Dexter v. Commissioner , 47 B.T.A. 285 ( 1942 )

I. B. DEXTER AND EDNA R. DEXTER, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.

Dexter v. Commissioner

Docket No. 104537.

United States Board of Tax Appeals

47 B.T.A. 285; 1942 BTA LEXIS 710;

July 7, 1942, Promulgated

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All of petitioners' income was derived from sources within the Philippine Islands, to the Government of which petitioners paid income tax. Petitioners had no income from sources within the United States. Petitioners' net income under the revenue law of the Philippines was greater than their net income under the revenue law of the United States, so that the income tax paid to the Philippine Government was greater than the income tax due the United States. Petitioners' income from sources outside the United States was from sources within the Philippines, only. Held, under the plain wording of section 131(b) of the Revenue Act of 1936, the total amount of the Credit for the tax paid to the Government of the Philippines is at least an amount equal to the amount of the tax due to the United States, against which the credit is taken, and the credit allowed by the terms of section 131(a)(1), subject to the limitations of section 131(b), eliminates the income tax computed under Title I.

Clark J. Milliron, Esq., for the petitioners.

B. M. Coon, Esq., for the respondent.

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HARRON

The Commissioner determined a deficiency in income tax for the year 1936 in the amount of $4,010.57. The deficiency is contested in part. The only question is the amount of the credit allowable under section 131(b) of the Revenue Act of 1936 for tax paid to the Government of the Philippine Islands.

Petitioners filed a joint return with the collector for the district of Oregon. The facts are stipulated.

FINDINGS OF FACT.

The petitioners were husband and wife in 1936 and were then residents of Oregon. Petitioners filed a joint return for the year 1936 with the collector of internal revenue for the Philippine Islands at Manila. The net income reported was $168,542.60. The tax accrued and paid to the Philippine Government on such income was $16,542.60. In the computation of the United States income tax for 1936, the petitioners took a credit for the Philippine income tax in the above amount. Respondent determined that the amount of such credit, under the limitation prescribed by section 131(b) was only $5,062.44.

The petitioners' net income from sources within the Philippines in the amount of $168,278.90, upon which the Philippine income tax was paid, was computed from the following items of income and deductions:

Income
1. Net rents from Philippine real estate		$1,358.33
2. Dividends, stock of Philippine corporations		11,307.50
3. Interest from Philippine sources		28.77
4. (a) Profits from sales of capital assets in the Philippines held over 10 years	$178,153.82
(b) Losses from sales of capital assets in the Philippines held over 2 years, but not more than 5 years	19,815.60
(c) Net profits from sales of capital assets		158,338.22
Total income from sources within the Philippines		171,032.82
Deductions
1. Miscellaneous expenses in Philippines		$4.10
2. Income taxes paid to the Philippine Islands Govt		284.54
3. Taxes paid in the State of Oregon		661.78
4. Interest paid in the United States		910.00
5. Charitable contributions in the United States		893.50
Total deductions		2,753.92
Net income taxed by the Philippine Islands Government		168,278.90

The entire amount of the net capital gains, $158,338.22, was included in total income in the Philippine return, and was so taxed by the Philippine Islands Government. But, under section 117(a) of the Revenue Act of 1936, only $41,556.78 ¹ of the above net cpital gains entered into the computation of petitioners' total income for the purpose of computing the United States income tax. The other items of income from sources within the Philippines, as shown above, totaled $12,694.60, which amount was included in petitioners' total income in the United States income tax return. In applying the limitation set forth in section 131(b), respondent concluded that the amount of petitioners' income which was subject to income tax of both the Philippines and the United States was the total of the net capital gains under section 117(a), $41,556.78, plus the other income, $12,694.60, or $54,251.38, less the deductions allowed by the Philippines, as shown in the above table, in the amount of $2,753.92, or $51,497.46.

Respondent, then, in computing the credit under section 131(a)(1), subtracted $51,497.46 from the net income taxed by the Philippine Government, $168,278.90, and called the result of $116,781.44 "income from Philippine Islands not recognized." The amount of the credit which respondent allowed under section 131(b), $5,062.44, was computed by multiplying the tax paid to the Philippines, $16,542.60 by the fraction 116,781.44/168,278.90, and subtracting the result, $11,480.16, from $16,542.60. Respondent stated that of the total tax paid to the Philippines, $11,480.16 was tax upon $116,781.44 of income "not recognized" for purposes of computing the United States income tax.

