Seekonk Lace Co. v. Commissioner

Seekonk Lace Company, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent

Seekonk Lace Co. v. Commissioner

Docket No. 29296

United States Tax Court

24 T.C. 552; 1955 U.S. Tax Ct. LEXIS 156;

June 29, 1955, Filed

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Decision will be entered for the respondent.

Excess Profits Tax -- Relief Under Sec. 722 (b) (2). -- Petitioner, a lace manufacturer, claimed that its business was depressed in the base period due to the following temporary economic circumstances, acting separately or in conjunction: (a) The trade advantage, or export bounty, accruing to the French lace industry as a result of the devaluation of the franc in the base period; and (b) the reduction in duty imposed by the United States on the import of French laces. Held, the circumstances complained of have not been shown to be "temporary economic circumstances unusual" in the case of petitioner, or of the industry of which petitioner was a member, within the meaning of section 722 (b) (2), Internal Revenue Code of 1939.

Walter F. Gibbons, Esq., for the petitioner.

George J. LeBlanc, Esq., for the respondent.

Tietjens, Judge.

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TIETJENS

The Commissioner denied the petitioner's applications for excess profits tax relief for the taxable years ended December 31, 1941, 1942, 1943, 1944, and 1945, and determined deficiencies for the years 1942 to 1945, inclusive, in the total amount of $ 10,461.96, and an overassessment of $ 1,901.17 for 1941. The ground for relief relied on by petitioner is that its business, or the industry of which it is a member, was depressed in the base period because of temporary economic circumstances unusual to it or to the industry. Sec. 722 (b) (2), Internal Revenue Code of 1939.

Some of the facts have been stipulated, and are so found.

FINDINGS OF FACT.

The petitioner is a Rhode Island corporation with its principal office and place of business located at Pawtucket, Rhode Island. Its returns for the taxable years involved, the calendar years 1941 to 1945, inclusive, were filed with the collector of internal revenue for the district of Rhode Island.

Petitioner's business is the manufacture and sale of Levers laces. Laces are divided into three general classifications according to the type of machine on which they are made. These are Levers laces, manufactured on Levers machines, lace curtains, made on Nottingham machines, and plain net made on "roller locking" machines. Levers laces are a separate industry classification. They include a number of different types of laces, such as "all-overs," veilings, Valenciennes, Alencons, and bobbin-finings. All-overs are wide widths (up to as much as 18 feet) used primarily for dressmaking. Veilings are made in various widths and are used chiefly in the millinery industry. Valenciennes, or "Vals" as they are known in the trade, are narrow laces of from 3/8 to 4 inches in width, used principally for trimming ladies' dresses, blouses, and underwear. Alencon laces are from 1 to 5 inches in width and are also used for trimming wearing apparel. Bobbin-fining laces are those made under the so-called bobbin-fining system. They are made in narrow and wide widths.

Petitioner's principal product during the period here under consideration was all-overs made of silk and rayon, 10-point or coarser, which were sold chiefly to the dressmaking industry. Petitioner is one of the five Levers lace manufacturers in the United States whose base period production was devoted principally to the manufacture of all-overs. Petitioner's sales were made through an exclusive selling agent, Stern & Stern Textiles, Inc., of New York.

In December 1932, petitioner acquired control of Rhode Island Lace Works, Inc., another Rhode Island corporation engaged in manufacturing Levers laces. It manufactured Vals, or narrow laces, for the underwear trade, as well as all-overs for the dress trade, and veilings for the millinery trade. Stern & Stern Textiles, Inc., also acted as its selling agent.

The manufacture of Levers laces in the United States was begun about 1866. The industry expanded slowly, and in 1909 there were about 100 Levers lace machines in this country. For many years France has been the largest world source of Levers laces, the industry being centered in the cities of Calais and Caudry. After a study made by the United States Department of State, Congress, in the Tariff Act of 1909, imposed a 70 per cent ad valorem duty on the importation of Levers laces and at the same time provided for duty-free importation of Levers machines into the United States for a period of 17 months. The purpose of these measures was to build up a Levers lace industry in this country and at the same time to protect that industry from the competition of foreign-made laces. No Levers machines were then, or are now, manufactured in the United States. About 400 Levers machines were later imported into the United States, and a total of about 650 machines were in operation in the United States in the base period. Petitioner operated 25 machines and Rhode Island Lace Works operated 43 machines during the base period. At the same time there were about 2,000 Levers lace machines in Calais, France, which is the production center for narrow laces; while Caudry, France, which produces mostly all-overs for the dress trade, had approximately 300 such machines. The major portion of the French production is exported to the United States. All-overs from Caudry provided the principal competition for petitioner's laces during the base period.

