Killian Co. v. Commissioner , 20 B.T.A. 80 ( 1930 )

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

Killian Co. v. Commissioner

Docket No. 37377.

United States Board of Tax Appeals

20 B.T.A. 80; 1930 BTA LEXIS 2203;

June 16, 1930, Promulgated

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1. Neither the deduction of an item claimed by a corporation to be a business expense nor its disallowance depends upon whether it is a donation.

2. Items which may colloquially be called donations, because perhaps the recipient is a charity or the occasion is beneficent or the transaction is not approached in a formal manner with express legal consideration, may still have such a business significance as to justify their outlay and their recognition as business expenses, and their deduction is to be denied only when the evidence fails to establish that they are business expenses or that they are reasonably motivated by or related to the proper conduct of the business.

3. The revenue acts, beginning with the Act of 1916, have always provided for the deduction or ordinary and necessary business expenses of both individuals and corporations, and the provision authorizing the deduction by individuals of charitable contributions, added in 1917 and carried in subsequent acts, is to be construed as an enlargement of individual deductions and not as an implied denial to corporations of the deduction of any charitable contributions or donations however closely they may be identified with the welfare of the business.

4. The business character of the item may not be proven by statements of the taxpayer's witnesses that in their judgment the donation is a business expense. There must be a more objective demonstration by reliable witnesses of the motive, character, and other circumstances of the payment or liability.

5. Where donations are made by a corporation as a consistent practice to numerous organizations, in varying amounts, and the evidence establishes such a direct relation to current business as to support their deduction, it is immaterial that some of the smaller items were prompted by a motive to build good will or to assure future trade. The test of the distinction between capital and expense should not be ruthlessly applied to small items which are sensibly charged off when made.

George E. H. Goodner, Esq., for the petitioner.

F. R. Shearer, Esq., for the respondent.

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STERNHAGEN

Respondent determined deficiencies in petitioner's income tax of $774.21 for 1923 and $1,422.43 for 1924. Among other items not in dispute, respondent disallowed for each year a list of deductions taken as ordinary and necessary expenses and held by respondent to be donations and not deductible.

FINDINGS OF FACT.

The petitioner is an Iowa corporation organized in 1911, and ever since has conducted a department store at Cedar Rapids. Cedar Rapids has a population of about 55,000. The store is the largest of its kind in the city and approximately one-half of its trade is drawn from the territory and villages within a radius of fifty miles. The petitioner's books are kept on the accrual basis.

In 1911 the petitioner purchased the business, which was taken on the verge of bankruptcy, and the volume of business increased from $150,000 a year shortly after the business was acquired to from $2,000,000 to $2,250,000 in 1923 and 1924.

In 1923 and 1924 the petitioner paid or incurred, among others, the following amounts which were charged to its general advertising account and the deduction of which was disallowed by the respondent:

Item	Amount
1923
1. P. Bailey, treasurer	$ 3.00
2. Christmas Seals	10.00
3. United Baptist Church	5.00
4. C.R. Art Association	25.00
5. Czech Reformed Church	30.00
6. Convention Fund	55.00
7. Bukele Concert	20.00
8. T.P.A. Conv. Fund	12.00
9. High School Band	50.00
10. Iowa Federation Colored Women	25.00
11. Marion Athletic Field	25.00
12. Iowa Conservation Assn	10.00
13. Jan Hus Church	10.00
14. Novak	25.00
15. Rock Island Shops	5.00
16. J. B. Brown (chairman)	35.00
17. Williamson, treasurer	50.00
18. Paris M.E. Church	10.00
19. Women's Club	25.00
20. St. Ludmillas School	25.00
21. Hiway Bureau	100.00
22. American Legion	20.00
23. First Baptist Church, Vinton	25.00
24. Mrs. H. F. Gresham	10.00
25. Coe College	1,500.00
26. A.M.E. Church	5.00
Total	2,115.00
1924
27. Mercy Hospital	$ 499.98
28. Engineer ladies	2.20
29. Valentine Party ticket	1.10
30. Employee Boys' Meeting	10.00
31. Sunshine Mission	10.00
32. Nemec. Treasurer	25.00
33. Music Com. tickets	25.00
34. L. H. Stubbs, treasurer	50.00
35. R. C. Toms, treasurer	20.00
36. Chatauqua tickets	10.50
37. Toddville Church	5.00
38. Burcanek, treasurer	10.00
39. Jan Hus Church	16.31
40. Drum Corps	30.00
41. Golden Rule	100.00
42. Clariec James, treasurer	10.00
43. Lenox College	50.00
44. Bertram Church	15.00
45. Fairfax Church	10.00
46. Walford Church	5.00
47. Palo Church	5.00
48. Volga Study Club	10.00
49. Stapanek, treasurer	195.00
50. St. James Church	25.00
51. Mrs. F. H. Floyd, president	5.00
52. John Ely, treasurer	50.00
53. St. Ludmillas	10.00
54. D. H. Kurtz, treasurer	35.00
55. Sundborg, treasurer	10.00
56. Coe College	1,500.00
Total	2,750.09

