Amsterdam Theatres Corp. v. Commissioner

AMSTERDAM THEATRES CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Amsterdam Theatres Corp. v. Commissioner Docket No. 43624. United States Board of Tax Appeals 24 B.T.A. 1161; 1931 BTA LEXIS 1530; December 17, 1931, Promulgated *1530 1. The petitioner, having failed to prove the cost of a certain franchise, has failed to show error in respondent's determination of deductions for exhaustion thereof. 2. The cost of improvements to the floor supports and roof of a building held not to have been been ordinary and necessary expenses incurred in a trade or business and therefore not deductible. J. M. Kelly, Esq., for the petitioner. B. M. Coon, Esq., for the respondent. MCMAHON *1161 This is a proceeding for the redetermination of asserted deficiencies in income and profits taxes for the years 1925 and 1926 in the respective amounts of $323.36 and $1,292.62. It is alleged in the petition that the respondent erred in disallowing as deductions in the year 1925 the amounts of $2,419 and $2,114.17 alleged to represent, respectively, repairs to the roof of a theatre and repairs to floors in a theatre, and in disallowing as a deduction in each of the years 1925 and 1926 an amount of $5,000 representing exhaustion of a Keith franchise valued at $50,000, for which stock was issued. FINDINGS OF FACT. The petitioner is a corporation organized under the laws of the State*1531 of New York on March 21, 1921, and having its principal offices in New York City. It is engaged in the business of presenting entertainment at various theatres located at Amsterdam, N.Y. This entertainment is in the form of vaudeville and the exhibition of motion pictures. At its organization petitioner had authorized capital stock of 2,000 shares, par value $25 per share. Its capitalization was not changed from that time through the year 1926. *1162 In 1921 the B. F. Keith Circuit of theatres was the largest theatrical circuit in the country. It was the predominant circuit as far as vaudeville was concerned and controlled some of the best vaudeville in the country. At that time Keith vaudevile was not customarily played in small towns such as Amsterdam, N.Y. It was customary for the B. F. Keith Vaudeville Exchange to give a franchise for a number of years to persons who would construct a theatre, taking back as consideration a one-half interest in the enterprise. The vaudeville business was at its height about 1921. In 1921 there were four theatres in Amsterdam, N.Y., operating in competition, as a result of which none of them was doing a very good business. *1532 These were the Rialto, the Strand, the Regent and the Amsterdam. Leslie E. Thompson and others organized the petitioner for the purpose of operating these four theatres. The incorporators obtained from the B. F. Keith Vaudeville Exchange a 10-year franchise for Keith vaudeville in Amsterdam, and turned this over to the petitioner. This franchise was for a period from May 1, 1921, to April 30, 1931, and was executed between the petitioner and the B. F. Keith Vaudeville Exchange. It provided, inter alia, that petitioner should pay to the Exchange a booking fee of $25 per week for at least the number of weeks in each season. The petitioner, on or about March 25, 1921, obtained 10-year leases upon the Rialto, Regent, Amsterdam, and Strand Theatres. Thompson and his associates had first obtained these leases and transferred them to petitioner. The first three leases were obtained from one Klapp. The Strand Theatre lease was secured from one Woods. Some stage property was also acquired along with the leases. Woods required that there be paid to him 400 shares of stock of petitioner as consideration for his executing a lease upon the Strand Theatre. Thompson later repurchased*1533 this stock from Woods, paying $8,500 therefor. Beginning about April, 1921, various transfers of petitioner's stock were made for value, among which were 600 shares sold to 22 different business men of Amsterdam, for which cash was received in the amount of $35,000. Either petitioner or Thompson later repurchased this stock for $35,000. In an affidavit sworn to on January 13, 1930, Leslie E. Thompson stated that at the time he and his associates promoted the petitioner they acquired leases to the Rialto, Regent, Strand, and Amsterdam Theatres; that they held, by purchase under bill of sale, personal property, equipment and fittings in the Regent and Amsterdam Theatres; that they acquired a franchise from the B. F. Keith Vaude ville Exchange; and that the leases and the franchise were turned over to the petitioner in exchange for stock of petitioner. *1163 In a protest dated December 20, 