Glendinning, McLeish & Co. v. Commissioner

GLENDINNING, MCLEISH & COMPANY, INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Glendinning, McLeish & Co. v. Commissioner Docket Nos. 29819, 37426, 44354. United States Board of Tax Appeals 24 B.T.A. 518; 1931 BTA LEXIS 1629; October 28, 1931, Promulgated *1629 BUSINESS EXPENSES. - Certain deductions claimed by the petitioner as ordinary and necessary business expenses disallowed because the contract under which such payments were made provided for repayment to petitioner of such amounts. George M. Cohan,11 B.T.A. 743; 39 Fed.(2d) 540; H. R. MacMillan,14 B.T.A. 1367; Henry F. Cochrane,23 B.T.A. 202, followed. William E. Russell, Esq., and Joseph E. Miller, Esq., for the petitioner. Harold Allen, Esq., for the respondent. BLACK *518 These proceedings were consolidated for hearing and decision. They involve deficiencies of $1,323.60 for the year 1922 and $386.16 for 1923, in Docket No. 29819; $2,731.25 for the year 1924 and $3,022.50 for 1925, in Docket No. 37426; and $3,276.50 for the year 1926, in Docket No. 44354. The petitioner alleges that the respondent erred in disallowing certain business expenses claimed by it, arising *519 under a contract by which the petitioner made certain yearly payments to Glendinning, McLeish & Company, Ltd., of Belfast, Ireland, a foreign corporation, in performance of a guaranty of the*1630 dividends on its preferred stock. In Docket No. 44354, respondent disallowed $270.32 of the depreciation claimed by petitioner. Petitioner does not contest this disallowance and it therefore is not in controversy. FINDINGS OF FACT. The facts were all stipulated and the parts of the stipulation regarded as material to the decision herein, follow: The taxpayer was organized as a New York corporation on January 31, 1918. For approximately forty-seven (47) years prior to that date, the business of wholesale trade in linen handkerchiefs principally of the "novelty" class, had been conducted in New York by Glendinning, McLeish & Company, Limited, a British company of Belfast, Ireland, hereinafter called the Belfast company. The taxpayer company has been one of the leading handkerchief importers in the United States. Since its incorporation, it has been the sole outlet in the United States for the Belfast company's output. The bulk of the purchases made by the New York company during the tax years in question, 1922 to 1926, inclusive, was obtained from the Belfast company, for which it had exclusive representation in the United States. Neither company owns a single share*1631 of stock in the other company. Some stockholders of the taxpayer company are also stockholders in the Belfast company, but not in sufficient holdings to constitute affiliation. Shortly after the incorporation of the taxpayer company on January 31, 1918, a written agreement was entered into between taxpayer company and the Belfast company on February 11th, 1918, effective as of the date of the incorporation of the taxpayer company. This agreement has ever since remained in effect and is as follows: The Incorporators and Directors of Glendinning, McLeish & Company, Inc., No. 13 East 22nd Street, New York, N.Y. GENTLEMEN: The undersigned offer to sell, assign, transfer and set over, or cause to be sold, assigned, transferred and set over to your corporation, all that portion of the business of importing and selling linens and textile fabrics heretofore carried on by Glendinning, McLeish & Company, Limited, a corporation organized and existing under and by virtue of the laws of the United Kingdom, in the United States of America, so that you may take over that business as a going concern as of January 1, 1918. This sale shall include all stock and merchandise in this*1632 country and all machinery, fixtures and appurtenances formerly owned by said company, its bills and accounts receivable, and all its tangible and intangible property, including good will, trade marks and trade names used in connection with or appurtenant to its said business in this country. This offer is made upon your acceptance of the following terms and conditions: (1) You are to assume and pay the notes and accounts payable of Glendinning, McLeish & Company, Limited, arising out of its business *520 conducted in the United States of America, as they were of January 1, 1918, not exceeding the sum of $110,000. Such indebtedness shall not include any indebtedness appearing on the books as being due from the New York branch office of said Company to the home office. (2) You will assume and pay all of said Company's obligations under any unexpired agreements to which it is party, in connection with its business in the United States, including lease of store, and you will fully discharge its obligations and responsibilities in connection therewith, and hold it and us harmless from any liability by reason thereof. (3) Upon your acceptance of this agreement said company*1633 will withdraw its designation of an officer or person upon whom service of process against it may be made, as provided by law, and will surrender its authority to do business in this State, and will cease to do any business within the United States. (4) In consideration of our selling and transferring or causing to be sold and transferred, to your company, the property above described, you shall pay to us or our nominees, in