It was the general practice of the petitioner during the taxable years to make donations to a varied class of organizations and institutions. Donations to organizations of national scope, such as the Y.M.C.A., were charged to an account designated "Donations," and donations to organizations of a local character were charged to the general advertising account. The petitioner regarded donations of the latter class as a profitable method of advertising and they were a contributing factor in the rapid growth of the business and building up a valuable good will.

Items 1-5, 7, 9, 10, 12-15, 18-20, 22-24, 26, 28, 30, 32, 33, 36-40, 42-48, 50, 51, 53, and 54, represent donations to, and purchases of tickets for benefits and entertainments given by churches and church organizations in and about Cedar Rapids, and local public and private organizations such as social, literary, scientific, musical, athletic and fraternal organizations, and private schools. It is the custom of these organizations to solicit donations from the petitioner through their members or other interested persons. The solicitors and members and persons connected with the organizations or institutions generally are customers of the petitioner and it is necessary for the petitioner to make the donation in order to retain their good will and avoid a loss of trade. The donations were made not only to maintain the business which petitioner already had, but also to create new business.

Items 25 and 56 represent donations toward the support of Coe College, a private educational institution in Cedar Rapids. The college in 1923 and 1924 had a student body numbering about 900 and a faculty of 25 or 30. About 80 per cent of the students come principally from the State of Iowa and some from other States. The college is dependent, to a large extent, upon local support, and it is the practice to conduct a campaign for funds every four years. The merchants of the city support the campaign, and the amounts contributed by them are influenced by the amount contributed by the petitioner, which is the leading department store in the city. The purpose of the petitioner in making the contribution is to assure the continuation of the college in the community. The contributions are in the form of a five-year pledge - a nonnegotiable promise to pay the amount of the pledge in annual installments. These items represent payments in 1923 and 1924 on a five-year pledge of $7,500 made prior to those years, and it was the practice of the petitioner to enter the amount of each payment on its books only at the time of payment. The students and faculty generally were customers of the petitioner, and they and those visiting them add to the purchasing power of the community. During the ten months of the year when the college is in session the petitioner's business is greater. The petitioner regards this contribution as an inexpensive form of advertising and the resulting benefit is greater than that generally derived from the expenditure of an equivalent amount for newspaper advertising. The profit on business transacted annually with the students and faculty is difficult to approximate, but it is far in excess of $1,500 a year. The student body is a shifting personnel, and, in addition to the knowledge obtained by the students of the fact of this contribution through the work of students on the campaign and announcements of the campaign committee, the petitioner's store is recommended to the new students by the faculty.

Item 52 represents a donation to a special fund raised for the purpose of retaining the services of an assistant to the president of Coe College. It was solicited by one of the members of the college board who was a customer of the petitioner.

Item 27 represents the amount actually paid and payable in 1924 on a pledge toward a $200,000 fund for the expansion of the Mercy Hospital, which was a Catholic institution. About one-third of the population of Cedar Rapids is Catholic, and the petitioner has a large Catholic trade. The pledge was solicited in person by several sisters. The church itself rarely solicits donations, and this donation was comparatively large for the reason that the Catholic organizations had not solicited petitioner for a long time.

Items 6, 8 and 16 represent contributions to funds raised for the purpose of bringing conventions to Cedar Rapids. The conventions attract many people to the city and during the sessions the dining room and other departments of the petitioner's store are well patronized by them. There is always a proportional increase in the business in excess of the amount of the contribution.

Items 21 and 34 represent contributions to secure the improvement of roads leading into Cedar Rapids. During the year 1923 the roads were unimproved and an organization was formed in the city to influence the authorities in having the roads paved. During 1924 the local chamber of commerce also raised a fund to promote the building of roads and influence the routing of them over certain districts. The petitioner made contributions to each of these funds. The unimproved roads were impassable during part of the winter months and at such times residents of the surrounding country were prevented from coming to Cedar Rapids to trade. After the improvements were made, the roads were kept open all the year round and, in the months corresponding to those in which the roads previously were impassable, the business of the petitioner was better.