1926, against a proposed adjustment of the tax liability of the petitioner for the years 1922 and 1923, Leslie E. Thompson stated in part: On further investigation of this matter, it appears that the total consideration for the issuance of $50,000.00 stock of the Amsterdam Theatres*1534 Corporation did not consist solely of the franchise to exhibit Keith Vaudeville for a ten year period. It is apparent from a consideration of the Corporate Records and Minute Book of the corporation that in addition to the franchise, there was secured at that time, leases of the Regent Theatre, Strand Theatre, Rialto Theatre and Amsterdam Theatre, all located in Amsterdam, N.Y.; together with the personal property, such as carpets, etc., contained in the theatre. There is attached hereto, copies of the minutes, certified and sworn to by the Secretary of the corporation, setting forth exactly, in detail, the full transaction. It is shown that for one lease 400 shares of stock, par value $25.00 each, or a total of $10,000.00 was issued to Sam Woods and that $25,000.00 was paid to Mr. Klapp for the other leases. The balance of $15,000.00 therefore represented the value of the personal property and the Keith Vaudeville Franchise acquired at that time. The leases ran for a period of 10 years from the date of organization. It is therefore apparent that the taxpayer, having parted with value for these leases, is entitled to a proportionate deduction from income, based upon a 10 year*1535 life, pursuant to the Revenue Act of 1921. Attention is further invited to the fact that Mr. Woods sold the 400 shares of stock in our corporation, acquired by him, and received a total of $8,500.00 in cash for this stock. There are submitted herewith, affidavits of Mr. Leslie E. Thompson and Mr. Amedee J. Van Beuren, who purchased this stock from Mr. Woods. There are also submitted herewith, copies of the contract and the leases acquired by the corporation. * * * The minutes of a meeting of the board of directors of the petitioner on March 29 and 31, 1921, show the following: * * * WHEREAS, John J. Murdock, J. Henry Walters, and Leslie E. Thompson, as agents, have offered said leases and properties and financing in consideration of the issuance to their nominees or designees of Fourteen hundred eighty (1480) shares of the capital stock of this company; WHEREAS, John J. Murdock, J. Henry Walters and Leslie E. Thompson, as agents, have caused said leases, Bill of Sale and franchise to be made directly with this Company without any mesne assignments; and * * * WHEREAS, in the judgment of the Board of Directors said business and property are reasonably worth the consideration*1536 demanded therefor, viz., the issuance to the nominees or designees of John J. Murdock, J. Henry Walters and Leslie E. Thompson of fourteen hundred eighty (1480) shares of the capital stock of this company and that the same is necessary for the use and lawful business of the Company and that it is deemed to be for the best interests of this Company to accept said offer. Now, THEREFORE, be it RESOLVED, that such offer be and it is hereby approved and accepted, and that in accordance with the terms thereof, this Company shall, as full payment for said property and financing good will leases, franchises and *1164 business, issue and deliver fourteen hundred eighty (1480) shares of its capital stock of the Company to said John J. Murdock, J. Henry Walters and Leslie E. Thompson or to their nominees or assigns in such proportions as may be designated by them which stock shall be deemed fully paid and non assessable; * * * WHEREAS, as part of the consideration for the leasing of the Strand Theatre at Amsterdam, N.Y., Sam Wood, the owner and proprietor thereof, proposed that he receive four hundred (400) shares of the stock of this Company, and said lease having been entered*1537 into and delivered to this Company, in conformity with such agreement. Now, THEREFORE, be it RESOLVED, that the offer of Sam Wood be and the same hereby is accepted and approved, and this Company deems said lease as necessary in the lawful business of the Company and that it is for the best interests of this Company to accept said offer; that it is reasonably worth said four hundred (400) shares of the capital stock of this Company to secure said lease from said Sam Wood; and, therefore, be it FURTHER RESOLVED, that the President and Secretary be and they hereby are authorized and directed to issue and deliver, in accordance with these resolutions, to said Sam Wood, or his nominees or assigns, four hundred (400) shares of the capital stock of this Company, which shall be deemed fully paid and non assessable. The Secretary then