Cox v. Commissioner , 17 T.C. 1287 ( 1952 )

Ethyl M. Cox, Petitioner, v. Commissioner of Internal Revenue, Respondent. Lester T. Cox, Petitioner, v. Commissioner of Internal Revenue, Respondent. A. B. Cox, Petitioner, v. Commissioner of Internal Revenue, Respondent. Estate of Gladys E. Cox, Deceased, Lester T. Cox, Administrator, Petitioner, v. Commissioner of Internal Revenue, Respondent

Cox v. Commissioner

Docket Nos. 26144, 26145, 26146, 26147

United States Tax Court

17 T.C. 1287; 1952 U.S. Tax Ct. LEXIS 278;

February 11, 1952, Promulgated

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Decisions will be entered under Rule 50.

1. Good Will. -- Held, on facts that $ 50,000 received by petitioners for the sale of the business is consideration for good will and taxable as capital gain.

2. Repairs or Capital Expenditures. -- Aggregate expenditures made by the petitioners pursuant to a general plan of reconditioning, improving and altering newly acquired property, held to be capital expenditures. Home News Publishing Co., 18 B. T. A. 1008, followed.

Harold C. Warnock, Esq., and James M. Lawton, C. P. A., for the petitioners.

H. A. Melville, Esq., for the respondent.

Johnson, Judge.

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JOHNSON

In these consolidated cases respondent determined deficiencies in income tax and penalty as follows:

Docket	Petitioner	Year	Deficiency	25 per cent
No.				penalty
26144	Ethyl M. Cox	1946	$ 302.86
		1947	807.79
26145	Lester T. Cox	1946	302.86
		1947	807.79
26146	A. B. Cox	1946	239.10
		1947	582.31
26147	Estate of Gladys E. Cox	1946	239.10
		1947	891.06	$ 244.11

Certain concessions have been made by the parties which are set out in the findings of fact.

The first issue involves the construction of a contract for the sale of a business as to whether the sum of $ 50,000 constituted consideration for good will or for an agreement not to compete. The second issue is whether certain expenditures made for repairs to a newly acquired building were necessary business expenses or represented additional costs of the property.

FINDINGS OF FACT.

The stipulated facts are so found.

Petitioners are all individuals. Petitioners Lester T. Cox and Ethyl M. Cox are husband and wife residing in Tucson, Pima County, Arizona. Their returns for the years involved were filed with the collector of internal revenue for the district of Arizona. Petitioner A. B. Cox is a resident of Los Angeles, California, and filed his returns for the years herein involved with the collector of internal revenue for the district of Arizona. Gladys E. Cox, during her lifetime, was the wife of A. B. Cox, and resided with him in Los Angeles. Her returns for the years involved were filed with the collector of internal revenue for the sixth district of California.

Gladys E. Cox died on November 19, 1948, and petitioner Lester T. Cox is the duly qualified, appointed, and acting administrator of the Estate of Gladys E. Cox, deceased, under the jurisdiction of the Superior Court of Pima County, Arizona.

Lester T. Cox and A. B. Cox will sometimes hereinafter be referred to as the petitioners.

The deficiencies determined by the respondent to be due, the amounts which each petitioner agrees to be owing, and the amounts which petitioners still contest are stipulated as follows:

		Deficiency
		determined
Petitioner	Year	by
		respondent
Ethyl M. Cox	1946	$ 302.86
Ethyl M. Cox	1947	807.79
Lester T. Cox	1946	302.86
Lester T. Cox	1947	807.79
A. B. Cox	1946	239.10
A. B. Cox	1947	582.31
Estate of Gladys E. Cox, deceased	1946	239.10
Estate of Gladys E. Cox, deceased	1947	891.06
Delinquency penalty	1947	222.77

	Agreed to	Still contested
Petitioner	be owing by	by
	petitioners	petitioners
Ethyl M. Cox	$ 0.26	$ 302.60
Ethyl M. Cox	136.23	670.56
Lester T. Cox	.26	302.60
Lester T. Cox	136.23	670.56
A. B. Cox		239.10
A. B. Cox	(92.16)	674.47
Estate of Gladys E. Cox, deceased		239.10
Estate of Gladys E. Cox, deceased	216.59	674.47
Delinquency penalty	54.15	168.62

The firm of W. H. Cox & Sons was originally started in 1924 as a wholesale produce business by W. H. Cox, father of the petitioners, who retired from the business on July 31, 1932. Subsequent thereto, petitioners continued to operate the business as a partnership under the original firm name, W. H. Cox & Sons.