The standard unit of production of the American Levers lace industry is a "rack." A rack represents 1,920 motions of a Levers lace machine. Exports of Levers laces from France, and imports into the United States, are reported in pounds. There is no practicable way of converting racks into pounds for purposes of comparison.

Petitioner's production of Levers laces for the years 1922 to 1939, inclusive, in racks, was as follows:

Year	Racks
1922	217,476
1923	182,283 1/2
1924	141,299
1925	90,704
1926	45,416 1/2
1927	90,944
1928	150,373 3/4
1929	162,066
1930	230,588
1931	160,275
1932	111,224
1933	111,510
1934	117,949
1935	179,027 1/2
1936	165,644
1937	161,375
1938	118,677
1939	106,236

Petitioner's rack production by types of lace for the years 1930 to 1939, inclusive, was as follows:

	Racks
	1930	1931	1932	1933	1934
Wholly or in chief value of
silk or rayon:
All-overs	193,349	125,105	92,417	37,481	52,276 1/2
Veilings				11,587	5,833 1/2
Bobbin finings
Racks of silk and rayon	193,349	125,105	92,417	49,068	58,110
Wholly or in chief value
of cotton:
Valenciennes				31,431	4,693
Alencons				12,766 1/2	14,668 1/2
All-overs
Special				18,244 1/2	40,477 1/2
Racks of cotton lace	37,239	35,170	18,807	62,442	59,839
Total rack production	230,588	160,275	111,224	111,510	117,949

	Racks
	1935	1936	1937	1938	1939
Wholly or in chief value of
silk or rayon:
All-overs	103,023 1/2	87,791	72,446	67,705	63,138
Veilings	4,975	15,202	17,124	21,341	23,231
Bobbin finings		5,808	15,582	246
Racks of silk and rayon	107,998 1/2	108,801	105,152	89,292	86,369
Wholly or in chief value
of cotton:
Valenciennes	14,973	271		82	17,471
Alencons	17,020 1/2	449			448
All-overs		56,123	56,223	29,303	1,948
Special	39,035 1/2
Racks of cotton lace	71,029	56,843	56,223	29,385	19,867
Total rack production	179,027 1/2	165,644	161,375	118,677	106,236

The quantities of Levers laces imported into the United States, by types of materials, for the years 1931 to 1939, inclusive, were as follows:

		Wholly or		Rayon laces
	Wholly or	in chief	Silk and	(other than
	in chief	value of	rayon laces,	veils and	Total
	value of	silk	veils, and	veilings)
Year	cotton (Vals)	(principally	veilings	and metal
		all-overs)		thread laces
	Quantity in pounds (1,000 lbs.)
1931	1,094	80	4	9	1,187
1932	1,044	21	15	13	1,093
1933	1,053	10	11	8	1,082
1934	581	5	6	8	600
1935	670	11	5	8	694
1936	609	47	22	7	685
1937	611	152	67	5	835
1938	594	248	107	5	954
1939	1,131	300	109	2	1,542

The quantities of Levers laces (by types of materials) imported into the United States from France between 1931 and 1939, inclusive, and the unit value of such laces were as follows:

			Wholly or
	Wholly or		in chief
	in chief	Unit	value of silk	Unit
Year	value of	value	(principally	value
	cotton (Vals),	per lb.	all-overs),	per lb.
	1,000 lbs.		lbs.
1931	1,046	$ 3.75	79,792	$ 4.49
1932	926	2.68	20,578	2.87
1933	945	3.01	9,297	4.02
1934	490	3.53	4,075	6.86
1935	430	3.37	8,599	3.98
1936	418	3.20	40,486	5.29
1937	489	3.37	140,789	3.58
1938	565	2.55	242,927	2.30
1939	1,093	2.49	298,120	2.12

			Total (all
	Silk veils	Unit	types of	Unit
Year	and veilings,	value	laces), 1,000	value
	(lbs.)	per lb.	lbs.	per lb.
1931	3,949	$ 7.49	1,138	$ 3.83
1932	14,627	6.60	974	2.77
1933	10,881	7.23	972	3.08
1934	5,522	6.86	506	3.60
1935	5,401	6.07	450	3.41
1936	12,842	5.61	485	3.44
1937	38,231	5.78	698	3.51
1938	72,484	5.42	918	2.72
1939	35,617	4.86	1,501	2.47

Petitioner's net sales, gross profits, and net income or losses for the years 1917 to 1939, inclusive, were as follows:

		Gross	Net
Year	Net sales	profits	income (or
			losses)
1917	$ 490,210	$ 70,832	($ 1,273)
1918	617,371	127,649	27,625
1919	863,243	196,947	58,878
1920	1,055,802	278,089	94,981
1921	647,428	182,194	51,100
1922	1,061,977	362,061	211,757
1923	908,111	347,038	176,460
1924	519,019	240,828	(23,565)
1925	461,328	92,724	(9,346)
1926	253,652	31,463	(46,328)
1927	398,817	76,110	(19,176)
1928	675,006	178,069	(1,949)
1929	$ 804,710	$ 167,150	$ 114,413
1930	1,017,379	259,188	208,234
1931	655,414	141,965	89,358
1932	427,956	69,336	32,539
1933	329,945	37,935	16,004
1934	426,090	88,782	13,202
1935	632,556	119,003	105,005
1936	700,240	198,375	79,106
1937	668,297	134,100	22,328
1938	504,956	131,937	22,978
1939	392,175	78,479	405

The net sales, gross profits, and net income of Rhode Island Lace Works, Inc., for the years 1935 to 1939, inclusive, were as follows:

Year	Net sales	Gross profits	Net income
1935	$ 608,361.27	$ 40,947.73	$ 12,935.20
1936	730,448.65	204,502.65	62,153.68
1937	735,954.65	211,489.65	3,438.54
1938	511,781.31	143,631.31	22,700.35
1939	508,366.85	127,075.85	12,751.08

The yearly rack production of Levers laces between 1935 and 1940, inclusive, by 16 domestic producers having 373 machines, as reported by the American Lace Manufacturers Association, was as follows:

Year	Racks
1935	2,000,044
1936	2,020,593
1937	1,802,808
1938	1,254,014
1939	1,501,318
1940	1,576,577

The total sales of Levers laces by the above producers and an index of such sales (1936-1939=100) were as follows:

Year	Sales	Index
1936	$ 6,403,562	126
1937	5,436,795	107
1938	4,136,363	81
1939	4,379,893	86

There has been a tariff imposed on the importation of Levers laces into the United States at all times since the Tariff Act of 1883. The rates in effect under the various tariff acts and the Reciprocal Trade Agreement of June 15, 1936, between the United States and France, and later international agreements, were as follows:

Tariff act or
international agreement	Provisions
1883	40% a. v. on cotton laces
	50% on silk laces
	25% on gold, silver, and metallic thread laces
1890	60% on cotton
	60% plus 60 cents per pound on wool
	60% on silk
1894	50% all material
1897	60% on cotton
	60% plus 50 cents per pound on wool
	60% on all cotton material
1909	70% on all material
1913	60% on Levers laces
1922	90% on imported laces
1930	90% rate continued
French Reciprocal	60% on cotton 12. and finer
Trade Agreement	65% on silk veils & veiling
of June 15, 1936.	65% on rayon veils & veiling
	90% on other rayon laces
	65% on laces wholly or in chief value of silk
1945	60% on cotton laces 12 points and finer made with
	independent beams
	90% on cotton or rayon or other synthetic less than
	12 points
	65% on laces wholly or in chief value of silk
	90% on other laces
	65% on veils and veilings wholly or in chief value of
	silk, rayon, or other synthetic
	90% on veils and veilings of other material
1948	40% on cotton laces 12 points and finer made with
	independent beams
	75% on cotton, rayon, or other synthetic material less
	than 12 points
	40% on laces wholly or in chief value of silk
	65% on laces wholly or in chief value of silk coarser
	than 12 points
	45% on laces of other material
	45% on veils and veilings wholly or in chief value
	of silk, rayon, or other synthetic
	45% on veils and veilings of other material
1951	35% on cotton laces wholly or in chief value of
	cotton 12 points and finer
	65% on cotton, rayon or other synthetic material
	coarser than 12 points
	35% on laces wholly or in chief value of silk 12
	points or finer
	65% on laces wholly or in chief value of silk coarser
	than 12 points
	32 1/2% on veils and veilings of silk or rayon
	45% on other laces

Article XI of the Reciprocal Trade Agreement provides in part:

In the event that a wide variation occurs in the rate of exchange between the currencies of the United States of America and France, the Government of either country, if it considers the variation so substantial as to prejudice the industries or commerce of the country, shall be free to propose negotiations for the modification of this Agreement or to terminate this Agreement in its entirety on 30 days' written notice.

