Textile Mills Sec. Corp. v. Commissioner

*624 This proceeding involves a deficiency in income tax determined by the respondent in the amount of $14,085.27 for the year 1931.

All issues raised in the petitioner have been disposed of by stipulation with the exception of certain expense items incurred by petitioner in the years 1929 and 1930, the disallowance of which by the respondent has reduced the amount of net loss claimed and carried forward by the petitioner to the taxable year. The expenses in question were incurred by the petitioner in its efforts to procure the enactment of legislation which would permit certain aliens to recover property seized by the United States during the World War under the Trading with the Enemy Act, and the question presented is whether or not the expenses so incurred constitute allowable deductions within the meaning of the statute.

FINDINGS OF FACT.

This proceeding was submitted upon a stipulation of facts and the stipulation is adopted as our findings herein. We shall set forth so much of the facts as is considered necessary for discussion of the issues to be determined.

The petitioner was incorporated in 1924 under the laws of the State of Delaware. *844 Its income tax return for the taxable year was filed with the collector of internal revenue at Newark, New Jersey. Its books were kept and its returns for the years here under consideration were made on the accrual basis.

During the years material to this proceeding the petitioner's business activities included trading in securities, investing in domestic and foreign properties, and acting as agent for foreign and domestic principals. All of petitioner's officers had official or stockholding connections with one or more textile manufacturing corporations.

In 1924, through the personal contact of its officers with certain German textile interests whose properties in the United States had been seized during the World War under the provisions of the Trading with the Enemy Act, the petitioner was employed to represent *625 those interests in the United States with a view to procuring legislation which would permit the ultimate recovery of their properties. The properties involved had an estimated aggregate value of $60,000,000 and in the event of success the petitioner was to receive as compensation 10 percent of the amount or value of the property recovered. All costs*845 and expenses incident to the undertaking were to be borne by petitioner. The contract or contracts were to terminate at the close of the second session of the Sixty-ninth Congress unless in the meantime appropriate legislation had been enacted.

In carrying on this campaign to procure the enactment of the desired legislation, the petitioner engaged the services of various persons and organizations, including Ivy Lee, Warren F. Martin, J. Reuben Clark, and F. W. Mondell. The Ivy Lee organization was employed to handle matters of publicity, including the making of arrangements for speeches, contacting the press, in respect of editorial comments, and news items. Warren F. Martin, a former special assistant to the attorney general and J. Reuben Clark, a former solicitor of the State Department, were employed in connection with the preparation of propaganda concerning international relations, treaty rights, and the historical policy of the United States relative to enemy-owned property in time of war. F. W. Mondell, an attorney and a former member of Congress, was employed in connection with the preparation and making of proposals and suggestions to members of Congress, "the aim of*846 which was to promote the speedy enactment of the desired legislation." Subsequently Mondell appeared as attorney before the Alien Property Custodian and certain courts on behalf of the alien individuals whose claims were in controversy.

A bill for the settlement of war claims was introduced and passed the House of Representatives during the second session of the Sixty-ninth Congress and was favorably reported to the Senate by the Senate Finance Committee, but had not passed that body when Congress adjourned on March 4, 1927.

Thereafter and prior to the opening of the first session of the Seventieth Congress on December 5, 1927, the petitioner undertook to negotiate new contracts similar in terms to those which had expired. Its efforts resulted in the procuring of new contracts from many of its former principals, but on terms less favorable than in the original contracts. The new contracts provided for the payment of 3 percent of the amount or value of property received by the claimant and for an additional 2 percent in respect of money or property paid over to the claimant within one year after enactment of the desired legislation. The new contracts also, as previously, required*847 that the petitioner pay all costs and expenses incurred in its performance *626 thereof. The new agreements were to run for a period of three years beginning with January 1, 1928.

Under the original contracts petitioner had incurred considerable expenses in the form of fees and compensation. In several instances definite arrangements or agreements had not been made with the individuals employed as to the amounts of fees or compensation to be paid for their respective services.

Without further arrangement or agreement, Lee, Martin, Clark, and Mondell continued their work after the close of the second session of the Sixty-ninth Congress on March 4, 1927. The objective of the campaign so carried on by the petitioner was accomplished during the Seventieth Congress by the passage of the "Settlement of the War Claims Act of 1928", subsequent to which no services were rendered to the petitioner by Lee, Martin, and Clark. Mondell continued to render services, however, during the remainder of the year 1928 and thereafter. These services were legal services, including appearances before the Alien Property Custodian and certain courts, as previously described.

After the close*848 of the Sixty-ninth Congress on March 4, 1927, and during the latter part of 1928 petitioner made various payments to Lee, Martin, Clark, and Mondell, pursuant to the informal agreements or understandings above described, none of which payments are in controversy in this proceeding.