In 1937 petitioners began doing business under a second firm name, that of Tucson Fruit Company. From 1937 until June 1, 1943, petitioners did business under both firm names, W. H. Cox & Sons and Tucson Fruit Company. These organizations had their places of business on the same side of the street in Tucson, Arizona, within yards of each other, and both engaged in precisely the same business, that of selling fresh produce at wholesale, only. They had separate places of business, separate sales staffs and delivery trucks, but the books of both organizations were kept at the office of W. H. Cox & Sons by its bookkeeping staff.

W. H. Cox & Sons had 4 large refrigerated trucks for interstate shipments, which were operated by a staff of 8 truck drivers; 36 trucks for delivery in Tucson and southern Arizona, with a driver for each; 11 salesmen, and an office force of 5, including an office manager and 4 clerks; a business manager and a number of warehousemen. The business operated out of a large refrigerated warehouse located on railroad trackage and equipped for the refrigeration and storage of fresh produce, as well as for the ripening of bananas. W. H. Cox & Sons also had a branch at Douglas, Arizona, with a smaller staff and some trucks.

Tucson Fruit Company had one large refrigerated truck for interstate shipments; four delivery trucks, each with a driver; three salesmen, one of whom acted as manager; and one clerk. The business operated out of a refrigerated warehouse equipped for produce storage, which was held under lease by the petitioners.

In 1943 petitioners had a virtual monopoly of the wholesale produce business in Tucson and the surrounding area.

On May 24, 1943, petitioners Lester T. Cox and his wife, Ethyl M. Cox, and A. B. Cox and his wife, Gladys E. Cox, as parties of the first part, entered into a written contract with J. E. Keim and his wife, Mildred Keim, and J. P. Corcoran, as parties of the second part. This contract was entitled "Lease and Agreement" and it called for the leasing of the warehouse property of W. H. Cox & Sons, together with the assignment to Keim Produce Company (a partnership of J. E. Keim and J. P. Corcoran), of all the leases which W. H. Cox & Sons held on the property at their Douglas branch, as well as on the property which was being used under the firm name of Tucson Fruit Company, all for a period of 5 years, at a stated rental of $ 39,000, payable at the rate of $ 650 per month. ^{sold the business of W. H. Cox & Sons and Tucson Fruit Company unto the parties of the second part, delivery to be consummated on the 1st day of June, 1943, and as part of the consideration for the sale of said business and the rental of the premises herein described the parties of the second part agree to pay to the parties of the first part, in addition to the Thirty-nine Thousand ($ 39,000.00) Dollars, hereinbefore mentioned, the sum of Fifty Thousand ($ 50,000.00) Dollars, and the parties of the second part agree to pay unto the parties of the first part said sum of Fifty Thousand ($ 50,000.00) Dollars as follows:}

Ten Thousand ($ 10,000.00) Dollars on June 1, 1944;

Ten Thousand ($ 10,000.00) Dollars on June 1, 1945;

Ten Thousand ($ 10,000.00) Dollars on June 1, 1946;

Twenty Thousand ($ 20,000.00) Dollars on June 1, 1947.

[Emphasis added.]

In a later part of the same instrument it was provided as follows:

The parties of the first part further agree that they will not compete with the parties of the second part in any manner whatsoever during the term of this lease or renewal in the Counties of Pima, Santa Cruz, Pinal, and Cochise, in the State of Arizona.

Petitioners and J. P. Corcoran testified that the $ 50,000 was for the good will, and that no money was paid in consideration of the covenant not to compete. J. E. Keim testified that the matter of good will was not specifically mentioned and that the $ 50,000 was paid for the agreement not to compete, although the business had a "very large good will value" and the good will was acquired by the buyers. Each of the petitioners received $ 2,500 in 1946 and $ 5,000 in 1947 as his or her portion of the $ 50,000 payment and reported these sums as long term capital gain. The $ 50,000 was payment for good will.

On May 1, 1945, petitioners purchased a warehouse building in Tucson, known as the Peyton Building, paying therefor the sum of $ 27,500, exclusive of the land. The Peyton Building had been vacant for more than two years, but prior to that it had been used as a cold storage warehouse for meats. This building adjoined the large refrigerated warehouse which had formerly been used by W. H. Cox & Sons but in 1945 was under lease to Keim Produce Company. The W. H. Cox & Sons building and the Peyton Building had a common wall. During 1945 petitioners expended $ 11,625.77 for labor and materials necessary to put the Peyton Building into usable condition, and to make certain alterations. Of this amount, $ 6,329.54 was treated, for Federal income tax purposes, as a deductible expense for repairs. Respondent determined that the entire sum of $ 11,625.77 was a capital expenditure in 1945 on the ground that the entire sum represented additional cost of the property and, therefore, allowed $ 126.60 in each of the taxable years 1946 and 1947 as additional depreciation (this amounts to $ 31.65 additional depreciation to each of the petitioners for each of the years, over and above that which was claimed on their returns).