Item 11 represents a donation to a fund solicited by the community club of the town of Marion for a public baseball field. The town is five miles from Cedar Rapids and many of its citizens trade in the petitioner's store. Item 35 also represents a donation solicited by the Marion Community Club for another purpose.

OPINION.

STERNHAGEN: The respondent disallowed the deduction of all the items listed in the findings. He now concedes that item 49 is deductible and petitioner concedes that items 17, 29, 31, 41 and 55 are not deductible. As to item 27, respondent questions its accrual in 1924.

The petitioner contends that all of the items were ordinary and necessary expenses paid or incurred in the respective years in carrying on its trade or business and hence deductions under sections 234(a)(1), Revenue Acts of 1921 and 1924. Respondent's explanation stated in the notice of deficiency is that the amounts are "donations."

In our opinion, neither the deduction of an item by a corporation nor its disallowance depends upon whether it is a donation. The Board has frequently held that the deductibility of items such as this depends in each case upon the particular evidence to prove its relation to the proper conduct of petitioner's business. Items which may colloquially be called donations, because perhaps the recipient is a charity or the occasion is beneficent or the transaction is not approached in a formal manner with express legal consideration, may still have such a business significance as to justify their outlay and their recognition as business expenses. When by adequate evidence they are shown to be such, they are deductible as any other ordinary and necessary expense; and when the evidence fails to establish this or shows in fact that the donations are not reasonably motivated by or related to the proper conduct of the business, the deduction must fail.

We can not agree that because the statute expressly provides for their deduction by individuals in section 214(a)(11), Revenue Act of 1921 and section 214(a)(10), Revenue Act of 1924, it impliedly disallows to corporations the deduction of any charitable contributions or donations, however closely they may be identified with the welfare of the business. See ; ; . The statute has always provided for the deduction of ordinary and necessary business expenses of both individuals and corporations. This was true under the Act of 1916, sections 5 and 12. As to individuals, a new deduction was added by section 1201, Revenue Act of 1917, for charitable contributions or gifts not exceeding 15 per cent of the individuals' taxable net incomes; and so the statute continued. This, we think, must be construed as an enlargement of individual deductions and not as a denial to corporations of the deduction of such of their ordinary and necessary business expenses as might be characterized as donations.

The question in each case being one of evidence, the difficulty lies in the nature and quality of the evidence to prove the business character of the item. It can not be that the administration of this provision of the statute is to depend upon the taxpayer's statement that in his judgment the donation is a business expense nor upon the Commissioner's statement to the contrary. There must be a more objective demonstration by reliable witnesses of the motive, character, and other circumstances of the payment or liability in order to establish its direct relation to current business. While the standard of such evidence can not be precisely described, it is controlled by substance to which the Board may devote its consideration and not by mere assertion. Upon a record containing reliable evidence of facts and circumstances, the Board is in a position to decide whether the item is a business expense.

In the present case, the record contains a full disclosure of the circumstances of each item in dispute. Other items of donations were not attempted to be deducted because petitioner regarded them as not closely enough related to current business to bring them within the statute, while some which were deducted were later withdrawn from dispute. Upon the whole record, we are of opinion that most of the disputed items were in fact so directly related to current business as to support their deduction. We say this despite the fact that there is some expression as to some of the smaller items that they were prompted by a motive to build good will or to assure future trade. Of course, a substantial outlay to secure or to build up good will might be of such a capital nature that it should not be charged off as a business expense against the income of a single year. Cf. . But such a test of the distinction between capital and expense should not be ruthlessly applied to small items which are sensibly charged off when made.

We think, however, that the contributions to Coe College (Nos. 25 and 56) were not minor items. They were made for petitioner's lasting benefit and not as current advertising. As in , the deduction of $1,500 in each year to Coe College can not be sustained. Nor can item 27 to Mercy Hospital be deducted.

The contributions to improved highways, items 21 and 34, are not ordinary and necessary expenses of the business of the year, but are of lasting benefit in common with the entire community. They may not be deducted. ; ; .

We therefore hold that, except items 17, 21, 25, 27, 29, 31, 34, 41, 55 and 56, all the items listed in the findings were ordinary and necessary business expenses and proper deductions.

Judgment will be entered under Rule 50.