Early in 1929 petitioner received a bill from Ivy Lee for $50,000 for services rendered in connection with the contracts mentioned. The amount claimed was in addition to the sums already paid. There was some controversy over the amount, but after discussion of the matter Lee was advised that his claim for additional compensation had been recognized and that payment would be made. He was thereupon credited upon the petitioner's books with the sum of $50,000 and payments in respect of that sum were subsequently made. In its return, however, petitioner claimed as a deduction only $45,000 of the $50,000 item just described. In the same year and under circumstances similar to those set forth with respect to the compensation credited to Lee the account of Mondell was credited with the sum of $46,000.

In 1930, Warren F. Martin and J. Reuben Clark were credited on petitioner's books with sums of $40,000*849 and $7,500, respectively, as compensation for services rendered in connection with the above contracts and the amounts so credited were taken by the petitioner as deductions on its 1930 return.

In its return for the year 1929 petitioner reported a net loss of $101,405.56 and for the year 1930 a net loss of $134,797.93. For 1931, the year before us, the petitioner brought forward from 1929 a net *627 loss in the amount of $94,873.48 and from 1930, a net loss, as adjusted, in the amount of $30,118.91, and reported on its return for 1931 a net loss in the amount of $7,615.15.

In determining the deficiency herein the respondent reduced the net losses shown on the 1929 and 1930 returns by the disallowance of the deductions claimed by the petitioner in respect of the amounts credited Lee, Mondell, Martin, and Clark, as outlined above. It is now agreed between the parties that the amount credited to Mondell in 1929 was for legal services rendered "in connection with particular claims of petitioner's principal, after the enactment of the 'Settlement of War Claims Act of 1928'" and the deduction of that amount has been conceded by the respondent as proper. The respondent also*850 concedes that the amount credited to Ivy Lee in 1929 and the amounts credited to Martin and Clark in 1930 were properly accrued on the petitioner's books for those years, but does not concede that they were deductible. The deductibility of these items is the only matter left for our determination. In that respect it is stipulated that if the said items do not represent allowable deductions the correct deficiency for the year 1931 is $10,186.18 but if they do represent allowable deductions there is no deficiency for that year.

OPINION.

TURNER: In his notice of deficiency the respondent rested his disallowance of the deductions here in issue on the provisions of article 262 of Regulations 74, ¹ which states in part that "Sums of money expended for lobbying purposes, the promotion or defeat of legislation, the exploitation of propaganda, including advertising other than trad advertising, and contributions for campaign expenses, are not deductible from gross income." He makes no claim that the acceptance of employment such as is involved in this proceeding was not within the scope of petitioner's powers or business. Neither does he make any claim that the expenses incurred were*851 not in fact ordinary and necessary in performing the services required of it under its contract. He now rests his claim wholly upon the decision *628 of the United States Circuit Court of Appeals for the Ninth Circuit in , which reversed the Board and approved the regulation cited. At the hearing his counsel stated that "the question in one sentence is whether the Board will follow that decision or whether it won't."

*852 The petitioner admits that the expenses in question were incurred for services relating solely to the promotion of legislation, but claims that they were ordinary and necessary to the performance of the services required under its contracts and were therefore allowable deductions under the statute, section 23(a) of the Revenue Act of 1928. ²

In , the court states that the statute is "ambiguous because it makes no determination of what is or is not an 'ordinary and necessary' expense" and holds that article 262 of Regulations 74, which limits "the sweeping terms of the statute by prohibiting the deduction" of the expenditures made to avert the enactment of legislation unfavorable to the taxpayer is controlling since the statutory provision allowing the deduction of ordinary and necessary expenses has been reenacted without change in all of the revenue acts after*853 the Revenue Act of 1918, under which the regulation in question was first promulgated. The court further states that the Board in , and , as well as in the case there under consideration, took the view that the expenditures must have been for some illegal purpose to place them outside the provisions of the statute. It was held that such a conclusion was unsound in that it gave no consideration to the effect of the regulation and was equivalent to reading something into the regulation which could not there be found.

The petitioner questions both the application of the decision in , to the facts in the instant case and the reasoning of the court as to the purpose and effect of the regulation. As to the latter, it is argued that article 262 is not an interpretation of the term "ordinary and necessary expenses", but has to do with contributions which depend for their allowance as deductions upon an entirely different provision of the statute, and under such circumstances that Congress can not be said to have*854 approved any such limitation or meaning of the term "ordinary and necessary expenses", as the respondent claims and the court has determined. While it is true that the article in question does appear in the Commissioner's regulation following the quotation of *629 that provision of the statute, section 23(n), ³ which deals with the allowance of charitable and other contributions as deductions, it is to be noted that the statute makes no allowance therein for the deduction of contributions or gifts made by a corporation, and the apparent purpose of the article is to show that, while expenditures made by a corporation may not be deducted as contributions after the manner of an individual taxpayer, such expenditures are proper deductions as "ordinary and necessary expenses" where they are made legitimately and for the purpose of procuring a direct benefit "to the corporation as an incident of its business." In other words, the article clearly and obviously shows that the test of deductibility of expenditures by corporations is to be found in that portion of the statute governing the deductibility of ordinary and necessary expenses rather than in the provision of the statute covering*855 the deductibility of contributions. Accordingly, the argument of petitioner that the Commissioner's regulation has no relation to the provision of the statute providing for the deduction of "ordinary and necessary expenses" must be regarded as unsound.