An elevator was installed in the building and a loading dock was constructed. The parking area was paved. These items are conceded to be alterations. The refrigeration system required extensive overhauling. It was necessary to shore up the cooling tower; replace all the pipes in the cooling tower, and install a new pump; replace window screens; replace tin drains which had rusted out; replace a broken wooden truss with a steel truss; replace electric wiring; take out the toilets and sewers, clean and replace them; replace almost all of the window lights; and hire cleaners to clean the building. Bricklayers were employed to mend cracks in the outside wall of the building. The wooden floor in the ice box was replaced with a cement floor and the walls in the basement of the building were plastered with cement.

Petitioners thought the building to be in good condition and did not receive a reduction in the purchase price on account of the state of disrepair of the Peyton Building.

The work for which the expenditures were made was pursuant to a general plan of reconditioning, improving and altering the property as a whole to make it suitable for use in conjunction with petitioners' adjoining property.

The expenditures were for replacements, alterations, improvements, and additions. All of the work for which the expenditures were made was part of the same general scheme of rehabilitation.

The expenditures by the petitioners in 1945 made in rehabilitating the Peyton Building were capital expenditures.

OPINION.

Petitioners contend that having sold the physical equipment of W. H. Cox & Sons by oral contract for book value, the $ 50,000 received by them for the sale of the business constitutes consideration for good will and hence is taxable as capital gain. Respondent determined that the $ 50,000 was consideration for a covenant not to compete, and hence treated the money as ordinary income. See .

It seems evident from the terms of the written contract set out in our findings that petitioners received $ 50,000 for the sale of the business and that this payment was for the good will only. If we consider merely the actual physical location in the contract of the convenant not to compete and the $ 50,000 sum, we must conclude that there is no connection either by context or by actual physical proximity in the contract. Good will was not specifically mentioned in the contract, but the various witnesses for petitioners testified it was the intent of the parties to sell the good will. Corcoran testified he purchased the good will. The only testimony that the good will was not purchased by the $ 50,000 payment was that of Keim, who reported the payment on account of the $ 50,000 as an expense in his own tax return. He admitted that he had been advised by his accountant that if petitioners prevailed, some claim might be made against him on his own income tax. We feel the overwhelming weight of the evidence sustains the contention of petitioners. *289 During 1945 petitioners expended $ 11,625.77 for labor and materials necessary to put the Peyton Building into usable condition, and to make certain alterations. Petitioners treated $ 6,329.54 of the expenditures as a deductible expense for repairs. Respondent determined the entire $ 11,625.77 was a capital expenditure representing additional cost of the property, and allowed petitioners additional depreciation. By stipulation, petitioners conceded only $ 4,975.16 should have been deducted as a current expense. By brief petitioners have reduced this sum to $ 4,380.08.

When petitioners purchased the Peyton Building it had been vacant for two years or more and had fallen into a state of disrepair of which petitioners were unaware until after the purchase. There had been no reduction of the purchase price due to the condition of the building. The expenditures were pursuant to a general plan of reconditioning, improving, and altering the property, and hence were capital expenditures. . Moreover, it is rather evident from the type of repairs set forth in our findings that most of them added to the life of the building, or were material replacements, and this Court has consistently held expenditures for such repairs to be capital expenditures. *291 Decisions will be entered under Rule 50.

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Footnotes

• 1. At the same time, and as part of the same transaction, W. H. Cox & Sons also sold to Keim Produce Company all of their merchandise on hand, all of their trucks and all of their equipment, such as office furniture, etc., not attached to the leased real estate, at its book value. This transaction, however, was outside of the terms of the Lease and Agreement and is not involved in this action.↩

• 2. We might note that the United States District Court for the District of Arizona in Lester T. Cox, as Administrator of the Estate of Gladys E. Cox, deceased, Lester T. Cox, individually; and Ethyl M. Cox v.United States of America↩. (Civil No. 461032, D. C.Arizona, June 14, 1951), rendered a decision in favor of the three above-named taxpayers for the taxable year 1944. A. B. Cox was not a plaintiff in that action because a resident of California, but the issue was the same, though for a different taxable year. The same contract was construed by the court and the $ 50,000 was held to have been consideration for the sale of the good will.

• 3. , certiorari denied, ; First National Bank in ↩; ; ; ; ; ; ; ; ; ; ; .