [1916] 75,000 20,173.73 32,460.39 127,634.12 [1917] 100,000 20,387.67 36,241.92 156,629.59 [1918] 200,000 25,504.61 12,709.10 238,213.71 [1919] 200,000 41,380.03 92,101.30 333,481.33 [1920] 300,000 86,526.31 30,356.22 416,882.53 [1921] 300,000 68,977.45 12,511.99 381,489.44 [1922] 360,000 48,546.70 71,732.46 480,279.16 [1923] 450,000 67,792.42 23,704.85 541,497.27 [1924] 450,000 101,103.72 124,701.22 675,804.94 [1925] 500,000 206,258.08 25,825.28 732,083.36 [1926] 500,000 359,841.24 42,170.45 902,011.69 [1927] 750,000 364,322.54 14,716.42 1,129,038.96 *2461 Some of the stock aforesaid was paid for in cash and some represented stock dividends. The difference between the amount of the stock dividend and the amount of the stock outstanding during any *218 of said years represents the amount of stock that was paid for in cash. Some patents have since been issued which purport to be developments or refinements of the Meyer patents, but none of them have been exploited and all are in the class known as paper patents, that is, patents of impracticable ideas. The principles and ideas embodied in the Meyer patents of 1914 and 1918 are the same as used today, no further progress in the art having been made. The idea has gained ground and is more popular today than ever. The removable steel form type of construction has practically replaced the permanent steel tile construction, and in Chicago 90 per cent of the large buildings are now built with the rib floor construction in which the concrete is cast on removable steel forms because of the greater merit and economy of the method. The risk factor in connection with petitioner's patents was low. No claim was made by the petitioner for the exhaustion of patents in its return*2462 for 1920 nor did it include any portion of the value thereof in invested capital due to ignorance of its rights in the matter. The respondent determined that neither of the two patents had any value at the time acquired by the petitioner, and, accordingly, he did not allow the petitioner any deduction from gross income on account of the exhaustion of patents, nor did he allow the petitioner to include in its invested capital for the taxable year any value on account of the ownership by the petitioner of such patents. The actual cash value, and also the fair market value of Letters Patent No. 1106665, at the time acquired by the petitioner in 1914, was $300,000. The actual cash value, and also the fair market value of Letters Patent No. 1262686, acquired by the petitioner in 1918, was $150,000. The petitioner filed its income and profits-tax return for the calendar year 1920 on March 15, 1921. On February 2, 1926, the following income and profits-tax waiver was executed and filed with the Bureau of Internal Revenue on or about February 6, 1926: Treasury Department Internal Revenue Service Form 872A INCOME AND PROFITS TAX WAIVER For Taxable Years Ended Prior to January 1, 1922 *2463 IT:E:SM GSH-C-25098 OMAHA, NEBR., February 2, 1926. In pursuance of the provisions of existing Internal Revenue Laws Concrete Engineering Company, a taxpayer of Omaha, Nebraska, and the Commissioner of Internal Revenue hereby waive the time prescribed by law for making any assessment of the amount of income, excess-profits, or war-profits taxes due *219 under any return made by or on behalf of said taxpayer for the year 1920 under existing revenue acts, or under prior revenue acts. This waiver of the time for making any assessment as aforesaid shall remain in effect until December 31, 1926, and shall then expire except that if a notice of a deficiency in tax is sent to said taxpayer by registered mail before said date and (1) no appeal is filed therefrom with the United States Board of Tax Appeals then said date shall be extended sixty days, or (2) if an appeal is filed with said Board then said dates shall be extended by the number of days between the date of amiling of said notice of deficiency and the date of final decision by said Board. [Corporate seal of Concrete Engineering Company] CONCRETE ENGINEERING COMPANY, By A. P. JESSEN (Signed) *2464 Secy.-Treas. Taxpayer D. H. BLAIR (Signed) Commissioner. l.g. If this waiver is executed on behalf of a corporation, it must be signed by such officer or officers of the corporation as are empowered under the laws of the State in which the corporation is located to sign for the corporation, in addition to which, the seal, if any, of the corporation must be affixed. The notice of deficiency was mailed to the petitioner on June 14, 1926. OPINION. MORRIS: A very brief review of the facts set forth hereinabove convinces us that the two patents in question were extremely valuable when acquired by the petitioner. The invention was a proven success from the very beginning of the use thereof by the partnership which the petitioner succeeded. During the two years of the partnership's existence 1,500,000 square feet of concrete flooring were constructed by the Meyer method at a net profit of approximately $30,000. The petitioner's business increased from 1,710,344 square feet of concrete floor construction in 1915 to 10,928,954 square feet in 1927 and its net profits increased for the same period of time from $39,750.99 to $229,949.60. During the period 1915 to 1928*2465 the petitioner declared and paid stock dividends to the extent of $495,300, and cash dividends of $389,450, and its surplus and undivided profits grew from $5,432.19 in 1914 to $364,322.54 in 1927. Considering the almost phenomenal growth of the petitioner from its inception as corroborative of the direct testimony of record and after a careful consideration of all of the evidence and testimony, we are of the opinion, and have found as a fact, that the actual cash value and fair market value of the patent acquired by the petitioner in 1914 was $300,000, and that the actual cash value and fair market value of the patent acquired in 1918 was $150,000. Therefore, the petitioner is entitled to a deduction for exhaustion in 1920 equal to one-seventeenth of