The current French franc was established by the first French Republic in 1803. For many years prior to World War I it was one of the strongest and most stable currencies in Europe, being valued in terms of United States currency at between 17 and 20 cents. Between 1916 and 1919 the French Government maintained an artificial rate of 19 cents for the franc. Artificial support of the franc was discontinued in 1919 and its value fell to an average of 7.04 cents in 1920, because of the drastic inflation resulting from World War I and the postwar reconstruction. Between 1920 and mid-1923 the franc was relatively stable, varying in value between 7 and 6.3 cents, but by mid-1923 the franc began a marked decline in value caused by a growing inflation in France, which seriously affected the economy between 1923 and 1926 and was not finally arrested until late in 1926 when the franc was finally stabilized at 3.2 cents. From 1926 until 1933 the franc remained relatively stable, but in the latter year the effects of the world-wide depression made it increasingly difficult to maintain the value of the franc. In October 1936 the French Government devalued the franc and set its new value at a range between 4.3 and 4.9 cents. The nation's financial difficulties worsened and the franc was devalued again, late in 1938, to 2.79 cents. It remained generally stable until the outbreak of war with Germany in September 1939. Between 1936 and 1939 the franc depreciated in value by almost 60 per cent.

After World War II inflationary conditions again prevailed in France, and in December 1945, the franc was devalued approximately 58 per cent to 1.78 cents. There were further devaluations of the French franc in 1946, 1948, and 1949, its value decreasing from 0.84 of a cent in 1946 to 0.46 of a cent in 1949.

In summary, the following changes in the value of the franc in relation to the dollar took place between 1926 and 1949:

		New value o
		the franc
Date		(cents)
December 1926	De facto devaluation and stabilization	3.9170
June 25, 1928	De jure devaluation	3.9170
Jan. 31, 1934	Devaluation of United States dollar	1 6.6197
Sept. 25	De jure devaluation	2
Oct. 1, 1936
July 22, 1937	De jure devaluation	4.3555
May 5, 1938	De facto devaluation	2.7956
Nov. 12, 1938	De jure devaluation	2.7855
Sept. 1, 1939	Cabinet decree suspended gold reserve
	requirement of the Act of June 25, 1928	3 2.7855
Feb. 29, 1940	Revaluation of gold reserve of Bank of France
	in accordance with conditions of the
	Convention of September 25, 1936	2.3641
Dec. 26, 1945	De jure devaluation	1.7822
January 1946	De jure devaluation	0.8396
Jan. 21, 1948	De jure devaluation	0.4671
Sept. 20, 1949	De jure devaluation	0.2857

Petitioner's excess profits tax liability, without regard to the provisions of section 722 of the Internal Revenue Code, for the years here involved was as follows:

	Excess profits
Year	tax liability
1941	$ 8,859.60
1942	184,905.46
1943	200,738.26
1944	74,414.86
1945	85,392.16

Petitioner's base period consists of the calendar years 1936 to 1939, inclusive. Petitioner is entitled to compute its excess profits credit under the provisions of section 713 of the Internal Revenue Code of 1939.

The petitioner's actual excess profits net income for the base period years and the average thereof as adjusted under the provisions of section 713 (e) of the Internal Revenue Code of 1939, which section is applicable to the taxable years 1942, 1943, 1944, and 1945, was as follows:

	Excess profits
Year	net income
1936	$ 79,106.44
1937	22,327.80
1938	22,978.09
1939	404.77
Total	$ 124,817.10
General average	$ 31,204.28
Increase in average under sec. 713 (e)	7,674.57
Average as adjusted	$ 38,878.85

The petitioner's excess profits credit, computed without reference to section 722 for the years 1940 to 1945, inclusive, was as follows:

Year	Amount
1940	1 $ 31,336.87
1941	1 32,685.26
1942	2 36,934.91
1943	2 36,934.91
1944	1 38,670.90
1945	1 41,543.64

Petitioner is not entitled to excess profits tax relief for the years 1941, 1942, 1943, 1944, and 1945 under the provisions of section 722, Internal Revenue Code of 1939.

OPINION.

Section 722 (a) of the Internal Revenue Code of 1939 provides relief from excess profits tax if the taxpayer establishes (a) that its tax, computed without the benefit of section 722, is excessive and discriminatory, and (b) what would be a fair and just amount representing normal earnings to be used as a constructive average base period net income for the purposes of an excess profits tax based upon a comparison of normal earnings and earnings during an excess profits tax period. To show that its tax is excessive and discriminatory petitioner contends that its average base period net income (1936-1939) is an inadequate standard of normal earnings because its business was depressed in the base period due to temporary economic circumstances unusual in its business, or in the industry of which it is a member (section 722 (b) (2)). These temporary economic circumstances, according to petitioner, were (a) the trade advantage, or export bounty, accruing to the French Levers lace industry as a result of the devaluations of the franc in the base period; and (b) the reduction in duty imposed by the United States on the import of French Levers laces, which was contained in the Reciprocal Trade Agreement between the United States and France, effective June 15, 1936. According to petitioner these circumstances, separately or in conjunction, caused a heavy increase in the volume of exports of French Levers laces to the United States, which depressed the selling price of Levers laces here, and as a result its earnings in the base period were seriously depressed.

