Garrison Co. v. Commissioner , 17 B.T.A. 460 ( 1929 )

GARRISON CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Garrison Co. v. Commissioner

Docket No. 15006.

United States Board of Tax Appeals

17 B.T.A. 460; 1929 BTA LEXIS 2290;

September 25, 1929, Promulgated

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">*2290 1. Under the Constitution of the State of Arkansas a promissory note given to a corporation for its stock is void as between the maker and the corporation, and, notwithstanding the solvency of the maker of the note and his ability to pay, no amount may be included in invested capital on account of such note given for stock.

2. Cost of depreciable property acquired for cash determined.

J. B. Grice, C.P.A., for the petitioner.

J. E. Marshall, Esq., for the respondent.

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LITTLETON

">*461 The Commissioner determined a deficiency of $2,183.33 for 1920. Petitioner claims that the Commissioner erred (1) in excluding the face value of certain notes paid in for stock at date of incorporation from invested capital, and (2) in reducing for depreciation purposes the cost of certain assets purchased for cash and notes, by the amount of $20,000, alleged to represent the cost of good will acquired in the same transaction and paid for with the same cash and notes.

FINDINGS OF FACT.

The petitioner is an Arkansas corporation. It was organized July 31, 1919, with 2,000 shares of authorized capital stock of the par value of $200,000. At date of incorporation">*2291 999 shares of stock were issued to the incorporators as follows: H. F. Goodnow, 343; Arthur G. Lee, 164; A. N. Sicard, 164; J. S. Parks, 164; and George D. Carney, 164. For such shares the respective incorporators paid cash in the amounts of $15,000, $10,000, $10,000, $10,000, and $10,000, or a total of $55,000, and gave their noninterest-bearing demand notes in the respective amounts of $19,300, $6,400, $6,400, $6,400, and $6,400, or a total of $44,900. As security for the payment of the notes the petitioner retained the stock certificates so issued. At the date on which such notes were given all the makers thereof were solvent and each was financially able to pay the full amount of his note on demand.

In 1920 Goodnow and Lee became dissatisfied with the prospects of the petitioner and their interests were purchased by the other three incorporators for cash. Between 1920 and 1926, Sicard, Parks, and Carney advanced $164,000 in equal amounts, in cash, to the petitioner for which at dates of such advances they received no stock certificates. In 1925 or 1926 the petitioner began to earn substantial profits and shortly thereafter the original stock certificates issued to all the">*2292 incorporators were canceled and stock certificates for the full amount of the authorized capital were made out in equal amounts in the names of Sicard, Parks, and Carney, but have never been signed or taken from the stock books.

Shortly after incorporation the petitioner purchased from the McLoud-Sparks Furniture Co. a manufacturing plant consisting of building and furniture manufacturing machinery, together with the land upon which such plant was situated and certain small amounts of lumber, and paid therefor the amount of $90,000. The petitioner manufactured bedroom furniture exclusively; the McLoud-Sparks Furniture Co. manufactured dining-room furniture only. The good will of the McLoud-Sparks Furniture Co. was not included in the assets purchased by the petitioner.

">*462 In his audit of petitioner's return for 1920, the Commissioner excluded from the computation of invested capital the face amount of the notes taken for stock as set forth above, in the amount of $44,900, and reduced the value of assets subject to depreciation by the amount of $20,000, alleged to represent the cost of good will acquired by the purchase from McCloud-Sparks Furniture Co.

OPINION.

">*2293 LITTLETON: The first question is whether $44,900, representing the face amount of the promissory notes paid in to petitioner for stock, or any portion of that sum, may be included in petitioner's invested capital for 1920 as cash or tangible property bona fide paid in for stock under section 326 of the Revenue Act of 1918.

The revenue statute denominates notes as tangible property and it has been held that when promissory notes are bona fide paid in for stock and are enforcible, the cash value thereof should be included in invested capital. Bowers v. Max Kaufman & Co., 18 Fed.(2d) 69; Hewitt Rubber Co.,1 B.T.A. 424">1 B.T.A. 424; American Steel Co.,1 B.T.A. 839">1 B.T.A. 839; Stamey-Mackey Construction Co.,4 B.T.A. 383">4 B.T.A. 383; New Orleans Can Co.,7 B.T.A. 1175">7 B.T.A. 1175; Sheridan Meat Co.,10 B.T.A. 211">10 B.T.A. 211; and Briggs-Weaver Machinery Co.,14 B.T.A. 1351">14 B.T.A. 1351.

The good faith of the giving of the notes involved in this proceeding to petitioner for stock has been established and it is also shown that the makers of the notes were solvent and able to pay the amount of the notes on demand. The notes">*2294 appear to have, at all times, been held by the petitioner. Section 8, Article XI, of the Constitution of Arkansas provided, "No private corporation shall issue stocks or bonds, except for money or property actually received, or labor done, and all fictitious increase of stock or indebtedness shall be void * * *."

In Bank of Commerce v. Goolsby,129 Ark. 416">129 Ark. 416; 196 S.W. 803">196 S.W. 803, the Supreme Court of Arkansas held that notes taken in exchange for stock is a palpable violation of the constitutional provision, because in such a transaction the stock has not been paid for; that the design of the framers of the Constitution was that stock should not be issued and sold except for its value in money or property actually received, or labor done, and that a note is not property in the sense of the Constitution.

In Bank of Manila v. Wallace,5 S.W.(2d) 937, the same court held that a note given for stock issued was void.

In Park v. Bank of Lockesburg (Ark.),11 S.W.(2d) 483, the court held that stock issued for a note is illegal and that the amount given therefor is neither money nor property within the meaning of">*2295 the Constitution of Arkansas. The court held however that such ">*463 a note could be enforced against the maker in the hands of an innocent purchaser.

In view of the decision of the Supreme Court of Arkansas that a note given to a corporation for its stock is void and can not be enforced between the maker and the corporation and that such a note is not money or property within the meaning of the Constitution, we are of opinion that no portion of the amount of the notes here involved may be included in petitioner's invested capital for 1920.

Although section 325 of the Revenue Act of 1918 denominates notes as tangible property for invested capital purposes, under section 326 this can be considered to mean no more than that notes which are legal and enforcible in the hands of a particular taxpayer are tangible property to be included at their cash value in computing invested capital. The Commissioner correctly excluded the notes paid in to this petitioner for stock from invested capital.

The second issue relates to depreciation. In the circumstances hereinbefore set forth petitioner purchased a manufacturing plant for $90,000, which it took into its books as depreciable">*2296 assets in such amount. The Commissioner excluded $20,000 of this purchase price from the cost of depreciable assets which he asserts represents the cost of good will acquired from McLoud-Sparks Furniture Co. Witnesses for the petitioner testified that no good will was purchased in that transaction. The buyer and seller were each in the furniture manufacturing business, one producing bedroom furniture only and the other dining room furniture. They were not competing concerns. The petitioner had no occasion to purchase nor to use the good will of a noncompetitor and desired only to secure a physical plant for its own operations. We are convinced that no part of the $90,000 paid to McLoud-Sparks Furniture Co. was consideration for the good will of that concern. The record discloses, however, that included in the assets purchased was land of the value of $4,380, and the cost of depreciable assets, therefore, should be reduced by this amount. Petitioner is entitled to take annual ratable deductions from its gross income on account of the depreciation on a cost of $85,620, representing tangible assets purchased from the McLoud-Sparks Furniture Co. at the same rates which the Commissioner">*2297 has used in computing depreciation on the same assets which he held had a cost of only $70,000.

Review by the Board.

Judgment will be entered under Rule 50.