Jackling v. Commissioner

*312 This is an appeal from the determination of deficiencies in income and profits taxes for the years 1917, 1918, and 1919, in the amounts of $75,647.22, $16,219.20, and $11,078.12, respectively.

FINDINGS*2616 OF FACT.

The petitioner is an individual residing at San Francisco, Calif. He is a mine operator and metallurgical engineer and stands and has stood for many years at the head of his profession. The petitioner on April 1, 1918, filed an income and profits-tax return for *313 the year 1917 showing tax due thereon in the amount of $18,663.99. On the March, 1923, assessment list the Commissioner assessed additional tax against the petitioner for the year 1917 in the amount of $174,786.74. On April 13, 1923, the petitioner filed a claim for the abatement of the additional tax so assessed and on March 20, 1925, the Commissioner allowed said claim in the amount of $99,139.52, rejected it in the amount of $75,647.22, and advised the petitioner thereof by letter mailed March 20, 1925, from which letter the petitioner appealed to the Board. The petitioner did not, at any time, consent in writing that his income and excess-profits taxes for the year 1917 should be determined, assessed or collected at a date later than that prescribed by law.

During the years 1904 to 1909, the petitioner developed and put into successful operation, the mines of the Utah Copper Co., the Ray Consolidated*2617 Copper Co., and the Chino Copper Co. These mines contained low-grade copper ore which, until 1904, was considered to have no commercial value. In the years 1910 and 1911 the petitioner also took over the management and operation of the Butte and Superior copper mines located in Montana and the Nevada Consolidated copper mines located in Nevada. During the years 1911 to 1919, inclusive, he had absolute control of the direction and operation of the Utah Copper Co., the Ray Consolidated Copper Co., the Chino Copper Co., the Butte & Superior Mining Co., and the Nevada Consolidated Copper Co. In addition to these activities he was financially interested in and connected with many other business enterprises, including mining operations in various parts of the United States, Alaska, Mexico, and South America. The copper mines managed and operated by the petitioner produced, in the year 1912, 20 per cent of the total copper output of the world. The owners of these properties have received more than $250,000 in dividends.

While the Utah, Ray, and Chino mines were still under development, the petitioner found that in order to visit them as often as he should and still attend to his*2618 other business, it would be necessary for him to have a private railroad car on which he could carry on his work while traveling between the several mines and at other times when he was away from his office. He therefore in the year 1909 purchased a private car from the Pullman Company, which was fitted with office equipment, filing cabinets, desks, etc., and living quarters for himself and his secretary. It was necessary for the petitioner to have available at all times, reports, maps, blueprints and other data relating to his various business activities, and satisfactory living quarters while visiting the mines which he controlled or in which he was interested. In each of the years 1910 and 1911, he traveled on his private car in connection with his business, between 60,000 and 75,000 *314 miles. In 1912 he traveled more than 112,000 miles in connection with his business, of which more than 70,000 miles were traveled on his private car. The petitioner spent more than half of each of the years 1910, 1911, and 1912, at or traveling between the properties which he managed, or in which he was interested.

In July, 1911, there was brought to the attention of the petitioner*2619 by the bankers associated with him in his many enterprises, a large gold deposit in Alaska known as the Alaskan gold mines. This deposit was of low-grade ore which was believed to be susceptible of being treated successfully by a process similar to that which had been employed in the case of low-grade copper ore. At about the same time there was also brought to his attention a similar property in Alaska known as the Kensington gold mines. The petitioner, at the request of his banking associates, visited these properties and examined them. He advised that they be purchased and developed. The bankers were willing to finance the undertaking provided the petitioner would agree to assume full charge and control of the development and operation thereof, as he had done with the copper properties heretofore mentioned. This the petitioner agreed to do and the Alaskan gold mines were acquired, developed and started, and the Kensington mines were also acquired shortly thereafter. The petitioner was at that time constantly traveling between the several copper companies which he managed and which at that time were at the height of their development, and he decided that if he was to give*2620 the Alaska gold properties the attention and supervision that would be required to operate them successfully, he would have to visit them frequently, and that he would have to acquire a vessel of his own for that purpose, since the regular passenger boats took about four or five days to make the trip from Seattle to Juneau, and made stops which would greatly inconvenience him if he were to travel on those boats. He therefore attempted to purchase a boat which would enable him to travel more quickly between the United States and the Alaskan properties, and to work while so traveling in the same manner that his private car enabled him to carry on his work while traveling between his several copper mines and other business enterprises in the United States. He was not able to find a vessel of the kind desired and in the year 1912 he placed an order for the construction of a vessel capable of making between 12 to 14 knots per hour, and traveling in any kind of weather. The vessel was completed about October, 1913, but was subsequently altered and lengthened by the builders to make it more seaworthy and to provide adequate quarters. The vessel, which was named Cyprus, was fitted*2621 with offices and equipped practically the same as the offices and equipment on the petitioner's private car. In addition to the offices and quarters for the crew the Cyprus had quarters for about *315 12 persons. It was capable of making the trip from San Francisco to Juneau in two days and three nights. The Cyprus was provided with an elaborate system of forced ventilation so that it could travel in any kind of weather, and the auxiliary machinery was in duplicate in order that there would be slight possibility of the boat being delayed by accidents.