the manner hereinafter stated, the fair and reasonable value of the same which shall be determined upon inventory and appraisal now being conducted by us. The property to be transferred is as follows: [Here follows description of property to be conveyed, which description is not regarded as material in this proceeding.] * * * [Here follows statement of consideration in part which the purchaser was to pay - this part not regarded as material to the decision of any issue in this proceeding.] * * * (6) In consideration of the sale and transfer to your company of said property, you will further agree that you will, at our request, at any time within one year from this date, (a) Guarantee the payment of all or any part of the five per cent cumulative*1634 dividends upon the outstanding preferred stock of Glendinning, McLeish & Company, Limited, to an amount not exceeding the sum of 5,000 pounds yearly, and (b) We agree that if said company is wound up, and there shall, upon such winding-up or dissolution, be insufficient assets of Glendinning, McLeish & Company, Limited, to pay the preferred stockholders of said company the par value of the preferred stock then outstanding, that you will make good any deficiency not exceeding 100,000 pounds. We agree that in no event shall your company be requested or required to make any guarantee or assume any obligation with regard to or in connection with the preferred stock of said company in excess of the contract obligations of said company to its preferred shareholders, and that your company shall in no event be obligated to advance any sums of money whatsoever to said Glendinning, McLeish & Company, Limited, or to its shareholders, in the event of dissolution, unless and until there shall be a deficiency remaining after all of the assets of Glendinning, McLeish & Company, Limited, shall have been first exhausted. We agree further that we will procure from Glendinning, McLeish & Company, *1635 Limited, its agreement to reimburse you for any expenditures which you may make, pursuant to this clause of this agreement, on its behalf, or on behalf of its shareholders. (7) If you accept this offer to sell and transfer the property abovementioned, on the terms and conditions herein specified, we agree that we will accept, in satisfaction of the payment and purchase price thereof: *521 (a) The capital stock of your company to the par value of the amount ascertained and determined to be the fair and reasonable value of the property transferred to you, as above provided, to be issued by your company to us, or our nominees, said amount to be increased or decreased and pursuant to subsequent inventory as in Clause (6) hereof provided, and (b) Your agreement to guarantee the payment of the cumulative dividends upon the preferred stock of said company and to make good any deficiency, in the event of winding up, which there may be upon said preferred stock, as hereinabove set forth, not exceeding, however, the total of the amounts hereinabove specified. (8) This agreement on our part, and its acceptance by you, shall take effect from and after the date hereof, subject*1636 to the following condition and limitation, to-wit: within one year from this date, we agree to obtain the assent and ratification of said company and its preferred and common shareholders to this agreement and to deliver to you such assurances, instruments and things as in your opinion, or in the opinion of your counsel, it may be necessary or required to vest in you title to the property hereby conveyed, free and clear of all liens and incumbrances whatsoever, except as herein provided. Your acceptance of this offer, indorsed upon the foot of this letter, will constitute the agreement between us. Yours very truly, (Sgnd) GEO. MCLEISH (Sgnd) JOS. B. HANNA. The balance sheet showing assets taken over and liabilities assumed by the taxpayer company under the terms of the written agreement, is as follows: OPENING BALANCE SHEET. ASSETS: Cash $23,912.55 Accounts Receivable Trade 80,444.86 Stock N.Y. Hemstitching Co 6,800.00 United Kingdom Notes 19,814.00 1st Liberty Bonds 5,200.00 2d Liberty Bonds 50,000.00 Liberty Bond Interest Account 400.00 Merchandise Inventory 280,427.03 Furniture and Fixtures 2,255.26 Unexpired insurance 384.20 469,637.90 LIABILITIES: Notes Payable 55,000.00 Accounts Payable 53,362.74 Reserve for Marine Insurance .00 Bad Debts 1,075.16 Capital Stock 360,200.00 Surplus .00 TOTAL LIABILITIES & CAPITAL 469,637.90 *1637 *522 By subsequent course of dealing, the terms of the written instrument of February 11th, 1918, were supplemented in the following particulars: (a) The taxpayer company received a discount of 5% off list prices of the Belfast company on all purchases from the Belfast company; such purchases averaged more than $300,000 annually during the period covered by these appeals. (b) The Belfast company supplied the services of a "style originator" at a substantial salary, without charge to the taxpayer company. (c) Inventory losses in raw materials purchased to manufacture orders of the taxpayer company, incurred through falling markets, were absorbed by the Belfast company. The amounts of such losses averaged $10,000. annually during the years covered by these appeals. Under paragraph "6", Subdivision "A" of the contract of February 11, 1918, the taxpayer company paid the