Frank v. Commissioner ( 1928 )

NATHAN FRANK, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Frank v. Commissioner

Docket Nos. 6875, 28570.

United States Board of Tax Appeals

13 B.T.A. 964; 1928 BTA LEXIS 3130;

October 12, 1928, Promulgated

---

In 1914 the petitioner received four promissory notes of $50,000 each, payable in 1916, 1917, 1918, and 1919 in payment of a debt. None of the notes was paid at maturity. The maker of the notes made small payments thereon in March, 1921, and in December, 1922. The financial responsibility of the maker was apparently as good in 1921 and 1922 as in 1914 or in any preceding year. Held, that the note maturing in 1918 was not ascertained to be worthless in 1921 and that that maturing in 1919 was not ascertained to be worthless in 1922.

Nathan Frank pro se.

A. S. Lisenby, Esq., for the respondent.

---

SMITH

These proceedings, consolidated for the purpose of decision, are for the redetermination of deficiencies in income tax for the years 1921 and 1922 in the amounts of $11,123.42 and $13,567.09, respectively. The question in issue is the right of the petitioner to deduct from gross income in each of the income-tax returns for 1921 and 1922 $50,000 representing a debt ascertained to be worthless and charged off within each year.

FINDINGS OF FACT.

The petitioner is a resident of St. Louis, Mo. In 1908, he was the owner of all of the capital stock of the Star Chronicle Publishing Co., which published the St. Louis Star. At the same time, E. G. Lewis was the publisher of various magazines in University City, a suburb of St. Louis, one of which was the "Woman's Magazine." He was under indictment for alleged misuse of the mails. He came to the petitioner and asked him to sell him the St. Louis Star because he felt that he was not being given fair treatment by the other papers of St. Louis. The petitioner sold him the stock of the Star Chronicle Publishing Co. for $450,000. A part of the purchase price was paid in cash and a part in notes made payable to the petitioner by Lewis. Six of these notes for $25,000 each were dated August 28, 1908, and were due, respectively, January 1 and July 1 of each of the years 1910, 1911, and 1912. None of these notes was paid at maturity. The notes were secured, however, by all or a portion of the shares of the capital stock of the Star Chronicle Publishing Co., which were held by the petitioner. In 1912, Lewis was indicted for using the mails in a scheme to defraud and all of his properties in University City were placed in the hands of a receiver. Lewis then came to the petitioner and told him of his inability to continue the publication of the St. Louis Star, whereupon the petitioner reacquired the capital stock of the Star Chronicle Publishing Co. and thereafter published the St. Louis Star. The receiver of the Woman's National Publishing Co., one of Lewis' promotions, claimed that the Star Chronicle Publishing Co. was indebted to the bankrupt and the indebtedness was satisfied by the petitioner by the payment to the receiver of $40,000 or $50,000 in order that the Star Chronicle Publishing Co. might be freed of debt. After this payment the petitioner again became the sole owner of the capital stock of the Star Chronicle Publishing Co.

After trial in the Federal court at St. Louis Lewis was acquitted, and then left for California to reestablish his fortune. He continued his promotion schemes in California. In 1924 he came to St. Louis to straighten out his financial matters with the petitioner. At this time the petitioner still held Lewis' notes to the amount of $150,000 face value and interest since 1908, and, after figuring up the entire account including interest, it was estimated that the amount at that time was $300,000. Petitioner, however, agreed with Lewis that the latter would pay him $200,000 and that he would consider this a full and complete settlement. Under date of January 21, 1914, the petitioner and Lewis made a settlement which provided in part as follows:

The parties have stated the account between them and have agreed upon the balance due upon all accounts from E. G. Lewis to Nathan Frank to be two hundred thousand dollars ($200,000).

Said E. G. Lewis has agreed to pay same according to the tenor and effect of four promissory notes dated this day, each for the sum of Fifty Thousand Dollars ($50,000.), payable two, three, four, and five years after date, respectively, with interest from date at the rate of three per-cent per annum.

It is mutually agreed and understood, however, that in the event said notes are met according to their tenor and effect, the interest at three per-cent per annum thereon shall be abated.

The four notes for $50,000 each given to the petitioner by Lewis became payable January 21, 1916, January 21, 1917, January 21, 1918, and January 21, 1919. Lewis then returned to California, where he continued his promotion schemes. When the first note became due in 1916, petitioner was unable to collect it. He did not, however, deduct it from his gross income of 1916 as a worthless debt. When the second note became due in 1917, the petitioner was unable to collect it. At the close of 1917, the United States was at war with Germany and Lewis' enterprises in California were in a bad shape financially. The petitioner considered the note worthless and deducted it from gross income in his income-tax return for 1917, which deduction was allowed by the Commissioner in the audit of the return.

The note which became due in 1918 was unpaid at maturity. Lewis assured the petitioner, however, that he would pay all of the notes and when one note came due in 1918, and the final note in 1919, they were not charged off the petitioner's books as worthless, the petitioner believing that they would be paid.

During all of the years 1916 to 1922, inclusive, the petitioner kept up his correspondence with Lewis and demanded payment of his notes. Lewis continued to make promises of payment and wrote glowing accounts to the petitioner of his prospects with respect to his many enterprises.

