Cherry v. Commissioner

*1032 This is a proceeding for the redetermination of petitioner's tax liability for the years 1922 and 1923 for which the respondent has asserted deficiencies in the amounts of $1,077.95 and $61.11, respectively.

Petitioner alleged that respondent erred in including an item of $6,060.24 as income to petitioner for the year 1922.

FINDINGS OF FACT.

The petitioner is a general partner of the firm of Cherry, Cheyne & Company and has his office at 425 East Water Street, Milwaukee, Wis.

Petitioner joined the firm of Arthur Young & Company about October, 1906, as a member of the staff in the Chicago office.

About the middle of July, 1907, petitioner came*1778 to Milwaukee to be attached to the Milwaukee office of the company. About November, 1910, he was given charge of that office. From the beginning of 1911 until the middle of September, 1922, he continued in charge of the Milwaukee office, first as resident manager and later as resident partner. The man in charge of a branch office was called a local partner or resident partner.

The compensation of petitioner was on the basis of a salary plus a percentage of the net profits, and was the same while petitioner was resident manager and resident partner.

From time to time the question of expenses came up and in 1918, Sutherland, who was the only full legal partner that Arthur Young & Company had until 1921, stated to petitioner that he thought petitioner should have an expense account because of the fact that petitioner would be spending money in connection with the business which he could specifically account for and proposed that he credit *1033 himself with $1,000 a year. In 1918 that amount was credited; in 1919, nothing was done; and in 1920 petitioner's account was credited with $2,000.

During the years in which the petitioner was an official representative of the*1779 firm, he had a current account to which were credited, from time to time, his salary and his interest in the profit and charged with any sums he drew from time to time, so that during all these years there was either a credit balance or a debit balance to his account.

Petitioner had built up the business in Milwaukee to where 25 or 26 men were employed by petitioner in the Milwaukee office.

Sometime prior to September 21, 1922, various conversations took place between one of the general partners of the company and petitioner regarding his being admitted into the company as general partner. In September, 1922, a final discussion was had in regard to the matter of general partnership. No agreement could be reached so the contract which then existed between petitioner and the firm was canceled and petitioner left the office of the company on September 21, 1922, and ten days later started in business for himself.

The written contract dated April 26, 1921, between the company and petitioner, provided in part as follows:

This agreement may be terminated prior to the expiration of its term either by the local partner or Arthur Young & Company, but the party so electing to terminate*1780 the contract shall give to the other at least three months notice in writing. In the event that this agreement is terminated by Arthur Young & Company by giving the notice as herein provided, then the partner on the termination of the contract shall be paid an amount equal to six months salary, and shall also be paid an amount equal to one-half of the share of the profits received by the local partner for the preceding year.

After the conference of September, 1922, between petitioner and a general partner of the company, petitioner received a letter dated September 21, 1922, from the company in part as follows:

Confirming our decision arrived at in our conference with you to-day, under the terms of our contract with you, we hereby give you notice that said contract is terminated forthwith, and we enclose herewith check for $1,250 for three months salary.

The check for $1,250 was received by petitioner.

At the time the contract was terminated petitioner's account showed a debit balance or overdraft on the part of petitioner of approximately $20,000.

Petitioner had personally paid expenses incurred in connection with the business of the company for which he had not been*1781 reimbursed by the company either by check or credit. Petitioner made out a bill in the net amount of $12,435, more or less in detail, covering these expenses over a period of approximately ten years, deducting *1034 the $3,000 which had been credited to him in 1918 and 1920, and presented it to his successor temporarily in charge of the office. Without authority from petitioner, some one in the office credited petitioner's account with the expense item of $12,435.

The difference between the overdraft and the net amount of expenses was approximately $7,000, which petitioner admitted he owed the company.

In making his income-tax return, petitioner did not take these expenses paid by him personally into account.

After the termination of the contract a dispute arose between petitioner and the company as to the amount of the overdraft. A suit was commenced by the company against petitioner and petitioner was examined before a court commissioner under a discovery statute of Wisconsin. After the hearing, which continued about two days, the attorneys for the company approached petitioner's attorney, Louis A. Dahlman, in regard to a settlement of the controversy. The attorneys*1782 for both parties, having the testimony of petitioner in mind, discussed the matter and arrived at a compromise settlement. The petitioner, after submission thereof to him by his attorney, approved the settlement and the following agreement was executed by petitioner and the attorneys for the company under date of May 17, 1923:

WHEREAS, the undersigned, ARTHUR YOUNG & COMPANY, by their attorneys, Bloodgood, Kemper & Bloodgood, have commenced suit against the undersigned, GLADSTONE CHERRY, on an alleged claim of thirteen thousand, two hundred thirteen dollars sixty-four cents ($13,213.64), evidenced by promissory notes and overdrafts; and

WHEREAS, the undersigned, Gladstone Cherry, makes claim that such overdraft was less in amount; and