The petitioners' net income under the United States income tax statutes, Revenue Act of 1936, was as follows:

Income
1. Total income from within Philippines aside from capital gains	$12,694.60
2. Capital gain - net - from stocks in P.I	41,556.78
3. Capital gain from sale of real estate in United States not taxed in P.I	640.00
4. Other income from within the United States - loss in operation of farm in United States (red)	1,810.00
Total income	53,081.38
Deductions
1. Miscellaneous expense in Philippine Islands	$4.10
2. Taxes paid in State of Oregon deducted in return for Philippine Islands, $661.78, plus $95.83, which was not so deducted	757.61
3. Interest paid in United States	910.00
4. Charitable contributions in United States	893.50
Total deductions	2,565.21
Net income taxed by United States Government	50,516.17

Petitioners' United States income tax was as follows: normal tax on net income of $47,716.17, $1,908.65; surtax on surtax net income of $48,016.17, $7,164.36; total income tax, $9,073.01.

The petitioners duly signified their desire to receive the benefit of the provisions of section 131 on the accrual basis, and they are entitled to a credit against the tax due the United States of such portion of the tax accrued to the Philippine Government in 1936 as is allowed by section 131.

The Philippine Islands were a possession of the United States in 1936.

Petitioners did not have any income from sources within the United States, because the loss from operation of a farm, $1,810, exceeded the income from sources within the United States in the amount of $640. Consequently, all of petitioner's income upon which there is a tax due the United States was from sources outside the United States, within the Philippines, on which petitioners paid income tax to the Philippine Government.

OPINION.

HARRON: The petitioners claim that the amount of the credit for income tax paid and accrued to the Government of the Philippine Islands in 1936 should be the entire amount of that tax, $16,542.60. If that contention is sound, the total United States income tax in the amount of $9,073.01 will be offset by the Philippine tax and there will be no deficiency. The respondent argues that under section 131(b) of the Revenue Act of 1936 the amount of the credit for the Philippine tax is less than the amount of the United States tax, under his original formula, and that his arithmetical formula involves a correct and reasonable application of the statutory limitation. The pertinent provisions of section 131 of the Revenue Act of 1936 are set forth in the margin. ²

Substantially all of petitioners' income was derived from profits from the sale of capital assets in the Philippines. The income tax of the Philippines was greater than the income tax of the United States, on the same income, because of the difference in the income tax laws of the two Governments, whereby all of the capital gains and losses are taken into account in computing "total income" in the Philippine law, and only certain percentages thereof are taken into account in computing "total income" under the revenue acts of the United States. Petitioners did not have any income from sources within the United States. The only income in question is the income from sources within the Philippines. That income has been taxed by each government. The question is whether, under the provisions of section 131(b), the credit shall be the amount of the tax paid to the Philippines.

Section 131 provides that the income tax computed under Title I shall be credited with the amount of any income tax paid or accrued during the taxable year to any foreign country or possession of the United States, subject to the limitation on the credit imposed by subsection (b). Paragraph (2) of subsection (b) was written, perhaps, to meet situations where the taxpayer has income from sources within more than one foreign country or possession. For the purposes of this case, there is no material difference whether the question is considered in connection with paragraph (1) or paragraph (2) of subsection (b). Under both paragraphs the same result is reached. For convenience, the question is considered in connection with paragraph (1).

The wording of subsection (b)(1) is clear, unambiguous, and plain. Whether or not the result reached here is one which the Congress envisioned in drafting the statutory provision which it enacted, there is but on choice, namely, to decide the question under the statute as written.

The language of subsection (b)(1) limits the credit to an amount not in excess of the same proportion of the tax against which the credit is taken which the taxpayer's net income from sources within a foreign country or possession bears to his entire net income. The taxpayer's net income from said sources outside the United States becomes the numerator and his entire net income becomes the denominator of the fraction used in determining the proportion set forth in the section. See Hugh C. Wallace,17 B.T.A. 406">17 B.T.A. 406, for the above paraphrasing of the statute. (The cited case, otherwise, is not in point). That is, assuming that a taxpayer's income tax under Title I of the revenue act is $1,000; that his net income from sources outside the United States is $5,000; and that his entire net income is $10,000, the credit under section 131(a)(1), limited by subsection (b)(1), is computed by taking one-half of $1,000, the tax against which the credit is taken. The amount of the credit is $500. If the entire net income of $10,000, to continue the example, and the income from sources outside the United States are the same, both being $10,000, the amount of the credit is 100 percent of the tax against which the credit is taken, or $1,000. Then, subsection (b) does not operate as an effective limitation on the credit.