In February, 1921, the petitioner went to California to see Lewis and to demand payment of the notes. He found that a colonization project which had been promoted by Lewis about midway between San Francisco and Los Angeles, called Atascadero, had grown to be a community of approximately 10,000 people and that it had more than 100,000 miles of paved streets. Lewis represented to him that his assets were greatly in excess of his liabilities; that he owned a copper mine, a dormant gold mine, a chemical manufacturing company, and numerous other enterprises. He promised the petitioner that he would get his money in 1921 or 1922. Lewis paid the petitioner $100 on each of the four notes owned by him and, at the request of the petitioner, Lewis endorsed on each note the amount paid thereon. The petitioner made a second trip to California in December, 1922, and received a further payment from Lewis of $125 on each of the four notes, which Lewis endorsed on the notes.

On December 18, 1924, a petition in bankruptcy was filed against the estate of E. G. Lewis. Indictments were found against him and after trial he was convicted thereon and sentenced to a term in the penitentiary. At the time the petition in bankruptcy was filed Lewis listed his assets at $23,640,145.46. Claims filed against the estate and allowed by the referee in bankruptcy amounted to $9,252,347.53. The receipts realized by the referee from the sale of the assets of the estate amounted to less than $250,000.

In each of his income-tax returns for 1921 and 1922, petitioner claimed as a deduction from gross income $50,000 for bad debts ascertained to be worthless and charged off within the taxable year. The amount claimed for 1921 was Lewis' note for $50,000, which became payable on January 21, 1918, and the amount claimed for 1922 was Lewis' note of a like amount, which became due on January 21, 1922. The deductions claimed were disallowed by the Commissioner upon the ground that they were not bona fide ascertained to be worthless in the taxable years.

OPINION.

SMITH: Section 214(a)(7) of the Revenue Act of 1921 permits an individual to deduct from gross income in its income-tax return:

Debts ascertained to be worthless and charged off within the taxable year (or, in the discretion of the Commissioner, a reasonable addition to a reserve for bad debts); and when satisfied that a debt is recoverable only in part, the Commissioner may allow such debt to be charged off in part.

It is the petitioner's contention that a debt of $50,000 owed him by E. G. Lewis was determined to be worthless in 1921 and that a debt of a like amount owed to him by the same debtor was ascertained to be worthless in 1922. The evidence indicates that Lewis was a promoter and engaged in vast enterprises. The debts owed to the petitioner by Lewis and represented by promissory notes maturing in 1918 and 1919 were not paid when due. The petitioner, however, had faith in Lewis; believed that his assets were far in excess of his liabilities; and that given time he would meet his promises orally made to petitioner to pay the notes. The notes had not been outlawed and were kept alive by payments thereon made in 1921 and 1922 by Lewis. In order that there could be no question that the payments made by Lewis in 1921 and 1922 were meant to apply upon each of the four notes held by the petitioner, the petitioner had Lewis endorse on each of the notes the installment payments made. The enterprises being promoted by Lewis were in quite as flourishing a condition in 1922 as they were in 1921.

The only claim that the petitioner makes that there was a bona fide ascertainment of worthlessness of the notes on his part in the years 1921 and 1922 is that the maker of the notes failed to meet his oral promises to the petitioner with respect to the payment of the notes in those years.

The evidence indicates that the petitioner made no ascertainment of worthlessness of the Lewis notes in either 1921 or 1922. At the hearing of this proceeding the petitioner was asked the question:

Now, I understand you to say that you charged these amounts off in 1921 and in 1922 because he [Lewis] failed to keep the promises he had made in 1921?

A. That is correct.

Q. You had made no ascertainment, Mr. Frank, that Mr. Lewis was not just as able to pay them in 1921 and 1922 as he was in prior years?

A. Absolutely. Q. He had a great deal of property as far as you knew? A. I thought so, yes, sir.

Q. You did not know anything about his liabilities as compared with these assets, did you?

A. Except what he told me. Q. Except what he told you? A. Yes, sir.

Q. You did know that Mr. Lewis was a man inclined to exaggerate things considerably?

A. Oh, tremendously.

Q. You did not, however, in any event believe him to the extent of believing what he said as to his worth was true, did you?

A. But I thought he could always win out, as he had connections with a lot of influential people, such as Mr. Redfield who was Secretary of Commerce and Frank Vanderlip, and many others, and I thought he could not deceive me.

Although the evidence would indicate that the petitioner did not give up hope of collecting the notes due from Lewis prior to 1921 and 1922, nothing happened in those years which, in our opinion, amounts to an ascertainment of worthlessness of the notes on the part of the petitioner. In both 1921 and 1922 Lewis was directing vast enterprises. He apparently owned many millions of dollars worth of property. To all appearances the chances of ultimate success in 1921 and 1922 were greater than in any preceding year. Lewis had failed to pay the notes at maturity. The petitioner took no steps to enforce collection either in 1921 or 1922 or in prior years, when apparently the maker was financially responsible for the notes. The maker made payments upon the notes in 1921 and 1922. Endorsements of the payments upon the notes were made by Lewis upon the request of the petitioner for the express purpose of barring the operation of any statute of limitations. The fact of these payments and of the endorsements on the notes in 1921 and 1922, indicates that the petitioner had not abandoned hope of eventual collection in either of those years.

It is not within the province of a taxpayer to elect the year in which he shall deduct from his gross income a worthless debt. The debt must be deducted, if at all, from the gross income of the year in which the ascertainment of the worthlessness is made. The evidence of record does not in our opinion overcome the presumption of the correctness of the action of the Commissioner in his determination that the notes in question were not ascertained to be worthless in the years 1921 and 1922. ; Am. Fed. Tax Rep. 7019.

Judgment will be entered for the respondent.