WHEREAS, said account has been stated at seven thousand dollars ($7,000.00);

NOW, THEREFORE, in settlement and payment of said seven thousand dollars ($7000.00) the undersigned, Gladstone Cherry, has paid the sum of one thousand dollars ($1000.00) in cash, and has executed unto said Arthur Young & Company four (4) promissory notes in the sum of fifteen hundred dollars ($1500.00) each, dated December 29, 1922, payable on July 1, 1924, July 1, 1925, July 1, 1926, and*1783 July 1, 1927, respectively, with interest at six per cent (6%) per annum, which said notes are endorsed by G. H. Cheyne, with waiver of notice of protest endorsed thereon, which said payment and said notes are to be received by said Arthur Young & Company in full payment and satisfaction of said claim heretofore referred to; it being understood and agreed, however, that if any of said notes shall not be paid at maturity, all of said notes shall become due and payable.

Six thousand sixty dollars and twenty-four cents is one-half of the amount of profits which petitioner received from the company in 1921.

The amount of income received from the company reported by petitioner in his 1922 income-tax return was $13,336.97, and the *1035 amount reported by the company on its information return, Form No. 1099, was $19,397.18, consisting of the following:

OPINION.

MCMAHON: The contention of respondent is that an item of $6,060.24 credited to the account of petitioner on the books of account of Arthur Young & Company, his employer, should*1784 have been included as income received by petitioner in 1922, i.e., the total amount of income received by him from the company in 1922 should have been $19,397.18, as appears on the information return, Form No. 1099, filed by Arthur Young & Company, instead of $13,336.97 as reported by petitioner on his income-tax return for that year. In support of his determination of deficiency, it is further contended by respondent that the company terminated the contract existing between it and petitioner and under the terms of the contract the company was required to pay to petitioner, in the event it terminated the contract, one-half of the profit paid to petitioner the preceding year; that this item of $6,060.24 represents such profits; and that the company, having terminated the contract, in compliance therewith, credited the $6,060.24 to petitioner's account, thereby reducing the amount of the overdraft.

Petitioner contends that the contract was mutually terminated; that the item of profit did not at any time enter into his calculation of the amount he owed the company; that the item of profit was not considered by him as due him under the contract; that neither he nor his attorney considered*1785 the item in the negotiations for settlement or in the compromise or settlement of the suit against petitioner commenced by the company; that he did not question the amount of the overdraft of approximately $20,000; that the only difference between petitioner and the company was the allowance, as a credit against the overdraft, of the business expense of the company paid by petitioner in the net amount of $12,435; that settlement was made allowing practically all the expenses claimed; and that he approved the settlement because the agreed amount of the settlement was approximately the amount he admitted that he owed the company.

The testimony of petitioner that he did not actually receive $6,060.24 from the company is undisputed.

In our opinion, in view of the undisputed testimony of petitioner and the letter of September 21, 1922, the contract was mutually terminated them. The opening phrase in the letter: "Confirming *1036 our decision arrived at in our conference with you today" is clear and unambiguous and can only refer to a mutual decision arrived at in a conference between the parties.

Although respondent contends that the company credited the item of profit*1786 to petitioner's account under the terms of the contract, there is no evidence that petitioner was paid or credited with an amount equal to six months salary, which was the first stated amount in the contract the company was required to pay to petitioner in the event it terminated the contract. Petitioner apparently was paid a salary of $5,000 a year. It appears that the company paid to the petitioner salary for the year 1922 only.

Respondent contends that this item of $6,060.24 represents profit. However, it is to be noted that, in itemizing the total amount of income paid to petitioner by the company, an amount of $8,336.97 is specified as "Share of profits" and the amount of $6,060.24 is specified as "Amount in settlement of good will, etc., under contract." The part of the contract in evidence does not refer to or provide for an allowance to petitioner for good will.

The agreement of settlement entered into between petitioner and the company discloses that it commenced suit against petitioner on a claim of $13,213.64, and not on the claimed overdraft of $19,273.88. The difference between the amount of the overdraft and the amount claimed in the suit is $6,060.24.

No*1787 evidence was presented by either party as to the nature of the credits and debits which created the overdraft of approximately $20,000. There is no evidence from which we can determine the reason for the change in the amount of overdraft first claimed by the company and the amount claimed in suit. In view of the fact that sufficient evidence has not been presented from which we can determine that the respondent was in error in his determination of the deficiency, we must approve his determination of the deficiency for the year 1922.

It is alleged in the petitioner and admitted in the answer that the taxes in controversy are income taxes for the years 1922 and 1923. However, the petitioner has alleged no error in the respondent's determination for the year 1923 and no evidence has been adduced to show that the respondent did err in his computation as to the year 1923. Such determination of the respondent as to the year 1923 is therefore approved.

Judgment will be entered for the respondent.