A. L. Killian Co. v. Commissioner

A. L. KILLIAN COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. A. L. Killian Co. v. Commissioner Docket No. 98691. United States Board of Tax Appeals 44 B.T.A. 169; 1941 BTA LEXIS 1372; April 10, 1941, Promulgated *1372 1. In 1920 petitioner purchased real property for $100,000. It paid $20,000 in cash and gave notes for the remaining $80,000. When the notes fell due in the taxable year 1935 the property had depreciated in value to less than the remainder due and petitioner offered to deed the property back to the vendor. The vendor declined but offered to reduce the purchase price by $20,000 and to accept $5,000 in cash and new notes for the remainder. Petitioner accepted, paid $5,000 in cash, and executed new notes for the remaining $55,000. The old notes were canceled. Petitioner was solvent. Held, the transaction constituted a reduction in the purchase price of the property and did not result in taxable gain to petitioner. Hirsch v. Commissioner, 115 Fed.(2d) 656. 2. Under the facts shown petitioner is entitled to deduct as business expenses certain contributions made to the Y.M.C.A. and the chamber of commerce. George E. H. Goodner, Esq., for the petitioner. Benjamin L. Bird, Esq., for the respondent. TURNER *169 The respondent determined a deficiency in income tax for 1935 in the amount of $790.11. The principal*1373 question is whether petitioner realized taxable income as the result of a transaction whereby the original purchase price of its land and building, a portion of which was evidenced by notes, was reduced during the taxable year by the cancellation of the said notes and the execution of new notes in a lesser amount. Another issue is whether petitioner is entitled to deduct as ordinary and necessary business expenses certain contributions made by it to the Y.M.C.A. of Norfolk, Nebraska, and the Chamber of Commerce of Norfolk. FINDINGS OF FACT. During the taxable year 1935 petitioner was a corporation doing a general mercantile business at Norfolk, Nebraska. In September of that year it was dissolved, but continued as a body corporate for the purpose of winding up its affairs. Its income tax return for 1935 *170 was filed with the collector of internal revenue for the district of Nebraska. In 1920 petitioner purchased lot 8, block 3, Mathewson's Addition to Norfolk, Nebraska, with a three-story brick building located thereon, from Many Mathewson for a consideration of $100,000. Petitioner paid $10,000 in cash in 1920 and $10,000 in 1921, and gave the vendor two notes*1374 of $20,000 each and one for $40,000, all due February 1, 1935. The notes were secured by a purchase money mortgage on the property. When the notes became due in 1935 the value of the property had shrunk to less than the $80,000 obligation outstanding against it and petitioner offered to deed it back to the vendor in full settlement of its obligation. The vendor refused the offer and in turn offered to reduce the purchase price by $20,000 and to accept $60,000 in full settlement, provided petitioner would pay $5,000 in cash and execute new notes for $55,000, secured by a new mortgage on the property. Petitioner accepted the offer, paid $5,000 in cash, and executed and delivered new notes for $55,000 and received back its old notes for $80,000. At the time of this transaction in 1935 the fair market value of the property was not in excess of $60,000. Petitioner had large outstanding obligations at that time but was not insolvent. The respondent treated the $20,000 reduction in the purchase price of the property as the cancellation of indebtedness resulting in the realization of taxable income in that amount. A number of years prior to 1935 the businessmen of Norfolk organized*1375 the Y.M.C.A. Petitioner was a regular contributor to the association and in 1935 contributed $200. The association was a regular customer of petitioner and purchased from it 85 percent of the furniture, rugs, and draperies which it used, 75 percent of all other furnishings such as linens and bedding, and all the linoleum. In 1935 petitioner realized more than $200 in profits from such business. In 1935 petitioner was a member of the Chamber of Commerce of Norfolk, Nebraska, a city of 10,000 population. This organization had an annual budget for promoting the business interests of Norfolk, such as soliciting conventions and festivals and encouraging the construction of good roads into the city. In 1935 petitioner paid $75 to this organization as its share of the budget. During that year the chamber of commerce brought 15 to 20 conventions to Norfolk, which resulted in more trade in petitioner's department store. During one convention alone petitioner's sales more than doubled those for a normal period. Petitioner's payment to the chamber of commerce was made to aid it in conducting its activities and petitioner *171 derived more profit from increased business brought*1376 about by such activities than its contribution to the organization. The