reported that a payment of Twenty-five Thousand Dollars ($25,000) was due Edward C. Klapp, according to the terms and conditions of the lease of the Rialto Theatre; and on motion duly made, seconded and unanimously carried, it was RESOLVED, that the President and Treasurer be and they hereby are authorized and empowered to pay to said Edward C. Klapp*1538 the sum of Twenty-five Thousand Dollars ($25,000) and take his receipt therefor. In 1925 there was expended an amount of $2,419 for improvements upon the roof of the Strand Theatre. The whole front part of the roof of that theatre was in bad shape. It was full of leaks and the theatre could not be operated on that account. About 40 or 50 per cent of the roof was renovated, being covered with tar paper. Such a tar-paper roof is good for 15 or 20 years. This improvement made it possible to continue the business there. In 1925 there was also expended the amount of $2,114.17 in connection with the floors of the Strand Theatre. This was an old theatre, with a tenement building in front of it. The lobby of the theatre ran from the street through the tenement building to the auditorium proper. Its heating plant was directly under the floor of the lobby and the auditorium. It had been the custom of the fireman to deposit ashes on the basement floor, wetting them down. As a result, over a period of time, a great quantity of ashes had accumulated in the basement and it had rotted out the supports which held up the lobby floor and the supports of the foyer directly in the rear*1539 of the theatre, so that the floor sank or settled. In expending the amount of $2,114.17, the cellar was cleared out and new supports were put in wherever they had rotted away. No part of the surface of the floor was replaced. A crib was built under the *1165 floor and the business of the theatre was not interferred with. The work to the floor at the Strand Theatre was done to add to the attractiveness and usefulness of the building. The useful life of the improvements made in 1925 to the Strand Theatre would extend at least to the date of the expiration of the lease. The petitioner, together with the Amsterdam Realty Company and the Amsterdam Strand Realty Company, filed consolidated returns for the years 1925 and 1926. OPINION. MCMAHON: It is alleged that the respondent erred in disallowing as a deduction in each of the years 1925 and 1926, an amount of $5,000, representing exhaustion of a Keith franchise valued at $50,000, for which stock was issued. Section 234(a)(7) of the Revenue Act of 1926 provides: SEC. 234. (a) In computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions: * * * (7) *1540 A reasonable allowance for the exhaustion, wear and tear of property used in the trade of business, including a reasonable allowance for obsolescence. Section 204(a) of the Revenue Act of 1926 provides as follows: SEC. 204. (a) The basis for determining the gain or loss from the sale or other disposition of property acquired after February 28, 1913, shall be the cost of such property; except that - [Exceptions not material.] Section 204(c) of the Revenue Act of 1926 provides: SEC. 204. (c) The basis upon which depletion, exhaustion, wear and tear, and obsolescence are to be allowed in respect of any property shall be the same as is provided in subdivision (a) or (b) for the purpose of determining the gain or loss upon the sale or other disposition of such property, except that - [Exceptions not material.] It will be seen from the above statutes that the basis to be used in the allowance of depletion, exhaustion, wear and tear is the cost of such property to the taxpayer. In the instant proceeding witnesses for the petitioner gave opinion testimony as to the value of the franchise in question as of the date it was acquired by the petitioner, but we must, if possible, *1541 determine its cost to petitioner. From the evidence it appears that petitioner acquired this franchise in consideration of its issuance of capital stock, and the burden is upon petitioner to show the value of the stock issued, or, in other words, the cost of the franchise. There is some evidence in the record as to sales of stock of petitioner upon which a valuation per share of the stock of petitioner might be based, but from the evidence it is impossible to determine the number of shares or amount of stock issued for the franchise. It will be readily seen that since we can not *1166 determine the value of all of the stock, which was the consideration for the franchise, or the cost of the franchise, we are unable to determine the basis upon which exhaustion deductions are properly allowable. Leslie E. Thompson, president of the