The Cyprus was first used to convey the petitioner and a party of his associates, who were interested in the Alaska gold mines, from Vancouver to Seattle, on their return from a visit to the Alaska properties. At that time it was found to be unsatisfactory and was turned back to the builders for certain alterations. It was next used on a trial trip from Seattle to San Pedro in ballast. The petitioner and some of his business associated boarded the boat at San Pedro and went as far as Panama. On this trip the boat proved to be still unsatisfactory and was again returned to the builders for further alteration. *2622 In June, 1914, it made a trip from Seattle to Juneau, where the properties of the Alaska gold mines were located. On this trip were the petitioner, his secretary, and a number of business associates, and the wives of some of his business associates. The trip was made by the petitioner for the purpose of looking after the development and equipment of the Alaska mine and to keep in touch with the business thereof. This trip required about ten days or two weeks.

The Cyprus was next used in August, 1914. At that time it was sent to Vancouver for the purpose of meeting the petitioner and several other directors of the Alaska gold mines and taking them to the mines. However, the World War having broken out, the trip was abandoned and the persons who intended to make the trip returned by rail to their respective business headquarters. The next trip of the Cyprus was from Seattle to San Francisco in August, 1914. The petitioner was not on board nor were there any passengers. The next time the boat was used was on an overnight trip to Santa Cruz for the purpose of having an opportunity of going over it in operation. It was then laid up with a skeleton crew for the remainder*2623 of the year.

In June, 1915, the Cyprus was again used by the petitioner. On this occasion he made a trip to Alaska, taking with him a party of business associates and Alaska gold mine officials. The trip was between Seattle and Juneau, and return, and was made in order to enable the petitioner to inspect the properties of the Alaska gold mine and the progress of their development, and to give the members of the board of directors, a majority of whom were present on the trip, an opportunity to do likewise.

*316 The Cyprus was next used by the petitioner in September, 1915. On that occasion it went from San Francisco to Seattle in ballast, and from Seattle it carried the petitioner and a party of business associates to Alaska. The trip was made by the petitioner for the express purpose of inspecting the progress of the operation and development of the Alaska gold mine property. There were on the trip, in addition to the petitioner and certain business associates interested with him in the Alaska gold mine, the petitioner's wife, whom he had married in April, 1915, and four of her friends. There were no other trips made by the Cyprus in 1915 except some*2624 incidental trips about San Francisco Bay, and a short trip to Monterey, which was made for the purpose of keeping the boat in operating condition.

The Cyprus was next used in January, 1916. On that occasion the petitioner made a trip to San Diego, Calif., which took about a week. He took with him his secretary, his chief construction engineer, his wife and some of her friends. The purpose of this trip was to enable the petitioner to catch up with some neglected business in an atmosphere more favorable than the fogs of San Francisco. The next trip made by the Cyprus was in March, 1916, and it was from San Francisco, around South America, to New York. On this trip there were the petitioner, the petitioner's secretary, his attorney, his physician, a number of business associates, the wives of some of his business associates, and the petitioner's wife and some guests with whom he had no business connections. The purpose of this trip was to enable the petitioner to look at some tin mines in Bolivia, to inspect the Braden copper mines in which the petitioner and his banking associates had acquired an interest, and to inspect certain cement properties in the Argentine, upon*2625 which they contemplated building a cement mill. The purpose of this trip was business and it would not have been made otherwise. Instead of going around Cape Horn, the petitioner and his associates left the boat at Santiago and proceeded by rail to Buenos Aires, the boat going around the Horn. At Buenos Aires the cement property of the International Portland Cement Co. was examined. The next stop was at Montevideo, where the cement properties of the Uruguay Cement Corporation were examined. The next stop was made at Rio de Janeiro, and from there the Cyprus proceeded to Havana, where the petitioner examined the properties of the Cuban Portland Cement Corporation, in which he and his banking associates had an interest. After leaving Cuba the Cyprus proceeded to New York and arrived there on May 31, 1916. It was then laid up in Brooklyn with a skeleton crew sufficient to take care of her. The Cyprus was never used again by the petitioner, except that he chartered it for hire. The rentals so received were returned as income by the petitioner.