Respondent's position is (a) that petitioner's business was not temporarily depressed during the base period by reason of the increase in imports of Levers laces from France; (b) that the circumstances relied on by petitioner as the cause of its depression were not temporary economic circumstances unusual in the case of petitioner, or petitioner's industry, within the meaning of section 722 (b) (2), but were legislative events or administrative acts pursuant to legislative or constitutional authority; and (c) that petitioner has not established what would be a fair and just amount representing normal earnings to be used as a constructive average base period net income.

Petitioner's argument reduces to this: the two factors, i. e., the export advantage resulting from the devaluation of the French franc in the period 1936 to 1939 and the United States tariff reduction during the base period were unusual temporary economic circumstances, the concurrence of which resulted in a depression of petitioner's business or of the industry of which it was a member. As we see it, neither the devaluation nor the reduction in duty was unusual or temporary. Reference to our Findings of Fact indicates a long history of devaluations and many changes in duty. We see nothing unusual about the circumstances complained of. The historical data of record establish the contrary -- that such currency fluctuations and duty changes were the normal or expected happenings in the field of international monetary and tariff policy. We find nothing in the evidence before us which would justify characterizing these events either as temporary or unusual.

Furthermore, the circumstances on which petitioner relies had no direct effect on petitioner's business. They were not like a strike or a fire or a ruinous price war. If petitioner's business, or the business of the American lace industry of which it was a member, was depressed during the base period years so that the resulting excess profits tax was excessive and discriminatory (a question which we find unnecessary to answer) it was the result of competition with French lace makers during a period when the French manufacturers had the competitive advantage. The evidence shows that ever since the Levers lace industry became established in the United States, its principal competition has come from French Levers laces. In fact, in order to establish the industry in this country, it was necessary to raise the import duties on Levers laces, at the same time providing for the duty-free entrance into the United States of the machinery on which Levers laces are made since none of it was manufactured in this country. The industry enjoyed high protection until 1936, the duty rising to as high as 90 per cent on all Levers laces imported into the United States between 1922 and 1936. In the latter year the rates were reduced in recognition of the need to stimulate international trade as a means of bettering economic conditions in trading nations and, particularly, to combat the worldwide depression of the early 1930's. The reduction of duties in 1936, in our view, was attributable to a change in the trade policy of the United States from the protectionism of the 1920's to a recognition of the economic interdependence of the principal countries of the world and the need to stimulate trade between these countries. Both the devaluation of the franc and the reduction in the duty rates were the result of the interplay of world-wide economic conditions. They were governmental actions taken to implement national economic policies to ameliorate those conditions. Governmental actions, even where they have a direct impact on a taxpayer's business, are not the basis for relief under section 722. Acme Breweries, 14 T. C. 1034; Packer Publishing Co., 17 T. C. 882, 897;Norfolk & Chesapeake Coal Co., 18 T.C. 904">18 T. C. 904.

As stated above, in this case the circumstances complained of had no direct impact at all on petitioner's business. The duties were not levied on petitioner's product and the franc devaluation was the action of a foreign government which only very indirectly affected petitioner. The most that can be said is that the duty change and the franc devaluation contributed to increased competition between the French and American manufacturers of Levers laces. But we have held in several cases that competition is not a temporary economic circumstance within the meaning of section 722 which would entitle taxpayers to relief under that section. Lamar Creamery Co., 8 T. C. 928, 938, 939; Harlan Bourbon & Wine Co., 14 T. C. 97, 104. No different result is called for here.

The action of respondent in rejecting petitioner's claims for relief is sustained.

Reviewed by the Special Division.

Decision will be entered for the respondent.

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Footnotes

• 1. As a result of the devaluation of the dollar on January 31, 1934, the new par of exchange between the ranc and the dollar appreciated↩ to 6.6197 cents.

• 2. To a range↩ between 4.3555 and 4.9763. First action was taken on September 25, 1936, to devalue the franc and to effectuate the so-called Tripartite Agreement with England, the United States, and France of same date; the formal decree was not executed until October 1, 1936.

• 3. Not a formal devaluation, but this action caused market value of franc to drop to an average of 2.2736 cents in October 1939.

• 1. Invested capital credit.↩

• 2. Income credit.↩