petitioner, testified at the hearing that 1,480 shares of stock of the petitioner were issued to him and his associates for the franchise and whatever labor he and his associates performed in obtaining the lease and certain personal property appertaining to some theatres. However, the minutes of a meeting of the board of directors of the petitioner*1542 held on March 29 and 31, 1921, state that such 1,480 shares of capital stock of petitioner were to be issued "as full payment for said property and financing good will, leases, franchises and business." Furthermore, statements made by Thompson in a protest filed with the respondent on December 20, 1926, indicate that $15,000 par value of petitioner's capital stock was issued for the Keith franchise and certain personal property. Since the petitioner has not shown the basis to be used in the determination of exhaustion deductions, the respondent's determination in this regard must be approved. See Conley Tin Foil Corporation,17 B.T.A. 65. The petitioner also contends that the respondent erred in disallowing as deductions in the year 1925 the amounts of $2,114.17 and $2,419. The former amount was spent in 1925 upon the Strand Theatre, principally for putting in new supports for the floor in place of those supports which had rotted out. This expenditure also covered amounts for removing ashes from the cellar, but there is no allocation of the amounts spent for each purpose. In his direct examination Thompson testified that the amount of $2,419 was expended for*1543 repairs upon the Rialto Theatre. However, in his cross-examination it developed that this expenditure was made for renovating the roof of the Strand Theatre. This work consisted of rebuilding about 40 or 50 per cent of the roof and covering it with tar paper. The Strand Theatre was not owned by petitioner, but was leased for a period of 10 years from March 25, 1921, or thereabouts. The evidence discloses that the useful life of these improvements would extend at least to the date of the expiration of the lease. Section 234(a)(1) of the Revenue Act of 1926 provides: SEC. 234. (a) In computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions: (1) All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, * * * Section 215(a)(2) of the Revenue Act of 1926 provides: SEC. 215. (a) In computing net income no deduction shall in any case be allowed in respect of - * * * *1167 (2) Any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate. See also section 235 of the*1544 Revenue Act of 1926. Can it be said that these expenditures constituted ordinary and necessary expenses incident to the petitioner's business? We believe not. In Black Hardware Co.,16 B.T.A. 551, there was involved a somewhat similar situation. There the taxpayer had made expenditures to raise its floor level. In disallowing a claimed deduction on account of such expenditure in that case, it was said: The allocation of expenditures of the kind under consideration, as between capital and current expense accounts, often presents more difficulties in practice than in theory, for the reason that the line between repairs and maintenances, and betterments and improvements, is shadowy and indistinct. However, we are satisfied that the expenditures in question should be capitalized. It appears to be clearly established by the evidence that they did not prolong the life of the petitioner's building, and there is testimony to the effect that they did not increase its value, although it seems unreasonable that a building so located as to be free from the menace of storms and floods is not more valuable than the same building, or the same kind of building, not so*1545 favorably situated. However, conceding that they did not prolong the life of the building, and assuming that they did not increase its value, they nevertheless were for alterations which were, as we conceive them, permanent betterments and improvements that rendered the building better suited to the purpose for which it was used. * * * Black Hardware Co., supra, was affirmed in Black Hardware Co. v. Commissioner, 39 Fed.(2d) 461; certiorari denied, 282 U.S. 84. See also News Leader Co.,18 B.T.A. 1212; Crocker First National Bank of San Francisco,22 B.T.A. 1159; and Parkersburg Iron & Steel Co.,17 B.T.A. 74; affirmed in Parkersburg Iron & Steel Co. v. Burnet, 48 Fed.(2d) 163. The case of E. L. Potter,20 B.T.A. 252, cited by petitioner is not in point. In that case it did not appear that the expenditures in question resulted in a permanent betterment or improvement, extending beyond the taxable year in question. The determination of the respondent will not be disturbed. Judgment will be entered for the respondent.