the respective values set forth in the findings of fact. *220 With respect to the second allegation of error urged by the petitioner, that is, failure of the respondent to include in invested capital as paid-in surplus the unexhausted portion of the value of said patents, we held in *2466 Herald-Despatch Co.,4 B.T.A. 1096, that intangible property paid in to a corporation without consideration therefor could not be included in invested capital under the provisions of section 326(a)(3) of the Revenue Act of 1918 as paid-in surplus, and, therefore, the petitioner's contention in this particular must be denied. Since we have held that the value of the patents in question may not be included in invested capital as paid-in surplus under the provisions of section 326(a)(3) of the Revenue Act of 1918, we are, under the alternative allegation of error urged by the petitioner, called upon to decide the question of whether the petitioner is entitled to have its excess-profits taxes computed under the provisions of section 328 of that Act. We have repeatedly held that the mere fact of statutory exclusion of items from invested capital does not necessarily create abnormal conditions which may be relied upon by the taxpayer to bring it within the provisions of section 328, supra. Morris & Co.,1 B.T.A. 704. But, on the other hand, the fact that such exclusion may under proper conditions create such abnormality has also been recognized. *2467 In Enameled Metals Co.,14 B.T.A. 1392, the Board said: * * * Where the item excluded has been the principal income-producing factor and primarily responsible for the production of the income of the taxpayer, we have not hesitated to say that an abnormal situation existed. Clarence Whitman & Sons, Inc.,11 B.T.A. 1192. But it does not follow that every time an asset is excluded from invested capital there results an abnormality within the meaning of section 327 of the Act. Morris & Co.,1 B.T.A. 704. In many businesses there will be some good will, or some appreviation in the value of the assets, or some other factor which can not enter into the computation of invested capital. The exclusion must be such as to cause exceptional hardship. In Clarence Whitman & Sons, Inc.,11 B.T.A. 1192, the Board had under consideration the question of whether the exclusion of certain assets from invested capital gave rise to abnormalities within the meaning of the Act, and it said: * * * The exclusion must be such as to create an abnormal condition. Where, as here, the asset excluded is the most substantial part of its*2468 capital and is the principal contributing factor in the production of taxable income of the petitioner, it is our opinion that such an abnormality exists. We have found as a fact that the two patents, the value of which has been excluded from invested capital, had an aggregate value of $450,000 when acquired by the petitioner, and, furthermore, that those patents were the chief, if not almost the sole, income-producing factors of the business. Therefore, the conclusion that there was *221 an abnormality in the petitioner's invested capital for 1920 within the meaning of section 327 of the Revenue Act of 1918 is inescapable. As its fourth allegation of error herein the petitioner pleads the statute of limitations as a bar to the assessment and collection of the deficiency in controversy. The petitioner alleges and contends that the consent purporting to extend the period of limitations for the year 1920 is invalid because (1) it was not gigned personally by the respondent, and (2) it was incumbent upon the respondent's counsel to prove that the party who signed for the respondent acted within the scope of his authority in so doing, and (3) that the petitioner's secretarytreasurer*2469 was without statutory authority to bind the corporation. In Trustees for Ohio & Big Sandy Coal Co. et al.,9 B.T.A. 617, where the validity of consents entered into between the taxpayer and the respondent was placed in issue, the Board said: The Commissioner is presumed to discharge his official duties in a proper and legal manner and such presumption is not overcome by the mere showing that the signature of the Commissioner upon the consent is not in his personal handwriting. The Board also said: It is a general principle to presume that public officials act correctly, in accordance with the law and their instructions, until the contrary appears. [Citations]. The plea of the statute of limitations was invoked by the petitioner. The respondent, in order to show that the period of limitations had not expired, produced a waiver signed by the secretary-treasurer of the petitioner and signed "D. H. Blair, Commissioner, L.G." Since the consent appears to be regular upon its face and in accordance with the law, we will presume that the party who signed the name of the respondent to the consent acted within the scope of his authority, in the absence of a*2470 showing to the contrary. With respect to the contention of the petitioner that its secretary-treasurer was without authority to bind the corporation, the petitioner's counsel states in his brief that the law of Nebraska is that such officer can not do so unless specially authorized. He cites no such law, nor have we been able to find any which would prohibit the act complained of. The by-laws of the corporation are not before us, nor has any evidence been adduced by the petitioner to show what the powers of the secretary-treasurer who signed the consent were. If the petitioner's secretary-treasurer was powerless under the law of the State or by the by-laws of the corporation to enter into the consent in question and affix the corporate seal of the company to official documents, which he did in this instance, that fact should have been affirmatively shown by the petitioner, which *222 it did not do. We are, therefore, of the opinion that the assessment and collection of the tax for 1920 is not barred by the statute of limitations. Reviewed by the Board. Judgment will be entered under Rule 62(c).