On the facts a distinction can be drawn between the instant case and , but in our opinion the distinguishing facts do not take the instant case outside the ruling of the court. It is true that in Sunset Scavenger Co. v. Commissioner the legislation in respect of which the expenditure was made would have directly affected the business in which the taxpayer was engaged, while in the instant case the petitioner was not promoting or opposing legislation which directly affected the business in which it was regularly engaged, but, as an agent, was seeking to promote legislation for the benefit of others and its*856 compensation was to be received for services rendered as such agent and not from the possible effect the legislation might have on petitioner's business. In other words, the petitioner was lobbying in behalf of legislation for its own benefit only in so far as it would receive compensation for such lobbying activities from the parties who were to be directly affected and benefited. The activities, however, were none the less lobbying activities and the language of the regulation is sufficiently broad to cover the expenditures of both principal and agent. We are, therefore, unable to find the distinction claimed by the petitioner between the instant case and that of the Sunset Scavenger Co.

*630 Accordingly, if we conclude, as did the court in Sunset Scavenger Co. v. Commissioner, that the regulation is to be applied in all cases where the activities in respect of which the expenditures are made may reasonably be said to fall within the terms of the regulation, we need go no further, even though the expenses are in fact ordinary and necessary to the conduct of the taxpayer's business. In applying the statute and the regulation, however, the Board has consistently*857 considered the facts in each particular case and has reached its conclusion as to whether or not the expenditures were in fact ordinary and necessary. See particularly , and With all due respect to the honorable court, we feel that the facts herein are such that obligatory application of the regulation would result in misapplication of the statute in the instant case. Compare , wherein it appears that there was some question as to the legality of the business in which petitioner was engaged, and , wherein it does not appear that the activities of the Southern Tariff Association, to which the petitioner made contributions, had a direct bearing on petitioner's business.

In section 12 of the Trading with the Enemy Act, under which the property sought to be recovered was seized, it is stated that "after the end of the war any claim of any enemy or of an ally of enemy to any money or other property received and held by the Alien Property Custodian or deposited in the United States*858 Treasury, shall be settled as Congress shall direct." (40 Stat. 424.) Obviously the only recourse for the restitution of the property so seized was with Congress, and in our opinion the language of the statute was in effect an invitation to the parties whose whose preperty had been seized to present their claims to Congress at the end of the war. . They were aliens and consequently were at some disadvantage in preparing and presenting their claims, and it was logical that they should seek aid and assistance in this country. The petitioner was engaged generally in the representation of foreign interests in connection with their property and business affairs in the United States and it was in keeping with the circumstances of both parties and the relationship between them that the petitioner should be employed by the particular group of aliens referred to herein in their efforts to recover the preperty which had been siezed. The respondent has made no claim, as we have pointed out, that such employment was outside the scope of petitioner's powers or business and we have concluded from the record that the services*859 rendered were necessary for the accomplishment of the desired result. There has been no showing that the petitioner indulged in any questionable practices in carrying *631 out the purposes of its employment and no showing or claim that the activities in respect of which the expenses were incurred were against public policy. Cf. . Accordingly we are unable to reach any conclusion except that the expenses here in question were in fact "ordinary and necessary" in the conduct of petitioner's business and, having reached that conclusion, it is our opinion that the statute directs their allowance as deductions in determining petitioner's net income. Cf. , affirming .

Reviewed by the Board.

Decision will be entered under Rule 50.

BLACK, dissenting: Article 262 of Treasury Regulations 74, quoted in the majority opinion, provides, among other things, as follows: "Sums of money expended for lobbying purposes, the promotion or defeat of legislation, the exploitation of propaganda, including*860 advertising other than trade advertising, and contributions for campaign expenses, are not deductible from gross income." I think this is a wholesome regulation and correctly interpretative of the law. There seems to be little, if any, doubt that the expenditures which the petitioner sought to deduct as ordinary and necessary business expenses and which the Commissioner has disallowed as deductions from gross income fall within the foregoing regulation. The majority opinion, as I read it, concedes that fact, but holds that the regulation, when applied to expenditures such as were made in the instant case and disallowed by the Commissioner, is too broad and reads something into the law which is not there. I am unable to agree with that interpretation.

The Ninth Circuit, in the Sunset Scavenger Co. case, cited in the majority opinion, gave unqualified approval to the quoted Treasury regulation as being a reasonable and correct interpretation of the law.

In , and , we cited and followed the court's opinion in the Sunset Scavenger Co. case. I am not convinced that we should depart*861 from that position in the instant case. It is perfectly true, as the majority opinion points out, that there are some differences in the facts in the Kyne and Kirby cases from the facts of the instant case, but I do not think these differences are sufficient to justify a distinction and a different fuling in the instant case from that which we made in the Kyne and Kirby cases. I, therefore, record my dissent from the majority opinion and think the decision on this point should be for the Commissioner.

MELLOTT and DISNEY agree with this dissent.