petitioner considered it good business to make the contributions to the chamber of commerce and the Y.M.C.A. and petitioner's general manager regarded them as ordinary and necessary business expenses. They were deducted as such in petitioner's return for 1935, but the deduction was disallowed by the respondent. OPINION. TURNER: The petitioner contends that the transaction in 1935 whereby its notes in the sum of $80,000 given as part of the purchase price of the Mathewson property were canceled upon the payment of $5,000 in cash and the execution of new notes in the sum of $55,000 constituted an adjustment or reduction in the purchase price of the property; that the value of the property at that time had shrunk to $50,000; and that such transaction did not result in the realization of taxable income, but only in a reduction of liability and a consequent diminution of loss. It relies on ; *1377 ; appeal dismissed on motion of ; and ; affd., . Petitioner also quotes an excerpt from , which involved substantially different facts but wherein the Supreme Court said that "one does not subject himself to income tax by the mere purchase of property, even if at less than its true value, and that taxable gain does not accrue to him before he sells or otherwise disposes of it." The respondent contends that the transaction in 1935 constituted a cancellation of a part of petitioner's indebtedness; that its obligation to pay this indebtedness was absolute; that it was not insolvent or financially embarrassed; that the property remained in its possession and continued to have a fair market value of not less than $60,000; and that it therefore realized taxable income in the amount of the canceled indebtedness, or $20,000. Among other cases he cites *1378 ; ; certiorari denied, . He relies particularly on , and . We think the petitioner's contention must be sustained. We are convinced that the transaction in 1935 amounted to nothing more than a reduction in the purchase price of the property. While it did result in a reduction in the amount of petitioner's indebtedness, that fact standing alone does not establish that petitioner realized taxable *172 income. All the facts must be considered in the determination of that question. The present case is distinguishable from and is not controlled by In that case the value of the property at the time of the transaction was sufficient to pay the indebtedness, whereas in the present case the value of the property was not in excess of the reduced purchase price. This factual distinction was recognized in the Coddon case, supra, and the very question*1379 now present in the instant case was left open in that case. , is likewise distinguishable. The respondent states on brief that no distinction is perceived between the present case and the recent case of We agree with that statement, but since the filing of briefs our decision in that case has been reversed by the . There the petitioner purchased real property for $29,000. Partial payments were made until the taxable year, at which time the balance remaining due was $15,000. At that time the property had depreciated in value to $8,000 and petitioner began negotiations with the mortgagee for settlement. He offered to convey the property to the mortgagee in full satisfaction of the debt. The creditor refused, but said he would take $8,000 in payment of the balance of $15,000 remaining due. This proposal petitioner accepted and upon receipt of $8,000 the mortgagee released the mortgage. The court held that the cancellation of that portion of the indebtedness did not result in income, but was*1380 equivalent to a voluntary reduction of the purchase price, and that gain or loss would not result to petitioner until he disposed of the property. Following that decision, we hold that the transaction in question amounted to a reduction in the purchase price of the property and resulted in no taxable gain to petitioner. On a similar set of facts the same conclusion was reached in See also , and . The petitioner contends that its contributions to the Y.M.C.A. and the chamber of commerce were items of ordinary and necessary expenses paid during the taxable year in carrying on its trade or business and hence are deductible under section 23(c) of the Revenue Act of 1934. The respondent disallowed the deductions on the ground that they were "donations" and not ordinary and necessary business expenses. We think the respondent erred in disallowing these deductions. The petitioner has shown that by making the contributions it was believed an increase in business would result and that a direct benefit *173 to its business in excess of the*1381 amounts contributed did result. We hold that these two items are deductible as business expenses. ; ; ; First National Bank in ; and . The taxpayers made no such showing in the cases relied upon by the respondent. Another issue involving a bad debt deduction was waived by petitioner at the hearing. Decision will be entered under Rule 50.