*317 The World War had affected the petitioner's business in such a way that it became evident that neither he nor*2626 his associates would at an early date develop further interests on the Pacific coast, and the Alaska gold mine having been completely equipped and put into operation, and having proved less profitable than was expected, the petitioner had no further incentive to keep a ship for business use. He therefore put the Cyprus up for sale in the year 1916, and sold her in the year 1917 for $427,500. The vessel was acquired by the petitioner after March 1, 1913, at a cost of $751,354.35. Depreciation was sustained in the amount of $86,200 and a loss was sustained on the sale of $237,654.35. The petitioner had never owned a boat before he undertook the Alaska venture, and has never owned one since he sold the Cyprus. In his income-tax return for the year 1917, the petitioner deducted from gross income as a loss sustained on the sale of the Cyprus, the amount of $237,654.35, which deduction was disallowed by the commissioner.

During the year 1918 the petitioner continued his private business activities but at the request of the Secretary of War he also took charge of the construction of two plants for the manufacture of explosives, one at Nitro, W. Va., and the other at Nashville, *2627 Tenn. Shortly thereafter the Government turned over the Nashville plant to a private contractor and the petitioner discontinued his supervision of that plant but continued the supervision of the construction of the Nitro, W. Va., plant. This work involved the expenditure of many millions of dollars. The petitioner's compensation from the Government for his services was $1 a year and he was also allowed 5 cents per mile and $5 per day for traveling expenses and subsistence, respectively. In connection with his work for the Government the petitioner expended $29,151.37 for which he was not reimbursed.

During the calendar year 1918 the petitioner was a member of a California partnership known as the Pacific Rice Mills, he having a 37/80 interest therein. The partnership was operated on the basis of a fiscal year ending October 31. About August 15, 1917, the partnership acquired a stumpage lease on a tract of Redwood timber in California, which provided that the partnership should cut and remove the timber within a specified period, paying certain royalties therefor; that it should have the use of a lumber mill on the premises, and that at the end of the specified period the mill*2628 and all improvements thereon should revert to the lessor. The partnership expended $26,474.54 in acquiring the lease and improving the mill and the roads on the timber tract. On October 1, 1917, the partnership transferred the lease to a California corporation known as the American Lumber Co. and received in exchange all of the capital stock of the corporation, which was of the par value of $25,000. The amount of $25,000 was charged on the books of the partnership as the cost of the *318 capital stock of the corporation, and the remainder of the amount that had been expended in acquiring the lease and improving the mill was carried on the partnership books as an account receivable owing to it from the corporation. The corporation began operations in October, 1917, and shortly thereafter the partnership had an investigation made of the timber tract by a timber expert, who reported that the lease could never be operated profitably and therefore, in February, 1918, operations were abandoned by the corporation and were never thereafter resumed. After the lease was transferred by the partnership to the corporation in October, 1917, the partnership advanced as loans to the corporation, *2629 funds necessary to enable it to carry on its operations. The advances made were as follows:

The advances made after February, 1918, were for the purpose of winding up the affairs of the corporation and because of the fact that under the laws of California the stockholders were liable for the corporation's debts. At the time operations were abandoned by the corporation it had no assets except the lease hereinbefore mentioned. The lease was never sold and nothing was ever received from it. The partnership did not recover any part of the money it had invested in and advanced to the corporation. The Commissioner refused to allow the partnership any deduction from gross income for the year 1918 on account of the money it had invested in or advanced to the corporation as hereinabove set forth.

At the hearing counsel for the petitioner admitted that the deficiency in tax in the amount of $11,078.12, asserted against*2630 the petitioner for the year 1919, is correct.

OPINION.

MARQUETTE: The petitioner contends that in computing his net income for the year 1917 he is entitled to deduct the amount of the loss sustained by him in that year on the sale of the boat Cyprus; that regardless of whether said loss is deductible, collection of the additional tax assessed for 1917 is barred by the statute of limitations and that, therefore, under the provision of section 1106(a) of the Revenue Act of 1926, the liability is extinguished and there is no *319 deficiency. We are of the opinion that the latter contention is well taken.