The situation in this case is practically the same as the situation in the last part of the above example. In a sense, it may be said that part of petitioners' net income from sources within the Philippines is exempt from tax under the United States revenue law, referring to net capital gains which are not taken into account in computing net income under the provisions of section 117(a). We need not, and do not, decide the point, but see and compare I.T. 2294, Internal Revenue Cumulative Bulletin V-2 (1926), pp. 62, 63. And, arguendo, if that is so, and gross income means, in the case of the income from sources outside the United States, the same income that is taken into consideration in gross income under Title I of the revenue Act, then the "gross income" from sources within the Philippines, for purposes of subsection (b), is $54,251.38 ($41,556.78 net capital gains recognized under our law, plus other income of $12,694.60). The gross income taken into consideration in computing the "entire net income" referred to in subsection (b) is $53,081.38 ($54,251.38 less net loss on items within the United States of $1,170). Also, the "net income" from sources outside the United States, without deduction for any income tax paid to the Philippines, is $51,686.17 ($54,251.38 less deductions aggregating $2,565.21) and the "entire net income" is $50,516.17, as is shown in the facts. The fraction under subsection (b)(1) then is 51,686.17/50,516.17 and that fraction of the tax against which the credit is taken, $9,073.01, yields more than 100 percent.

For all practical purposes petitioners' contentions are fully sustained if the credit for the tax paid to the Philippines is in the amount of $9,073.01. It is held, therefore, that petitioners are entitled to a credit in the amount of $9,073.01 at least. The credit equals the tax against which the credit is taken and there is no deficiency.

The plain wording of subsection (b)(1) compels this result. The respondent has trespassed into the realm of legislation in developing the formula he applied in determining the deficiency. We find nothing in the legislative history of the provision limiting the credit which is in conflict with the result reached. Petitioners' income from sources "within" the United States is not escaping United States tax. They did not have, in fact, any income from sources within the United States. The result reached avoids double taxation, that is, taxing the same income twice, which admittedly was the purpose of Congress in enacting section 131.

It is not unusual for a United States citizen to have income from sources outside the United States and no income from sources within the United States, and Congress took that into consideration. It enacted the original provision, which was substantially the same as section 131(a) of the Revenue Act of 1936, to give relief to American citizens earning income abroad so that they would not have to pay double tax on the same income, namely, income received from sources within a foreign country. The policy involved the giving of support to our foreign trade. An example which was taken in the discussion in Congress was that of an American citizen abroad who earned income in a foreign country and received no income from sources within the United States. He was to be permitted to deduct the amount of the tax paid to the foreign country from the tax levied by the United States on the same foreign income, so that he would not pay two taxes to two governments on the same income. ³ The situation of such taxpayer did not involve any such problem as section 131(b) was designed to overcome, namely, assurance that the United States would be protected in collecting fully the tax due on the portion of income from sources within the United States.

Decision will be entered for petitioners.

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Footnotes

• 1. The stocks sold at a profit of $178,153.81 had been held for more than ten years, so that only 30 percent of the gain, $53,446.14, was includable in petitioners' total income under section 117(a); and the stocks sold at a loss of $19,815.60 had been held for not more than five years, so that only 60 percent of the loss was taken into account. The net capital gain includable in petitioners' total income for the United States income tax was, therefore, $41,556.78. ↩

• 2. SEC. 131. TAXES OF FOREIGN COUNTRIES AND POSSESSIONS OF THE UNITED STATES.

  (a) ALLOWANCE OF CREDIT. - If the taxpayer signifies in his return his desire to have the benefits of this section, the tax imposed by this title shall be credited with:

  (1) CITIZEN AND DOMESTIC CORPORATION. - In the case of a citizen of the United States and of a domestic corporation, the amount of any income, war-profits, and excess-profits taxes paid or accrued during the taxable year to any foreign country or to any possession of the United States; and

  * * *

  (b) LIMIT ON CREDIT. - The amount of the credit taken under this section shall be subject to each of the following limitations:

  (1) The amount of the credit in respect of the tax paid or accrued to any country shall not exceed the same proportion of the tax against which such credit is taken, which the taxpayer's net income from sources within such country bears to his entire net income for the same taxable year; and

  (2) The total amount of the credit shall not exceed the same proportion of the tax against which such credit is taken, which the taxpayer's net income from sources without the United States bears to his entire net income for the same taxable year. ↩

• 3. Seidman's Legislative History of Federal Income Tax Laws, p. 374:

  "Section 131 of the present law provides for the crediting of foreign taxes against the Federal income tax under certain limitations. The maximum benefit under the provision for the tax paid each foreign government is never greater than an amount that will relieve that portion of the income from foreign sources from the total domestic tax burden. The present credit, therefore, does not operate to relieve domestic income from tax, but does relieve the taxpayer from a double tax upon his foreign income."

  "[P. 480] Mr. Hawley. It was my purpose in rising to insist that we were getting our full American tax in every instance under the amendments proposed in the bill before us, and in some instances a larger amount. If the foreign rate was lower than ours, we were getting an additional amount based upon the difference in the rates; and if there is no foreign tax, we get the tax on the income earned here and the tax on the income earned abroad. We are protecting the revenue of the United States. * * * To require that there be paid to the United States the full tax on both the income earned here and earned abroad, when the income earned abroad is taxed in the foreign country would be indefensible double taxation." ↩