following amounts to the Belfast company and charged the same to operating expense for the respective years: — 1922 — $10,588.80 — 1923 — 3,089.23 — 1924 — 21,850.00 — 1925 — 23,250.00 — 1926 — 24,000.00 The foregoing amounts paid by the taxpayer company to the Belfast company were entered*1638 on the taxpayer company's books as expenses for the years in which they were paid. No part of these payments has been reimbursed to the taxpayer company. The foregoing amounts were claimed as deductions from gross income on the taxpayer company's returns for the years named. OPINION. BLACK: The sole issue in these cases is the respondent's disallowance as a deduction from petitioner's gross income of the payments made by the petitioner to the Belfast Company, as set forth in the stipulation of facts. It is contended by the petitioner that these payments were ordinary and necessary expenses paid or incurred during the taxable years in carrying on business and deductible as such and that petitioner was obligated to make such yearly payments under paragraph 6(a) of the contract set out in the findings of fact, as a sort of royalty to the Belfast Company for its good will and the use of its name and other benefits which it received from the Belfast Company, both under the contract and in subsequent dealings with the company. On the other hand, it is contended by the respondent that such payments were not business expenses, but were dividend payments or else payments made as*1639 a part of the required purchase price of the property and were not required under paragraph 6(a) of the contract, except for one year after the date of the contract. Respondent further claims that petitioner was entitled to reimbursement of these payments by reason of the last four lines of paragraph 6 of the contract, which reads thus: "We agree further that we will procure from Glendinning, *523 McLeish & Company, Limited, its agreement to reimburse you for any expenditures which you may make, pursuant to this clause of this agreement, on its behalf, or on behalf of its shareholders." Respondent urges that by reason of this alleged right to reimbursement, the payments are not allowable as deductions, even if otherwise they would meet the test of deductible expenditures. Petitioner, on the other hand, contends that this clause of the agreement relates only to subparagraph 6(b) and has nothing to do with 6(a) and that petitioner has never had any agreement to be reimbursed for payments made by it under subparagraph 6(a) to the Belfast Company in making good its guaranty of the payment of dividends on the Belfast Company's preferred stock. *1640 We will first consider this phase of the controversy before passing upon the other contentions made with reference to these payments. It is well settled by the decisions of this Board that, where the taxpayer makes expenditures under an agreement that he will be reimbursed therefor, such expenditures are in the nature of loans or advancements and are not deductible as business expenses. ; affirmed on this point, ; ; . An examination of paragraph 6 of the contract will disclose that petitioner obligated itself to do two things: In (a) it obligatedp itself to make good any deficiency in the dividends on the preferred stock of the Belfast Company, and in (b) it agreed to make good up to 100,000 pounds any deficiency in the payment of the par value of the preferred stock, if and when the Belfast Company was liquidated. It seems to us that the two concluding subparagraphs of paragraph 6 of the contract have reference to both (a) and (b) of that paragraph rather than to (b) only, as contended by petitioner. It is*1641 true that it is stipulated by the parties that the payments involved in this proceeding was made under paragraph 6(a) of the contract of February 11, 1918, and that no part of these payments has been reimbursed to the taxpayer company. These facts, however, do not remove from the case the evidence which we have before us - that petitioner has a contract under which it is entitled to be repaid these payments. The stipulation shows that such contract is still in force and effect. In referring to the agreement of February 11, 1918, the stipulation says: "This agreement has ever since remained in effect." Petitioner argues, first, that the contract does not call for reimbursement of payments made under 6(a) of the contract, but even if it does, such provision of the contract has been abrogated by the course of dealing between the parties. We have no evidence that this clause of the *524 contract has been abrogated by agreement between the parties and we have no authority to surmise that such was the case. The determination of the deficiencies made by respondent is presumed to be correct and the burden of proof of showing to the contrary is on petitioner. *1642 ; ; . We hold that the contract under which such payments were made gives petitioner the right to be reimbursed for such expenditures, and that on that account they are not deductible. Our holding in this respect makes it unnecessary for us to decide whether such payments would, under ordinary conditions, have been allowable deductions under authority of (a case which petitioner strongly urges in support of its contention that the deductions should be allowed). Reviewed by the Board. Decision will be entered for the respondent.