The petitioner's income and profits-tax return for the year 1917 was filed April 1, 1918, and the additional tax for that year was assessed on the March, 1923, assessment list. Under the provisions of section 250(d) of the Revenue Act of 1921, which provides that -

(d) The amount of income, excess-profits, or war-profits taxes due under any return made under this Act for the taxable year 1921 or succeeding taxable years shall be determined and assessed by the Commissioner within four years after the return was filed, and the amount of any such taxes due under any*2631 return made under this Act for prior taxable years or under prior income, excess-profits, or war-profits tax Acts, or under section 38 of the Act entitled "An Act to provide revenue, equalize duties, and encourage the industries of the United States, and for other purposes," approved August 5, 1909, shall be determined and assessed within five years after the return was filed, unless both the Commissioner and the taxpayer consent in writing to a later determination, assessment, and collection of the tax; and no suit or proceeding for the collection of any such taxes due under this Act or under prior income, excess-profits, or war-profits tax Acts, or of any taxes due under section 38 of such Act of August 5, 1909, shall be begun, after the expiration of five years after the date when such return was filed, but this shall not affect suits or proceedings begun at the time of the passage of this Act. * * *

the Supreme Court of the United States in , held that the word "proceeding" as used in section 250(d) of the Revenue Act of 1921, includes distraint as well as suit, and that it was the intention of Congress*2632 by the clause "no suit or proceeding for the collection of any such tax * * * shall be begun after the expiration of five years after the date when such return was filed," to protect taxpayers against any proceeding whatsoever for collection of tax claims not made and pressed within five years.

The petitioner's return for the year 1917 was, as above stated, filed on April 1, 1918, and the petitioner not having signed and filed a waiver, the five-year period within which collection of the tax due on such return could be made, either by suit or by distraint, expired April 1, 1923, and collection of the tax became barred at that time. The bar to the collection of this tax was not removed by either the Revenue Act of 1924, or the Revenue Act of 1926. On the contrary the Revenue Act of 1926, by section 1106(a) thereof, provides that "the bar of the statute of limitations against the United States in respect to any internal revenue tax shall not only operate to bar the remedy but shall extinguish the liability * * *." It is therefore clear that although the taxes in question were assessed within five *320 of 1926, the liability was extinguished by section 1106(a) of that Act. *2633 It follows that there is no deficiency for the year 1917. In view of what we have said it is unnecessary for us to decide whether the loss sustained by the petitioner on the sale of the Cyprus is a proper deduction from gross income for the year 1917.

The next question is whether the petitioner in computing his net income for 1918 is entitled to deduct the amount of $29,151.37, representing expenditures made by him in that year for the purposes and under the circumstances set forth in the findings of fact. The evidence clearly shows that these expenditures were made by the petitioner in furtherance and because of the work he was doing for the Government, and that they would not have been made except for the fact that he was in the service of the Government. They were not made for the benefit of his private business, but were entirely for the benefit of the Government and in furtherance of the work which it had requested the petitioner to supervise. While the amount may seem large when considered as an expense in connection with an ordinary peace-time business, it must be borne in mind that the work which the petitioner was doing and in connection with which the expenses*2634 were incurred, was a great war-time enterprise, costing millions of dollars and carried on under the stress and pressure of war-time conditions, and in which early completion of the work was of more importance than low construction costs. We think that under the circumstances the amounts so expended by the petitioner constituted ordinary and necessary business expenses and that the deduction claimed should be allowed.

The last question is whether the Pacific Rice Mills sustained a loss in the fiscal year ended October 31, 1918, of the amount invested in and advanced by it to the American Lumber Co. If a loss was sustained by the partnership, the amount thereof is a proper deduction in computing the partnership's net income for that fiscal year and will affect the petitioner's income for the calendar year 1918. We are of opinion that the partnership, the Pacific Rice Mills, sustained a loss in the fiscal year ended October 31, 1918, in the amount claimed. The evidence shows that it invested in the stock of the corporation the amount of $25,000, and that it advanced the corporation money to continue its business until February, 1918, when having determined that the operation of*2635 the corporation would always be unprofitable, it caused the corporation to cease its activities and advanced further funds to liquidate the corporation's indebtedness. The advances after February, 1918, were made because under the laws of California the partnership, as sole stockholder of the corporation, was liable for its debts. The corporation had no assets other than the timber lease, which under the circumstances was in reality only a continuing liability. The fact that the corporation was not dissolved does not, in *321 our opinion, affect the question presented here. Its operations were permanently abandoned; it had no assets of any value, and the partnership lost its entire investment as well as the amounts it had advanced to operate and liquidate the corporation's obligations. ; . The partnership should be allowed the deductions claimed and the petitioner's income for the year 1918 adjusted accordingly.

Reviewed by the Board.

Judgment will be entered on 15 days' notice, under Rule 50.

ARUNDELL did not participate.

GREEN and LOVE dissent. *2636