Mechanics-American Nat'l Bank v. Commissioner

OPINION.

Littleton:

The indebtedness to the petitioner of the Memphis, Dallas & Gulf Railroad Co. consisted of advances aggregating $41,274.47, made through Whitaker, Trustee, and of notes of the railroad, in the aggregate amount of $81,524.50, indorsed by four individuals and secured by second mortgage bonds of the railroad of the par value of $188,000. The sum of $41,274.47 was advanced for the purchase of various claims which were liens against the railroad property. These claims and judgments were purchased by Whitaker, Trustee, for the benefit of petitioner and others. The tax claims or liens paid or purchased were such as were imposed upon the property of the railroad by the laws of the State of Arkansas. See section 10023, Digest of Statutes of Arkansas, Crawford and Moses, 1921 (Act of March 24, 1911). The advances made to Whitaker, Trustee, which were not used to satisfy claims for taxes, were’ used for the purchase of various claims of laborers and material men for work done or material furnished in connection with the construction or operation of the railroad, and such under section 8555 of the Digest of the Statutes of Arkansas, Crawford and Moses, 1921, Act of March 31, 1899, are made liens upon the entire property of the railroad, superior, whether prior in point of time or not, to the lien of any mortgage.

The petitioner having purchased such lien claims against the property of the railroad, became entitled, by the principle of subrogation, to the same security and preference which attached to the claims in the first instance. As to such claims, petitioner was preferred to general creditors, and to the holders of the first mortgage bonds. That such were petitioner’s rights was recognized and evidenced by the disposition made of the $70,000 realized from the sale made to Conway.

The evidence indicates that some inquiry and investigation was made by petitioner, looking to the collection of its indebtedness against the railroad company, but the evidence fails to show that petitioner’s claims against the railroad were ascertained to be worthless in 1919. Such action was not taken prior to 1919 nor in that year, when such indebtedness was charged off petitioner’s books. The evidence does not show that conditions in 1919, were such that petitioner could reasonably have anticipated by the end of that year that the sale of the railroad’s property, upon which it had superior and preferred liens, would produce nothing to be applied towards payment of the indebtedness due it. After the road went into the hands of a receiver and was sold in 1922, petitioner received about 30 per cent of this portion of its indebtedness. The Board is of the opinion that in 1919 the petitioner was not warranted in charging off such indebtedness as having been properly ascertained and determined to be worthless.

The remaining portion of indebtedness due petitioner consisted of notes of the railroad company, indorsed by four individuals. The petitioner did not take necessary action in 1919 to force payment by any of the indorsers. Its ascertainment and determination of the worthlessness of the debts was limited to reports received from an Arkansas banker and a credit agency which had been employed to investigate the financial condition of two of the indorsers. The information received was to the effect that two of the indorsers, Brown and Henderson, had within two years made transfers of their property to their wives, yet there is no evidence that any efforts were made by petitioner to ascertain the value of the property so transferred, the conditions under which same were made, nor whether such transfers might not be set aside and recovery had upon the indebtedness due petitioner. That a resort to a creditor’s bill in favor of petitioner might have, in 1919, resulted in petitioner making a substantial recovery appears probable, from the fact that in 1920 petitioner realized out of the settlement made by the same indorsers about 12 per cent of the entire indebtedness due upon its notes. The amount so realized also appears to have been raised from property standing in the names of the wives of said indorsers.

The situation existing in 1919 and the facts then known by petitioner, apparently gave no good grounds for the assumption in that year that its notes were worthless — wholly uncollectible, even though they might not be collected in full from the railroad company.

The institution of receivership proceedings subsequently, indicated that petitioner and other banks holding similar claims, expected thereby to realize something on their claims, otherwise such action would not have been taken.

The Revenue Act of 1918, which permits a deduction for debts ascertained to be worthless in their entirety and charged off in the taxable year, does not include debts ascertained to be worthless only in part. Appeal of Steele Cotton Mill Co., 1 B. T. A. 299; Murchison National Bank, 1 B. T. A. 617.

The Board finds no error in the action of respondent in disallowing the deduction claimed by petitioner.

Reviewed by the Board.

Judgment will he entered for the respondent.